<PAGE>
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-Q
(MARK ONE)
<TABLE>
<C> <S>
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
</TABLE>
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2000
OR
<TABLE>
<C> <S>
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
</TABLE>
COMMISSION FILE NUMBER 0-23911
------------------------
WILSHIRE REAL ESTATE INVESTMENT INC.
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
MARYLAND 52-2081138
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
1631 SW COLUMBIA STREET
PORTLAND, OR 97201
(Address of principal executive offices) (Zip Code)
(503) 721-6500
(Registrant's telephone number, including area code)
</TABLE>
------------------------
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.
<TABLE>
<CAPTION>
CLASS OUTSTANDING AT SEPTEMBER 30, 2000
------------------------------------------ ------------------------------------------
<S> <C>
Common Stock, par value $0.0001 per share 10,507,313 shares
</TABLE>
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT INC.
FORM 10-Q
INDEX
<TABLE>
<CAPTION>
PAGE NO.
--------
<S> <C> <C>
PART I--FINANCIAL INFORMATION
Item 1. Interim Financial Statements (Unaudited):
Consolidated Statements of Financial Condition.............. 3
Consolidated Statements of Operations....................... 4
Consolidated Statement of Changes in Stockholders' Equity... 5
Consolidated Statements of Cash Flows....................... 6
Notes to Consolidated Financial Statements.................. 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 11
Item 3. Quantitative and Qualitative Disclosures about Market
Risk...................................................... 20
PART II--OTHER INFORMATION
Item 1. Legal Proceedings........................................... 25
Item 2. Changes in Securities and Use of Proceeds................... 25
Item 3. Defaults Upon Senior Securities............................. 25
Item 4. Submission of Matters to a Vote of Security Holders......... 25
Item 5. Other Information........................................... 25
Item 6. Exhibits and Reports on Form 8-K............................ 25
Signatures................................................................ 26
</TABLE>
2
<PAGE>
PART I--FINANCIAL INFORMATION
ITEM 1. INTERIM FINANCIAL STATEMENTS
WILSHIRE REAL ESTATE INVESTMENT INC.
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
------------- ------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Cash and cash equivalents................................... $ 6,101 $ 5,862
Securities available for sale, at fair value................ 76,576 104,572
Loans, net.................................................. 30,337 31,634
Investments in real estate held for sale, net............... 50,689 63,225
Investments in WFSG and affiliates, net (see Note 6)........ 6,701 9,657
Accrued interest receivable................................. 968 1,246
Other assets................................................ 2,178 2,470
-------- --------
Total assets............................................ $173,550 $218,666
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Short-term borrowings..................................... $ 61,574 $ 96,815
Long-term borrowings (see Note 6)......................... 54,926 64,550
Accounts payable and accrued liabilities.................. 2,408 2,339
Dividends payable......................................... 2,576 4,090
-------- --------
Total liabilities....................................... 121,484 167,794
-------- --------
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 10,507,313
shares outstanding...................................... 166,981 166,981
Treasury stock; 992,687 common shares, at cost............ (2,171) (2,171)
Accumulated deficit....................................... (85,212) (90,717)
Recourse loans to officers to acquire stock............... (954) (198)
Accumulated other comprehensive loss...................... (26,578) (23,023)
-------- --------
Total stockholders' equity.............................. 52,066 50,872
-------- --------
Total liabilities and stockholders' equity.............. $173,550 $218,666
======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
QUARTER ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------- -------------------------
2000 1999 2000 1999
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net Interest Income:
Loans................................... $ 936 $ 959 $ 3,023 $ 4,081
Securities.............................. 2,623 3,291 8,461 12,025
Other investments....................... 123 555 338 2,063
----------- ----------- ----------- -----------
Total interest income................. 3,682 4,805 11,822 18,169
Interest expense........................ 1,916 2,803 5,920 9,841
----------- ----------- ----------- -----------
Net interest income before provision
for loan losses..................... 1,766 2,002 5,902 8,328
Recovery of loan losses................. -- -- 555 1,150
----------- ----------- ----------- -----------
Net interest income after recovery of
loan losses......................... 1,766 2,002 6,457 9,478
----------- ----------- ----------- -----------
Real Estate Operations:
Operating income........................ 1,324 1,625 4,151 5,468
Operating expense....................... (84) (35) (419) (158)
Interest expense........................ (760) (1,043) (2,349) (3,579)
Provision for losses on real estate..... -- (325) -- (892)
Gain on sale of real estate............. 1,020 708 2,114 718
Depreciation............................ (278) (333) (862) (1,102)
----------- ----------- ----------- -----------
Total real estate operations.......... 1,222 597 2,635 455
----------- ----------- ----------- -----------
Other Operating (Loss) Income:
Gain (loss) on sale of securities....... -- 232 5,342 (697)
Market valuation losses and
impairments........................... (500) (6,339) (2,291) (28,527)
Provision for disputes with WFSG........ (114) (4,077) (114) (4,077)
(Loss) gain on foreign currency
translation........................... (8) 35 (62) (41)
Other revenue........................... -- 53 159 242
----------- ----------- ----------- -----------
Total other operating (loss) income... (622) (10,096) 3,034 (33,100)
----------- ----------- ----------- -----------
Operating Expenses:
Compensation and employee benefits...... 992 -- 3,499 --
Management fees......................... -- 663 -- 2,414
Professional fees....................... 342 318 1,398 962
Other................................... 762 694 1,906 1,038
----------- ----------- ----------- -----------
Total operating expenses.............. 2,096 1,675 6,803 4,414
----------- ----------- ----------- -----------
Net income (loss) before provision for
income taxes.............................. 270 (9,172) 5,323 (27,581)
Provision for income taxes................ (125) 200 -- 200
----------- ----------- ----------- -----------
Net Income (Loss)......................... $ 395 $ (9,372) $ 5,323 $ (27,781)
=========== =========== =========== ===========
Basic and Diluted Net Income (Loss) Per
Share..................................... $ 0.04 $ (0.82) $ 0.51 $ (2.42)
Weighted Average Shares Outstanding....... 10,507,313 11,500,000 10,507,313 11,500,000
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
RECOURSE
LOANS TO ACCUMULATED
COMMON STOCK TREASURY STOCK OFFICERS TO OTHER
--------------------- ------------------- ACCUMULATED ACQUIRE COMPREHENSIVE
SHARES(1) AMOUNT SHARES AMOUNT DEFICIT STOCK LOSS TOTAL
---------- -------- -------- -------- ------------ ----------- -------------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1,
2000..................... 10,507,313 $166,981 992,687 $(2,171) $(90,717) $(198) $(23,023) $50,872
Comprehensive income:
Net income............... -- -- -- -- 5,323 -- -- 5,323
Other comprehensive loss:
Foreign currency
translation.......... -- -- -- -- -- -- (402) (402)
Unrealized holding
losses on securities
available for sale... -- -- -- -- -- -- (2,819) (2,819)
Reclassification
adjustment for net
gains on securities
included in net
income............... -- -- -- -- -- -- (334) (334)
-------
Total comprehensive
income................... 1,768
Loans to officers, net..... -- -- -- -- -- (756) -- (756)
Discount on dividend
purchase................. -- -- -- -- 182 -- -- 182
---------- -------- ------- ------- -------- ----- -------- -------
Balance at September 30,
2000..................... 10,507,313 $166,981 992,687 $(2,171) $(85,212) $(954) $(26,578) $52,066
========== ======== ======= ======= ======== ===== ======== =======
</TABLE>
------------------------------
(1) Issued and outstanding.
