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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q/A
(Mark one)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1999
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File No. 0-23911
Wilshire Real Estate Investment Trust Inc.
(Exact name of registrant as specified in its charter)
Maryland 52-2081138
-------- ----------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1776 SW Madison Street
Portland, OR 97205
(Address of principal executive offices) (Zip Code)
(503) 223-5600
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|.
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class Outstanding at July 31, 1999
Common Stock, par value $0.0001 per share 11,500,000
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<PAGE>
WILSHIRE REAL ESTATE INVESTMENT TRUST INC.
FORM 10-Q/A
I N D E X
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Page No.
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PART I--FINANCIAL INFORMATION
Item 1. Interim Financial Statements (Unaudited):
Consolidated Statements of Financial Condition.........................3
Consolidated Statements of Operations..................................4
Consolidated Statements of Changes in Stockholders' Equity.............5
Consolidated Statements of Cash Flows..................................6
Notes to Consolidated Financial Statements.............................8
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations ..............................................12
Item 3. Quantitative and Qualitative Disclosures about Market Risk............28
PART II--OTHER INFORMATION
Item 1. Legal Proceedings.....................................................31
Item 2. Changes in Securities.................................................31
Item 3. Defaults Upon Senior Securities.......................................31
Item 4. Submission of Matters to a Vote of Security Holders...................31
Item 5. Other Information.....................................................31
Item 6. Exhibits..............................................................31
Signatures....................................................................32
2
<PAGE>
PART I -- FINANCIAL INFORMATION
ITEM 1. INTERIM FINANCIAL STATEMENTS
WILSHIRE REAL ESTATE INVESTMENT TRUST INC.
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(dollars in thousands, except share data)
June 30, December 31,
1999 1998
----------- ------------
Assets (Unaudited)
Cash and cash equivalents ...................... $ 9,223 $ 4,782
Securities available for sale, at fair value ... 120,534 158,738
Loans held for sale, net ....................... -- 44,006
Loans, net ..................................... 30,253 69,124
Discounted loans, net .......................... 1,854 2,498
Investments in real estate, net ................ 78,317 85,005
Investment in WFSG (see Note 6) ................ 3,594 --
Notes receivable from WFSG (see Note 6) ........ 10,763 --
Due from WFSG (see Note 6) ..................... -- 12,352
Accrued interest receivable .................... 1,530 1,939
Prepaid servicing fees to WCC (see Note 6) ..... 3,005 --
Other receivable (see Note 4) .................. 26,597 --
Other assets ................................... 1,882 2,673
--------- ---------
Total assets ............................... $ 287,552 $ 381,117
========= =========
Liabilities and Stockholders' Equity
Liabilities:
Short-term borrowings .......................... $ 160,454 $ 225,566
Other borrowings ............................... 55,864 60,577
Accounts payable and accrued liabilities ....... 2,813 6,233
Payable to Old WCC (see Note 2) ................ -- 11,698
Dividends payable .............................. 4,600 4,600
--------- ---------
Total liabilities .......................... $ 223,731 $ 308,674
--------- ---------
Commitments and Contingencies (see Note 7)
Stockholders' Equity:
Preferred stock, $.0001 par value; 25,000,000
shares authorized; no shares issued and
outstanding .................................. -- --
Common stock, $.0001 par value; 200,000,000
shares authorized; 11,500,000 shares issued
and outstanding .............................. 1 1
Additional paid-in capital ..................... 166,980 166,980
Accumulated deficit ............................ (82,502) (64,093)
Accumulated other comprehensive loss ........... (20,658) (30,445)
--------- ---------
Total stockholders' equity ................. 63,821 72,443
--------- ---------
Total liabilities and stockholders' equity . $ 287,552 $ 381,117
========= =========
The accompanying notes are an integral part of these consolidated
financial statements.
3
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT TRUST INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(dollars in thousands, except share data)
<TABLE>
<CAPTION>
Quarter Ended Six Months
June 30, Ended
---------------------------- June 30,
1999 1998 1999
------------ ------------ ------------
<S> <C> <C> <C>
Net Interest Income:
Loans and discounted loans ............... $ 1,194 $ 1,324 $ 3,122
Securities ............................... 4,306 3,606 8,734
Other investments ........................ 780 160 1,508
------------ ------------ ------------
Total interest income .................. 6,280 5,090 13,364
Interest expense ......................... 3,345 1,501 7,038
------------ ------------ ------------
Net interest income before provision
for losses ............................ 2,935 3,589 6,326
Provision for losses ..................... -- -- (1,150)
------------ ------------ ------------
Net interest income after provision for
losses ................................ 2,935 3,589 7,476
------------ ------------ ------------
Real Estate Operations:
Operating income ......................... 1,889 949 3,843
Operating expense ........................ (68) (63) (123)
Interest expense ......................... (1,234) (348) (2,536)
Provision for losses on real estate ...... (303) -- (567)
Depreciation ............................. (375) (175) (769)
------------ ------------ ------------
Net (loss) income from real estate
operations ............................ (91) 363 (152)
------------ ------------ ------------
Other Operating Income (Loss):
Loss on sale of securities ............... (929) -- (929)
Gain on sale of real estate .............. -- -- 10
Loss on foreign currency translation ..... (28) -- (76)
Other revenue ............................ 189 -- 189
Market valuation losses and impairments .. (20,993) -- (22,188)
------------ ------------ ------------
Total other operating loss ............ (21,761) -- (22,994)
------------ ------------ ------------
Operating Expenses:
Management fees paid to WRSC ............. 831 602 1,751
Servicing fees ........................... 100 48 48
Loan expenses ............................ (22) 85 5
Other .................................... 350 175 935
------------ ------------ ------------
Total operating expenses ............. 1,259 910 2,739
------------ ------------ ------------
NET (LOSS) INCOME ........................... $ (20,176) $ 3,042 $ (18,409)
============ ============ ============
BASIC AND DILUTED (LOSS) EARNINGS PER SHARE . $ (1.75) $ 0.27 $ (1.60)
WEIGHTED AVERAGE SHARES OUTSTANDING ......... 11,500,000 11,252,941 11,500,000
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
4
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT TRUST INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(dollars in thousands, except share data)
<TABLE>
<CAPTION>
ACCUMULATED
COMMON STOCK ADDITIONAL OTHER
-------------------------- PAID-IN ACCUMULATED COMPREHENSIVE
SHARES AMOUNT CAPITAL DEFICIT LOSS TOTAL
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Initial capital ................... -- $ -- $ 2 $ -- $ -- $ 2
Issuance of common stock .......... 11,500,000 1 166,978 -- -- 166,979
Comprehensive loss:
Net loss ........................ -- -- -- (56,388) -- (56,388)
Other comprehensive loss:
Foreign currency translation .. (7) (7)
Unrealized holding losses on
securities available for sale -- -- -- -- (67,817) (67,817)
Reclassification adjustment
for losses on securities
included in net loss ......... 37,379 37,379
---------
Total comprehensive loss .......... -- -- -- -- -- (86,833)
Dividends declared ................ -- -- -- (7,705) -- (7,705)
-------------------------------------------------------------------------------
Balance at December 31, 1998 ...... 11,500,000 1 166,980 (64,093) (30,445) 72,443
Comprehensive loss:
Net loss ........................ -- -- -- (18,409) -- (18,409)
Other comprehensive
(loss) income:
Unrealized holding losses on
securities available for
sale ........................ -- -- -- -- (2,625) (2,625)
Reclassification adjustment
for losses on securities
included in net loss ........ -- -- -- -- 12,674 12,674
Foreign currency translation .. -- -- -- -- (262) (262)
---------
Total comprehensive loss .......... -- -- -- -- -- (8,622)
-------------------------------------------------------------------------------
Balance at June 30, 1999
(Unaudited) ....................... 11,500,000 $ 1 $ 166,980 $ (82,502) $ (20,658) $ 63,821
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</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
5
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT TRUST INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(dollars in thousands)
<TABLE>
<CAPTION>
Quarter Ended
June 30, Six Months
---------------------- Ended
1999 1998 June 30, 1999
--------- --------- -------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) income ......................... $ (20,176) $ 3,042 $ (18,409)
Adjustments to reconcile net (loss) income
to net cash provided by (used in)
operating activities:
Provision for losses .................... -- -- (1,150)
Provision for losses on real estate owned 303 -- 567
Depreciation ............................ 375 175 769
Amortization of premiums and discounts,
net ..................................... (14) (284) (14)
Market valuation losses and impairments . 20,993 -- 22,188
Loss on sale of securities .............. 929 -- 929
Gain on sale of real estate ............. -- -- (10)
Loss on foreign currency translation .... 28 -- 76
Change in:
Due from WFSG ......................... (92) -- 1,223
Accrued interest receivable ........... 2 (2,890) 409
Prepaid servicing fees to WCC ......... 65 -- (3,005)
Other assets .......................... 992 (2,163) (246)
Payable to Old WCC .................... -- (3,038) (11,698)
Accounts payable and accrued
liabilities ........................... (319) 2,802 (3,370)
--------- --------- ---------
Net cash provided by (used in)
operating activities ................... 3,086 (2,356) (11,741)
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of securities available for sale .. (8,885) (256,285) (8,885)
Purchase of loans and discounted loans ..... -- (55,824) --
Repayments of securities available for sale 3,937 -- 7,934
Loan originations .......................... (166) -- (384)
Proceeds on sale of loans .................. 48,366 -- 48,366
Principal payments received on loans and
discounted loans ........................... 305 4,131 38,953
Investments in real estate ................. (103) (76,346) (150)
Proceeds on sale of real estate ............ -- -- 4,056
Loan to WFSG ............................... -- -- (5,000)
Other ...................................... 247 28 247
--------- --------- ---------
Net cash provided by (used in)
investing activities ................... 43,701 (384,296) 85,137
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from short-term borrowings ........ 315 235,535 721
Proceeds from other borrowings ............. -- 45,311 --
Repayments on short-term borrowings ........ (39,133) (4,898) (65,863)
Repayments on other borrowings ............. (117) (89) (3,793)
Proceeds from issuance of common stock,
net of offering costs .................... -- 166,979 --
--------- --------- ---------
Net cash (used in) provided by
financing activities ................... (38,935) 442,838 (68,935)
--------- --------- ---------
Effect of exchange rate changes on cash ..... 7 -- (20)
--------- --------- ---------
NET INCREASE IN CASH AND CASH EQUIVALENTS ... 7,859 56,186 4,441
CASH AND CASH EQUIVALENTS AT BEGINNING OF
PERIOD .................................... 1,364 2 4,782
--------- --------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD .. $ 9,223 $ 56,188 $ 9,223
========= ========= =========
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
6
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT TRUST INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS -- (Continued)
(Unaudited)
(dollars in thousands)
<TABLE>
<CAPTION>
Quarter Ended Six Months
June 30, Ended
----------------- June 30,
1999 1998 1999
------- ------- --------
<S> <C> <C> <C>
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION--
Cash paid for interest ..................................... $ 2,843 $ 1,319 $ 7,034
NON CASH INVESTING ACTIVITIES--
Investment in WFSG ......................................... 12,289 -- 12,289
Proceeds receivable on sale of available-for-sale securities 26,597 -- 26,597
NON CASH FINANCING ACTIVITIES--
Common stock dividends declared but not paid ............... -- 3,105 --
Additions to investment real estate acquired
in settlement of loans ................................... 26 276 26
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
7
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT TRUST INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 1999
(dollars in thousands, except share data and where noted)
NOTE 1 - BASIS OF PRESENTATION
The accompanying interim consolidated financial statements of Wilshire
Real Estate Investment Trust Inc. and Subsidiaries ("WREIT" or the "Company")
are unaudited and have been prepared in conformity with the requirements of
Regulation S-X promulgated under the Securities Exchange Act of 1934 as amended
(the "Exchange Act"), particularly Rule 10-01 thereof, which governs the
presentation of interim financial statements. Accordingly, they do not include
all of the information and footnotes required by generally accepted accounting
principles ("GAAP") for complete financial statements. The accompanying interim
consolidated financial statements should be read in conjunction with the
Company's 1998 Annual Report on Form 10-K/A. A summary of the Company's
significant accounting policies is set forth in Note 4 to the consolidated
financial statements in the 1998 Annual Report on Form 10-K/A.
