<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly Commission file
period ended: September 30, 1999 number: 1-12639
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Maryland 94-3254883
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(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
200 Crescent Court, Suite 1350, Dallas, Texas 75201
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(Address of principal executive offices) (Zip Code)
214-871-5131
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(Registrant's telephone number, including area code)
N/A
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(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. [X] Yes [ ] No
The number of shares outstanding of registrant's $0.01 par value common
stock, as of the close of business on November 4, 1999: 1,000 shares.
Page 1 of 18 pages
Exhibit index on page 17
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CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
THIRD QUARTER 1999 REPORT ON FORM 10-Q
TABLE OF CONTENTS
PAGE NO.
--------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Balance Sheets
September 30, 1999 (unaudited) and December 31, 1998............. 3
Unaudited Statements of Income
Nine months ended September 30, 1999 and 1998.................... 4
Unaudited Statements of Income
Three months ended September 30, 1999 and 1998................... 5
Unaudited Statement of Stockholders' Equity
Nine months ended September 30, 1999............................. 6
Unaudited Statements of Cash Flows
Nine months ended September 30, 1999 and 1998.................... 7
Notes to Unaudited Financial Statements.......................... 8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations................... 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk...... 16
PART II. OTHER INFORMATION
Item 1. Legal Proceedings............................................... 17
Item 6. Exhibits and Current Reports on Form 8-K........................ 17
2
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CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
Balance Sheets
September 30, 1999 and December 31, 1998
(Unaudited)
(dollars in thousands, except per share data)
<TABLE>
<CAPTION>
September 30, December 31,
ASSETS 1999 1998
---- ----
<S> <C> <C>
Residential mortgage loans, net $ 967,240 $ 945,970
Cash and cash equivalents 18,594 2,505
Due from affiliates 17,796 41,444
Accrued interest receivable 5,025 5,044
Foreclosed real estate, net 1,415 783
---------- ----------
TOTAL ASSETS $1,010,070 $ 995,746
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Due to affiliates $ 209 $ 712
Accounts payable and accrued liabilities 441 124
---------- ----------
Total Liabilities 650 836
---------- ----------
Commitments and contingencies -- --
Stockholders' Equity:
Preferred stock, par value $0.01 per share, liquidation preference
$500,000, 30,000,000 shares authorized, 20,000,000 shares
issued and outstanding 500,000 500,000
Common stock, par value $0.01 per share, 30,000,000 shares authorized,
1,000 shares issued and outstanding -- --
Additional paid-in capital 500,000 500,000
Retained earnings (accumulated deficit) 9,420 (5,090)
---------- ----------
Total Stockholders' Equity 1,009,420 994,910
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $1,010,070 $ 995,746
========== ==========
</TABLE>
See accompanying notes to unaudited financial statements.
3
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CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
STATEMENTS OF INCOME
Nine Months Ended September 30, 1999 and 1998
(Unaudited)
(in thousands)
1999 1998
---- ----
INTEREST INCOME
Residential mortgage loans $ 51,005 $ 56,852
Less: servicing fee expense (2,740) (2,746)
--------- ---------
48,265 54,106
Short-term investments 624 827
--------- ---------
Net interest income 48,889 54,933
Provision for loan losses -- 1,680
--------- ---------
Net interest income after provision for loan losses 48,889 53,253
--------- ---------
NONINTEREST EXPENSE
Director fees 46 48
Professional fees 72 55
Foreclosed real estate operations, net (51) (99)
Other 53 40
--------- ---------
Total noninterest expense 120 44
--------- ---------
Net income before income taxes 48,769 53,209
Income taxes 40 44
--------- ---------
NET INCOME 48,729 53,165
Preferred stock dividends 34,219 34,219
--------- ---------
NET INCOME AVAILABLE TO COMMON STOCKHOLDER $ 14,510 $ 18,946
========= =========
See accompanying notes to unaudited financial statements.
4
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CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
STATEMENTS OF INCOME
Three Months Ended September 30, 1999 and 1998
(Unaudited)
(in thousands)
1999 1998
---- ----
INTEREST INCOME
Residential mortgage loans $ 16,583 $ 18,666
Less: servicing fee expense (915) (920)
--------- ---------
15,668 17,746
Short-term investments 269 300
--------- ---------
Net interest income 15,937 18,046
Provision for loan losses -- 630
--------- ---------
Net interest income after provision for loan losses 15,937 17,416
--------- ---------
NONINTEREST EXPENSE
Director fees 34 4
Professional fees 16 15
Foreclosed real estate operations, net (54) (93)
Other 13 9
--------- ---------
Total noninterest expense 9 (65)
--------- ---------
Net income before income taxes 15,928 17,481
Income taxes -- 44
--------- ---------
NET INCOME 15,928 17,437
Preferred stock dividends 11,406 11,406
--------- ---------
NET INCOME AVAILABLE TO COMMON STOCKHOLDER $ 4,522 $ 6,031
========= =========
See accompanying notes to unaudited financial statements.
