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PROSPECTUS
15,000,000 SHARES
[LOGO]
OCWEN ASSET
INVESTMENT CORP.
COMMON STOCK
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Ocwen Asset Investment Corp. ("OAIC" and, together with its subsidiaries on
a consolidated basis, the "Company") is a newly organized Virginia corporation.
OAIC will elect to be taxed as a real estate investment trust ("REIT") under the
Internal Revenue Code of 1986. Ocwen Capital Corporation (the "Manager"), a
wholly-owned subsidiary of Ocwen Financial Corporation ("Ocwen Financial"), will
manage the day-to-day operations of the Company, subject to the supervision of
OAIC's Board of Directors.
All of the 15,000,000 shares of Common Stock offered pursuant to this
Prospectus are being offered by the Company. In addition, 1,875,000 shares of
Common Stock will be sold by the Company to Ocwen Financial, upon the closing of
this offering, at the initial public offering price net of any underwriting
discounts or commissions. After such sale Ocwen Financial will own approximately
11.1% of the Common Stock of the Company, assuming that the Underwriters do not
exercise their over-allotment option.
The initial public offering price for shares of Common Stock will be $16 per
share. Prior to this offering, there has been no market for the shares of Common
Stock of the Company. The public offering price has been determined by
negotiation between the Company and the Underwriters. See "Underwriting." The
Common Stock has been approved for listing on The Nasdaq Stock Market under the
symbol "OAIC."
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SEE "RISK FACTORS" BEGINNING ON PAGE 13 FOR CERTAIN FACTORS RELEVANT TO AN
INVESTMENT IN THE COMMON STOCK INCLUDING, AMONG OTHERS:
- Most of the Company's investments have not been identified;
- The Company intends to invest in non-investment grade, subordinated
mortgage-backed securities, which are sensitive to events of loss, such as
credit losses due to borrower default, hazard losses and state law
enforceability issues;
- The Company intends to invest in distressed real estate;
- The Company's investments (particularly those in mortgage-backed
securities) will be sensitive to changes in prevailing interest rates;
- Ownership of Common Stock by each stockholder other than Ocwen Financial
is limited to 9.1% of the outstanding Common Stock, which may deter third
parties from seeking to control or acquire the Company;
- The Company may be taxed as a corporation if it fails to qualify as a
REIT; and
- Certain officers and directors of the Company are officers and directors
of the Manager, which will sell assets to the Company from time to time.
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THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
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PRICE TO UNDERWRITING PROCEEDS TO
PUBLIC DISCOUNT(1) COMPANY(2)
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Per Share..................... $16.00 $1.12 $14.88
Total (3)(4).................. $267,900,000 $16,800,000 $250,275,000
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(1) The Company has agreed to indemnify the several Underwriters against certain
liabilities, including liabilities under the Securities Act of 1933, as
amended. See "Underwriting."
(2) Net of expenses in connection with the offering, estimated at $825,000,
which will be payable by the Company.
(3) The Company has granted the several Underwriters a 30-day option to purchase
up to 2,250,000 additional shares of Common Stock to cover over-allotments.
If all such shares of Common Stock are purchased, the total Price to Public,
Underwriting Discount and Proceeds to Company, before expenses of this
Offering, will be $303,900,000, $19,320,000 and $283,755,000. See
"Underwriting."
(4) The total Price to Public and the total Proceeds to Company reflect the sale
of 1,875,000 shares of Common Stock to Ocwen Financial net of the
Underwriting Discounts.
The shares of Common Stock are offered by the Underwriters subject to
receipt and acceptance by the Underwriters, approval of certain legal matters by
counsel for the Underwriters and certain other conditions. The Underwriters
reserve the right to withdraw, cancel or modify such offers and to reject orders
in whole or in part. It is expected that delivery of the shares of Common Stock
will be made in New York, New York on or about May 19, 1997.
FRIEDMAN, BILLINGS, RAMSEY & CO., INC. EVEREN SECURITIES, INC.
THE DATE OF THIS PROSPECTUS IS MAY 14, 1997.
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CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK,
INCLUDING STABILIZATION, THE PURCHASE OF COMMON STOCK TO COVER SYNDICATE SHORT
POSITIONS AND THE IMPOSITION OF PENALTY BIDS. FOR A DESCRIPTION OF THESE
ACTIVITIES, SEE "UNDERWRITING."
IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS (AND SELLING GROUP
MEMBERS) MAY ENGAGE IN PASSIVE MARKET MAKING TRANSACTIONS IN THE COMMON STOCK ON
NASDAQ IN ACCORDANCE WITH RULE 103 OF REGULATION M. SEE "UNDERWRITING."
2
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TABLE OF CONTENTS
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PROSPECTUS SUMMARY............................. 5
ORGANIZATION AND RELATIONSHIPS................. 12
RISK FACTORS................................... 13
Investment Activity Risks.................... 13
Credit and Prepayment Risks from Ownership
of Subordinated Interests in Pools of
Commercial and Residential Mortgage
Loans.................................... 13
Value of Real Estate Dependent on
Conditions Beyond Company's Control...... 14
Distressed Real Properties May Have
Unleased Space........................... 14
Real Estate is Illiquid and its Value May
Decrease................................. 14
The Company's Insurance Will Not Cover All
Losses................................... 14
Property Taxes Decrease Returns on Real
Estate................................... 14
Compliance with Americans with Disabilities
Act and Other Changes in Governmental
Rules and Regulations May Be Costly...... 14
Real Properties with Hidden Environmental
Problems Will Increase Costs and May
Create Liability for the Company......... 15
Real Properties with Known Environmental
Problems May Create Liability for the
Company.................................. 15
Foreign Real Properties are Subject to
Currency Conversion Risks and Uncertainty
of Foreign Laws.......................... 15
Greater Risk of Loss from Multifamily
Residential, Commercial and Construction
Lending Activities....................... 15
Default Risks Associated with Distressed
Mortgage Loans........................... 16
Interest Rate Risks and Other Risks from
Ownership of IOs, Inverse IOs and Sub
IOs...................................... 16
REMIC Residual Interests May Generate
Taxable Income Exceeding Cash Flow....... 16
Limited Available Investments May Inhibit
Company's Objectives..................... 16
Appropriate Investments May Not Be
Available and Full Investment of Net
Proceeds Will Be Delayed................. 17
Economic and Business Risks.................. 17
Interest Rate Changes May Adversely Affect
the Company's Investments................ 17
Leverage Can Reduce Income Available for
Distribution............................. 18
Adverse Changes in General Economic
Conditions Can Adversely Affect Company's
Business................................. 18
Competition in the Acquisition of
Appropriate Investments May Inhibit
Company's Ability to Achieve
Objectives............................... 18
Legal and Tax Risks.......................... 19
Tax Risks.................................. 19
Ownership Limitation May Restrict Business
Combination Opportunities................ 20
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Plans Should Consider ERISA Risks of
Investing in Common Stock................ 20
Preferred Stock May Prevent Change in
Control.................................. 20
Virginia Anti-Takeover Statutes May
Restrict Business Combination
Opportunities............................ 20
Board of Directors May Change Certain
Policies Without Shareholder Consent..... 21
Loss of Investment Company Act Exemption
Will Adversely Affect the Company........ 21
Limitation on Liability of Manager and
Officers and Directors of the Company.... 21
Other Risks.................................. 22
Conflicts of Interest in the Business of
the Company.............................. 22
Risk that Market for Common Stock Will Not
Develop.................................. 24
Newly Organized Corporation................ 24
External Management of the Company......... 24
Regulation of Manager's Affiliates......... 24
OPERATING POLICIES AND OBJECTIVES.............. 24
The Company's Assets......................... 26
Portfolio Management......................... 34
MANAGEMENT OF OPERATIONS....................... 36
Ocwen Financial Corporation.................. 36
The Manager.................................. 36
The Management Agreement..................... 38
Management Fees.............................. 39
Stock Options................................ 41
Limits of Responsibility..................... 42
Certain Relationships; Conflicts of
Interest................................... 41
THE COMPANY.................................... 44
Directors and Executive Officers............. 44
DISTRIBUTION POLICY............................ 46
YIELD CONSIDERATIONS RELATED TO THE COMPANY'S
INVESTMENTS.................................. 46
Subordinated Interests....................... 46
Distressed Real Properties................... 48
Mortgage Loans............................... 48
IOs and Inverse IOs.......................... 49
INITIAL INVESTMENTS............................ 49
General...................................... 49
MLMC, Series 1993-MI Classes B and C......... 50
DLJMAC, Series 1993-MF17, Classes B-2, B-3,
C-1, S-1 and S-2........................... 55
Supplemental Initial Investment.............. 58
YIELD CONSIDERATIONS RELATED TO THE INITIAL
INVESTMENTS.................................. 59
General...................................... 59
Initial Subordinated Interests............... 59
Yield on DLJ IOs............................. 62
CAPITALIZATION................................. 63
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
LIQUIDITY AND CAPITAL RESOURCES.............. 63
DESCRIPTION OF CAPITAL STOCK................... 64
General...................................... 64
Common Stock................................. 65
Preferred Stock.............................. 65
Restrictions on Transfer..................... 65
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Dividend Reinvestment Plan................... 67
Reports to Stockholders...................... 67
Transfer Agent and Registrar................. 67
CERTAIN PROVISIONS OF VIRGINIA LAW AND OF
OAIC'S ARTICLES OF INCORPORATION AND
BYLAWS....................................... 67
Board of Directors........................... 67
Amendment.................................... 67
Business Combinations........................ 68
Control Share Acquisitions................... 68
Operations................................... 69
Advance Notice of Director Nominations and
New Business............................... 69
COMMON STOCK AVAILABLE FOR FUTURE SALE......... 69
OPERATING PARTNERSHIP AGREEMENT................ 70
General...................................... 70
General Partner Not to Withdraw.............. 70
Capital Contribution......................... 70
Redemption Rights............................ 71
Operations................................... 72
Distributions................................ 72
Allocations.................................. 72
Term......................................... 72
Tax Matters.................................. 72
FEDERAL INCOME TAX CONSIDERATIONS.............. 73
Taxation of the Company...................... 73
Requirements for Qualification............... 74
Failure to Qualify........................... 81
Taxation of Taxable U.S. Stockholders........ 81
Taxation of Stockholders on the Disposition
of the Common Stock........................ 83
Capital Gains and Losses..................... 83
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Information Reporting Requirements and Backup
Withholding................................ 83
Taxation of Tax-Exempt Stockholders.......... 84
Taxation of Non-U.S. Stockholders............ 85
State and Local Taxes........................ 86
Sale of the Company's Property............... 86
ERISA CONSIDERATIONS........................... 87
Employee Benefit Plans, Tax-Qualified
Retirement Plans, and IRAs................. 87
Status of OAIC under ERISA................... 88
CERTAIN LEGAL ASPECTS OF MORTGAGE LOANS AND
REAL PROPERTY INVESTMENTS.................... 89
General...................................... 89
Types of Mortgage Instruments................ 90
Leases and Rents............................. 90
Condemnation and Insurance................... 90
Foreclosure.................................. 90
Bankruptcy Laws.............................. 93
Default Interest and Limitations on
Prepayments................................ 94
Forfeitures in Drug and RICO Proceedings..... 94
Environmental Risks.......................... 94
Applicability of Usury Laws.................. 96
Americans With Disabilities Act.............. 96
USE OF PROCEEDS................................ 97
UNDERWRITING................................... 97
LEGAL MATTERS.................................. 99
EXPERTS........................................ 99
ADDITIONAL INFORMATION......................... 99
The Company.................................. 99
Ocwen Financial.............................. 100
GLOSSARY OF TERMS.............................. 101
FINANCIAL STATEMENT............................ F-1
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PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information included elsewhere in this Prospectus. Unless otherwise indicated,
the information contained in this Prospectus assumes that (i) the transactions
relating to the formation of the Company (the "Formation Transactions") are
consummated, (ii) the Underwriters' overallotment option is not exercised and
(iii) the offering price (the "Offering Price") of the Common Stock is $16 per
share. Unless the context otherwise requires, all references in this Prospectus
to the (i) "Company" shall mean Ocwen Asset Investment Corp. ("OAIC") and its
subsidiaries, including (a) Ocwen General, Inc. (the "General Partner"), (b)
Ocwen Limited, Inc. (the "Initial Limited Partner"), and (c) Ocwen Partnership,
L.P. (the "Operating Partnership"); and (ii) "Common Stock" shall mean OAIC's
common shares, par value $.01 per share. Capitalized terms used but not defined
herein shall have the meanings set forth in the Glossary beginning on page 101.
THE COMPANY
OAIC is a newly organized Virginia corporation that will elect to be taxed
as a REIT under the Code. The Company will be externally managed and advised.
See "Management of Operations." The Company intends to enhance the value of its
Common Stock by pursuing advantageous investments that capitalize on
inefficiencies in the real estate and mortgage markets. The Company's
investments will include several categories of real estate and real estate
related assets.
SUBORDINATED INTERESTS AND DISTRESSED REAL PROPERTY. The Company intends to
invest primarily in (i) subordinated interests ("Subordinated Interests") in
collateralized mortgage obligations and other mortgage-backed securities
(collectively, "MBS"), and (ii) commercial and multifamily real property ("Real
Property"), including properties acquired by a mortgage lender at foreclosure
(or by deed in lieu of foreclosure) ("REO Property") and other underperforming
or otherwise distressed real property (together with REO Property, "Distressed
Real Property"). The Company believes that these investment activities will
complement each other from both a cash flow and a tax planning perspective. No
assurances can be made, however, that the Company's investment strategy will be
successful.
OTHER REAL ESTATE RELATED ASSETS. The Company may invest, by way of
purchase or origination, in commercial, multifamily and single family
residential mortgage loans ("Mortgage Loans"), including both (i) Mortgage Loans
that are current as to payments of principal and interest, including
construction and rehabilitation loans and mezzanine loans ("Performing Mortgage
Loans"), and (ii) Mortgage Loans that are in default ("Nonperforming Mortgage
Loans"), or for which default is likely or imminent or for which the borrower is
currently making monthly payments in accordance with a forbearance plan ("Sub-
performing Mortgage Loans" and, together with Nonperforming Mortgage Loans,
"Distressed Mortgage Loans"). The Company also may invest in various classes of
MBS, including interest only classes ("IOs") and inverse floating rate interest
only classes ("Inverse IOs"). In addition, the Company may also acquire Real
Property that is (i) environmentally distressed or (ii) located outside the
United States, or Mortgage Loans secured by such Real Property and other real
property interests.
In order to invest the net proceeds of the Offering as efficiently as is
appropriate and to provide current returns, the Company expects initially to
emphasize investments in the assets described in the preceding paragraph
(collectively, "Other Real Estate Related Assets"). Although the Company does
not expect to emphasize the acquisition of such assets as a long-term investment
strategy, the Company will take an opportunistic approach to its investments
and, accordingly, the Company may invest in Other Real Estate Related Assets at
any time.
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RISK FACTORS
An investment in the Common Stock involves various risks, and prospective
investors should consider carefully the matters discussed under "Risk Factors"
prior to an investment in the Company. Such risks include, among others:
- Certain of the Company's real estate investments will require significant
management resources, are illiquid, and may decrease in value because of
changes in economic conditions.
- The Company intends to acquire significant amounts of non-investment grade
mortgage-backed securities. These investments may be subject to a greater
risk of loss of principal and non-payment of interest than investments in
whole mortgage loans or senior, investment grade rated securities.
- The Company's Distressed Real Properties (which may have significant
amounts of unleased space) may not generate sufficient revenue to provide
a return on the investment after meeting operating expenses and interest
expense.
- Borrower default, hazard losses and state or foreign law enforceability
issues may result in losses on the Company's investment in Mortgage Loans
and MBS.
- Investing in commercial, multifamily residential and construction loans is
riskier than investing in single family residential loans, due to
generally larger loan balances, dependency on the successful completion or
operation of the project for repayment, difficulties in estimating costs
and loan terms that require little or no amortization of the loan over its
term (typically, five years), but instead provide for a balloon payment at
stated maturity.
- In periods of declining interest rates, prepayments on mortgage loans and
MBS generally increase and the Company likely will have to reinvest such
funds in lower-yielding investments. Conversely, in periods of rising
interest rates, prepayments on mortgage loans and MBS generally decrease
and the value of the Company's fixed-rate investments generally declines.
- The Company's IOs and Inverse IOs will be negatively affected by faster
than anticipated prepayment rates, which are generally associated with a
declining interest rate environment, and the Company's Inverse IOs, which
have interest rates that vary inversely with changes to an index, will be
negatively affected by higher than anticipated levels of the index.
- Applying leverage to the Company's assets can compound losses.
- OAIC may be taxed as a corporation if it fails to qualify as a REIT.
- To maintain its exemption from regulation under the Investment Company
Act, the Company, among other things, must invest 55% of its assets in
Qualifying Interests and an additional 25% in Qualifying Interests or
other real estate-related assets within one year of Closing.
- OAIC, a company with no operating history and minimal initial investments,
will invest in highly competitive businesses.
- Conflicts of interests between the Company and Ocwen Financial in relation
to business decisions regarding the Company could result in decisions that
do not fully reflect the interests of all of OAIC's stockholders.
- The Company must rely on the experience of the Manager's employees
generally, and in particular the Independent Directors must rely on
information provided by the Manager to review transactions of the Company
with Ocwen Financial and its affiliates.
- The directors and officers of the Company will have other calls on their
time.
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THE MANAGER
The business and investment affairs of the Company will be managed by Ocwen
Capital Corporation (the "Manager"), a Florida corporation wholly-owned by Ocwen
Financial Corporation ("Ocwen Financial"). Ocwen Financial is a diversified
financial services company that is primarily engaged in the acquisition and
resolution of troubled loans and in diverse mortgage lending activities. The
activities of Ocwen Financial are primarily conducted through Ocwen Federal Bank
FSB (the "Bank"), a federally-chartered savings bank (formerly known as Berkeley
Federal Bank & Trust FSB). At December 31, 1996, Ocwen Financial had $2.48
billion of total assets and stockholders' equity of $203.6 million.
Ocwen Financial is a Florida corporation, organized in February 1988 in
connection with its acquisition of the Bank. During the early 1990s, Ocwen
Financial sought to take advantage of the general decline in asset quality of
financial institutions in many areas of the country and the large number of
failed savings institutions during this period by establishing its distressed
loan acquisition and resolution program. This program commenced with the
aquisition of distressed single-family residential loans in 1991 and was
expanded to cover the acquisition and resolution of distressed multi-family
residential and commercial real estate loans in 1994.
Although many of the Company's prospective competitors may have access to
greater capital and other advantages, the Company believes that the experience
of Ocwen Financial in acquiring and managing MBS and in acquiring, managing and
resolving distressed mortgage loans will provide it with the means to compete.
Ocwen Financial has invested in the computer systems, technology and other
resources that it believes are necessary to conduct this business. It should be
noted, however, that Ocwen Financial has conducted its operations primarily
through the Bank, which has different investment objectives and different
investment guidelines than the Company will have. And, there can be no assurance
that the systems, resources and relationships developed by Ocwen Financial will
enable the Company to be successful.
MANAGEMENT AGREEMENT
The Company will enter into an agreement or agreements (collectively, the
"Management Agreement") with the Manager pursuant to which the Manager, subject
to the supervision of OAIC's Board of Directors, will formulate operating
strategies for the Company, arrange for the acquisition of assets by the
Company, arrange for various types of financing for the Company, including
reverse repurchase agreements, secured lines of credit, mortgage loans and the
issuance of collateralized mortgage obligations, monitor the performance of the
Company's assets and provide certain administrative and managerial services in
connection with the operation of the Company. For performing these services, the
Manager will receive (i) a base management fee in an amount equal to 1% per
annum, calculated and paid quarterly based upon the Average Invested Assets of
the Company for such quarter, which is intended to cover the Manager's costs of
providing management services to the Company, and (ii) a quarterly incentive fee
in an amount equal to the product of (A) 25% of the dollar amount by which
(1)(a) Funds From Operations (before the incentive fee) of the Company per share
of Common Stock (based on the weighted average number of shares outstanding)
plus (b) gains (or minus losses) from debt restructuring or sales of property
per share of Common Stock (based on the weighted average number of shares
outstanding), exceed (2) an amount equal to (a) the weighted average of the
price per share at initial offering and the prices per share at any secondary
offerings by the Company multiplied by (b) the Ten-Year U.S. Treasury Rate plus
five percent per annum multiplied by (B) the weighted average number of shares
of Common Stock outstanding. The Board of Directors of the Company may adjust
the base management fee in the future if necessary to align the fee more closely
with the actual costs of such services.
In addition, because the Manager's employees will perform certain due
diligence tasks that outside consultants otherwise would perform, the Manager
will be reimbursed for its costs for performing such due diligence on assets
purchased by the Company or considered for purchase by the Company. Finally, the
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Manager also will be reimbursed for out of pocket expenses incurred on behalf of
the Company. See "Management of Operations."
Ocwen Financial will purchase 1,875,000 shares of Common Stock on the
Closing Date at the initial public offering price net of underwriting discounts
and commissions, after which Ocwen Financial will own approximately 11.1% of the
Common Stock of the Company assuming that the Underwriters do not exercise their
over-allotment option. To provide an incentive for the Manager to enhance the
value of the Common Stock, the Company will grant the Manager options to
purchase 1,687,500 shares of Common Stock (1,912,500 shares if the Underwriters
exercise their over-allotment option) or, at the option of the Company, units of
limited partnership interest in the Operating Partnership ("Units"), at a price
per share (or Unit) equal to the initial offering price of the Common Stock. The
Manager may redeem any Units so purchased for cash, or, at the election of the
General Partner, shares of Common Stock, on a one-for-one basis. One quarter of
the Manager's options will be exercisable on each of the first four
anniversaries of the Closing Date. Unexercised options will terminate on the
tenth anniversary of the Closing Date. See "Management of Operations--Incentive
Options."
OPERATING POLICIES AND STRATEGIES
The Company intends to invest in Subordinated Interests and Distressed Real
Property when opportunities that the Company considers advantageous become
available. To invest in appropriate assets efficiently during approximately the
first year following Closing, and from time to time thereafter, the Company
intends also to invest in Other Real Estate Related Assets, including Mortgage
Loans, MBS and other real property interests. Until appropriate real estate
related acquisitions are made, however, the net proceeds of the Common Stock
offering may be invested in readily marketable securities, consistent with
maintaining the Company's REIT qualification, or in interest bearing deposit
accounts. Investors should be aware that it may take considerable time for the
Company to find appropriate investments, during which time the Company's assets
will be invested in relatively low yield instruments.
One of the Company's primary investment focuses will be purchasing
Subordinated Interests. Subordinated Interests offer the potential of a higher
yield than relatively more senior classes (customarily rated investment grade),
but carry greater credit risk, including a substantially greater risk of loss of
principal and non-payment of interest than investment grade rated classes. In
connection with its acquisition of Subordinated Interests, the Company will
attempt, where appropriate, to mitigate these risks by obtaining "Special
Servicing" rights with respect to the underlying mortgage loans. See "Operating
Policies and Procedures--The Company's Assets" and "Risk Factors--Investment
Activity Risks--Credit and Prepayment Risks from Ownership of Subordinated
Interests in Pools of Commercial and Residential Mortgage Loans."
The Company's other main investment focus will be Distressed Real
Properties. Distressed Real Properties generally do not generate sufficient cash
flow to provide a current cash return on the investment therein after meeting
operating expenses and debt service. The Company believes, however, that there
are significant opportunities to purchase Distressed Real Properties at
attractive prices, to increase cash flow through effective management, and then,
at an opportune time, to sell the property at a profit. Although the time during
which the Company will hold Distressed Real Properties will vary, the Company
anticipates holding most Distressed Real Properties for more than four years but
less than ten years.
The Company believes that its long-term strategy of investing primarily in a
combination of Subordinated Interests and Distressed Real Property will be
beneficial for several reasons. First, the combination is designed to provide
both long-term capital gains (from Distressed Real Properties) and current
income for distribution to stockholders (from Subordinated Interests). Second,
the Company believes that the combination should prove beneficial to the Company
from a tax planning perspective. Subordinated Interests are typically deemed to
have original issue discount ("OID") and may be deemed to have market discount
for federal income tax purposes. The Company will be required to recognize a
portion of the OID
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and market discount as income each year, which will increase the REIT
distribution requirement in such year, although there may be no contemporaneous
corresponding receipt of cash by the Company. Depreciation deductions associated
with the Company's investments in Distressed Real Estate, however, should help
offset the adverse tax effects of the OID and market discount generated by the
Company's Subordinated Interests. See "Risk Factors--Legal and Tax Risks--Tax
Risks."
The Manager and Ocwen Financial have agreed that as long as the Management
Agreement has not been terminated, the Company will have an exclusive right to
invest in Subordinated Interests and Distressed Real Properties that become
available to the Manager or to Ocwen Financial, subject to certain exceptions
and conditions. See "Management of Operations--Certain Relationships; Conflicts
of Interest."
The Company also may invest in a variety of Other Real Estate Related
Assets. The Company may originate or acquire Performing Mortgage Loans that are
well-suited for financing through the issuance of collateralized mortgage
obligations and may invest in Distressed Mortgage Loans. In addition, the
Company may take advantage of opportunities to provide construction or
rehabilitation financing on commercial property ("Construction Loans") and to
invest in loans that are subordinate to first lien mortgage loans on commercial
real estate ("Mezzanine Loans").
The Company may invest in other classes of MBS, including IOs and Inverse
IOs, as a short term liquidity tool or as a longer term investment strategy.
Although these investments can present increased risks, the Company believes
that a managed portfolio of both IOs and Inverse IOs can produce attractive
returns in a variety of interest rate environments. See "Risk Factors--Risks
from Ownership of IOs, Inverse IOs, and Sub IOs."
In addition to its domestic activities, the Company may acquire or originate
Mortgage Loans secured by real estate located outside the United States or
purchase such real estate. An investment in real estate located in foreign
countries contains risks associated with the uncertainty of foreign laws and
markets and currency conversion risks. See "Risk Factors--Investment Activity
Risks--Foreign Real Properties are Subject to Currency Conversion Risks and
Uncertainty of Foreign Laws." Moreover, the Company may invest in real estate or
Mortgage Loans secured by real estate with known material environmental
problems. See "Risk Factors--Investment Activity Risks--Real Properties with
Known Environmental Problems May Create Liability for the Company."
The Company will leverage its assets when there is an expectation that it
will benefit the Company. The use of leverage creates certain risks for the
Company. See "Risk Factors--Economic and Business Risks--Use of Leverage." The
Company may also engage in a variety of interest rate risk management techniques
for the purpose of managing the effective maturity or interest rate of its
assets. These techniques also may be used to attempt to protect against declines
in the market value of the Company's assets resulting from general trends. Any
such transaction is subject to risks or to limiting the potential earnings on
the Company's investments.
CONFLICTS OF INTEREST
The Company will be managed by the Manager, and the Bank is expected to
provide mortgage servicing and certain asset management services for the
Company. Both the Manager and the Bank are wholly-owned subsidiaries of Ocwen
Financial, which will own approximately 11.1% of the outstanding shares of
Common Stock in OAIC immediately after the Closing. Because of the Company's
relationship with the Manager, the Bank and Ocwen Financial, the Company will be
subject to various potential conflicts of interest.
To protect the Company's shareholders from risks related to these potential
conflicts, beginning ninety days after this Offering a majority of the Company's
Board of Directors will be unaffiliated with the Manager ("Independent
Directors"). The Independent Directors will approve the execution of the
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Management Agreement and will establish general guidelines for the Company's
investments, borrowings and operations (the "Guidelines"). Although the Manager
will perform the day to day operations of the Company, the Independent Directors
will review transactions on a quarterly basis to ensure compliance with the
Guidelines. In such a review, the Independent Directors will rely primarily on
information provided by the Manager.
The Management Agreement does not limit the Manager's right to engage in
business or to render services to others that compete with the Company. The
Manager is required to give the Company an exclusive right to invest in
Distressed Real Property and Subordinated Interests, with certain exceptions as
described herein, but not with respect to Other Real Estate Related Assets.
Subject to approval of the Independent Directors, the Company will acquire
certain MBS from an affiliate of the Manager soon after the Closing. The Company
may acquire additional Real Estate Related Assets from the Manager's affiliates
in the future. In addition, the Company may, but has no current plans to, invest
as a co-participant with affiliates of the Manager in loans originated or
acquired by such affiliates. A majority of the Independent Directors will be
asked to approve any such affiliate transaction in advance, relying, however,
primarily on information provided by the Manager.
THE OFFERING
<TABLE>
<S> <C>
Shares offered to the public(1)(2).............................................. 15,000,000
Shares to be outstanding after offering(1)(2)................................... 16,875,000
</TABLE>
- ------------------------
(1) Assumes that the Underwriters' option to purchase up to an additional
2,250,000 shares to cover over-allotments is not exercised.
(2) See "Description of Capital Stock" and "Capitalization."
USE OF PROCEEDS
The Company has contracted (subject to the consent of the Independent
Directors) with affiliates of the Manager to purchase certain assets upon
completion of this Offering for a purchase price of approximately $45.1 million,
which is equal to approximately 18.0% of the expected net proceeds of this
Offering. These assets will consist of certain Subordinated Interests and IOs,
described herein.
The Company intends temporarily to invest the balance of the net proceeds of
this Offering in readily marketable, interest-bearing securities until the
Company finds appropriate Subordinated Interests, Distressed Real Properties and
Other Real Estate Related Assets in which to invest. In order fully and
efficiently to invest its assets in real estate related assets, the Company
expects initially to emphasize investments in Other Real Estate Related Assets.
Once a substantial portion of the Company's assets are invested, the Company
intends to focus primarily on acquiring appropriate Subordinated Interests and
Distressed Real Property. See "Operating Policies and Strategies."
DISTRIBUTION POLICY
OAIC intends to make distributions to its stockholders of all or
substantially all of its net taxable income each year (subject to certain
adjustments) so as to qualify for the tax benefits accorded to REITs under the
Code. OAIC intends to make distributions at least quarterly. It is anticipated
that the first distribution to stockholders will be made promptly after the
first full calendar quarter following the Closing Date.
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TAX STATUS OF THE COMPANY
OAIC intends to qualify and will elect to be taxed as a REIT under sections
856 through 860 of the Code, commencing with its short taxable year ending
December 31, 1997. If OAIC qualifies for taxation as a REIT, OAIC generally will
not be subject to federal corporate income tax on its taxable income that is
distributed to its stockholders. A REIT is subject to a number of organizational
and operational requirements, including a requirement that it currently
distribute at least 95% of its annual taxable income. Although OAIC does not
intend to request a ruling from the Internal Revenue Service (the "Service") as
to its REIT status, OAIC has received an opinion of its legal counsel that OAIC
qualifies as a REIT, which opinion is based on certain assumptions and
representations about OAIC's ongoing businesses and investment activities and
other matters. No complete assurance can be given that OAIC will be able to
comply with such assumptions and representations in the future. Furthermore,
such opinion is not binding on the Service or on any court. Failure to qualify
as a REIT would render OAIC subject to federal income tax (including any
applicable alternative minimum tax) on its taxable income at regular corporate
rates and distributions to OAIC's stockholders would not be deductible. Even if
OAIC qualifies for taxation as a REIT, the Company may be subject to certain
federal, state and local taxes on its income and property. OAIC will adopt the
calendar year as its taxable year. In connection with OAIC's election to be
taxed as a REIT, OAIC's Articles of Incorporation impose restrictions on the
transfer of the Common Stock. See "Risk Factors--Legal Risks--Tax Risks" and
"Federal Income Tax Considerations--Taxation of the Company."
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ORGANIZATION AND RELATIONSHIPS
The Company intends to invest primarily in Subordinated Interests and
Distressed Real Properties. The Manager will manage the day-to-day operations of
the Company, subject to the supervision of OAIC's Board of Directors. The
relationship among OAIC, its affiliates and the Manager is depicted in the
picture shown below.
[GRAPHIC SHOWING RELATIONSHIP AMONG OCWEN ASSET INVESTMENT CORP.,
OCWEN GENERAL, INC., OCWEN LIMITED, INC., OCWEN PARTNERSHIP, L.P.
(COLLECTIVELY, THE "COMPANY") AND OCWEN FINANCIAL CORP.,
OCWEN CAPITAL CORPORATION AND OCWEN FEDERAL BANK FSB.]
(1) OAIC, a Virginia corporation taxable as a REIT, will issue approximately
11.1% of its common stock to Ocwen Financial and approximately 88.9% of its
common stock to public investors.
(2) OAIC will incorporate and capitalize two qualified REIT subsidiaries,
Ocwen General, Inc. ("General Partner") and Ocwen Limited, Inc. ("Initial
Limited Partner").
(3) Initial Limited Partner and General Partner will organize and capitalize
Ocwen Partnership, L.P. (the "Operating Partnership"), with the Initial Limited
Partner to hold a 99% limited partnership interest in the Operating Partnership,
and the General Partner to hold a 1% general partnership interest in the
Operating Partnership.
(4) Ocwen Financial will sell the Initial Investments to the Operating
Partnership for cash.
(5) The Operating Partnership will undertake the business of OAIC, including
the acquisition of Subordinated Interests, Distressed Real Properties and Other
Real Estate Related Assets.
(6) The Operating Partnership will assign to Ocwen Federal Bank FSB (the
"Bank") any Special Servicing rights and obligations (other than the right to
direct foreclosure) received in connection with mortgage-backed securities
acquisitions. The Bank is a wholly-owned subsidiary of Ocwen Financial.
(7) Ocwen Financial will incorporate and capitalize Ocwen Capital
Corporation (the "Manager").
(8) The Manager will enter into a Management Agreement with OAIC and the
Operating Partnership, pursuant to which the Manager will formulate operating
strategies and provide certain managerial and administrative functions for the
entities shown within the box on the chart (collectively, the "Company"),
subject to the supervision of OAIC's Board of Directors.
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RISK FACTORS
An investment in the Common Stock involves various risks. Before purchasing
shares of Common Stock offered hereby, prospective investors should give special
consideration to the information set forth below, in addition to the information
set forth elsewhere in this Prospectus.
INVESTMENT ACTIVITY RISKS
CREDIT AND PREPAYMENT RISKS FROM OWNERSHIP OF SUBORDINATED INTERESTS IN
POOLS OF COMMERCIAL AND RESIDENTIAL MORTGAGE LOANS. The Company intends to
acquire a significant amount of Subordinated Interests, including "first loss"
unrated, credit support Subordinated Interests. A first loss security is the
most subordinated class of a multi-class issuance of pass-through or debt
securities and is the first to bear the loss upon a default on the underlying
collateral. Such classes are subject to special risks, including a substantially
greater risk of loss of principal and non-payment of interest than more senior,
rated classes. While the market values of most Subordinated Interest classes
tend to react less to fluctuations in interest rate levels than more senior,
rated classes, the market values of Subordinated Interests classes tend to be
more sensitive to changes in economic conditions than more senior, rated
classes. As a result of these and other factors, Subordinated Interests
generally are not actively traded and may not provide holders thereof with
liquidity of investment.
The yield to maturity on Subordinated Interests of the type the Company
intends to acquire will be extremely sensitive to the default and loss
experience of the underlying mortgage loans and the timing of any such defaults
or losses. Because the Subordinated Interests of the type the Company intends to
acquire generally have no credit support, to the extent there are realized
losses on the mortgage loans comprising the mortgage collateral for such
classes, the Company may not recover the full amount or, indeed, any of its
initial investment in such Subordinated Interests.
When the Company acquires a Subordinated Interest, it may not acquire the
right to service the underlying mortgage loans, even those that become
defaulted, although the Company generally will seek to obtain Special Servicing
rights with respect to such loans. The servicer of the mortgage loans is
responsible to holders of the senior classes of MBS, whose interests may not be
the same as those of the holder of the Subordinated Interest. Accordingly, the
underlying mortgage loans may not be serviced in the same manner as they would
be serviced by the Company or in a manner that is most advantageous to the
Company as the holder of the Subordinated Interest.
The subordination of Subordinated Interests to more senior classes may
affect adversely the yield on the Subordinated Interests even if realized losses
are not ultimately allocated to such classes. On any payment date, interest and
principal are paid on the more senior classes before interest and principal are
paid with respect to the unrated or non-investment grade credit support classes.
Typically, interest deferred on these credit support classes is payable on
subsequent payment dates to the extent funds are available, but such deferral
may not itself bear interest. Such deferral of interest will affect adversely
the yield on the Subordinated Interests.
The yield of the Subordinated Interests also will be affected by the rate
and timing of payments of principal (including prepayments, repurchase, defaults
and liquidations) on the mortgage loans underlying a series of MBS. The rate of
principal payments may vary significantly over time depending on a variety of
factors such as the level of prevailing mortgage loan interest rates and
economic, demographic, tax, legal and other factors. Prepayments on the mortgage
loans underlying a series of MBS are generally allocated to the more senior
classes of MBS until those classes are paid in full or until the end of a
lock-out period, typically of five years or more. Generally, prepayments of
principal from the mortgage loans are not received by the Subordinated Interest
holders for a period of at least five years. As a result, the weighted-average
lives of the Subordinated Interests may be longer than would be the case if, for
example, prepayments were allocated pro rata to all classes of MBS. To the
extent that the holder of Subordinated Interests is not paid compensating
interest on interest shortfalls due to prepayments, liquidations or otherwise,
the yield on the Subordinated Interests may be affected adversely.
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VALUE OF REAL ESTATE DEPENDENT ON CONDITIONS BEYOND COMPANY'S CONTROL. The
Company expects to invest in Distressed Real Properties, which are subject to
varying degrees of risk generally incident to the ownership of real property.
The underlying value of the Distressed Real Properties and the Company's income
and ability to make distributions to its stockholders are dependent upon the
ability of the Manager to operate the Distressed Real Properties in a manner
sufficient to maintain or increase revenues in excess of operating expenses and
debt service or, in the case of real property leased to a single lessee, the
ability of the lessee to make rent payments. Revenues may be adversely affected
by adverse changes in national or local economic conditions, competition from
other properties offering the same or similar services, changes in interest
rates and in the availability, cost and terms of mortgage funds, the impact of
present or future environmental legislation and compliance with environmental
laws, the ongoing need for capital improvements (particularly in older
structures), changes in real estate tax rates and other operating expenses,
adverse changes in governmental rules and fiscal policies, civil unrest, acts of
God, including earthquakes, hurricanes and other natural disasters (which may
result in uninsured losses), acts of war, adverse changes in zoning laws, and
other factors which are beyond the control of the Company.
DISTRESSED REAL PROPERTIES MAY HAVE UNLEASED SPACE. The Company intends to
invest in Distressed Real Properties, which may have significant amounts of
unleased space. The Company is subject to the risk that a property cannot be
leased to the extent necessary to produce sufficient revenue both to meet
operating expenses and debt service and to provide a return on the investment.
REAL ESTATE IS ILLIQUID AND ITS VALUE MAY DECREASE. Real estate investments
are relatively illiquid. The ability of the Company to vary its portfolio in
response to changes in economic and other conditions will be limited. No
assurances can be given that the fair market value of any of the Distressed Real
Properties will not decrease in the future.
THE COMPANY'S INSURANCE WILL NOT COVER ALL LOSSES. The Company intends to
maintain comprehensive insurance on each of the Distressed Real Properties,
including liability and fire and extended coverage, in amounts sufficient to
permit the replacement of the properties in the event of a total loss, subject
to applicable deductibles. The Company will endeavor to obtain coverage of the
type and in the amount customarily obtained by owners of properties similar to
the Distressed Real Properties. There are certain types of losses, however,
generally of a catastrophic nature, such as earthquakes, floods and hurricanes,
that may be uninsurable or not economically insurable. Inflation, changes in
building codes and ordinances, environmental considerations, and other factors
also might make it infeasible to use insurance proceeds to replace a property if
it is damaged or destroyed. Under such circumstances, the insurance proceeds
received by the Company might not be adequate to restore its economic position
with respect to the affected Distressed Real Property.
PROPERTY TAXES DECREASE RETURNS ON REAL ESTATE. Each Distressed Real
Property will be subject to real and, in some instances, personal property
taxes. The real and personal property taxes on properties in which the Company
invests may increase or decrease as property tax rates change and as the
properties are assessed or reassessed by taxing authorities. If property taxes
increase, the Company's ability to make expected distributions to its
stockholders could be adversely affected.
COMPLIANCE WITH AMERICANS WITH DISABILITIES ACT AND OTHER CHANGES IN
GOVERNMENTAL RULES AND REGULATIONS MAY BE COSTLY. Under the Americans with
Disabilities Act of 1990 (the "ADA"), all public properties are required to meet
certain federal requirements related to access and use by disabled persons.
Distressed Real Properties acquired by the Company may not be in compliance with
the ADA. If a property is not, the Company will be required to make
modifications to such property to bring it in compliance, or face the
possibility of an imposition of fines or an award of damages to private
litigants. In addition, changes in governmental rules and regulations or
enforcement policies affecting the use and operation of the Distressed Real
Properties, including changes to building codes and fire and life-safety codes,
may occur. If the Company were required to make substantial modifications at the
Distressed Real Properties to comply with the ADA or other changes in
governmental rules and regulations, the Company's ability to make expected
distributions to its stockholders could be adversely affected.
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REAL PROPERTIES WITH HIDDEN ENVIRONMENTAL PROBLEMS WILL INCREASE COSTS AND
MAY CREATE LIABILITY FOR THE COMPANY. Operating costs and the value of the
Distressed Real Property may be affected by the obligation to pay for the cost
of complying with existing environmental laws, ordinances and regulations, as
well as the cost of future legislation. Under various federal, state and local
environmental laws, ordinances and regulations, a current or previous owner or
operator of real property may be liable for the costs of removal or remediation
of hazardous or toxic substances on, under or in such property. Such laws often
impose liability whether or not the owner or operator knew of, or was
responsible for, the presence of such hazardous or toxic substances. Therefore,
an environmental liability could have a material adverse effect on the
underlying value of the Distressed Real Property, the Company's income and cash
available for distribution to Stockholders.
The Company intends to obtain Phase I environmental assessments on all
Distressed Real Properties prior to their acquisition by the Company. The
purpose of Phase I environmental assessments is to identify potential
environmental contamination that is made apparent from historical reviews of the
properties, reviews of certain public records, preliminary investigations of the
sites and surrounding properties, and screening for the presence of hazardous
substances, toxic substances and underground storage tanks. It is possible,
however, that these reports will not reveal all environmental liabilities or
that there are material environmental liabilities of which the Company is
unaware.
REAL PROPERTIES WITH KNOWN ENVIRONMENTAL PROBLEMS MAY CREATE LIABILITY FOR
THE COMPANY. The Company may invest in real estate, or mortgage loans secured
by real estate, with known environmental problems that materially impair the
value of the real estate. If so, the Company will take certain steps to limit
its liability for such environmental problems, such as creating a special
purpose entity to own such real estate. Despite these steps, there are risks
associated with such an investment. Ocwen Financial has only limited experience
in investing in real estate with known environmental risks. The Company intends
to limit its investments in environmentally distressed real property to no more
than 10% of the Company's portfolio.
FOREIGN REAL PROPERTIES ARE SUBJECT TO CURRENCY CONVERSION RISKS AND
UNCERTAINTY OF FOREIGN LAWS. In addition to purchasing Distressed Real
Properties, the Company may invest in real estate, or mortgage loans secured by
real estate, located outside the United States. Investing in real estate located
in foreign countries creates risks associated with the uncertainty of foreign
laws and markets. Moreover, investments in foreign assets are subject to
currency conversion risks. Ocwen Financial has no experience in investing in
foreign real estate, but the Company believes that Ocwen Financial's experience
with distressed assets will be helpful to the management of such assets. The
Company intends to limit its investments in foreign real estate to no more than
25% of the Company's portfolio.
GREATER RISKS OF LOSS FROM MULTIFAMILY RESIDENTIAL, COMMERCIAL AND
CONSTRUCTION LENDING ACTIVITIES. The Company may originate or acquire loans
secured by existing commercial real estate or multifamily residential real
estate, including loans that are subordinate to first liens on such real estate.
Loans that are subordinate to first liens on real estate are subject to greater
risks of loss than first lien mortgage loans. An overall decline in the real
estate market could adversely affect the value of the property securing the
loans such that the aggregate outstanding balance of the loan made by the
Company and the balance of the more senior loan on the property exceed the value
of the property. The Company may, in some cases, seek to mitigate this risk by
providing a Mezzanine Loan to the entity that owns a property, secured by a
controlling equity interest in such owner, so that, in the event of a default,
the Company can take over the management of the property and seek to reduce the
amount of losses. There can be no assurance, however, that it will be able to do
so. Alternatively, the Mezzanine Loans could take the form of a non-voting
preferred equity investment in a single purpose entity.
The Company also may originate loans for the construction or rehabilitation
of commercial and multifamily residential real estate. Multifamily residential
and commercial real estate lending, particularly construction and rehabilitation
lending, is considered to involve a higher degree of risk than single family
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residential lending because of a variety of factors, including generally larger
loan balances, dependency on successful completion or operation of the project
for repayment, difficulties in estimating construction costs and loan terms that
often require little to no amortization of the loan over its term (typically
five years) and, instead, provide for a balloon payment at stated maturity.
Furthermore, the Mezzanine Loans and Construction Loans generally will have
higher loan to value ratios than conventional loans because of the shared
appreciation provisions. Although the borrower will have an equity investment of
10% to 15% of total project costs, such equity may not be sufficient to protect
the Company's investment.