In the Company's opinion, all adjustments, comprised of normal recurring
accruals necessary for the fair presentation of the interim financial
statements, have been included in the accompanying financial statements.
Operating results for the six months ended June 30, 1999 are not necessarily
indicative of the results that may be expected for the year ending December 31,
1999.
The preparation of financial statements in conformity with generally
accepted accounting principles requires the Company to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Certain items in the previously reported consolidated financial statements
were reclassified to conform to the June 30, 1999 presentation, none of which
affect previously reported net loss.
NOTE 2 - ORGANIZATION AND RELATIONSHIPS
The Company was incorporated in the State of Maryland on October 24, 1997.
The Company was initially formed with a capital investment of $2. Prior to April
6, 1998, the Company had substantially no operating activity and therefore,
comparative 1998 consolidated statements of operations and cash flows are
presented only for the quarter ended June 30, 1998. On April 6, 1998, the
Company was capitalized with the sale of 11,500,000 shares of common stock, par
value $.0001 per share, at a price of $16.00 per share (the "Offering"). Total
net proceeds of the Offering after underwriting and offering expenses were
$166,979.
The Company is a party to a management agreement with Wilshire Realty
Services Corporation ("WRSC"), a wholly-owned subsidiary of Wilshire Financial
Services Group Inc. ("WFSG"), under which WRSC advises the Company on various
facets of its business and manages its day-to-day operations, subject to the
supervision of the Company's Board of Directors. WFSG currently owns 990,000
shares, or 8.6%, of the Company's outstanding common stock and has options to
purchase an additional 1,135,000 shares (of which options on 57,500 shares were
granted to officers of WRSC) at an exercise price of $16.00 per share. For its
services, WRSC receives a base management fee of 1% per annum of the first $1.0
billion of average invested assets, as defined in the agreement, 0.75% of the
next $500 million of average invested assets and 0.50% of average invested
assets above $1.5 billion, payable quarterly. In addition, WRSC receives
incentive compensation in an amount generally equal to 25% of the dollar amount
by which funds from operations ("FFO"), as adjusted, exceeds an amount equal to
the product of: (i) $16.00;
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<PAGE>
and, (ii) the ten-year Treasury rate plus 5% per annum, multiplied by the
weighted average number of shares of common stock outstanding during such
period. Finally, WRSC is entitled to receive reimbursements of all due diligence
costs and reasonable out-of-pocket expenses. For the three months and six months
ended June 30, 1999, the Company incurred approximately $831 and $1,751,
respectively, of management fees.Management fees for the three months ended June
30, 1998 were approximately $602. No incentive fees were paid.
On March 3, 1999, WFSG submitted a prepackaged plan of reorganization as
part of a Chapter 11 bankruptcy filing in the Federal Court of Wilmington,
Delaware. On April 12, 1999, the WFSG restructuring plan was approved by the
Bankruptcy Court, and on June 10, 1999, WFSG emerged from bankruptcy pursuant to
the restructuring plan. See Note 6 for discussion of accounting matters related
to this restructuring.
Prior to WFSG's reorganization, Wilshire Credit Corporation ("Old WCC"),
an affiliate of WFSG, provided loan and real property servicing to the Company.
As part of the Restructuring Plan, the servicing operations conducted by Old WCC
were transferred to WCC Inc. ("WCC"), a newly formed company controlled by WFSG.
The Company believes that the transfer of servicing operations will have no
negative impact on the Company.
NOTE 3 - INCOME TAXES
To qualify as a REIT, the Company must first make an affirmative election
to be taxed as a REIT. As the election is not made until the time the Company
files its first federal income tax return, the Company has not yet made the
election to be taxed as a REIT. Recent economic conditions, and other factors,
have caused the Company to carefully reevaluate its current tax status. In
addition, the Company's Board of Directors has been informed by its accountants
that potentially serious adverse tax consequences could result (including tax
penalties) in the event that the Company elects to be a REIT but it is unable to
qualify as such under the Internal Revenue Code of 1986, as amended. As a result
of these factors and the Company's significant net loss during the year ended
December 31, 1998, the Company has concluded that it is in the best interests of
the Company and its shareholders not to elect REIT status, and has included for
vote at the annual shareholders' meeting a proposal to proceed in that manner. A
decision by the Company to not make a REIT election requires a two-thirds vote
by its stockholders.
If the Company does not elect REIT status, it will be subject to corporate
taxation. However, as of June 30, 1999 the Company had, for U.S. Federal tax
purposes, a net operating loss carryforward in excess of $65 million, which
expires in 2018. For the six months ended June 30, 1999, the Company would have
had a current tax provision of approximately $0.2 million, resulting from the
alternative minimum tax.
NOTE 4 - SIGNIFICANT TRANSACTIONS
On April 29, 1999, the Company sold a loan held for sale secured by five
luxury hotels in London, England, including the Savoy Hotel, the Connaught and
Claridge's Hotel with a carrying value of approximately $47.9 million. As a
result of this sale, the Company, during the quarter ended March 31, 1999,
reversed $3.9 million of a valuation allowance previously provided for in the
provision for losses. This valuation allowance had been established in 1998
based upon the estimate at that time of the ultimate recoverability of the asset
by the investment bank financing the asset.
In June 1999, the Company sold mortgage-backed securities with a carrying
value of $26.6 million. The loss on this sale of $0.9 million is reported in the
consolidated statements of operations for the three and six months ended June
30, 1999. The transaction settled in July and, therefore, the sales price
receivable is reported as "other receivable" in the consolidated statement of
condition as of June 30, 1999.
NOTE 5 - MARKET VALUATION LOSSES AND IMPAIRMENTS
The Company evaluates, on an ongoing basis, the carrying value of its
securities portfolio, which is accounted for as available-for-sale. To the
extent differences between the book bases of the securities
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<PAGE>
and their current market values are deemed to be temporary in nature, such
unrealized gains or losses are reflected directly in equity, as "other
comprehensive income or loss." Impairments that are deemed to be other than
temporary are charged to income, as "market valuation losses and impairments."
In evaluating impairments as other than temporary, the Company considers the
magnitude and trend in the decline of the market value of securities, the
Company's ability to collect all amounts due according to the contractual terms
and the Company's expectations at the time of purchase.
During the three and six months ended June 30, 1999, market valuation
losses and impairments of $21.0 million and $22.2 million, respectively, were
recorded, including an $8.7 million write down of the Company's interest in WFSG
stock and a write-off of $1.0 million of previously capitalized fees for
advisory services in connection with its investment in WFSG stock (see Note 6).
The Company believes that the decline in value of its investment in WFSG stock
is other than temporary, based on WFSG's operating results and other factors,
and has written down such investment based on the closing stock price of $1.25
per share on July 31, 1999. In addition, $11.3 million and $11.7 million,
respectively, of market valuation losses and impairments were recorded related
to our portfolio of mortgage-backed securities, primarily reflecting
unprecedented prepayment rates on certain residual securities. The remaining
carrying value of all our residuals is $21.7 million at June 30, 1999. The
recording of this market valuation loss and impairment had the effect of
transferring such amounts between components of equity (from "other
comprehensive loss" to "accumulated deficit"), but had no net effect on net
equity of the Company. See also the Consolidated Statements of Changes in
Stockholders' Equity.
NOTE 6 - RELATED PARTY TRANSACTIONS
In January 1999, the Company entered into an agreement to provide WFSG
with debtor-in-possession financing of up to $10.0 million (the "DIP Facility")
as part of a compromise and settlement of a $17.0 million receivable due from
WFSG. The DIP facility bears interest at 12% and is secured by the stock of
First Bank of Beverly Hills, FSB, WFSG's savings bank subsidiary. The DIP
Facility matures on February 29, 2004 and repayment is made through fully
amortizing principal and interest payments commencing on February 29, 2000.
Prior to February 29, 2000, only interest payments are required. The Company
loaned $5.0 million under the DIP Facility (which is included in "Notes
receivable from WFSG" in the statements of financial condition) on March 3,
1999, but did not provide WFSG with the remaining half. Accordingly, under the
agreement negotiated by the Company's Independent Directors with WFSG and its
creditors, 50%, or approximately $8.5 million, of WFSG's obligation was treated
pari passu with the claims of WFSG's noteholders and converted, together with
approximately $21.4 million (in principal plus accrued but unpaid interest) of
WFSG's 13% Series B Notes held by WREIT, to 2,874,791 shares of newly issued
common stock of WFSG on June 10, 1999, the effective date of the Restructuring
Plan. Additionally, on the effective date of the Restructuring Plan, the Company
received approximately $8.5 million in principal amount ($5.7 million carrying
value) of WFSG's 6% Convertible PIK Notes due 2006 (the "New Notes"), which is
included in "Notes receivable from WFSG" in the statements of financial
condition, in exchange for the remaining 50% of the $17.0 million aforementioned
receivable due from WFSG. The Company may elect to convert the New Notes into
new common stock of WFSG upon receipt of a notice of redemption of the New Notes
by WFSG.