5
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CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
STATEMENT OF STOCKHOLDERS' EQUITY
Nine Months Ended September 30, 1999
(Unaudited)
(dollars in thousands)
<TABLE>
<CAPTION>
Retained
Additional Earnings Total
Preferred Common Paid-in (Accumulated Stockholders'
Stock Stock Capital Deficit) Equity
----- ----- ------- -------- ------
<S> <C> <C> <C> <C> <C>
BALANCE AT DECEMBER 31, 1998 $ 500,000 $ -- $ 500,000 $ (5,090) $ 994,910
Net income -- -- -- 48,729 48,729
Dividends paid on 9-1/8% noncumulative
exchangeable preferred stock, series A -- -- -- (34,219) (34,219)
---------- --------- ---------- --------------- --------------
BALANCE AT SEPTEMBER 30, 1999 $ 500,000 $ -- $ 500,000 $ 9,420 $ 1,009,420
========== ========= ========== =============== ==============
</TABLE>
See accompanying notes to unaudited financial statements.
6
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CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
STATEMENTS OF CASH FLOWS
Nine Months Ended September 30, 1999 and 1998
(Unaudited)
(in thousands)
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
OPERATING ACTIVITIES:
Net income $ 48,729 $ 53,165
Adjustments to reconcile net income to net cash provided by operating
activities:
Amortization of purchase discounts and premiums, net 859 183
Provision for loan losses -- 1,680
Provision for losses on foreclosed real estate 16 --
Interest capitalized on negatively amortizing loans (196) (872)
Gain on sales of foreclosed real estate, net (66) (107)
Decrease/(increase) in due from affiliates 93 (556)
Decrease in accrued interest receivable 1,061 1,047
Increase/(decrease) in accounts payable and accrued liabilities 317 (233)
(Decrease)/increase in due to affiliates (503) 201
---------- ----------
Net cash provided by operating activities 50,310 54,508
---------- ----------
INVESTING ACTIVITIES:
Purchase of mortgage loans (263,587) (264,556)
Mortgage loan principal repayments 263,954 263,953
Purchase of accrued interest receivable (1,042) (1,212)
Proceeds from sales of foreclosed real estate 702 1,455
Foreclosed real estate advances funded (29) (132)
---------- ----------
Net cash used in investing activities (2) (492)
---------- ----------
FINANCING ACTIVITIES:
Proceeds from note payable to Bank -- 11,406
Common stock dividends paid -- (30,450)
Preferred stock dividends paid (34,219) (34,219)
---------- ----------
Net cash used in financing activities (34,219) (53,263)
---------- ----------
NET INCREASE IN CASH AND CASH EQUIVALENTS 16,089 753
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 2,505 6,382
---------- ----------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 18,594 $ 7,135
========= =========
Supplemental disclosure of cash flow information:
Cash paid for income taxes $ 40 $ 44
========= =========
</TABLE>
See accompanying notes to unaudited financial statements.
7
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CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
(1) Basis of Presentation
The accompanying financial statements of California Federal Preferred
Capital Corporation (the "Company") were prepared in accordance with
generally accepted accounting principles for interim financial information
and with the instructions for meeting the requirements of Regulation S-X,
Article 10 and therefore do not include all disclosures necessary for
complete financial statements. In the opinion of management, all
adjustments have been made that are necessary for a fair presentation of
the financial position and results of operations and cash flows as of and
for the periods presented. All such adjustments are of a normal recurring
nature. The results of operations for the three and nine months ended
September 30, 1999 are not necessarily indicative of the results that may
be expected for the entire fiscal year or any other interim period. Certain
amounts for the three and nine month period in the prior year have been
reclassified to conform with the current period's presentation.
The accompanying financial statements should be read in conjunction with
the financial statements included in the Company's Annual Report on Form
10-K for the year ended December 31, 1998. All terms used but not defined
elsewhere herein have meanings ascribed to them in the Company's Annual
Report on Form 10-K.
As the Company's common stock is wholly owned by California Federal Bank, A
Federal Savings Bank (the "Bank"), earnings per share data is not
presented.
(2) Cash, Cash Equivalents and Statements of Cash Flows
For purposes of the statement of cash flows, cash and cash equivalents
include cash and amounts due from banks, and other short-term investments
with original maturities of three months or less.
During the nine months ended September 30, 1999 and 1998, noncash activity
included transfers of $1.3 million and $2.2 million, respectively, from
residential mortgage loans to foreclosed real estate.
In accordance with the Servicing Agreement (as defined herein) certain
principal repayments are not remitted by First Nationwide Mortgage
Corporation ("FNMC"), in its capacity as servicer, to the Company until the
month following FNMC's receipt of such repayments from mortgagors. The
Company records mortgage loan principal repayments during the period such
repayments are received by FNMC. During the nine months ended September 30,
1999, the Company received cash from FNMC which exceeded recorded principal
reductions for mortgage loan principal repayments by $23.6 million. During
the nine months ended September 30, 1998, the Company recorded principal
reductions to residential mortgage loans which exceeded cash received from
FNMC for mortgage loan principal repayments by $10.9 million. An equal
offsetting decrease and increase to due from affiliates was also recorded
during the nine months ended September 30, 1999 and 1998, respectively.