DEFAULT RISKS ASSOCIATED WITH DISTRESSED MORTGAGE LOANS. The Company may
purchase Nonperforming and Subperforming Mortgage Loans, as well as Mortgage
Loans that have had a history of delinquencies. These Mortgage Loans may
presently be in default or may have a greater than normal risk of future
defaults and delinquencies, as compared to a pool of newly originated, high
quality loans of comparable type, size and geographic concentration. Returns on
an investment of this type depend on the borrower's ability to make required
payments (or, with respect to Subperforming Loans, the modified monthly payments
required under the applicable forbearance plan) or, in the event of default, the
ability of the loan's servicer to foreclose and liquidate the Mortgage Loan.
There can be no assurance that the servicer can liquidate a defaulted Mortgage
Loan successfully or in a timely fashion. See "Certain Legal Aspects of Mortgage
Loans and Real Property Investments."
INTEREST RATE RISKS AND OTHER RISKS FROM OWNERSHIP OF IOS, INVERSE IOS, AND
SUB IOS. The Company may acquire classes of MBS that are entitled to no (or
only nominal) payments of principal, but only to payments of interest ("IOs").
The yield to maturity of IOs is very sensitive to changes in the weighted
average life of such securities, which in turn is dictated by the rate of
prepayments on the underlying mortgage loans. In periods of declining interest
rates, rates of prepayments on mortgage loans generally increase, and if the
rate of prepayments is faster than anticipated, then the yield on IOs will be
negatively affected. Some IOs bear interest at a floating rate that varies
inversely with (and often at a multiple of) changes in a specified index
("Inverse IOs"). The Company may invest in Inverse IOs for the purpose of
hedging its portfolio of IOs. The yield to maturity of an Inverse IO is
extremely sensitive to changes in the related index. The Company also expects to
invest in Sub IOs. Interest amounts otherwise allocable to Sub IOs generally are
used to make payments on more senior classes or to fund a reserve account for
the protection of senior classes until overcollateralization or the balance in
the reserve account reaches a specified level. The yield to maturity of a Sub IO
is very sensitive not only to default losses but also to the rate and timing of
prepayments on the underlying loans. See "Operating Policies and
Objectives--Yield Considerations Related to the Company's Investments in
MBS--IOs and Inverse IOs."
REMIC RESIDUAL INTERESTS MAY GENERATE TAXABLE INCOME EXCEEDING CASH
FLOW. The Company also may invest in certain classes of MBS that are designated
as the residual interest in the related REMIC (a "REMIC Residual Interest") and
that receive principal and interest payments in excess of amounts needed to make
payments on other classes of securities or to fund a reserve account. Like
interest otherwise allocable to Sub IOs, principal and interest amounts
otherwise allocable to such REMIC Residual Interests are used to protect the
senior classes of securities from credit losses on the underlying Mortgage
Loans. Moreover, in any given year, the taxable income produced by a REMIC
Residual Interest may exceed its cash flow. See "--Legal and Tax Risks."
LIMITED AVAILABLE INVESTMENTS MAY INHIBIT COMPANY'S OBJECTIVES. The results
of the Company's operations are dependent upon the availability of opportunities
for the acquisition of assets. The Initial Investments of the Company will be
small relative to the Common Stock outstanding, and it may take considerable
time for the Company to find appropriate additional investments. In general, the
results of the Company's operations will be affected by the level and volatility
of interest rates, by conditions in the housing and financial markets, and
general economic conditions. No assurances can be given that the Company will be
successful in acquiring economically desirable assets or that the assets, once
acquired, will maintain their economic desirability. To the extent that the
Company acquires assets other than those
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detailed herein, such other acquisitions may pose risks to the Company and to
the Company's stockholders that are different from or in addition to the risks
enumerated herein.
APPROPRIATE INVESTMENTS MAY NOT BE AVAILABLE AND FULL INVESTMENT OF NET
PROCEEDS WILL BE DELAYED. A substantial portion of the net proceeds of the sale
of the Common Stock will be producing little income immediately after the
Closing. The Company intends temporarily to invest the net proceeds of this
Offering (other than those used to purchase the Initial Investments) in readily
marketable, interest-bearing securities until the Company finds appropriate
Subordinated Interests, Distressed Real Property and Other Real Estate Related
Assets in which to invest. In order fully and quickly to invest its assets in
real estate related assets, the Company expects initially to emphasize
investments in Other Real Estate Related Assets, particularly Mortgage Loans.
Once a substantial portion of the Company's assets are invested, the Company
intends to focus primarily on acquiring appropriate Subordinated Interests and
Distressed Real Property, although the Company may invest in Other Real Estate
Related Assets as opportunities arise. There can be no assurance, however, that
the Company will identify Distressed Real Properties, Subordinated Interests or
other appropriate assets that meet its investment criteria or that any such
assets will produce a return on the Company's investment. Moreover, because the
Company has identified only a small number of investments to acquire at Closing,
the Company will have broad authority to invest the remaining proceeds in
whatever Real Estate Related Assets the Company deems appropriate at the time of
their acquisition. In making these investment decisions, the Company will rely
on the Manager's recommendations and on the Guidelines. The Independent
Directors will approve and monitor compliance with the Guidelines. Subject to
the Guidelines, the Manager will have great latitude in the types of Real Estate
Related assets it may decide are proper investments for the Company. No
assurance can be made that the Manager's decisions in this regard will result in
a profit for the Company.
ECONOMIC AND BUSINESS RISKS
INTEREST RATE CHANGES MAY ADVERSELY AFFECT THE COMPANY'S INVESTMENTS. The
value of MBS is affected substantially by prepayment rates on the mortgage loans
comprising the mortgage collateral for such securities. Prepayment rates on MBS
are influenced by changes in current interest rates and a variety of economic,
geographic and other factors and cannot be predicted with certainty. In periods
of declining mortgage interest rates, prepayments on MBS generally increase. If
general interest rates also decline, the amounts available for reinvestment by
the Company during such periods are likely to be reinvested at lower interest
rates than the Company was earning on the MBS that were prepaid. MBS may
decrease in value as a result of increases in interest rates and may benefit
less than other fixed-income securities from declining interest rates because of
the risk of prepayment. In general, changes in both prepayment rates and
interest rates will change the total return on MBS, which in turn will affect
the amount available for distribution to stockholders. This volatility may be
greater with certain MBS, such as IOs and Inverse IOs, that the Company intends
to acquire. The value of adjustable rate mortgage loans and MBS paying
adjustable coupon rates, which the Company may acquire in the future, generally
will vary inversely with changes in prevailing interest rates. Under certain
interest rate or prepayment rate scenarios, the Company may fail to recoup fully
its cost of acquisition of such investments.
The Company's operating results depend in part on the difference between the
interest income earned on interest-earning assets and the interest expense
incurred in connection with its interest-bearing liabilities. Changes in the
general level of interest rates can affect the Company's income by affecting the
spread between the Company's interest-earning assets and interest-bearing
liabilities, as well as, among other things, the value of the Company's
interest-earning assets and its ability to realize gains from the sale of assets
and the average life of the Company's interest-earning assets.
Interest rates are highly sensitive to many factors, including governmental
monetary and tax policies, domestic and international economic and political
considerations, and other factors beyond the control of the Company. The Company
may employ a hedging strategy to limit the effects of changes in interest rates
on its operations, including engaging in interest rate swaps, caps, floors and
other interest rate exchange
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contracts. The use of these types of derivatives to hedge a portfolio carries
certain risks, including the risk that losses on a hedge position will reduce
the funds available for distribution to shareholders and, indeed, that such
losses may exceed the amount invested in such instruments. There is no perfect
hedge for any investment, and a hedge may not perform its intended use of
offsetting losses on an investment. Moreover, with respect to certain of the
instruments used as hedges for the Company's portfolio, the Company is exposed
to the risk that the counterparties with which the Company trades may cease
making markets and quoting prices in such instruments, which may render the
Company unable to enter into an offsetting transaction with respect to an open
position. If the Company anticipates that the income from any such hedging
transaction will not be qualifying income for REIT income test purposes, the
Company may conduct part or all of its hedging activities through a to-be-formed
corporate subsidiary that is fully subject to federal corporate income taxation.
See "Federal Income Tax Considerations--Requirements for Qualification--Income
Tests." The profitability of the Company may be adversely affected during any
period as a result of changing interest rates.
LEVERAGE CAN REDUCE INCOME AVAILABLE FOR DISTRIBUTION. After the initial
"start-up" period, the Company intends to leverage its portfolio through
borrowings, generally through the use of reverse repurchase agreements, bank
credit facilities, warehouse lines of credit on pools of real estate and
mortgage loans, mortgage loans on real estate and other borrowings. The
percentage of leverage used will vary depending on the Company's estimate of the
stability of the portfolio's cash flow. To the extent that changes in market
conditions cause the cost of such financing to increase relative to the income
that can be derived from the assets acquired, the Company may reduce the amount
of leverage it utilizes.
Although there is no specified limitation on the Company's indebtedness, in
general the Company expects the ratio of the Company's overall indebtedness (as
defined below) to its equity (as defined below) not to exceed four to one. For
these purposes "indebtedness" includes only full recourse debt of the Company,
but not any debt issued in a securitization transaction or otherwise for which
recourse is limited to a fixed pool of assets, and "equity" excludes any assets
pledged to secure any such non-recourse debt. However, the Company's Articles
and Bylaws do not limit the amount of indebtedness the Company can incur, and
the Board of Directors has the discretion to deviate from or change this
indebtedness policy at any time, without consent from or notice to the Company's
shareholders.
Leverage creates an opportunity for increased net income, but at the same
time creates risks. For example, leverage can reduce the net income available
for distributions to stockholders. The Company will leverage assets only when
there is an expectation that it will enhance returns, although there can be no
assurance that the Company's use of leverage will prove to be beneficial.
Moreover, there can be no assurance that the Company will be able to meet its
debt service obligations and, to the extent that it cannot, the Company risks
the loss of some or all of its assets.
ADVERSE CHANGES IN GENERAL ECONOMIC CONDITIONS CAN ADVERSELY AFFECT
COMPANY'S BUSINESS. The Company's success is dependent upon the general
economic conditions in the geographic areas in which a substantial number of its
investments are located. Adverse changes in national economic conditions or in
the economic conditions of the regions in which the Company conducts substantial
business likely would have an adverse effect on real estate values, interest
rates and, accordingly, the Company's business.
COMPETITION IN THE ACQUISITION OF APPROPRIATE INVESTMENTS MAY INHIBIT
COMPANY'S ABILITY TO ACHIEVE OBJECTIVES. The Company intends to engage in
highly competitive businesses. The acquisition of Subordinated Interests and
Distressed Real Properties is often based on competitive bidding. In addition,
the Company's competitors may seek to establish relationships with the financial
institutions and other firms from whom the Company intends to purchase such
assets. Many of the Company's anticipated competitors, including Goldman Sachs'
Whitehall Street Real Estate Fund, BlackRock Capital Finance, AMRESCO, General
Electric Capital Corporation, First Chicago Commercial Assets, LaSalle National
Bank, and CRIIMI MAE Inc., are significantly larger than the Company, have
established operating
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histories and procedures, may have access to greater capital and other
resources, and may have other advantages over the Company in conducting certain
businesses and providing certain services.
LEGAL AND TAX RISKS
TAX RISKS. OAIC intends to operate in a manner so as to qualify as a REIT
for federal income tax purposes. Although OAIC does not intend to request a
ruling from the Service as to its REIT status, OAIC has received an opinion of
its legal counsel that, based on certain assumptions and representations, it so
qualifies. Investors should be aware, however, that opinions of counsel are not
binding on the Service or any court. The REIT qualification opinion only
represents the view of counsel to OAIC based on counsel's review and analysis of
existing law, which includes no controlling precedent. Furthermore, both the
validity of the opinion and the continued qualification of OAIC as a REIT will
depend on OAIC's satisfaction of certain asset, income, organizational,
distribution and stockholder ownership requirements on a continuing basis. If
OAIC were to fail to qualify as a REIT in any taxable year, OAIC would be
subject to federal income tax (including any applicable alternative minimum tax)
on its taxable income at regular corporate rates, and distributions to
stockholders would not be deductible by OAIC in computing its taxable income.
Any such corporate tax liability could be substantial and would reduce the
amount of cash available for distribution to stockholders, which in turn could
have an adverse impact on the value of, and trading prices for, the Common
Stock. Unless entitled to relief under certain Code provisions, OAIC also would
be disqualified from taxation as a REIT for the four taxable years following the
year during which OAIC ceased to qualify as a REIT.
OAIC must distribute annually at least 95% of its net taxable income
(excluding any net capital gain) in order to avoid corporate income taxation of
the earnings that it distributes. In addition, OAIC will be subject to a 4%
nondeductible excise tax on the amount, if any, by which certain distributions
paid by it with respect to any calendar year are less than the sum of (i) 85% of
its ordinary income for that year, (ii) 95% of its capital gain net income for
that year, and (iii) 100% of its undistributed taxable income from prior years.
OAIC intends to make distributions to its stockholders to comply with the
95% distribution requirement and to avoid the nondeductible excise tax. However,
differences in timing between the recognition of taxable income and the actual
receipt of cash could require the Company to borrow funds or sell assets on a
short-term basis to meet the 95% distribution requirement and to avoid the
nondeductible excise tax. The requirement to distribute a substantial portion of
OAIC's net taxable income could cause OAIC (i) to sell assets in adverse market
conditions, (ii) to distribute amounts that represent a return of capital, or
(iii) to distribute amounts that would otherwise be spent on future
acquisitions, unanticipated capital expenditures, or repayment of debt. Gain
from the disposition of any asset held primarily for sale to customers in the
ordinary course of business generally will be subject to a 100% tax. In
addition, gain from the sale of securities held for less than one year and real
property (including interests in mortgages on real property) held for less than
four years generally will be nonqualifying income for purposes of the 30% gross
income test. See "Federal Income Tax Considerations -- Income Tests."
The Company expects to acquire Subordinated Interests and other debt
obligations that are deemed to have OID for federal income tax purposes, which
is generally equal to the difference between an obligation's issue price and its
redemption price. The Company also may acquire Subordinated Interests and other
debt obligations that are deemed to have market discount for federal income tax
purposes, which generally is equal to the excess of an obligation's redemption
price over the basis of the obligation at the time of purchase. The income
generated by such instruments for federal income tax purposes will consist of
amortization of the OID, the market discount and the coupon interest associated
with the instruments. OAIC will be required to recognize as income each year the
portion of the OID and market discount that accrues during that year, which will
increase the REIT distribution requirement for that year, notwithstanding the
fact that there may be no corresponding contemporaneous receipt of cash by OAIC.
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REMIC Residual Interests also may generate taxable income in excess of cash flow
or economic income in any year. In addition, certain taxable income produced by
a REMIC Residual Interest ("Excess Inclusion") may cause OAIC's stockholders to
suffer certain adverse tax consequences. See "Federal Income Tax
Considerations." Consequently, an acquisition by OAIC of Subordinated Interests,
other debt obligations that are deemed to have OID or market discount, or REMIC
Residual Interests could have the effect of requiring OAIC to incur borrowings
or to liquidate a portion of its portfolio at rates or times that OAIC regards
as unfavorable to meet the REIT distribution requirement. The Company does
intend to invest in Distressed Real Property, however, and depreciation
deductions associated with those investments should help offset the adverse tax
effects of the OID and market discount generated by the Company's other
holdings.
OWNERSHIP LIMITATION MAY RESTRICT BUSINESS COMBINATION OPPORTUNITIES. In
order for the Company to maintain its qualification as a REIT, not more than 50%
in value of its outstanding shares of capital stock may be owned, directly or
indirectly, by five or fewer individuals (as defined in the Code to include
certain entities). For the purpose of preserving the Company's REIT
qualification, the Articles of Incorporation generally prohibit direct or
indirect ownership of more than (i) 9.1% (or, with respect to Ocwen Financial,
13%) of the number of outstanding shares of Common Stock, or (ii) 9.9% of the
number of outstanding shares of any series of Preferred Stock (the "Ownership
Limitation"). The Ownership Limitation could have the effect of discouraging a
takeover or other transaction in which holders of some, or a majority, of the
shares of Common Stock might receive a premium for their shares of Common Stock
over the then prevailing market price or which such holders might believe to be
otherwise in their best interests. See "Description of Capital
Stock--Restrictions on Transfer" and "Federal Income Tax
Considerations--Requirements for Qualification."
PLANS SHOULD CONSIDER ERISA RISKS OF INVESTING IN COMMON STOCK. The
Employee Retirement Income Security Act of 1974, as amended ("ERISA"), and
section 4975 of the Code prohibit certain transactions that involve (i) certain
pension, profit-sharing, employee benefit, or retirement plans or individual
retirement accounts (each a "Plan") and (ii) the assets of a Plan. A "party in
interest" or "disqualified person" with respect to a Plan will be subject to (x)
an initial 5% excise tax on the amount involved in any prohibited transaction
involving the assets of the Plan and (y) an excise tax equal to 100% of the
amount involved if any prohibited transaction is not corrected. Consequently,
the fiduciary of a Plan contemplating an investment in the Common Stock should
consider whether the Company, any other person associated with the issuance of
the Common Stock, or any affiliate of the foregoing is or might become a "party
in interest" or "disqualified person" with respect to the Plan. In such a case,
the acquisition or holding of Common Stock by or on behalf of the Plan could be
considered to give rise to a prohibited transaction under ERISA and the Code.
See "ERISA Considerations--Employee Benefit Plans, Tax Qualified Retirement
Plans, and IRAs."
PREFERRED STOCK MAY PREVENT CHANGE IN CONTROL. The Articles of
Incorporation authorize the Board of Directors to issue up to 25 million shares
of preferred stock and to establish the preferences and rights of any shares of
preferred stock issued. Although the Company has no current intention to issue
any series of preferred stock in the foreseeable future, the issuance of any
series of preferred stock could have the effect of delaying or preventing a
change in control of the Company even if a majority of the Company's Common
Stockholders believed such change of control was in their best interest. See
"Description of Capital Stock--Preferred Stock."
VIRGINIA ANTI-TAKEOVER STATUTES MAY RESTRICT BUSINESS COMBINATION
OPPORTUNITIES. As a Virginia corporation, the Company is subject to various
provisions of the Virginia Stock Corporation Act, which impose certain
restrictions and require certain procedures with respect to certain takeover
offers and business combinations, including, but not limited to, combinations
with interested holders and share repurchases from certain holders. See "Certain
Provisions of Virginia Law and the Company's Articles of Incorporation and
Bylaws--Business Combinations" and "--Control Share Acquisitions."
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BOARD OF DIRECTORS MAY CHANGE CERTAIN POLICIES WITHOUT SHAREHOLDER
CONSENT. The major policies of the Company, including its investment policy and
other policies with respect to acquisitions, financing, growth, operations, debt
and distributions, are determined by its Board of Directors. The Board of
Directors may amend or revise these and other policies, or approve transactions
that deviate from these policies, from time to time without a vote of the Common
Stockholders. The effect of any such changes may be positive or negative. The
Company cannot change its policy of seeking to maintain its qualification as a
REIT without the approval of the holders of two-thirds of the outstanding shares
of Common Stock. See "Policies and Objectives with Respect to Certain
Activities" and "Certain Provisions of Virginia Law and of the Company's
Articles of Incorporation and Bylaws."
LOSS OF INVESTMENT COMPANY ACT EXEMPTION WOULD ADVERSELY AFFECT THE
COMPANY. The Company believes that it will not be, and intends to conduct its
operations so as not to become, regulated as an investment company under the
Investment Company Act. The Investment Company Act exempts entities that,
directly or through majority-owned subsidiaries, are "primarily engaged in the
business of purchasing or otherwise acquiring mortgages and other liens on and
interests in real estate" ("Qualifying Interests"). Under current
interpretations by the Staff of the Securities and Exchange Commission (the
"Commission"), in order to qualify for this exemption, the Company, among other
things, must maintain at least 55% of its assets in Qualifying Interests and
also may be required to maintain an additional 25% in Qualifying Interests or
other real estate-related assets. The assets that the Company may acquire
therefore may be limited by the provisions of the Investment Company Act. In
connection with its acquisition of Subordinated Interests, the Company intends,
where appropriate, to obtain foreclosure rights, by obtaining the Special
Servicing, with respect to the underlying mortgage loans, although there can be
no assurance that it will be able to do so on acceptable terms. As a result of
obtaining such rights, the Company believes that the related Subordinated
Interests will constitute Qualifying Interests for the purpose of the Investment
Company Act. The Company does not intend, however, to seek an exemptive order,
no-action letter or other form of interpretive guidance from the Commission or
its Staff on this position. If the Commission or its staff were to take a
different position with respect to whether such Subordinated Interests
constitute Qualified Interests, the Company could, among other things, be
required either (a) to change the manner in which it conducts its operations to
avoid being required to register as an investment company or (b) to register as
an investment company, either of which could have an adverse effect on the
Company and the market price for the Common Stock.
LIMITATION ON LIABILITY OF MANAGER AND OFFICERS AND DIRECTORS OF THE
COMPANY. The Articles of Incorporation of the Company contain a provision
which, subject to certain exceptions, eliminates the liability of a director or
officer to the Company or its stockholders for monetary damages for any breach
of duty as a director or officer. This provision does not eliminate such
liability to the extent that it is proved that the director or officer engaged
in willful misconduct or a knowing violation of criminal law or of any federal
or state securities law.
The Company will indemnify the Manager and its officers and directors from
any action or claim brought or asserted by any party by reason of any allegation
that the Manager or one or more of its officers or directors is otherwise
accountable or liable for the debts or obligations of the Company or its
affiliates. In addition, the Manager and its officers and directors will not be
liable to the Company, and the Company will indemnify the Manager and its
officers and directors, for acts performed pursuant to the Management Agreement,
except for claims arising from acts constituting bad faith, willful misconduct,
gross negligence or reckless disregard of their duties under the Management
Agreement. See "Management of Operations--Limits of Responsibility."
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OTHER RISKS
CONFLICTS OF INTEREST IN THE BUSINESS OF THE COMPANY.
The Company will be subject to various potential conflicts of interest
arising from its relationship with the Manager and its affiliates. With a view
toward protecting the interests of the Company's stockholders, the Articles of
Incorporation of the Company provide that, beginning ninety days after this
Offering, a majority of the Board of Directors must not be affiliates of the
Manager (the "Independent Directors").
The execution of the Management Agreement will be approved by a majority of
Independent Directors. Moreover, the renewal of the Management Agreement after
the initial two-year term will require the affirmative vote of a majority of the
Independent Directors, and a majority of the Independent Directors may terminate
the Management Agreement at any time after two years upon 60 days' notice and
payment of a termination fee. See "Management of Operations--The Management
Agreement." The Company believes that the compensation provisions of the
Management Agreement will provide an incentive for the Manager and its personnel
to seek to maximize stockholder value, by tying the Manager's incentive
compensation to Funds From Operations per share, before the incentive fee and
adjusted by adding gains (or subtracting losses) from debt restructuring and
sales of properties. See "Management of Operations--Management Fees." Funds from
Operations, as defined by the National Association of Real Estate Investment
Trusts ("NAREIT"), means net income (computed in accordance with GAAP) excluding
gains (or losses) from debt restructuring and sales of property, plus
depreciation and amortization on real estate assets, and after adjustments for
unconsolidated partnerships and joint ventures. Funds from Operations does not
represent cash generated from operating activities in accordance with GAAP and
should not be considered as an alternative to net income as an indication of the
Company's performance or to cash flows as a measure of liquidity or ability to
make distributions.
Although the Independent Directors will approve the Management Agreement,
daily operations between the Company and the Manager and its affiliates will not
be required to be approved by a majority of the Company's Independent Directors.
Instead, the majority of the Independent Directors will establish general
guidelines ("Guidelines") for the Company's investments, borrowings and
operations. On a quarterly basis, the Independent Directors will review
transactions engaged in by the Company to monitor compliance with the
Guidelines. Moreover, the Independent Directors will review the Guidelines, and
the Company's investment policies, annually. Investors should be aware that, in
conducting this review, the Independent Directors will rely primarily on
information provided to them by the Manager.
The Company has contracted (subject to the consent of the Independent
Directors) with the Bank to purchase Subordinated Interests and IOs (the
"Initial Investments") soon after the Closing for an aggregate purchase price of
approximately $36.0 million plus accrued interest. The Bank will realize a book
gain of approximately $2.5 million as a result of this sale.
The Independent Directors will be asked at a meeting of the Board to approve
this transaction and the price prior to the Closing. In their review of the
proposed transaction and price, the Independent Directors will consider the
historical information presented under "Initial Investments" and the data
concerning projected yields set forth under "Yield Considerations Related to the
Initial Investments," as well as price quotations provided by the investment
bankers, unaffiliated with the Manager, who acted as placement agents with
respect to the Initial Investments in the past. To satisfy its financial
reporting obligations, the Bank routinely secures price quotations on the
estimated trading market price for the securities that it holds, including the
Initial Investments. The price proposed for the acquisition of each of the
Initial Investments is that given to the Bank in the related price quotations
provided to the Board. Investors should understand, however, that such price
quotations are not offers to buy or sell, and are estimates of present
liquidation prices; the Company, however, expects to hold the Initial
Investments for at least four years. Investors should carefully and
independently consider the information set forth under
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"Initial Investments" and "Yield Considerations Related to the Initial
Investments," including the assumptions and scenarios shown therein.
In the future the Company will acquire Subordinated Interests, Distressed
Real Properties or Other Real Estate Related Assets from the Manager or one of
its affiliates only if a majority of the Independent Directors approve the
transaction in advance. In making each decision, the Independent Directors will
consider information provided by the Manager and such other information as they
deem appropriate to determine whether the investment is consistent with the
Guidelines, whether the price is fair and whether the investment is otherwise in
the best interest of the Company. To determine whether the price of a Distressed
Real Property is fair, the Independent Directors may consider a number of
factors, including an appraisal of an MAI appraiser who is certified or licensed
in the state and whose compensation is not dependent on the transaction. In
approving the acquisition of a Subordinated Interest or other class of MBS, the
Independent Directors will consider data such as that presented in the tables
under "Initial Investments" and "Yield Considerations Related to the Initial
Investments" as well as price quotes from investment bankers (such as the
placement agents or underwriters of such MBS). The Independent Directors are
likely to rely substantially on information and analysis provided by the Manager
to evaluate the Company's Guidelines, compliance therewith and other matters
relating to the Company's investments.
From time to time, mortgage lenders offer for sale large pools of mortgage
loans and REO Properties pursuant to a competitive bidding process. In such a
case, the Bank may choose an unaffiliated entity with which to submit a joint
bid for the pool, as long as the Bank takes title only to the mortgage loans and
not to the real estate. In the alternative the Bank may, but is not required to,
invite the Company to submit a joint bid for such a pool. If the Company and the
Bank are successful bidders on a pool of Mortgage Loans and real estate, in
general the Company would take title to the real estate and the Bank would take
title to the Mortgage Loans.
The Company may, but does not currently intend to, participate in mortgage
loans together as a co-participant with the Manager or its affiliates. To the
extent that the Company does so participate, generally, the terms of the
participation would be structured so that the Bank would service the loans for a
market servicing fee and, after such servicing fee, the remaining proceeds from
the loans would be shared pari passu in accordance with their ownership
interests in the loans. Any such co-participating transactions with the Manager
or its affiliates will be reviewed by the Independent Directors as part of their
quarterly review to ensure compliance with the Guidelines. As to risks related
to investments of these kinds see "Risk Factors--Investment Activity Risks."
The Management Agreement does not limit or restrict the right of the Manager
or any of its officers, directors, employees or affiliates from engaging in any
business or rendering services of any kind to any other person, including the
purchase of or rendering advice to others purchasing real estate assets that
meet the Company's policies and criteria.
Ocwen Financial and the Bank expect to continue to purchase Real Estate
Related Assets in the future, and have no obligation to make investment
opportunities available to the Company except with respect to Subordinated
Interests and Distressed Real Property. Moreover, the Manager and its affiliates
have no obligation to offer Subordinated Interests to the Company if the
mortgage loans collateralizing such Subordinated Interests were owned by the
Manager or one of its affiliates. As a consequence, the opportunity for the
Company to invest in Other Real Estate Related Assets will be limited if such
investment opportunities would be attractive to Ocwen Financial or one of its
affiliates. The Manager and its affiliates will not invest in a Subordinated
Interest (other than one collateralized by loans owned by the Manager or its
affiliates) or a Distressed Real Property unless a majority of the Independent
Directors have decided that the Company should not invest in such asset. In
deciding whether to invest in such an asset, the Independent Directors may
consider, among other factors, whether the asset is well-suited for the Company
and whether the Company is financially able to take advantage of the investment
opportunity.
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RISK THAT MARKET FOR COMMON STOCK WILL NOT DEVELOP. Prior to this offering,
there has not been a public market for the shares of Common Stock offered
hereby. The initial public offering price will be determined by the Company and
representatives of the Underwriters. There can be no assurance that the price at
which the shares of Common Stock will sell in the public market after the
offering will not be lower than the price at which they are sold by the
Underwriter. The Common Stock has been approved for listing on The Nasdaq Stock
Market. Quotation through The Nasdaq Stock Market does not ensure, however, that
an active market will develop for the Company's Common Stock.
NEWLY ORGANIZED CORPORATION. The Company has no operating history, and its
operating policies and strategies are untried. The Company will be dependent
upon the experience and expertise of the Manager in administering its day-to-day
operations. Certain officers, directors and employees of the Manager and its
affiliates have experience in managing distressed real estate assets and MBS,
including Subordinated Interests. However, such officers, directors and
employees have never managed a REIT. There can be no assurance that the Manager
will be able to implement successfully the strategies that the Company intends
to pursue.
EXTERNAL MANAGEMENT OF THE COMPANY. The Company will be managed by the
Manager, subject to the supervision of the Board of Directors. Thus, the Company
will depend on the services of the Manager and its officers and employees for
the success of the Company. Moreover, the Manager's personnel are employees of
Ocwen Financial or the Bank, and accordingly the Company's success depends in
part on the continuing ability of Ocwen Financial to hire and retain
knowledgeable personnel. This ability may be affected, in turn, by Ocwen
Financial's continued financial health. Finally, the Company is subject to the
risk that the Manager will terminate the Management Agreement and that no
suitable replacement can be found to manage the Company.
REGULATION OF MANAGER'S AFFILIATES. The Manager is a wholly-owned
subsidiary of Ocwen Financial, a registered savings and loan holding company
that conducts most of its operations through the Bank, a federally-chartered
savings bank. Both Ocwen Financial and the Bank are subject to extensive
government supervision and regulation, intended primarily for the protection of
depositors. In addition, each of Ocwen Financial and the Bank are subject to
changes in federal and state laws, including changes in tax laws that could
materially affect the real estate industry, as well as changes in regulations,
governmental policies and accounting principles. Such changes may increase Ocwen
Financial's and the Bank's costs of doing business and assist their competitors.
Any such added burdens may adversely affect the Manager's ability to carry out
its management functions or the Bank to provide mortgage loan servicing and
Special Servicing for the Company or may have an effect on the ability of the
Manager and its affiliates to enter into other arrangements with the Company.
OPERATING POLICIES AND OBJECTIVES
GENERAL. The Company will invest primarily in (i) Subordinated Interests in
commercial and multifamily mortgage backed securitizations ("CMBS"); (ii)
Subordinated Interests in one- to four-family residential mortgage backed
securitizations ("RMBS"); and (iii) distressed commercial and multifamily real
estate ("Distressed Real Property"), including real estate acquired in
connection with foreclosure on non-performing loans ("REO Property"). There can
be no assurances that the Company will be able to acquire such assets, that the
terms or results of such acquisitions will be beneficial to the Company, or that
the Company will achieve its objectives. See "Risk Factors."
Although the Company expects that its primary emphasis will be on the
acquisition of Subordinated Interests and Distressed Real Properties, future
acquisitions may include Other Real Estate Related Assets. Moreover, to invest
the net proceeds of the Offering efficiently in appropriate real estate assets,
the Company expects initially to emphasize the acquisition or origination of
single family residential, multifamily residential and commercial Performing
Mortgage Loans to be used as collateral for CMOs, with the Company retaining an
equity ownership interest in such Mortgage Loans. In addition, the Company may
originate or acquire Mezzanine Loans on commercial or multifamily residential
properties, secured by a
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controlling equity interest in the entity that owns the property, or make
Construction Loans to facilitate construction or rehabilitation of commercial or
multifamily residential real estate. The Company may acquire or originate
Mortgage Loans at any time in the future and may decide in the future to pursue
other available acquisition opportunities it deems suitable for the Company's
portfolio.
The Company cannot anticipate with any certainty the percentage of the
proceeds of the Offering that will be invested in each category of Real Estate
Related Assets, except that the Company does not anticipate investing more than
25% of its assets in foreign real estate and foreign loans or more than 10% of
its assets in real estate or loans with known material environmental problems.
Subject to the Guidelines, the Company has a great deal of discretion in the
manner in which to invest the proceeds of the Offering. There can be no
assurance that the Company will be successful in its investment strategy.
The Company will have no predetermined limitations or targets for
concentration of property type or geographic location. Instead, the Company
plans to make acquisition decisions through asset and collateral analysis,
evaluating investment risks on a case-by-case basis. To the extent that the
Company's assets become concentrated in a few states or a particular region, the
return on an investment in the Common Stock will become more dependent on the
economy of such states or region.
The Company intends to acquire or finance investments through the use of
leverage, consistent with maintaining an acceptable level of risk.
The Company will acquire the Initial Investments from Ocwen Financial, and
in the future may acquire additional assets from affiliates of the Manager.
OCWEN FINANCIAL'S EXPERIENCE. Ocwen Financial has experience in the
acquisition, management and disposition of distressed commercial, multifamily
and single family mortgage loans and the resultant REO Properties, and the
management of diverse real estate assets. This experience, however, has been on
behalf of the Bank, which has different investment objectives and different
investment guidelines than the Company will have. The Bank is subject to
regulation by the OTS, is funded primarily through deposits that are insured by
the FDIC and uses a different ratio of leverage than the Company expects to use.
The Bank is subject to taxation on its income, whether or not distributed, and
does not have minimum holding period requirements for its investments. The
Company, on the other hand, as a REIT, generally must hold its investments for
the long term, and cannot be a trading investor. The Company should not be
subject to income tax as long as it distributes 95% of its taxable income to its
shareholders, who have made an investment that is not insured by the FDIC.
Ocwen Financial, acting through a former subsidiary, entered the loan
resolution business in 1986, by providing private mortgage insurance for
residential loans. Since 1991, Ocwen Financial has acquired distressed loans,
including distressed commercial mortgage loans secured by apartments, shopping
centers, office buildings, hotels, and industrial properties, Ocwen Financial
has owned commercial REO properties, which it acquired by purchasing and
foreclosing on distressed mortgage loans. In the early years of its loan
resolution business, Ocwen Financial acquired distressed mortgage loans
primarily from the FDIC and the Resolution Trust Corporation, primarily in
auctions of pools of loans acquired from the large number of financial
institutions that failed during the late 1980s and early 1990s. Although
governmental agencies, such as the FDIC and HUD, continue to be potential
sources of distressed mortgage loans, in recent years Ocwen Financial has
obtained Distressed Mortgage Loans primarily from various private sector
sellers, such as banks, savings institutions, mortgage companies and insurance
companies. As a result of this experience, Ocwen Financial developed procedures,
facilities and systems to assist it in identifying, evaluating, acquiring and
managing distressed loans. Ocwen Financial also has experience in the
acquisition and management of MBS, including subordinated securities; the
majority of these, however, have been sold.
The Company believes that the availability of Ocwen Financial's resources
will assist the Company in managing Distressed Real Property, in making
investments in Subordinated Interests in CMBS and
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RMBS, and in exercising Special Servicing rights with respect to the mortgage
loans underlying such Subordinated Interests.
Although many of the Company's prospective competitors may have access to
greater capital and have other advantages, the Company believes that the
experience of Ocwen Financial in managing and resolving Distressed Real
Properties and Distressed Mortgage Loans will provide the Company with the means
to compete. No assurances can be made, however, in this regard.
THE COMPANY'S ASSETS
The discussion below describes the principal categories of assets that the
Company intends to acquire.
SUBORDINATED INTERESTS. The Company intends to acquire Subordinated
Interests in CMBS and RMBS. Mortgage-backed securities ("MBS") typically are
divided into two or more classes, sometimes called "tranches." The senior
classes are higher "rated" securities, which would be rated from low investment
grade "BBB" to higher investment grade "AA" or "AAA." The junior, subordinated
classes typically would include one or more lower rated, non-investment grade
classes, and an unrated, higher-yielding, credit support class (which generally
is required to absorb the first losses on the underlying mortgage loans).
MBS generally are issued either as collateralized mortgage obligations
("CMOs" or "CMO Bonds") or pass-through certificates ("Pass-Through
Certificates"). CMO Bonds are debt obligations of special purpose corporations,
owner trusts or other special purpose entities secured by commercial mortgage
loans or MBS. Pass-Through Certificates evidence interests in trusts, the
primary assets of which are mortgage loans. CMO Bonds and Pass-Through
Certificates may be issued or sponsored by private originators of, or investors
in, mortgage loans, including savings and loan associations, mortgage bankers,
commercial banks, investment banks and other entities. MBS are not guaranteed by
an entity having the credit status of a governmental agency or instrumentality
and generally are structured with one or more of the types of credit enhancement
described below. In addition, MBS may be illiquid. See "Risk Factors--Investment
Activity Risks--Credit and Prepayment Risks from Ownership of Subordinated
Interests in Pools of Commercial and Residential Mortgage Loans."
In most mortgage loan securitizations, a series of MBS is issued in multiple
classes in order to obtain investment-grade ratings for the senior classes and
thus increase their marketability. Each class of MBS may be issued with a
specific fixed or variable coupon rate and has a stated maturity or final
scheduled distribution date. Principal prepayments on the mortgage loans
comprising the Mortgage Collateral may cause the MBS to be retired substantially
earlier than their stated maturities or final scheduled distribution dates,
although, with respect to commercial mortgage loans, there generally are
penalties for or limitations on the ability of the borrower to prepay the loan.
Interest is paid or accrued on MBS on a periodic basis, typically monthly.
The credit quality of MBS depends on the credit quality of the underlying
Mortgage Collateral. Among the factors determining the credit quality of the
underlying mortgage loans will be the ratio of the mortgage loan balances to the
value of the properties securing the mortgage loans, the purpose of the mortgage
loans (e.g., refinancing or new purchase), the amount of the mortgage loans,
their terms and the geographic diversification of the location of the
properties, and, in the case of commercial mortgage loans, the credit-worthiness
of tenants.
Moreover, the principal of and interest on the underlying mortgage loans may
be allocated among the several classes of a MBS in many ways, and the credit
quality of a particular class results primarily from the order and timing of the
receipt of cash flow generated from the underlying mortgage loans. Subordinated
Interests carry significant credit risks. Typically, in a "senior-subordinated"
structure, the Subordinated Interests provide credit protection to the senior
classes by absorbing losses from loan defaults or foreclosures before such
losses are allocated to senior classes. Moreover, typically, as long as the more
senior tranches of securities are outstanding, all prepayments on the mortgage
loans generally are paid to
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those senior tranches, at least until the end of a lock-out period, which
typically is five years or more. In some instances, particularly with respect to
Subordinated Interests in commercial securitizations, the holders of
Subordinated Interests are not entitled to receive scheduled payments of
principal until the more senior tranches are paid in full or until the end of a
lock-out period. Because of this structuring of the cash flows from the
underlying mortgage loans, Subordinated Interests in a typical securitization
are subject to a substantially greater risk of non-payment than are those more
senior tranches. Accordingly, the Subordinated Interests are assigned lower
credit ratings, or no ratings at all. Neither the Subordinated Interests nor the
underlying mortgage loans are guaranteed by agencies or instrumentalities of the
U.S. government or by other governmental entities and accordingly are subject,
among other things, to credit risks. See "Risk Factors--Investment Activity
Risks--Credit and Prepayment Risk from Ownership of Subordinated Interests in
Pools of Commercial and Residential Mortgage Loans."
As a result of the typical "senior-subordinated" structure, the Subordinated
Interest will be extremely sensitive to losses on the underlying mortgage loans.
For example, if the Company owns a $10 million Subordinated Interest in an MBS
consisting of $100 million of underlying mortgage loans, a 7% loss on the
underlying mortgage loans will result in a 70% loss on the Subordinated
Interest. Accordingly, the holder of the Subordinated Interest is particularly
interested in minimizing the loss frequency (the percentage of the loan balances
that default over the life of the Mortgage Collateral) and the loss severity
(the amount of loss on a defaulted mortgage loans, I.E., the principal amount of
the mortgage loan unrecovered after applying any recovery to the expenses of
foreclosure and accrued interest) on the underlying mortgage loans.
The loss frequency on a pool of mortgage loans will depend upon a number of
factors, most of which will be beyond the control of the Company or the
applicable servicer. Among other things, the default frequency will reflect
broad conditions in the economy generally and real estate particularly, economic
conditions in the local area in which the underlying Mortgage Property is
located, the loan-to-value ratio of the mortgage loan, the purpose of the loan,
and the debt service coverage ratio (with respect to commercial mortgage loans).
The loss severity will depend upon many of the same factors described above, and
will also be influenced by the servicer's ability to foreclose on the defaulted
mortgage loan and sell the underlying Mortgaged Property. For a discussion of
certain legal issues affecting the servicer's ability to foreclose on a mortgage
loan, and the legal impediments to the sale of the underlying Mortgaged
Property, see "Certain Legal Aspects of Mortgage Loans and Real Property
Investments." These legal issues may extend the time of foreclosure proceedings
or may require the expenditure of additional sums to sell the underlying
Mortgaged Property, in either case increasing the amount of loss with respect to
the loan.
The Company may acquire IOs that have characteristics of Subordinated
Interests, known as Sub IOs. A Sub IO is entitled to no payments of principal;
moreover, interest on a Sub IO often is withheld in a reserve fund or spread
account and is used to fund required payments of principal and interest on the
more senior tranches. Once the balance in the spread account reaches a certain
level, interest on the Sub IO is paid to the holders of the Sub IO. These Sub
IOs provide credit support to the senior classes, and thus bear substantial
credit risks. Moreover, because a Sub IO receives only interest payments, its
yield is extremely sensitive to changes in the weighted average life of the
class, which in turn is dictated by the rate of prepayments (including as a
result of defaults) on the underlying loans. See "Risk Factors--Investment
Activity Risks--Interest Rate and Other Risks from Ownership of IOs, Inverse
IOs, and Sub IOs". Some Sub IOs are designated as REMIC Residual Interests. Such
a Sub IO typically generates Excess Inclusion or other forms of "phantom
income."
Before acquiring a Subordinated Interest, the Company performs a number of
due diligence tasks to evaluate the investment and to verify the information and
material provided by the seller. With respect to RMBS, the Manager creates two
sample pools: 1) a random sample and 2) an adverse sample, with characteristics
(such as high loan-to-value ratios or poor delinquency histories) that make them
likely to perform more poorly than the average loans in the pool under
consideration. The Manager will obtain broker's price opinions ("BPOs") from one
of its approved brokers for each of the loans in the sample pools. The Manager
evaluates each BPO to verify its reasonableness, and, if appropriate, additional
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information is obtained until the Manager is satisfied that a reasonable
determination of the value of the loan can be made. The Manager also estimates
the potential for increases or decreases in estimated property values based on
local real estate trends.
Losses on mortgage loans are measured in two ways, loss frequency and loss
severity. Loss frequency is estimated by using industry standard predictive
models, supplemented by Ocwen Financial's historical data and experience. Loss
severity is estimated by projecting the net resolution proceeds expected to be
derived from the defaulted loans based upon Ocwen Financial's proprietary
in-house computer models. This net resolution analysis reviews all potential
forms of resolution, including full payoff, discounted payoff, reinstatement,
foreclosure and sale, deed-in-lieu and sale, and takes into account, among other
things, real estate value, carrying costs (that is, property taxes, insurance
and maintenance) and average months to foreclose in the particular state.
With respect to CMBS, the Company determines on a loan-by-loan basis which
loans will undergo a full-scope review and which loans will undergo a more
streamlined "desktop analysis." Although the choice is a subjective one,
considerations that influence the choice for scope of review often include loan
size, debt service coverage ratio, loan to value ratio, loan maturity, lease
rollover, property type and geographic location. A full-scope review may
include, among other factors, a property site inspection, tenant-by-tenant rent
roll analysis, review of historical income and expenses for each property
securing the loan, a review of major leases for each property (if available);
recent appraisals (if available), engineering and environmental reports (if
available), and a BPO review. For those loans that are selected for the more
streamlined desktop analysis, the Manager's evaluation may include a review of
the property operating statements, summary loan level data, third party reports,
and a BPO review, each as available. If the Manager's review of such information
does not reveal any unusual or unexpected characteristics or factors, no further
due diligence is performed. After completing the review of the documentation and
the property inspection, the information compiled will be analyzed to determine
collateral value for each property securing the loans. Based on these factors,
the Manager will determine a resolution value for each loan for purposes of
projecting future cash flows after adjustments for estimated future losses.
Determining a resolution value is a subjective process, requiring,
ultimately, a business judgment. In making this determination, the Manager often
evaluates some of the following characteristics of the MBS: (i) the type of
collateral ("A," "B," "C" or "D" quality single family residential mortgage
collateral, multifamily mortgage collateral, or office, hotel, industrial or
retail mortgage collateral); (ii) the payment status of the underlying mortgage
(performing, non-performing or sub-performing); (iii) the actual mortgage
prepayment and default history; (iv) the ratio of the unpaid mortgage balance to
the current property value; (v) the current income and cash flows generated by
commercial real estate as compared to the debt service requirements and (vi) the
region of the country in which the collateral is concentrated. However, which of
these characteristics (if any) are important and how important each
characteristic may be to the evaluation of a particular MBS depends on the
individual circumstances. Because there are so many characteristics to consider,
each Subordinated Interest must be analyzed individually, taking into
consideration both objective data as well as subjective analysis.