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
QUARTER ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)......................................... $ 395 $(9,372) $ 5,323 $(27,781)
Adjustments to reconcile net income to net cash provided
by (used in) operating activities:
Depreciation............................................ 336 333 963 1,102
Amortization of premiums and accretion of discounts,
net................................................... -- (276) (145) (290)
Recovery of loan losses................................. -- -- (555) (1,150)
Provision for losses on real estate..................... -- 325 -- 892
Market valuation losses and impairments................. 500 6,339 2,291 28,527
Loss on foreign currency translation.................... 16 (71) 69 5
(Gain) loss on sale of securities available for sale.... -- (232) (5,342) 697
Gain on sale of real estate............................. (1,020) -- (2,114) (718)
Gain on sale of loans................................... -- (708) (158) --
Change in:
Investments in WFSG and affiliates, net............... 2,292 (12) 2,956 (18,492)
Accrued interest receivable........................... 7 374 278 783
Other assets.......................................... 230 9 (68) (237)
Accounts payable and accrued liabilities.............. (309) 4,214 297 844
------- ------- -------- --------
Net cash provided by (used in) operating activities....... 2,447 923 3,795 (15,818)
------- ------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Repayments of securities available for sale............... 1,854 1,166 3,005 9,100
Purchase of securities available for sale................. -- -- (19,481) (8,885)
Proceeds from sale of loans............................... -- -- 396 48,366
Proceeds from sale of securities available for sale....... -- 32,331 44,368 32,331
Purchase of loans and discounted loans.................... (87) (105) (188) (489)
Principal repayments on loans and discounted loans........ 14 811 1,939 39,764
Proceeds from sale of real estate......................... 3,036 9,963 11,810 14,019
Investments in real estate................................ -- (73) -- (223)
Other..................................................... (799) -- (799) 247
------- ------- -------- --------
Net cash provided by investing activities................. 4,018 44,093 41,050 134,230
------- ------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from short-term borrowings....................... -- 530 11,069 1,251
Repayments on short-term borrowings....................... (5,381) (39,322) (46,310) (105,185)
Repayments on other borrowings............................ (1,778) (7,661) (8,036) (11,454)
Other..................................................... (1,308) -- (1,333) --
------- ------- -------- --------
Net cash used in financing activities..................... (8,467) (46,453) (44,610) (115,388)
------- ------- -------- --------
EFFECT OF EXCHANGE RATE CHANGES ON CASH..................... 83 16 4 (4)
------- ------- -------- --------
NET INCREASE IN CASH AND CASH EQUIVALENTS................... (1,919) (1,421) 239 3,020
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD............ 8,020 9,223 5,862 4,782
------- ------- -------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD.................. $ 6,101 7,802 6,101 $ 7,802
======= ======= ======== ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest.................................... $ 2,791 $ 2,441 $ 8,847 $ 9,475
Cash paid for taxes....................................... $ -- $ -- $ -- $ --
Non-cash investing activities:
Investment in WFSG...................................... $ -- $ -- $ -- $ 12,289
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
6
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(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 Inc. and Subsidiaries ("WREI" or the "Company") (formerly
known as Wilshire Real Estate Investment Trust Inc. and Subsidiaries) 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 1999 Annual Report on Form 10-K. A summary of the Company's
significant accounting policies is set forth in Note 3 to the consolidated
financial statements in the 1999 Annual Report on Form 10-K.
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 consolidated financial
statements. Operating results for the three and nine months ended September 30,
2000 are not necessarily indicative of the results that may be expected for the
year ending December 31, 2000.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States 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 September 30, 2000 presentation, none of
which affect previously reported results of operations.
NOTE 2--ORGANIZATION
The Company was originally incorporated as Wilshire Real Estate Investment
Trust Inc. ("WREIT") in the State of Maryland on October 24, 1997. However, due
to the tax benefit of significant net operating loss carryforwards and to avoid
any risk of not qualifying as a real estate investment trust ("REIT"), the
Company elected in September 1999 (with shareholder approval) not to be taxed as
a REIT, and the Company's name was changed to Wilshire Real Estate
Investment Inc. 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 $167.0 million.
NOTE 3 - INCOME TAXES
As of September 30, 2000, the Company had, for U.S. Federal tax purposes, a
net operating loss carryforward of approximately $65 million, which begins to
expire in 2018. Tax regulations impose limitations on the use of loss
carryforwards following certain changes in ownership. If such a change were to
occur with respect to the Company, the limitation could significantly reduce the
amount of benefits that would be available to offset future taxable income each
year, starting with the year of
7
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA AND WHERE NOTED) (CONTINUED)
ownership change. To reduce the potential impact of such ownership changes, the
Company established a Shareholder Rights Plan dated as of December 23, 1999 and
effective January 3, 2000. The Company has not recorded any deferred tax assets
for the future benefits of the net operating loss carryforwards.