(3) Residential Mortgage Loans, Net
At September 30, 1999 and December 31, 1998, residential mortgage loans,
net, consisted of the following (in thousands):
September 30, December 31,
1999 1998
---- ----
1-4 unit residential mortgage loans $ 969,219 $ 951,454
Purchase discounts and premiums, net 6,130 2,929
----------- -----------
Subtotal 975,349 954,383
Allowance for loan losses (8,109) (8,413)
----------- -----------
Total residential mortgage loans, net $ 967,240 $ 945,970
=========== ===========
Residential mortgage loans consist primarily of adjustable rate mortgages
("ARMs") which adjust periodically based on
8
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CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
changes in various indices including the FHLB Eleventh District Cost of
Funds, the one-year Treasury rate and the six-month Treasury rate. Certain
types of residential mortgage loans contain an option for the mortgagor to
convert the ARM to a fixed rate loan for the remainder of the term.
(4) Dividends
Holders of Series A Preferred Shares (as defined herein) are entitled to
receive, if, when and as authorized and declared by the Board of Directors
of the Company out of funds legally available, noncumulative dividends at a
rate of 9.125% per annum of the initial liquidation preference ($25.00 per
share). Dividends on the Series A Preferred Shares, if authorized and
declared, are payable quarterly in arrears on the last day of March, June,
September and December. Dividends paid during each of the nine month
periods ended September 30, 1999 and 1998 to the holders of the Series A
Preferred Shares totalled approximately $34.2 million.
Dividends on common stock are paid when, as and if authorized and declared
by the Board of Directors out of funds legally available after all
preferred dividends have been paid. There were no common stock dividends
paid during the nine months ended September 30, 1999. Common stock
dividends paid during the nine months ended September 30, 1998 totalled
approximately $30.5 million.
(5) Related Party Transactions
The Company entered into a servicing agreement with FNMC pursuant to which
FNMC performs the actual servicing of the residential mortgage loans held
by the Company in accordance with normal industry practice (the "Servicing
Agreement"). The Servicing Agreement can be terminated without cause with
at least 30 days prior written notice to FNMC and payment to FNMC of a
termination fee equal to 2% of the outstanding principal balances of the
loans. The servicing fee ranges from 0.25% to 0.50% per year of the
outstanding principal balances. Servicing fee expense paid totalled
approximately $2.7 million during each of the nine month periods ended
September 30, 1999 and 1998. Servicing fee expense paid totalled $915,000
and $920,000 for the three months ended September 30, 1999 and 1998,
respectively. FNMC is also entitled to a 1% disposition fee on the
aggregate proceeds obtained in the sale of a defaulted residential mortgage
loan. The Company recorded such disposition fees totalling approximately
$13,000 and $20,000 during the nine months ended September 30, 1999 and
1998, respectively. The Company recorded such disposition fees totalling
approximately $5,000 and $9,000 during the three months ended September 30,
1999 and 1998, respectively. These disposition fees are included in other
noninterest expense in the accompanying statements of income.
In its capacity as servicer, FNMC holds mortgage loan payments received on
behalf of the Company in a custodial account at the Bank. The balance of
this account totalled approximately $17.8 million and $41.4 million at
September 30, 1999 and December 31, 1998, respectively, and is included in
due from affiliates. Substantially all of such payments were passed through
to the Company in October 1999 and January 1999, respectively, as provided
in the Servicing Agreement. At September 30, 1999 and December 31, 1998,
trust funds of approximately $2.6 million and $1.0 million, respectively,
representing escrows received from borrowers, were on deposit in a trust
account at the Bank and are not included in the accompanying financial
statements.
As of September 30, 1999 and December 31, 1998, the Company owed the Bank
approximately $209,000 and $712,000, respectively, in connection with the
settlement of loans purchased from the Bank, advances related to foreclosed
real estate and expenses incurred by the Company to be reimbursed to the
Bank. These amounts were paid to the Bank during October 1999 and January
1999, respectively.
9
<PAGE>
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
(6) Newly Issued Accounting Pronouncements
In June 1998, the FASB issued Statement of Financial Accounting Standards
No. 133, Accounting for Derivative Instruments and Hedging Activities
("SFAS No. 133"). SFAS No. 133 establishes standards for derivative
instruments and for hedging activities, and requires that an entity
recognize all derivatives as either assets or liabilities in the balance
sheet and measure those instruments at fair value. Under SFAS No. 133, an
entity that elects to apply hedge accounting is required to establish at
the inception of the hedge the method it will use for assessing the
effectiveness of the hedging derivative and the measurement approach for
determining the ineffective aspect of the hedge. SFAS No. 133 applies to
all entities and amends SFAS No. 107, Disclosures About Fair Values of
Financial Instruments, to include in Statement 107 the disclosure
provisions about concentrations of credit risk from Statement 105. SFAS No.