Following the completion of WFSG's Restructuring Plan, the Company held
2,874,791 shares, or approximately 14.4%, of the common stock of WFSG. The Board
of Directors has engaged a financial advisor, Bear Stearns & Co., Inc., to
evaluate whether to retain, enhance, or dispose of the Company's ownership
interest in WFSG. A $1.0 million retainer paid was capitalized and subsequently
written off as part of market valuation losses and impairments (see Note 5).
Additionally, as a result of the restructuring, the Company is required to
be approved as a greater than 10% shareholder by the Office of Thrift
Supervision. The Company has filed an application for such approval; however,
there can be no assurance that such approval will be granted or, if granted,
what the timing of such grant will be. If the Company fails to gain approval to
be a greater than 10% shareholder of WFSG, the Company will be required to
reduce its shareholdings below 10% and/or appeal such decision by the Office of
Thrift Supervision.
10
<PAGE>
In January 1999, the Company remitted $15 million to Old WCC, consisting
of a payment of amounts owed by the Company to Old WCC of $11.8 million and the
prepayment of $3.2 million of future servicing fees for a release of a guarantee
by the Company of $35 million of Old WCC's indebtedness and of any and all
claims against the Company relating thereto. The amortized balance of the
prepaid servicing fee is included in the accompanying consolidated statement of
financial condition as of June 30, 1999. However, the noteholders of WFSG claim
that less than $3.2 million of future servicing fees were paid by the Company.
The noteholders of WFSG claim that the amount owed to Old WCC was approximately
$900,000 higher, thereby reducing the amount of the prepayment credit to $2.3
million. The Company believes that the $3.2 million figure is correct and that
this matter will be resolved in the Company's favor.
NOTE 7 - COMMITMENTS, CONTINGENCIES & OFF-BALANCE SHEET RISK
The Asset and Liability Committee is authorized to utilize a wide variety
of off-balance sheet financial techniques to assist the Company in the
management of interest rate risk. In hedging the interest rate and/or exchange
rate exposure of a foreign currency denominated asset or liability, the Company
may enter into hedge transactions to counter movements in the different
currencies, as well as interest rates in those currencies. These hedges may be
in the form of currency and interest rate swaps, options, and forwards, or
combinations thereof. At June 30, 1999, the Company had no outstanding positions
in these instruments.
The Company is involved in various legal proceedings occurring in the
ordinary course of business which the Company believes will not have a material
adverse effect on the financial condition or operations of the Company.
NOTE 8 - SUBSEQUENT EVENTS
In June 1999, the Company sold a commercial warehouse located in Salem,
Oregon for net proceeds of approximately $7.4 million. The sale closed on July 1
and the gain on sale of approximately $0.2 million will be recognized during the
quarter ending September 30, 1999. The Company is currently in the process of
marketing certain other commercial properties for sale during the quarter ending
September 30, 1999. Management expects net proceeds to approximate or exceed the
carrying values of such properties. There can be no assurance, however, that the
Company will sell such properties or receive net proceeds in excess of their
respective carrying values.
In July 1999, the Company sold a mortgage-backed security for its June 30,
1999 carrying value of $2.8 million. The Company had recorded a $1.9 million
impairment on this security during the quarter ended June 30, 1999, based on
higher than expected loss severities on delinquent loans underlying this
security. Management determined that such impairment was other than temporary
and reflected such loss in market valuation losses and impairments.
11
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis should be read in conjunction with
the Interim Consolidated Financial Statements of Wilshire Real Estate Investment
Trust Inc. and the notes thereto included elsewhere in this filing. References
in this filing to "Wilshire Real Estate Investment Trust Inc.," "we," "our," and
"us" refer to Wilshire Real Estate Investment Trust Inc. and its subsidiaries
unless the context indicates otherwise.
GENERAL
Wilshire Real Estate Investment Trust Inc. ("WREIT" or the "Company") is a
Nasdaq-listed corporation that was formed in October 1997 and commenced
operations in April 1998 following the completion of our initial public
offering.
In response to adverse market conditions in the second half of 1998 and
the resulting effect on our operations, we focused our efforts on stabilizing
our existing asset base and greatly reduced acquisition activities during the
six months ended June 30, 1999. General market conditions and availability of
financing for certain of our asset categories, especially subordinated
mortgage-backed securities and mezzanine loans, continue to be uncertain. Our
results of operations for the three and six months ended June 30, 1999 reflect
this continued difficult marketplace, which include further impairment write
downs of mortgage-backed securities, the preponderance of which had previously
been deducted from stockholders equity, through "Accumulated other comprehensive
loss."
Notwithstanding this uncertainty, we expect gradually to resume
acquisition activities, with an increased emphasis on investment in loans and a
decreased emphasis on commercial operating properties. We believe that
investments in loans provide higher yields and allows us to more efficiently
leverage our existing capital, thereby providing us a higher return on equity.
In addition, we believe there may be attractive opportunities for additional
investments in Europe, particularly in France. We may also seek to invest in
other companies that invest in real estate related assets, especially where the
market capitalizations of such companies do not reflect the inherent values of
the underlying assets or franchises. Nonetheless, we continue to make investment
decisions on an opportunistic basis and will evaluate investment opportunities
as they arise.
RESTRUCTURING OF WFSG
As a result of the market turmoil in the second half of 1998, on March 3,
1999, WFSG, the parent of our manager, Wilshire Realty Services Corporation
("WRSC"), submitted a prepackaged plan of reorganization as part of a Chapter 11
bankruptcy filing in the Federal Court of Wilmington, Delaware. On April 12,
1999, the WFSG restructuring plan was approved by the Bankruptcy Court and on
June 10, 1999, WFSG's bankruptcy reorganization was consummated. In our opinion,
completion of the WFSG restructuring plan reduces the uncertainty related to the
ability of WRSC to continue as our manager and will allow the Company to focus
on executing its business plan rather than the restructuring of WFSG.
Through our independent directors, we were a party to the restructuring
negotiations since we had a $17.0 million unsecured receivable from WFSG,
bearing interest at 13%. In January 1999, we entered into an agreement to
provide WFSG with debtor-in-possession financing of up to $10.0 million (the
"DIP Facility") as part of a compromise and settlement of the $17.0 million
receivable due from WFSG. Under this compromise and settlement, if the Company
funded the full amount of the DIP Facility, the Company would have received a
new note for the full amount of the receivable, which bears interest at 6% per
annum payable monthly in arrears. The DIP Facility bears interest at 12% and is
secured by the stock of First Bank of Beverly Hills, FSB, WFSG's savings bank
subsidiary. The DIP Facility matures on February 29, 2004 and repayment is made
through fully amortizing principal and interest payments commencing on February
29, 2000. Prior to February 29, 2000, only interest payments are required.The
business decision to provide the DIP Facility was based on the independent
directors' desire to obtain the best possible
12
<PAGE>
treatment for the Company's holdings of WFSG's 13% Series B Notes and the
account receivable due from WFSG and the fact that the debtor-in-possession
facility had priority as a matter of law and was fully secured by the stock of
WFSG's bank subsidiary. Without funding of the DIP Facility, it is unlikely that
the Company would have received as favorable treatment for its investments. We
funded $5.0 million of the DIP Facility on March 3, 1999 but did not provide
WFSG with the remaining half. Accordingly, under the agreement negotiated by the
Company's independent directors with WFSG and its creditors, 50%, or
approximately $8.5 million, of WFSG's obligation was treated pari passu with the
claims of WFSG's noteholders and converted, together with approximately $21.4
million (in principal plus accrued but unpaid interest) of WFSG's 13% Series B
Notes, to 2,874,791 shares of newly issued common stock of WFSG on June 10,
1999, the effective date of the restructuring plan. Additionally, on the
effective date of the restructuring plan, we received approximately $8.5 million
in principal amount of WFSG's 6% Convertible/ PIK Notes due 2006 (the "New
Notes") in exchange for the remaining 50% of the $17.0 million intercompany
receivable due from WFSG. We may elect to convert the New Notes into new common
stock of WFSG upon receipt of a notice of redemption of the New Notes by WFSG.
Following the completion of WFSG's restructuring plan, we held 2,874,791 shares,
or approximately 14.4%, of common stock of WFSG.
The following table sets forth the Company's investments in WFSG as of
December 31, 1998, which was prior to WFSG's bankruptcy filing and on June 10,
1999, which was the date of the completion of WFSG's restructuring plan, and as
of June 30, 1999. The table excludes the DIP Facility, which was loaned to WFSG
subsequent to December 31, 1998 and remains outstanding, and which was not
affected by WFSG's restructuring plan. Following the completion of WFSG's
restructuring plan on June 10, 1999, the $5 million loaned to WFSG under the DIP
Facility no longer has priority over other creditors and will be treated like
any other secured loan.
The Company's Investments in WFSG
<TABLE>
<CAPTION>
Pre-Bankruptcy Post Bankruptcy Post Bankruptcy
Type of Investment (As of 12/31/98) (As of 6/10/99) (As of 6/30/99)
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
WFSG's 13% Series B Notes .............. $ 9,932,634(1) $ -- $ --
Receivable From WFSG ................... 17,000,000(2) -- --
WFSG's 6% Convertible PIK Notes ........ -- 8,500,000(3) 5,762,543
WFSG's Common Stock .................... -- 12,288,926(4) 3,593,489(5)
----------- ----------- -----------
TOTAL $26,932,634 $20,788,926 $ 9,356,032
=========== =========== ===========
</TABLE>
- ----------
(1) Based on the value of the 13% Series B Notes as shown on the Company's
financial statements as of December 31, 1998. The principal amount of the
13% Series B Notes held by the Company was $20 million.
(2) Based on the face amount owed.
(3) Based on the face amount of the 6% Convertible PIK Notes.
(4) Based on the Company's estimate of the book value of the common stock as
of June 10, 1999. As a result of concern on the part of The Nasdaq Stock
Market that the trading price for WFSG's common stock would not meet
Nasdaq's listing requirements following its reorganization, WSFG's common
stock was delisted from Nasdaq and currently trades on the OTC Bulletin
Board under the symbol "WFSG".
(5) Based on the last trade price ($1.25 per share) on July 31, 1999.