After completing the foregoing evaluations, the Manager will model the
structure of the RMBS or CMBS securitization based on the disclosure documents
that reveal the payment structure of the MBS and the characteristics of the
underlying mortgage collateral. This modeling is done in order to estimate
future cash flows to be received by the Subordinated Interests, after
adjustments for estimated future losses. Using that information, the Manager
will determine the price at which it would effect the purchase of the
Subordinated Interest on behalf of the Company. Although the Manager uses
objective data to make this decision, the decision is in essence a subjective
one.
The Company also intends in many instances to acquire Special Servicing
rights with respect to the mortgage loans underlying MBS in which the Company
owns a Subordinated Interest. Such Special Servicing rights will give the
Company, among other things, some control over the timing of foreclosures on
such mortgage loans and, thus, may enable the Company to reduce losses on such
mortgage loans. No
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assurances can be made, however, that the Company will be able to acquire such
Special Servicing rights or that losses on the mortgage loans will not exceed
the Company's expectations. Although the Company's strategy is to purchase
Subordinated Interests at a price designed to return the Company's investment
and generate a profit thereon, there can be no assurance that such goal will be
met or, indeed, that the Company's investment in a Subordinated Interest will be
returned in full or at all. See "Risk Factors-- Investment Activity Risks" and
"--Economic and Business Risks."
Moreover, many of the Subordinated Interests to be acquired by the Company
will not have been registered under the Securities Act, but instead initially
were sold in private placements. Because Subordinated Interests acquired in
private placements have not been registered under the Securities Act, they will
be subject to certain restrictions on resale and, accordingly, will have more
limited marketability and liquidity.
Although there are some exceptions, most issuers of multi-class MBS elect to
be treated, for federal income tax purposes, as REMICs. The Company intends to
acquire not only Subordinated Interests that are treated as regular interests in
REMICs, but also those that are designated as REMIC Residual Interests. Unlike
regular interests in REMICs, REMIC Residual Interests typically generate Excess
Inclusion or other forms of "phantom income" that bear no relationship to the
actual economic income that is generated by a REMIC. Consequently, if a
Subordinated Interest that is designated as a REMIC Residual Interest generates
a significant amount of phantom income in any taxable year, the Company could be
required to borrow funds or to liquidate assets in order to meet the REIT
distribution requirement for such taxable year.
Subordinated Interests (other than REMIC Residual Interests and Sub IOs)
generally are issued at a significant discount to their outstanding principal
balance, which gives rise to OID for federal income tax purposes. The Company
will be required to accrue the OID as taxable income over the life of the
related Subordinated Interest on a level-yield method in advance of the receipt
of the related cash flow. The OID income attributable to a Subordinated Interest
generally will increase the Company's REIT distribution requirement in the early
years of the Company's ownership of the Subordinated Interest even though the
Company may not receive the related cash flow from the Subordinated Interest
until a later taxable year. As a result, the Company could be required to borrow
funds or to liquidate assets in order to satisfy the REIT distribution
requirement for any taxable year. See "Risk Factors--Legal Risks--Tax Risks."
There can be no assurance that the Company's strategy for investing in
Subordinated Interests will be successful.
COMMERCIAL MORTGAGE-BACKED SECURITIES. It is expected that many of the
Subordinated Interests acquired by the Company will be Subordinated Interests in
CMBS. The Mortgage Collateral supporting CMBS may be mortgage pass-through
securities (discussed below) or pools of whole loans. Of the interests in CMBS
that the Company acquires, most will be Subordinated Interests, but the Company
also may purchase more senior tranches or combined tranches of first-loss and
more senior CMBS.
Unlike RMBS, which typically are backed by thousands of single family
mortgage loans, CMBS are backed generally by a more limited number of commercial
or multifamily mortgage loans with larger principal balances than those of
single family mortgage loans. As a result, a loss on a single mortgage loan
underlying a CMBS will have a greater negative effect on the yield of such CMBS,
especially the Subordinated Interests in such CMBS.
The Company believes that there will be opportunities to invest in
Subordinated Interests in CMBS. Increasingly, owners of commercial mortgage
loans are choosing to securitize their portfolios. However, no assurances can be
made that appropriate opportunities for investment in CMBS will continue to be
available.
RESIDENTIAL MORTGAGE-BACKED SECURITIES. The Company intends to acquire
Subordinated Interests in RMBS backed by "non-conforming" mortgage loans, that
is, one- to four-family mortgage loans that do not qualify for sale to FHLMC or
FNMA. Typically, non-conforming mortgage loans do not meet agency guarantee
criteria because their principal balance exceeds agency limits (e.g., $214,600
is the current
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single-family mortgage loan limit of both FNMA and FHLMC). Sometimes the
mortgage loans or the borrower does not meet other agency credit underwriting
standards.
The process of a single-family mortgage loan securitization is similar to
the process of a commercial mortgage loan securitization. As in CMBS, a typical
RMBS series allocates the cash flow on the underlying mortgage loans so that the
Subordinated Interests shield the more senior classes from losses due to
defaults on the underlying residential mortgage loans, resulting in
substantially greater credit risk to the Subordinated Interests.
In addition to creating credit support for the more senior classes, another
general goal in allocating cash flows from the mortgage loans to the various
classes of a securitization, particularly an RMBS issuance, is to create certain
tranches on which the expected cash flows have a higher degree of predictability
than the cash flow on the underlying mortgage loans. As a general matter, the
more predictable the cash flow is on a particular RMBS tranche, the lower the
anticipated yield will be on that tranche at the time of issuance relative to
prevailing market yields on certain other RMBS. As part of the process of
creating more predictable cash flows on certain tranches of a non-conforming
mortgage loan securitization, one or more tranches generally must be created
that absorb most of the changes in the cash flows from the Mortgage Collateral.
The yields on these tranches generally are higher than prevailing market yields
on mortgage-backed securities with similar expected average lives. Because of
the uncertainty of the cash flows on these tranches, the market prices of, and
yields on, these tranches are more volatile.
Although Subordinated Interests in RMBS bear substantial credit risk,
because of the "shifting interest" structure typically provided, such
Subordinated Interests (other than Sub IOs) tend to be less subject to a
substantial prepayment risk. A shifting interest structure shifts all
prepayments of principal to the more senior, generally investment-grade, RMBS
classes (for at least five years for fixed-rate mortgage loans and ten years for
adjustable-rate mortgage loans) in order to increase the outstanding percentage
of subordination. After this initial period during which prepayments are shifted
to the more senior RMBS classes, prepayments then are made pro rata or more
likely phased in over a five-year period until all classes are receiving their
pro rata share. The net effect on the subordinated classes is a degree of call
protection because the principal amounts of the subordinated classes are not
reduced by prepayments of the mortgage loans, generally for at least five years.
The "shifting interest" mechanism creates a Subordinated Interest in RMBS with a
longer but more predictable average life.
The Company may acquire Subordinated Interests in RMBS secured by lower
credit quality mortgage loans known as "B," "C" and "D" mortgage loans. B, C and
D mortgage loans are loans made to borrowers who have credit histories of a
lower overall quality than "A" borrowers. These credit histories generally
result from previous repayment difficulties, brief job histories, previous
bankruptcies or other causes. Except with respect to loans originated under
programs sponsored by HUD, the loan-to-value ratio for a B, C and D mortgage
loan is typically significantly lower than the loan-to-value ratio of an "A"
mortgage loan, and the pass-through coupon of a B, C and D mortgage loan is
typically higher than the coupon on an A mortgage loan. As a result of the
typically lower loan-to-value ratios and higher yields on B, C and D mortgage
loans, the Company believes these RMBS with B, C and D mortgage loan collateral
may justify accepting the higher credit risk associated with such borrowers.
Although the RMBS market has matured, the Company believes that acquisition
opportunities continue to be available in Subordinated Interests in RMBS. The
Company will seek, among other things, to manage the credit risks associated
with making this type of investment through certain credit underwriting
procedures (that is, a review of the expected economic performance of, and risks
associated with, such interests) and through leverage. No assurance can be given
that any of the foregoing developments actually will occur.
SPECIAL SERVICING. Unlike the owner of mortgage loans, the owner of
Subordinated Interests in RMBS or CMBS ordinarily cannot control the servicing
of the underlying mortgage loans. The Company intends, however, generally to
acquire Special Servicing rights with respect to the mortgage loans
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underlying Subordinated Interests it purchases. Acquiring these rights will give
the Company control of the underlying mortgage loans within certain parameters.
The terms of Special Servicing agreements vary considerably, and the Company
cannot predict with certainty the precise terms of the Special Servicing
agreements into which it will enter. In general, however, the Company will
attempt to negotiate Special Servicing agreements that will permit the Company
to service, or to direct the servicing of, mortgage loans that are more than
90-days delinquent. At that point, the Company would have the right (and the
obligation) to decide whether to begin foreclosure proceedings or to seek
alternatives to foreclosure, such as forbearance agreements, partial payment
forgiveness, repayment plans, loan modification plans, loan sales and loan
assumption plans. Thus, the Company will have within its control, subject to
obligations to the related senior classes, some ability to minimize losses on
mortgage loans underlying Subordinated Interests owned by the Company.
Because the Operating Partnership generally will be the entity that acquires
the Subordinated Interests, it also will acquire the related Special Servicing
rights. The Operating Partnership intends to assign to the Bank, all of its
Special Servicing rights and obligations (other than the right to direct
foreclosure). It is expected that most or all of the Special Servicing
compensation will be paid to the Bank, and thus the Company may benefit from the
ability to direct certain of the Special Servicing activities but not from
receipt of material amounts of Special Servicing fees.
The Bank, a wholly-owned subsidiary of Ocwen Financial, has experience in
servicing distressed loans, has been approved as a servicer by HUD, FHLMC and
FNMA and has been rated in the second highest applicable category, "above
average," by Fitch Investors Service, Inc. ("Fitch"), as a special servicer of
commercial mortgage loans. Moreover, Standard & Poor's and Moody's have rated
the Bank as a servicer of single family residential loans.
Because the acquisition and Special Servicing of distressed real estate is
one of the Bank's business focuses, the Bank has an established network of real
estate professionals throughout the United States to assist its asset management
activities. The Bank maintains working relationships with approved engineers,
environmental consultants and real estate brokers nationwide, and calls upon
these local advisors for assistance when appropriate.
The legal aspects of the mortgage loans that underlie the Subordinated
Interests owned and to be acquired by the Company affect the value of those
assets. For a discussion of certain legal aspects of mortgage loans, see
"Certain Legal Aspects of Mortgage Loans and Real Property."
DISTRESSED REAL PROPERTIES. The Company believes that under appropriate
circumstances the acquisition of commercial and multifamily real estate acquired
by a mortgage lender at foreclosure, or by receipt of a deed in lieu of
foreclosure ("REO Properties") and other underperforming and otherwise
distressed commercial and multifamily real estate (together with REO Properties,
"Distressed Real Properties") offers significant opportunities to the Company.
The Company expects to acquire Distressed Real Properties solely for its own
portfolio. From time to time, however, the Company and a co-investor may submit
a joint bid to acquire a pool of Distressed Real Property in order to enhance
the prospects of submitting a successful bid. If successful, the Company and the
co-investor generally would split up the acquired assets in an agreed-upon
manner, although in certain instances the Company and the co-investor may
continue to have a joint interest in the acquired assets.
The Company's policy will be to conduct an investigation and evaluation of
the properties in a portfolio of Distressed Real Property before purchasing such
a portfolio. Prior to purchasing assets, the Manager will generally identify and
contact real estate brokers and/or appraisers in the market area of the subject
properties to obtain rent and sale comparables and BPOs for each asset in a
portfolio. This information is used to supplement due diligence that is
performed by the Manager's employees.
The Company's due diligence will generally include the review of market
studies for each market within a portfolio. The studies typically will include
area economic data, employment trends, absorption
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rates and market rental rates. Due diligence will also include site inspections
by the Manager's employees or agents of most properties in a portfolio and a
review of all available asset files and documentation. To the extent possible
those will include examinations of available legal documents, litigation files,
correspondence, title reports, operating statements, appraisals and engineering
and environmental reports. The information compiled is then analyzed to
determine a valuation for each property.
The property valuation process utilizes a variety of tools which may include
various proprietary financial models that have been developed by Ocwen Financial
and will be available to the Company through the Management Agreement. Sources
of information examined to determine value may include: (a) current and
historical operating statements; (b) existing appraisals; (c) BPOs; (d) rent and
sales comparables; (e) industry statistics and reports regarding operating
expenses such as those compiled by the Institute of Real Estate Management; (f)
leases; and (g) deferred maintenance observed during site inspections or
described in structural reports, reports and correspondence found in the loan
files.
The Manager develops projections of net operating income and cash flows
taking into account lease rollovers, tenant improvement costs and leasing
commissions. The Manager will compare its estimates of revenue and expenses to
historical operating statements and estimates provided in BPOs, appraisals and
general industry and regional statistics. Market capitalization rates and
discount rates are then applied to the cash flow projections to estimate values.
These values are then compared to available appraisals, BPOs and market sale
comparables to determine recommended bid prices for each asset. The bids take
into account projected holding periods, capital costs and projected profit
expectations. Recommended bid prices are then reviewed with senior management
and a decision whether to bid is made. The amount offered by the Company
generally will be the price that the Manager estimates is sufficient to generate
an acceptable risk-adjusted return on the Company's investment.
After the Company acquires Distressed Real Property, the Company's goal will
be to improve management of the property so as to increase the cash flow from
the property. If cash flows can be increased and the property stabilized, the
Company may begin to seek an opportunity to sell the property. Although the
period during which the Company will hold Distressed Real Properties will vary
considerably from asset to asset, the Company believes that most such properties
will be held in its portfolio more than four years and generally fewer than ten
years.
If the Company is offered the opportunity to purchase a Distressed Real
Property that is likely to be held for fewer than four years, the Company
intends to establish a corporation in which the Operating Partnership will hold
a 95% non-voting ownership interest to make the purchase. Such a corporation
will not be eligible for taxation as a qualified REIT subsidiary, and any
profits that it earns on its activities will be subject to federal corporate
income tax before they are distributable to the Company. If the Company
purchases a Distressed Real Property with the intent to hold it in the Operating
Partnership for more than four years, but an opportunity arises to sell the
property sooner, the Company will consider certain strategies, such as a
like-kind exchange, to reduce any negative tax consequences relating to the
sale.
Although the Company believes that a permanent market for the acquisition of
Distressed Real Property has emerged in recent years within the private sector,
there can be no assurance that the Company will be able to acquire the desired
amount and type of Distressed Real Property in future periods or that there will
not be significant inter-period variations in the amount of such acquisitions.
See "Risk Factors--Investment Activity Risks--Available Investments." Moreover,
there can be no assurance that the Company will be effective in making any asset
acquired more valuable than the price paid to acquire it. See "Risk
Factors--Investment Activity Risks."
PERFORMING MORTGAGE LOANS FOR SECURITIZATION. The Company intends to
purchase single family residential, multifamily residential and commercial
Performing Mortgage Loans, to pool such loans in a special purpose entity, and
to issue CMOs secured by such mortgage loans. The Company would retain the
equity ownership interest in the Mortgage Loans, subject to the CMO debt,
thereby creating the economic equivalent of a Subordinated Interest.
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DISTRESSED MORTGAGE LOANS. The Company may purchase Nonperforming or
Subperforming Mortgage Loans, particularly those secured by commercial
properties. In general, the Company will foreclose on such Mortgage Loans in
order to acquire title to the underlying Distressed Real Properties. See
"Certain Legal Aspects of Mortgage Loans and Real Property Investments."
CONSTRUCTION FINANCING AND LOANS SUBJECT TO PRIOR LIENS. The Company may
take advantage of opportunities to provide construction or rehabilitation
financing on commercial property, lending generally 85% to 90% of total project
costs, and taking a first lien mortgage to secure the debt ("Construction
Loans"). The Company also may invest in loans that are subordinate to first lien
mortgage loans on commercial real estate ("Mezzanine Loans"). For example, on a
commercial property subject to a first lien mortgage loan with a principal
balance equal to 70% of the value of the property, the Company could lend the
owner of the property (typically a partnership) an additional 15% to 20% of the
value of the property. Typically the loan would be secured, either by the
property subject to the first lien (giving the Company a second lien position)
or by a controlling equity interest in the owner. If the equity interest is
pledged, then the Company would be in a position to make decisions with respect
to the operation of the property in the event of a default by the owner. These
Construction and Mezzanine Loans generally would provide the Company with the
right to receive a stated interest rate on the loan balance plus a percentage of
net operating income or gross revenues from the property, payable to the Company
on an ongoing basis, and a percentage of any increase in value of the property,
payable upon maturity or refinancing of the loan, or otherwise would allow the
Company to charge an interest rate that would provide an attractive risk-
adjusted return.
SALE LEASEBACK TRANSACTIONS. In addition, the Company may participate in
sale leaseback transactions, in which the Company would purchase improved or
unimproved real estate and then lease such real estate back to the seller under
a long-term triple net lease. The Company also may provide financing necessary
to build commercial improvements on the land, to refinance existing debt on the
property or to provide additional funds to operate the business. After
participating in a number of these transactions, the Company may pool the leased
real estate, and issue debt backed by the real estate and the related leases in
a securitization transaction.
OTHER MBS. The Company may invest not only in classes of Subordinated
Interests but also in other classes of MBS. For example, the Company may invest
in IOs, which are entitled to no (or only nominal) payments of principal, but
only to payments of interest. The holder of an IO may be entitled to receive a
stated rate of interest on a notional principal balance equal to the principal
balance of the Mortgage Collateral, that portion that bears interest in excess
of a certain rate, or one more classes of that MBS (such as where the Mortgage
Collateral (or portion thereof) carries an 8.5% interest rate after servicing
costs, and the holders of the other classes are entitled to receive 8.0%
interest, leaving 0.5% for the holder of the IO). Alternatively, the holder of
an IO may be entitled to a variable rate of interest on a nominal principal
balance that adjusts based upon adjustment in the interest rate of the
underlying Mortgage Collateral.
Because IOs often pay at a relatively small rate of interest on a large
notional principal balance, an accelerated reduction of that principal balance
will have an adverse effect on the anticipated yield to maturity of such IO.
Accordingly, if the underlying Mortgage Collateral prepays (including
prepayments as a result of default and repurchases by the seller) at a rate
faster than anticipated, the weighted average life of the IO will be reduced,
and the yield to maturity adversely affected. Conversely, if the underlying
Mortgage Collateral prepays at a rate slower than anticipated, the weighted
average life of the IO will be extended, with the consequent positive effect on
the anticipated yield to maturity.
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Residential mortgage loans typically do not have any prepayment penalty,
with the result that prepayments tend to increase during periods of falling
interest rates, and decrease during periods of rising interest rates. However,
prepayments are dependent upon a number of other factors as well (such as the
number of jobs available in the area, general economic conditions and the
borrower's need for additional cash). Commercial loans often carry prepayment
restrictions, or require that the borrower pay a prepayment penalty (which
generally is not for the benefit of the holder of the IO). In any event, it is
very difficult to predict the prepayment pattern for any particular Mortgage
Collateral, which makes it harder to predict the actual yield with respect an
IO. See "Yield Considerations Related to the Company's Investments-- IOs and
Inverse IOs," "Yield Considerations Related to the Initial Investments--Yield on
the DLJ IOs" and "Risk Factors--Investment Activity Risks--Risks from Ownership
of IOs, Inverse IOs, and Sub IOs."
The Company also may invest in Inverse IOs, which bear interest at a
floating rate that varies inversely with (and often at a multiple of) changes in
a specified index. The yield to maturity of a class of Inverse IOs is not only
very sensitive to the rate of prepayments on the underlying Mortgage Collateral,
but also changes in the related index. See "Yield Considerations Related to the
Company's Investments--IOs and Inverse IOs" and "Risk Factors--Investment
Activity Risks--Risks from Ownership of IOs, Inverse IOs, and Sub IOs."
FOREIGN REAL PROPERTIES. In addition to purchasing Distressed Real
Properties, the Company may acquire or originate Mortgage Loans secured by real
estate located outside the United States or purchase such real estate, but the
Company does not intend to invest more than 25% of the portfolio in foreign real
estate. Investing in real estate located in foreign countries creates risks
associated with the uncertainty of foreign laws and markets and risks related to
currency conversion. Ocwen Financial has no experience in investing in foreign
real estate, but the Company believes that Ocwen Financial's experience with
distressed assets will be helpful in the management of such assets. The Company
may be subject to foreign income tax with respect to its investments in foreign
real estate. However, any foreign tax credit that otherwise would be available
to the Company for U.S. federal income tax purposes will not flow through to the
Company's stockholders.
REAL PROPERTY WITH KNOWN ENVIRONMENTAL PROBLEMS. The Company may acquire or
originate mortgage loans secured by real estate with known environmental
problems that materially impair the value of the property, or purchase such real
estate. If so, the Company will take certain steps to limit its liability for
such environmental problems, but there are risks associated with such an
investment. Ocwen Financial has little experience in investing in real estate
with known environmental risks. The Company does not intend to invest more than
10% of its portfolio in environmentally distressed real estate.
PORTFOLIO MANAGEMENT
The following describes some of the investment management practices that the
Company may employ from time to time to earn income, facilitate portfolio
management (including managing the effect of maturity or interest rate
sensitivity) and mitigate risk (such as the risk of changes in interest rates).
There can be no assurance that the Company will not amend or deviate from these
policies or adopt other policies in the future.
LEVERAGE AND BORROWING. The Company intends to leverage its assets through
the use of reverse repurchase agreements, bank credit facilities, mortgage loans
on real estate and other borrowings, when there is an expectation that such
leverage will benefit the Company. However, the Company does not intend to
borrow funds from the Manager or its affiliates. If changes in market conditions
cause the cost of such financing to increase relative to the income that can be
derived from securities purchased with the proceeds thereof, the Company may
reduce the amount of leverage it utilizes.
Leverage creates an opportunity for increased income but, at the same time,
creates special risks. For example, leveraging magnifies changes in the net
worth of the Company and affects the amounts available
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for distribution to stockholders. Although the amount owed will be fixed, the
Company's assets may change in value during the time the debt is outstanding.
Leverage will create interest expenses for the Company which can exceed the
revenues from the assets retained.
To the extent the revenues derived from assets acquired with borrowed funds
exceed the interest expense the Company will have to pay, the Company's net
income will be greater than if borrowing had not been used. Conversely, if the
revenues from the assets acquired with borrowed funds are not sufficient to
cover the cost of borrowing, the net income of the Company will be less than if
borrowing had not been used, and therefore the amount available for distribution
to stockholders will be reduced. See "Risk Factors--Economic and Business
Risks--Use of Leverage."
Under certain circumstances, and notwithstanding adverse interest rate or
market conditions, the Company may use leverage to obtain sufficient cash to
make required distributions of dividends or to fund share repurchases and tender
offers when such leveraging is deemed to be in the best interests of
stockholders. Such situations may arise if OAIC's status as a REIT or its
ability to maintain minimum liquidity levels is endangered.
REVERSE REPURCHASE AGREEMENTS. The Company intends to enter into reverse
repurchase agreements, which are agreements under which the Company would sell
assets to a third party with the commitment that the Company repurchase such
assets from the purchaser at a fixed price on an agreed date. Reverse repurchase
agreements may be characterized as loans to the Company from the other party
that are secured by the underlying assets. The repurchase price reflects the
purchase price plus an agreed market rate of interest.
BANK CREDIT FACILITIES. The Company intends to borrow money through various
bank credit facilities, which will have varying interest rates, which may be
fixed or adjustable, and varying maturities.
MORTGAGE LOANS ON REAL ESTATE OWNED BY THE COMPANY. The Company expects to
borrow funds secured by mortgages on the Company's real estate, including any
Distressed Real Properties owned by the Company.
CMOS AND WAREHOUSE LINES OF CREDIT. The Company intends to originate or
purchase Performing Mortgage Loans and to issue non-REMIC CMOs collateralized by
such loans. Moreover, the Company may issue non-REMIC CMOs collateralized by
previously issued CMOs or MBS in transactions known as "resecuritizations." The
Company will structure a resecuritization in the same manner as a
securitization. The collateral (whether whole mortgage loans or MBS) will be
transferred into a qualified REIT subsidiary, and that entity will issue
non-REMIC CMOs. The transaction will be structured as debt, with the issuer
retaining an equity interest in the collateral. In a debt transaction, the
principal balance of the collateral (whether whole loans or MBS) will exceed the
principal balance of the CMOs. Thus, once the CMOs are paid in full, the issuer
will own the collateral free of the lien of the CMO debt. During the period in
which the Company is acquiring mortgage loans for securitization, the Company is
likely to borrow funds secured by such loans pursuant to warehouse lines of
credit.
INTEREST RATE MANAGEMENT TECHNIQUES. The Company may engage in a variety of
interest rate management techniques for the purpose of managing the effective
maturity or interest rate of its assets. These techniques also may be used to
attempt to protect against declines in the market value of the Company's assets
resulting from general trends in debt markets. Any such transaction is subject
to risks, and may limit the potential earnings on the Company's investment in
real estate related assets. Such techniques may include puts and calls on
securities or indices of securities, Eurodollar futures contracts and options on
such contracts, interest rate swaps (the exchange of fixed-rate payments for
floating-rate payments), or other such transactions. Applicable REIT
qualification rules may limit the Company's ability to use these techniques,
except through a corporate subsidiary that is fully subject to corporate income
taxation. See "Federal Income Tax Considerations--Requirements for
Qualification--Income Tests."
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MANAGEMENT OF OPERATIONS
OCWEN FINANCIAL CORPORATION
Ocwen Financial is a diversified financial services company that is
primarily engaged in the acquisition and resolution of troubled loans and in
diverse mortgage lending activities. The activities of Ocwen Financial are
primarily conducted through the Bank. At December 31, 1996, Ocwen Financial had
$2.48 billion of total assets and stockholders' equity of $203.6 million.
Ocwen Financial is a Florida corporation, organized in February 1988 in
connection with its acquisition of the Bank. During the early 1990s, Ocwen
Financial sought to take advantage of the general decline in asset quality of
financial institutions in many areas of the country and the large number of
failed savings institutions during this period by establishing its distressed
loan acquisition and resolution program. This program commenced with the
acquisition of distressed single-family residential loans in 1991 and was
expanded to cover the acquisition and resolution of distressed multi-family
residential and commercial real estate loans in 1994.
Ocwen Financial is a registered savings and loan holding company subject to
regulation by the OTS. The Bank is subject to regulation by the OTS, as its
chartering authority, and by the FDIC as a result of its membership in the SAIF,
which insures the Bank's deposits up to the maximum extent permitted by law. The
Bank also is subject to certain regulation by the Federal Reserve Board and
currently is a member of the FHLB of New York, one of the 12 regional banks
which comprise the FHLB System.
Ocwen Financial's executive offices are located at 1675 Palm Beach Lakes
Boulevard, West Palm Beach, Florida 33401, and the telephone number of its
executive offices is (561) 681-8000.
THE MANAGER
The Manager is a wholly-owned subsidiary of Ocwen Financial. The following
tables set forth certain information about the directors and executive officers
of the Manager. Each of the directors of the Manager is also a director of the
Company. Other than William C. Erbey and John R. Erbey, who are brothers, no
director or executive officer is related by blood, marriage or adoption to any
other director or executive officer of the Company or the Manager or any of
their respective affiliates.
DIRECTORS OF THE MANAGER
<TABLE>
<CAPTION>
NAME AGE POSITION(S) HELD
- ----------------------------------------------------- --- -----------------------------------------------------
<S> <C> <C>
William C. Erbey..................................... 47 Chairman, President and Chief Executive Officer
John R. Erbey........................................ 55 Managing Director and Secretary
Christine A. Reich................................... 35 Managing Director and Chief Financial Officer
</TABLE>
EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS
<TABLE>
<CAPTION>
NAME AGE POSITION(S) HELD
- ----------------------------------------------------- --- -----------------------------------------------------
<S> <C> <C>
John R. Barnes....................................... 54 Senior Vice President
Joseph A. Dlutowski.................................. 32 Senior Vice President
Jordan C. Paul....................................... 35 Senior Vice President
</TABLE>
The principal occupation for the last five years of each director of the
Manager, as well as some other information, is set forth below.
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Mr. William C. Erbey has served as President and Chief Executive Officer of
Ocwen Financial since January 1988, and became Chairman of the Board in
September 1996. Mr. Erbey has served as Chairman of the Board of the Bank since
February 1988 and as President and Chief Executive Officer of the Bank since
June 1990. From 1983 to 1995, Mr. Erbey served as a Managing General Partner of
The Oxford Financial Group ("Oxford"), a private investment company, in charge
of merchant banking. From 1975 to 1983, he served at General Electric Credit
Corporation ("GECC") in various capacities, most recently as President and Chief
Operating Officer of General Electric Mortgage Insurance Corporation, a
subsidiary of General Electric Company engaged in the mortgage insurance
business. Mr. Erbey also served as Program General Manager of GECC's Commercial
Financial Services Department and its subsidiary Acquisition Funding
Corporation. He received a Bachelor of Arts in Economics from Allegheny College
and a Master of Business Administration from the Harvard Graduate School of
Business Administration.
Mr. John R. Erbey has served as a Managing Director of Ocwen Financial since
January 1993, and as Secretary of Ocwen Financial since June 1989, and served as
Senior Vice President of Ocwen Financial from June 1989 until January 1993. Mr.
Erbey has served as a director of the Bank since 1990, as a Managing Director of
the Bank since May 1993 and as Secretary of the Bank since July 1989.
Previously, he served as Senior Vice President of the Bank from June 1989 until
May 1993. From 1971 to 1989, he was a member of the Law Department of
Westinghouse Electric Corporation and held various management positions,
including Associate General Counsel and Assistant Secretary from 1984 to 1989.
Previously, he held the positions of Assistant General Counsel of the Industries
and International Group and Assistant General Counsel of the Power Systems Group
of Westinghouse. Mr. Erbey is a graduate of Allegheny College and Vanderbilt
University School of Law.
Ms. Reich has served as a Managing Director of Ocwen Financial since June
1994 and as Chief Financial Officer of Ocwen Financial since January 1990. Ms.
Reich served as Senior Vice President of Ocwen Financial from January 1993 until
June 1994 and as Vice President from January 1990 until January 1993. Ms. Reich
has served as a director of the Bank since 1993, as a Managing Director of the
Bank since June 1994 and as Chief Financial Officer of the Bank since May 1990.
Ms. Reich served as Senior Vice President of the Bank from May 1993 to June 1994
and Vice President of the Bank from January 1990 to May 1993. From 1987 to 1990,
Ms. Reich served as an officer of another subsidiary of Ocwen Financial. Prior
to 1987, Ms. Reich was employed by KPMG Peat Marwick LLP, most recently in the
position of Manager. She is a graduate of the University of Southern California.
The background for the last five years of each executive officer of the
Company who is not a director is set forth below.
Mr. Barnes has served as Senior Vice President of Ocwen Financial and the
Bank since May 1994 and served as Vice President of the same from October 1989
to May 1994. Mr. Barnes was a Tax Partner in the firm of Deloitte Haskins &
Sells from 1986 to 1989 and in the firm of Arthur Young & Co. from 1979 to 1986.
Mr. Barnes was the Partner in Charge of the Cleveland Office Tax Department of
Arthur Young & Co. from 1979 to 1984. Mr. Barnes is a graduate of Ohio State
University.
Mr. Dlutowski was elected a Senior Vice President of Ocwen Financial and the
Bank on March 21, 1997. Mr. Dlutowski joined the Bank in October 1992 and served
as a Vice President from May 1993 until March 1997. From 1989 to 1991, Mr.
Dlutowski was associated with the law firm of Baker and Hostetler. He holds a
Bachelor of Science from the University of Pennsylvania, and a Master of
Business Administration and Juris Doctor from the University of Pittsburgh.
Mr. Paul has served as Senior Vice President of the Bank since March 1996
and served as Vice President of the same since February 1994. Mr. Paul joined
the Bank in September 1993 establishing its commercial loan acquisition and
asset management divisions. From 1990 to 1993 Mr. Paul was an attorney in the
real estate department of the Philadelphia law firm of Wolf, Block, Schorr and
Solis-Cohen. From 1983 to 1987 Mr. Paul served in a variety of positions with
The Travelers Insurance Company in their Real Estate Investment Department. Mr.
Paul received a bachelor of science degree from the Wharton School
37
<PAGE>
of the University of Pennsylvania and a juris doctor degree from the University
of Pennsylvania Law School.
Officers, directors and other personnel have significant experience in
mortgage finance and the operation of commercial real estate; however, none has
previously managed a REIT. See "Risk Factors-- Newly Organized Corporation."
THE MANAGEMENT AGREEMENT
The Company will enter into the Management Agreement with the Manager for an
initial term expiring on the second anniversary of the Closing Date. Thereafter,
successive extensions, each for a period not to exceed one year, may be made by
agreement between the Company and the Manager, subject to the affirmative vote
of a majority of the Independent Directors. The Company may terminate, or
decline to extend the term of, the Management Agreement without cause at any
time after the first two years upon 60 days written notice by a majority vote of
the Independent Directors or by a vote of the holders of a majority of the
outstanding shares of Common Stock; provided, that a termination fee, equal to
the sum of the base management fee and incentive management fee earned during
the twelve months preceding such termination, will be due. In addition, the
Company has the right to terminate the Management Agreement upon the occurrence
of certain specified events, including a material breach by the Manager of any
provision contained in the Management Agreement, without the payment of any
termination fee. If the Management Agreement is terminated for any reason, Ocwen
Financial will have certain registration rights with respect to its Common
Stock.
The Manager at all times will be subject to the supervision of the Company's
Board of Directors and will have only such functions and authority as the
Company may delegate to it. The Manager will be responsible for the day-to-day
operations of the Company and will perform (or cause to be performed) such
services and activities relating to the assets and operations of the Company as
may be appropriate, including (or cause to be performed):
(i) serving as the Company's consultant with respect to formulation of
investment criteria and preparation of policy Guidelines by the Board of
Directors;
(ii) representing the Company in connection with the purchase and
commitment to purchase assets, the sale and commitment to sell assets, and
the maintenance and administration of its portfolio of assets;
(iii) furnishing reports and statistical and economic research to the
Company regarding the Company's activities and the services performed for
the Company by the Manager;
(iv) monitoring and providing to the Board of Directors on an ongoing
basis price information and other data obtained from certain nationally
recognized dealers that maintain markets in assets identified by the Board
of Directors from time to time, and providing data and advice to the Board
of Directors in connection with the identification of such dealers;
(v) providing executive and administrative personnel, office space and
office services required in rendering services to the Company;
(vi) administering the day-to-day operations of the Company and
performing and supervising the performance of such other administrative
functions necessary in the management of the Company as may be agreed upon
by the Manager and the Board of Directors, including the collection of
revenues and the payment of the Company's debts and obligations and
maintenance of appropriate computer services to perform such administrative
functions;
(vii) communicating on behalf of the Company with the holders of any
equity or debt securities of the Company as required to satisfy the
reporting and other requirements of any governmental bodies or agencies or
trading markets and to maintain effective relations with such holders;
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<PAGE>
(viii) to the extent not otherwise subject to an agreement executed by the
Company, designating a servicer for mortgage loans sold to the Company and
arranging for the monitoring and administering of such servicers;
(ix) counseling the Company in connection with policy decisions to be
made by the Board of Directors;
(x) engaging in hedging activities on behalf of the Company, consistent
with the Company's status as a REIT and with the Guidelines;
(xi) upon request by and in accordance with the directions of the Board
of Directors, investing or reinvesting any money of the Company; and
(xii) counseling the Company regarding the maintenance of its status as a
REIT and monitoring compliance with the various REIT qualification tests and
other rules set out in the Code and Treasury Regulations thereunder.
PORTFOLIO MANAGEMENT. The Manager will perform portfolio management
services on behalf of OAIC and the Operating Partnership pursuant to the
Management Agreement with respect to the Company's investments. Such services
will include, but not be limited to, consulting the Company on purchase and sale
opportunities, collection of information and submission of reports pertaining to
the Company's assets, interest rates, and general economic conditions, periodic
review and evaluation of the performance of the Company's portfolio of assets,
acting as liaison between the Company and banking, mortgage banking, investment
banking and other parties with respect to the purchase, financing and
disposition of assets, and other customary functions related to portfolio
management. The Manager may enter into subcontracts with other parties,
including its affiliates, to provide any such services to the Company.
MONITORING SERVICING. The Manager will perform monitoring services on
behalf of the Company pursuant to the Management Agreement with respect to the
Company's portfolio of Special Servicing rights. Such monitoring services will
include, but not be limited to, the following activities: negotiating Special
Servicing agreements; serving as the Company's consultant with respect to the
Special Servicing of mortgage loans; collection of information and submission of
reports pertaining to the mortgage loans and to moneys remitted to the Manager
or the Company; acting as a liaison between the servicers of the mortgage loans
and the Company and working with servicers to the extent necessary to improve
their servicing performance; with respect to mortgage loans for which the
Company is Special Servicer, periodic review and evaluation of the performance
of each servicer to determine its compliance with the terms and conditions of
the related servicing agreement; review of and recommendations as to fire
losses, easement problems and condemnation, delinquency and foreclosure
procedures with regard to mortgage loans; review of servicers' delinquency,
foreclosures and other reports on mortgage loans; supervising claims filed under
any mortgage insurance policies; and enforcing the obligation of any servicer to
repurchase mortgage loans. The Manager may enter into subcontracts with other
parties, including its affiliates, to provide any such services for the Manager.
MANAGEMENT FEES
The Manager will receive a base management fee equal to 1% per annum,
calculated and paid quarterly based upon the Average Invested Assets of the
Company for such quarter. The term "Average Invested Assets" for any period
means the average of the aggregate book value of the assets of the Company,
including the assets of all of its direct and indirect subsidiaries, before
reserves for depreciation or bad debts or other similar noncash reserves,
computed by taking the daily average of such values during such period. The
Manager will not receive any management fee for the period prior to the sale of
the shares of Common Stock offered hereby. The base management fee is intended
to compensate the Manager for its costs in providing management services to the
Company. The Board of Directors of the
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<PAGE>
Company may adjust the base management fee in the future if necessary to align
the fee more closely with the actual costs of such services.
The Manager shall be entitled to receive incentive compensation for each
fiscal quarter in an amount equal to the product of (A) 25% of the dollar amount
by which (1)(a) Funds from Operations (before the incentive fee) of the Company
per share of Common Stock (based on the weighted average number of shares
outstanding) plus (b) gains (or minus losses) from debt restructuring and sales
of property per share of Common Stock (based on the weighted average number of
shares outstanding), exceed (2) an amount equal to (a) the weighted average of
the price per share at the initial offering and the prices per share at any
secondary offerings by the Company multiplied by (b) the Ten-Year U.S. Treasury
Rate plus five percent per annum multiplied by (B) the weighted average number
of shares of Common Stock outstanding during such period. "Funds from
Operations" as defined by the National Association of Real Estate Investment
Trusts ("NAREIT") means net income (computed in accordance with GAAP) excluding
gains (or losses) from debt restructuring and sales of property, plus
depreciation and amortization on real estate assets, and after adjustments for
unconsolidated partnerships and joint ventures. Funds from Operations does not
represent cash generated from operating activities in accordance with GAAP and
should not be considered as an alternative to net income as an indication of the
Company's performance or to cash flows as a measure of liquidity or ability to
make distributions. As used in calculating the Manager's compensation, the term
"Ten Year U.S. Treasury Rate" means the arithmetic average of the weekly average
yield to maturity for actively traded current coupon U.S. Treasury fixed
interest rate securities (adjusted to constant maturities of ten years)
published by the Federal Reserve Board during a quarter, or, if such rate is not
published by the Federal Reserve Board, any Federal Reserve Bank or agency or
department of the federal government selected by the Company. If the Company
determines in good faith that the Ten Year U.S. Treasury Rate cannot be
calculated as provided above, then the rate shall be the arithmetic average of
the per annum average yields to maturities, based upon closing asked prices on
each business day during a quarter, for each actively traded marketable U.S.
Treasury fixed interest rate security with a final maturity date not less than
eight nor more than twelve years from the date of the closing asked prices as
chosen and quoted for each business day in each such quarter in New York City by
at least three recognized dealers in U.S. government securities selected by the
Company.
The ability of the Company to generate Funds from Operations in excess of
the Ten Year U.S. Treasury Rate, and of the Manager to earn the incentive
compensation described in the preceding paragraph, is dependent upon the level
and volatility of interest rates, the Company's ability to react to changes in
interest rates and to utilize successfully the operating strategies described
herein, and other factors, many of which are not within the Company's control.
Because the Manager's employees will perform certain due diligence tasks
that purchasers of real estate (including managers of REITs) typically hire
outside consultants to perform, the Manager will be reimbursed for (or charge
the Company directly for) the Manager's out of pocket costs in performing such
due diligence on assets purchased or considered for purchase by the Company.
Moreover, the Manager will track the time its employees spend in performing such
due diligence tasks and will be entitled to reimbursement for the allocated
portion of the salary and benefits of such employees.
EXPENSES. The Company does not expect to maintain an office or to employ
full-time personnel. Instead it expects to rely on the facilities and resources
of the Manager to conduct its operations, and it will be required to pay
out-of-pocket expenses and an allocated portion of salary and benefits of the
Manager attributable to the operations of the Company. Expense reimbursement
will be made quarterly.
PAYMENT OF FEES AND EXPENSES. The management fees are payable in arrears.
The Manager's base and incentive fees and due diligence and other expenses shall
be calculated by the Manager within 45 days after the end of each quarter, and
such calculation shall be promptly delivered to the Company. The Company is
obligated to pay such fees and expenses within 60 days after the end of each
fiscal quarter.
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STOCK OPTIONS
The Company intends to adopt a non-qualified stock option plan (the "Option
Plan"), which provides for options to purchase shares of Common Stock (or, at
the election of the Company, limited partnership interests ("Units") in the
Operating Partnership that may be redeemed for cash, or, at the election of the
General Partner, shares of Common Stock on a one-for-one basis). See "Operating
Partnership-- Redemption Rights." The maximum aggregate number of shares of
Common Stock that may be issued pursuant to options granted under the Option
Plan is 5,000,000. The purpose of the Option Plan is to provide a means of
performance-based compensation in order to provide incentive for the Manager to
enhance the value of OAIC's stock.
Before Closing, the Company will grant to the Manager options under the
Option Plan, representing the right to acquire 1,687,500 Units (1,912,500
assuming the Underwriters exercise their over-allotment option), at an exercise
price per share equal to the initial offering price of the Common Stock. If the
options could be exercised immediately, they would represent 10% of the number
of shares of Common Stock outstanding after completion of this offering.
However, the options cannot be exercised immediately. One quarter of the
Manager's options become exercisable on each of the first four anniversaries of
the Closing Date. The options terminate on the tenth anniversary of the Closing
Date.
The Board of Directors may amend the Option Plan any time, except that
approval by OAIC's stockholders is required for any amendment that increases the
aggregate number of shares of Common Stock that may be issued pursuant to the
Option Plan, increases the maximum number of shares of Common Stock that may be
issued to any person, changes the class of persons eligible to receive such
options, modifies the period within which the options may be granted, modifies
the period within which the options may be exercised or the terms upon which
options may be exercised, or increases the material benefits accruing to the
participants under the plan. Unless previously terminated by the Board of
Directors, the Option Plan will terminate ten years from the Closing Date.
LIMITS OF RESPONSIBILITY
Pursuant to the Management Agreement, the Manager will not assume any
responsibility other than to render the services called for thereunder and will
not be responsible for any action of the Company's Board of Directors in
following or declining to follow its advice or recommendations. The Manager, its
directors and its officers will not be liable to the Company, any subsidiary of
the Company, the Independent Directors, OAIC's stockholders or any subsidiary's
stockholders for acts performed in accordance with and pursuant to the
Management Agreement, except by reason of acts constituting bad faith, willful
misconduct, gross negligence or reckless disregard of their duties under the
Management Agreement. The Company has agreed to indemnify the Manager, its
directors and its officers with respect to all expenses, losses, damages,
liabilities, demands, charges and claims arising from acts of the Manager not
constituting bad faith, willful misconduct, gross negligence or reckless
disregard of duties, performed in good faith in accordance with and pursuant to
the Management Agreement.
The Management Agreement does not limit or restrict the right of the Manager
or any of its officers, directors, employees or Affiliates from engaging in any
business or rendering services of any kind to any other person, including the
purchase of, or rendering advice to others purchasing, assets that meet the
Company's policies and criteria. The Manager has agreed, however, to give the
Company an exclusive right to invest in Subordinated Interests and Distressed
Real Properties, subject to certain exceptions. See "Risk Factors--Potential
Conflicts of Interest" and "--Certain Relationships; Conflicts of Interest."
CERTAIN RELATIONSHIPS; CONFLICTS OF INTEREST
The Company, on the one hand, and the Manager and its affiliates, on the
other, will enter into a number of relationships other than those governed by
the Management Agreement, some of which may
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give rise to conflicts of interest. Moreover, two of the members of the Board of
Directors of the Company and all of its officers are also employed by the
Manager or its affiliates.
The relationships between the Company, on the one hand, and the Manager and
its affiliates, on the other, will be governed by policy Guidelines to be
approved by a majority of the Independent Directors. The Guidelines establish
certain parameters for the operations of the Company, including quantitative and
qualitative limitations on the Company's assets that may be acquired. The
Guidelines are to assist and instruct the Manager and to establish restrictions
applicable to transactions with affiliates of the Manager. Transactions with
affiliates of the Manager that fall within the provisions of the Guidelines need
not be specifically approved by a majority of the Independent Directors. The
Independent Directors will, however, review the Company's transactions on a
quarterly basis to ensure compliance with the Guidelines.