NOTE 4 - SIGNIFICANT TRANSACTIONS
During the quarter ended September 30, 2000, the Company sold commercial
properties located in the United Kingdom with a carrying value of $2.0 million.
The gain on these transactions of $1.0 million is reported in the consolidated
statement of operations. The total proceeds from the sale was approximately
$3.0 million of which $1.6 million was used to repay borrowings.
On July 13, 2000, the Company announced the payment dates for its
outstanding dividend for shareholders of record as of September 30, 1998. The
Company previously declared, but had not paid, a dividend of $0.40 per share.
Shareholders of record as of September 30, 1998 received $0.10 per share (plus
interest) on September 28, 2000 and will receive $0.10 per share on each of
December 28, 2000, March 28, 2001, and June 28, 2001, together with interest
accrued thereon at 4% per annum from the declared payment date, October 27,
1998.
During the quarter ended September 30, 2000, the Company's
debtor-in-possession facility ("DIP") of $5.0 million to Wilshire Financial
Services Group Inc. ("WFSG") was repaid.
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 basis of the securities 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." 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 declines in current market valuations, a write-down is
recorded in "Market Valuation Losses and Impairments" in the consolidated
statement of operations.
During the quarters ended September 30, 2000 and 1999, market valuation
losses and impairments of $0.5 million and $6.3 million, respectively, were
recorded. During such periods, these market valuation losses and impairments
related to the portfolio of mortgage-backed securities primarily reflecting
higher than anticipated delinquencies, losses in underlying loans to certain
securities and varying prepayment speeds.
During the nine months ended September 30, 2000 and 1999, market valuation
losses and impairments of $2.3 million and $28.5 million, respectively, were
recorded. During such periods, $2.3 million and $18.0 million, respectively, of
market valuation losses and impairments were recorded related to the portfolio
of mortgage-backed securities primarily reflecting higher than anticipated
delinquencies, losses in underlying loans to certain securities and varying
prepayment speeds. During the nine months ended September 30, 1999, the Company
also impaired its investment in WFSG 13% Notes due 2004 by $8.7 million and
wrote-off $1.0 million in previously capitalized fees for advisory services in
connection with its investment in WFSG stock.
8
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA AND WHERE NOTED) (CONTINUED)
NOTE 6--RESOLUTION OF DISPUTES WITH WFSG AND ITS AFFILIATES
On August 28, 2000, the Company announced that the Company, on behalf of
itself and all of its subsidiaries and affiliates, Andrew A. Wiederhorn and
Lawrence A. Mendelsohn entered into settlement agreements, dated as of
August 17, 2000, with WFSG, on behalf of all of its subsidiaries and affiliates
other than First Bank of Beverly Hills, F.S.B., pursuant to which all disputes
among the parties have been settled, including those related to WFSG's
termination of Andrew A. Wiederhorn and Lawrence A. Mendelsohn (the
"Settlement"). The Settlement agreements contain provisions, which provide that,
except as required for compliance with laws or certain other conditions, the
terms of the Settlement shall remain confidential. The Company had been engaged
in an ongoing dispute with WFSG relating to the termination of the extensive
contractual and other relationships which formerly existed between the
companies.
The Company had a reserve for disputes with WFSG of $2.5 million (which was
originally established in September 1999). Based upon the terms of the
Settlement, the Company recorded an additional reserve of $0.1 million during
the quarter ended September 30, 2000.
The following table sets forth the balances of the Company's net
transactions with WFSG and its affiliates as of September 30, 2000 and
December 31, 1999.
<TABLE>
<CAPTION>
SEPTEMBER 30, 2000 DECEMBER 31, 1999
------------------ -----------------
<S> <C> <C>
Investments in WFSG and Affiliates, net:
WFSG Common Stock......................................... $3,953(1) $ 3,953
DIP Facility.............................................. -- 5,000
Other Notes Receivable from WFSG.......................... -- 275
Prepaid Service Fees to WCC............................... 2,748(2) 2,974
Reserve for Disputes with WFSG............................ -- (2,545)
------ -------
$6,701 $ 9,657
====== =======
Long-term Borrowings........................................ $ -- $ 2,569(3)
====== =======
</TABLE>
------------------------------
(1) Based on $1.375 per share. WFSG's common stock currently trades on the OTC
Bulletin Board and the closing price as of September 30, 2000 was $1.375 per
share. At September 30, 2000, the Company included $0.4 million of
unrealized gains in "Accumulated Other Comprehensive Loss" in stockholders'
equity.
(2) Net of amortization of $0.2 million.
(3) Investments in real estate were pledged against these loans. During the nine
months ended September 30, 2000, the Company repaid these loans in full.
For the nine months ended September 30, 2000, the various transactions
between the Company and WFSG and its affiliates had the net effect of increasing
net income by $0.1 million. For the quarter ended September 30, 2000, the net
effect of these various transactions was a decrease of net income by
$0.2 million.
9
<PAGE>
WILSHIRE REAL ESTATE INVESTMENT INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA AND WHERE NOTED) (CONTINUED)
NOTE 7--COMMITMENTS, CONTINGENCIES & OFF-BALANCE SHEET RISK
The Company is authorized to utilize a wide variety of off-balance sheet
financial techniques to assist 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 September 30, 2000,
the Company had no outstanding positions in these instruments.
The Company, Andrew A. Wiederhorn, and Lawrence A. Mendelsohn are named in a
lawsuit filed by the trustees for nine pension funds or plans filed in United
States District Court for the District of Oregon, Hazzard et. al. v. Capital
Consultants et. al., Civil Case No. 00-1338 HU. The case was filed on
September 29, 2000, but it has not been served on the Company. The allegations
against the Company are unspecific. The plaintiffs seek to restore losses to the
plans from a series of investments made on their behalf by Capital Consultants,
LLC as a fiduciary to the plans which the complaint alleges violated ERISA
standards and which constituted violations of several common law torts. The
complaint fails to disclose what portion of the losses for which the plaintiffs
are contending the Company is responsible. If the plaintiffs serve a complaint
and a summons on the Company, management has directed that it be defended
against vigorously. However, it is too early at this stage to have any opinion
on the likely outcome of the case.