INCOME TAX STATUS
To qualify as a REIT, we must first make an affirmative election to be
taxed as a REIT. As the election is not made until the time we file our first
federal income tax return, we have not yet made the election to be taxed as a
REIT. Recent economic conditions, and other factors, have caused the Company to
carefully reevaluate its current tax status. The Board of Directors believes
that electing not to be treated as a REIT will not have an adverse impact on the
Company's or its shareholders' tax positions, and may allow the Company to
reduce its taxes by utilizing net operating losses incurred in the second half
of 1998. Based on discussions with our tax advisors, such operating losses are
expected to result in net operating loss carryforwards in excess of $65 million,
which can be applied to reduce future income and thereby reduce our taxes.
Because the tax rules governing net operating loss carryforwards are extremely
complex
13
<PAGE>
and subject to a number of contingencies, the amount of net operating loss
carryforwards actually obtained may vary from the estimate in the prior
sentence. In addition, because the Company was forced to sell assets in response
to margin calls during the fourth quarter of 1998, it may be more difficult for
the Company to qualify as a REIT under U.S. tax rules. Specifically, the amount
and volume of sales resulting from such margin calls may result in the Company
being considered a "dealer" in real estate and ineligible for treatment as a
REIT. In the event that the Company elects to be treated as a REIT and the U.S.
tax authorities determine that the Company does not meet the REIT requirements,
the Company would become subject to federal income tax on its taxable income and
would not receive a deduction for dividends paid to shareholders. In addition,
the Company would not be able to utilize its net operating loss carryforwards
and could be subject to interest and penalties for failure to have paid taxes
for the 1998 tax year. As a result of these factors and our significant net loss
during the year ended December 31, 1998, the Company has concluded that it is in
our best interests and those of our shareholders not to elect REIT status, and
has included for vote at the upcoming annual shareholders' meeting a proposal to
proceed in that manner. A decision to not make a REIT election requires a
two-thirds vote by our stockholders.
If we do not elect REIT status, we will be subject to corporate taxation.
However, as of June 30, 1999 we had, for U.S. Federal tax purposes, a net
operating loss carryforward in excess of $65 million, which expires in 2018. For
the six months ended June 30, 1999 we would have had a current tax provision of
approximately $0.2 million, resulting from the alternative minimum tax.
RESULTS OF OPERATIONS - SIX MONTHS ENDED JUNE 30, 1999
NET LOSS. Our net loss for the six months ended June 30, 1999 was $18.4
million, or $1.60 per share. The net loss is primarily attributable to market
valuation losses and impairments of $22.2 million (of which $11.7 million is
attributable to our portfolio of mortgage-backed securities, $8.7 million is
attributable to our investment in WFSG stock, $1.0 million is attributable to
previously capitalized fees for advisory services in connection with our
investment in WFSG stock and $0.8 million is attributable to our holdings of
WFSG 13% Notes due 2004, which were subsequently converted to newly issued
common stock of WFSG), operating expenses and management fees of $2.7 million,
and a loss on real estate operations of $0.2 million, partially offset by net
interest income after provision for loan losses of $7.5 million.Excluding market
valuation losses and impairments and gains (losses) on sales of certain assets,
we would have had net income of $4.7 million, or $0.41 per share.
14
<PAGE>
NET INTEREST INCOME. The following table sets forth information regarding
the total amount of income from interest-earning assets and expense from
interest-bearing liabilities and the resulting average yields and rates:
For the Six Months Ended June
30, 1999
----------------------------------
Average Interest Annualized
Balance Income Yield/Rate
----------------------------------
(dollars in thousands)
Interest-Earning Assets:
Loan portfolios (1)................... $ 63,259 $ 3,122 10.0%
Mortgage-backed securities
available for sale.................. 146,287 8,734 12.0
Other securities available for
sale (2)............................ 9,509 -- --
Due from WFSG......................... 16,543 1,066 13.0
Notes receivable from WFSG............ 3,837 228 12.0
Other investments..................... 9,259 214 4.6
---------------------------------
Total interest-earning assets...... 248,694 13,364 10.8
---------------------------------
Interest-Bearing Liabilities:
Short-term borrowings................. 188,127 7,038 7.5
---------------------------------
Total interest-bearing liabilities. 188,127 7,038 7.5
---------------------------------
Net interest income before provision
for loan losses/spread (3).......... $ 6,326 3.3%
====================
Net interest margin (4)............... 5.1%
=========
- ----------
(1) As discussed in Note 4 to the interim consolidated financial
statements, in April 1999 we sold a loan secured by five luxury
hotels in London, England, including the Savoy Hotel, the Connaught
and Claridge's Hotel, with a carrying value of approximately $47.9
million. The net interest margin attributable to this loan, net of
related swaps, was approximately 5.2% during the six months ended
June 30, 1999.
(2) Other securities available for sale represents our investment in
WFSG's 13% Series B Notes due 2004 which, upon WFSG's emergence from
bankruptcy, were converted to common stock of WFSG. Accordingly, we
did not accrue interest income on these securities during the six
months ended June 30, 1999.
(3) Net interest spread represents the difference between the average
rate on interest-earning assets and the average cost of
interest-bearing liabilities.
(4) Net interest margin represents net interest income divided by
average interest-earning assets.
PROVISION FOR LOSSES. During the six months ended June 30, 1999, we
reversed a provision for losses of $3.9 million taken in prior periods for a
loan held for sale. As discussed in Note 4 to the interim consolidated financial
statements, this loan, which was secured by five luxury hotels in London,
England, including the Savoy Hotel, the Connaught and Claridge's Hotel was sold
on April 29, 1999. This provision reversal was partially offset by a provision
for losses on loans of $0.1 million. In addition, during the six months ended
June 30, 1999 we recognized a net write down of $2.7 million in the carrying
value of a $17.0 million note receivable from WFSG to reflect the estimated
value of the common stock of WFSG to be received in exchange for a portion of
the note (see also Note 6 to the interim consolidated financial statements). The
write down is included in provision for losses in the consolidated statements of
operations for the six months ended June 30, 1999.
REAL ESTATE OPERATIONS. Such operations represent activity from our
investment in various office buildings, retail stores, and other commercial
property located in Oregon, California and the United Kingdom. During the six
months ended June 30, 1999, we realized a loss of approximately $0.2 million on
these properties. This loss was attributable to interest expense of $2.5
million, depreciation expense of $0.8 million, provision for losses on real
estate of $0.6 million and operating expense of $0.1
15
<PAGE>
million which, in the aggregate, exceeded gross rental and other revenues of
$3.8 million. Excluding $1.4 million of non-cash charges to real estate
operations, including depreciation and loss provision, we had positive cash flow
from such operations of approximately $1.2 million.
OTHER LOSS. Our other loss was approximately $23.0 million for the six
months ended June 30, 1999.This loss was primarily due to $22.2 million of
market valuation losses and impairments, a loss on sale of mortgage-backed
securities of $0.9 million, and a $0.1 million loss on foreign currency
translation, partially offset by other revenue of $0.2 million. During the six
months ended June 30, 1999 we recorded $11.7 million of market valuation losses
and impairments related to our portfolio of mortgage-backed securities available
for sale, $8.7 million related to our investment in newly-issued WFSG stock,
$1.0 million related to previously capitalized fees for advisory services in
connection with our investment in WFSG stock and $0.8 million related to our
holdings of WFSG's 13% Series B Notes prior to their conversion to newly-issued
WFSG stock. These market valuation losses and impairments were deemed by the
Company to be other than temporary in nature. In calculating the extent to which
declines in the value of available-for-sale securities are other than temporary,
the Company analyzes actual performance of the securities and underlying
collateral, including prepayment and default statistics, as well as expectations
for such performance in the future. To the extent reasonable expectations for
future performance are not likely to offset reductions in current market
valuations, a write down is recorded in "Market valuation losses and
impairments." The decline in value and subsequent write down of mortgage-backed
securities available for sale generally reflects unprecedented prepayment rates
on certain residual securities. The remaining carrying value of all our
residuals is $21.7 million at June 30, 1999. The Company does not expect such
high prepayment rates to continue given the increase in interest rates in the
United States and prepayment rates have already declined. The Company believes
that the decline in value of its investment in WFSG stock is other than
temporary, based on WFSG's operating results and other factors, and has written
down such investment based on the closing stock price of $1.25 per share on July
31, 1999.
OPERATING EXPENSES. Management fees of $1.8 million for the six months
ended June 30, 1999 were comprised of the 1% (per annum) base management fee
paid to WRSC for the period, as provided pursuant to our management agreement
with WRSC.WRSC earned no incentive fee for this period. Other expenses were
comprised of professional services, insurance premiums and other sundry
expenses. During the six months ended June 30, 1999, we recaptured loan service
fees of approximately $0.1 million. The recapture of service fees resulted from
a review of, and retroactive reduction in, certain property servicing fees
charged to us by Old WCC.
16
<PAGE>
RESULTS OF OPERATIONS -- QUARTER ENDED JUNE 30, 1999 COMPARED TO QUARTER ENDED
JUNE 30, 1998
NET LOSS. Our net loss for the quarter ended June 30, 1999 was $20.2
million, or $1.75 per share, compared with net income for the quarter ended June
30, 1998 of $3.0 million, or $0.27 per share. The net loss for the 1999 period
is attributable to other operating losses of $21.8 million (consisting primarily
of market valuation losses and impairments of $21.0 million), other operating
expenses of $1.3 million, and a net loss from real estate operations of $0.1
million, partially offset by net interest income of $2.9 million. Our net income
for the corresponding 1998 period was not affected by market valuation losses
and impairments as it preceded the market turmoil which occurred in the second
half of 1998.