133 supersedes FASB Statements No. 80, Accounting for Futures Contracts,
No. 105, Disclosure of Information about Financial Instruments with
Off-Balance Sheet Risk and Financial Instruments with Concentrations of
Credit Risk, and No. 119, Disclosure about Derivative Financial Instruments
and Fair Value of Financial Instruments. SFAS No. 133 also nullifies or
modifies the consensuses reached in a number of issues addressed by the
Emerging Issues Task Force. SFAS No. 133, as amended by SFAS No. 137,
Accounting for Derivative Instruments and Hedging Activities - Deferral of
the Effective Date of FASB Statement No. 133 - an amendment of FASB
Statement No. 133, is effective for all fiscal quarters of fiscal years
beginning after June 15, 2000. Initial application of this statement should
be as of the beginning of an entity's fiscal quarter; on that date, hedging
relationships must be designated anew and documented pursuant to the
provisions of this statement. Earlier application of all of the provisions
of SFAS No. 133 is encouraged, but is permitted only as of the beginning of
any fiscal quarter that begins after issuance of this statement. SFAS No.
133 should not be applied retroactively to financial statements of prior
periods. The Company owns no derivative instruments and was involved in no
hedging activities at September 30, 1999; accordingly, SFAS No. 133 is
expected to have no impact on the Company's financial statements.
10
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The statements contained in this Report on Form 10-Q that are not purely
historical are forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934, including statements regarding the Company's expectations, intentions,
beliefs or strategies regarding the future. Forward-looking statements include
the Company's statements regarding liquidity, provision for loan losses, capital
resources and investment activities in "Management's Discussion and Analysis of
Financial Condition and Results of Operations." In addition, in those and other
portions of this document, the words "anticipate," "believe," "estimate,"
"deem," "expect," "intend," and other similar expressions, as they relate to the
Company or the Company's management, are intended to identify forward-looking
statements. Such statements reflect the current views of the Company with
respect to future events and are subject to certain risks, uncertainties and
assumptions. It is important to note that the Company's actual results could
differ materially from those described herein as anticipated, believed,
estimated or expected. Among the factors that could cause results to differ
materially are the risks discussed in the "Risk Factors" section included in the
Company's Registration Statement on Form S-11(File No. 333-11609), with respect
to the Series A Preferred Shares declared effective by the Securities and
Exchange Commission on January 24, 1997. The Company assumes no obligation to
update any such forward-looking statement.
FINANCIAL HIGHLIGHTS
The following information is presented as of September 30, 1999 and for the nine
and three months ended September 30, 1999 and 1998 (dollars in thousands):
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Statements of Income - Nine Months Ended September 30:
Net interest income $ 48,889 $ 54,933
Net interest income after provision for loan losses $ 48,889 $ 53,253
Net income $ 48,729 $ 53,165
Average yield on mortgage loans 6.47% 7.27%
Statements of Income - Three Months Ended September 30:
Net interest income $ 15,937 $ 18,046
Net interest income after provision for loan losses $ 15,937 $ 17,416
Net income $ 15,928 $ 17,437
Average yield on mortgage loans 6.31% 7.16%
Balance Sheet as of September 30:
Residential mortgage loans, net $ 967,240
Total assets $1,010,070
Total stockholders' equity $1,009,420
</TABLE>
OVERVIEW
The Company's principal business objective is to acquire, hold and manage
residential mortgage loans that will generate net income for distribution to
stockholders. The Company currently intends to invest in residential mortgage
loans only. The Company's current policy prohibits the acquisition of any
mortgage loan which is delinquent at the time of the proposed acquisition or
which meets certain criteria for non-performance during the preceding 12 months.
The Company currently expects that substantially all of the residential mortgage
loans to be acquired will be adjustable rate loans; however, the Company may
from time to time acquire fixed interest rate residential mortgage loans. The
Company anticipates it will continue to acquire all of its residential mortgage
loans from the Bank or affiliates of the Bank as whole loans secured by first
mortgages or deeds of trust on 1-4 unit residential real estate properties,
although mortgage loans may be acquired from unaffiliated third parties. The
Company may from time to time acquire fixed rate or variable rate
mortgage-backed securities issued or guaranteed by agencies of the federal
government or government sponsored agencies. The mortgage loans underlying the
mortgage-backed securities will be secured by single-family residential,
multifamily or commercial real estate properties located throughout the United
States.