The Company also 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 its consolidated financial condition or operations.
NOTE 8--SUBSEQUENT EVENTS
On October 10, 2000, the Company sold five retail buildings and an office
complex/warehouse/ distribution center, totaling approximately 450,000 square
feet, to an unaffiliated third party. The buildings are all located in the State
of Oregon. The properties were sold for approximately $28.8 million. As part of
the sale, the unaffiliated buyer of the properties assumed debt of approximately
$20.3 million.
NOTE 9--NEW ACCOUNTING PRONOUNCEMENTS
In June 2000, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 138, ACCOUNTING FOR CERTAIN DERIVATIVE
INSTRUMENTS AND CERTAIN HEDGING ACTIVITIES, AN AMENDMENT OF FASB STATEMENT
NO. 133 ("FAS 138") which amends certain provisions of Statement of Financial
Accounting Standards No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING
ACTIVITIES ("FAS 133"). These statements establish accounting and financial
reporting for derivative instruments and hedging activities and will require the
Company to recognize and report all derivative instruments at their fair value
in the Company's consolidated statement of financial position with changes in
fair value recorded generally in operations. These statements become effective
for the Company on January 1, 2001. At this stage, the Company believes that the
effect, if any, that FAS 133 and FAS 138 will have on the Company's operations
and financial position will not be material.
10
<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 INC. AND THE NOTES THERETO INCLUDED ELSEWHERE IN THIS FILING.
REFERENCES IN THIS FILING TO "WILSHIRE REAL ESTATE INVESTMENT INC.," "WE,"
"OUR," AND "US" REFER TO WILSHIRE REAL ESTATE INVESTMENT INC. AND ITS
SUBSIDIARIES UNLESS THE CONTEXT INDICATES OTHERWISE.
GENERAL
Wilshire Real Estate Investment Inc. ("WREI" or the "Company") (formerly
known as Wilshire Real Estate Investment Trust Inc.) 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.
We continue to focus our efforts on stabilizing our existing asset and
liability base as 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 nine months ended September 30, 2000, while profitable,
reflect this continued difficult marketplace and include further impairment
write-downs of certain mortgage-backed securities.
RESULTS OF OPERATIONS--NINE MONTHS ENDED SEPTEMBER 30, 2000 COMPARED TO NINE
MONTHS ENDED SEPTEMBER 30, 1999
NET INCOME. Our net income for the nine months ended September 30, 2000 was
$5.3 million, or $0.51 per share, compared with a net loss of $27.8 million, or
$2.42 per share, for the nine months ended September 30, 1999. The net income
for the 2000 period is attributable to net interest income of $5.9 million, gain
on sale of securities of $5.3 million, recovery of loan losses of $0.6 million
and income from real estate operations of $2.6 million, partially offset by
market valuation losses and impairments on our portfolio of mortgage-backed
securities of $2.3 million and other operating expenses of $6.8 million. Our net
loss for the corresponding 1999 period was primarily due to market valuation
losses and impairments of $28.5 million on our mortgage-backed securities
portfolio and investment in WFSG common stock, partially offset by the net
recovery of $1.2 million of loan loss provisions.
11
<PAGE>
NET INTEREST INCOME. Our net interest income for the nine months ended
September 30, 2000 was $5.9 million, compared with $8.3 million for the nine
months ended September 30, 1999. The decrease is primarily attributable to a
reduction of assets (reflecting our sales of mortgage-backed securities and
loans and paydowns of the related debt facilities), resulting in decreases in
interest income on securities, loans and other investments of $3.6 million,
$1.1 million and $1.7 million, respectively, partially offset by a decrease in
interest expense of $3.9 million. 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 NINE MONTHS ENDED SEPTEMBER 30, 2000
-----------------------------------------------
AVERAGE INTEREST ANNUALIZED
BALANCE INCOME (EXPENSE) YIELD/RATE
--------- ---------------- ----------
<S> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Interest-Earning Assets:
Loan portfolios..................................... $ 34,165 $ 3,023 11.8%
Mortgage-backed securities available for sale....... 83,879 8,461 13.4
Other investments................................... 7,754 338 5.8
-------- ------- ----
Total interest-earning assets..................... 125,798 11,822 12.5
-------- ------- ----
Interest-Bearing Liabilities:
Short-term and other borrowings(1).................. 91,013 (5,920) 8.7
-------- ------- ----
Total interest-bearing liabilities................ 91,013 (5,920) 8.7
-------- ------- ----
Net interest income before provision for loan
losses/spread(2).................................. $ 5,902 3.8%
======= ====
Net interest margin(3).............................. 6.3%
====
</TABLE>
------------------------
(1) Excludes borrowings related to investments in real estate.
(2) Net interest spread represents the difference between the average rate on
interest-earning assets and the average cost of interest-bearing
liabilities.
(3) Net interest margin represents net interest income divided by average
interest-earning assets.
<TABLE>
<CAPTION>
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999
-----------------------------------------------
AVERAGE INTEREST ANNUALIZED
BALANCE INCOME (EXPENSE) YIELD/RATE
--------- ---------------- ----------
<S> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Interest-Earning Assets:
Loan portfolios..................................... $ 52,703 $ 4,081 10.2%
Mortgage-backed securities available for sale....... 131,061 12,025 12.1
Other investments................................... 35,374 2,063 7.8
-------- ------- ----
Total interest-earning assets..................... 219,138 18,169 10.9
-------- ------- ----
Interest-Bearing Liabilities:
Short-term borrowings(1)............................ 166,933 (9,841) 7.8
-------- ------- ----
Total interest-bearing liabilities................ 166,933 (9,841) 7.8
-------- ------- ----
Net interest income before provision for loan
losses/spread(2).................................. $ 8,328 3.1%
======= ====
Net interest margin(3).............................. 5.0%
====
</TABLE>
------------------------
(1) Excludes borrowings related to investments in real estate.