Although the Independent Directors will review the Guidelines periodically
and will monitor compliance with those Guidelines, investors should be aware
that, in conducting this review, the Independent Directors will rely primarily
on information provided to them by the Manager. The Manager will obtain Price
Evaluations concerning the price for Subordinated Interests and appraisals for
Distressed Real Properties purchased from the Manager or its affiliates, but the
Independent Directors are likely to rely substantially on information and
analysis provided by the Manager to evaluate the Company's Guidelines,
compliance therewith and other matters relating to the Company's investments.
Moreover, Price Evaluations and appraisals are not always reliable indicators of
the value of assets. In particular, Price Evaluations generally are obtained
from the underwriter or placement agent of the MBS, who may have an incentive to
overstate the value of the MBS. Moreoever, the market for unregistered MBS is
illiquid, and therefore accurate prices are difficult to estimate. See "Risk
Factors--Other Risks--Conflicts of Interest in the Business of the Company."
If the Independent Directors determine in their periodic review of
transactions that a particular transaction does not comply with the Guidelines,
then the Independent Directors will consider what corrective action, if any, can
be taken. If the transaction is one with the Manager or an affiliate of the
Manager, then the Manager will be required to repurchase the asset at the
purchase price to the Company. Moreover, if transactions are consummated that
deviate from the Guidelines, then the Independent Directors will have the
option, under the terms of the Management Agreement, to terminate the Manager.
The Management Agreement does not limit or restrict the right of the Manager
or any of its officers, directors, employees or affiliates from engaging in any
business or rendering services of any kind to any other person, including the
purchase of or rendering advice to others purchasing real estate related assets
that meet the Company's policies and criteria.
Ocwen Financial and the Bank expect to continue to purchase Real Estate
Related Assets in the future and have no obligation to make investment
opportunities available to the Company except with respect to Subordinated
Interests and Distressed Real Property. Moreover, the Manager and its affiliates
have no obligation to offer Subordinated Interests to the Company if the
mortgage loans collateralizing such Subordinated Interests were owned by the
Manager or one of its affiliates. As a consequence, the opportunity for the
Company to invest in Other Real Estate Related Assets will be limited if such
investment opportunities would be attractive to Ocwen Financial or one of its
affiliates. The Manager and its affiliates will not invest in a Subordinated
Interest (other than one collateralized by loans owned by the Manager on its
affiliates) or a Distressed Real Property unless a majority of the Independent
Directors have decided that the Company should not invest in such asset. In
deciding whether to invest in such an asset, the Independent Directors may
consider, among other factors, whether the asset is well-suited for the Company
and whether the Company is financially able to take advantage of the investment
opportunity.
From time to time, mortgage lenders offer for sale large pools of mortgage
loans and REO Properties pursuant to a competitive bidding process. In such a
case, the Bank may choose an unaffiliated entity with
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which to submit a joint bid for the pool, as long as the Bank takes title only
to the mortgage loans and not the real estate.
Ocwen Financial has no obligation to reveal to the Company any business
opportunities to invest in Distressed Mortgage Loans or Other Real Estate
Related Assets (other than Distressed Real Properties and Subordinated
Interests).
The Company will purchase (subject to the consent of the Independent
Directors) the Initial Investments from Ocwen Financial for an aggregate
purchase price of approximately $36.0 million plus accrued interest, which will
result in a gain to Ocwen Financial of approximately $2.5 million.
The Company may purchase additional assets from the Manager and its
Affiliates in the future and may participate on a joint basis with the Manager
and its affiliates in investments. See "Risk Factors" Other Risks--Conflicts of
Interest in the Business of the Company. Any such purchases will be in
accordance with the Guidelines to be approved by a majority of the Company's
Independent Directors. The terms of a particular transaction, however, will not
be approved in advance by the Company's Board of Directors. The Independent
Directors will review any such transactions quarterly to ensure compliance with
the Guidelines, but in doing so they, by necessity, will rely primarily on
information and analysis provided to them by the Manager.
Ocwen Financial will purchase 1,875,000 shares of Common Stock on the
Closing Date at a price equal to the public offering price, net of any
underwriting discounts or commissions. This purchase will result in Ocwen
Financial's ownership of approximately 11.1% of the total shares offered hereby,
exclusive of the Underwriters' over-allotment option. The Manager also has
received stock options pursuant to the Company's Option Plan. See "Management of
Operations--Incentive Options."
Ocwen Financial will retain its shares of the Company for at least two years
after the Company's initial public offering of shares of Common Stock, but may
dispose of its shares any time thereafter in accordance with the provisions of
Rule 144 of the Securities Act of 1933. Notwithstanding the foregoing, if the
Company terminates the Management Agreement, Ocwen Financial may require the
Company to register the Manager's shares of Common Stock with the Commission
(and under applicable state law).
The market in which the Company expects to purchase assets is characterized
by rapid evolution of products and services and, thus, there may in the future
be relationships between the Company, the Manager, and affiliates of the Manager
in addition to those described herein.
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<PAGE>
THE COMPANY
OAIC was incorporated in the Commonwealth of Virginia in January 1997 and
will elect to be taxed as a REIT under the Code. The principal executive offices
of the Company are located at 1675 Palm Beach Lakes Boulevard, West Palm Beach,
Florida 33401. The Company's telephone number is (561) 681-8000.
DIRECTORS AND EXECUTIVE OFFICERS
The following tables set forth certain information about the directors and
executive officers of OAIC.
DIRECTORS OF OAIC
<TABLE>
<CAPTION>
NAME AGE POSITION(S) HELD
- ----------------------------------------------------- --- -----------------------------------------------------
<S> <C> <C>
William C. Erbey..................................... 47 Chairman and Chief Executive Officer
Christine A. Reich................................... 35 President and Chief Financial Officer
Timothy J. Riddiough................................. 39 Director
Robert F. Pugliese................................... 64 Director
Peter M. Small....................................... 54 Director
</TABLE>
EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS
<TABLE>
<S> <C> <C>
John R. Erbey............................. 55 Managing Director and Secretary
John R. Barnes............................ 54 Senior Vice President
Joseph A. Dlutowski....................... 32 Senior Vice President
Jordan C. Paul............................ 35 Senior Vice President
</TABLE>
The principal occupation for the last five years of each Independent
Director of the Company, as well as some other information, is set forth below.
Mr. Riddiough holds the Edward H. and Joyce Linde Career Development Chair
in Real Estate Finance at the Massachusetts Institute of Technology Center for
Real Estate, where he has taught since 1994. From 1991 to 1994, Mr. Riddiough
was an Assistant Professor in the Department of Finance at the University of
Cincinnati. He has a background in the mortgage insurance business, having
worked at Foremost Guaranty Corporation and Verex Assurance Corporation from
1984 to 1988. Mr. Riddiough's specialties include commercial mortgage and CMBS
pricing as well as mortgage disposition/workout strategy. Mr. Riddiough is
widely published, with other areas of interest that include capitalization of
REITs, option pricing and real estate valuation. He serves on the editorial
boards for the two influential academic journals in the real estate/urban
economics area and the advisory board of the Real Estate Research Institute. Mr.
Riddiough has recently consulted with several large pension fund advisors/
consultants on CMBS pricing and investment strategy. Mr. Riddiough received his
Ph.D. from the University of Wisconsin-Madison in 1991.
Mr. Pugliese has been special counsel at the law firm of Eckert Seamans
Cherin & Mellott, LLC since 1993. Previously he served as Executive Vice
President, Legal and Corporate Affairs, for Westinghouse Electric Corporation
where he was responsible for legal and environmental affairs, government and
public relations, employee communications and corporate insurance. In addition,
Mr. Pugliese served as a director of several Westinghouse subsidiaries,
including Westinghouse Credit Corporation. From 1970-1976, he served as General
Tax Counsel for Westinghouse Electric Corporation. Mr. Pugliese has an extensive
background in business and legal matters involving the manufacturing, energy,
services and broadcast sectors, as well as the environment and international
areas. Mr. Pugliese is a director of International Technology Corporation. He
has lectured on business ethics at the University of Pittsburgh, Loyola
University in Baltimore and at the University of Scranton, where he served as
chairman of the Board of Trustees. Mr. Pugliese holds bachelor's and master's
degrees from Georgetown University Law Center, and he received a bachelor's
degree in accounting from the University of Scranton.
Mr. Small served as President and Chief Executive Officer of Spaulding and
Slye Company, a commercial real estate company, for fifteen years and served as
Chairman of its Board of directors from
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<PAGE>
1992 to 1996. While he was president of Spaulding and Slye Company, Mr. Small
directed the development of over 100 commercial projects and later repositioned
the company from a development company to a service company providing
consulting, asset management and real estate services to major corporations and
financial institutions. Currently Mr. Small manages a property portfolio,
advises and invests in young companies and consults and speaks about planning
and managing real estate organizations in changing environments. He serves as a
director of the Artery Business Committee and the United Way of Massachusetts
Bay, and is Vice Chair of the Beth Israel Deaconess Medical Center Building and
Grounds Committee. Mr. Small also serves as a Trustee of Bowdoin College, where
he received a Bachelor of Arts in History in 1964.
For biographical information on Messrs. William C. Erbey, John R. Erbey,
John R. Barnes, Joseph A. Dlutowski and Jordan C. Paul and Ms. Christine A.
Reich, see "Management of Operations--The Manager."
All directors will be elected at each annual meeting of OAIC's stockholders
for a term of one year, and hold office until their successors are elected and
qualified. All officers serve at the discretion of the Board of Directors.
Although the Company may have salaried employees, it currently does not have
employees and does not expect to employ anyone as long as the Management
Agreement is in force. The Company will pay an annual director's fee to each
Independent Director equal to $20,000, with no additional fee to be paid for the
first four meetings of the Board of Directors. Each Independent Director will be
paid a fee of $1,000 for each additional meeting of the Board of Directors
attended in person by such Independent Director. All Directors will be
reimbursed for their costs and expenses in attending all meetings of the Board
of Directors. In addition, an annual fee of $2,000 will be paid to the chair of
any committee of the Board. Affiliated directors, however, will not be
separately compensated by the Company.
Directors and executive officers of OAIC will be required to devote only so
much of their time to the Company's affairs as is necessary or required for the
effective conduct and operation of the Company's business. Because the
Management Agreement provides that the Manager will assume principal
responsibility for managing the affairs of the Company, the officers of the
Company, in their capacities as such, are not expected to devote substantial
portions of their time to the affairs of the Company. However, in their
capacities as officers or employees of the Manager, or its affiliates, they will
devote such portion of their time to the affairs of the Manager as is required
for the performance of the duties of the Manager under the Management Agreement.
The Bylaws of OAIC will provide that, except in the case of a vacancy, the
majority of the members of the Board of Directors will at all times after the
issuance of the shares offered hereby be Independent Directors. Vacancies
occurring on the Board of Directors among the Independent Directors will be
filled by the vote of a majority of the directors, including a majority of the
Independent Directors.
The Articles of Incorporation of OAIC provide for the indemnification of the
directors and officers of OAIC to the fullest extent permitted by Virginia law.
Virginia law generally permits indemnification of directors and officers against
certain costs, liabilities and expenses that any such person may incur by reason
of serving in such positions as long as such person acts in good faith and in a
manner reasonably believed by him (i) to be in the best interests of the
Company, when acting in his official capacity, and (ii) not opposed to the best
interests of the Company in all other cases. Moreover, in the case of any
criminal proceedings, such person must have had no reasonable cause to believe
the conduct was unlawful. Virginia law also generally permits a corporation to
limit or eliminate the damages that may be assessed against a director or
officer of a Virginia corporation in an action by, or in the right of, the
corporation or its stockholders. OAIC has included provisions in its Articles of
Incorporation that eliminate the liabilities of directors and officers in
certain actions brought by or on behalf of stockholders. See "Description of
Common Stock--Certain Charter Provisions." Insofar as indemnification for
liabilities arising under the Securities Act of 1933 may be permitted to
directors, officers or persons controlling the Company pursuant to the foregoing
provisions, the Company has been informed that in the opinion of the Commission
such
45
<PAGE>
indemnification is against public policy as expressed in the Securities Act of
1933 and is therefore unenforceable.
DISTRIBUTION POLICY
In order to avoid corporate income taxation on the earnings that it
distributes, OAIC must distribute to its stockholders an amount at least equal
to (i) 95% of its REIT taxable income (determined before the deduction for
dividends paid and excluding any net capital gain) plus (ii) 95% of the excess
of its net income from foreclosure property over the tax imposed on such income
by the Code less (iii) any excess noncash income (as determined under the Code).
See "Federal Income Tax Considerations." The actual amount and timing of
distributions, however, will be at the discretion of the Board of Directors and
will depend upon the financial condition of OAIC in addition to the requirements
of the Code. It is anticipated that the first distribution will be made after
the first full fiscal quarter following the completion of this offering.
Subject to the distribution requirements referred to in the immediately
preceding paragraph, OAIC intends, to the extent practicable, to invest
substantially all of the principal from repayments, sales and refinancings of
the Company's assets in Distressed Real Property and Subordinated Interests.
OAIC may, however, under certain circumstances, make a distribution of
principal. Such distributions, if any, will be made at the discretion of OAIC's
Board of Directors.
It is anticipated that distributions generally will be taxable as ordinary
income to non-exempt stockholders of OAIC, although a portion of such
distributions may be designated by OAIC as long-term capital gain or may
constitute a return of capital. OAIC will furnish annually to each of its
stockholders a statement setting forth distributions paid during the preceding
year and their federal income tax status. For a discussion of the federal income
tax treatment of distributions by OAIC and certain adverse tax consequences for
stockholders associated with REMIC Residual Interests held by the Company, see
"Federal Income Tax Considerations--Taxation of the Company" and "--Taxation of
Taxable U.S. Stockholders."
YIELD CONSIDERATIONS RELATED TO THE COMPANY'S INVESTMENTS
Before purchasing any Real Estate Related Assets, the Company, with the
assistance of the Manager, will consider the expected yield of the investment.
The Company considers the expected yield of an investment to be a benchmark for
evaluating profitability of all types of assets over time. "Yield" or "yield to
maturity" is the interest rate that will make the present value of the future
cash flow from an investment equal to its price. Despite the Manager's
substantial experience in evaluating potential yields on Real Estate Related
Assets, no assurances can be given that the Company can make an accurate
assessment of the actual yield to be produced by an asset. Many factors beyond
the control of the Company are likely to influence the yield on the Company's
investments, as described in more detail below, such that the actual yield on an
investment may vary substantially from its expected yield.
SUBORDINATED INTERESTS
The yield to maturity on any class of Subordinated Interests will depend
upon, among other things, the price at which such class is purchased, the
interest rate for such class and the timing and aggregate amount of
distributions on the securities of such class, which in turn will depend
primarily on (i) whether there are any losses on the underlying loans allocated
to such class and (ii) whether and when there are any prepayments of the related
Mortgage Loans (which include both voluntary prepayments by the obligors on the
Mortgage Loans and prepayments resulting from liquidations due to defaults and
foreclosures).
The yield on the Subordinated Interests acquired by the Company will be
extremely sensitive to defaults on the mortgage loans comprising the Mortgage
Collateral for such securities and the severity of losses resulting from such
defaults, as well as the timing of such defaults and actual losses. The
Company's right as a holder of Subordinated Interests to distributions of
principal and interest will be subordinated to
46
<PAGE>
all of the more senior classes of securities. Actual losses on the Mortgage
Collateral (after default, where the proceeds from the foreclosure sale of the
real estate securing the loan are less than the unpaid balance of the mortgage
loan plus interest thereon and disposition costs) will be allocated first to the
Subordinated Interests prior to being allocated to the more senior securities.
The Subordinated Interests the Company intends to acquire with the proceeds from
this offering are subject to special risks, including a substantially greater
risk of loss of principal and non-payment of interest than the more senior
securities of such series.
If the Company acquires Subordinated Interests with an anticipated yield as
of the acquisition date based on an assumed rate of default and severity of loss
on the mortgage loans comprising the Mortgage Collateral that is lower than the
actual default rate and severity of loss, its yield will be lower than the
Company initially anticipated. In the event of substantial losses, the Company
may not recover the full amount (or, indeed, any) of its acquisition cost. The
timing of actual losses also will affect the Company's yield, even if the number
of defaults and severity of loss are consistent with the Company's anticipation.
In general, the earlier a loss occurs, the greater the adverse effect on the
Company's yield. Additionally, the yield on CMBS and RMBS collateralized by
adjustable rate mortgage loans will vary depending on the amount of and caps on
the adjustments to the interest rates of such mortgage loans. There can be no
assurance as to the rate of delinquency, severity of loss or the timing of any
such losses on mortgage loans underlying Subordinated Interests and thus as to
the actual yield received by the Company.
The aggregate amount of distributions on the Company's Subordinated
Interests and their yield also will be affected by the amount and timing of
principal prepayments on the mortgage loans comprising the Mortgage Collateral.
To the extent that more senior tranches of Subordinated Interests are
outstanding, all prepayments of principal on the underlying mortgage loans
typically will be paid to the holders of more senior classes, and typically none
(or very little) will be paid to the Company during the first five years, and in
some cases a longer period, after the original issue date of the related
Subordinated Interests. This subordination of the Subordinated Interests to more
senior classes may affect adversely the yield on the Subordinated Interests
acquired by the Company. Even if there are no actual losses on the mortgage
loans, interest and principal payments are made on the more senior classes
before interest and principal are paid with respect to the Subordinated
Interests. Typically, interest deferred on Subordinated Interests is payable on
subsequent payment dates to the extent funds are available, but such deferral
does not itself bear interest. Such deferral of interest will reduce the actual
yield on the Company's Subordinated Interests.
Because the Company will acquire Subordinated Interests at a significant
discount from their outstanding principal balance, if the Company estimates the
yield on a security based on a faster rate of payment of principal than actually
occurs, the Company's yield on that security will be lower than the Company
anticipated. Whether and when there are any principal prepayments on the
Mortgage Loans will be affected by a variety of factors, including, without
limitation, the terms of the Mortgage Loans, the level of prevailing interest
rates, the availability of mortgage credit and economic, tax, legal and other
factors. Principal prepayments on Mortgage Loans secured by multifamily
residential and commercial properties are likely to be affected by lock-out
periods and prepayment premium provisions applicable to each of the Mortgage
Loans, and by the extent to which the Servicer is able to enforce such
prepayment premium provisions. Moreover, the yield to maturity on such
Subordinated Interests may also be affected by any extension of the scheduled
maturity dates of the Mortgage Loans as a result of modifications of the
Mortgage Loans by the Servicer, if permitted.
The timing of any prepayments on the mortgage loans underlying MBS owned by
the Company may significantly affect the Company's yield to maturity, even if
the average rate of principal payments is consistent with the Company's
expectation. In general, the earlier a prepayment of principal of the mortgage
loans, the greater the effect on an investor's yield. The effect on the
Company's yield of principal payments occurring at a rate higher (or lower) than
the rate anticipated by the Company during any particular period may not be
fully offset by a subsequent like decrease (or increase) in the rate of
principal payments.
47
<PAGE>
Because the rate and timing of principal payments on the underlying mortgage
loans will depend on future events and on a variety of factors, no assurances
can be given as to such rate or the timing of principal payments on the
Subordinated Interests the Company owns or acquires.
DISTRESSED REAL PROPERTIES
The yield on the Company's investments in Real Properties, including
Distressed Real Properties, will depend upon the price that the Company pays for
such investments, the costs of capital improvements and other costs of managing
the properties, the level of rents and other income generated by the properties,
the length of time between acquisition and disposition and the price at which
the Company ultimately disposes of such properties. The yield of such an
investment may be adversely affected by factors beyond the Company's control,
such as adverse changes in economic conditions, neighborhood characteristics and
competition from other properties offering the same or similar services. See
"Risk Factors--Investment Activity Risks--General Risks of Investing in Real
Properties." The Company will rely on the substantial experience of Ocwen
Financial, made available to the Company through the Management Agreement, in
acquiring, managing and disposing of Distressed Real Property, and in predicting
and managing problems that arise. See "Management of Operations." No assurances
can be given, however, that the Company will be successful in this endeavor.
MORTGAGE LOANS
The yield to maturity on the Company's investment in Mortgage Loans will
depend, among other things, upon (i) whether there are any losses on such
Mortgage Loans, (ii) whether and when there are any prepayments of such Mortgage
Loans, (iii) the interest rates on such Mortgage Loans, and (iv) the purchase
price of such Mortgage Loans.
The yield to maturity on all Mortgage Loans will be sensitive to defaults by
the borrower and the severity of the losses that might result from such
defaults. Construction and Mezzanine Loans will be particularly sensitive to
defaults because they generally have higher loan to value ratios than
traditional mortgage loans. The borrower generally will have an equity
investment of 10% to 15% of total project costs, but if the borrower defaults
there can be no assurance that losses will not exceed such amount. Because the
borrower's equity may not be adequate to protect the Company's investment, the
Company's yield on such loans is particularly sensitive to defaults.
If the Company acquires a Mortgage Loan at a significant discount from its
outstanding principal balance and the Company estimates the yield on the
Mortgage Loan based on a faster rate of payment of principal than actually
occurs, the Company's yield on that Mortgage Loan will be lower than the Company
anticipated. Conversely, if the Company acquires a Mortgage Loan at a
significant premium to its outstanding principal balance, estimating the yield
on such Mortgage Loan based on a slower rate of payment of principal than
actually occurs, the Company's yield on that Mortgage Loan will be lower than
anticipated.
Whether and when there are any principal prepayments on the Mortgage Loans
will be affected by a variety of factors, including, without limitation, the
terms of the Mortgage Loans, the level of prevailing interest rates, the
availability of mortgage credit and economic, tax, legal and other factors.
Principal prepayments on Mortgage Loans secured by multifamily residential and
commercial properties are likely to be affected by lock-out periods and
prepayment premium provisions applicable to each of the Mortgage Loans, and by
the extent to which the Servicer is able to enforce such prepayment premium
provisions. Moreover, the yield to maturity on Mortgage Loans may also be
affected by any extension of the scheduled maturity dates of the Mortgage Loans
as a result of modifications of the Mortgage Loans by the servicer, if
permitted.
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<PAGE>
IOS AND INVERSE IOS
The Company's earnings resulting from its investments in IOs and Inverse IOs
will be extremely sensitive to changes in the prepayment rates on the underlying
mortgage loans, and investments in Inverse IOs will be very sensitive to changes
in the index used to calculate the interest on such classes.
The yield on IOs declines as prepayments on the underlying mortgage loans
increase. As market interest rates decline, prepayments on the underlying loans
typically increase as borrowers refinance their mortgage loans, although
commercial and multifamily loans typically have provisions that prohibit or
provide disincentives for prepayments for specified periods. Prepayment rates on
mortgage loans on which there is no prepayment penalty or prepayment "lock out"
period (as is typical for single-family residential loans) may be particularly
sensitive to changes in interest rates and, therefore, quite volatile. Faster
than anticipated prepayment rates can result in a loss of part or all of the
purchase price for the IO.
The Company intends to invest in Inverse IOs, interest on which is payable
at a floating rate that varies inversely with (and often at a multiple of) a
specified index, such as the prime rate, one-month, three-month or six-month
LIBOR, or a U.S. Treasury rate. Generally, if the index exceeds a certain level,
the Inverse IO receives no payments. Moreover, Inverse IOs generally have a cap
on the interest rate payable on such class.
Investors in Inverse IOs are subject to the risk that higher than
anticipated levels of the index could result in actual yields to investors that
are significantly lower than the anticipated yields, and that the interest rate
on the class will be 0% at or above specified levels of the index. In addition,
the interest rate on an Inverse IO cannot exceed its specified maximum rate,
regardless of the level of the index. Further, high levels of the index
(especially in combination with fast prepayment rates on the Mortgage Loans) may
result in the failure of the Company to recover fully its investments in Inverse
IOs. For example, the holder of an Inverse IO with a per annum interest rate
equal to 8.5% minus one-month LIBOR, subject to a maximum rate of 8.5%, would
receive no interest if one-month LIBOR were to equal or exceed 8.5%. Moreover,
under no circumstance will such Inverse IO accrue interest at a rate greater
than 8.5% per annum.
Changes in the index may not correlate with changes in mortgage interest
rates. It is possible that lower prevailing mortgage interest rates (which would
be expected to result in faster prepayments) could occur concurrently with a
higher level of the index, thereby compounding the negative effects of each
separate factor on the yields to investors in the Inverse IOs. Conversely,
higher prevailing mortgage interest rates (which would be expected to result in
slower prepayments) could occur concurrently with a lower level of the index.
It is highly unlikely that the index will remain constant at any level. The
timing of changes in the level of the index may affect the actual yield to the
Company, even if the average level is consistent with the Company's expectation.
In general, the earlier a change in the level of the index, the greater the
effect on the Company's yield. As a result, the effect on the Company's yield of
the index level that is higher (or lower) than the rate anticipated by the
Company during earlier periods is not likely to be offset by a later equivalent
reduction (or increase).
INITIAL INVESTMENTS
GENERAL
The Company has contracted (subject to the consent of the Independent
Directors) with the Bank to purchase the Subordinated Interests and other
classes of MBS described below (the "Initial Investments") for an aggregate cash
price equal to approximately $36.0 million plus accrued interest (14.4% of the
expected net proceeds of this Offering). In addition, on May 1, 1997, Ocwen
Financial acquired a Subordinated Interest (the "Supplemental Initial
Investment") for $9.1 million for the purpose of providing an additional
investment for the Company. Subject to the approval of the Independent Directors
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<PAGE>
Ocwen Financial will sell the Supplemental Initial Investment to the Company for
Ocwen Financial's purchase price, plus accrued interest.
The purchase price for the Initial Investments and Supplemental Initial
Investment was derived by considering a number of factors, including the amount
and timing of potential net cash flows on the Initial Investments, the range of
possible returns on such purchases and the risks associated with such purchases,
including the risk that the ultimate return will be significantly affected by
losses, if any, realized on the underlying mortgage loans and other factors that
are not controlled by the Company, such as prepayment experience on the
underlying mortgage loans. These factors may result in a below market rate of
return or a loss on the purchase price in certain situations. See "Risk
Factors--Credit and Prepayment Risks from Ownership of Subordinated Interests in
Pools of Commercial and Residential Mortgage Loans."
The Bank will realize a book gain of approximately $2.5 million on the sale
of the Initial Investments to the Company. The sale of the Initial Investments
and Supplemental Initial Investment to the Company will be subject to the
consent of the Independent Directors. The Company will account for the Initial
Investments in accordance with SFAS No. 115.
This Section contains summary descriptions of the terms of the MLMC Series
1993-M1 and the DLJ Series 1993-MF17 securities, taken from the prospectus and
prospectus supplement for each such transaction (the "Underlying Prospectuses"),
the servicing reports provided to the Company by the trustees of such series
(the "Reports"). Such information, which is peculiarly within the control of the
trustee, servicers and issuers of such securities, has not been independently
confirmed by the Company, Ocwen Financial or the Underwriters, and is all of the
information on the subject that the Company possesses or can acquire without
unreasonable effort or expense.
MLMC, SERIES 1993-M1, CLASSES B AND C
The Initial Investments include Merrill Lynch Mortgage Capital Inc.,
Multifamily Mortgage Pass-Through Certificates, Series 1993-M1, Class B and
Class C (the "MLMC Subordinated Interests"), which were issued on September 28,
1993. The securities to be purchased represent 100% of the outstanding principal
balance of each class purchased. The MLMC Subordinated Interests were acquired
by the Bank on August 11, 1995, have a book value as of April 30, 1997 of
approximately $21.4 million and will be acquired by the Company for
approximately $23.7 million plus accrued interest.
The following table shows each class of MBS issued as part of MLMC Series
1993-M1, including the MLMC Subordinated Interests, as well as other classes of
MBS that are not being sold to the Company. The table indicates the interest
rate at which interest accrues on each class (the "Pass-Through Rate"), the
principal balance as of September 1993 (the "Initial Principal Balance") and the
principal balance as of April 30, 1997. Only Classes B and C are being sold to
the Company.
MLMC, SERIES 1993-M1
CLASSES B AND C
<TABLE>
<CAPTION>
PRINCIPAL
BALANCE
INITIAL AS OF
PASS-THROUGH PRINCIPAL APRIL 30,
DESIGNATION RATE BALANCE 1997
- ------------------------------------------------------ --------------- ----------- ----------
<S> <C> <C> <C>
Class A(1) (2) $230,300,000 $92,180,259
MLMC SUBORDINATED INTERESTS:
CLASS B (3) 23,288,000 23,288,000
CLASS C (3) 5,176,596 5,176,596
Class R(1) (4) (4) (4)
</TABLE>
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- ------------------------
(1) The Class A and Class R Securities are not being sold to the Company.
(2) The Class A Securities accrue interest at a per annum rate based on the Net
Mortgage Rate (as defined below) of the MLMC Mortgage Loans (as defined
below).
(3) The Class B and Class C Securities accrue interest at a per annum rate equal
to the weighted average of the Net Mortgage Rates on the related mortgage
loans (the ("MLMC Mortgage Loans"). With respect to each MLMC Mortgage Loan,
the "Net Mortgage Rate" is the interest rate on such MLMC Mortgage Loan
minus 0.192% per annum, which is used to pay servicing and trustee fees. As
of April 1, 1997, the weighted average of the Net Mortgage Rate on the MLMC
Mortgage Loans was equal to 8.3661% per annum.
(4) The Class R Securities have no principal balance and bear no interest.
STRUCTURE AND SUBORDINATION. Each of the MLMC Subordinated Interests is
subordinated in right of payments of principal and interest and protects the
Class A Securities from losses on the MLMC Mortgage Loans. In general, on any
distribution date, all principal will be distributed to the Class A Securities,
and not to the MLMC Subordinated Interests, as long as the Class A Securities
represent at least 67% of the scheduled principal balance of the MLMC Mortgage
Loans, and at any time thereafter when the principal balance of the Class A
Securities rises above 70%, until it is reduced again to 67%. On distribution
dates other than those described in the previous sentence, the Class A
Securities generally will receive only a percentage of available principal. The
percentage generally equals a fraction, the numerator of which is the principal
balance of the Class A Securities, and the denominator of which is the scheduled
principal balance of the MLMC Mortgage Loans. The MLMC Subordinated Interests
receive principal only to the extent it is not required to be distributed to the
Class A Securities. To date, no principal has been distributed to the MLMC
Subordinated Interests.
Moreover, on any distribution date, no interest is distributed to the MLMC
Subordinated Interests until principal and interest allocable to Class A for
that distribution date has been distributed. Thus, if there are any losses on
the MLMC Mortgage Loans, interest otherwise distributable on the MLMC
Subordinated Interests will be reduced by the amount of such losses, and that
cash will be used to make principal and interest payments to Class A. From
September 1995 through April 30, 1997, $7,277,471 has been distributed as
interest to Class B and $1,617,680 has been distributed as interest to Class C.
In addition, as losses are incurred on the MLMC Mortgage Loans, the principal
balance of Class C, and then Class B, will be reduced, until the outstanding
principal balance of each such class has been reduced to zero.
As of April 1, 1997, there have been no reported realized losses on the MLMC
Mortgage Loans. However, the servicer has reported that two MLMC Mortgage Loans,
representing approximately 3.83% by principal balance of the MLMC Mortgage
Loans, currently are in foreclosure. Any losses that result from these
foreclosures (or any others) will be allocated to the MLMC Subordinated
Interests in reduction of their aggregate principal balance, and thus will
adversely affect the yield on the MLMC Subordinated Interests.
MLMC MORTGAGE LOANS. The MLMC Mortgage Loans, which underlie the MLMC
Subordinated Interests, as well as Classes A and R, which are not being sold to
the Company, had an aggregate principal balance as of September 1, 1993 of
$258,764,596 and an aggregate principal balance as of April 1, 1997 of
$120,644,855. At origination, most of the MLMC Mortgage Loans had ten year terms
and bore interest at a fixed interest rate that was subject to a one-time
adjustment at year five. As of April 1, 1997, the interest rates on most of
these loans have been adjusted, so that such loans currently bear interest at a
rate that is fixed until maturity. However, one MLMC Mortgage Loan is still
subject to a one-time adjustment, and three MLMC Mortgage Loans are adjustable
rate loans subject to periodic interest rate adjustments.
51
<PAGE>
Forty-one of the MLMC Mortgage Loans, representing 98.06% of the MLMC
Mortgage Loans as of April 1, 1997 by principal balance, are balloon loans,
which provide for little or no amortization prior to stated maturity. Only nine
MLMC Mortgage Loans fully amortize over their respective terms.
The following table sets forth the range of interest rates on the MLMC Loans
(the "Mortgage Rates") as of April 1, 1997.
MORTGAGE RATES AS OF APRIL 1, 1997
<TABLE>
<CAPTION>
AGGREGATE PERCENT OF
RANGE OF NUMBER OF APRIL 1, 1997 CURRENT
MORTGAGE RATES (%) MORTGAGE LOANS BALANCE POOL BALANCE
- ----------------------------------------------------------------- ------------------- --------------- -------------
<S> <C> <C> <C>
7.00 ..................................................... 1 6,039,784 5.01%
7.01 to 8.00................................................... 9 27,196,836 22.54%
8.01 to 9.00................................................... 23 45,322,503 37.57%
9.01 to 10.00................................................... 12 38,416,935 31.84%
10.01 to 11.00................................................... 5 3,668,797 3.04%
--
--------------- ------
Total...................................................... 50 120,644,855 100.00%
--
--
--------------- ------
--------------- ------
</TABLE>
Weighted Average Mortgage Rate: 8.5581%
The following table sets forth the range of years in which the MLMC Mortgage
Loans are scheduled to mature:
YEARS OF SCHEDULED MATURITY
<TABLE>
<CAPTION>
AGGREGATE PERCENT OF
NUMBER OF APRIL 1, 1997 CURRENT
RANGE OF YEARS MORTGAGE LOANS BALANCE POOL BALANCE
- ----------------------------------------------------------------- ------------------- --------------- -------------
<S> <C> <C> <C>
1996*............................................................ 2 7,656,647 6.35%
1997............................................................. 18 45,329,305 37.57%
1998............................................................. 17 55,437,406 45.95%
1999............................................................. 6 7,470,751 6.19%
2000 to 2004..................................................... 3 2,642,645 2.19%
2005 to 2009..................................................... 2 444,737 0.37%
2018............................................................. 1 689,026 0.57%
2020............................................................. 1 974,338 0.81%
--
--------------- ------
Total...................................................... 50 120,644,855 100.00%
--
--
--------------- ------
--------------- ------
</TABLE>
- ------------------------
* With respect to two MLMC Mortgage Loans, with an aggregate principal balance
as of April 1, 1997 of $7,656,647, representing approximately 6.35% by
principal balance of the MLMC Mortgage Loans, the scheduled maturity date
(on which date a balloon payment was due) has passed without payments in
full. The borrowers have continued to make monthly payments as though the
servicer has extended the maturity date, although no formal extension
agreement has been executed.
Weighted Average months to scheduled maturity: 16 months.
The MLMC Mortgage Loans are secured by first liens on multifamily
residential properties (the "MLMC Mortgaged Properties"). When the MLMC
Subordinated Interests were originally issued, they were secured by 103 MLMC
Mortgage Loans. However, one MLMC Mortgage Loan was repurchased and 52 MLMC
Mortgage Loans have paid in full, leaving only 50 MLMC Mortgage Loans in the
pool. Forty-two of these remaining MLMC Mortgage Loans, representing 74.69% of
the MLMC Mortgage Loans as of April 1, 1997 by principal balance, are secured by
Mortgaged Properties located in New York State. Two Mortgage Loans, representing
13.35% by principal balance, are located in California, and the remaining
Mortgaged Properties are located in Florida, Georgia, Kansas, Missouri and New
Jersey. Twenty of the MLMC Mortgage Properties, representing security for 31.30%
of the MLMC Mortgaged Loans by principal balance, are cooperatively owned.
52
<PAGE>
The following table sets forth certain information, obtained from the
servicer of the MLMC Mortgage Loans, about the MLMC Properties, as of April 1,
1997, except as otherwise indicated.
<TABLE>
<CAPTION>
MORTGAGE
LOAN
LOAN COOPERATIVELY PRINCIPAL 1995 1995
NUMBER OWNED LOCATION BALANCE NOI(3) DSCR(4)
-------- ----------------- ----------------- ----------- --------- -------------
<S> <C> <C> <C> <C> <C>
7773.......................................... No Queens, NY 468,124 94,992(5) 1.95(5)
7906.......................................... No Queens, NY 447,197 N/A N/A
18663......................................... Yes Brooklyn, NY 406,070 N/A N/A
23010......................................... Yes Manhattan, NY 1,383,002 146,346 1.01
24505......................................... No Manhattan, NY 16,729 268,288 4.88
24539......................................... No Manhattan, NY 4,503,200 932,642 2.03
25486......................................... No Queens, NY 14,158 N/A N/A
418988........................................ No Manhattan, NY 18,151 N/A N/A
469734........................................ No Miami Beach, FL 130,226 196,607 2.03
478073........................................ No Manhattan, NY 961,424 N/A N/A
479535........................................ Yes Queens, NY 913,066 130,830 1.45
482018........................................ No Brooklyn, NY 1,013,359 N/A N/A
482893........................................ No Manhattan, NY 550,873 65,541 1.00
485243........................................ No Brooklyn, NY 211,775 N/A N/A
487538........................................ Yes Manhattan, NY 2,737,391 N/A N/A
489815........................................ No Salina, KS 974,338 148,640 1.68
493239........................................ No Manhattan, NY 742,952 146,151 2.30
494971........................................ Yes Weehawken, NJ 1,616,863 178,424 0.96
495986........................................ No Ferguson, MO 6,039,784 884,298 1.77
497156........................................ No Miami, FL 3,053,506 N/A N/A
497750(1)..................................... Yes Brooklyn, NY 2,714,051 N/A N/A
497875........................................ No Manorville, NY 11,281,630 1,550,751 1.24
498238........................................ No Wateryliet, NY 6,702,186 1,180,278 1.49
499327........................................ Yes Yonkers, NY 1,618,345 N/A N/A
499426........................................ No Brighton, NY 4,083,215 724,625 1.68
499822........................................ Yes Queens, NY 1,315,702 N/A N/A
Port Jefferson,
501577........................................ No NY 2,908,187 291,697 0.92
502732........................................ Yes Queens, NY 2,415,710 N/A N/A
505990........................................ No Manorville, NY 9,997,308 1,550,751 1.44
506006........................................ Yes Bronx, NY 1,095,438 N/A N/A
508879........................................ No Manhattan, NY 689,026 N/A N/A
508960........................................ Yes Queens, NY 1,213,075 N/A N/A
510180........................................ Yes Queens, NY 942,427 N/A N/A
510602........................................ No Queens, NY 4,135,306 N/A N/A
510636........................................ Yes Manhattan, NY 1,228,540 N/A N/A
511782........................................ No San Diego, CA 16,056,948 2,699,389(6) 1.75(6)
512061........................................ Yes Queens, NY 666,041 89,426 1.40
512681........................................ No Manhattan, NY 1,378,738 250,548(5) 1.92(5)
513937........................................ Yes Bronx, NY 10,481,334 1,586,380 1.54
514265........................................ Yes Brooklyn, NY 3,477,897 444,840(5) 1.30(5)
516161........................................ No Monroe, NY 775,802 N/A N/A
524397........................................ No Bronx, NY 874,240 140,495 1.37
524447(2)..................................... Yes Brooklyn, NY 1,798,947 N/A N/A
531608........................................ No Norcross, GA 2,610,336 639,465 1.69
12767109...................................... No Manhattan, NY 1,280,475 N/A N/A
Port Jefferson,
30000343...................................... No NY 232,962 41,542 1.49
5030024177.................................... No Hempstead, NY 733,497 N/A N/A
5030082571.................................... Yes Yonkers, NY 677,717 60,881(5) 0.86(5)
5030082969.................................... Yes Bronx, NY 1,004,723 126,365 1.27
5430081041.................................... Yes Castro Valley, CA 52,862 303,745 1.75
</TABLE>
- ------------------------
* N/A means not available.
(1) Foreclosure proceedings were instituted on February 11, 1995. Principal
balance shown reflects a reduction of approximately $99,768 in principal
advanced by the servicer. Total advances made by the servicer on this
Mortgage Loan equal approximately $790,055.
(2) Foreclosure proceedings were instituted on December 12, 1996. Principal
balance shown reflects a reduction of approximately $9,360 in principal
advanced by the servicer. Total advances made by the servicer on this
Mortgage Loan equal approximately $132,760.
(3) "Net Operating Income" or "NOI" is the revenue derived from the use and
operation of a Mortgaged Property (consisting primarily of, in the case of a
Mortgaged Property that is a multifamily rental property, rental income,
deposit forfeitures and fees derived from the use of parking areas and
53
<PAGE>
laundry facilities, if any) less operating expenses (such as utilities,
general administrative expenses, management fees, advertising, repairs and
maintenance) and less fixed expenses (such as insurance and real estate
taxes). Net Operating Income does not include interest expense,
depreciation, amortization, partnership fees and other non-cash items, and
generally does not reflect capital expenditures. The figures shown are those
provided by the borrower to the servicer.
(4) "Debt Service Coverage Ratio (DSCR)" shall mean the NOI for the related
Mortgaged Property divided by the Annual Debt Service.
"Annual Debt Service" shall mean the annualized principal and interest
payable with respect to such Mortgage Loan as of December 31, 1995.
(5) Annual figure for year ended December 1994.
(6) Annual figure for March 1995 to March 1996.
Thirty-nine of the MLMC Mortgage Loans (representing 95.29% of the MLMC
Mortgage Loans as of April 1, 1997 by principal balance) have substantially the
same prepayment provisions. Generally, their ten year terms were divided into
two five year periods, separated by an interest rate reset date and a prepayment
window. Most have passed the reset date and prepayment window and have fewer
than five years until stated maturity. During the first three years of this
five-year period, the loans cannot be prepaid. In the remaining two years, the
loans may be prepaid, subject to a prepayment premium of 4%, which decreases by
1% each six months. Of these thirty-nine loans, two have scheduled maturity
dates that have passed. The borrowers have the right (and indeed, the
obligation) to pay these loans in full without paying any prepayment penalty,
but to date have not done so. Instead, the borrowers have continued to make
regular monthly payments. Eight of the additional MLMC Mortgage Loans,
representing 4.55% of the MLMC Mortgage Loans as of April 1, 1997 by principal
balance, may be prepaid at any time without payment of any prepayment penalty,
and three loans, representing .17% of the MLMC Mortgage Loans as of April 1,
1997 by principal balance, require that prepayment penalties accompany any
prepayments. Any prepayment premiums will be distributed as excess interest to
the Class A Securities, and not to the MLMC Subordinated Interests.
The MLMC Mortgage Loans are being serviced by NationsBanc Mortgage Corp.,
and the trustee for the series is State Street Bank & Trust Company.
RESTRICTIONS ON TRANSFER OF MLMC SUBORDINATED INTERESTS. The MLMC
Subordinated Interests have not been registered under the Securities Act or any
state securities laws, and, accordingly, transfer of the MLMC Subordinated
Interests is restricted. Moreover, the MLMC Subordinated Interests cannot be
transferred to a Plan or Plan Investor except in certain limited circumstances.
As a result, there is no liquid market for the MLMC Subordinated Interests.
NO RATINGS. The MLMC Subordinated Interests are not rated by any rating
agency.
54
<PAGE>
DLJMAC, SERIES 1993-MF17, CLASSES B-2, B-3, C-1, S-1 AND S-2
The Initial Investments also include DLJ Mortgage Acceptance Corporation,
Multi-family Mortgage Pass-Through Certificates, Series 1993-MF17, Class B-2,
Class B-3 and Class C-1 (the "DLJ Subordinated Interests"), and Class S-1 and
Class S-2 (the "DLJ IOs," and, together with the DLJ Subordinated Interests, the
"DLJ Investments,"), which were issued on November 12, 1993. The securities to
be purchased represent 100% of the outstanding principal balance (or notional
balance) of each class purchased, except that the Company is purchasing
$8,500,000 in principal balance of Class B-2, which represents approximately
64.9% of such class. The DLJ Investments were acquired by the Bank in October
and November of 1996, have a book value as of April 30, 1997 of approximately
$12.1 million, and will be acquired by the Company for approximately $12.3
million plus accrued interest.
The following table shows each class of MBS issued as part of DLJ Series
1993-MF17, including the DLJ Subordinated Interests and DLJ IOs, as well as
other classes of MBS that are not being sold to the Company. The table indicates
the interest rate at which interest accrues on each class (the "Pass-Through
Rate"), the principal balance as of November 1993 (the "Initial Principal
Balance") and the principal balance as of April 30, 1997. Only Classes S-1, S-2,
B-2, B-3 and C-1 are being sold to the Company.
DLJMAC, SERIES 1993-MF17
CLASSES B-2, B-3, C-1, S-1 AND S-2
<TABLE>
<CAPTION>
PRINCIPAL
BALANCE
INITIAL AS OF
PASS-THROUGH PRINCIPAL APRIL 30,
DESIGNATION RATE BALANCE 1997
- -------------------------------------------------- --------------- ---------- ----------
<S> <C> <C> <C>
Class AF-1 Securities(1)...................... (2) $64,476,000 $55,053,222
Class AN-1 Securities(1)...................... (3) 29,924,000 25,550,788
Class A-2 Securities(1)....................... 7.35% 19,700,000 19,700,000
Class B-1 Securities(1)....................... 8.0% 5,600,000 5,600,000
DLJ IOS:
CLASS S-1 SECURITIES.......................... (4) (4) (4)
CLASS S-2 SECURITIES.......................... (5) (5) (5)
DLJ SUBORDINATED INTERESTS:
CLASS B-2 SECURITIES.......................... 8.0% 13,100,000(6) 13,100,000(6)
CLASS B-3 SECURITIES.......................... 8.0% 4,600,000 4,600,000
CLASS C-1 SECURITIES.......................... 8.0% 1,783,000 1,783,000
Class R Securities(1)......................... 0 0 0
Class R-L Securities(1)....................... 0 0 0
</TABLE>
- ------------------------
(1) The Class AF-1, Class AN-1, Class A-2, Class B-1, Class R and Class R-L
Securities are not being sold to the Company.