NET INTEREST INCOME. Our net interest income for the quarter ended June
30, 1999 was $2.9 million, compared with $3.6 million for the quarter ended June
30, 1998. The decrease is primarily attributable to an increase in interest
expense on borrowings from $1.5 million for the quarter ended June 30, 1998 to
$3.3 million for the quarter ended June 30, 1999. During the quarter ended June
30, 1998 we were still in the process of investing cash raised by our initial
public offering and had not borrowed money against all of our assets. The
following tables set forth information regarding the total amount of income from
interest-earning assets and expense from interest-bearing liabilities and the
resulting average yields and rates:
<TABLE>
<CAPTION>
For the Quarter Ended June 30, 1999
-----------------------------------
Average Interest Annualized
Balance Income Yield/Rate
-----------------------------------
(dollars in thousands)
<S> <C> <C> <C>
Interest-Earning Assets:
Loan portfolios (1) ......................... $ 47,554 $ 1,194 10.1%
Mortgage-backed securities
available for sale .......................... 143,720 4,306 12.0
Other securities available for sale (2) ..... 7,514 -- --
Due from WFSG ............................... 14,852 481 13.0
Notes receivable from WFSG .................. 5,000 151 12.0
Other investments ........................... 12,474 148 4.7
-----------------------------------
Total interest-earning assets ............ 231,114 6,280 10.9
-----------------------------------
Interest-Bearing Liabilities:
Short-term borrowings ....................... 172,945 3,345 7.8
-----------------------------------
Total interest-bearing liabilities ....... 172,945 3,345 7.8
-----------------------------------
Net interest income before provision for loan
losses/spread (3) .......................... $ 2,935 3.1%
======================
Net interest margin (4) ..................... 5.1%
=========
</TABLE>
- ----------
(1) As discussed in Note 4 to the interim consolidated financial
statements, in April 1999 we sold a loan secured by five luxury
hotels in London, England, including the Savoy Hotel, the Connaught
and Claridge's Hotel, with a carrying value of approximately $47.9
million. The net interest margin attributable to this loan, net of
related swaps, was approximately 4.4% during the quarter ended June
30, 1999.
(2) Other securities available for sale represents our investment in
WFSG's 13% Series B Notes due 2004 which, upon WFSG's emergence from
bankruptcy, were converted to common stock of WFSG. Accordingly, we
did not accrue interest income on these securities during the
quarter ended June 30, 1999.
(3) Net interest spread represents the difference between the average
rate on interest-earning assets and the average cost of
interest-bearing liabilities.
(4) Net interest margin represents net interest income divided by
average interest-earning assets.
17
<PAGE>
<TABLE>
<CAPTION>
For the Quarter Ended June 30, 1998
-----------------------------------
Average Interest Annualized
Balance Income Yield/Rate
-----------------------------------
(dollars in thousands)
<S> <C> <C> <C>
Interest-Earning Assets:
Loan portfolios ............................. $ 45,038 $ 1,324 12.5%
Mortgage-backed securities available for sale 132,004 3,149 10.1
Other securities available for sale ......... 17,248 457 11.2
Other investments ........................... 14,207 160 4.8
-----------------------------------
Total interest-earning assets ............ 208,497 5,090 10.4
-----------------------------------
Interest-Bearing Liabilities:
Short-term borrowings ....................... 91,973 1,501 6.2
-----------------------------------
Total interest-bearing liabilities ....... 91,973 1,501 6.2
-----------------------------------
Net interest income before provision for loan
losses/spread (1) ......................... $ 3,589 4.2%
======================
Net interest margin (2) .................... 6.9%
=========
</TABLE>
- ----------
(1) Net interest spread represents the difference between the average
rate on interest-earning assets and the average cost of
interest-bearing liabilities.
(2) Net interest margin represents net interest income divided by
average interest-earning assets.
REAL ESTATE OPERATIONS. Such operations represent activity from our
investment in various office buildings, retail stores, and other commercial
property located in Oregon, California and the United Kingdom. During the
quarter ended June 30, 1999, we realized a loss on these properties of
approximately $0.1 million, compared with income of $0.4 million for the quarter
ended June 30, 1998. This decline in operating results was attributable to an
increase in interest expense of $0.9 million, an increase in provision for
losses on real estate of $0.3 million, and an increase in depreciation of $0.2
million, partially offset by an increase in gross rental and other revenues of
$0.8 million and a decrease in operating expenses of $0.1 million. The increase
in interest expense for the quarter ended June 30, 1999 compared to the quarter
ended June 30, 1998 reflects our use of debt financing for our more recent
acquisitions of real estate and subsequent to June 30, 1998, we incurred further
indebtedness secured by our real estate assets which had previously been
unencumbered. During the quarter ended June 30, 1998 our real estate
acquisitions were financed primarily by the equity proceeds from our initial
stock offering.
OTHER LOSS. Our other loss was approximately $21.8 million for the quarter
ended June 30, 1999, compared with no such activity for the quarter ended June
30, 1998.This loss was primarily due to $21.0 million of market valuation losses
and impairments (of which $11.3 million was related to our portfolio of
mortgage-backed securities available for sale, $8.7 million was related to our
investment in newly-issued WFSG stock, and $1.0 million was related to
previously capitalized fees for advisory services in connection with our
investment in WFSG stock) and a loss on sale of mortgage-backed securities of
$0.9 million, partially offset by other revenue of approximately $0.2 million.
These market valuation losses and impairments were deemed by management to be
other than temporary in nature. The decline in value and subsequent write down
of mortgage-backed securities available for sale generally reflects
unprecedented prepayment rates on certain residual securities. The remaining
carrying value of all our residuals is $21.7 million at June 30, 1999. The
Company does not expect such high prepayment rates to continue given the
increase in interest rates in the United States and prepayment rates have
already declined. The Company believes that the decline in value of its
investment in WFSG stock is other than temporary, based on WFSG's operating
results and other factors, and has written down such investment based on the
closing stock price of $1.25 per share on July 31, 1999.
OPERATING EXPENSES. Our other operating expenses were approximately $1.3
million for the quarter ended June 30, 1999, compared with approximately $0.9
million for the quarter ended June 30, 1998. The increase was primarily due to
an increase in other expenses of $0.2 million (consisting primarily of
professional services) and an increase in management fees of $0.2 million.
18
<PAGE>
CHANGES IN FINANCIAL CONDITION
GENERAL. Total assets decreased from approximately $381.1 million at
December 31, 1998 to approximately $287.6 million at June 30, 1999. The decrease
in total assets is primarily attributable to the sale of a loan held for sale
with a carrying value of $44.0 million at December 31, 1998, and a reduction of
$38.9 million in loans, net resulting from the payoff of a loan with a carrying
value of $38.6 million at December 31, 1998. Total liabilities decreased from
approximately $308.7 million at December 31, 1998 to approximately $223.7
million at June 30, 1999 primarily as a result of a reduction in short-term
borrowings related to the repayment of borrowings used to finance such loans and
the payment of an $11.7 million payable to Old WCC. Stockholders' equity
decreased by approximately $8.6 million resulting primarily from the net loss of
$18.4 million for the six months ended June 30, 1999, offset by a reduction of
$10.0 million in unrealized loss on available-for-sale securities.
SECURITIES AVAILABLE FOR SALE. The balance of securities available for
sale decreased from $158.7 million at December 31, 1998 to $120.5 million at
June 30, 1999. This decrease was comprised of a decrease in mortgage-backed
securities available for sale of $37.2 million and a decrease in other
securities available for sale of $1.0 million. The decrease in mortgage-backed
securities available for sale was primarily due to the sale of mortgage-backed
securities with a carrying value of $26.6 million, the recognition of other than
temporary impairment of approximately $11.7 million, and cash receipts in excess
of income accrued of approximately $7.9 million due to high rates of
prepayments, partially offset by a net decrease in the unrealized loss on
available-for-sale securities of approximately $10.0 million from December 31,
1998 to June 30, 1999.
In July 1999, we sold mortgage-backed securities with a carrying value of
$2.8 million as of June 30, 1999. Since the impairment in value of these
securities was known as of June 30, 1999 and deemed to be other than temporary,
we recognized the losses on these securities by recording a market valuation
loss and impairment during the quarter ended June 30, 1999. This write down is
included in the $11.7 million recognition of impairment described above.
The decrease in other securities available for sale resulted from the
conversion of our WFSG 13% Series B Notes with a carrying value of approximately
$9.9 million at December 31, 1998 into new common stock of WFSG, partially
offset by the purchase of a Treasury Bill for approximately $8.9 million.
We mark our securities portfolio to fair value at the end of each month
based upon broker/dealer marks, subject to an internal review process. With
respect to many of our subordinate securities marks are typically available from
either a single or at most a small group of broker/dealers. For those securities
that are subject to repurchase or other financing arrangements with
broker/dealers, we employ the mark supplied by the financing broker even if, as
is sometimes the case, we believe that the mark represents less than fair value.
As of each reporting period, we evaluate whether and to what extent any
unrealized loss is to be recognized as other than temporary.
The difference between our amortized cost of available for sale securities
and current market values, which was $20.7 million at June 30, 1999, is included
in "Accumulated Other Comprehensive Loss" in stockholders' equity. This amount,
unlike "market valuation losses and impairments," represents a market value
decline that the Company believes is temporary. If held to maturity, the
anticipated cash flow on these
19
<PAGE>
securities based on current interest rates, rate of prepayment and amount of
defaults would result in our receiving amounts in excess of the current market
value and would allow us to recover our amortized cost. Notwithstanding the
foregoing, payments on mortgage-backed securities are subject to a number of
market factors which can significantly affect the amount and rate of payments on
mortgage-backed securities, including defaults on the underlying mortgage loans,
the level of subordination of the mortgage-backed securities, changes in
interest rates and the rate of prepayments on the underlying mortgage loans. To
the extent that these factors change, the anticipated cash flow on the Company's
mortgage-backed securities may not be sufficient to cover the Company's
amortized cost or if the Company sells one of these mortgage-backed securities
at market prices which are below its amortized cost, the Company will realize a
loss in the amount of that portion of "Accumulated Other Comprehensive Loss"
attributable to such mortgage-backed security. In calculating the extent to
which declines in the value of available-for-sale securities are other than
temporary, the Company analyzes actual performance of the securities and
underlying collateral, including prepayment and default statistics, as well as
expectation for such performance in the future. To the extent reasonable
expectations for future performance are not likely to offset reductions in
current market valuations, a writedown is recorded in "Market valuation losses
and impairments."
At June 30, 1999, we valued our securities available for sale portfolio
and gross unrealized gains and losses thereon as follows:
Gross Gross
Amortized Unrealized Unrealized
Cost (1) Gains Losses Fair Value
--------- ---------- ---------- ----------
(dollars in thousands)
Mortgage-backed securities $ 132,038 $ 11 $ (20,400) $ 111,649
Other securities 8,885 -- -- 8,885
========= ========= ========= =========
$ 140,923 $ 11 $ (20,400) $ 120,534
========= ========= ========= =========
(1) The amortized cost of the investment securities reflects the market
valuation losses and impairments discussed above and in "Results of
Operations".