(2) Net interest spread represents the difference between the average rate on
interest-earning assets and the average cost of interest-bearing
liabilities.
(3) Net interest margin represents net interest income divided by average
interest-earning assets.
12
<PAGE>
RECOVERY OF LOAN LOSSES. During the nine months ended September 30, 2000,
we reviewed the adequacy of loan loss reserves and recaptured the remaining
reserve balance of $0.6 million. At September 30, 2000, we had $30.3 million of
loans, net that are performing according to their terms with no required loan
loss allowance. During the nine months ended September 30, 1999, we recaptured a
net $1.2 million in loan loss reserves.
REAL ESTATE OPERATIONS. Our real estate 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 nine
months ended September 30, 2000, we realized income from real estate operations
of approximately $2.6 million (net of depreciation of $0.6 million), compared
with net income of $0.5 million for the nine months ended September 30, 1999.
This increase was primarily attributable to a gain of $2.1 million on the sale
of office properties located in Portland, Oregon and the United Kingdom.
OPERATING EXPENSES. Our other operating expenses were approximately
$6.8 million for the nine months ended September 30, 2000, compared with
approximately $4.4 million for the nine months ended September 30, 1999. This
increase was primarily attributable to an increase in compensation and employee
benefits of $3.5 million, amortization of the prepaid service fees to WCC of
$0.2 million and $0.7 million of other expenses from becoming internally managed
during the fourth quarter of 1999 and professional fees of $0.4 million. This
increase was offset by a decrease in management fees paid to our former manager
of $2.4 million.
RESULTS OF OPERATIONS--QUARTER ENDED SEPTEMBER 30, 2000 COMPARED TO QUARTER
ENDED SEPTEMBER 30, 1999
NET INCOME. Our net income for the quarter ended September 30, 2000 was
$0.4 million, or $0.04 per share, compared with a net loss of $9.4 million, or
$0.82 per share, for the quarter ended September 30, 1999. The net income for
the 2000 period is attributable to net interest income of $1.8 million and
income from real estate operations of $1.2 million, partially offset by market
valuation losses and impairments of $0.5 million and other operating expenses of
$2.1 million. Our net loss for the corresponding 1999 period was primarily due
to market valuation losses and impairments of $6.3 million on our
mortgage-backed securities portfolio and investment in WFSG common stock and a
provision for disputes with WSFG of $4.1 million.
NET INTEREST INCOME. Our net interest income for the quarter ended
September 30, 2000 was $1.8 million, compared with $2.0 million for the quarter
ended September 30, 1999. The decrease is primarily attributable to a reduction
of assets (reflecting our sales of mortgage-backed securities and loans and
paydowns of the related debt facilities), resulting in decreases in interest
income on securities and other investments of $0.7 million and $0.4 million,
respectively, partially offset by a decrease in interest expense of
$0.9 million. The following tables set forth information regarding the total
amount
13
<PAGE>
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 SEPTEMBER 30, 2000
----------------------------------------------
AVERAGE INTEREST ANNUALIZED
BALANCE INCOME (EXPENSE) YIELD/RATE
-------- ---------------- ----------
<S> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Interest-Earning Assets:
Loan portfolios.................................... $ 32,550 $ 936 11.5%
Mortgage-backed securities available for sale...... 77,982 2,623 13.5
Other investments.................................. 8,235 123 6.0
-------- ------- ----
Total interest-earning assets.................... 118,767 3,682 12.4
-------- ------- ----
Interest-Bearing Liabilities:
Short-term and other borrowings(1)................. 83,683 (1,916) 9.2
-------- ------- ----
Total interest-bearing liabilities............... 83,683 (1,916) 9.2
-------- ------- ----
Net interest income before provision for loan
losses/spread(2)................................. $ 1,766 3.2%
======= ====
Net interest margin(3)............................. 5.9%
====
</TABLE>
------------------------
(1) Excludes borrowings related to investments in real estate.
(2) Net interest spread represents the difference between the average rate on
interest-earning assets and the average cost of interest-bearing
liabilities.
(3) Net interest margin represents net interest income divided by average
interest-earning assets.
<TABLE>
<CAPTION>
FOR THE QUARTER ENDED SEPTEMBER 30, 1999
----------------------------------------------
AVERAGE INTEREST ANNUALIZED
BALANCE INCOME (EXPENSE) YIELD/RATE
-------- ---------------- ----------
<S> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Interest-Earning Assets:
Loan portfolios.................................... $ 31,591 $ 959 11.9%
Mortgage-backed securities available for sale...... 100,609 3,291 12.8
Other investments.................................. 27,931 555 7.9
-------- ------- ----
Total interest-earning assets.................... 160,131 4,805 11.7
-------- ------- ----
Interest-Bearing Liabilities:
Short-term borrowings(1)........................... 124,546 (2,803) 8.8
-------- ------- ----
Total interest-bearing liabilities............... 124,546 (2,803) 8.8
-------- ------- ----
Net interest income before provision for loan
losses/ spread(2)................................ $ 2,002 2.9%
======= ====
Net interest margin(3)............................. 4.9%
====
</TABLE>
------------------------
(1) Excludes borrowings related to investments in real estate.
(2) Net interest spread represents the difference between the average rate on
interest-earning assets and the average cost of interest-bearing
liabilities.
(3) Net interest margin represents net interest income divided by average
interest-earning assets.
REAL ESTATE OPERATIONS. Our real estate 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 September 30, 2000, we realized income from real
14
<PAGE>
estate operations of approximately $1.2 million (net of depreciation of
$0.3 million), compared with net income of $0.6 million for the quarter ended
September 30, 1999. This increase was primarily attributable to gains on sale of
real estate of $1.0 million in the quarter ended September 30, 2000 compared to
$0.7 million in 1999 and provision for losses of $0.3 million in 1999 with no
such provision in 2000.