11
<PAGE>
On January 31, 1997, the Company commenced its operations upon the initial
public offering of 20,000,000 shares of the Company's 9.125% Noncumulative
Exchangeable Preferred Stock, Series A (the "Series A Preferred Shares"), which
raised $500 million. The Series A Preferred Shares are traded on the New York
Stock Exchange under the trading symbol "CFP." Concurrent with the sale of the
Series A Preferred Shares, the Bank contributed additional capital of $500
million to the Company. All common shares are held by the Bank.
RESULTS OF OPERATIONS
Nine months ended September 30, 1999 versus nine months ended
September 30, 1998
Net Income. The Company reported net income for the nine months ended September
30, 1999 of $48.7 million compared with net income of $53.2 million for the
corresponding period in 1998. This decrease in 1999 compared with 1998 is
attributable to a decrease in net interest income, partially offset by a
decrease in the provision for loan losses. During the nine months ended
September 30, 1999 and 1998, the Company reported income tax expense of $40,000
and $44,000, respectively, related to net gains on sales of foreclosed real
estate.
During each of the nine month periods ended September 30, 1999 and 1998, the
Company declared and paid dividends of $34.2 million on the outstanding Series A
Preferred Shares. Net income available to the common stockholder for the nine
months ended September 30, 1999 and 1998 totalled $14.5 million and $18.9
million, respectively. There were no common stock dividends paid during the nine
months ended September 30, 1999. During the nine months ended September 30,
1998, the Company declared and paid dividends of $30.5 million to the Bank as
common stockholder.
Interest Income. The Company reported net interest income of $48.9 million for
the nine months ended September 30, 1999, a decrease of $6.0 million from the
$54.9 million net interest income reported for the corresponding period in 1998.
This decrease in interest income is attributed to residential mortgage loans.
The decrease in residential mortgage loan interest income is attributed to a
lower average yield on the portfolio. The lower yield of 6.47% on residential
mortgage loans during the nine month period ended September 30, 1999 as compared
to 7.27% for the same period in 1998 is primarily due to the repricing of
variable rate loans resulting from comparatively lower market rates during the
nine months ended September 30, 1999 versus the same period in 1998 and the
purchase of new loans at lower current market rates. The average outstanding
balance of residential mortgage loans during the nine month period ended
September 30, 1999 was $2.0 million higher than during the same period in 1998.
Net interest income during the nine months ended September 30, 1999 is comprised
of $48.3 million ($51.0 million gross interest less $2.7 million servicing fee
expense) from residential mortgage loans and $624,000 from short-term
investments, representing an average yield after servicing fees on residential
mortgage loans of 6.47% and on earning assets of 6.44%, based on average
outstanding asset balances of $994.2 million and $1,012.5 million, respectively.
Net interest income during the nine months ended September 30, 1998 is comprised
of $54.1 million ($56.9 million gross interest less $2.7 million servicing fee
expense) from residential mortgage loans and $827,000 from short-term
investments, representing an average yield after servicing fees on residential
mortgage loans of 7.27% and on earning assets of 7.22%, based on average
outstanding asset balances of $992.2 million and $1,014.5 million, respectively.
The computation of the average yield on residential mortgage loans and on
earning assets is based on daily average outstanding asset balances that include
nonaccruing loans and the amount of principal payments collected by FNMC but not
yet remitted to the Company, which is included in due from affiliates on the
balance sheets.
Provision for loan losses. The Company established a provision for loan losses
of $1.7 million for the nine months ended September 30, 1998. The Company
recorded no provision for loan losses for the nine months ended September 30,
1999. The decrease in the provision for loan losses from the 1998 period to the
1999 period is the result of management's evaluation of the adequacy of the
allowance for loan losses based on, among other things, the Bank's and the
Company's past loan loss experience, delinquency trends, known and inherent
risks in the residential mortgage loan portfolio, potential adverse situations
that may affect the borrower's ability to repay, the estimated value of the
underlying collateral, and current economic conditions.
12
<PAGE>
Three months ended September 30, 1999 versus three months ended
September 30, 1998
Net Income. The Company reported net income for the three months ended September
30, 1999 of $15.9 million compared with net income of $17.4 million for the
corresponding period in 1998. This decrease in 1999 compared with 1998 is
attributable to a decrease in net interest income, partially offset by a
decrease in the provision for loan losses. During the three months ended
September 30, 1998, the Company reported income tax expense of $44,000 related
to net gains on sale of foreclosed real estate. The Company reported no income
tax expense for the three months ended September 30, 1999.
During each of the three month periods ended September 30, 1999 and 1998, the
Company declared and paid dividends of $11.4 million on the outstanding Series A
Preferred Shares. Net income available to the common stockholder for the three
months ended September 30, 1999 and 1998 totalled $4.5 million and $6.0 million,
respectively. There were no common stock dividends paid during the three months
ended September 30, 1999. During the three months ended September 30, 1998, the
Company declared and paid dividends of $30.5 million to the Bank as common
stockholder.
Interest Income. The Company reported net interest income of $15.9 million for
the three months ended September 30, 1999, a decrease of $2.1 million from the
$18.0 million net interest income reported for the corresponding period in 1998.