LOAN PORTFOLIO. During the six months ended June 30, 1999, our loan
portfolio of non-discounted loans (including loans and loans held for sale)
decreased by approximately $82.9 million due primarily to the sale of a loan
held for sale, secured by five luxury hotels in London, England, including the
Savoy Hotel, the Connaught and Claridge's Hotel, with a carrying value of
approximately $44.0 million at December 31, 1998; the payoff of a loan to
Southern Pacific Funding Corporation, which was secured by certain
mortgage-backed securities, with a carrying value of approximately $38.6 million
at the time of payoff; and a provision for losses on loans of $0.1 million.
As we begin to return our focus to execution of our business plan, it is
likely that our investment activities will focus more on the purchase of loan
assets, and our investments in commercial operating properties will be reduced.
We believe that loan assets generally provide higher returns, especially when
coupled with our servicer's expertise in servicing international loans and
domestic non-conforming and sub-performing loan assets. We remain optimistic
about investment opportunities in Europe and in particular, France, as well as
investments in other real estate related operating companies. Nonetheless, we
continue to make investment decisions on an opportunistic basis and will
evaluate investment opportunities as they arise.
20
<PAGE>
The following table sets forth certain information relating to the payment
status of loans in the Company's loan portfolio at June 30, 1999:
Unpaid Principal
Balance Carrying Value
---------------- --------------
(dollars in thousands)
Current ............................ $30,644 $30,253
Past due less than 31 days ......... -- --
Past due 31 to 89 days ............. -- --
------- -------
$30,644 $30,253
======= =======
We maintain an allowance for loan losses on non-discounted loans at a
level that the Company considers adequate, based on the advice of WRSC, to
provide for probable losses based upon an evaluation of known and inherent
risks.
DISCOUNTED LOAN PORTFOLIO. The balance of discounted loans is
substantially unchanged from December 31, 1998 to June 30, 1999. During the six
months ended June 30, 1999, we did not purchase or sell any discounted loan
assets. As noted above, we currently plan to increase our concentration of
investment into loan related assets, including discounted loans when
appropriate.
The following table sets forth certain information relating to the payment
status of loans in our discounted loan portfolio at June 30, 1999:
Unpaid Principal
Balance Carrying Value
---------------- --------------
(dollars in thousands)
Current ............................ $ 1,204 $ 1,157
Past due less than 31 days ......... -- --
Past due 31 to 89 days ............. -- --
Past due 90 days or greater.......... 6,150 697
------- -------
$ 7,354 $ 1,854
======= =======
We maintain an allowance for loan losses on discounted loans at a level
that the Company considers adequate, based on the advice of WRSC, to provide for
probable losses on discounted loans based upon an evaluation of known and
inherent risks. No additional allowance for loan losses for discounted loans was
provided for during the six months ended June 30, 1999.
INVESTMENTS IN REAL ESTATE. Investments in real estate decreased
approximately $6.7 million from December 31, 1998 to June 30, 1999 due primarily
to the sale of an industrial business park located in Tigard, Oregon for
proceeds of approximately $4.1 million. In addition, we recognized approximately
$0.8 million of depreciation expense related to operating properties and
recorded a $0.6 million provision for real estate losses during the six months
ended June 30, 1999.
In July 1999, we sold a commercial warehouse located in Salem, Oregon with
a carrying value of $7.2 million for proceeds of approximately $7.4 million. We
are currently in the process of marketing other commercial properties for sale
during the quarter ending September 30, 1999 as we continue to reduce our level
of investment in commercial real estate.
INVESTMENT IN WFSG. Following the completion of WFSG's Restructuring Plan,
we held 2,874,791 shares, or approximately 14.4%, of common stock of WFSG.
21
<PAGE>
The investment in WFSG stock, of $3.6 million at June 30, 1999, is
accounted for on the cost basis and reflects a market valuation loss and
impairment charge of $8.7 million recorded in the quarter ended June 30, 1999.
This reduction in value is deemed to be other than temporary in nature and the
resulting carrying value, as reported in the consolidated statements of
financial condition, was based on the $1.25 per share closing price of WFSG's
stock on July 31, 1999, which the Company believes is the best available current
indication of the value of WFSG. The stock was not trading on June 30, 1999.
SHORT-TERM BORROWINGS. Short-term borrowings decreased by approximately
$65.1 million during the six months ended June 30, 1999 due primarily to the
repayment of borrowings related to a loan held for sale which was sold, and a
loan which paid off. The balances of the outstanding borrowings related to these
loans were approximately $33.3 million and $20.0 million, respectively. The
remaining change is primarily attributable to the repayment of short-term
borrowings from payments on our mortgage-backed securities.
OTHER BORROWINGS.Other borrowings decreased approximately $4.7 million
during the six months ended June 30, 1999 due primarily to the repayment of
borrowings related to an industrial business park located in Tigard, Oregon
which was sold during the reporting period.
STOCKHOLDERS' EQUITY. Stockholders' equity decreased by approximately $8.6
million during the six months ended June 30, 1999. This decrease was primarily
due to a net loss of $18.4 million for the six months ended June 30, 1999 and a
loss on foreign currency translation of approximately $0.3 million, partially
offset by a $10.0 million decrease in unrealized holding losses on available for
sale securities resulting from the recognition of other than temporary
impairment in the value of our mortgage-backed sucurities portfolio in relation
to amortized cost.
FUNDS FROM OPERATIONS
The Company considers funds from operations ("FFO") an appropriate
supplementary measure of operating performance of a REIT. In general, FFO
adjusts net income for non-cash charges such as depreciation, and certain
amortization expenses and most non-recurring gains and losses. However, FFO does
not represent cash provided by operating activities in accordance with generally
accepted accounting principles ("GAAP") and should not be considered an
alternative to net income as an indication of the results of our performance or
to cash flow from operating, investing and financing activities as a measure of
liquidity or the Company's ability to make distributions.
We compute FFO in accordance with the definition recommended by National
Association of Real Estate Investment Trusts ("NAREIT") as described in the
NAREIT White Paper. Our FFO was $2.1 million, or $0.18 per share, for the three
months ended June 30, 1999, compared with $3.2 million, or $0.29 per share, for
the three months ended June 30, 1998. For the six months ended June 30, 1999,
our FFO was $5.5 million, or $0.48 per share. The following tables provide the
calculation of our FFO:
<TABLE>
<CAPTION>
For the Three For the Three For the Six
Months Ended Months Ended Months Ended
June 30, 1999 June 30, 1998 June 30, 1999
------------- ------------- -----------
(dollars in thousands, except share data)
<S> <C> <C> <C>
Net (loss) income ............... $(20,176) $ 3,042 $(18,409)
Real estate related depreciation 375 175 769
Loss on sale of securities ...... 929 -- 929
Gain on sale of real estate ..... -- -- (10)
Market valuation losses and
impairments (1) ............... 20,993 -- 22,188
-------- -------- --------
FFO (2) ...................... $ 2,121 $ 3,217 $ 5,467
======== ======== ========
FFO per common share ......... $ 0.18 $ 0.29 $ 0.48
</TABLE>
22
<PAGE>
(1) The Company understands that NAREIT's intent in the creation of FFO
was to produce a measure of operating performance that is recurring
in nature. Accordingly, NAREIT believes that items classified by
GAAP as extraordinary or unusual, along with significant
non-recurring events that materially distort the comparative
measurement of company performance over time, are not meant to be
reductions or increases in FFO, and should be disregarded in its
calculation. Accordingly, the market valuation losses and
impairments have been excluded from the net loss in arriving at FFO.
(2) NAREIT's definition of FFO does not adjust net income by provisions
for loan losses. However, we provided $2.7 million of loan loss
during the six months ended June 30, 1999 on our note receivable
from WFSG, which we believe is non-recurring in nature. Including
this additional adjustment for WFSG related loan loss provisions,
FFO would have been $8.2 million for the six months ended June 30,
1999.
FFO for the six months ended June 30, 1999 reflects the significant impact
on the Company of the difficult financial conditions in the third and fourth
quarters of 1998, which had a substantial impact on our liquidity position and
resulted in significant losses for the period and continued to affect our
operations in 1999. FFO may not actually represent the amount made available to
shareholders in the form of dividends, since the Company is only required to
distribute 95% of its taxable income to qualify as a REIT and that taxable
income is calculated differently than FFO. The Company may not calculate FFO in
the same manner as other real estate investment trusts and accordingly the
Company's FFO may not be directly comparable to that of other real estate
investment trusts.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity is a measurement of our ability to meet potential cash
requirements, including ongoing commitments to repay borrowings, fund
investments, engage in loan acquisition and lending activities, meet collateral
calls and for other general business purposes. The primary sources of funds for
liquidity during the six months ended June 30, 1999 consisted of net cash
provided by investing activities, including the cash repayments related to our
mortgage-backed securities portfolio, a loan receivable which paid off in
January 1999, and a loan which was sold in April 1999.
The adverse market conditions, which negatively impacted us during the
third and fourth quarters of 1998, began to stabilize during the six months
ended June 30, 1999, but remained somewhat uncertain. As of June 30, 1999, we
had outstanding collateral calls as determined by one of our lenders, net of
cash retained, of approximately $3.0 million, compared with collateral calls
outstanding as of December 31, 1998 of $4.4 million. One of our lenders recently
has advised us that we may be receiving an additional collateral call of
approximately $3.5 to $4.5 million.
Fluctuations in interest rates will continue to impact our net interest
income to the extent our fixed rate assets are funded by variable rate debt or
our variable rate assets reprice on a different schedule or in relation to a
different index than its floating rate debt which in turn could impact potential
returns to shareholders. See "Item 3--Quantitative and Qualitative Disclosures
about Market Risk." Our short-term borrowings and the availability of further
borrowings are substantially affected by, among other things, changes in
interest rates, changes in market spreads whereby the market value of the
collateral securing such borrowings may decline substantially, or decreases in
credit quality of underlying assets. In the event of declines in market value or
credit quality, we may be required to provide additional collateral for, or
repay a portion of outstanding balances of, our short-term, floating-rate
borrowing facilities. For additional information with respect to our monthly
mark-to-market of our securities available for sale portfolio, see "Changes in
Financial Condition - Securities Available for Sale."
At June 30, 1999, we had total consolidated secured indebtedness of $216.3
million, as well as $2.8 million of other liabilities. This consolidated
indebtedness consisted of (i) $119.3 million of
23
<PAGE>
repurchase agreements, (ii) lines of credit aggregating $41.2 million which are
secured by loans and securities and (iii) $55.9 million outstanding of other
borrowings maturing between 1999 and 2008 which are secured by real estate. The
monthly interest expense on our total consolidated indebtedness averaged $1.6
million for the six months ended June 30, 1999.