(2) The Class AF-1 Securities accrue interest at a floating rate that is based
on LIBOR.
(3) The Class AN-1 Securities accrue interest at a floating rate that varies
inversely with changes in LIBOR.
(4) The Class S-1 Securities accrue interest at 0.34% per annum on the notional
balance of such class, which is equal to the sum of the outstanding
principal balances of the Class AF-1 and the Class AN-1 Securities. As of
April 30, 1997, the notional balance of the Class S-1 Securities is
$80,604,009, and $1,049,777 has been distributed as interest on the Class
S-1 Securities since issuance.
55
<PAGE>
(5) The Class S-2 Securities accrue interest at 0.65% per annum on the notional
balance of such class, which is equal to the outstanding principal balance
of the Class A-2 Securities. As of April 30, 1997, the notional balance of
the Class S-2 Securities is $19,700,000, and $437,504 has been distributed
as interest on the Class S-2 Securities since issuance.
(6) The Company is acquiring a Class B-2 Security with an original principal
balance and a principal balance as of April 30, 1997 of $8,500,000,
representing approximately 64.9% by principal balance of such class.
STRUCTURE AND SUBORDINATION. Each of the DLJ Subordinated Interests is
subordinated in right of payments of principal and interest and protects the
more senior classes from losses on the related mortgage loans (the "DLJ Mortgage
Loans"). Principal distributions on the securities are applied sequentially,
with no principal paid to a class until the outstanding principal balance of the
more senior classes are reduced to zero. Thus, to date, no principal has been
distributed to any of the DLJ Subordinated Interests.
Moreover, the DLJ Subordinated Interests provide credit support to the more
senior classes, including the DLJ IOs. On any distribution date, no interest is
distributed to the DLJ Subordinated Interests until principal and interest
allocable to Classes A-2 and B-1 and interest allocable to the DLJ IOs and
Classes AF-1 and AN-1 for that distribution date has been distributed. Thus, if
there are any losses on the DLJ Mortgage Loans, interest otherwise distributable
on the DLJ Subordinated Interests will be reduced by the amount of such losses,
and that cash will be used to make principal and interest payments to the more
senior classes. From November 1993 through April 30, 1997 the following amounts
have been distributed as interest on the DLJ Subordinated Interests: $2,323,333
to Class B-2, $1,257,333 to Class B-3 and $475,466 to Class C-1. In addition, as
losses are incurred on the DLJ Mortgage Loans, the principal balance of Class
C-1, then Class B-3, then Class B-2 will be reduced, until the outstanding
principal balance of each such class has been reduced to zero.
As of April 30, 1997, there have been no reported realized losses on the DLJ
Mortgage Loans, and no DLJ Mortgage Loans have been reported to Ocwen Financial
as being in default.
DLJ MORTGAGE LOANS. The DLJ Mortgage Loans, which underlie the DLJ
1993-MF17 Subordinated Interests, the DLJ IOs and the other classes of MBS in
DLJ Series 1993-MF17, are monthly-pay, fixed rate, balloon mortgage loans with
an initial aggregate principal balance of $139,183,000 and an aggregate
principal balance as of April 1, 1997, of $125,387,010. The Mortgage Loans are
secured by first liens on 40 multifamily rental properties (the "DLJ Mortgaged
Properties"). When the DLJ Investments were originally issued, they were secured
by 42 DLJ Mortgage Loans. However, two DLJ Mortgage Loans have prepaid in full,
leaving only 40 DLJ Mortgage Loans in the Pool. The following table sets forth
certain information, obtained from the servicer of the DLJ Mortgage Loans, about
the DLJ Mortgaged Properties, as of April 1, 1997, except as otherwise
indicated.
<TABLE>
<CAPTION>
MORTGAGE
LOAN
PROPERTY PRINCIPAL 1995 1995
NAME LOCATION BALANCE NOI(1)(2) DSCR(1)(3)
- ------------------------------------------------ -------------------- --------- ------------ -------------------
<S> <C> <C> <C> <C>
Harbor Ridge.................................... Maineville, OH 2,767,572 26,260 0.39
Oakwood......................................... Toledo, OH 3,769,196 142,600 1.54
Stoneridge...................................... Dayton, OH 4,052,244 144,674 1.47
University Woods................................ Fairborn, OH 3,192,619 205,521 0.65
The Glen........................................ Temple, TX 3,240,270 523,208 1.64
Wood River...................................... Corpus Christi, TX 3,478,525 547,401 1.60
Alhambra Village................................ DePere, WI 1,691,612 97,168 1.17
Hazen Court..................................... Fon du Lac, WI 2,001,343 156,366 1.59
Virginia Village................................ Appleton, WI 2,301,545 268,080 1.18
Worthington Meadows............................. Columbus, OH 12,293,965 589,209 1.95
Alexander....................................... Panama City, FL 632,806 103,030 1.65
Berkshire Manor................................. Tallahassee, FL 2,766,619 492,243 1.81
Chateau de Ville................................ Tallahassee, FL 1,810,739 312,576 1.75
Colony Club..................................... Tallahassee, FL 3,554,767 599,750 1.71
Four Seasons.................................... Tallahassee, FL 981,611 171,539 1.78
</TABLE>
56
<PAGE>
<TABLE>
<CAPTION>
MORTGAGE
LOAN
PROPERTY PRINCIPAL 1995 1995
NAME LOCATION BALANCE NOI(1)(2) DSCR(1)(3)
- ------------------------------------------------ -------------------- --------- ------------ -------------------
<S> <C> <C> <C> <C>
Greehouse Patio................................. Houston, TX 5,289,264 443.756 0.85
Heritage........................................ Panama City, FL 1,434,296 268,275 1.90
High Point...................................... Tallahassee, FL 1,865,061 346,627 1.89
Monticello on Greenbriar........................ Houston, TX 2,367,303 177,515 1.31
Saddlebrook..................................... San Antonio, TX 4,574,499 742,755 1.65
Southfirst Manor................................ Champaign, IL 2,239,598 251,555 1.14
Mapleview Seven................................. Fairborn, OH 2,757,089 382,985 1.41
Brady Station................................... Odessa, TX 4,021,746 162,152 0.41
College Square One.............................. Cedar Falls, IN 1,969,893 234,979 1.21
Indian Trails................................... Amarillo, TX 1,722,108 277,923 1.64
Pebblebend...................................... Odessa, TX 2,421,625 374,433 1.57
Persimmon....................................... Edmond, OK 1,143,625 121,359 1.08
The Park at Caldera............................. Midland, TX 2,954,364 N/A N/A
River Ranch..................................... Forth Worth, TX 5,673,331 623,430 1.12
Stonecreek...................................... Tulsa, OK 2,477,853 436,798 1.79
Westland Village................................ West Burlington, IA 714,766 102,502 1.46
Willow Glen..................................... Amarillo, TX 6,194,634 996,742 1.63
Brookhollow..................................... Tulsa, OK 1,310,403 2,003 0.02
Candlewood...................................... Phenix City, AL 2,733,263 294,791 1.10
Country Square.................................. Carrollton, TX 9,513,051 1,355,795 1.45
Lake O' the Woods............................... Arlington, TX 3,573,827 470,013 1.34
Las Brisas...................................... Abilene, TX 3,097,317 483,560 1.59
Maryland........................................ Harlingen, TX 1,139,813 137,804 1.23
Monterey........................................ Tallahassee, FL 2,613,182 378,036 1.47
Wildwood........................................ Temple, TX 3,049,666 668,649 2.23
</TABLE>
- ------------------------
(1) Numbers shown for 1995 are for the 12 months ended December 31, 1995, except
Harbor Ridge, Oakwood, Stoneridge and Worthington Meadows (three months
ending March 1996), Alhambra Village and Hazen Court (six months ending June
1996) and Monticello on Greenbriar (seven months ending July 1996).
(2) "Net Operating Income" or "NOI" is the revenue derived from the use and
operation of a Mortgaged Property (consisting primarily of, in the case of a
Mortgaged Property that is a multifamily rental property, rental income,
deposit forfeitures and fees derived from the use of parking areas and
laundry facilities, if any) less operating expenses (such as utilities,
general administrative expenses, management fees, advertising, repairs and
maintenance) and less fixed expenses (such as insurance and real estate
taxes). Net Operating Income does not include interest expense,
depreciation, amortization, partnership fees and other non-cash items, and
generally does not reflect capital expenditures. The figures shown are those
provided by the borrower to the servicer.
(3) "Debt Service Coverage Ratio (DSCR)" shall mean the NOI for the related
Mortgaged Property divided by the Annual Debt Service.
"Annual Debt Service" shall mean the annualized principal and interest
payable with respect to such Mortgage Loan as of December 31, 1995.
Each DLJ Mortgage Loan provides for monthly payments of principal and
interest based upon a projected amortization schedule of 300 months, beginning
in January 1994, with a final balloon payment of remaining principal due in
December 2003.
The terms of the DLJ Mortgage Loans prohibit voluntary prepayment during the
first five years after origination. Thereafter, the DLJ Mortgage Loans can be
prepaid in whole or in part, provided that prepayments during the sixth and
seventh years must be accompanied by a yield maintenance premium. Yield
maintenance premiums are paid as excess interest on the more senior classes of
securities (and not to the DLJ Subordinated Interests). After the seventh year
following origination, the DLJ Mortgage Loans can be prepaid in whole or in part
without any penalty or prepayment premium.
The DLJ Mortgage Loans are being serviced by AMRESCO Management, Inc., and
the trustee for the series is State Street Bank & Trust Company.
57
<PAGE>
RESTRICTIONS ON TRANSFER OF DLJ SUBORDINATED INTERESTS. Although the DLJ
IOs have been registered with the Commission, the DLJ Subordinated Interests
have not been registered under the Securities Act or any state securities laws,
and, accordingly, transfer of the DLJ Subordinated Interests is restricted.
Moreover, the DLJ Subordinated Interests cannot be transferred to a Plan or Plan
investor except in certain limited circumstances. As a result, there is no
liquid market for the DLJ Subordinated Interests.
RATINGS. The Class S-1 Securities are rated "Aaa" by Moody's Investors
Service, Inc. ("Moody's") and "AAA") by Duff & Phelps Credit Rating Co.
("Duff"). The Class S-2 Securities are rated "A2" by Moody's and "A") by Duff.
The Class B-2 Securities are rated "BB" by Duff, and the Class B-3 Securities
are rated "B" by Duff. Neither the Class B-2 Securities nor the Class B-3
Securities are rated by Moody's. The Class C-1 Securities are unrated.
The ratings of the Rating Agencies on mortgage pass-through certificates
address the likelihood of the receipt of all distributions to which such Holders
are entitled. The ratings do not represent any assessment of (i) the likelihood
or frequency of principal prepayments on the Mortgage Loans, (ii) the degree to
which such prepayments might differ from those originally anticipated or (iii)
whether and to what extent yield maintenance premiums will be received. Also, a
security rating does not represent any assessment of the yield to maturity that
investors may experience on any Class of DLJ Investments nor does it assess any
possibility that the holders of the DLJ IOs might not fully recover their
investment in the event of rapid prepayments of the Mortgage Loans (including
both voluntary and involuntary prepayments). A security rating is not a
recommendation to buy, sell or hold securities and may be subject to revision or
withdrawal at any time by assigning the rating agency. The ratings assigned to
the DLJ IOs should be evaluated independently of similar ratings assigned to
securities that have a principal balance.
SUPPLEMENTAL INITIAL INVESTMENT
The Company anticipates purchasing not only the Initial Investments, but
also a Subordinated Interest to be issued as part of Salomon Brothers Mortgage
Securities VII, Inc. Mortgage Pass-Through Certificates, Series 1997-HUD1, which
closed on April 30, 1997 (the "Supplemental Initial Investment"). The
Supplemental Initial Investment, which has a principal balance as of April 30,
1997, of approximately $26.8 million and a maximum interest rate of 7.75% per
annum, and will be purchased for approximately $9.1 million.
STRUCTURE AND SUBORDINATION. The Supplemental Initial Investment is
subordinated in right of payments of principal and interest and will protect
$298.4 million in principal amount of more senior classes of MBS from losses on
related mortgage loans (the "Supplemental Mortgage Loans") with a Legal Balance
(as defined below) of $326.2 million as of April 1, 1997. Unlike the MLMC
Mortgage Loans and the DLJ Mortgage Loans, which are secured by multifamily
residential properties, the Supplemental Mortgage Loans will be secured by
one-to-four family residential properties and they may be prepaid at any time
without a prepayment premium or penalty. The Supplemental Mortgage Loans are
being serviced, and will continue to be serviced after the transaction is
closed, by the Bank, except that the Company will have the unilateral right to
direct foreclosure on the properties underlying the Supplemental Mortgage Loans.
SUPPLEMENTAL MORTGAGE LOANS. The Mortgage Loans were acquired from the
United States Department of Housing and Urban Development ("HUD") in 1996 by
Salomon Brothers Realty Corp. Each Supplemental Mortgage Loan is a fixed-rate or
adjustable-rate loan secured by a first lien on residential real property and
generally was originated as a 30-year, fully amortizing loan primarily under
HUD's Section 203(b) or 703 mortgage insurance programs. Each Supplemental
Mortgage Loan defaulted, and after default, such Supplemental Mortgage Loan was
determined by HUD to be eligible for forbearance relief and was assigned to HUD.
Forbearance relief generally resulted in a reduction and/or suspension of the
borrower's obligation to make scheduled monthly payments of principal and
interest required under the loan's original terms (the "Original Scheduled
Payment") for a period (the "Forbearance Period") which typically lasted for 36
months. In each case, at the expiration of the Forbearance Period, the
58
<PAGE>
borrower's "Legal Balance" was equal to the sum of the Unpaid Principal Balance
plus any Arrearage. The "Unpaid Principal Balance" equaled the unpaid principal
balance of the Supplemental Mortgage Loan as of the commencement of the
Forbearance Period reduced by amounts, if any, paid in respect of principal
during the Forbearance Period. The "Arrearage" equaled the sum of all accrued
but unpaid interest on the Supplemental Mortgage Loan at the end of the
Forbearance Period, certain advances made in respect of taxes and insurance and,
in certain cases, accrued but unpaid interest prior to the transfer of servicing
to the current servicer. Following the expiration of the Forbearance Period,
each borrower was and is required to make a monthly payment (the "Modified
Scheduled Payment") generally in an amount at least equal to the Original
Scheduled Payment plus, to the extent of the borrower's ability to pay, an
additional amount to be applied to pay down the Arrearage. In the future, the
servicer may reduce or increase the amount the borrower must pay in respect of
the Arrearage based on the borrower's ability to pay. As of April 1, 1997, no
Mortgage Loan will be insured or guaranteed by any governmental entity or
private insurer. All HUD insurance with respect to the Supplemental Mortgage
Loans has terminated. As of April 1, 1997, the borrowers under approximately 94%
(by principal balance) of the Supplemental Mortgage Loans have made at least
97.5% of the aggregate amount of Original Scheduled Payments due for the four
calendar months preceding April 1, 1997 (regardless of either the timing of
receipt of such payments or the payment history of such loans prior to December
1996). There are approximately 6,738 Supplemental Mortgage Loans with an
aggregate Unpaid Principal Balance as of April 1, 1997, of approximately $272.6
million and an aggregate Legal Balance as of April 1, 1997 of approximately
$326.2 million.
RESTRICTIONS ON TRANSFER OF SUPPLEMENTAL INITIAL INVESTMENT. The
Supplemental Initial Investment has not been registered under the Securities Act
or any state securities laws, and, accordingly, transfer of the Supplemental
Initial Investment Subordinated Interests is restricted. Moreover, the
Supplemental Initial Investment cannot be transferred to a Plan or Plan Investor
except in certain limited circumstances. As a result, there is no liquid market
for the Supplemental Initial Investment.
NO RATINGS. The Supplemental Initial Investment is not rated by any rating
agency.
YIELD CONSIDERATIONS RELATED TO THE INITIAL INVESTMENTS
GENERAL
The actual yield to maturity on the Initial Investments will depend upon,
among other things, the interest rate for each class of Initial Investments and
the timing and aggregate amount of distributions on the securities of such
class, which in turn will depend primarily on losses and prepayments on the
related mortgage loans. See "Yield Considerations Related to the Company's
Investments."
INITIAL SUBORDINATED INTERESTS
The yield to maturity on the MLMC Subordinated Interests and the DLJ
Subordinated Interests (collectively, the "Initial Subordinated Interests") will
be extremely sensitive to the default and loss experience of the underlying
mortgage loans and the timing of any such defaults or losses. See "Risk
Factors--Investment Activity Risks" and "Yield Considerations Related to the
Company's Investments."
The significance of the effect of potential Realized Losses on the Mortgage
Loans is illustrated in the following tables. This information is presented for
analytical purposes only, and is not intended as an accurate indicator or
prediction of the actual defaults and losses that may occur in the future with
respect to the Mortgage Loans. Actual defaults, liquidations and losses are
likely to differ in timing and amount from those assumed (and may differ
significantly). Investors in the Company are urged to consider their own
estimates as to possible levels and timing of defaults and losses.
The Company will purchase each class of Initial Subordinated Interests at a
discount from its principal amount. Accordingly, if the Company calculates the
anticipated yield to maturity of any such class based on an assumed rate of
payment that is faster than that actually experienced on the Mortgage Loans, the
actual
59
<PAGE>
yield may be lower than that so calculated. The tables on the following pages
that show yields for the Initial Subordinated Interests assume that no
prepayments are made on the underlying Mortgage Loans.
MODELING ASSUMPTIONS
YIELD TABLE FOR THE MLMC SUBORDINATED INTERESTS
The following table, regarding the MLMC Subordinated Interests, indicates
the pre-tax yield to maturity and the weighted average lives that would be
produced by the various assumed annual default rates, assuming the indicated
purchase price and the following additional assumptions. There can be no
assurance that these assumptions are reasonable or that additional or different
assumptions should not be made to determine potential yields on these
investments.
(i) No prepayments of principal are assumed to occur;
(ii) For loans that are to be liquidated, no other payment is received
prior to liquidation;
(iii) Upon liquidation, 50% of the scheduled principal balance of the
liquidated loan as of April 1, 1997 is recovered. Such liquidations are
assumed to occur concurrently with defaults on the Mortgage Loans;
(iv) At such time that the principal balance of a class is reduced to
zero, such class shall no longer be entitled to any future distributions of
principal and interest;
(v) The aggregate principal amount of each class is as indicated on page
50;
(vi) The aggregate principal amount of the MLMC Mortgage Loans as of
April 1, 1997 is $120,644,855, and the weighted average interest rate is
8.5581% per annum;
(vii) The weighted average number of months to scheduled maturity is 16
months, and with respect to each balloon loan, the scheduled maturity date
is not extended; provided that with respect to loan numbers 494971 and
495986, the scheduled maturity date has been extended for 12 months;
(viii) For each MLMC Mortgage Loan not in default, scheduled monthly
payments (including balloons) are timely received on the first day of each
month, and no borrower is the subject of bankruptcy proceedings;
(ix) All servicing fees and other administration fees are deducted from
the interest received on the Mortgage Loans;
(x) Beginning in May 1997, the Company receives cash distributions on
the MLMC Subordinated Interests by the Company on the 25th day of each
month;
(xi) There will be no optional termination of the trust related to the
MLMC Subordinated Interests, and no Mortgage Loan is purchased pursuant to
any obligation under the related trust agreement;
(xii) Prepayment premiums are assumed not to be distributed to the
Company as holder of the MLMC Subordinated Interests; and
(xiii) All of the MLMC Mortgage Loans require monthly payments, accrual of
interest on a 360-day year consisting of twelve 30-day months and payment of
interest in arrears.
MLMC 1993-M1 SUBORDINATED INTERESTS
(PURCHASE PRICE OF 83.364% OF PRINCIPAL AMOUNT)
<TABLE>
<CAPTION>
ANNUAL DEFAULT RATE
---------------------------------------------------------------------------
0% 2% 4% 8% 10% 12% 16%
--------- --------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
TOTAL ASSUMED DEFAULTS............... 0.0% 2.4% 4.6% 8.8% 10.8% 12.8% 16.6%
PRE-TAX YIELD TO MATURITY............ 22.97% 19.36% 15.26% 7.69% 3.46% 0.43% -8.90%
WEIGHTED AVERAGE LIFE WITHOUT
TERMINATION (YEARS)................. 1.61 1.49 1.56 1.52 1.30 1.48 1.29
</TABLE>
60
<PAGE>
YIELD TABLE FOR THE DLJ SUBORDINATED INTERESTS
The Pre-Tax Yields and Total Cash Flows for the DLJ Subordinated Interests,
set forth in the following table were calculated assuming the indicated purchase
price and the following additional assumptions. There can be no assurance that
these assumptions are reasonable or that additional or different assumptions
should not be made to determine potential yields on these investments.
(i) No prepayments of principal are assumed to occur;
(ii) Liquidations occur on the indicated payment date for the Mortgage
Loans in an amount equal to the indicated Liquidation Percentage multiplied
by the aggregate Scheduled Principal Balance of the Mortgage Loans as of
April 1, 1997. Such liquidations are assumed to occur concurrently with
defaults on the Mortgage Loans for loans that are to be liquidated, no other
payment is received prior to liquidation;
(iii) Realized Losses on liquidations of defaulted Mortgage Loans reflect
net recoveries in amounts equal to (a) 1 minus the indicated Loss Severity
indicated in the table, multiplied by (b) the amount of liquidated Mortgage
Loans as calculated in (ii) above;
(iv) at such time that the principal balance of a class is reduced to
zero, such class shall no longer be entitled to any future distributions of
principal and interest;
(v) the aggregate principal amount of each class is as indicated on page
55;
(vi) the aggregate principal amount of the DLJ Mortgage Loans as of
April 1, 1997 is $125,387,009, the principal is being amortized over a term
of 260 months, and the interest rate is 8.15%;
(vii) for each DLJ Mortgage Loan not in default, scheduled monthly
payments are timely received on the first day of each month, including
balloon amounts at stated maturity, and no borrower is the subject of
bankruptcy proceedings;
(viii) all servicing fees and other administration fees are deducted from
the interest received on the Mortgage Loans;
(ix) beginning in May 1997, the Company receives cash distributions on
the DLJ Initial Investments on the 18th day of each month;
(x) there will be no optional termination of the trust related to either
series of Initial Investments, and no Mortgage Loan is repurchased pursuant
to any obligation under the related trust agreement; and
(xi) prepayment premiums and yield maintenance premiums are assumed not
to be distributed to the Company as holder of the Initial Investments.
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<PAGE>
DLJ 1993-MF17
DLJ SUBORDINATED INTERESTS*
(PURCHASE PRICE OF 72.175% OF PRINCIPAL AMOUNT)
<TABLE>
<CAPTION>
DATE OF ASSUMED LIQUIDATION/REALIZED LOSS OCCURS
-----------------------------------------------------------------------
PRINCIPAL BALANCE OF DECEMBER
MORTGAGE LOANS LIQUIDATED DECEMBER 1999 DECEMBER 2001 2003
AS A PERCENTAGE OF THE LOSS ---------------------------- ---------------------------- -----------
SCHEDULED PRINCIPAL BALANCE SEVERITY PRE-TAX TOTAL PRE-TAX TOTAL PRE-TAX
AS OF FEBRUARY 1, 1997 PERCENTAGE YIELD CASH FLOW** YIELD CASH FLOW** YIELD
- --------------------------------- --------------- ----------- --------------- ----------- --------------- -----------
<S> <C> <C> <C> <C> <C> <C>
No Liquidations.................. 0% 14.9% 153% 14.9% 153% 14.9%
5.0%........................... 20% 13.8% 145% 14.0% 146% 14.1%
50% 12.0% 132% 12.5% 135% 12.9%
10.0%.......................... 20% 12.6% 136% 13.0% 138% 13.3%
50% 8.5% 111% 9.7% 116% 10.6%
20.0%.......................... 20% 10.0% 119% 10.9% 123% 11.5%
50% -1.3% 68% 1.7% 79% 4.5%
<CAPTION>
PRINCIPAL BALANCE OF
MORTGAGE LOANS LIQUIDATED
AS A PERCENTAGE OF THE
SCHEDULED PRINCIPAL BALANCE TOTAL
AS OF FEBRUARY 1, 1997 CASH FLOW**
- --------------------------------- ---------------
<S> <C>
No Liquidations.................. 153%
5.0%........................... 147%
137%
10.0%.......................... 140%
121%
20.0%.......................... 128%
89%
</TABLE>
- ------------------------
* Note: This table relates to the DLJ Subordinated Interests only, and not the
DLJ IOs.
** Total Cash Flow as a Percentage of Principal Amount.
The pre-tax yields set forth in the preceding tables were calculated by
determining the monthly discount rates that, when applied to the projected
future stream of cash flows to be paid on the DLJ Subordinated Interests, would
cause the present value of such projected future stream of cash flows to equal
the assumed aggregate purchase prices of such securities and converting such
monthly rates to semi-annual corporate bond equivalent rates. Such calculations
do not take into account variations that may occur in the interest rates at
which investors may be able to reinvest funds received by them as distributions
on such classes and consequently do not purport to reflect the return on any
investment in such classes when such reinvestment rates are considered.
There can be no assurance that the assumptions used in preparing these
tables are accurate or that defaults and losses on the Mortgage Loans will not
exceed those shown herein. Moreover, other Subordinated Interests purchased by
the Company in the future are likely to have different characteristics.
YIELD ON THE DLJ IOS
The yield to investors on the DLJ IOs will be highly sensitive to the rate
and timing of principal payments (including prepayments and liquidations) on the
Mortgage loans. Investors should fully consider the associated risks to the
Company, including the risk that a rapid rate of principal prepayments of the
Mortgage Loans could result in the failure of the Company to recoup fully its
investment in the DLJ IOs.
The following tables reflect the pre-tax yield to maturity of each of the
IOs at the purchase price indicated and the assumptions listed in clauses (iv),
(viii), (ix), (x) and (xi) on page 61 above. There can be no assurance that the
assumptions are reasonable or that additional or different assumptions should
not be made to determine potential yields on these investments.
(i) scheduled monthly payments on the Mortgage Loans are timely received
on the first day of each month;
(ii) there are no defaults on the Mortgage Loans;
(iii) the Mortgage Loans do not prepay during the lock-out period and
thereafter prepay in full on the 1st day of the month and year indicated;
(iv) the DLJ IOs have initial notional amounts as set forth on pages 55
and 56; and
(v) the DLJ IOs are paid in full on the distribution dates indicated.
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<PAGE>
DLJ 1993-MF17
SENSITIVITY OF DLJ IOS TO PRINCIPAL PREPAYMENTS
PRE-TAX YIELDS TO ASSUMED MATURITY
<TABLE>
<CAPTION>
ASSUMED PAYMENT IN FULL DATE
PURCHASE PRICE ----------------------------------------------------------------------------
(% OF NOTIONAL BALANCE) DECEMBER 2000 DECEMBER 2001 DECEMBER 2002 DECEMBER 2003
- ----------------------------- ----------------- ------------------- ----------------- -----------------
<S> <C> <C> <C> <C>
1.5134%...................... -4.6% 6.5% 12.8% 16.7%
</TABLE>
The pre-tax yields set forth in the preceding tables were calculated by
determining the monthly discount rates that, when applied to the projected
future stream of cash flows to be paid on the DLJ IOs, would cause the
discounted present value of such projected future stream of cash flows to equal
the aggregate purchase prices of such securities and converting such monthly
rates to semi-annual corporate bond equivalent rates. Such calculations do not
take into account variations that may occur in the interest rates at which
investors may be able to reinvest funds received by them as distributions on
such classes and consequently do not purport to reflect the return on any
investment in such classes when such reinvestment rates are considered.
It is not likely that the Mortgage Loans will prepay in accordance with the
assumptions. In addition, there can be no assurance that the Mortgage Loans will
not prepay (including in connection with a casualty or condemnation or by reason
of default and consequent liquidation) prior to the end of the lock-out period
or that the pre-tax yields on the DLJ IOs will correspond to any of the pre-tax
yields shown herein. Investors must make their own decisions as to the
appropriate prepayment assumptions and model to be used in evaluating the
Company's investment in the DLJ IOs. Moreover, other IOs purchased by the
Company in the future may have substantially different characteristics and
yields to maturity than the DLJ IOs.
CAPITALIZATION
The capitalization of the Company, as of February 12, 1997, and as adjusted
to reflect the sale of the shares of Common Stock offered hereby, is as follows:
<TABLE>
<CAPTION>
AS
ACTUAL ADJUSTED(1)
--------- --------------
<S> <C> <C>
Common Stock, par value $.01............................................................ $ 1 $ 168,750
Authorized--200,000,000 shares
Outstanding--100 shares, 16,875,000 shares, as adjusted
Additional Paid-in Capital............................................................ 1,599 250,106,250
--------- --------------
Total............................................................................. $ 1,600 $ 250,275,000
--------- --------------
--------- --------------
</TABLE>
- ------------------------
(1) Includes 1,875,000 shares of Common Stock to be purchased by Ocwen
Financial, after deducting offering and organizational expenses estimated to
be $825,000 payable by the Company, and assuming no exercise of the
Underwriters' over-allotment option to purchase up to an additional
2,250,000 shares of Common Stock.
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF LIQUIDITY AND CAPITAL RESOURCES
OAIC has been organized and will elect to qualify as a REIT under the Code
and, as such, anticipates distributing annually at least 95% of its taxable
income, subject to certain adjustments. Cash for such distributions is expected
to be generated from the Company's operations, although the Company also may
borrow funds to make distributions. The Company's revenues will be derived from
(i) ownership of Distressed Real Properties; (ii) ownership of Subordinated
Interests; (iii) ownership of Other Real Estate Related Assets; and (iv)
interest and revenues from other (generally short-term) investments. See
"Distribution Policy" and "Federal Income Tax Considerations."
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<PAGE>
The principal sources of the Company's funds will be the proceeds of the
offering made by this Prospectus, borrowings under lines of credit to be
arranged on behalf of the Company, additional bank borrowings, commercial paper
borrowings, mortgage loans on the Company's real estate and future equity
offerings. From the net proceeds of this Offering, approximately $36.0 million
plus accrued interest will be used to purchase the Initial Investments,
consisting of the MLMC Subordinated Interests, the DLJ Subordinated Interests
and the DLJ IOs, and an additional $9.1 million is expected to be used to
purchase the Supplemental Initial Investment.
Since the acquisition of the Initial Investments by the Bank, there have
been no reported losses on the MLMC Mortgage Loans or DLJ Mortgage Loans,
although two MLMC Mortgage Loans, constituting approximately 3.83% of the MLMC
Mortgage Loans by principal balance as of April 1, 1997, are currently in
foreclosure. To the extent that there are losses on these Mortgage Loans or any
other MLMC Mortgage Loans or DLJ Mortgage Loans in the future, such losses will
be allocated to reduce the principal balance of the MLMC Subordinated Interests
or DLJ Subordinated Interests, as applicable, with a concomitant adverse effect
on the yield thereof.
The primary risk to its investment in the DLJ IOs is the risk of faster than
anticipated prepayments. To date, only two DLJ Mortgage Loans, representing
approximately 5% of the principal balance of the DLJ Mortgage Loans as of
September 1, 1996, have prepaid. Those prepayments adversely affected the yield
of the DLJ IOs because they reduced the notional balance of the DLJ IOs on which
interest is paid. Significant amounts of principal prepayments are unlikely in
the next few years because the terms of such loans generally prohibit voluntary
prepayment through 1998, and thereafter, prepayment is permitted only if
accompanied with a yield maintenance premium. Beginning in 2001, however, the
DLJ Mortgage Loans may be prepaid voluntarily without any prepayment penalty or
premium. See "Initial Investments" and "Yield on the Initial Investments--Yield
on the DLJ IOs".
The Supplemental Initial Investment will be backed by single-family loans
that have a history of delinquency. Although some payments have been made on
such loans during the past few months, the history of delinquency suggests that
the borrowers are more likely to default in the future than would be the case
for borrowers with no history of default. Any losses on the Supplemental
Mortgage Loans will reduce the principal balance of the Supplemental Initial
Investment and thus adversely affect the yield on such investment. See "Initial
Investments--Supplemental Initial Investment."
The Initial Investments and Supplemental Initial Investment comprise a
relatively small portion of the assets to be purchased with the net proceeds of
this offering and most of the net proceeds of the Offering initially will be
invested in readily marketable securities. Accordingly, the Company would not
anticipate a need to sell the Initial Investments or Supplemental Initial
Investment for liquidity purposes. Moreover, the Company has no capital
commitments with respect to the Initial Investments and Supplemental Initial
Investment. The Initial Investments and Supplemental Initial Investment may
produce cash flows for the Company, although losses on the Mortgage Loans
underlying these investments would reduce that cash flow, particularly with
respect to the Subordinated Interests, and reductions in the prevailing interest
rate would be expected to increase prepayments on the related mortgage loans and
thereby reduce the cash flow on the DLJ IOs. Management believes that the net
proceeds of this offering, combined with the cash flow from operations and
borrowings, will be sufficient to enable the Company to meet its anticipated
liquidity and capital requirements. See "Operating Policies and Strategies" and
"Use of Proceeds."
DESCRIPTION OF CAPITAL STOCK
GENERAL
The Articles of Incorporation provide that OAIC may issue up to 225,000,000
shares of capital stock, consisting of 200,000,000 shares of Common Stock, $0.01
par value per share, and 25,000,000 shares of preferred stock, $0.01 par value
per share ("Preferred Stock"). Upon completion of this offering, 16,875,000
shares of Common Stock will be issued and outstanding, and 1,687,500 shares of
Common Stock will be reserved for issuance upon exercise of options, and no
Preferred Stock will be issued and outstanding.
64
<PAGE>
COMMON STOCK
All outstanding shares of Common Stock will be duly authorized, fully paid
and nonassessable upon the Closing. Subject to the preferential rights of any
other shares or series of shares of capital stock, holders of Common Stock are
entitled to receive dividends if and when authorized and declared by the Board
of Directors of OAIC out of assets legally available therefor and to share
ratably in the assets of OAIC legally available for distribution to its
stockholders in the event of its liquidation, dissolution or winding-up after
payment of, or adequate provision for, all known debts and liabilities of OAIC.
OAIC intends to pay quarterly dividends.
Each outstanding share of Common Stock entitles the holder to one vote on
all matters submitted to a vote of stockholders, including the election of
directors, and, except as otherwise required by law or except as provided with
respect to any other class or series of shares of capital stock, the holders of
Common Stock will possess the exclusive voting power. There is no cumulative
voting in the election of directors, which means in all elections of directors,
each holder of Common Stock has the right to cast one vote for each share of
stock for each candidate.
PREFERRED STOCK
Preferred Stock may be issued from time to time, in one or more series, as
authorized by the Board of Directors. Because the Board of Directors has the
power to establish the preferences and rights of each class or series of
Preferred Stock, the Board of Directors may afford the holders of any series or
class of Preferred Stock preferences, powers and rights, voting or otherwise,
senior to the rights of the holders of Common Stock. The Board could authorize
the issuance of Preferred Stock with terms and conditions which could have the
effect of discouraging a takeover or other transaction which holders of some, or
a majority, of the shares of Common Stock might believe to be in their best
interests or in which holders of some, or a majority, of the shares of Common
Stock might receive a premium for their shares of Common Stock over the then
market price of such shares of Common Stock. As of the date hereof, no shares of
Preferred Stock are outstanding.
RESTRICTIONS ON TRANSFER
For OAIC to qualify as a REIT under the Code, it must meet certain
requirements concerning the ownership of its outstanding shares of capital
stock. Specifically, not more than 50% in value of OAIC's outstanding capital
stock may be owned, directly or indirectly, by five or fewer individuals (as
defined in the Code to include certain entities) during the last half of a
taxable year, and OAIC must be beneficially owned by 100 or more persons during
at least 335 days of a taxable year of 12 months or during a proportionate part
of a shorter taxable year. See "Federal Income Tax Considerations--Requirements
for Qualification."
Because the Board of Directors believes it is essential for OAIC to continue
to qualify as a REIT, the Articles of Incorporation, subject to certain
exceptions and waivers described below, provide that no person may own, or be
deemed to own by virtue of the attribution provisions of the Code, more than (i)
9.1% (or, with respect to Ocwen Financial, 13%) of the number of outstanding
shares of Common Stock, or (ii) 9.9% of the number of outstanding shares of any
series of Preferred Stock (the "Ownership Limitation").
Subject to certain exceptions described below, any purported transfer of
shares of Common Stock or Preferred Stock that would (i) result in any person
owning, directly or indirectly, shares of Common Stock or Preferred Stock in
excess of the Ownership Limitation, (ii) result in the shares of Common Stock
and Preferred Stock, collectively, being owned by fewer than 100 persons
(determined without reference to any rules of attribution), (iii) result in OAIC
being "closely held" within the meaning of section 856(h) of the Code, or (iv)
cause OAIC to own, actually or constructively, 10% or more of the ownership
interests in a tenant of the Company's real property, within the meaning of
section 856(d)(2)(B) of the Code, will be designated as "Shares-in-Trust" and
transferred automatically to a trust (the "Trust") effective on the day before
the purported transfer of such shares of Common Stock or Preferred Stock. The
record holder of the shares of Common Stock or Preferred Stock that are
designated as Shares-in-Trust (the "Prohibited
65
<PAGE>
Owner") will be required to submit such number of shares of Common Stock or
Preferred Stock to OAIC for registration in the name of the Trust. The trustee
of the Trust (the "Trustee") will be designated by OAIC, but will not be
affiliated with OAIC. The beneficiary of the Trust (the "Beneficiary") will be
one or more charitable organizations that are named by OAIC.
Shares-in-Trust will remain issued and outstanding shares of Common Stock or
Preferred Stock and will be entitled to the same rights and privileges as all
other shares of the same class or series. The Trustee will receive all dividends
and distributions on the Shares-in-Trust and will hold such dividends or
distributions in trust for the benefit of the Beneficiary. The Trustee will vote
all Shares-in-Trust. The Trustee will designate a permitted transferee of the
Shares-in-Trust, provided that the permitted transferee (i) purchases such
Shares-in-Trust for valuable consideration and (ii) acquires such
Shares-in-Trust without such acquisition resulting in a transfer to another
Trust.
The Prohibited Owner with respect to Shares-in-Trust will be required to
repay to the Trustee the amount of any dividends or distributions received by
the Prohibited Owner (i) that are attributable to any Shares-in-Trust and (ii)
the record date of which was on or after the date that such shares became
Shares-in-Trust. The Prohibited Owner generally will receive from the Trustee
the lesser of (i) the price per share such Prohibited Owner paid for the shares
of Common Stock or Preferred Stock that were designated as Shares-in-Trust (or,
in the case of a gift or devise, the Market Price (as defined below) per share
on the date of such transfer) or (ii) the price per share received by the
Trustee from the sale of such Shares-in-Trust. Any amounts received by the
Trustee in excess of the amounts to be paid to the Prohibited Owner will be
distributed to the Beneficiary.
The Shares-in-Trust will be deemed to have been offered for sale to OAIC, or
its designee, at a price per share equal to the lesser of (i) the price per
share in the transaction that created such Shares-in-Trust (or, in the case of a
gift or devise, the Market Price per share on the date of such transfer) or (ii)
the Market Price per share on the date that OAIC, or its designee, accepts such
offer. OAIC will have the right to accept such offer for a period of ninety days
after the later of (i) the date of the purported transfer which resulted in such
Shares-in-Trust or (ii) the date OAIC determines in good faith that a transfer
resulting in such Shares-in-Trust occurred.
"Market Price" on any date shall mean the average of the Closing Price (as
defined below) for the five consecutive Trading Days (as defined below) ending
on such date. The "Closing Price" on any date shall mean the average of the high
bid and low asked prices in the over-the-counter market, as reported by The
Nasdaq Stock Market. "Trading Day" shall mean any day other than a Saturday, a
Sunday or a day on which banking institutions in the State of New York are
authorized or obligated by law or executive order to close.
Any person who acquires or attempts to acquire shares of Common Stock or
Preferred Stock in violation of the foregoing restrictions, or any person who
owned shares of Common Stock or Preferred Stock that were transferred to a
Trust, will be required (i) to give immediately written notice to OAIC of such
event and (ii) to provide to OAIC such other information as it may request in
order to determine the effect, if any, of such transfer on OAIC's status as a
REIT.
All persons who own, directly or indirectly, more than 5% (or such lower
percentages as required pursuant to regulations under the Code) of the
outstanding shares of Common Stock and Preferred Stock must, within 30 days
after January 1 of each year, provide to OAIC a written statement or affidavit
stating the name and address of such direct or indirect owner, the number of
shares of Common Stock and Preferred Stock owned directly or indirectly, and a
description of how such shares are held. In addition, each direct or indirect
stockholder shall provide to OAIC such additional information as OAIC may
request in order to determine the effect, if any, of such ownership on OAIC's
status as a REIT and to ensure compliance with the Ownership Limitation.
The Ownership Limitation generally will not apply to the acquisition of
shares of Common Stock or Preferred Stock by an underwriter that participates in
a public offering of such shares. In addition, the Board of Directors, upon
receipt of a ruling from the Service or an opinion of counsel and upon such
other conditions as the Board of Directors may direct, may exempt a person from
the Ownership Limitation
66
<PAGE>
under certain circumstances. The foregoing restrictions will not be removed
until (A)(i) such restrictions are no longer required in order to qualify as a
REIT, and (ii) the Board of Directors determines that it is no longer in the
best interest of the Company to retain such restrictions; or (B)(i) the Board of
Directors determines that it is no longer in the best interests of OAIC to
attempt to qualify, or to continue to qualify, as a REIT and (ii) there is an
affirmative vote of two-thirds of the number of shares of Common Stock and
Preferred Stock entitled to vote on such matter at a regular or special meeting
of the stockholders of OAIC.
All certificates representing shares of Common Stock or Preferred Stock will
bear a legend referring to the restrictions described above.
The Ownership Limitation could have the effect of discouraging a takeover or
other transaction in which holders of some, or a majority, of shares of Common
Stock might receive a premium for their shares of Common Stock over the then
prevailing market price or which such holders might believe to be otherwise in
their best interest.
DIVIDEND REINVESTMENT PLAN
OAIC may implement a dividend reinvestment plan whereby stockholders may
automatically reinvest their dividends in OAIC's Common Stock. Details about any
such plan would be sent to OAIC's stockholders following adoption thereof by the
Board of Directors.
REPORTS TO STOCKHOLDERS
OAIC will furnish its stockholders with annual reports containing audited
financial statements certified by independent public accountants and distribute
quarterly reports containing unaudited financial information for each of the
first three quarters of the year.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the Common Stock is The Bank of New
York.
CERTAIN PROVISIONS OF VIRGINIA LAW AND
OF OAIC'S ARTICLES OF INCORPORATION AND BYLAWS
The following summary of certain provisions of Virginia law and of the
Articles of Incorporation and Bylaws of OAIC does not purport to be complete and
is subject to and qualified in its entirety by reference to Virginia law and the
Articles of Incorporation and Bylaws of OAIC. Certain provisions of Virginia law
and the Articles of Incorporation and Bylaws are described elsewhere in this
Prospectus.
BOARD OF DIRECTORS
The Bylaws provide that the number of Directors of OAIC may be established
by the Board of Directors but may not be fewer than one nor more than nine. Any
vacancy will be filled, at any regular meeting or at any special meeting called
for that purpose, by a majority of the remaining Directors, except that a
vacancy resulting from an increase in the number of Directors must be filled by
a majority of the entire Board of Directors.
OAIC's Bylaws also provide that a Director may be removed with or without
cause with the affirmative vote of at least two-thirds of the votes entitled to
be cast in the election of Directors. This provision, when coupled with the
provisions of the Bylaws authorizing the Board of Directors to fill vacant
directorships, as a practical matter precludes OAIC's stockholders from removing
incumbent directors and filling the vacancies created by such removal with their
own nominees.
AMENDMENT
The Articles of Incorporation may be amended by the affirmative vote of the
holders of a majority of the outstanding shares of Common Stock (and majority of
the outstanding shares of Preferred Stock, if any, to the extent that such
amendment would materially adversely affect the holders of the Preferred Stock),
with the stockholders voting as a class with one vote per share; provided, that
the Articles of
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Incorporation provision relating to OAIC's election to be taxed as a REIT shall
not be amended, altered, changed or repealed without the affirmative vote of at
least 80% of the members of the Board of Directors and the affirmative vote of
holders of two-thirds of the outstanding shares of Common Stock and any other
shares of capital stock entitled to vote generally in the election of directors
voting as a class. OAIC's Bylaws may be amended by the Board of Directors or by
vote of the holders of a majority of the outstanding shares of Common Stock,
provided that provisions with respect to removal of directors, quorum
requirements and approval of certain matters by a majority of the Directors,
cannot be amended without the affirmative vote of 80% of the members of the
entire Board of Directors, including a majority of the Independent Directors, or
the holders of two-thirds of the outstanding shares of Common Stock and any
other class of shares of capital stock entitled to vote generally in the
election of directors.