This decrease in interest income is attributed to residential mortgage loans.
The decrease in residential mortgage loan interest income is attributed to a
lower average yield on the portfolio. The lower yield of 6.31% on residential
mortgage loans during the three month period ended September 30, 1999 as
compared to 7.16% for the same period in 1998 is primarily due to the repricing
of variable rate loans resulting from comparatively lower market rates during
the three months ended September 30, 1999 versus the same period in 1998 and the
purchase of new loans at lower current market rates. The average outstanding
balance of residential mortgage loans during the three month period ended
September 30, 1999 was $2.8 million higher than during the same period in 1998.
Net interest income during the three months ended September 30, 1999 is
comprised of $15.7 million ($16.6 million gross interest less $915,000 servicing
fee expense) from residential mortgage loans and $269,000 from short-term
investments, representing an average yield after servicing fees on residential
mortgage loans of 6.31% and on earning assets of 6.26%, based on average
outstanding asset balances of $993.7 million and $1,017.4 million, respectively.
Net interest income during the three months ended September 30, 1998 is
comprised of $17.7 million ($18.7 million gross interest less $920,000 servicing
fee expense) from residential mortgage loans and $300,000 from short-term
investments, representing an average yield after servicing fees on residential
mortgage loans of 7.16% and on earning assets of 7.11%, based on average
outstanding asset balances of $990.9 million and $1,014.5 million, respectively.
The computation of the average yield on residential mortgage loans and on
earning assets is based on daily average outstanding asset balances that include
nonaccruing loans and the amount of principal payments collected by FNMC but not
yet remitted to the Company, which is included in due from affiliates on the
balance sheets.
Provision for loan losses. The Company established a provision for loan losses
of $630,000 for the three months ended September 30, 1998. The Company recorded
no provision for loan losses for the three months ended September 30, 1999. The
decrease in the provision for loan losses from the 1998 period to the 1999
period is the result of management's evaluation of the adequacy of the allowance
for loan losses based on, among other things, the Bank's and the Company's past
loan loss experience, delinquency trends, known and inherent risks in the
residential mortgage loan portfolio, potential adverse situations that may
affect the borrower's ability to repay, the estimated value of the underlying
collateral, and current economic conditions.
RESIDENTIAL MORTGAGE LOANS
The Company reinvests principal collections in additional residential mortgage
loans purchased from either the Bank or its affiliates on a periodic basis.
It is the Company's policy to place a loan on nonaccrual when a borrower is 90
days or more delinquent. There were no accruing loans contractually past due 90
days or more at September 30, 1999 or December 31, 1998.
13
<PAGE>
The following table reflects residential mortgage loans with past due principal
and interest payments as of September 30, 1999 and December 31, 1998:
<TABLE>
<CAPTION>
September 30, 1999 December 31, 1998
------------------ -----------------
Principal Balance Percent Principal Balance Percent
(in thousands) of Total Loans (in thousands) of Total Loans
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
30 to 59 days past due $ 1,139 0.12% $ 2,362 0.25%
60 to 89 days past due $ 438 0.05% $ 2,005 0.21%
90 days or more past due $ 3,389 0.35% $ 1,563 0.16%
</TABLE>
ALLOWANCE FOR LOAN LOSSES
As of September 30, 1999, the Company has allocated $392,000 of allowance for
loan losses against specific problem loans, with the remaining $7.7 million
available to absorb potential loan losses from the entire residential mortgage
loan portfolio. The Company deems its allowance for loan losses as of September
30, 1999 to be adequate. Although the Company believes that it has sufficient
allowances to absorb losses which currently exist in the portfolio, the precise
loss is subject to continuing review based on quality indicators, industry and
geographic concentrations, changes in business conditions, and other external
factors such as competition, legal and regulatory requirements. The Company will
continue to periodically reassess the adequacy of the allowance for loan losses.
The following table reflects the activity in the Company's allowance for loan
losses for the nine months ended September 30, 1999 and 1998 (in thousands):
1999 1998
---- ----
Balance - January 1 $ 8,413 $ 7,310
Provision for loan losses -- 1,680
Charge-offs (304) (1,114)
---------- ---------
Balance - September 30 $ 8,109 $ 7,876
========== =========
The Company's allowance coverage ratio (allowance for loan losses to loans) at
September 30, 1999 and December 31, 1998 was 0.83% and 0.88%, respectively,
while the Company's ratio of allowance for loan losses to nonaccruing loans at
September 30, 1999 and December 31, 1998 was 239% and 538%, respectively.