OPERATING EXPENSES. Our other operating expenses were approximately
$2.1 million for the quarter ended September 30, 2000, compared with
approximately $1.7 million for the quarter ended September 30, 1999. This
increase was primarily attributable to an increase in compensation and employee
benefits of $1.0 million and amortization of the prepaid service fees to WCC of
$0.2 million, partially offset by a decrease in management fees paid to our
former manager of $0.7 million.
CHANGES IN FINANCIAL CONDITION
GENERAL. Total assets decreased from approximately $218.7 million at
December 31, 1999 to approximately $173.6 million at September 30, 2000. The
decrease in total assets is primarily attributable to net sales of
$26.0 million of mortgage-backed securities available-for-sale and the sale of
commercial real estate with a carrying value of $9.7 million. Total liabilities
decreased from approximately $167.8 million at December 31, 1999 to
approximately $121.5 million at September 30, 2000 primarily as a result of the
repayment of borrowings used to finance mortgage-backed securities and loans.
Stockholders' equity increased by approximately $1.2 million resulting primarily
from net income of $5.3 million for the nine months ended September 30, 2000,
partially offset by an increase of $3.2 million in net unrealized losses on
available-for-sale securities and our investment in WFSG common stock and
$0.8 million in recourse loans to officers to acquire stock.
SECURITIES AVAILABLE FOR SALE. The Company routinely invests in and sells
mortgage-backed securities and considers this one of its core competencies. The
balance of mortgage-backed securities available for sale decreased from
$104.6 million at December 31, 1999 to $76.6 million at September 30, 2000. The
decrease in the balance of mortgage-backed securities was primarily due to the
sale of securities with a carrying value of $26.0 million, the recognition of
other than temporary impairment of approximately $2.3 million, cash receipts in
excess of income accrued of approximately $2.8 million and a net increase in the
unrealized loss on available-for-sale securities of approximately $3.2 million
for the nine months ended September 30, 2000, partially offset by the purchase
of a subordinated interest in the underlying trust of the resecuritization
transaction completed in the nine months ended September 30, 2000 for
$6.3 million.
For financial reporting purposes, we mark our securities portfolio to fair
value at the end of each month based primarily upon broker/dealer valuations,
subject to an internal review process. With respect to many of our subordinate
securities, valuations are typically available from either a single or a small
group of broker/dealers. For those securities that are subject to repurchase or
other financing arrangements with broker/dealers, we employ the valuation
supplied by the financing broker/dealer.
The fair value of our investment in the resecuritized mortgage-backed
securities is determined by us at each reporting date as the present value of
the anticipated cash flows from the underlying collateral (primarily "A"
quality, jumbo, fixed-rate, 15- to 30-year term loans) using certain estimates.
We are responsible for developing these estimates which include: (i) future rate
of prepayment; (ii) discount rate used to calculate present value; and
(iii) default rates and loss severity on loan pools underlying the
mortgage-backed securities in the resecuritization. At September 30, 2000, we
used an annual constant prepayment rate of 12%, a discount rate of 20%, and an
annual constant default rate of .20% with a loss severity of 32% to estimate the
fair value of our interest in the resecuritization. The future cash flows and
the discount rate represent our best estimate; however, there can be no
assurance of the accuracy of these estimates. We review the fair value of our
interest in the resecuritization by analyzing current interest rates, and
prepayment, discount rate and loss assumptions in relation to the
15
<PAGE>
actual experience and current rates of prepayment and loss prevalent in the
underlying loan pools. Changes in these factors may lead to significant
fluctuations in the fair value of our investment which may affect earnings, if
the fair value decrease is determined by us to be of other-than-temporary
nature.
The difference between our amortized cost of mortgage-backed securities
available for sale and current market values, which was $26.4 million at
September 30, 2000, is included in "Accumulated Other Comprehensive Loss" in
stockholders' equity. This amount, unlike "market valuation losses and
impairments," represents a market value decline that we believe is temporary. If
held to maturity, the anticipated cash flow on these securities based on
interest rates, rate of prepayment and the amount and severity of defaults would
result in our receiving amounts in excess of the current market value and would
allow us to recover our amortized cost plus our original expected return from
the time of acquisition.
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, without
limitation, 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 and other factors change, the anticipated cash flow on our mortgage-backed
securities may not be sufficient to cover our amortized cost or if we sell one
of these mortgage-backed securities at market prices which are below its
amortized cost, we 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, we analyze actual
performance of the securities and underlying collateral, including prepayment
and default statistics, as well as the expectation for such performance in the
future. To the extent reasonable expectations for future performance are not
likely to offset declines in current market valuations, a write-down is recorded
in "Market Valuation Losses and Impairments" in the consolidated statement of
operations. Because the variables change over time, there can be no assurance
that current valuations will be reflective of future periods.
16
<PAGE>
At September 30, 2000, securities available for sale were as follows:
<TABLE>
<CAPTION>
AMORTIZED GROSS UNREALIZED GROSS UNREALIZED
COST(1) GAINS LOSSES FAIR VALUE
--------- ---------------- ---------------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
Mortgage-backed securities................. $102,957 $539 $(26,920) $76,576
======== ==== ======== =======
</TABLE>
------------------------
(1) The amortized cost of the securities reflects the market valuation losses
and impairments discussed above and excludes accrued interest of
$0.8 million.
Included in available-for-sale securities are securities with fair values of
approximately $14.5 million, which, under their terms of issuance, do not
provide current cash flows to us. Accordingly, the determination of fair value
of these securities may be more uncertain than securities which receive current
cash flows.
LOANS, NET. During the nine months ended September 30, 2000, our loans, net
decreased by approximately $1.3 million due primarily to sales of loans and
principal payments received from borrowers.
INVESTMENTS IN REAL ESTATE. Investments in real estate decreased
approximately $12.5 million from December 31, 1999 to September 30, 2000. This
decrease was primarily due to the sale of commercial properties located in
Portland, Oregon and the United Kingdom with a carrying value of approximately
$9.7 million.