BUSINESS COMBINATIONS
The Virginia Stock Corporation Act contains provisions restricting
"Affiliated Transactions." These provisions, with several exceptions discussed
below, require approval of material acquisition transactions between a Virginia
corporation having more than 300 stockholders of record and any holder of more
than 10% of any class of its outstanding voting shares (an "Interested
Stockholder") by the holders of at least two-thirds of the remaining voting
shares. Affiliated Transactions subject to this approval requirement include
mergers, share exchanges, material dispositions of corporate assets not in the
ordinary course of business, any dissolution of the corporation proposed by or
on behalf of an Interested Stockholder, or any reclassification, including a
reverse stock split, a recapitalization or a merger of the corporation with its
subsidiaries that increases the percentage of voting shares owned beneficially
by an Interested Stockholder by more than 5%.
For three years following the time that an Interested Stockholder becomes an
owner of 10% of the outstanding voting shares, a Virginia corporation cannot
engage in an Affiliated Transaction with such Interested Stockholder without
approval of two-thirds of the voting shares other than those shares beneficially
owned by the Interested Stockholder, and majority approval of the "Unaffiliated
Directors." An Unaffiliated Director, for this purpose, means, with respect to a
particular Interested Stockholder, a member of OAIC's Board of Directors who was
(i) a member on the date on which an Interested Stockholder became an Interested
Stockholder and (ii) recommended for election by, or was elected to fill a
vacancy and received the affirmative vote of, a majority of the Unaffiliated
Directors then on the Board. At the expiration of the three year period, the
statute requires approval of Affiliated Transactions by two-thirds of the voting
shares other than those beneficially owned by the Interested Stockholder.
The principal exceptions to the special voting requirement apply to
transactions proposed after the three year period has expired and require either
that the transaction be approved by a majority of the corporation's Unaffiliated
Directors or that the transaction satisfy the fair-price requirements of the
statute. In general, the fair-price requirement provides that in a two-step
acquisition transaction, the Interested Stockholder must pay the stockholders in
the second step either the same amount of cash or the same amount and type of
consideration paid to acquire the Virginia corporation's shares in the first
step.
None of the foregoing limitations and special voting requirements applies to
a transaction with an Interested Stockholder whose acquisition of shares making
such person an Interested Stockholder was approved by a majority of the Virginia
corporation's Unaffiliated Directors. The Company's Unaffiliated Directors have
approved Ocwen Financial's acquisition of more than 10% of shares in the Common
Stock.
These provisions were designed to deter certain takeovers of Virginia
corporations. In addition, the statute provides that, by affirmative vote of a
majority of the voting shares other than shares owned by any Interested
Stockholder, a corporation can adopt an amendment to its Articles of
Incorporation or Bylaws providing that the Affiliated Transactions provisions
shall not apply to the corporation. OAIC has not "opted out" of the Affiliated
Transactions provisions.
CONTROL SHARE ACQUISITIONS
The Virginia Stock Corporation Act also contains provisions regulating
certain "Control Share Acquisitions," which are transactions causing the voting
strength of any person acquiring beneficial
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ownership of shares of a public corporation in Virginia to meet or exceed
certain threshold percentages (20%, 33 1/3% or 50%) of the total votes entitled
to be cast for the election of directors. Shares acquired in a control share
acquisition have no voting rights unless: (i) the voting rights are granted by a
majority vote of all outstanding shares other than those held by the acquiring
person or any officer or employee Director of the corporation, or (ii) the
Articles of Incorporation or Bylaws of the corporation provide that these
Virginia law provisions do not apply to acquisitions of its shares. The
acquiring person may require that a special meeting of the stockholders be held
to consider the grant of voting rights to the shares acquired in the control
share acquisition. These provisions were designed to deter certain takeovers of
Virginia public corporations. Under Virginia law, a corporation may "opt out" of
the Control Share Acquisitions provisions in its Articles of Incorporation or
Bylaws. OAIC has not "opted out" of the Control Share Acquisitions provisions.
OPERATIONS
The Company is generally prohibited from engaging in certain activities and
acquiring or holding property or engaging in any activity that would cause the
Company to fail to qualify as a REIT.
ADVANCE NOTICE OF DIRECTOR NOMINATIONS AND NEW BUSINESS
The Bylaws of the Company provide (a) with respect to an annual meeting of
stockholders, nominations of persons for election to the Board of Directors and
the proposal of business to be considered by such stockholders may be made only
(i) pursuant to the Company's notice of the meeting, (ii) by the Board of
Directors or (iii) by a stockholder who is entitled to vote at the meeting and
has complied with the advance notice procedures set forth in the Bylaws and (b)
with respect to special meetings of stockholders, nominations of persons for
election to the Board of Directors may be made only (i) pursuant to the
Company's notice of meeting, (ii) by the Board of Directors or (iii) provided
that the Board of Directors has determined that directors shall be elected at
such meeting, by a stockholder who is entitled to vote at the meeting and has
complied with the advance notice provisions set forth in the Bylaws.
COMMON STOCK AVAILABLE FOR FUTURE SALE
Upon the closing of the Offering, OAIC will have outstanding (or reserved
for issuance upon exercise of options) 18,562,500 shares of Common Stock. The
Common Stock issued in the Offering will be freely tradeable by persons other
than "Affiliates" of the Company without restriction under the Securities Act of
1933, as amended (the "Securities Act"), subject to certain limitations on
ownership set forth in the Articles of Incorporation. See "Description of
Capital Stock--Restrictions on Transfer."
Shares of Common Stock issued to holders of Units upon exercise of the
Redemption Rights will be "restricted" securities under the meaning of Rule 144
promulgated under the Securities Act ("Rule 144") and may not be sold in the
absence of registration under the Securities Act unless an exemption from
registration is available, including exemptions contained in Rule 144. See
"Operating Partnership-- Redemption Rights." As described below, OAIC has
granted certain holders registration rights with respect to their Common Stock.
In general, under Rule 144 as currently in effect, if one year has elapsed
since the later of the date of acquisition of restricted shares from the Company
or any "Affiliate" of the Company, as that term is defined under the Securities
Act, the acquiror or subsequent holder thereof is entitled to sell within any
three-month period a number of shares that does not exceed the greater of 1% of
the then outstanding Common Stock or the average weekly trading volume of the
Common Stock during the four calendar weeks preceding the date on which notice
of the sale is filed with the Commission. Sales under Rule 144 also are subject
to certain manner of sale provisions, notice requirements and the availability
of current public information about the Company. If two years have elapsed since
the date of acquisition of restricted shares from the Company or from any
Affiliate of the Company, and the acquiror or subsequent holder thereof is
deemed not to have been an Affiliate of the Company at any time during the three
months preceding a sale, such person would be entitled to sell such shares in
the public market under Rule 144(k)
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without regard to the volume limitations, manner of sale provisions, public
information requirements or notice requirements.
No prediction can be made as to the effect, if any, that future sales of
shares, or the availability of shares for future sale, will have on the market
price prevailing from time to time. Sales of substantial amounts of Common
Stock, or the perception that such sales could occur, may affect adversely
prevailing market prices of the Common Stock.
OPERATING PARTNERSHIP AGREEMENT
The Operating Partnership has been organized as a Virginia limited
partnership, the general partner of which is Ocwen General, Inc., a wholly-owned
subsidiary of OAIC, and the initial limited partner of which is Ocwen Limited
Inc., a wholly-owned subsidiary of OAIC (the "Initial Limited Partner"). Because
OAIC indirectly owns 100% of the partnership interests in the Operating
Partnership, the Operating Partnership will be disregarded as a separate entity
from OAIC for federal income tax purposes until a third party is admitted as a
partner of the Operating Partnership. The Company organized the Operating
Partnership in order to provide future sellers of assets with the opportunity to
transfer those assets to the Company in a tax-deferred exchange. The Operating
Partnership Agreement currently does not contain many of the provisions
described below. Instead, the following summary of the Operating Partnership
Agreement, and the descriptions of certain provisions thereof set forth
elsewhere in this Prospectus, describe certain provisions that likely will
appear in the Operating Partnership Agreement when the Manager or third-party
sellers of assets who wish to achieve tax deferral are admitted as partners of
the Operating Partnership. The provisions described in this summary, however,
may not appear in the Operating Partnership Agreement that ultimately is
executed.
GENERAL
Pursuant to the Operating Partnership Agreement, the General Partner, as the
sole general partner of the Operating Partnership, will have full, exclusive and
complete responsibility and discretion in the management and control of the
Operating Partnership. The limited partners of the operating partnership (the
"Limited Partners") will have no authority in their capacity as Limited Partners
to transact business for, or participate in the management activities or
decisions of, the Operating Partnership except as required by applicable law.
Consequently, OAIC, by virtue of its ownership of the General Partner, will
control the assets and business of the Operating Partnership. However, it is
anticipated that any amendment to the Operating Partnership Agreement that would
(i) affect the Redemption Rights (as defined below), (ii) adversely affect the
Limited Partners' rights to receive cash distributions, (iii) alter the
Operating Partnership's allocations of income or loss, or (iv) impose on the
Limited Partners any obligations to make additional contributions to the capital
of the Operating Partnership, will require the consent of Limited Partners
(other than the Initial Limited Partner) holding more than two-thirds of the
partnership interests ("Units") held by such partners.
GENERAL PARTNER NOT TO WITHDRAW
It is anticipated that the General Partner will not be able to voluntarily
withdraw from the Operating Partnership or transfer or assign its interest in
the Operating Partnership unless the transaction in which such withdrawal or
transfer occurs results in the Limited Partners receiving property in an amount
equal to the amount they would have received had they exercised the Redemption
Rights immediately prior to such transaction, or unless the successor to the
General Partner contributes substantially all of its assets to the Operating
Partnership in return for an interest in the Operating Partnership.
CAPITAL CONTRIBUTION
OAIC will contribute, through the General Partner and the Initial Limited
Partner, all of the net proceeds of the Offering to the Operating Partnership.
The General Partner will hold a 1% general partnership interest in the Operating
Partnership, and the Initial Limited Partner will hold a 99% limited partnership
interest in the Operating Partnership.
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After the completion of the Offering, OAIC will have issued a total of
16,875,000 shares of Common Stock and will own, through the General Partner and
the Initial Limited Partner, 100% of the partnership interests in the Operating
Partnership. Although the Operating Partnership will receive the net proceeds of
the Offering, the Initial Limited Partner and the General Partner will be deemed
to have made a capital contribution to the Operating Partnership in the
aggregate amount of the gross proceeds of the Offering and the Operating
Partnership will be deemed simultaneously to have paid the underwriter's
discount and other expenses paid or incurred in connection with the Offering.
It is anticipated that the Operating Partnership Agreement will provide that
if the Operating Partnership requires additional funds at any time or from time
to time in excess of funds available to the Operating Partnership from borrowing
or capital contributions, the General Partner may borrow such funds from a
financial institution or other lender and lend such funds to the Operating
Partnership on the same terms and conditions as are applicable to the General
Partner's borrowing of such funds. Moreover, it is anticipated that the General
Partner will be authorized to cause the Operating Partnership to issue
partnership interests for less than fair market value if the Company (i) has
concluded in good faith that such issuance is in the best interest of the
Company and the Operating Partnership and (ii) the General Partner makes a
capital contribution in an amount equal to the proceeds of such issuance. Under
the Operating Partnership Agreement, each of the General Partner and the Initial
Limited Partner is obligated to contribute the net proceeds of any future share
offering by OAIC as additional capital to the Operating Partnership in exchange
for an additional partnership interest. Upon such contribution, the General
Partner's and the Initial Limited Partner's percentage interests in the
Operating Partnership would be increased on a proportionate basis based upon the
amount of such additional capital contributions. The percentage interests of the
Limited Partners (other than the Initial Limited Partner) would be decreased on
a proportionate basis in the event of additional capital contributions by the
General Partner and the Initial Limited Partner. In addition, if the General
Partner and the Initial Limited Partner were to contribute additional capital to
the Operating Partnership, the General Partner would revalue the property of the
Operating Partnership to its fair market value (as determined by the General
Partner) and the capital accounts of the partners would be adjusted to reflect
the manner in which the unrealized gain or loss inherent in such property (that
has not been reflected in the capital accounts previously) would be allocated
among the partners under the terms of the Operating Partnership Agreement as if
there were a taxable disposition of such property for such fair market value on
the date of the revaluation.
REDEMPTION RIGHTS
It is anticipated that pursuant to the Operating Partnership Agreement, the
Limited Partners (other than the Initial Limited Partner) will have the right
(the "Redemption Rights") to cause the Operating Partnership to redeem their
Units for cash or, at the election of the General Partner, shares of Common
Stock on a one-for-one basis. The redemption price will be paid in cash in the
discretion of the Company or in the event that the issuance of shares of Common
Stock to the redeeming Limited Partner would (i) result in any person owning,
directly or indirectly, shares of Common Stock in excess of the Ownership
Limitation, (ii) result in shares of capital stock of the Company being owned by
fewer than 100 persons (determined without reference to any rules of
attribution), (iii) result in the Company being "closely held" within the
meaning of section 856(h) of the Code, (iv) cause the Company to own, actually
or constructively, 10% or more of the ownership interests in a tenant of the
Company's or the Operating Partnership's real property, within the meaning of
section 856(d)(2)(B) of the Code, or (v) cause the acquisition of shares of
Common Stock by such redeeming Limited Partner to be "integrated" with any other
distribution of shares of Common Stock for purposes of complying with the
Securities Act. The Manager holds options to acquire shares of Common Stock (or,
at the option of the Company, Units), none of which is exercisable until the
first anniversary of the Closing Date. Upon an acquisition of Units, the Manager
may immediately exercise its Redemption Rights.
If the Company decides to securitize some or all of its Mortgage Loans (or
to resecuritize some or all of its MBS) through the issuance of non-REMIC
collaterized mortgage obligations with multiple maturities ("CMOs"), it is
anticipated that the Mortgage Loans will be distributed, through the General
Partner
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and the Initial Limited Partner, to OAIC in order to prevent the Mortgage Loans
from being treated as a taxable mortgage pool for federal income tax purposes
upon the issuance of the CMOs. Accordingly, it is anticipated that the General
Partner and the Initial Limited Partner will have the right to redeem a portion
of their partnership interests in the Operating Partnership in exchange for
Mortgage Loans to the extent necessary to facilitate such a securitization
transaction. The portion of the General Partner's or Initial Limited Partner's
partnership interest that is redeemed will be based on the fair market value of
the Mortgage Loans distributed, as determined by the General Partner, but
subject to review by the Independent Directors to ensure compliance with the
Guidelines.
OPERATIONS
The Operating Partnership Agreement requires that the Operating Partnership
be operated in a manner that will enable OAIC to satisfy the requirements for
being classified as a REIT for federal tax purposes, to avoid any federal income
or excise tax liability imposed by the Code, and to ensure that the Operating
Partnership will not be classified as a "publicly traded partnership" for
purposes of section 7704 of the Code.
In addition to the administrative and operating costs and expenses incurred
by the Operating Partnership, it is anticipated that the Operating Partnership
will pay all administrative costs and expenses of the Company and the General
Partner (collectively, the "Company Expenses") and the Company Expenses will be
treated as expenses of the Operating Partnership. The Company Expenses generally
will include (i) all expenses relating to the formation and continuity of
existence of the Company and the General Partner, (ii) all expenses relating to
the public offering and registration of securities by the Company, (iii) all
expenses associated with the preparation and filing of any periodic reports by
the Company under federal, state or local laws or regulations, (iv) all expenses
associated with compliance by the Company and the General Partner with laws,
rules and regulations promulgated by any regulatory body and (v) all other
operating or administrative costs of the General Partner incurred in the
ordinary course of its business on behalf of the Operating Partnership.
DISTRIBUTIONS
It is anticipated that the Operating Partnership Agreement will provide that
the Operating Partnership shall distribute cash from operations (including net
sale or refinancing proceeds, but excluding net proceeds from the sale of the
Operating Partnership's property in connection with the liquidation of the
Operating Partnership) on a quarterly (or, at the election of the General
Partner, more frequent) basis, in amounts determined by the General Partner in
its sole discretion, to the partners in accordance with their respective
percentage interests in the Operating Partnership. Upon liquidation of the
Operating Partnership, after payment of, or adequate provision for, debts and
obligations of the Operating Partnership, including any partner loans, it is
anticipated that any remaining assets of the Operating Partnership will be
distributed to all partners with positive capital accounts in accordance with
their respective positive capital account balances. If the General Partner has a
negative balance in its capital account following a liquidation of the Operating
Partnership, it will be obligated to contribute cash to the Operating
Partnership equal to the negative balance in its capital account.
ALLOCATIONS
It is anticipated that income, gain and loss of the Operating Partnership
for each fiscal year generally will be allocated among the partners in
accordance with their respective interests in the Operating Partnership, subject
to compliance with the provisions of Code sections 704(b) and 704(c) and
Treasury regulations ("Treasury Regulations") promulgated thereunder.
TERM
The Operating Partnership shall continue until December 31, 2050, or until
sooner terminated as provided in the Operating Partnership Agreement or by
operation of law.
TAX MATTERS
Pursuant to the Operating Partnership Agreement, the General Partner is the
tax matters partner of the Operating Partnership and, as such, has authority to
handle tax audits and to make tax elections under the Code on behalf of the
Operating Partnership.
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FEDERAL INCOME TAX CONSIDERATIONS
The following is a summary of material federal income tax considerations
that may be relevant to a prospective holder of Common Stock in OAIC. Hunton &
Williams has acted as counsel to OAIC and has reviewed this summary and has
rendered an opinion that the descriptions of the law and the legal conclusions
contained herein are correct in all material respects, and the discussions
hereunder fairly summarize the federal income tax considerations that are likely
to be material to OAIC and a holder of the Common Stock. The discussion
contained herein does not address all aspects of taxation that may be relevant
to particular stockholders in light of their personal investment or tax
circumstances, or to certain types of stockholders (including insurance
companies, tax-exempt organizations, financial institutions or broker-dealers,
foreign corporations, and persons who are not citizens or residents of the
United States) subject to special treatment under the federal income tax laws.
The statements in this discussion and the opinion of Hunton & Williams are
based on current provisions of the Code, existing, temporary, and currently
proposed Treasury Regulations promulgated under the Code, the legislative
history of the Code, existing administrative rulings and practices of the
Service, and judicial decisions. No assurance can be given that future
legislative, judicial, or administrative actions or decisions, which may be
retroactive in effect, will not affect the accuracy of any statements in this
Prospectus with respect to the transactions entered into or contemplated prior
to the effective date of such changes.
EACH PROSPECTIVE PURCHASER SHOULD CONSULT HIS OWN TAX ADVISOR REGARDING THE
SPECIFIC TAX CONSEQUENCES TO HIM OF THE PURCHASE, OWNERSHIP, AND SALE OF THE
COMMON STOCK AND OF OAIC'S ELECTION TO BE TAXED AS A REIT, INCLUDING THE
FEDERAL, STATE, LOCAL, FOREIGN, AND OTHER TAX CONSEQUENCES OF SUCH PURCHASE,
OWNERSHIP, SALE, AND ELECTION, AND OF POTENTIAL CHANGES IN APPLICABLE TAX LAWS.
TAXATION OF THE COMPANY
OAIC currently has in effect an election to be taxed as a pass-through
entity under subchapter S of the Code, but intends to revoke its S election on
the day prior to the completion of the Offering. OAIC plans to make an election
to be taxed as a REIT under sections 856 through 860 of the Code, commencing
with its short taxable year beginning on the day prior to the Closing and ending
on December 31, 1997.
The sections of the Code relating to qualification and operation as a REIT
are highly technical and complex. The following discussion sets forth the
material aspects of the Code sections that govern the federal income tax
treatment of a REIT and its stockholders. The discussion is qualified in its
entirety by the applicable Code provisions, Treasury Regulations promulgated
thereunder, and administrative and judicial interpretations thereof, all of
which are subject to change prospectively or retroactively.
Hunton & Williams has acted as counsel to OAIC in connection with the
Offering and OAIC's election to be taxed as a REIT. In the opinion of Hunton &
Williams, assuming that the elections and other procedural steps described in
this discussion of "Federal Income Tax Considerations" are completed by OAIC in
a timely fashion, commencing with OAIC's short taxable year beginning the day
prior to the closing of the Offering and ending December 31, 1997, OAIC will
qualify to be taxed as a REIT pursuant to sections 856 through 860 of the Code,
and OAIC's organization and proposed method of operation will enable it to
continue to meet the requirements for qualification and taxation as a REIT under
the Code. Investors should be aware, however, that opinions of counsel are not
binding upon the Service or any court. It must be emphasized that Hunton &
Williams' opinion is based on various assumptions and is conditioned upon
certain representations made by OAIC as to factual matters, including
representations regarding the nature of OAIC's properties and the future conduct
of its business. Such factual assumptions and representations are described
below in this discussion of "Federal Income Tax Considerations" and are set out
in the federal income tax opinion that will be delivered by Hunton & Williams at
the closing of the
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Offering. Moreover, such qualification and taxation as a REIT depends upon
OAIC's ability to meet on a continuing basis, through actual annual operating
results, distribution levels, and stock ownership, the various qualification
tests imposed under the Code discussed below. Hunton & Williams will not review
OAIC's compliance with those tests on a continuing basis. Accordingly, no
assurance can be given that the actual results of OAIC's operations for any
particular taxable year will satisfy such requirements. For a discussion of the
tax consequences of failure to qualify as a REIT, see "Federal Income Tax
Considerations--Failure to Qualify."
If OAIC qualifies for taxation as a REIT, it generally will not be subject
to federal corporate income tax on its net income that is distributed currently
to its stockholders. That treatment substantially eliminates the "double
taxation" (i.e., taxation at both the corporate and stockholder levels) that
generally results from an investment in a corporation. However, OAIC will be
subject to federal income tax in the following circumstances. First, OAIC will
be taxed at regular corporate rates on any undistributed REIT taxable income,
including undistributed net capital gains. Second, under certain circumstances,
OAIC may be subject to the "alternative minimum tax" on its undistributed items
of tax preference, if any. Third, if OAIC has (i) net income from the sale or
other disposition of "foreclosure property" that is held primarily for sale to
customers in the ordinary course of business or (ii) other nonqualifying income
from foreclosure property, it will be subject to tax at the highest corporate
rate on such income. Fourth, if OAIC has net income from prohibited transactions
(which are, in general, certain sales or other dispositions of property (other
than foreclosure property) held primarily for sale to customers in the ordinary
course of business), such income will be subject to a 100% tax. Fifth, if OAIC
should fail to satisfy the 75% gross income test or the 95% gross income test
(as discussed below), and nonetheless has maintained its qualification as a REIT
because certain other requirements have been met, it will be subject to a 100%
tax on the net income attributable to the greater of the amount by which OAIC
fails the 75% or 95% gross income test. Sixth, if OAIC should fail to distribute
during each calendar year at least the sum of (i) 85% of its REIT ordinary
income for such year, (ii) 95% of its REIT capital gain net income for such
year, and (iii) any undistributed taxable income from prior periods, OAIC would
be subject to a 4% excise tax on the excess of such required distribution over
the amounts actually distributed. Seventh, if OAIC acquires any asset from a C
corporation (i.e., a corporation generally subject to full corporate-level tax)
in a merger or other transaction in which the basis of the asset in OAIC's hands
is determined by reference to the basis of the asset (or any other asset) in the
hands of the C corporation and OAIC recognizes gain on the disposition of such
asset during the 10-year period beginning on the date on which it acquired such
asset, then to the extent of such asset's "built-in-gain" (i.e., the excess of
the fair market value of such asset at the time of acquisition by OAIC over the
adjusted basis in such asset at such time), OAIC will be subject to tax at the
highest regular corporate rate applicable (as provided in Treasury Regulations
that have not yet been promulgated). The results described above with respect to
the tax on "built-in-gain" assume that OAIC will elect pursuant to IRS Notice
88-19 to be subject to the rules described in the preceding sentence if it were
to make any such acquisition. Finally, OAIC will be subject to tax at the
highest marginal corporate rate on the portion of any Excess Inclusion derived
by OAIC from REMIC Residual Interests equal to the percentage of the stock of
OAIC held by the United States, any state or political subdivision thereof, any
foreign government, any international organization, any agency or
instrumentality of any of the foregoing, any other tax-exempt organization
(other than a farmer's cooperative described in section 521 of the Code) that is
exempt from taxation under the unrelated business taxable income provisions of
the Code, or any rural electrical or telephone cooperative (each, a
"Disqualified Organization"). Any such tax on the portion of any Excess
Inclusion allocable to stock of OAIC held by a Disqualified Organization will
reduce the cash available for distribution from OAIC to all stockholders.
REQUIREMENTS FOR QUALIFICATION
The Code defines a REIT as a corporation, trust, or association (i) that is
managed by one or more trustees or directors; (ii) the beneficial ownership of
which is evidenced by transferable shares, or by transferable certificates of
beneficial interest; (iii) that would be taxable as a domestic corporation, but
for
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sections 856 through 860 of the Code; (iv) that is neither a financial
institution nor an insurance company subject to certain provisions of the Code;
(v) the beneficial ownership of which is held by 100 or more persons; (vi) not
more than 50% in value of the outstanding shares of which is owned, directly or
indirectly, by five or fewer individuals (as defined in the Code to include
certain entities) during the last half of each taxable year (the "5/50 Rule");
(vii) that makes an election to be a REIT (or has made such election for a
previous taxable year) and satisfies all relevant filing and other
administrative requirements established by the Service that must be met in order
to elect and maintain REIT status; (viii) that uses a calendar year for federal
income tax purposes and complies with the recordkeeping requirements of the Code
and Treasury Regulations promulgated thereunder; and (ix) that meets certain
other tests, described below, regarding the nature of its income and assets. The
Code provides that conditions (i) to (iv), inclusive, must be met during the
entire taxable year and that condition (v) must be met during at least 335 days
of a taxable year of 12 months, or during a proportionate part of a taxable year
of less than 12 months. Conditions (v) and (vi) will not apply until after the
first taxable year for which an election is made by OAIC to be taxed as a REIT.
For purposes of determining stock ownership under the 5/50 Rule, a supplemental
unemployment compensation benefits plan, a private foundation, or a portion of a
trust permanently set aside or used exclusively for charitable purposes
generally is considered an individual. A trust that is a qualified trust under
Code section 401(a), however, generally is not considered an individual and
beneficiaries of such trust are treated as holding shares of a REIT in
proportion to their actuarial interests in such trust for purposes of the 5/50
Rule.
Prior to the consummation of the Offering, OAIC did not satisfy conditions
(v) and (vi) in the preceding paragraph. OAIC anticipates issuing sufficient
Common Stock with sufficient diversity of ownership pursuant to the Offering to
allow it to satisfy requirements (v) and (vi). In addition, OAIC's Articles of
Incorporation provide for restrictions regarding the transfer of the Common
Stock that are intended to assist OAIC in continuing to satisfy the share
ownership requirements described in clauses (v) and (vi) above. Such transfer
restrictions are described in "Description of Common Stock--Restrictions on
Transfer."
OAIC currently has two subsidiaries, the General Partner and the Limited
Partner, and may have additional subsidiaries in the future. Code section 856(i)
provides that a corporation that is a "qualified REIT subsidiary" shall not be
treated as a separate corporation, and all assets, liabilities, and items of
income, deduction, and credit of a "qualified REIT subsidiary" shall be treated
as assets, liabilities, and items of income, deduction, and credit of the REIT.
A "qualified REIT subsidiary" is a corporation, all of the capital stock of
which has been held by the REIT at all times during the period such corporation
was in existence. Thus, in applying the requirements described herein, any
"qualified REIT subsidiaries" of OAIC will be ignored, and all assets,
liabilities, and items of income, deduction, and credit of such subsidiaries
will be treated as assets, liabilities, and items of income, deduction, and
credit of OAIC. The General Partner and the Limited Partner are "qualified REIT
subsidiaries." Accordingly, neither the General Partner nor the Limited Partner
will be subject to federal corporate income taxation, although each may be
subject to state and local taxation.
Pursuant to Treasury Regulations effective January 1, 1997 relating to
entity classification (the "Check-the-Box Regulations"), an unincorporated
entity that has a single owner is disregarded as an entity separate from its
owner for federal income tax purposes. Because OAIC is deemed to own 100% of the
partnership interests in the Operating Partnership for federal income tax
purposes, the Operating Partnership will be disregarded as an entity separate
from OAIC under the Check-the-Box Regulations.
In the case of a REIT that is a partner in a partnership, Treasury
Regulations provide that the REIT will be deemed to own its proportionate share
of the assets of the partnership and will be deemed to be entitled to the gross
income of the partnership attributable to such share. In addition, the assets
and gross income of the partnership will retain the same character in the hands
of the REIT for purposes of section 856 of the Code, including satisfying the
gross income and asset tests described below. When the Operating Partnership
admits a partner other than OAIC or a qualified REIT subsidiary of OAIC, OAIC's
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proportionate share of the assets and gross income of the Operating Partnership
will be treated as assets and gross income of OAIC for purposes of applying the
requirements described herein.
INCOME TESTS
In order for OAIC to qualify and to maintain its qualification as a REIT,
three requirements relating to OAIC's gross income must be satisfied annually.
First, at least 75% of OAIC's gross income (excluding gross income from
prohibited transactions) for each taxable year must consist of defined types of
income derived directly or indirectly from investments relating to real property
or mortgages on real property (including "rents from real property" and interest
on obligations secured by mortgages on real property or on interests in real
property) or temporary investment income. Second, at least 95% of OAIC's gross
income (excluding gross income from prohibited transactions) for each taxable
year must be derived from such real property, mortgages on real property, or
temporary investments, and from dividends, other types of interest, and gain
from the sale or disposition of stock or securities, or from any combination of
the foregoing. Third, not more than 30% of OAIC's gross income (including gross
income from prohibited transactions) for each taxable year may be gain from the
sale or other disposition of (i) stock or securities held for less than one
year, (ii) dealer property that is not foreclosure property, and (iii) certain
real property held for less than four years (apart from involuntary conversions
and sales of foreclosure property). The specific application of these tests to
OAIC is discussed below.
The term "interest," as defined for purposes of the 75% and 95% gross income
tests, generally does not include any amount received or accrued (directly or
indirectly) if the determination of such amount depends in whole or in part on
the income or profits of any person. However, an amount received or accrued
generally will not be excluded from the term "interest" solely by reason of
being based on a fixed percentage or percentages of receipts or sales. In
addition, an amount received or accrued generally will not be excluded from the
term "interest" solely by reason of being based on the income or profits of a
debtor if the debtor derives substantially all of its gross income from the
related property through the leasing of substantially all of its interests in
the property, to the extent the amounts received by the debtor would be
characterized as rents from real property if received by a REIT. Furthermore, to
the extent that interest from a loan that is based on the cash proceeds from the
sale of the property securing the loan constitutes a "shared appreciation
provision" (as defined in the Code), income attributable to such participation
feature will be treated as gain from the sale of the secured property, which
generally is qualifying income for purposes of the 75% and 95% gross income
tests.
Interest on obligations secured by mortgages on real property or on
interests in real property is qualifying income for purposes of the 75% gross
income test. Any amount includible in gross income with respect to a regular or
residual interest in a REMIC generally is treated as interest on an obligation
secured by a mortgage on real property. If, however, less than 95% of the assets
of a REMIC consists of real estate assets (determined as if OAIC held such
assets), OAIC will be treated as receiving directly its proportionate share of
the income of the REMIC. In addition, if OAIC receives interest income with
respect to a mortgage loan that is secured by both real property and other
property and the highest principal amount of the loan outstanding during a
taxable year exceeds the fair market value of the real property on the date OAIC
purchased the mortgage loan, the interest income will be apportioned between the
real property and the other property, which apportionment may cause OAIC to
recognize income that is not qualifying income for purposes of the 75% gross
income test.
Hunton & Williams is of the opinion that the interest, original issue
discount, and market discount income that OAIC derives from its investments in
Subordinated Interests, IOs, and Inverse IOs generally will be qualifying
interest income for purposes of both the 75% and the 95% gross income tests,
except to the extent that less than 95% of the assets of a REMIC in which OAIC
holds an interest consists of real estate assets (determined as if OAIC held
such assets), and OAIC's proportionate share of the income of the REMIC includes
income that is not qualifying income for purposes of the 75% and 95% gross
income tests. Most of the income that OAIC recognizes with respect to its
investments in Distressed Mortgage
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Loans and Performing Mortgage Loans will be qualifying income for purposes of
both gross income tests. In some cases, however, the loan amount of a Distressed
Mortgage Loan or Performing Mortgage Loan may exceed the value of the real
property securing the loan, which will result in a portion of the income from
the loan being classified as qualifying income for purposes of the 95% gross
income test, but not for purposes of the 75% gross income test. It is also
possible that, in some instances, the interest income from a Distressed Mortgage
Loan may be based in part on the borrower's profits or net income, which
generally will disqualify the income from the loan for purposes of both the 75%
and the 95% gross income tests. Finally, if OAIC forecloses on a loan that it
has held for less than four years, any gain that OAIC recognizes upon the act of
foreclosure as a result of the retirement of the loan will not be qualifying
income for purposes of the 30% gross income test.
OAIC may originate or acquire Construction or Mezzanine Loans that have
shared appreciation provisions. If income under a shared appreciation provision
is triggered by the borrower, OAIC may recognize nonqualifying income for
purposes of the 30% gross income test. In addition, OAIC may be required to
recognize income from a shared appreciation provision over the term of the
related loan using the constant yield method pursuant to certain Treasury
Regulations.
OAIC may originate or acquire Performing Mortgage Loans and securitize such
loans through the issuance of non-REMIC CMOs. As a result of such transactions,
OAIC will retain an equity ownership interest in the Performing Mortgage Loans
that has economic characteristics similar to those of a Subordinated Interest.
In addition, OAIC may resecuritize MBS (or non-REMIC CMOs) through the issuance
of non-REMIC CMOs, retaining an equity interest in the MBS used as collateral in
the resecuritization transaction. Such transactions will not cause OAIC to fail
to satisfy the gross income tests or the asset tests described below.
OAIC may receive income not described above that is not qualifying income
for purposes of the 75% and 95% gross income tests. For example, certain fees
for services rendered by the Operating Partnership will not be qualifying income
for purposes of the gross income tests. It is not anticipated that the Operating
Partnership will receive a significant amount of such fees. OAIC will monitor
the amount of nonqualifying income produced by its assets and has represented
that it will manage its portfolio in order to comply at all times with the three
gross income tests.
The rent received by OAIC from the tenants of its Real Property ("Rent")
will qualify as "rents from real property" in satisfying the gross income tests
for a REIT described above only if several conditions are met. First, the amount
of Rent must not be based, in whole or in part, on the income or profits of any
person. However, an amount received or accrued generally will not be excluded
from the term "rents from real property" solely by reason of being based on a
fixed percentage or percentages of receipts or sales. Second, the Code provides
that the Rent received from a tenant will not qualify as "rents from real
property" in satisfying the gross income tests if OAIC, or a direct or indirect
owner of 10% or more of OAIC, owns 10% or more of such tenant, taking into
account both direct and constructive ownership (a "Related Party Tenant").
Third, if Rent attributable to personal property, leased in connection with a
lease of Real Property, is greater than 15% of the total Rent received under the
lease, then the portion of Rent attributable to such personal property will not
qualify as "rents from real property." Finally, for the Rent to qualify as
"rents from real property," OAIC generally must not operate or manage the Real
Property or furnish or render services to the tenants of such Real Property,
other than through an "independent contractor" who is adequately compensated and
from whom OAIC derives no revenue. The "independent contractor" requirement,
however, does not apply to the extent the services provided by OAIC are "usually
or customarily rendered" in connection with the rental of space for occupancy
only and are not otherwise considered "rendered to the occupant."
OAIC has represented that it will not charge Rent for any portion of any
Real Property that is based, in whole or in part, on the income or profits of
any person (except by reason of being based on a fixed percentage or percentages
of receipts of sales, as described above) to the extent that the receipt of such
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Rent would jeopardize OAIC's status as a REIT. In addition, OAIC has represented
that, to the extent that it receives Rent from a Related Party Tenant, such Rent
will not cause OAIC to fail to satisfy either the 75% or 95% gross income test.
OAIC also has represented that it will not allow the Rent attributable to
personal property leased in connection with any lease of Real Property to exceed
15% of the total Rent received under the lease, if the receipt of such Rent
would cause OAIC to fail to satisfy either the 75% or 95% gross income test.
Finally, OAIC has represented that it will not operate or manage its Real
Property or furnish or render noncustomary services to the tenants of its Real
Property other than through an "independent contractor," to the extent that such
operation or the provision of such services would jeopardize OAIC's status as a
REIT.
REITs generally are subject to tax at the maximum corporate rate on any
income from foreclosure property (other than income that would be qualifying
income for purposes of the 75% gross income test), less expenses directly
connected with the production of such income. "Foreclosure property" is defined
as any real property (including interests in real property) and any personal
property incident to such real property (i) that is acquired by a REIT as the
result of such REIT having bid in such property at foreclosure, or having
otherwise reduced such property to ownership or possession by agreement or
process of law, after there was a default (or default was imminent) on a lease
of such property or on an indebtedness owed to the REIT that such property
secured, (ii) for which the related loan was acquired by the REIT at a time when
default was not imminent or anticipated, and (iii) for which such REIT makes a
proper election to treat such property as foreclosure property. OAIC does not
anticipate that it will receive any income from foreclosure property that is not
qualifying income for purposes of the 75% gross income test, but, if OAIC does
receive any such income, OAIC will make an election to treat the related
property as foreclosure property.
If property is not eligible for the election to be treated as foreclosure
property ("Ineligible Property") because the related loan was acquired by the
REIT at a time when default was imminent or anticipated, income received with
respect to such Ineligible Property may not be qualifying income for purposes of
the 75% or 95% gross income test. In addition, if a REIT disposes of Ineligible
Property at a gain within four years of acquiring such property, such gain will
be nonqualifying income for purposes of the 30% income test. OAIC anticipates
that any income it receives with respect to Ineligible Property will be
qualifying income for purposes of the 75% and 95% gross income tests and that
any disposition of Ineligible Property within four years of acquiring such
property will not cause OAIC to fail to satisfy the 30% income test.
OAIC has represented that it will manage its assets so that it does not
violate the 30% income test in any taxable year. Any gross income derived from a
prohibited transaction is not taken into account in applying the 30% income test
necessary to qualify as a REIT (but the net income from such a transaction is
subject to a 100% tax). The term "prohibited transaction" generally includes a
sale or other disposition of property (other than foreclosure property) that is
held primarily for sale to customers in the ordinary course of a trade or
business. The Company believes that no asset owned by OAIC or the Operating
Partnership will be held for sale to customers and that a sale of any such asset
will not be in the ordinary course of OAIC's or the Operating Partnership's
business. Whether property is held "primarily for sale to customers in the
ordinary course of a trade or business" depends, however, on the facts and
circumstances in effect from time to time, including those related to a
particular property. Nevertheless, OAIC will attempt to comply with the terms of
safe-harbor provisions in the Code prescribing when asset sales will not be
characterized as prohibited transactions. Complete assurance cannot be given,
however, that OAIC can comply with the safe-harbor provisions of the Code or
avoid owning property that may be characterized as property held "primarily for
sale to customers in the ordinary course of a trade or business."
It is possible that, from time to time, OAIC will enter into hedging
transactions with respect to one or more of its assets or liabilities. Any such
hedging transactions could take a variety of forms, including interest rate swap
contracts, interest rate cap or floor contracts, futures or forward contracts,
and options. To the extent that OAIC enters into an interest rate swap or cap
contract to hedge any variable rate indebtedness incurred to acquire or carry
real estate assets, any periodic income or gain from the disposition of such
contract should be qualifying income for purposes of the 95% gross income test,
but not
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the 75% gross income test. Furthermore, any such contract would be considered a
"security" for purposes of applying the 30% gross income test. To the extent
that OAIC hedges with other types of financial instruments or in other
situations, it may not be entirely clear how the income from those transactions
will be treated for purposes of the various income tests that apply to REITs
under the Code. OAIC intends to structure any hedging transactions in a manner
that does not jeopardize its status as a REIT. Accordingly, OAIC may conduct
some or all of its hedging activities through a corporate subsidiary that is
fully subject to federal corporate income tax.
If OAIC fails to satisfy one or both of the 75% and 95% gross income tests
for any taxable year, it nevertheless may qualify as a REIT for such year if it
is entitled to relief under certain provisions of the Code. Those relief
provisions generally will be available if OAIC's failure to meet such tests is
due to reasonable cause and not due to willful neglect, OAIC attaches a schedule
of the sources of its income to its return, and any incorrect information on the
schedule was not due to fraud with intent to evade tax. It is not possible,
however, to state whether in all circumstances OAIC would be entitled to the
benefit of those relief provisions. As discussed above in "Federal Income Tax
Considerations--Taxation of the Company," even if those relief provisions apply,
a 100% tax would be imposed on the net income attributable to the greater of the
amount by which OAIC fails the 75% or 95% gross income test. No such relief is
available for violations of the 30% income test.
ASSET TESTS
OAIC, at the close of each quarter of each taxable year, also must satisfy
two tests relating to the nature of its assets. First, at least 75% of the value
of OAIC's total assets must be represented by cash or cash items (including
certain receivables), government securities, "real estate assets," or, in cases
where OAIC raises new capital through stock or long-term (at least five-year)
debt offerings, temporary investments in stock or debt instruments during the
one-year period following OAIC's receipt of such capital. The term "real estate
assets" includes interests in real property, interests in mortgages on real
property to the extent the principal balance of a mortgage does not exceed the
fair market value of the associated real property, regular or residual interests
in a REMIC (except that, if less than 95% of the assets of a REMIC consists of
"real estate assets" (determined as if OAIC held such assets), OAIC will be
treated as holding directly its proportionate share of the assets of such
REMIC), and shares of other REITs. For purposes of the 75% asset test, the term
"interest in real property" includes an interest in mortgage loans or land and
improvements thereon, such as buildings or other inherently permanent structures
(including items that are structural components of such buildings or
structures), a leasehold of real property, and an option to acquire real
property (or a leasehold of real property). An "interest" in real property also
generally includes an interest in mortgage loans secured by controlling equity
interests in entities treated as partnerships for federal income tax purposes
that own real property, to the extent that the principal balance of the mortgage
does not exceed the fair market value of the real property that is allocable to
the equity interest. Second, of the investments not included in the 75% asset
class, the value of any one issuer's securities owned by OAIC may not exceed 5%
of the value of OAIC's total assets, and OAIC may not own more than 10% of any
one issuer's outstanding voting securities (except for its interests in the
Operating Partnership, the General Partner, the Limited Partner, and any other
qualified REIT subsidiary).
OAIC expects that any Distressed Real Properties, Subordinated Interests,
IOs, Inverse IOs, and temporary investments that it acquires generally will be
qualifying assets for purposes of the 75% asset test, except to the extent that
less than 95% of the assets of a REMIC in which OAIC owns an interest consists
of "real estate assets" and OAIC's proportionate share of those assets includes
assets that are nonqualifying assets for purposes of the 75% asset test.
Distressed Mortgage Loans, Performing Mortgage Loans, Construction Loans and
Mezzanine Loans also will be qualifying assets for purposes of the 75% asset
test to the extent that the principal balance of each mortgage loan does not
exceed the value of the associated real property. OAIC will monitor the status
of the assets that it acquires for purposes of the various asset tests and has
represented that it will manage its portfolio in order to comply at all times
with such tests.
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If OAIC should fail to satisfy the asset tests at the end of a calendar
quarter, such a failure would not cause it to lose its REIT status if (i) it
satisfied the asset tests at the close of the preceding calendar quarter and
(ii) the discrepancy between the value of OAIC's assets and the asset test
requirements arose from changes in the market values of its assets and was not
wholly or partly caused by the acquisition of one or more non-qualifying assets.
If the condition described in clause (ii) of the preceding sentence were not
satisfied, OAIC still could avoid disqualification by eliminating any
discrepancy within 30 days after the close of the calendar quarter in which it
arose.
DISTRIBUTION REQUIREMENTS
OAIC, in order to avoid corporate income taxation of the earnings that it
distributes, is required to distribute with respect to each taxable year
dividends (other than capital gain dividends) to its stockholders in an
aggregate amount at least equal to (i) the sum of (A) 95% of its "REIT taxable
income" (computed without regard to the dividends paid deduction and its net
capital gain) and (B) 95% of the net income (after tax), if any, from
foreclosure property, minus (ii) the sum of certain items of noncash income.
Such distributions must be paid in the taxable year to which they relate, or in
the following taxable year if declared before OAIC timely files its federal
income tax return for such year and if paid on or before the first regular
dividend payment date after such declaration. To the extent that OAIC does not
distribute all of its net capital gain or distributes at least 95%, but less
than 100%, of its "REIT taxable income," as adjusted, it will be subject to tax
thereon at regular ordinary and capital gains corporate tax rates. Furthermore,
if OAIC should fail to distribute during each calendar year (or, in the case of
distributions with declaration and record dates falling in the last three months
of the calendar year, by the end of the January immediately following such year)
at least the sum of (i) 85% of its REIT ordinary income for such year, (ii) 95%
of its REIT capital gain income for such year, and (iii) any undistributed
taxable income from prior periods, OAIC would be subject to a 4% nondeductible
excise tax on the excess of such required distribution over the amounts actually
distributed. OAIC intends to make timely distributions sufficient to satisfy the
annual distribution requirements.
It is possible that, from time to time, OAIC may experience timing
differences between (i) the actual receipt of income and actual payment of
deductible expenses and (ii) the inclusion of that income and deduction of such
expenses in arriving at its REIT taxable income. For example, OAIC will
recognize taxable income in excess of its cash receipts when, as generally
happens, OID accrues with respect to its Subordinated Interests. Furthermore,
some Distressed Mortgage Loans, IOs and Inverse IOs may be deemed to have OID,
in which case OAIC will be required to recognize taxable income in advance of
the related cash flow. OID generally will be accrued using a methodology that
does not allow credit losses to be reflected until they are actually incurred.