INTEREST RATE RISK
The Company's income consists primarily of interest payments on residential
mortgage loans. The Company anticipates that most of its residential mortgage
loans will bear interest at adjustable rates. If there is a decline in interest
rates (as measured by the indices upon which the interest rates of the
residential mortgage loans are based), then the Company will experience a
decrease in income available to be distributed to its stockholders. In such an
interest rate environment the Company may experience an increase in prepayments
on its residential mortgage loans and may find it more difficult to purchase
additional residential mortgage loans bearing rates sufficient to support
payment of the dividends on the Series A Preferred Shares. In addition, certain
residential mortgage loan products which the Company holds will allow borrowers
in such an interest rate environment to convert an adjustable rate mortgage to a
fixed rate mortgage, thus "locking in" a lower fixed interest rate. Because the
dividend rate on the Series A Preferred Shares is fixed, there can be no
assurance that an interest rate environment in which there is a significant
decline in interest rates would not adversely affect the Company's ability to
pay such dividends.
Residential mortgage loans which have interest rates that adjust monthly based
upon the FHLB Eleventh District Cost of Funds limit payment changes to no more
than 7.5% of the payment amount per year. This may lead to monthly payments
which are less than the amount necessary to amortize the loan to maturity at the
interest rate in effect for any particular month. In the event that the monthly
payment is not sufficient to pay interest accruing on the loan during the month,
this deficiency is added to the loan's principal balance (i.e., negative
amortization). The total outstanding principal balance for a particular loan is
generally not allowed to exceed 125% of the original loan amount as a result of
negative amortization. Every five years and at any time the loan reaches its
maximum amount, the loan payment is recalculated to the payment sufficient to
repay the unpaid balance in full at the maturity date. Approximately 23% and 31%
of the residential mortgage loans held by the Company at September 30, 1999 and
December 31, 1998, respectively, had the potential to negatively amortize, while
approximately 4% and 6% of the residential mortgage loans had negatively
amortized such that the current principal balance of the loan exceeded the
original principal balance at September 30, 1999 and December 31, 1998,
respectively. The current principal balance exceeded the original principal
balance on those loans by approximately $1.2 million as of 30, 1999 compared to
$1.6 million at December 31, 1998. If there is an increase in interest rates on
such residential mortgage loans
14
<PAGE>
(as measured by the indices upon which the interest rates of the residential
mortgage loans are based), where such increase in the interest rate does not
coincide with a corresponding adjustment of the borrower's monthly payment, the
Company may experience a decrease in cash available to be distributed to its
common stockholder.
SIGNIFICANT CONCENTRATION OF CREDIT RISK
Certain geographic regions of the United States from time to time may experience
natural disasters or weaker regional economic conditions and housing markets
and, consequently, may experience higher rates of loss and delinquency on
residential mortgage loans generally. Any concentration of the residential
mortgage loans in such a region may present risks in addition to those generally
present with respect to residential mortgage loans.
The Company's exposure to geographic concentrations directly affects the credit
risk of the residential mortgage loans within the portfolio. The following table
shows the residential mortgage loan portfolio by geographical area as of
September 30, 1999:
<TABLE>
<CAPTION>
Book Value
(in thousands) Percent
-------------- -------
<S> <C> <C>
California $ 818,077 83.9%
Florida 33,713 3.5%
New York 21,320 2.2%
Other states (37 states and Washington, D.C.; no state has more than 2%) 102,239 10.4%
------------- -------
$ 975,349 100.0%
============= ======
</TABLE>
The 83.9% of the Company's total residential mortgage loan portfolio comprised
of loans secured by residential real estate properties located in California may
be subject to a greater risk of default than other comparable residential
mortgage loans in the event of natural hazards or other adverse conditions in
California that may affect the ability of residential property owners in
California to make payments of principal and interest on underlying mortgages.
LIQUIDITY RISK MANAGEMENT
The objective of liquidity management is to ensure the availability of
sufficient cash flows to meet all of the Company's financial commitments and to
capitalize on opportunities for the Company's business expansion. In managing
liquidity, the Company takes into account various legal limitations placed on a
Real Estate Investment Trust ("REIT"). See " -- Other Matters."
The Company's principal liquidity needs are to maintain the current portfolio
size through the acquisition of additional residential mortgage loans and to pay
dividends on the Series A Preferred Shares. The acquisition of additional
residential mortgage loans is funded with the proceeds obtained from repayment
of principal balances by individual mortgagees. The payment of dividends on the
Series A Preferred Shares will be made from legally available funds, principally
arising from the operating activities of the Company. The Company's cash flows
from operating activities principally consist of the collection of interest on
the residential mortgage loans. The Company does not have and does not
anticipate having any material capital expenditures.
In order to remain qualified as a REIT, the Company must distribute annually at
least 95% of its adjusted REIT taxable income, as provided for under the
Internal Revenue Code ("IRC"), to its common and preferred stockholders. The
Company currently expects to distribute dividends annually to satisfy these REIT
requirements.
The Company anticipates that cash and cash equivalents on hand and the cash flow
from the residential mortgage loans will provide adequate liquidity for its
operating, investing and financing needs.
As presented in the accompanying statement of cash flows, the primary sources of
funds during the nine months ended September 30, 1999 were $50.3 million
provided by operating activities and $264.0 million provided by mortgage loan
principal repayments. The primary uses of funds were $263.6 million in purchases
of mortgage loans and $34.2 million in preferred stock dividends paid.