We are currently in the process of marketing certain other commercial
properties for sale during the rest of the year as we continue to reduce our
level of investment in commercial real estate income properties.
SHORT-TERM BORROWINGS. Short-term borrowings decreased by approximately
$35.2 million during the nine months ended September 30, 2000. The decrease in
short-term borrowings is primarily attributable to the repayment from sales
proceeds of, and other payments on, our mortgage-backed securities.
LONG-TERM BORROWINGS. Long-term borrowings decreased approximately
$9.6 million during the nine months ended September 30, 2000 due primarily to
repayments related to the commercial properties which were sold during the
reporting period.
STOCKHOLDERS' EQUITY. Stockholders' equity increased by approximately
$1.2 million during the nine months ended September 30, 2000. This increase was
primarily due to net income of $5.3 million, partially offset by an increase in
unrealized holding losses on securities available for sale of $2.8 million,
reclassification adjustment for net gains on securities included in net income
of $0.3 million, recourse loans to officers to acquire stock of $0.8 million and
foreign currency translation losses of $0.3 million.
REGULATORY MATTERS
The Company currently owns approximately 14.4% of WFSG's common stock on a
non-diluted basis. The Company is continuing to consider what course of action
might best maximize the value of its investment in WFSG. As a result, the
Company may decide it wishes to sell some or all of its shares of WFSG, retain
its current ownership position, or increase its ownership, including
substantially.
Any course of conduct (including retention of the Company's current
position) needs to comply with requirements of the Office of Thrift Supervision
(the "OTS"), including those relating to the "control" of savings and loan
holding companies such as WFSG. For the reasons explained in the Company's
Form 10-K for the year ended December 31, 1999, the Company filed an H-(e)1
control
17
<PAGE>
application with the OTS in June 1999. The Company had anticipated it would
withdraw that application if the OTS approved the Company's request that the OTS
lift interim restrictions imposed by the OTS on the Company with respect to
WFSG.
As a result of recent discussions with the OTS, the Company no longer
anticipates that the OTS will withdraw the interim restrictions. The Company is
evaluating what, if any, action to take in respect of its H-(e)1 application and
the OTS order.
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 nine months ended September 30, 2000 consisted of net cash
provided by investing activities, including the cash repayments related to our
mortgage-backed securities portfolio, sales of mortgage-backed securities and
sales of investments in real estate.
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 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."
The adverse market conditions, which negatively impacted us during the third
and fourth quarters of 1998, began to stabilize during 1999 and 2000 but remain
uncertain. As of September 30, 2000, we had no outstanding collateral calls.
In October 2000, the Company extended its borrowing arrangement on certain
mortgage-backed securities with one of its lenders. The terms of the agreement
extend the borrowing arrangement from October 18, 2000 to December 18, 2000 and
required a principal paydown of $3 million in October 2000, which the Company
made at that time. The amount owed under this borrowing arrangement at
September 30, 2000, prior to the $3 million paydown, was $48.1 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 any floating rate debt which in turn could impact potential
returns to shareholders. See "Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK."
At September 30, 2000, we had total consolidated secured indebtedness of
$116.5 million, accrued interest payable of $0.5 million, a dividend payable of
$2.6 million, as well as $1.9 million of other liabilities. The consolidated
secured indebtedness consisted of (i) $77.7 million of repurchase agreements,
(ii) lines of credit aggregating $2.9 million which are secured by loans and
(iii) $35.9 million outstanding of other borrowings maturing between 2000 and
2008 which are secured by real estate.
Loans are financed through short-term or intermediate-term financing
facilities. 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 known 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,
18
<PAGE>
the borrowing cost under the financing facility 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.
We generally finance acquisitions of mortgage-backed securities through
committed and uncommitted thirty-day repurchase agreements with major Wall
Street investment banks. 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. 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 September 30, 2000, the Company had approximately $80.5 million of
indebtedness under the terms of which the lender could request additional
collateral if the value of the underlying collateral declined (including
financing facilities for both mortgage-backed securities and loans). Although
the Company believes that the likelihood of significant declines in asset values
has decreased since the third quarter of 1998, the Company is seeking to
maintain a larger cash position and more unencumbered assets to deal with any
future potential collateral calls. In addition, the Company is seeking to and
has refinanced some of this 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 (potentially 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 subordinated 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.
Based on our current cash position, monthly interest and other expenses,
monthly cash receipts and collateral calls through September 30, 2000, 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 or collateral calls, or material decreases in monthly cash
receipts, generally would negatively impact our liquidity. On the other hand,
material decreases in interest expense from variable-rate funding sources or
collateral calls, or an increase in market value of our mark-to-market financial
assets, generally would positively affect our liquidity.
19
<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, the Company's strategy is to limit our
exposure to earnings variations and variations in the value of assets and
liabilities as interest rates change over time. Our asset and liability
management strategy is formulated and monitored regularly to review, among other
things, the sensitivity of our 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 tables quantify the potential changes in net interest income
and net portfolio value as of September 30, 2000 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 and instantaneous. 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 but not by
changes in interest rates. 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. The following tables apply the U.S.
Treasury yield curve generally for assets and LIBOR for repurchase agreement
liabilities and assume a uniform change in both rates. The tables assume that
changes in interest rates occur instantaneously. The tables also reflect that
the Company has a significant exposure
20
<PAGE>
to LIBOR rates since its repurchase agreement borrowings are generally based on
LIBOR rates. Actual results could differ significantly from those estimated in
the tables.
<TABLE>
<CAPTION>
PROJECTED PERCENT CHANGE IN
-------------------------------------------------------------------------------
CHANGE IN INTEREST RATES(1) NET INTEREST INCOME NET PORTFOLIO VALUE
--------------------------- -------------------- -------------------
<S> <C> <C>
-400 Basis Points.................. 28.3% 14.9%
-300 Basis Points 21.2% 11.0%
-200 Basis Points 14.2% 7.3%
-100 Basis Points 7.1% 3.6%
0 Basis Points -- --
100 Basis Points (7.1)% (3.5)%
200 Basis Points (14.2)% (6.9)%
300 Basis Points (21.2)% (10.2)%
400 Basis Points (28.3)% (13.4)%
</TABLE>
------------------------
(1) Assumes that uniform changes occur instantaneously in both the yield on
10-year U.S. Treasury notes and the interest rate applicable to U.S. dollar
deposits in the London interbank market.