In general, we finance acquisitions of mortgage-backed securities through
uncommitted thirty-day repurchase agreements with major Wall Street investment
banks. Loans are financed through short-term warehouse facilities or
intermediate term loans. Warehouse agreements are secured lending arrangements.
If the value of the assets securing the loan declines as determined by the
lender, the lender may request that the amount of the loan be reduced by cash
payments from the borrower or additional collateral be provided by the borrower
(generally know as "collateral calls"). Accordingly, in an environment where
lenders consistently mark down the value of the underlying assets, a borrower
can become subject to collateral calls, which can have a significant impact on
liquidity. Similarly, if interest rates increase significantly, the borrowing
cost under the short-term warehouse agreement may also increase while the
interest rate on the assets securing the loan may not increase at the same time
or to the same degree. Real property acquisitions are financed with intermediate
or long-term mortgages with banks and other financial institutions.
Repurchase agreements are secured lending arrangements which involve the
borrower selling an asset to a lender at a fixed price with the borrower having
an obligation to repurchase the asset within a specified period (generally 30
days) at a higher price reflecting the interest cost of the loan. As with
warehouse agreements, if the lender marks the asset lower, the lender may
request that the amount of the loan be reduced by cash payments from the
borrower or additional collateral be provided by the borrower (generally known
as "collateral calls"). Mortgage-backed securities which are subject to
repurchase agreements, as well as loans which secure other indebtedness,
periodically are revalued by the lender, and a decline in the value that is
recognized by the lender (whether or not the lender recognizes the full fair
value of the security) may result in the lender requiring us to provide
additional collateral to secure the indebtedness. As of June 30, 1999, the
Company had approximately $142.3 million of indebtedness under the terms of
which the lender could request additional collateral if the value of the
underlying collateral declined. Although the Company believes that the
likelihood of significant declines in asset values has decreased since the
fourth quarter of 1998, the Company is seeking to maintain a larger cash
position and more unencumbered assets to deal with future potential collateral
calls. In addition, the Company is seeking to refinance some of this short term
indebtedness with longer term indebtedness which would not be subject to the
same collateral calls.
If we are unable to fund additional collateral requirements or to repay,
renew or replace maturing indebtedness on terms reasonably satisfactory to us,
we may be required to sell (on short notice) a portion of our assets, and could
incur losses as a result. Furthermore, since from time to time there is
extremely limited liquidity in the market for subordinate and residual interests
in mortgage-related securities, there can be no assurance that we will be able
to dispose of such securities promptly for fair value in such situations.
One of our lenders has advised us that they wish to significantly curtail
their lending activity to all borrowers for certain asset classes, specifically
mortgage-backed securities and mezzanine loans. We are working with this lender
to extend existing borrowing arrangements on a longer term basis or,
alternatively, until such assets can be financed elsewhere or sold. While
management believes that an amicable resolution is likely, there can be no
assurance that the lender will continue to finance such assets or that such
assets will be financed elsewhere. In such event, losses on the sale of such
assets likely would occur. However, we are unable to determine whether such
recognized losses would exceed amounts that are already reflected as "unrealized
holding losses" in stockholders' equity.
Based on our monthly interest and other expenses, monthly cash receipts
and collateral calls through July 31, 1999, we believe that our existing sources
of funds will be adequate for purposes of meeting our short-term liquidity
needs. There can be no assurance that this will be the case, however. Material
increases in interest expense from variable rate funding sources, collateral
calls, or material decreases in monthly cash receipts, generally would
negatively impact our liquidity. On the other hand,
24
<PAGE>
material decreases in interest expense from variable rate funding sources or in
collateral calls generally would positively affect our liquidity.
25
<PAGE>
OTHER - YEAR 2000 COMPLIANCE
Many existing computer software programs and other technologically
dependent systems use two digits to identify the year in date fields and, as
such, could fail or create erroneous results by or at the Year 2000. We, WRSC
and the companies that service our loan portfolio (our "Servicers") utilize a
number of technologically dependent systems to operate, service mortgage loans
and manage mortgage assets. WRSC, together with WCC Inc. (a subsidiary
controlled by WFSG) and Wilshire Servicing Company U.K. Limited (a wholly-owned
subsidiary of WFSG), who are our two Servicers, formed a committee to address
year 2000 issues (the "Committee") that reports directly to WFSG's executive
committee. The Committee is headed by WFSG's Chief Information Officer and
includes representatives from across departments within WRSC and our Servicers
as well as our management.
The Committee established and completed a project plan with respect to
Year 2000 readiness. In the first phase of the project, the Committee conducted
an inventory of all systems for WRSC and our Servicers, classifying each as
either "critical" or "non-critical". For systems deemed "critical", the
Committee developed detailed test plans and created separate Year 2000 test
environments. After the testing phase, in which Year 2000 issues were
identified, phases of resolution, retesting, implementation and certification
were completed.
WRSC and our Servicers began testing of all critical systems in 1997 and
completed all necessary testing of such systems, including both systems supplied
by outside vendors and internally developed systems, by the end of February
1999. In each case, issues which were identified were resolved. Changes which
resulted from testing were coded, retested and implemented and moved into
production. Following these phases, each department's executive management
certified that their staff had tested critical code and deemed it adequate. In
addition, for all critical systems supplied by outside vendors, the Committee
obtained a written certification from the vendor that the applicable package is
"Year 2000 compliant".With respect to non-critical systems supplied by outside
vendors, the Committee has consulted substantially all of the vendors' Internet
sites and has obtained copies of Year 2000 compliance certifications from those
sites. All phases of the Committee's Year 2000 readiness project were completed
by the end of April 1999. As a result, WRSC's management believes that the
Company is Year 2000 compliant in all material respects.
In addition to the information technology systems ("IT systems"), various
"environmental systems" ("non-IT systems") used for the Company's business,
including the telephone, elevator and security systems, incorporate technology
that could be impaired by the year 2000 date change. The Committee has received
written certification that each significant non-IT system is Year 2000
compliant.
Our operations are overseen by WRSC, and in accordance with the management
agreement, all operating costs including costs related to the Year 2000 issue
are covered in the management fee agreement. The financial impact of becoming
Year 2000 compliant has not been and is not expected to be material to us or our
results of operations. Aside from limited hardware costs, WRSC's parent
company's primary expense related to Year 2000 compliance is allocation of
existing staff. The Committee estimates the total cost related to Year 2000
compliance to be approximately $0.5 million, substantially all of which had been
incurred by December 31, 1998.
Our most likely worst case Year 2000 scenario would be one in which our
Servicers are unable to perform necessary loan servicing activities. To the
extent the loan servicing system is not Year 2000 compliant, the ability to
service loans would be in jeopardy. This, in turn, would limit the collections
of payments on mortgage loans, which would, further, hinder the Company's
ability to meet its own debt service and other cash requirements. Although WRSC
and the Company do not believe that it is reasonably likely that the Year 2000
date change will cause such a scenario to occur, the Committee has developed a
contingency plan with procedures for manual loan servicing, for up to a week,
should the loan servicing system cease to be operational. The loan servicing
system was developed internally, and WRSC has advised us that it believes that,
in the event of an unexpected Year 2000 issue, the source of the issue could be
isolated, and the issue could be corrected, rapidly by WRSC's existing staff
without significant
26
<PAGE>
cost. Accordingly, we do not believe that such a failure of the loan servicing
system would result in any material loss of revenue or have any other material
impact on the Company.
Based on the results of Committee's Year 2000 readiness project, we are
confident that WRSC and our Servicers are appropriately addressing the Year 2000
issues. Critical IT systems supplied by outside vendors have undergone testing
not only by WRSC and our Servicers, but by other customers of the vendors as
well. WCC's loan servicing system is an internally developed system and
therefore, information technology personnel are very familiar with the system
and believe their efforts will have favorable results.
27
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the exposure to loss resulting from changes in interest
rates, foreign currency exchange rates, commodity prices, and equity prices. The
primary market risk to which the Company is exposed is interest rate risk, which
is 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. Changes in the general level of
interest rates can affect the Company's net interest income, which is the
difference between the interest income earned on interest-earning assets and the
interest expense incurred in connection with its interest-bearing liabilities,
by affecting the spread between the Company's interest-earning assets and
interest-bearing liabilities. Changes in the level of interest rates also can
affect, among other things, the ability of the Company to acquire loans, the
value of the Company's mortgage-backed securities and other interest-earning
assets, and its ability to realize gains from the sale of such assets.
It is the objective of the Company to attempt to control risks associated
with interest rate movements. In general, WRSC's strategy for the Company is to
limit the Company's exposure to earnings variations and variations in the value
of assets and liabilities as interest rates change over time. The Company's
asset and liability management strategy is formulated and monitored by WRSC
regularly to review, among other things, the sensitivity of the Company's assets
and liabilities to interest rate changes, the book and market values of assets
and liabilities, unrealized gains and losses, including those attributable to
hedging transactions, purchase and securitization activity, and maturities of
investments and borrowings.
The following table quantifies the potential changes in net interest
income and net portfolio value, at June 30, 1999, should interest rates go up or
down (shocked) by 100 to 400 basis points, assuming the yield curves of the rate
shocks will be parallel to each other. Net portfolio value is calculated as the
sum of the value of off-balance sheet instruments and the present value of cash
in-flows generated from interest-earning assets net of cash out-flows in respect
of interest-bearing liabilities. The cash flows associated with the loan
portfolios and securities available for sale are calculated based on prepayment
and default rates that vary by asset. Projected losses, as well as prepayments,
are generated based upon the actual experience with the subject pool, as well as
similar, more seasoned pools. To the extent available, loan characteristics such
as loan-to-value ratio, interest rate, credit history and product types are used
to produce the projected loss and prepayment assumptions that are included in
the cash flow projections of the securities. Actual results could differ
significantly from those estimated in the table.
Projected Percent Change In
- --------------------------------------------------------------------------------
Change in Interest Rates Net Interest Income Net Portfolio Value
------------------------ ------------------- -------------------
-400 Basis Points 35.2% 19.4%
-300 Basis Points 26.4% 14.7%
-200 Basis Points 17.6% 9.9%
-100 Basis Points 8.8% 5.0%
0 Basis Points 0.0% 0.0%
100 Basis Points -8.8% -5.0%
200 Basis Points -17.6% -9.9%
300 Basis Points -26.4% -14.7%
400 Basis Points -35.2% -19.6%
Asset and liability management involves managing the timing and magnitude
of the repricing of assets and liabilities. It is the objective of the Company
to attempt to control risks associated with interest rate movements. In general,
the Manager's strategy for the Company is to match asset and liability balances
within maturity categories to limit the Company's exposure to earnings
variations in the value of assets and liabilities as interest rates change over
time.