OTHER MATTERS
As of September 30, 1999, the Company was in full compliance with the REIT tax
rules and believes that it will continue to
15
<PAGE>
qualify as a REIT under the provisions of the IRC. The Company calculates:
a. its Qualified REIT Assets, as defined in the Code, to be 98% of its total
assets, as compared to the Federal tax requirements that at least 75% of
its total assets must be Qualified REIT assets; and
b. that 99% of its revenue qualifies for the 75% source of income test and
100% of its revenue qualifies for the 95% source of income test under the
REIT rules.
The Company also met all REIT requirements regarding the ownership of its stock
and anticipates meeting the annual distribution requirements.
YEAR 2000
The Year 2000 remediation process for existing mission-critical systems and the
testing and certification of these systems and applications was completed in the
first quarter of 1999. In addition, during February and March of 1999, the Bank
participated in industry-wide Year 2000 integration testing sponsored by the
Mortgage Bankers Association. The Bank and the Company have also assessed risks
related to the potential failure of material third parties to be ready for the
year 2000.
The contingency plan for the critical supply vendors was completed mid-February
1999 and contingency plans were completed for all other material service
providers by June 30, 1999. The Year 2000 weekend (January 1-2, 2000) support
plan for applications maintained in-house was completed by September 30, 1999.
In addition, contingency plans for critical business areas to address liquidity,
customer communications, operations issues, and potential failures surrounding
the Year 2000 event were completed by September 30, 1999.
All costs related to Year 2000 have been and will continue to be expensed on the
books of the Bank.
For additional information regarding the Year 2000 issue, refer to "Management's
Discussion and Analysis of Financial Condition and Results of Operations -- Year
2000" in the Company's 1998 Form 10-K.
ITEM. 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in reported market risks faced by the
Company since the Company's report in Item 7A of its Form 10-K for the year
ended December 31, 1998.
16
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is not the subject of any material litigation. None of the Company,
the Bank or any of its affiliates is currently involved in nor, to the Company's
knowledge, is currently threatened with, any material litigation with respect to
the residential mortgage loans included in the portfolio other than routine
litigation arising in the ordinary course of business, most of which is covered
by liability insurance.
ITEM 6. EXHIBITS AND CURRENT REPORTS ON FORM 8-K
(a) Exhibits:
3.1 Amended and Restated Charter of the Registrant (Incorporated
by reference to Exhibit 3.1 to the Registrant's Quarterly
Report on Form 10-Q for the quarter ended March 31, 1997).
3.2 By-laws of the Registrant, as amended (Incorporated by
reference to Exhibit 3(b) to Amendment No. 2 to the
Registrant's Registration Statement on Form S-11 (File No.
333-11609)).
27.1 Financial Data Schedule
(b) Reports on Form 8-K:
No Current Reports on Form 8-K were filed during the quarter ended
September 30, 1999.
17
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
California Federal Preferred Capital Corporation
/s/ Richard H. Terzian
---------------------------------------------------
By: Richard H. Terzian
Executive Vice President, Chief Financial Officer
and Director
(Signing on behalf of the Registrant and as the
Principal Financial Officer)
November 9, 1999
18
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE BALANCE
SHEET AND STATEMENT OF INCOME INCLUDED IN THE COMPANY'S FORM 10-K FOR THE PERIOD
ENDED SEPTEMBER 30, 1999.
</LEGEND>
<CIK> 0001027283
<NAME> CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
<MULTIPLIER> 1,000
<CURRENCY> US$
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<EXCHANGE-RATE> 1
<CASH> 0
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 18,594
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 975,349
<ALLOWANCE> 8,109
<TOTAL-ASSETS> 1,010,070
<DEPOSITS> 0
<SHORT-TERM> 0
<LIABILITIES-OTHER> 650
<LONG-TERM> 0
0
500,000
<COMMON> 0
<OTHER-SE> 509,420
<TOTAL-LIABILITIES-AND-EQUITY> 1,010,070
<INTEREST-LOAN> 48,265
<INTEREST-INVEST> 624
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 48,889
<INTEREST-DEPOSIT> 0
<INTEREST-EXPENSE> 0
<INTEREST-INCOME-NET> 48,889
<LOAN-LOSSES> 0
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 120
<INCOME-PRETAX> 48,769
<INCOME-PRE-EXTRAORDINARY> 48,729
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 48,729<F1>
<EPS-BASIC> 0
<EPS-DILUTED> 0
<YIELD-ACTUAL> 6.44
<LOANS-NON> 3,389
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 8,413
<CHARGE-OFFS> 304
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 8,109
<ALLOWANCE-DOMESTIC> 0
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 7,717
<FN>
<F1>NET INCOME AVAILABLE TO COMMON STOCKHOLDERS: $14,510
</FN>
</TABLE>