In addition, OAIC may recognize taxable market discount income upon the receipt
of proceeds from the disposition of, or principal payments on, Subordinated
Interests and Distressed Mortgage Loans that are "market discount bonds" (i.e.,
obligations with a stated redemption price at maturity that is greater than
OAIC's tax basis in such obligations), although such proceeds often will be used
to make non-deductible principal payments on related borrowings. OAIC also may
recognize Excess Inclusion or other "phantom" taxable income from REMIC Residual
Interests. It also is possible that, from time to time, OAIC may recognize net
capital gain attributable to the sale of depreciated property that exceeds its
cash receipts from the sale. In addition, pursuant to certain Treasury
Regulations, OAIC may be required to recognize the amount of any payment to be
made pursuant to a shared appreciation provision over the term of the related
loan using the constant yield method. Finally, OAIC may recognize taxable income
without receiving a corresponding cash distribution if it forecloses on or makes
a "significant modification" (as defined in Regulations section 1.1001-3(e)) to
a loan, to the extent that the fair market value of the underlying property or
the principal amount of the modified loan, as applicable, exceeds OAIC's basis
in the original loan. Therefore, OAIC may have less cash than is necessary to
meet its annual 95% distribution requirement or to avoid corporate income tax or
the excise tax imposed on certain undistributed income. In such a situation,
OAIC may find it necessary to arrange
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for short-term (or possibly long-term) borrowings or to raise funds through the
issuance of Preferred Stock or additional Common Stock.
Under certain circumstances, OAIC may be able to rectify a failure to meet
the distribution requirements for a year by paying "deficiency dividends" to its
stockholders in a later year, which may be included in OAIC's deduction for
dividends paid for the earlier year. Although OAIC may be able to avoid being
taxed on amounts distributed as deficiency dividends, it will be required to pay
to the Service interest based upon the amount of any deduction taken for
deficiency dividends.
RECORDKEEPING REQUIREMENTS
Pursuant to applicable Treasury Regulations, in order to be able to elect to
be taxed as a REIT, OAIC must maintain certain records and request on an annual
basis certain information from its stockholders designed to disclose the actual
ownership of its outstanding stock. OAIC intends to comply with such
requirements.
FAILURE TO QUALIFY
If OAIC fails to qualify for taxation as a REIT in any taxable year, and the
relief provisions do not apply, OAIC will be subject to tax (including any
applicable alternative minimum tax) on its taxable income at regular corporate
rates. Distributions to OAIC's stockholders in any year in which OAIC fails to
qualify will not be deductible by OAIC nor will they be required to be made. In
such event, to the extent of OAIC's current and accumulated earnings and
profits, all distributions to stockholders will be taxable as ordinary income
and, subject to certain limitations of the Code, corporate distributees may be
eligible for the dividends received deduction. Unless entitled to relief under
specific statutory provisions, OAIC also will be disqualified from taxation as a
REIT for the four taxable years following the year during which OAIC ceased to
qualify as a REIT. It is not possible to state whether in all circumstances OAIC
would be entitled to such statutory relief.
TAXATION OF TAXABLE U.S. STOCKHOLDERS
As long as OAIC qualifies as a REIT, distributions made to OAIC's taxable
U.S. stockholders out of current or accumulated earnings and profits (and not
designated as capital gain dividends) will be taken into account by such U.S.
stockholders as ordinary income and will not be eligible for the dividends
received deduction generally available to corporations. As used herein, the term
"U.S. stockholder" means a holder of Common Stock that for U.S. federal income
tax purposes is (i) a citizen or resident of the U.S., (ii) a corporation,
partnership, or other entity created or organized in or under the laws of the
U.S. or of any political subdivision thereof, (iii) an estate whose income from
sources without the United States is includible in gross income for U.S. federal
income tax purposes regardless of its connection with the conduct of a trade or
business within the United States, or (iv) any trust with respect to which (A) a
U.S. court is able to exercise primary supervision over the administration of
such trust and (B) one or more U.S. fiduciaries have the authority to control
all substantial decisions of the trust. Distributions that are designated as
capital gain dividends will be taxed as long-term capital gains (to the extent
they do not exceed OAIC's actual net capital gain for the taxable year) without
regard to the period for which the stockholder has held his Common Stock.
However, corporate stockholders may be required to treat up to 20% of certain
capital gain dividends as ordinary income. Distributions in excess of current
and accumulated earnings and profits will not be taxable to a stockholder to the
extent that they do not exceed the adjusted basis of the stockholder's Common
Stock, but rather will reduce the adjusted basis of such stock. To the extent
that such distributions in excess of current and accumulated earnings and
profits exceed the adjusted basis of a stockholder's Common Stock, such
distributions will be included in income as long-term capital gain (or
short-term capital gain if the Common Stock had been held for one year or less),
assuming the Common Stock is a capital asset in the hands of the stockholder. In
addition, any distribution declared by OAIC in October, November, or December of
any year and payable to a stockholder of record on a
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specified date in any such month shall be treated as both paid by OAIC and
received by the stockholder on December 31 of such year, provided that the
distribution is actually paid by OAIC during January of the following calendar
year.
Stockholders may not include in their individual income tax returns any net
operating losses or capital losses of OAIC. Instead, such losses would be
carried over by OAIC for potential offset against its future income (subject to
certain limitations). Taxable distributions from OAIC and gain from the
disposition of the Common Stock will not be treated as passive activity income
and, therefore, stockholders generally will not be able to apply any "passive
activity losses" (such as losses from certain types of limited partnerships in
which a stockholder is a limited partner) against such income. In addition,
taxable distributions from OAIC generally will be treated as investment income
for purposes of the investment interest limitations. Capital gains from the
disposition of Common Stock (or distributions treated as such), however, will be
treated as investment income only if the stockholder so elects, in which case
such capital gains will be taxed at ordinary income rates. OAIC will notify
stockholders after the close of OAIC's taxable year as to the portions of the
distributions attributable to that year that constitute ordinary income or
capital gain dividends.
OAIC's investment in Subordinated Interests and certain types of MBS may
cause it under certain circumstances to recognize taxable income in excess of
its economic income ("phantom income") and to experience an offsetting excess of
economic income over its taxable income in later years. As a result,
stockholders may from time to time be required to pay federal income tax on
distributions that economically represent a return of capital, rather than a
dividend. Such distributions would be offset in later years by distributions
representing economic income that would be treated as returns of capital for
federal income tax purposes. Accordingly, if OAIC receives phantom income, its
stockholders may be required to pay federal income tax with respect to such
income on an accelerated basis, i.e., before such income is realized by the
stockholders in an economic sense. Taking into account the time value of money,
such an acceleration of federal income tax liabilities would cause stockholders
to receive an after-tax rate of return on an investment in OAIC that would be
less than the after-tax rate of return on an investment with an identical
before-tax rate of return that did not generate phantom income. For example, if
an investor subject to an effective income tax rate of 30% purchased a bond
(other than a tax-exempt bond) with an annual interest rate of 10% for its face
value, his before-tax return on his investment would be 10%, and his after-tax
return would be 7%. However, if the same investor purchased stock of OAIC at a
time when the before-tax rate of return was 10%, his after-tax rate of return on
his stock might be somewhat less than 7% as a result of OAIC's phantom income.
In general, as the ratio of OAIC's phantom income to its total income increases,
the after-tax rate of return received by a taxable stockholder of OAIC will
decrease. OAIC will consider the potential effects of phantom income on its
taxable stockholders in managing its investments.
Because OAIC expects to own at least some REMIC Residual Interests, it is
likely that stockholders (other than certain thrift institutions) will not be
permitted to offset certain portions of the dividend income they derive from
OAIC with their current deductions or net operating loss carryovers or
carrybacks. The portion of a stockholder's dividends that will be subject to
this limitation will equal his allocable share of any Excess Inclusion income
derived by OAIC with respect to the REMIC Residual Interests. OAIC's Excess
Inclusion income for any calendar quarter will equal the excess of its income
from REMIC Residual Interests over its "daily accruals" with respect to such
REMIC Residual Interests for the calendar quarter. Daily accruals for a calendar
quarter are computed by allocating to each day on which a REMIC Residual
Interest is owned a ratable portion of the product of (i) the "adjusted issue
price" of the REMIC Residual Interest at the beginning of the quarter and (ii)
120% of the long-term federal interest rate (adjusted for quarterly compounding)
on the date of issuance of the REMIC Residual Interest. The adjusted issue price
of a REMIC Residual Interest at the beginning of a calendar quarter equals the
original issue price of the REMIC Residual Interest, increased by the amount of
daily accruals for prior quarters and decreased by all prior distributions to
OAIC with respect to the REMIC Residual
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Interest. To the extent provided in future Treasury regulations, the Excess
Inclusion income with respect to any REMIC Residual Interests owned by OAIC that
do not have significant value will equal the entire amount of the income derived
from such REMIC Residual Interests. Furthermore, to the extent that OAIC (or a
qualified REIT subsidiary) acquires or originates mortgage loans and uses those
loans to collateralize one or more multiple-class offerings of MBS for which no
REMIC election is made ("Non-REMIC Transactions"), it is possible that, to the
extent provided in future Treasury regulations, stockholders (other than certain
thrift institutions) will not be permitted to offset certain portions of the
dividend income that they derive from OAIC that are attributable to Non-REMIC
Transactions with current deductions or net operating loss carryovers or
carrybacks. Although no applicable Treasury regulations have yet been issued, no
assurance can be provided that such regulations will not be issued in the future
or that, if issued, such regulations will not prevent OAIC's stockholders from
offsetting some portion of their dividend income with deductions or losses from
other sources.
TAXATION OF STOCKHOLDERS ON THE DISPOSITION OF THE COMMON STOCK
In general, any gain or loss realized upon a taxable disposition of the
Common Stock by a stockholder who is not a dealer in securities will be treated
as long-term capital gain or loss if the Common Stock has been held for more
than one year and otherwise as short-term capital gain or loss. However, any
loss upon a sale or exchange of Common Stock by a stockholder who has held such
shares for six months or less (after applying certain holding period rules) will
be treated as a long-term capital loss to the extent of distributions from OAIC
required to be treated by such stockholder as long-term capital gain. All or a
portion of any loss realized upon a taxable disposition of the Common Stock may
be disallowed if other shares of Common Stock are purchased within 30 days
before or after the disposition.
CAPITAL GAINS AND LOSSES
A capital asset generally must be held for more than one year in order for
gain or loss derived from its sale or exchange to be treated as long-term
capital gain or loss. The highest marginal individual income tax rate is 39.6%,
and the tax rate on long-term capital gains applicable to individuals is 28%.
Thus, the tax rate differential between capital gain and ordinary income for
individuals may be significant. In addition, the characterization of income as
capital gain or ordinary income may affect the deductibility of capital losses.
Capital losses not offset by capital gains may be deducted against an
individual's ordinary income only up to a maximum annual amount of $3,000.
Unused capital losses may be carried forward indefinitely by individuals. All
net capital gain of a corporate taxpayer is subject to tax at ordinary corporate
rates. A corporate taxpayer can deduct capital losses only to the extent of
capital gains, with unused losses being carried back three years and forward
five years.
INFORMATION REPORTING REQUIREMENTS AND BACKUP WITHHOLDING
OAIC will report to its U.S. stockholders and to the Service the amount of
distributions paid during each calendar year, and the amount of tax withheld, if
any. Under the backup withholding rules, a stockholder may be subject to backup
withholding at the rate of 31% with respect to distributions paid unless such
holder (i) is a corporation or comes within certain other exempt categories and,
when required, demonstrates this fact or (ii) provides a taxpayer identification
number, certifies as to no loss of exemption from backup withholding, and
otherwise complies with the applicable requirements of the backup withholding
rules. A stockholder who does not provide OAIC with his correct taxpayer
identification number also may be subject to penalties imposed by the Service.
Any amount paid as backup withholding will be creditable against the
stockholder's income tax liability. In addition, OAIC may be required to
withhold a portion of capital gain distributions to any stockholders who fail to
certify their nonforeign status to OAIC. The Treasury Department issued proposed
regulations in April 1996 regarding the backup withholding rules as applied to
Non-U.S. Stockholders. The proposed regulations would alter the current
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system of backup withholding compliance and are proposed to be effective for
distributions made after December 31, 1997. See "--Taxation of Non-U.S.
Stockholders."
TAXATION OF TAX-EXEMPT STOCKHOLDERS
Tax-exempt entities, including qualified employee pension and profit sharing
trusts and individual retirement accounts ("Exempt Organizations"), generally
are exempt from federal income taxation. However, they are subject to taxation
on their unrelated business taxable income ("UBTI"). While many investments in
real estate generate UBTI, the Service has issued a published ruling that
dividend distributions from a REIT to an exempt employee pension trust do not
constitute UBTI, provided that the shares of the REIT are not otherwise used in
an unrelated trade or business of the exempt employee pension trust. Based on
that ruling, amounts distributed by OAIC to Exempt Organizations generally
should not constitute UBTI. However, if an Exempt Organization finances its
acquisition of the Common Stock with debt, a portion of its income from OAIC
will constitute UBTI pursuant to the "debt-financed property" rules.
Furthermore, social clubs, voluntary employee benefit associations, supplemental
unemployment benefit trusts, and qualified group legal services plans that are
exempt from taxation under paragraphs (7), (9), (17), and (20), respectively, of
Code section 501(c) are subject to different UBTI rules, which generally will
require them to characterize distributions from OAIC as UBTI. In addition, in
certain circumstances, a pension trust that owns more than 10% of OAIC's stock
is required to treat a percentage of the dividends from OAIC as UBTI (the "UBTI
Percentage"). The UBTI Percentage is the gross income derived by OAIC from an
unrelated trade or business (determined as if OAIC were a pension trust) divided
by the gross income of OAIC for the year in which the dividends are paid. The
UBTI rule applies to a pension trust holding more than 10% of OAIC's stock only
if (i) the UBTI Percentage is at least 5%, (ii) OAIC qualifies as a REIT by
reason of the modification of the 5/50 Rule that allows the beneficiaries of the
pension trust to be treated as holding shares of OAIC in proportion to their
actuarial interests in the pension trust, and (iii) either (A) one pension trust
owns more than 25% of the value of OAIC's stock or (B) a group of pension trusts
individually holding more than 10% of the value of OAIC's stock collectively
owns more than 50% of the value of OAIC's stock.
Any dividends received by an Exempt Organization that are allocable to
Excess Inclusion will be treated as UBTI. In addition, OAIC will be subject to
tax at the highest marginal corporate rate on the portion of any Excess
Inclusion income derived by OAIC from REMIC Residual Interests that is allocable
to stock of OAIC held by Disqualified Organizations. Any such tax would be
deductible by OAIC against its income that is not Excess Inclusion income.
If OAIC derives Excess Inclusion income from REMIC Residual Interests, a tax
similar to the tax on OAIC described in the preceding paragraph may be imposed
on stockholders who are (i) pass-through entities (i.e., partnerships, estates,
trusts, regulated investment companies, REITs, common trust funds, and certain
types of cooperatives (including farmers' cooperatives described in section 521
of the Code)) in which a Disqualified Organization is a record holder of shares
or interests and (ii) nominees who hold Common Stock on behalf of Disqualified
Organizations. Consequently, a brokerage firm that holds shares of Common Stock
in a "street name" account for a Disqualified Organization may be subject to
federal income tax on the Excess Inclusion income derived from those shares.
The Treasury Department has been authorized to issue regulations regarding
issuances by a REIT of multiple-class mortgage-backed securities for which no
REMIC election is made. If such Treasury regulations are issued in the future
preventing taxable stockholders from offsetting some percentage of the dividends
paid by OAIC with deductions or losses from other sources, that same percentage
of OAIC's dividends would be treated as UBTI for stockholders that are Exempt
Organizations. See "Federal Income Tax Considerations--Taxation of Taxable U.S.
Stockholders."
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TAXATION OF NON-U.S. STOCKHOLDERS
The rules governing U.S. federal income taxation of nonresident alien
individuals, foreign corporations, foreign partnerships, and other foreign
stockholders (collectively, "Non-U.S. Stockholders") are complex and no attempt
will be made herein to provide more than a summary of such rules. PROSPECTIVE
NON-U.S. STOCKHOLDERS SHOULD CONSULT WITH THEIR OWN TAX ADVISORS TO DETERMINE
THE IMPACT OF FEDERAL, STATE, AND LOCAL INCOME TAX LAWS WITH REGARD TO AN
INVESTMENT IN THE COMMON STOCK, INCLUDING ANY REPORTING REQUIREMENTS.
Distributions to Non-U.S. Stockholders that are not attributable to gain
from sales or exchanges by OAIC of U.S. real property interests and are not
designated by OAIC as capital gains dividends will be treated as dividends of
ordinary income to the extent that they are made out of current or accumulated
earnings and profits of OAIC. Such distributions ordinarily will be subject to a
withholding tax equal to 30% of the gross amount of the distribution unless an
applicable tax treaty reduces or eliminates that tax. However, if income from
the investment in the Common Stock is treated as effectively connected with the
Non-U.S. Stockholder's conduct of a U.S. trade or business, the Non-U.S.
Stockholder generally will be subject to federal income tax at graduated rates,
in the same manner as U.S. stockholders are taxed with respect to such
distributions (and also may be subject to the 30% branch profits tax in the case
of a Non-U.S. Stockholder that is a non-U.S. corporation). OAIC expects to
withhold U.S. income tax at the rate of 30% on the gross amount of any such
distributions made to a Non-U.S. Stockholder unless (i) a lower treaty rate
applies and any required form evidencing eligibility for that reduced rate is
filed with OAIC or (ii) the Non-U.S. Stockholder files an IRS Form 4224 with
OAIC claiming that the distribution is effectively connected income. The
Treasury Department issued proposed regulations in April 1996 that would modify
the manner in which OAIC complies with the withholding requirements.
If OAIC derives Excess Inclusion income from REMIC Residual Interests, the
portion of the dividends paid to Non-U.S. Stockholders that is treated as Excess
Inclusion income will not be eligible for exemption from the 30% withholding tax
or a reduced treaty rate. In addition, if Treasury regulations are issued in the
future preventing taxable stockholders from offsetting some percentage of the
dividends paid by OAIC with deductions or losses from other sources, that same
percentage of OAIC's dividends would not be eligible for a reduced withholding
tax rate under an otherwise applicable tax treaty. See "--Taxation of Taxable
U.S. Stockholders."
Distributions in excess of current and accumulated earnings and profits of
OAIC will not be taxable to a stockholder to the extent that such distributions
do not exceed the adjusted basis of the stockholder's Common Stock, but rather
will reduce the adjusted basis of such shares. To the extent that distributions
in excess of current and accumulated earnings and profits exceed the adjusted
basis of a Non-U.S. Stockholder's Common Stock, such distributions will give
rise to tax liability if the Non-U.S. Stockholder would otherwise be subject to
tax on any gain from the sale or disposition of his Common Stock, as described
below. Because it generally cannot be determined at the time a distribution is
made whether or not such distribution will be in excess of current and
accumulated earnings and profits, the entire amount of any distribution normally
will be subject to withholding at the same rate as a dividend. However, amounts
so withheld are refundable to the extent it is determined subsequently that such
distribution was, in fact, in excess of current and accumulated earnings and
profits of OAIC. In August 1996, the U.S. Congress passed the Small Business Job
Protection Act of 1996, which requires OAIC to withhold 10% of any distribution
in excess of OAIC's current and accumulated earnings and profits. Consequently,
although OAIC intends to withhold at a rate of 30% on the entire amount of any
distribution, to the extent that OAIC does not do so, any portion of a
distribution not subject to withholding at a rate of 30% will be subject to
withholding at a rate of 10%.
For any year in which OAIC qualifies as a REIT, distributions that are
attributable to gain from sales or exchanges by OAIC of U.S. real property
interests will be taxed to a Non-U.S. Stockholder under the
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provisions of the Foreign Investment in Real Property Tax Act of 1980
("FIRPTA"). Under FIRPTA, distributions attributable to gain from sales of U.S.
real property interests are taxed to a Non-U.S. Stockholder as if such gain were
effectively connected with a U.S. business. Non-U.S. Stockholders thus would be
taxed at the normal capital gain rates applicable to U.S. stockholders (subject
to applicable alternative minimum tax and a special alternative minimum tax in
the case of nonresident alien individuals). Distributions subject to FIRPTA also
may be subject to the 30% branch profits tax in the hands of a non-U.S.
corporate stockholder not entitled to treaty relief or exemption. OAIC is
required to withhold 35% of any distribution that is designated by OAIC as a
capital gains dividend. The amount withheld is creditable against the Non-U.S.
Stockholder's FIRPTA tax liability.
Gain recognized by a Non-U.S. Stockholder upon a sale of his Common Stock
generally will not be taxed under FIRPTA if OAIC is a "domestically controlled
REIT," defined generally as a REIT in which at all times during a specified
testing period less than 50% in value of the stock was held directly or
indirectly by non-U.S. persons. It is currently anticipated that OAIC will be a
"domestically controlled REIT" and, therefore, the sale of the Common Stock will
not be subject to taxation under FIRPTA. However, because the Common Stock will
be publicly traded, no assurance can be given that OAIC will be a "domestically
controlled REIT." Furthermore, gain not subject to FIRPTA will be taxable to a
Non-U.S. Stockholder if (i) investment in the Common Stock is effectively
connected with the Non-U.S. Stockholder's U.S. trade or business, in which case
the Non-U.S. Stockholder will be subject to the same treatment as U.S.
stockholders with respect to such gain, or (ii) the Non-U.S. Stockholder is a
nonresident alien individual who was present in the U.S. for 183 days or more
during the taxable year and certain other conditions apply, in which case the
nonresident alien individual will be subject to a 30% tax on the individual's
capital gains. If the gain on the sale of the Common Stock were to be subject to
taxation under FIRPTA, the Non-U.S. Stockholder would be subject to the same
treatment as U.S. stockholders with respect to such gain (subject to applicable
alternative minimum tax, a special alternative minimum tax in the case of
nonresident alien individuals, and the possible application of the 30% branch
profits tax in the case of non-U.S. corporations).
STATE AND LOCAL TAXES
OAIC, the General Partner, the Limited Partner, the Operating Partnership or
OAIC's stockholders may be subject to state and local tax in various states and
localities, including those states and localities in which it or they transact
business, own property, or reside. The state and local tax treatment of the
Company and its stockholders in such jurisdictions may differ from the federal
income tax treatment described above. Consequently, prospective stockholders
should consult their own tax advisors regarding the effect of state and local
tax laws upon an investment in the Common Stock.
SALE OF THE COMPANY'S PROPERTY
Any gain realized by OAIC on the sale of any property held as inventory or
other property held primarily for sale to customers in the ordinary course of
its trade or business will be treated as income from a prohibited transaction
that is subject to a 100% penalty tax. Such prohibited transaction income also
may have an adverse effect upon OAIC's ability to satisfy the income tests for
REIT status. See "Federal Income Tax Considerations--Requirements For
Qualification--Income Tests" above. OAIC, however, does not presently intend to
acquire or hold a material amount of property that represents inventory or other
property held primarily for sale to customers in the ordinary course of OAIC's
trade or business.
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ERISA CONSIDERATIONS
The following is a summary of material considerations arising under the
Employee Retirement Income Security Act of 1974, as amended ("ERISA"), and the
prohibited transaction provisions of section 4975 of the Code that may be
relevant to a prospective purchaser (including, with respect to the discussion
contained in "--Status of the Company and the Operating Partnership under
ERISA," to a prospective purchaser that is not an employee benefit plan, another
tax-qualified retirement plan, or an individual retirement account ("IRA")). The
discussion does not purport to deal with all aspects of ERISA or section 4975 of
the Code that may be relevant to particular stockholders (including plans
subject to Title I of ERISA, other retirement plans and IRAs subject to the
prohibited transaction provisions of section 4975 of the Code, and governmental
plans or church plans that are exempt from ERISA and section 4975 of the Code
but that may be subject to state law requirements) in light of their particular
circumstances.
The discussion is based on current provisions of ERISA and the Code,
existing and currently proposed regulations under ERISA and the Code, the
legislative history of ERISA and the Code, existing administrative rulings of
the Department of Labor ("DOL") and reported judicial decisions. No assurance
can be given that legislative, judicial, or administrative changes will not
affect the accuracy of any statements herein with respect to transactions
entered into or contemplated prior to the effective date of such changes.
A FIDUCIARY MAKING THE DECISION TO INVEST IN THE COMMON STOCK ON BEHALF OF A
PROSPECTIVE PURCHASER THAT IS AN EMPLOYEE BENEFIT PLAN, A TAX-QUALIFIED
RETIREMENT PLAN, OR AN IRA SHOULD CONSULT ITS OWN LEGAL ADVISOR REGARDING THE
SPECIFIC CONSIDERATIONS ARISING UNDER ERISA, SECTION 4975 OF THE CODE, AND STATE
LAW WITH RESPECT TO THE PURCHASE, OWNERSHIP, OR SALE OF THE COMMON STOCK BY SUCH
PLAN OR IRA.
EMPLOYEE BENEFIT PLANS, TAX-QUALIFIED RETIREMENT PLANS, AND IRAS
Each fiduciary of a pension, profit-sharing, or other employee benefit plan
(a "Plan") subject to Title I of ERISA should consider carefully whether an
investment in the Common Stock is consistent with his fiduciary responsibilities
under ERISA. In particular, the fiduciary requirements of Part 4 of Title I of
ERISA require an Plan's investment to be (i) prudent and in the best interests
of the Plan, its participants, and its beneficiaries, (ii) diversified in order
to minimize the risk of large losses, unless it is clearly prudent not to do so,
and (iii) authorized under the terms of the Plan's governing documents (provided
the documents are consistent with ERISA). In determining whether an investment
in the Common Stock is prudent for purposes of ERISA, the appropriate fiduciary
of a Plan should consider all of the facts and circumstances, including whether
the investment is reasonably designed, as a part of the Plan's portfolio for
which the fiduciary has investment responsibility, to meet the objectives of the
Plan, taking into consideration the risk of loss and opportunity for gain (or
other return) from the investment, the diversification, cash flow, and funding
requirements of the Plan's portfolio. A fiduciary also should take into account
the nature of the Company's business, the management of the Company, the length
of the Company's operating history, the fact that certain investment assets may
not have been identified yet, and the possibility of the recognition of UBTI.
The fiduciary of an IRA or of a qualified retirement plan not subject to
Title I of ERISA because it is a governmental or church plan or because it does
not cover common law employees (a "Non-ERISA Plan") should consider that such an
IRA or Non-ERISA Plan may only make investments that are authorized by the
appropriate governing documents and under applicable state law.
Fiduciaries of Plans and persons making the investment decision for an IRA
or other Non-ERISA Plan should consider the application of the prohibited
transaction provisions of ERISA and the Code in making their investment
decision. A "party in interest" or "disqualified person" with respect to an Plan
or with respect to a Plan or IRA subject to Code section 4975 is subject to (i)
an initial 5% excise tax on the amount involved in any prohibited transaction
involving the assets of the plan or IRA and (ii) an excise tax
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equal to 100% of the amount involved if any prohibited transaction is not
corrected. If the disqualified person who engages in the transaction is the
individual on behalf of whom an IRA is maintained (or his beneficiary), the IRA
will lose its tax-exempt status and its assets will be deemed to have been
distributed to such individual in a taxable distribution (and no excise tax will
be imposed) on account of the prohibited transaction. In addition, a fiduciary
who permits a Plan to engage in a transaction that the fiduciary knows or should
know is a prohibited transaction may be liable to the Plan for any loss the Plan
incurs as a result of the transaction or for any profits earned by the fiduciary
in the transaction.
STATUS OF OAIC UNDER ERISA
The following section discusses certain principles that apply in determining
whether the fiduciary requirements of ERISA and the prohibited transaction
provisions of ERISA and the Code apply to an entity because one or more
investors in the equity interests in the entity is a Plan or is a Non-ERISA Plan
or IRA subject to section 4975 of the Code. A Plan fiduciary also should
consider the relevance of those principles to ERISA's prohibition on improper
delegation of control over or responsibility for "plan assets" and ERISA's
imposition of co-fiduciary liability on a fiduciary who participates in, permits
(by action or inaction) the occurrence of, or fails to remedy a known breach by
another fiduciary.
If the assets of the Company are deemed to be "plan assets" under ERISA, (i)
the prudence standards and other provisions of Part 4 of Title I of ERISA would
be applicable to any transactions involving the Company's assets, (ii) persons
who exercise any authority over the Company's assets, or who provide investment
advice to the Company, would (for purposes of the fiduciary responsibility
provisions of ERISA) be fiduciaries of each Plan that acquires Common Stock, and
transactions involving the Company's assets undertaken at their direction or
pursuant to their advice might violate their fiduciary responsibilities under
ERISA, especially with regard to conflicts of interest, (iii) a fiduciary
exercising his investment discretion over the assets of a Plan to cause it to
acquire or hold the Common Stock could be liable under Part 4 of Title I of
ERISA for transactions entered into by the Company that do not conform to ERISA
standards of prudence and fiduciary responsibility, and (iv) certain
transactions that the Company might enter into in the ordinary course of its
business and operations might constitute "prohibited transactions" under ERISA
and the Code.
Regulations of the DOL defining "plan assets" (the "Plan Asset Regulations")
generally provide that when a Plan or Non-ERISA Plan or IRA acquires a security
that is an equity interest in an entity and the security is neither a
"publicly-offered security" nor a security issued by an investment company
registered under the Investment Company Act of 1940, the Plan's or Non-ERISA
Plan's or IRA's assets include both the equity interest and an undivided
interest in each of the underlying assets of the issuer of such equity interest,
unless one or more exceptions specified in the Plan Asset Regulations are
satisfied.
The Plan Asset Regulations define a publicly-offered security as a security
that is "widely-held," "freely transferable," and either part of a class of
securities registered under the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), or sold pursuant to an effective registration statement under
the Securities Act (provided the securities are registered under the Exchange
Act within 120 days after the end of the fiscal year of the issuer during which
the offering occurred). The Common Stock is being sold in an offering registered
under the Securities Act and will be registered under the Exchange Act. The Plan
Asset Regulations provide that a security is "widely held" only if it is part of
a class of securities that is owned by 100 or more investors independent of the
issuer and of one another. A security will not fail to be widely held because
the number of independent investors falls below 100 subsequent to the initial
public offering as a result of events beyond the issuer's control. The Company
anticipates that upon completion of this offering, the Common Stock will be
"widely held."
The Plan Asset Regulations provide that whether a security is "freely
transferable" is a factual question to be determined on the basis of all
relevant facts and circumstances. The Plan Asset Regulations further provide
that where a security is part of an offering in which the minimum investment is
$10,000 or less (as is the case with this offering), certain restrictions
ordinarily will not, alone or in combination, affect
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a finding that such securities are freely transferable. The restrictions on
transfer enumerated in the Plan Asset Regulations as not affecting that finding
include: (i) any restriction on or prohibition against any transfer or
assignment that would result in the termination or reclassification of an entity
for federal or state tax purposes, or that otherwise would violate any federal
or state law or court order, (ii) any requirement that advance notice of a
transfer or assignment be given to the issuer, (iii) any administrative
procedure that establishes an effective date, or an event (such as completion of
an offering), prior to which a transfer or assignment will not be effective, and
(iv) any limitation or restriction on transfer or assignment that is not imposed
by the issuer or a person acting on behalf of the issuer. The Company believes
that the restrictions imposed under the Articles of Incorporation on the
transfer of the Company's stock will not result in the failure of the Common
Stock to be "freely transferable." The Company also is not aware of any other
facts or circumstances limiting the transferability of the Common Stock that are
not enumerated in the Plan Asset Regulations as those not affecting free
transferability, and no assurance can be given that the DOL or the Treasury
Department will not reach a contrary conclusion.
Assuming that the Common Stock will be "widely held" and that no other facts
and circumstances other than those referred to in the preceding paragraph exist
that restrict transferability of the Common Stock, the shares of Common Stock
should be publicly offered securities and the assets of the Company should not
be deemed to be "plan assets" of any Plan, IRA, or Non-ERISA Plan that invests
in the Common Stock.
CERTAIN LEGAL ASPECTS OF MORTGAGE LOANS
AND REAL PROPERTY INVESTMENTS
The Company intends primarily to acquire Subordinated Interests and
Distressed Real Property, but also may acquire Mortgage Loans and other Real
Property. Even though the Company will not own Mortgage Loans directly in
connection with its acquisition of Subordinated Interests, its return thereon
and on Distressed Mortgage Loans will depend upon, among other things, the
ability of the servicer of the underlying Mortgage Loans to foreclose upon those
Mortgage Loans in default and sell the underlying Real Property. There are a
number of legal considerations involved in the acquisition of Mortgage Loans or
Real Property or the foreclosure and sale of defaulted Mortgage Loans (whether
individually or as part of a series of mortgage-backed securities). The
following discussion provides general summaries of certain legal aspects of
mortgage loans and real property. Because such legal aspects are governed by
applicable state law (which laws vary from state to state), the summaries do not
purport to be complete, to reflect the laws of any particular state, or to
encompass the laws of all states. Accordingly, the summaries are qualified in
their entirety by reference to the applicable laws of the states where the
property is located.
GENERAL
Each mortgage loan will be evidenced by a note or bond and secured by an
instrument granting a security interest in real property, which may be a
mortgage, deed of trust or a deed to secure debt, depending upon the prevailing
practice and law in the state in which the related Mortgaged Property is
located. Mortgages, deeds of trust and deeds to secure debt are herein
collectively referred to as "mortgages." A mortgage creates a lien upon, or
grants a title interest in, the real property covered thereby, and represents
the security for the repayment of the indebtedness customarily evidenced by a
promissory note. The priority of the lien created or interest granted will
depend on the terms of the mortgage and, in some cases, on the terms of separate
subordination agreements or intercreditor agreements with others that hold
interests in the real property, the knowledge of the parties to the mortgage
and, generally, the order of recordation of the mortgage in the appropriate
public recording office. However, the lien of a recorded mortgage will generally
be subordinate to later-arising liens for real estate taxes and assessments and
other charges imposed under governmental police powers.
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TYPES OF MORTGAGE INSTRUMENTS
There are two parties to a mortgage: a mortgagor (the borrower and usually
the owner of the subject property) and a mortgagee (the lender). In contrast, a
deed of trust is a three-party instrument, among a trustor (the equivalent of a
borrower), a trustee to whom the real property is conveyed, and a beneficiary
(the lender) for whose benefit the conveyance is made. Under a deed of trust,
the trustor grants the property, irrevocably until the debt is paid, in trust
and generally with a power of sale, to the trustee to secure repayment of the
indebtedness evidenced by the related note. A deed to secure debt typically has
two parties. The grantor (the borrower) conveys title to the real property to
the grantee (the lender), generally with a power of sale, until such time as the
debt is repaid. The mortgagee's authority under a mortgage, the trustee's
authority under a deed of trust and the grantee's authority under a deed to
secure debt are governed by the express provisions of the related instrument,
the law of the state in which the real property is located, certain federal laws
and, in some deed of trust transactions, the directions of the beneficiary.
LEASES AND RENTS
Mortgages that encumber income-producing property often contain an
assignment of rents and leases, pursuant to which the borrower assigns to the
lender the borrower's right, title and interest as landlord under each lease and
the income derived therefrom, while (unless rents are to be paid directly to the
lender) retaining a revocable license to collect the rents for so long as there
is no default. If the borrower defaults, the license terminates and the lender
is entitled to collect the rents. Local law may require that the lender take
possession of the property and/or obtain a court-appointed receiver before
becoming entitled to collect the rents.
The potential payments from a property may be less than the periodic
payments due under the mortgage. For example, the net income that would
otherwise be generated from the property may be less than the amount that would
be needed to service the debt if the leases on the property are at below-market
rents, the market rents have fallen since the original financing, vacancies have
increased, or as a result of excessive or increased maintenance, repair or other
obligations to which a lender succeeds as landlord.
CONDEMNATION AND INSURANCE
The form of the mortgage or deed of trust used by many lenders confers on
the mortgagee or beneficiary the right both to receive all proceeds collected
under any hazard insurance policy and all awards made in connection with any
condemnation proceedings, and to apply such proceeds and awards to any
indebtedness secured by the mortgage or deed of trust, in such order as the
mortgage or beneficiary may determine. Thus, in the event improvements on the
property are damaged or destroyed by fire or other casualty, or in the event the
property is taken by condemnation, the mortgagee or beneficiary under the senior
mortgage or deed of trust will have the prior right to collect any insurance
proceeds payable under a hazard insurance policy and any award of damages in
connection with the condemnation and to apply the same to the indebtedness
secured by the senior mortgage or deed of trust. Proceeds in excess of the
amount of senior mortgage indebtedness will, in most cases, be applied to the
indebtedness of a junior mortgage or trust deed to the extent the junior
mortgage or deed of trust so provides. The laws of certain states may limit the
ability of mortgagees or beneficiaries to apply the proceeds of hazard insurance
and partial condemnation awards to the secured indebtedness. In such states, the
mortgagor or trustor must be allowed to use the proceeds of hazard insurance to
repair the damage unless the security of the mortgagee or beneficiary has been
impaired. Similarly, in certain states, the mortgagee or beneficiary is entitled
to the award for a partial condemnation of the real property security only to
the extent that its security is impaired.
FORECLOSURE
GENERAL. Foreclosure is a legal procedure that allows the lender to recover
its mortgage debt by enforcing its rights and available legal remedies under the
mortgage. If the borrower defaults in payment
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or performance of its obligations under the note or mortgage, the lender has the
right to institute foreclosure proceedings to sell the real property at public
auction to satisfy the indebtedness.
Foreclosure procedures vary from state to state. Two primary methods of
foreclosing a mortgage are judicial foreclosure, involving court proceedings,
and non-judicial foreclosure pursuant to a power of sale granted in the mortgage
instrument. Other foreclosure procedures are available in some states, such as
strict foreclosure, but they are either infrequently used or available only in
limited circumstances.
JUDICIAL FORECLOSURE. A judicial foreclosure proceeding is conducted in a
court having jurisdiction over the mortgaged property. Generally, the action is
initiated by the service of legal pleadings upon all parties having a
subordinate interest of record in the real property and all parties in
possession of the property, under leases or otherwise, whose interests are
subordinate to the mortgage. A foreclosure action is subject to most of the
delays and expenses of other lawsuits if defenses are raised or counterclaims
are interposed, and sometimes requires several years to complete. When the
lender's right to foreclose is contested, the legal proceedings can be
time-consuming. Upon successful completion of a judicial foreclosure proceeding,
the court generally issues a judgment of foreclosure and appoints a referee or
other officer to conduct a public sale of the mortgaged property, the proceeds
of which are used to satisfy the judgment. Such sales are made in accordance
with procedures that vary from state to state.
NON-JUDICIAL FORECLOSURE/POWER OF SALE. Foreclosure of a deed of trust is
generally accomplished by a non-judicial trustee's sale pursuant to a power of
sale typically granted in the deed of trust. A power of sale may also be
contained in any other type of mortgage instrument if applicable law so permits.
A power of sale under a deed of trust allows a non-judicial public sale to be
conducted generally following a request from the beneficiary/lender to the
trustee to sell the property upon default by the borrower and after notice of
sale is given in accordance with the terms of the mortgage and applicable state
law. The borrower or junior lienholder may then have the right, during a
reinstatement period required in some states, to cure the default by paying the
entire actual amount in arrears (without regard to the acceleration of the
indebtedness), plus the lender's expenses incurred in enforcing the obligation.
In other states, the borrower or the junior lienholder is not provided a period
to reinstate the loan, but has only the right to pay off the entire debt to
prevent the foreclosure sale. Generally, state law governs the procedure for
public sale, the parties entitled to notice, the method of giving notice and the
applicable time periods.
EQUITABLE LIMITATIONS ON ENFORCEABILITY OF CERTAIN PROVISIONS. United
States courts have traditionally imposed general equitable principles to limit
the remedies available to lenders in foreclosure actions. These principles are
generally designed to relieve borrowers from the effects of mortgage defaults
perceived as harsh or unfair. Relying on such principles, a court may alter the
specific terms of a loan to the extent it considers necessary to prevent or
remedy an injustice, undue oppression or overreaching, or may require the lender
to undertake affirmative actions to determine the cause of the borrower's
default and the likelihood that the borrower will be able to reinstate the loan.
In some cases, courts have substituted their judgment for the lender's and have
required that lenders reinstate loans or recast payment schedules in order to
accommodate borrowers who are suffering from a temporary financial disability.
In other cases, courts have limited the right of the lender to foreclose in the
case of a non-monetary default, such as a failure to adequately maintain the
mortgaged property or an impermissible further encumbrance of the mortgaged
property.
Even if the lender is successful in the foreclosure action and is able to
take possession of the property, the costs of operating and maintaining a
commercial or multifamily property may be significant and may be greater than
the income derived from that property. The costs of management and operation of
those mortgaged properties which are hotels, motels, restaurants, nursing homes,
convalescent homes or hospitals may be particularly significant because of the
expertise, knowledge and with respect to nursing or convalescent homes,
regulatory compliance, required to run such operations and the effect which
foreclosure and a change in ownership may have with respect to consent
requirements and on the public's and the industry's (including franchisors')
perception of the quality of such operations. The lender also will commonly
obtain the services of a real estate broker and pay the broker's commission in
connection with
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the sale or lease of the property. Depending upon market conditions, the
ultimate proceeds of the sale of the property may not equal the lender's
investment in the property. Moreover, because of the expenses associated with
acquiring, owning and selling a mortgaged property, a lender could realize an
overall loss on a mortgage loan even if the mortgaged property is sold at
foreclosure, or resold after it is acquired through foreclosure, for an amount
equal to the full outstanding principal amount of the loan plus accrued
interest.
The holder of a junior mortgage that forecloses on a mortgaged property does
so subject to senior mortgages and any other prior liens, and may be obliged to
keep senior mortgage loans current in order to avoid foreclosure of its interest
in the property. In addition, if the foreclosure of a junior mortgage triggers
the enforcement of a "due-on-sale" clause contained in a senior mortgage, the
junior mortgagee could be required to pay the full amount of the senior mortgage
indebtedness or face foreclosure.
POST-SALE REDEMPTION. In a majority of states, after sale pursuant to a
deed of trust or foreclosure of a mortgage, the borrower and foreclosed junior
lienors are given a statutory period in which to redeem the property. In some
states, statutory redemption may occur only upon payment of the foreclosure sale
price. In other states, redemption may be permitted if the former borrower pays
only a portion of the sums due. In some states, the borrower retains possession
of the property during the statutory redemption period. The effect of a
statutory right of redemption is to diminish the ability of the lender to sell
the foreclosed property because the exercise of a right of redemption would
defeat the title of any purchaser through a foreclosure. Consequently, the
practical effect of the redemption right is to force the lender to maintain the
property and pay the expenses of ownership until the redemption period has
expired. In some states, a post-sale statutory right of redemption may exist
following a judicial foreclosure, but not following a trustee's sale under a
deed of trust.
ANTI-DEFICIENCY LEGISLATION. Any commercial or multi-family residential
mortgage loans acquired by the Company are likely to be nonrecourse loans, as to
which recourse in the case of default will be limited to the property and such
other assets, if any, that were pledged to secure the mortgage loan. However,
even if a mortgage loan by its terms provides for recourse to the borrower's
other assets, a lender's ability to realize upon those assets may be limited by
state law. For example, in some states a lender cannot obtain a deficiency
judgment against the borrower following foreclosure or sale under a deed of
trust or by non-judicial means. Other statutes may require the lender to exhaust
the security afforded under a mortgage before bringing a personal action against
the borrower. In certain other states, the lender has the option of bringing a
personal action against the borrower on the debt without first exhausting such
security; however, in some of those states, the lender, following judgment on
such personal action, may be deemed to have elected a remedy and thus may be
precluded from foreclosing upon the security. Consequently, lenders in those
states where such an election of remedy provision exists may choose to proceed
first against the security. Finally, other statutory provisions, designed to
protect borrowers from exposure to large deficiency judgments that might result
from bidding at below-market values at the foreclosure sale, limit any
deficiency judgment to the excess of the outstanding debt over the fair market
value of the property at the time of the sale.
COOPERATIVES. Mortgage loans may be secured by a security interest on the
borrower's ownership interest in shares, and the proprietary leases appurtenant
thereto (or cooperative contract rights), allocable to cooperative dwelling
units that may be vacant or occupied by non-owner tenants. Such loans are
subject to certain risks not associated with mortgage loans secured by a lien on
the fee estate of a borrower in real property. Such a loan typically is
subordinate to the mortgage, if any, on the cooperative's building which, if
foreclosed, could extinguish the equity in the building and the proprietary
leases of the dwelling units derived from ownership of the shares of the
cooperative. Further, transfer of shares in a cooperative are subject to various
regulations as well as to restrictions (including transfer restrictions) under
the governing documents of the cooperative, and the shares may be canceled in
the event that associated maintenance charges due under the related proprietary
leases are not paid. Typically, a recognition agreement between the lender and
the cooperative provides, among other things, the lender with an opportunity to
cure a
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default under a proprietary lease but such recognition agreements may not have
been obtained in the case of all the mortgage loans secured by cooperative
shares (or contract rights).
Under the laws applicable in many states, "foreclosure" on cooperative
shares is accomplished by a sale in accordance with the provisions of Article 9
of the UCC and the security agreement relating to the shares. Article 9 of the
UCC requires that a sale be conducted in a "commercially reasonable" manner,
which may be dependent upon, among other things, the notice given to the debtor
and the method, manner, time, place and terms of the sale. Article 9 of the UCC
provides that the proceeds of the sale will be applied first to pay the costs
and expenses of the sale and then to satisfy the indebtedness secured by the
lender's security interest. A recognition agreement, however, generally provides
that the lender's right to reimbursement is subject to the right of the
cooperative to receive sums due under the proprietary leases.