<TABLE>
<CAPTION>
CHANGE IN MONTHLY CHANGE IN
CHANGE IN INTEREST RATES(1) NET INTEREST INCOME NET PORTFOLIO VALUE
--------------------------- -------------------- -------------------
<S> <C> <C>
-400 Basis Points.................... $ 172,768 $ 7,100,823
-300 Basis Points.................... $ 129,576 $ 5,279,838
-200 Basis Points.................... $ 86,384 $ 3,483,928
-100 Basis Points.................... $ 43,192 $ 1,721,765
0 Basis Points..................... -- --
100 Basis Points.................... $ (43,192) $(1,676,407)
200 Basis Points.................... $ (86,384) $(3,303,912)
300 Basis Points.................... $(129,576) $(4,880,138)
400 Basis Points.................... $(172,768) $(6,403,663)
</TABLE>
------------------------
(1) Assumes that uniform changes occur instantaneously in both the yield on
10-year U.S. Treasury note and the interest rate applicable to U.S. dollar
deposits in the London interbank market.
The following table sets forth information as to the type of funding used to
finance the Company's assets as of September 30, 2000. As indicated in the
table, a large percentage of the Company's fixed rate assets are financed by
floating rate liabilities and the Company's variable rate assets are generally
funded by variable rate liabilities which use the same index.
21
<PAGE>
ASSETS AND LIABILITIES
AS OF SEPTEMBER 30, 2000
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
INTEREST-BEARING ASSETS ASSETS INTEREST LIABILITIES INTEREST
----------------------- -------- -------- ----------- --------
<S> <C> <C> <C> <C>
Fixed Assets, Financed Floating....................... $ 75,315 Fixed $ 61,574 LIBOR
Fixed Assets, Not Financed............................ 6,598 Fixed -- None
Floating Assets, Financed Floating.................... 25,000 LIBOR 18,949 LIBOR
-------- --------
Sub-total............................................. 106,913 80,523
Other Assets
Investments in Real Estate............................ 50,689 N/A 35,977 Fixed
Cash and Cash Equivalents............................. 6,101 N/A -- None
Investments in WFSG and affiliates.................... 6,701 N/A -- None
Other................................................. 3,146 N/A -- None
-------- --------
Sub-total............................................. 66,637 35,977
Liability Only
Dividends............................................. -- 2,576 Fixed
Accounts Payable and Accrued Liabilities.............. -- 2,408 None
-------- --------
Sub-total............................................. -- 4,984
-------- --------
Grand Total........................................... $173,550 $121,484
</TABLE>
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. Asset and
liability management can utilize a wide variety of off-balance sheet financial
techniques to assist it in the management of interest rate risk. For example, in
hedging the interest rate and exchange rate exposure of a foreign currency
denominated asset or liability, we 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 techniques were in use
as of September 30, 2000.
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.
22
<PAGE>
The following tables set forth the estimated maturity or repricing of the
Company's interest-earning assets and interest-bearing liabilities at
September 30, 2000 (dollars in thousands):
<TABLE>
<CAPTION>
WITHIN 4 TO 12 ONE 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............... $ 6,101 $ - $ - $ - $ 6,101
Securities available for sale........... - - - 76,576 76,576
Loans(2)................................ 25,133 400 913 3,891 30,337
Investments in WFSG and affiliates...... 288 864 1,596 3,953 6,701
-------- -------- -------- ------- --------
Total rate-sensitive assets............. $ 31,522 $ 1,264 $ 2,509 $84,420 $119,715
======== ======== ======== ======= ========
Interest-sensitive liabilities:
Borrowings on loans and securities...... $ 80,523 $ - $ - $ - $ 80,523
Borrowings on real estate............... 1,063 - - 34,914 35,977
Dividends payable....................... 859 1,717 - - 2,576
-------- -------- -------- ------- --------
Total rate-sensitive liabilities........ $ 82,445 $ 1,717 $ - $34,914 $119,076
======== ======== ======== ======= ========
Interest rate sensitivity gap........... (50,923) (453) 2,509 49,506
Cumulative interest rate sensitivity
gap................................... (50,923) (51,376) (48,867) 639
Cumulative interest rate sensitivity gap
as a percentage of total rate-
sensitive assets...................... (43)% (43)% (41)% 1%
</TABLE>
------------------------
(1) Real estate property holdings are not considered interest rate sensitive.
(2) Amortizing fixed rate loans are assumed to prepay at a Constant Prepayment
Rate ("CPR") of 10%.
23
<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, THE FINANCIAL AND SECURITIES MARKETS AND THE AVAILABILITY
OF AND COSTS ASSOCIATED WITH SOURCES OF LIQUIDITY, COMPETITIVE PRODUCTS AND
PRICING, THE REAL ESTATE MARKET, FISCAL AND MONETARY POLICIES OF THE U.S.
GOVERNMENT, CHANGES IN PREVAILING INTEREST RATES, ACQUISITIONS AND THE
INTEGRATION OF ACQUIRED BUSINESSES, CREDIT RISK MANAGEMENT, YEAR 2000 AND
ASSET/LIABILITY MANAGEMENT. EXCEPT AS MAY BE REQUIRED BY LAW, 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.
24
<PAGE>
PART II--OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
The registrant is not a party to any material legal proceedings.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION.
Not Applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
11 Computation of Per Share Earnings
27 Financial Data Schedule
(b) Reports on Form 8-K:
None
25
<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 INC.
By: /s/ LAWRENCE A. MENDELSOHN
Lawrence A. Mendelsohn
PRESIDENT
By: /s/ CHRIS TASSOS
Chris Tassos
EXECUTIVE VICE PRESIDENT AND
CHIEF FINANCIAL OFFICER
Date: October 26, 2000
26