The Asset and Liability Committee is authorized to utilize a wide variety
of off-balance sheet financial techniques to assist us in the management of
interest rate risk. In hedging the interest rate and exchange rate exposure of a
foreign currency denominated asset or liability, we may enter into hedge
28
<PAGE>
transactions to counter movements in the different currencies as well as
interest rates in those currencies. No such techniques were in use as of June
30, 1999.
Methods for evaluating interest rate risk include an analysis of the
Company's interest rate sensitivity "gap", which is defined as the difference
between interest-earning assets and interest-bearing liabilities maturing or
repricing within a given time period. A gap is considered positive when the
amount of interest-rate sensitive assets exceeds the amount of interest-rate
sensitive liabilities. A gap is considered negative when the amount of
interest-rate sensitive liabilities exceeds interest-rate sensitive assets.
During a period of rising interest rates, a negative gap would tend to adversely
affect net interest income, while a positive gap would tend to result in an
increase in net interest income. During a period of falling interest rates, a
negative gap would tend to result in an increase in net interest income, while a
positive gap would tend to affect net interest income adversely. Since different
types of assets and liabilities with the same or similar maturities may react
differently to changes in overall market rates or conditions, changes in
interest rates may affect net interest income positively or negatively even if
an institution were perfectly matched in each maturity category.
The following table sets forth the estimated maturity or repricing of the
Company's interest-earning assets and interest-bearing liabilities at June 30,
1999.
As of June 30, 1999
(Dollars in thousands)
<TABLE>
<CAPTION>
One
Within 4 to 12 Year to More than
3 Months Months 3 Years 3 Years TOTAL
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
INTEREST SENSITIVE ASSETS (1):
Cash and cash equivalents ............... $ 9,223 $ 9,223
Securities available for sale (2) ...... 52,384 68,150 120,534
Loans (3) ............................... 26,054 79 211 5,763 32,107
Notes receivable from WFSG .............. -- 10,763 10,763
-------------------------------------------------------------
Total rate sensitive assets ............. $ 35,277 $ 52,463 $ 211 $ 84,676 $ 172,627
=============================================================
INTEREST SENSITIVE LIABILITIES:
Reverse repurchase agreements ........... $ 119,262 $ 119,262
Notes payable ........................... 23,062 18,130 41,192
Borrowing on real estate (4) ............ -- 1,087 -- 54,777 55,864
Dividends payable ....................... 4,600 4,600
-------------------------------------------------------------
Total rate sensitive liabilities ........ $ 146,924 $ 19,217 -- $ 54,777 $ 220,918
=============================================================
Interest rate sensitivity gap(4) ........ (111,647) 33,246 211 29,899
Cumulative interest rate sensitivity gap (111,647) (78,401) (78,190) (48,291)
Cumulative interest rate sensitivity gap
as a percentage of total rate
sensitive assets ...................... -65% -45% -45% -28%
</TABLE>
- ----------
(1) Real estate property holdings are not considered interest rate sensitive.
At June 30, 1999 the Company had $78.3 million of real estate property
holdings.
(2) Includes treasury bills maturing in October 1999.
(3) Amortizing fixed rate loans are assumed to prepay at a Constant Prepayment
Rate of 10%.
(4) Includes borrowings of $24.0 million related to mortgage-backed security
assets sold in June 1999 but which settle in July 1999. Adjusting for the
paydown of these borrowings upon settlement, cumulative interest rate
sensitivity gap percentages for the periods presented would have been
-51%, -32%, -31% and -14%, respectively.
In hedging the interest rate and exchange rate exposure of a foreign
currency denominated asset or liability, the Company may enter into hedge
transactions to counter movements in the different currencies as well as
interest rates in those currencies. These hedges may be in the form of currency
and interest rate swaps, options, and forwards, or combinations thereof. No such
instruments were in use as of June 30, 1999.
29
<PAGE>
FORWARD-LOOKING STATEMENTS
CERTAIN STATEMENTS CONTAINED HEREIN AND CERTAIN STATEMENTS CONTAINED IN FUTURE
FILINGS BY THE COMPANY WITH THE SEC MAY NOT BE BASED ON HISTORICAL FACTS AND ARE
"FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES
ACT OF 1933, AS AMENDED, AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934,
AS AMENDED. FORWARD- LOOKING STATEMENTS WHICH ARE BASED ON VARIOUS ASSUMPTIONS
(SOME OF WHICH ARE BEYOND THE COMPANY'S CONTROL) MAY BE IDENTIFIED BY REFERENCE
TO A FUTURE PERIOD OR PERIODS, OR BY THE USE OF FORWARD-LOOKING TERMINOLOGY,
SUCH AS "MAY," "WILL," "BELIEVE," "EXPECT," "ANTICIPATE," "CONTINUE," OR SIMILAR
TERMS OR VARIATIONS ON THOSE TERMS, OR THE NEGATIVE OF THOSE TERMS. ACTUAL
RESULTS COULD DIFFER MATERIALLY FROM THOSE SET FORTH IN FORWARD-LOOKING
STATEMENTS DUE TO A VARIETY OF FACTORS, INCLUDING, BUT NOT LIMITED TO, THOSE
RELATED TO THE ECONOMIC ENVIRONMENT, PARTICULARLY IN THE MARKET AREAS IN WHICH
THE COMPANY OPERATES, COMPETITIVE PRODUCTS AND PRICING, FISCAL AND MONETARY
POLICIES OF THE U.S. GOVERNMENT, CHANGES IN PREVAILING INTEREST RATES,
ACQUISITIONS AND THE INTEGRATION OF ACQUIRED BUSINESSES, CREDIT RISK MANAGEMENT,
ASSET/LIABILITY MANAGEMENT, YEAR 2000 COMPLIANCE ISSUES, THE FINANCIAL AND
SECURITIES MARKETS AND UNLESS OTHERWISE REQUIRED BY LAW, THE AVAILABILITY OF AND
COSTS ASSOCIATED WITH SOURCES OF LIQUIDITY. THE COMPANY DOES NOT UNDERTAKE, AND
SPECIFICALLY DISCLAIMS ANY OBLIGATION, TO PUBLICLY RELEASE THE RESULTS OF ANY
REVISIONS WHICH MAY BE MADE TO ANY FORWARD-LOOKING STATEMENTS TO REFLECT THE
OCCURRENCE OF ANTICIPATED OR UNANTICIPATED EVENTS OR CIRCUMSTANCES AFTER THE
DATE OF SUCH STATEMENTS.
30
<PAGE>
PART II -- OTHER INFORMATION
Item 1. Legal Proceedings.
The registrant is not a party to any other material legal proceedings.
Item 2. Changes in Securities.
Not applicable.
Item 3. Defaults Upon Senior Securities.
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders.
No matter was submitted to a vote of security holders during the period
covered by this report.
Item 5. Other Information.
Acquisition or Disposition of Assets
On April 29, 1999, the Company sold a loan secured by commercial
properties in the United Kingdom with a carrying value of approximately
$47.9 million. Proceeds from the sale were substantially used to repay a
facility with Merrill Lynch Mortgage Capital for which this loan served as
collateral.
Item 6. Exhibits.
(a) Exhibits
*10.1 Amendment No. 1 to Management Agreement
*10.2 Loan Servicing Agreement
*10.3 Amended and Restated Loan Servicing Agreement with UK Servicer
11 Statement re Computation of Per Share Earnings
27 Financial Data Schedule
----------
* Previously filed
31
<PAGE>
SIGNATURES
Pursuant to the requirements of the exchange act, the registrant has
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Wilshire Real Estate Investment Trust Inc.
By: /s/ Lawrence A. Mendelsohn
-----------------------------------
Lawrence A. Mendelsohn
President
By: /s/ Chris Tassos
-----------------------------------
Chris Tassos
Executive Vice President and Chief Financial Officer
Date: September 9, 1999
32
STATEMENT RE COMPUTATION OF PER SHARE EARNINGS
<TABLE>
<CAPTION>
Three Months Three Months Six Months
Ended Ended Ended
June 30, 1999 June 30, 1998 June 30, 1999
------------- ------------- -------------
<S> <C> <C> <C>
Diluted net (loss) income per share:
Net (loss) income to common
shareholders $(20,176,000) $3,042,000 $(18,409,000)
Average number of shares
outstanding 11,500,000 11,252,941 11,500,000
Net effect of dilutive stock
options-based on
treasury stock method N/A 511 N/A
------------ ---------- ------------
Total average shares 11,500,000 11,253,452 11,500,000
============ ========== ============
Diluted net (loss) income per
share $ (1.75) $ 0.27 $ (1.60)
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
COMPANY'S BALANCE SHEET AS OF JUNE 30, 1999 AND STATEMENT OF EARNINGS FOR THE
SIX MONTHS ENDED JUNE 30, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
</LEGEND>
<RESTATED>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
<CASH> 9,223
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 120,534
<INVESTMENTS-CARRYING> 120,534
<INVESTMENTS-MARKET> 120,534
<LOANS> 32,107
<ALLOWANCE> 5,418
<TOTAL-ASSETS> 287,552
<DEPOSITS> 0
<SHORT-TERM> 160,454
<LIABILITIES-OTHER> 7,413
<LONG-TERM> 55,864
0
0
<COMMON> 166,981
<OTHER-SE> (103,160)
<TOTAL-LIABILITIES-AND-EQUITY> 287,552
<INTEREST-LOAN> 3,122
<INTEREST-INVEST> 8,734
<INTEREST-OTHER> 1,508
<INTEREST-TOTAL> 13,364
<INTEREST-DEPOSIT> 0
<INTEREST-EXPENSE> 7,038
<INTEREST-INCOME-NET> 6,326
<LOAN-LOSSES> (1,150)
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 24,927
<INCOME-PRETAX> (18,409)
<INCOME-PRE-EXTRAORDINARY> (18,409)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (18,409)
<EPS-BASIC> (1.60)
<EPS-DILUTED> (1.60)
<YIELD-ACTUAL> 0
<LOANS-NON> 0
<LOANS-PAST> 6,150
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 11,107
<CHARGE-OFFS> 2,403
<RECOVERIES> 388
<ALLOWANCE-CLOSE> 5,418
<ALLOWANCE-DOMESTIC> 406
<ALLOWANCE-FOREIGN> 4,451
<ALLOWANCE-UNALLOCATED> 561
</TABLE>