BANKRUPTCY LAWS
Operation of the Bankruptcy Code and related state laws may interfere with
or affect the ability of a lender to realize upon collateral and/or to enforce a
deficiency judgment. For example, under the Bankruptcy Code, virtually all
actions (including foreclosure actions and deficiency judgment proceedings) to
collect a debt are automatically stayed upon the filing of the bankruptcy
petition and, often, no interest or principal payments are made during the
course of the bankruptcy case. The delay and the consequences thereof caused by
such automatic stay can be significant. Also, under the Bankruptcy Code, the
filing of a petition in bankruptcy by or on behalf of a junior lien or may stay
the senior lender from taking action to foreclose out such junior lien.
Under the Bankruptcy Code, provided certain substantive and procedural
safeguards protective of the lender are met, the amount and terms of a mortgage
loan secured by a lien on property of the debtor may be modified under certain
circumstances. For example, the outstanding amount of the loan may be reduced to
the then-current value of the property (with a corresponding partial reduction
of the amount of lender's security interest) pursuant to a confirmed plan or
lien avoidance proceeding, thus leaving the lender a general unsecured creditor
for the difference between such value and the outstanding balance of the loan.
Other modifications may include the reduction in the amount of each scheduled
payment, by means of a reduction in the rate of interest and/or an alteration of
the repayment schedule (with or without affecting the unpaid principal balance
of the loan), and/or by an extension (or shortening) of the term to maturity.
Federal bankruptcy law may also have the effect of interfering with or
affecting the ability of the secured lender to enforce the borrower's assignment
of rents and leases related to the mortgaged property. Under section 362 of the
Bankruptcy Code, the lender will be stayed from enforcing the assignment, and
the legal proceedings necessary to resolve the issue could be time-consuming,
with resulting delays in the lender's receipt of the rents. In addition, the
Bankruptcy Code has been amended to provide that a lender's perfected
pre-petition security interest in leases, rents and hotel revenues continues in
the post-petition leases, rents and hotel revenues, unless a bankruptcy court
orders to the contrary "based on the equities of the case."
In a bankruptcy or similar proceeding, action may be taken seeking the
recovery as a preferential transfer of any payments made by the mortgagor under
the related mortgage loan to the owner of such mortgage loan. Payments on
long-term debt may be protected from recovery as preferences if they are
payments in the ordinary course of business made on debts incurred in the
ordinary course of business. Whether any particular payment would be protected
depends upon the facts specific to a particular transaction.
A trustee in bankruptcy, in some cases, may be entitled to collect its costs
and expenses in preserving or selling the mortgaged property ahead of payment to
the lender. In certain circumstances, a debtor in bankruptcy may have the power
to grant liens senior to the lien of a mortgage, and analogous state statutes
and general principles of equity may also provide a mortgagor with means to halt
a foreclosure proceeding or sale and to force a restructuring of a mortgage loan
on terms a lender would not otherwise accept.
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Moreover, the laws of certain states also give priority to certain tax liens
over the lien of a mortgage or deed of trust. Under the Bankruptcy Code, if the
court finds that actions of the mortgagee have been unreasonable, the lien of
the related mortgage may be subordinated to the claims of unsecured creditors.
The Company's acquisition of real property, particularly REO Property, may
be affected by many of the considerations applicable to mortgage loan lending.
For example, the Company's acquisition of certain property at foreclosure sale
could be affected by a borrower's post-sale right of redemption. In addition,
the Company's ability to derive income from real property will generally be
dependent on its receipt of rent payments under leases of the related property.
The ability to collect rents may be impaired by the commencement of a bankruptcy
proceeding relating to a lessee under such lease. Under the Bankruptcy Code, the
filing of a petition in bankruptcy by or on behalf of a lessee results in a stay
in bankruptcy against the commencement or continuation of any state court
proceeding for past due rent, for accelerated rent, for damages or for a summary
eviction order with respect to a default under the lease that occurred prior to
the filing of the lessee's petition. In addition, the Bankruptcy Code generally
provides that a trustee or debtor-in-possession may, subject to approval of the
court, (i) assume the lease and retain it or assign it to a third party or (ii)
reject the lease. If the lease is assumed, the trustee or debtor-in-possession
(or assignee, if applicable) must cure any defaults under the lease, compensate
the lessor for its losses and provide the lessor with "adequate assurance" of
future performance. Such remedies may be insufficient, and any assurances
provided to the lessor may, in fact, be inadequate. If the lease is rejected,
the lessor will be treated as an unsecured creditor with respect to its claim
for damages for termination of the lease. The Bankruptcy Code also limits a
lessor's damages for lease rejection to the rent reserved by the lease (without
regard to acceleration) for the greater of one year, or 15%, not to exceed three
years, of the remaining term of the lease.
DEFAULT INTEREST AND LIMITATIONS ON PREPAYMENTS
Notes and mortgages may contain provisions that obligate the borrower to pay
a late charge or additional interest if payments are not timely made, and in
some circumstances, may prohibit prepayments for a specified period and/or
condition prepayments upon the borrower's payment of prepayment fees or yield
maintenance penalties. In certain states, there are or may be specific
limitations upon the late charges that a lender may collect from a borrower for
delinquent payments. Certain states also limit the amounts that a lender may
collect from a borrower as an additional charge if the loan is prepaid. In
addition, the enforceability of provisions that provide for prepayment fees or
penalties upon an involuntary prepayment is unclear under the laws of many
states.
FORFEITURES IN DRUG AND RICO PROCEEDINGS
Federal law provides that property owned by persons convicted of
drug-related crimes or of criminal violations of the Racketeer Influenced and
Corrupt Organizations ("RICO") statute can be seized by the government if the
property was used in, or purchased with the proceeds of, such crimes. Under
procedures contained in the Comprehensive Crime Control Act of 1984 (the "Crime
Control Act"), the government may seize the property even before conviction. The
government must publish notice of the forfeiture proceeding and may give notice
to all parties "known to have an alleged interest in the property," including
the holders of mortgage loans.
A lender may avoid forfeiture of its interest in the property if it
establishes that: (i) its mortgage was executed and recorded before commission
of the crime upon which the forfeiture is based, or (ii) the lender was, at the
time of execution of the mortgage, "reasonably without cause to believe" that
the property was used in, or purchased with the proceeds of, illegal drug or
RICO activities.
ENVIRONMENTAL RISKS
GENERAL. The Company will be subject to environmental risks when taking a
security interest in real property, as well as when it acquires any real
property. Of particular concern may be properties that are or have been used for
industrial, manufacturing, military or disposal activity. Such environmental
risks
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include the risk of the diminution of the value of a contaminated property or,
as discussed below, liability for the costs of compliance with environmental
regulatory requirements or the costs of clean-up or other remedial actions.
These compliance or clean-up costs could exceed the value of the property or the
amount of the lender's loan. In certain circumstances, a lender could determine
to abandon a contaminated mortgaged property as collateral for its loan rather
than foreclose and risk liability for compliance or clean-up costs.
CERCLA. The federal Comprehensive Environmental Response, Compensation and
Liability Act of 1980, as amended ("CERCLA"), imposes strict liability on
present and past "owners" and "operators" of contaminated real property for the
costs of clean-up. A secured lender may be liable as an "owner" or "operator" of
a contaminated mortgaged property if agents or employees of the lender have
become sufficiently involved in the management of such mortgaged property or the
operations of the borrower. Such liability may exist even if the lender did not
cause or contribute to the contamination and regardless of whether the lender
has actually taken possession of a mortgaged property through foreclosure, deed
in lieu of foreclosure or otherwise. The magnitude of the CERCLA liability at
any given contaminated site is a function of the actions required to address
adequately the risks to human health and the environment posed by the particular
conditions at the site. As a result, such liability is not constrained by the
value of the property or the amount of the original or unamortized principal
balance of any loans secured by the property. Moreover, under certain
circumstances, liability under CERCLA may be joint and several--i.e., any liable
party may be obligated to pay the entire cleanup costs regardless of its
relative contribution to the contamination.
The Asset Conservation, Lender Liability and Deposit Insurance Act of 1996
(the "1996 Lender Liability Act") provides for a safe harbor for secured lenders
from CERCLA liability even though the lender forecloses and sells the real
estate securing the loan, provided the secured lender sells "at the earliest
practicable, commercially reasonable time, at commercially reasonable terms,
taking into account market conditions and legal and regulatory requirements."
Although the 1996 Lender Liability Act provides significant protection to
secured lenders, it has not been construed by the courts and there are
circumstances in which actions taken could expose a secured lender to CERCLA
liability. And, the transferee from the secured lender is not entitled to the
protections enjoyed by a secured lender. Hence, the marketability of any
contaminated real estate continues to be suspect.
CERTAIN OTHER FEDERAL AND STATE LAWS. Many states have environmental
clean-up statutes similar to CERCLA, and not all those statutes provide for a
secured creditor exemption. In addition, underground storage tanks are commonly
found on a wide variety of commercial and industrial properties. Federal and
state laws impose liability on the owners and operators of underground storage
tanks for any cleanup that may be required as a result of releases from such
tanks. These laws also impose certain compliance obligations on the tank owners
and operators, such as regular monitoring for leaks and upgrading of older
tanks. The Company may become a tank owner or operator and subject to compliance
obligations and potential cleanup liabilities, either as a result of becoming
involved in the management of a site at which a tank is located or, more
commonly, by taking title to such a property. Federal and state laws also
obligate property owners and operators to maintain and, under some
circumstances, to remove asbestos-containing building materials and lead-based
paint. As a result, the presence of these materials can increase the cost of
operating a property and thus diminish its value. In a few states, transfers of
some types of properties are conditioned upon cleanup of contamination prior to
transfer. In these cases, a lender that becomes the owner of a property through
foreclosure, deed in lieu of foreclosure or otherwise, may be required to clean
up the contamination before selling or otherwise transferring the property.
Beyond statute-based environmental liability, there exist common law causes
of action (for example, actions based on nuisance or on toxic tort resulting in
death, personal injury or damage to property) related to hazardous environmental
conditions on a property.
SUPERLIEN LAWS. Under the laws of many states, contamination of a property
may give rise to a lien on the property for clean-up costs. In several states,
such a lien has priority over all existing liens, including
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those of existing mortgages. In these states, the lien of a mortgage may lose
its priority to such a "superlien."
ADDITIONAL CONSIDERATIONS. The cost of remediating environmental
contamination at a property can be substantial. To reduce the likelihood of
exposure to such losses, the Company will not acquire title to a Mortgaged
Property or take over its operation unless, based on an environmental site
assessment prepared by a qualified environmental consultant, it has made the
determination that it is appropriate to do so. The Company expects that it will
organize a special purpose subsidiary to acquire any environmentally
contaminated real property.
ENVIRONMENTAL SITE ASSESSMENTS. In addition to possibly allowing a lender
to qualify for the innocent landowner defense (see discussion under
"--Environmental Risks--CERCLA" above), environmental site assessments can be a
valuable tool in anticipating, managing and minimizing environmental risk. They
are commonly performed in many commercial real estate transactions.
Environmental site assessments vary considerably in their content and
quality. Even when adhering to good professional practices, environmental
consultants will sometimes not detect significant environmental problems because
an exhaustive environmental assessment would be far too costly and
time-consuming to be practical. Nevertheless, it is generally helpful in
assessing and addressing environmental risks in connection with commercial real
estate (including multifamily properties) to have an environmental site
assessment of a property because it enables anticipation of environmental
problems and, if agreements are structured appropriately, can allow a party to
decline to go forward with a transaction.
APPLICABILITY OF USURY LAWS
Title V of the Depository Institutions Deregulation and Monetary Control Act
of 1980 ("Title V") provides that state usury limitations shall not apply to
certain types of residential (including multifamily) first mortgage loans
originated by certain lenders after March 31, 1980. Title V authorized any state
to reimpose interest rate limits by adopting, before April 1, 1983, a law or
constitutional provision that expressly rejects application of the federal law.
In addition, even where Title V is not so rejected, any state is authorized by
the law to adopt a provision limiting discount points or other charges on
mortgage loans covered by Title V. Certain states have taken action to reimpose
interest rate limits and/or to limit discount points or other charges.
AMERICANS WITH DISABILITIES ACT
Under Title III of the Americans with Disabilities Act of 1990 and rules
promulgated thereunder (collectively, the "ADA"), in order to protect
individuals with disabilities, public accommodations (such as hotels,
restaurants, shopping centers, hospitals, schools and social service center
establishments) must remove architectural and communication barriers that are
structural in nature from existing places of public accommodation to the extent
"readily achievable." In addition, under the ADA, alterations to a place of
public accommodation or a commercial facility are to be made so that, to the
maximum extent feasible, such altered portions are readily accessible to and
usable by disabled individuals. The "readily achievable" standard takes into
account, among other factors, the financial resources of the affected site,
owner, landlord or other applicable person. In addition to imposing a possible
financial burden on the borrower in its capacity as owner or landlord, the ADA
may also impose such requirements on a foreclosing lender who succeeds to the
interest of the borrower as owner or landlord. Furthermore, since the "readily
achievable" standard may vary depending on the financial condition of the owner
or landlord, a foreclosing lender who is financially more capable than the
borrower of complying with the requirements of the ADA may be subject to more
stringent requirements than those to which the borrower is subject.
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USE OF PROCEEDS
All of the expected net proceeds of this Offering will be used to purchase
Units in the Operating Partnership. Thereupon, the Operating Partnership will
use approximately $36.0 million plus accrued interest to purchase the Initial
Investments and approximately $9.1 million to purchase the Supplemental Initial
Investment. The purchase price for the Initial Investments and the Supplemental
Initial Investment was based on certain assumptions made with respect to the
potential net cash flows to be generated by the Initial Investments and the
Supplemental Initial Investment. See "Initial Investments," "Yield
Considerations Regarding the Initial Investments" and "Risk Factor--Other
Risks--Conflicts of Interest in the Business of the Company." Pending
investment, the balance of the net proceeds (approximately $205.2 million) will
be invested in short-term, interest-bearing securities and held by the Operating
Partnership until used to originate or acquire Subordinated Interests,
Distressed Real Properties and Other Real Estate Related Assets as provided
herein. See "Operating Policies and Strategies."
The Company intends to supplement the proceeds of this offering through bank
borrowings, commercial paper borrowings and the issuance of debt securities and
additional equity securities.
UNDERWRITING
Subject to the terms and conditions set forth in the Underwriting Agreement,
the Company has agreed to sell to each of the underwriters named below (the
"Underwriters") and each of the Underwriters, for whom Friedman, Billings,
Ramsey & Co., Inc. and EVEREN Securities, Inc., are acting as representatives,
has severally agreed to purchase, the number of shares of Common Stock offered
hereby set forth below opposite its name.
<TABLE>
<CAPTION>
UNDERWRITER NUMBER OF SHARES
- --------------------------------------------------------------------------- -----------------
<S> <C>
Friedman, Billings, Ramsey & Co., Inc...................................... 6,175,000
EVEREN Securities, Inc..................................................... 6,175,000
Lehman Brothers Inc........................................................ 225,000
Montgomery Securities...................................................... 225,000
PaineWebber Incorporated................................................... 225,000
Prudential Securities Incorporated......................................... 225,000
Advest, Inc................................................................ 125,000
Dominick & Dominick Incorporated........................................... 125,000
Equitable Securities Corporation........................................... 125,000
Fahnestock & Co. Inc....................................................... 125,000
Legg Mason Wood Walker, Inc................................................ 125,000
McDonald & Company Securities, Inc......................................... 125,000
Mesirow Financial.......................................................... 125,000
Parker/Hunter Incorporated................................................. 125,000
Piper Jaffray Inc.......................................................... 125,000
Rauscher Pierce Refsnes, Inc............................................... 125,000
Raymond James & Associates, Inc............................................ 125,000
Stifel, Nicolaus & Company Incorporated.................................... 125,000
Sutro & Co. Incorporated................................................... 125,000
Tucker Anthony Incorporated................................................ 125,000
-----------------
Total................................................................ 15,000,000
-----------------
-----------------
</TABLE>
Under the terms and conditions of the Underwriting Agreement, the
Underwriters are committed to purchase all the shares of Common Stock offered
hereby if any are purchased.
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The Underwriters propose initially to offer the shares of Common Stock
directly to the public at the public offering price set forth on the cover page
of this Prospectus and to certain dealers at such offering price less a
concession not to exceed $0.66 per share of Common Stock. The Underwriters may
allow and such dealers may reallow a concession not to exceed $0.10 per share of
Common Stock to certain other dealers. After the shares of Common Stock are
released for sale to the public, the offering price and other selling terms may
be changed by the Underwriters.
At the request of the Company, the Underwriters have reserved up to 300,000
shares of Common Stock (345,000 shares if the Underwriters' over-allotment
option is exercised) for sale to directors, officers and employees of Ocwen
Financial and its subsidiaries at the initial public offering price set forth on
the cover page of this Prospectus net of any underwriting discounts or
commissions, and up to 325,000 shares of Common Stock (373,750 shares if the
Underwriters' over-allotment option is exercised) for sale to certain other
persons at the initial public offering price. The number of shares of Common
Stock available for sale to the general public will be reduced to the extent
such persons purchase such reserved shares. Any reserved shares which are not so
purchased will be offered by the Underwriters to the general public on the same
basis as the other shares offered hereby.
The Company has granted to the Underwriters an option exercisable during a
30-day period after the date hereof to purchase, at the initial offering price
less underwriting discounts and commissions, up to an additional 2,250,000
shares of Common Stock for the sole purpose of covering over-allotments, if any.
To the extent that the Underwriters exercise such option, each Underwriter will
be committed, subject to certain conditions, to purchase a number of the
additional shares of Common Stock proportionate to such Underwriter's initial
commitment.
The Company has agreed to indemnify the several Underwriters against certain
civil liabilities under the Securities Act, or to contribute to payments the
Underwriters may be required to make in respect thereof.
Prior to this Offering, there has been no public market for the shares of
Common Stock. The initial public offering price has been determined by
negotiation between the Company and the representatives of the Underwriters.
Among the factors considered in making such determination were the history of,
and the prospects for, the industry in which the Company will compete, an
assessment of the skills of the Manager and the Company's prospects for future
earnings, the general conditions of the economy and the securities market and
the prices of offerings by similar issuers. There can, however, be no assurance
that the price at which the shares of Common Stock will sell in the public
market after this offering will not be lower than the price at which they are
sold by the Underwriters.
The representatives of the Underwriters have informed the Company that the
Underwriters do not intend to confirm sales of the shares offered hereby to any
accounts over which they exercise discretionary authority.
Until the distribution of the Common Stock is completed, rules of the
Commission may limit the ability of the Underwriters and certain selling group
members to bid for or purchase the Common Stock. As an exception to these rules,
the representatives are permitted to engage in certain transactions that
stabilize the price of the Common Stock. Such transactions consist of bids or
purchases for the purpose of pegging, fixing or maintaining the price of the
Common Stock.
If the Underwriters create a short position in the Common Stock in
connection with the Offering, I.E., if they sell more shares of Common Stock
than are set forth on the cover page of this Prospectus, the representatives may
reduce that short position by purchasing Common Stock in the open market. The
representatives may also elect to reduce any short position by exercising all or
part of the over-allotment option described above.
The representatives may also impose a penalty bid on certain Underwriters
and selling group members. This means that if the representatives purchase
Common Stock in the open market to reduce
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the Underwriters' short position or to stabilize the price of the Common Stock,
they may reclaim the amount of the selling concession from the Underwriters and
selling group members who sold those Common Stock as part of the Offering.
In general, purchases of securities for the purpose of stabilization or to
reduce a short position could cause the price of the security to be higher than
it might be in the absence of such purchases. The imposition of a penalty bid
might also have an effect on the price of a security to the extent that it were
to discourage resales of the security.
Neither the Company nor any of the Underwriters makes any representation or
prediction as to the direction or magnitude of any effect that the transactions
described above may have on the price of the Common Stock. In addition, neither
the Company nor any of the Underwriters makes any representation that the
representatives will engage in such transactions or that such transactions, once
commenced, will not be discontinued without notice.
The Company has agreed not to offer, sell or contract to sell or otherwise
dispose of any Common Stock of OAIC without the prior consent of the
representatives for a period of 120 days from the date of this Prospectus.
Ocwen Financial has agreed not to offer, sell or contract to sell or
otherwise dispose of the Common Stock acquired on the Closing Date without the
prior consent of the representatives, for a period of two years from the date of
Closing, provided that the Manager continues to serve as the manager during such
period.
LEGAL MATTERS
Certain legal matters will be passed upon for the Company by Hunton &
Williams, Richmond, Virginia, and for the Underwriters by Simpson Thacher &
Bartlett (a partnership which includes professional corporations), New York, New
York. Simpson Thacher & Bartlett may rely as to matters of Virginia law on the
opinion of Hunton & Williams.
EXPERTS
The financial statement of Ocwen Asset Investment Corp. as of February 12,
1997 included in this Prospectus has been so included in reliance on the report
of Price Waterhouse LLP, independent certified public accountants, given on the
authority of said firm as experts in auditing and accounting.
ADDITIONAL INFORMATION
THE COMPANY
The Company has filed with the Securities and Exchange Commission (the
"Commission") a Registration Statement (of which this Prospectus forms a part)
under the Securities Act of 1933, as amended, with respect to the Common Stock
offered pursuant to the Prospectus. This Prospectus contains summaries of the
material terms of the documents referred to herein and therein, but does not
contain all of the information set forth in the Registration Statement pursuant
to the rules and regulations of the Commission. For further information,
reference is made to such Registration Statement and the exhibits thereto. Such
Registration Statement and exhibits as well as reports and other information
filed by OAIC can be inspected without charge and copied at prescribed rates at
the public reference facilities maintained by the Commission at the Public
Reference Section of the Commission, 450 Fifth Street, N.W., Washington, D.C.
20549, and at its Regional Offices located as follows: Chicago Regional Office,
Citicorp Center, Suite 1400, 500 West Madison Street, Chicago, Illinois
60661-2511; and New York Regional Office, Seven World Trade Center, Suite 1300,
New York, New York 10048. The Commission maintains a Web site that contains
reports, proxy, and information statements and other information regarding
registrants that file electronically with the Commission. The Web site is
located at http://www.sec.gov.
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Statements contained in this Prospectus as to the contents of any contract
or other document that is filed as an exhibit to the Registration Statement are
not necessarily complete, and each such statement is qualified in its entirety
by reference to the full text of such contract or document.
The Company will be required to file reports and other information with the
Commission pursuant to the Securities Exchange Act of 1934. In addition to
applicable legal requirements, if any, holders of Common Stock will receive
annual reports containing audited financial statements with a report thereon by
the Company's independent certified public accounts, and quarterly reports
containing unaudited financial information for each of the first three quarters
of each fiscal year.
OCWEN FINANCIAL
Ocwen Financial files reports and other information with the Commission
pursuant to the Securities Exchange Act of 1934. Additional information about
Ocwen Financial, therefore, may be inspected or copied at the public reference
facilities maintained by the Commission at the locations mentioned above.
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GLOSSARY OF TERMS
Except as otherwise specified or as the context may otherwise require, the
following terms used herein shall have the meanings assigned to them below. All
terms in the singular shall have the same meanings when used in the plural and
vice-versa.
"1996 Lender Liability Act" shall mean the Asset Conservation, Lender
Liability and Deposit Insurance Act of 1996.
"ADA" shall mean the Americans with Disabilities Act of 1990, as amended.
"Affiliate" shall mean (i) any person directly or indirectly owning,
controlling, or holding, with power to vote ten percent or more of the
outstanding voting securities of such other person, (ii) any person ten percent
or more of whose outstanding voting securities are directly or indirectly owned,
controlled, or held, with power to vote, by such other person, (iii) any person
directly or indirectly controlling, controlled by, or under common control with
such other person, (iv) any executive officer, director, trustee or general
partner of such other person, and (v) any legal entity for which such person
acts as an executive officer, director, trustee or general partner. The term
"person" means and includes any natural person, corporation, partnership,
association, limited liability company or any other legal entity. An indirect
relationship shall include circumstances in which a person's spouse, children,
parents, siblings or mothers-, fathers-, sisters- or brothers-in-law is or has
been associated with a person.
"Affiliated Transaction" shall mean any material acquisition transaction
between the Company and any Interested Stockholder.
"Articles of Incorporation" shall mean the Articles of Incorporation of the
Company.
"Average Invested Assets" shall mean the average of the aggregate book value
of the assets of the Company (including all of OAIC's direct and indirect
subsidiaries), before reserves for depreciation or bad debts or other similar
noncash reserves, computed by taking the daily average of such values during
such period.
"Bank" shall mean Ocwen Federal Bank FSB.
"Bankruptcy Code" shall mean Title 11 of the United States Code, as amended.
"Beneficiary" shall mean the beneficiary of the Trust.
"Board of Directors" shall mean the Board of Directors of the Company.
"BPO" shall mean a broker's price opinion obtained by the Manager from one
of its approved brokers with respect to a loan.
"Bylaws" shall mean the Bylaws of the Company.
"CERCLA" shall mean the federal Comprehensive Environmental Response,
Compensation and Liability Act of 1980, as amended.
"Closing" shall mean the closing of the Offering.
"Closing Date" shall mean on or about May 19, 1997.
"Closing Price" shall mean the average of the high bid and low asked prices
in the over-the-counter market, as reported by The Nasdaq Stock Market.
"CMBS" shall mean commercial or multi-family MBS.
"CMO or CMO Bonds" shall mean collateralized mortgage obligations.
"Code" shall mean the Internal Revenue Code of 1986, as amended.
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"Commission" shall mean the Securities and Exchange Commission.
"Common Stock" shall mean the Common Stock, par value $0.01 per share, of
OAIC.
"Company" shall mean Ocwen Asset Investment Corp., a Virginia corporation,
together with its subsidiaries, unless the context indicates otherwise.
"Company Expenses" shall mean all administrative costs and expenses of the
Company and the General Partner.
"Control Share Acquisitions" means transactions causing the voting strength
of any person acquiring beneficial ownership of shares of a public corporation
in Virginia to meet or exceed certain threshold percentages (20%, 33 1/3% or
50%) of the total votes entitled to be cast for the election of directors.
"Crime Control Act" shall mean the Comprehensive Crime Control Act of 1984.
"Directors" means the members of the Company's Board of Directors.
"Distressed Mortgage Loans" shall mean Sub-Performing Mortgage Loans and
Nonperforming Mortgage Loans.
"Distressed Real Properties" shall mean REO Properties and other distressed
real estate.
"DLJ IOs" shall mean the DLJ Mortgage Acceptance Corporation, Multi-family
Mortgage Pass-Through Certificates, Series 1993-MF17, Class S-1 and Class S-2.
"DLJ Investments" shall mean the DLJ IOs and the DLJ Subordinated Interests.
"DLJ Mortgage Loans" shall mean the mortgage loans underlying the DLJ
Investments.
"DLJ Subordinated Interests" shall mean the DLJ Mortgage Acceptance
Corporation, Multi-family Mortgage Pass-Through Certificates, Series 1993-MF17,
Class B-2, Class B-3 and Class C-1.
"DOL" shall mean the Department of Labor.
"ERISA" shall mean the Employee Retirement Income Security Act of 1974, as
amended.
"Excess Inclusion" shall have the meaning specified in section 860E(c) of
the Code.
"Exchange Act" shall mean the Securities Exchange Act of 1934, as amended.
"Exempt Organizations" shall mean tax-exempt entities, including, but not
limited to, charitable organizations, qualified employee pension and profit
sharing trusts and individual retirement accounts.
"FHLB" shall mean the Federal Home Loan Bank.
"FIRPTA" shall mean the Foreign Investment in Real Property Tax Act of 1980.
"FLHMC" shall mean the Federal Loan Home Mortgage Corporation, a corporate
instrumentality of the United States created and existing under Title III of the
Emergency Home Finance Act of 1970, as amended, or any successor thereto.
"FNMA" shall mean the Federal National Mortgage Association, a federally
chartered and privately owned corporation organized and existing under the
Federal National Mortgage Association Charter Act, or any successor thereto.
"Formation Transactions" shall mean transactions relating to the formation
of the Company.
"Funds From Operations" shall mean net income (computed in accordance with
GAAP), excluding gains (or losses) from debt restructuring or sales of property,
plus depreciation, and after adjustments for unconsolidated partnerships and
joint ventures.
"GAAP" shall mean generally accepted accounting principles applied on a
consistent basis.
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"Garn Act" shall mean the Garn-St Germain Depository Institutions Act of
1982.
"General Partner" shall mean Ocwen General, Inc., as the sole general
partner of the Operating Partnership.
"Guidelines" shall mean guidelines that set forth general parameters for the
Company's investments, borrowings and operations.
"HUD" shall mean the Department of Housing and Urban Development.
"Independent Director" shall mean a director who within the last two years,
has not (i) been employed by the Manager or any of its Affiliates, (ii) been an
officer or director of the Manager or any of its Affiliates, (iii) performed
services for the Manager or any of its Affiliates, (iv) had any material
business or professional relationship with the Manager or any of its Affiliates.
"Initial Investments" shall mean the DLJ Investments and the MLMC
Subordinated Interests, described under "Initial Investments," which are to be
acquired on or soon after the Closing Date.
"Initial Limited Partner" shall mean Ocwen Limited, Inc., as limited partner
of the Operating Partnership.
"Interested Stockholder" shall mean any holder of more than 10% of any class
of outstanding voting shares of the Company.
"Inverse IO" shall mean a class of MBS that is entitled to no (or only
nominal) distributions of principal, but is entitled to interest at a floating
rate that varies inversely with a specified index.
"IO" shall mean a class of MBS that is entitled to no (or only nominal)
distributions of principal.
"IRA" shall mean an individual retirement account.
"Lease" shall mean, with respect to each Mortgaged Property or Real
Property, the agreement pursuant to which the Borrower rents and leases to the
Lessee and the Lessee rents and leases from the Borrower, such Mortgaged
Property or Real Property.
"LIBOR" shall mean the London Interbank Offering Rate for one-month U.S.
Dollar deposits.
"Limited Partners" shall mean the Initial Limited Partner and any additional
persons admitted as limited partners of the Operating Partnership.
"Management Agreement" shall mean an agreement or agreements between the
Company and the Manager pursuant to which the Manager performs various services
for the Company.
"Manager" shall mean Ocwen Capital Corporation
"Market Price" shall mean the average of the Closing Price for the five
consecutive Trading Days ending on such date.
"MBS" shall mean mortgage-backed securities or collateralized mortgage
obligations.
"MLMC Mortgage Loans" shall mean the mortgage loans underlying the Merrill
Subordinated Interests.
"MLMC Subordinated Interests" shall mean the Merrill Lynch Mortgage Capital
Inc. multifamily Mortgage Pass-Through Certificates, Series 1993-M1, Class B and
Class C.
"Mortgage Collateral" shall mean mortgage pass-through securities or pools
of whole loans securing or backing a series of MBS.
"Mortgage Loan" shall mean a mortgage loan underlying a series of MBS or a
Mortgage Loan held by the Company, as the context indicates.
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"Mortgaged Property" shall mean the real property securing a mortgage loan.
"NAREIT" shall mean the National Association of Real Estate Investment
Trusts, Inc.
"Net Income" shall mean the income of the Company as reported for federal
income tax purposes before the Manager's incentive compensation, net operating
loss deductions arising from losses in prior periods and the deduction for
dividends paid, plus the effects of adjustments, if any, necessary to record
hedging and interest transactions in accordance with generally accepted
accounting principles.
"Non-ERISA Plan" shall mean a plan that does not cover common law employees.
"Nonperforming Mortgage Loans" shall mean commercial and residential
mortgage loans for which the payment of principal and interest is more than 90
days delinquent.
"OAIC" shall mean Ocwen Asset Investment Corp.
"Ocwen Financial" shall mean Ocwen Financial Corporation.
"Offering" shall mean the offering of Common Stock hereby.
"Offering Price" shall mean the offering price of $16 per Common Share
offered hereby.
"OID" shall mean original issue discount.
"Operating Partnership" shall mean Ocwen Partnership, L.P.
"Operating Partnership Agreement" shall mean the partnership agreement of
the Operating Partnership, as amended from time to time.
"Option Plan" shall mean a plan which provides for options to purchase
Units.
"Other Real Estate Related Assets" shall mean real estate related assets
other than Subordinated Interests and Distressed Real Property, including,
without limitation, Mortgage Loans, other classes of MBS and other interests in
real estate.
"OTS" shall mean the Office of Thrift Supervision.
"Ownership Limitation" shall mean the restriction on ownership (or deemed
ownership by virtue of the attribution provisions of the Code) of (a) more than
9.1% of the outstanding shares of Common Stock by any stockholder other than
Ocwen Financial, (b) more than 13% of the outstanding shares of Common Stock by
Ocwen Financial, or (c) more than 9.9% of the shares of any series of Preferred
Stock by any stockholder.
"Pass-Through Certificates" shall mean interests in trusts, the assets of
which are primarily mortgage loans.
"Plan" shall mean certain pension, profit-sharing, employee benefit, or
retirement plans or individual retirement accounts.
"Plan Asset Regulations" shall mean regulations of the Department of Labor
that define "plan assets."
"Preferred Stock" shall mean the preferred stock of the Company.
"Prohibited Owner" shall mean the record holder of the shares of Common
Stock or Preferred Stock that are designated as Shares-in-Trust.
"Qualifying Interests" shall mean mortgages and other liens on and interests
in real estate.
"Real Estate Related Assets" shall mean Subordinated Interests and other
classes of CMBS and RMBS, Distressed Mortgage Loans, Performing Mortgage Loans,
Distressed Real Property and other real estate related assets.
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"Real Property" shall mean real property owned by the Company.
"Realized Losses" shall mean, generally, the aggregate amount of losses
realized on loans that are liquidated and losses on loans due to fraud,
mortgagor bankruptcy or special hazards.
"Redemption Rights" shall mean the rights that it is anticipated the Limited
Partners (other than the Initial Limited Partner) will have pursuant to the
Operating Partnership Agreement to redeem all or a portion of their interests in
the Operating Partnership for Common Stock on a one-for-one basis or, at the
option of the Company, an equivalent amount of cash.
"REIT" shall mean real estate investment trust, as defined in section 856 of
the Code.
"Related Party Tenant" shall mean a tenant of OAIC or the Operating
Partnership in which OAIC owns 10% or more of the ownership interests, taking
into account both direct ownership and constructive ownership.
"REMIC" shall mean real estate mortgage investment conduit, as defined in
section 860D of the Code.
"REMIC Residual Interest" shall mean a class of MBS that is designated as
the residual interest in one or more REMICs.
"Rent" shall mean rent received by the Company from tenants of Real Property
owned by the Company.
"REO Property" shall mean real property acquired by a mortgage lender at
foreclosure (or by deed in lieu of foreclosure).
"RICO" shall mean the Racketeer Influenced and Corrupt Organizations laws,
18 U.S.C.A. Section 1961, et seq.
"RMBS" shall mean a series of one- to four-family residential MBS.
"Rule 144" shall mean the rule promulgated under the Securities Act that
permits holders of restricted securities as well as affiliates of an issuer of
the securities, pursuant to certain conditions and subject to certain
restrictions, to sell their securities publicly without registration under the
Securities Act.
"SAIF" shall mean the Savings Association Insurance Fund.
"Securities Act" shall mean the Securities Act of 1933, as amended.
"Service" shall mean the Internal Revenue Service.
"Shares-in-Trust" shall mean shares of Common Stock or Preferred Stock the
purported transfer of which would result in a violation of the Ownership
Limitation, result in the stock of OAIC being held by fewer than 100 persons,
result in OAIC being "closely held," or cause OAIC to own 10% or more of the
ownership interests in a tenant of the Company's Real Property.
"Special Servicing" shall mean servicing of defaulted mortgage loans,
including oversight and management of the resolution of such mortgage loans by
modification, foreclosure, deed in lieu of foreclosure or otherwise.
"Sub IO" shall mean an IO with characteristics of a Subordinated Interest.
"Subordinated Interests" shall mean classes of MBS that are subordinated in
right of payments of principal and interest to more senior classes.
"Sub-Performing Mortgage Loans" shall mean loans for which default is likely
or imminent.
"Supplemental Initial Investment" shall mean Salomon Brothers Mortgage
Securities VII, Inc. Mortgage Pass-Through Certificates, Series 1997-HUD1, Class
B-5 and Class B-6.
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"Ten-Year U.S. Treasury Rate" shall mean the arithmetic average of the
weekly average yield to maturity for actively traded current coupon U.S.
Treasury fixed interest rate securities (adjusted to constant maturities of ten
years) published by the Federal Reserve Board during a quarter, or, if such rate
is not published by the Federal Reserve Board, any Federal Reserve Bank or
agency or department of the federal government selected by the Company.
"Title V" shall mean Title V of the Depository Institutions Deregulation and
Monetary Control Act of 1980.
"Trading Day" shall mean any day other than a Saturday, a Sunday or a day on
which banking institutions in the State of New York are authorized or obligated
by law or executive order to close.
"Treasury Regulations" shall mean the income tax regulations promulgated
under the Code.
"Trust" shall mean a trust created in the event of an impermissible transfer
of shares of Common Stock.
"Trustee" shall mean a trustee of the Trust.
"UBTI" shall mean unrelated business taxable income.
"UBTI Percentage" shall mean the gross income derived by the Company from an
unrelated trade or business divided by the gross income of the Company for the
year in which the dividends are paid.
"UCC" shall mean the Uniform Commercial Code.
"Unaffiliated Director" shall mean, with respect to a particular Interested
Stockholder, a member of OAIC's Board of Directors who was (i) a member on the
date on which an Interested Stockholder became an Interested Stockholder and
(ii) recommended for election by, or was elected to fill a vacancy and received
the affirmative vote of, a majority of the Unaffiliated Directors then on the
Board.
"Underwriters" shall mean Friedman, Billings, Ramsey & Co., Inc. and EVEREN
Securities, Inc. and each of the underwriters for whom Friedman, Billings,
Ramsey & Co., Inc. and EVEREN Securities, Inc. are acting as representatives.
"Underwriting Agreement" shall mean the agreement pursuant to which the
Underwriters will underwrite the Common Stock.
"Units" shall mean units of limited partnership interest in the Operating
Partnership.
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REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors of
Ocwen Asset Investment Corp.
In our opinion, the accompanying balance sheet presents fairly, in all
material respects, the financial position of Ocwen Asset Investment Corp. (the
"Company") at February 12, 1997, in conformity with generally accepted
accounting principles. This financial statement is the responsibility of the
Company's management; our responsibility is to express an opinion on this
financial statement based on our audit. We conducted our audit in accordance
with generally accepted auditing standards which require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statement is free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for the opinion expressed
above.
/s/ Price Waterhouse LLP
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PRICE WATERHOUSE LLP
Fort Lauderdale, Florida
February 12, 1997
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OCWEN ASSET INVESTMENT CORP.
BALANCE SHEET
FEBRUARY 12, 1997
<TABLE>
<S> <C>
ASSETS
Cash................................................................................ $ 1,600
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LIABILITIES AND STOCKHOLDER'S EQUITY
Stockholder's Equity
Preferred Stock, par value $0.01 per share; 25,000,000 shares authorized
Common Stock, par value $0.01 per share; 200,000,000 shares authorized; 100 shares
issued and outstanding.......................................................... $ 1
Additional paid-in-capital........................................................ 1,599
---------
Total Stockholder's Equity...................................................... $ 1,600
---------
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</TABLE>
See accompanying notes to balance sheet.
F-2
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OCWEN ASSET INVESTMENT CORP.
NOTES TO BALANCE SHEET
FEBRUARY 12, 1997
NOTE 1--THE COMPANY
Ocwen Asset Investment Corp. (the "Company") was incorporated in Virginia on
January 22, 1997 and was initially capitalized on February 12, 1997 through the
sale of 100 shares of Common Stock for $1,600. The Company will seek to acquire
primarily subordinated interests in mortgage-backed securities and real
properties and may also invest in other real estate related assets, including
mortgage loans.
The Company's sole activity through February 12, 1997, consisted of the
organization and start-up of the Company. Accordingly, no statement of
operations is presented.
NOTE 2--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
FEDERAL INCOME TAXES
The Company will elect to be taxed as a real estate investment trust under
the Internal Revenue Code. As a result, for such taxable years the Company will
not be subject to federal income taxation at the corporate level to the extent
it distributes annually its predistribution taxable income of at least 95% of
its real estate investment trust taxable income is so distributable.
INCOME RECOGNITION
Income and expenses are to be recorded on the accrual basis of accounting.
NOTE 3--TRANSACTIONS WITH AFFILIATES
The Company intends to enter into a Management Agreement (the "Management
Agreement") with Ocwen Capital Corporation (the "Manager"), a wholly-owned
subsidiary of Ocwen Financial Corporation, under which the Manager will advise
the Company on various facets of its business and manage its day-to-day
operations, subject to the supervision of the Company's Board of Directors. The
Manager will receive a base management fee of 1% per annum of Average Invested
Assets, payable quarterly, plus incentive compensation in an amount equal to the
product of (A) 25% of the dollar amount by which (1)(a) Funds from Operations
(before the incentive fee) of the Company per share of Common Stock (based on
the weighted average number of shares outstanding) plus (b) gains (or minus
losses) from debt restructuring and sales of property per share of Common Stock
(based on the weighted average number of shares outstanding), exceed (2) an
amount equal to (a) the weighted average of the price per share at the initial
offering and the prices per share at any secondary offerings multiplied by (b)
the Ten-Year U.S. Treasury Rate plus five percent multiplied by (B) the weighted
average number of shares of Common Stock outstanding during such period.
The Company intends to adopt a non-qualified stock option plan to provide a
means of incentive compensation for the Manager, whereby the Manager will be
granted an option to purchase shares of Common Stock in the Company (or, at the
Company's election, Units in Ocwen Partnership, L.P.), in an amount equal to 10%
of the shares outstanding following the Company's initial public offering,
exercisable at the initial public offering price. One quarter of the Manager's
options will be exercisable on each of the first four anniversaries of the
Closing Date of the initial public offering.
The Company further intends to issue Common Stock to Ocwen Financial
Corporation, concurrent with the closing of the initial public offering, at the
initial public offering price net of any underwriting discounts and commissions.
Moreover, with a portion of the net proceeds of the initial public offering, the
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OCWEN ASSET INVESTMENT CORP.
NOTES TO BALANCE SHEET
FEBRUARY 12, 1997
NOTE 3--TRANSACTIONS WITH AFFILIATES (CONTINUED)
Company intends to purchase certain securities with an approximate market value
of $36.3 million from Ocwen Federal Bank FSB, a wholly-owned subsidiary of Ocwen
Financial Corporation.
NOTE 4--PUBLIC OFFERING OF COMMON STOCK
The Company is in the process of filing a Registration Statement for sale of
its common stock. Contingent upon the consummation of the public offering, the
Company will be liable for organization and offering expenses in connection with
the sale of the shares offered.
F-4
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NO DEALER, SALESMAN OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS
PROSPECTUS IN CONNECTION WITH THE OFFER MADE BY THIS PROSPECTUS AND, IF GIVEN OR
MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY OR ANY OF THE UNDERWRITERS. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF ANY OFFER TO BUY ANY SECURITY
OTHER THAN THE SHARES OF COMMON STOCK OFFERED BY THIS PROSPECTUS, NOR DOES IT
CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF ANY OFFER TO BUY THE SHARES OF
COMMON STOCK BY ANYONE IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION
IS NOT AUTHORIZED, OR IN WHICH THE PERSON MAKING SUCH OFFER OR SOLICITATION IS
NOT QUALIFIED TO DO SO, OR TO ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE SUCH
OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE
HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT
INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE
HEREOF.
------------------------
SUMMARY TABLE OF CONTENTS
<TABLE>
<S> <C>
Prospectus Summary........................................................ 5
Organization and Relationships............................................ 12
Risk Factors.............................................................. 13
Operating Policies and Objectives......................................... 24
Management of Operations.................................................. 36
The Company............................................................... 44
Distribution Policy....................................................... 46
Yield Considerations Related to the Company's Investments................. 46
Initial Investments....................................................... 49
Yield Considerations Related to the Initial Investments................... 59
Capitalization............................................................ 63
Management's Discussion and Analysis of Liquidity and Capital Resources... 63
Description of Capital Stock.............................................. 64
Certain Provisions of Virginia Law and of OAIC's Articles of Incorporation
and Bylaws.............................................................. 67
Common Stock Available for Future Sale.................................... 69
Operating Partnership Agreement........................................... 70
Federal Income Tax Considerations......................................... 73
ERISA Considerations...................................................... 87
Certain Legal Aspects of Mortgage Loans and Real Property Investments..... 89
Use of Proceeds........................................................... 97
Underwriting.............................................................. 97
Legal Matters............................................................. 99
Experts................................................................... 99
Additional Information.................................................... 99
Glossary of Terms......................................................... 101
Financial Statements...................................................... F-1
</TABLE>
------------------------
UNTIL JUNE 13, 1997, ALL DEALERS EFFECTING TRANSACTIONS IN THE REGISTERED
SECURITIES, WHETHER OR NOT PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED
TO DELIVER A PROSPECTUS. THIS IS IN ADDITION TO THE OBLIGATION OF DEALERS TO
DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR
UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
15,000,000 SHARES
[LOGO]
OCWEN ASSET
INVESTMENT
CORP.
COMMON STOCK
---------------------
PROSPECTUS
---------------------
FRIEDMAN, BILLINGS, RAMSEY & CO., INC.
EVEREN SECURITIES, INC.
MAY 14, 1997
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