<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON NOVEMBER 3, 1998
REGISTRATION NO. 333-52117
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
--------------------------
PRE-EFFECTIVE AMENDMENT NO. 2
TO
FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
--------------------------
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
(Exact name of registrant as specified in its charter)
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DELAWARE 6513 47-0810842
(State or other (Primary Standard Industrial (I.R.S. Employer
jurisdiction of organization) Classification Number) Identification
No.)
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SUITE 400, 1004 FARNAM STREET
OMAHA, NEBRASKA 68102
(402) 444-1630
(Address, including zip code, and telephone number, including area code, of
registrant's principal executive offices)
PAUL L. ABBOTT
SUITE 400, 1004 FARNAM STREET
OMAHA, NEBRASKA 68102
(402) 444-1630
(Name, address, including zip code, and telephone number, including area code,
of agent for service)
--------------------------
WITH COPIES TO:
PAUL E. BELITZ, ESQ.
BRIAN V. CAID, ESQ.
Kutak Rock
717 17th Street, Suite 2900
Denver, Colorado 80202
--------------------------
APPROXIMATE DATE OF COMMENCEMENT OF THE PROPOSED SALE TO THE PUBLIC: AS
SOON AS PRACTICABLE AFTER THIS REGISTRATION STATEMENT BECOMES EFFECTIVE AND
AFTER CONDITIONS IN THE MERGER AGREEMENT HAVE BEEN SATISFIED.
--------------------------
If the securities being registered on this Form are being offered in
connection with the formation of a holding company and there is compliance with
General Instruction G, check the following box. / /
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. / /
If this Form is post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / /
--------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a),
MAY DETERMINE.
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AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
CROSS REFERENCE SHEET
FURNISHED PURSUANT TO ITEM 1 OF FORM S-4 AND ITEM 501(b) OF REGULATION S-K
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CAPTION IN OR PART OF
ITEM OF S-4 PROSPECTUS/CONSENT SOLICITATION STATEMENT
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A. Information about the Transaction
1. Forepart of Registration Statement and Outside
Front Cover Page of Prospectus.............. Front Cover Page of the Registration Statement; Outside
Front Cover Page of the Prospectus/ Consent
Solicitation Statement
2. Inside Front and Outside Back Cover Pages of
Prospectus.................................. Inside Front Cover Page of the Prospectus/Consent
Solicitation Statement; Available Information; Outside
Back Cover Page of the Prospectus/ Consent Solicitation
Statement
3. Risk Factors, Ratio of Earnings to Fixed
Charges and Other Information............... Summary; Risk Factors; Selected Financial Data of the
Partnerships; Voting
4. Terms of the Transaction...................... Summary; Risk Factors; The Transaction; The Company;
Description of Capital Stock; Federal Income Tax
Consequences
5. Pro Forma Financial Information............... Pro Forma Financial Information
6. Material Contacts of the Partnerships Being
Acquired.................................... The Transaction; The Partnerships
7. Additional Information Required for Reoffering
by Persons and Parties Deemed to be
Underwriters................................ *
8. Interest of Named Experts and Counsel......... *
9. Disclosure of Commission Position on
Indemnification for Securities Act
Liabilities................................. *
B. Information about the Registrant
10. Information with Respect to S-3 Registrants... *
11. Incorporation of Certain Information by
Reference................................... *
12. Information with Respect to S-2 or S-3
Registrants................................. *
13. Incorporation of Certain Information by
Reference................................... *
14. Information with Respect to Registrants Other
than S-3 or S-2 Registrants................. Available Information; Summary; Risk Factors; The
Transaction; The Company; Federal Income Tax
Consequences
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CAPTION IN OR PART OF
ITEM OF S-4 PROSPECTUS/CONSENT SOLICITATION STATEMENT
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C. Information about the Partnerships Being Merged
15. Information with Respect to S-3
Partnerships................................ *
16. Information with Respect to S-2 or S-3
Partnerships................................ *
17. Information with Respect to Partnerships other
than S-3 or S-2 Partnerships................ Available Information; Summary; Benefits of, and
Background and Reasons for, the Transaction; The
Transaction; The Partnerships; Selected Financial Data
of the Partnerships; see Index to Financial Statements
D. Voting and Management Information
18. Information if Proxies, Consents or
Authorizations are to be Solicited.......... Available Information; Summary; The Transaction; The
Company; Voting
19. Information if Proxies, Consents or
Authorizations are not to be Solicited or in
an Exchange Offer........................... *
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SUBJECT TO COMPLETION
DATED NOVEMBER 3, 1998
THIS PROSPECTUS AND THE INFORMATION CONTAINED HEREIN ARE SUBJECT TO COMPLETION
OR AMENDMENT. A REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN
FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE
SOLD NOR MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION
STATEMENT BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO
SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE
SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE
UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY
SUCH STATE.
<PAGE>
CONSENT SOLICITATION STATEMENT OF
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
------------------------
THIS CONSENT SOLICITATION STATEMENT ALSO SERVES AS
THE PROSPECTUS OF AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
3,354,887 SHARES OF COMMON STOCK AND
VARIABLE RATE JUNIOR NOTES CALLABLE ON OR AFTER THE DATE OF ISSUANCE
This Prospectus/Consent Solicitation Statement relates to the proposed
merger (the "Transaction") of Capital Source L.P., a Delaware limited
partnership ("Cap Source I"), and Capital Source II L.P.-A, a Delaware limited
partnership ("Cap Source II", and together with Cap Source I, the
"Partnerships"), and the general partners of the Partnerships (the "General
Partners"), with and into America First Real Estate Investment Company, Inc., a
newly organized Delaware corporation (the "Company"). As a result of the
Transaction, the Company will distribute securities to the Partnerships and the
owners of the General Partners in exchange for the assets of the Partnerships
and the General Partners, and the separate existence of the Partnerships will
cease. After the Transaction, the Company's primary business objective will be
to make real estate investments through the direct acquisition, rehabilitation,
development, financing and management of real property, including the
acquisition of equity securities of entities engaged in similar real estate
businesses.
The holders (the "Investors") of beneficial assignment certificates
representing assigned limited partnership interests in the Partnerships (the
"Units") are being asked to approve the Transaction as described in this
Prospectus/Consent Solicitation Statement. Upon completion of the Transaction,
Investors will receive, at their election and subject to certain limitations,
either shares of the Company's $.001 par value common stock (the "Shares") or
the Company's Variable Rate Junior Notes Callable On or After the Date of
Issuance (the "Notes"). See "THE NOTES--Notes--INTEREST" for the interest rate
calculation for the Notes. The common stock of the Company (the "Common Stock")
will be listed on the New York Stock Exchange ("NYSE"), subject to official
notice of issuance.
Consummation of the Transaction is subject to certain conditions and will
not occur unless, among other things: (i) both Partnerships participate in the
Transaction, and (ii) Investors who vote against the Transaction ("Dissenting
Investors") do not elect to receive more than the maximum amount of Notes
issuable in connection with the Transaction. Participation in the Transaction
requires the approval of a majority in interest of Investors in each
Partnership. The maximum amount of Notes that may be issued in the Transaction
(the "Maximum Note Limitation") is $40.0 million. The Company may, at its
option, pay cash in lieu of issuing Notes.
THIS TRANSACTION INVOLVES MATERIAL RISKS THAT SHOULD BE CONSIDERED BY THE
INVESTORS. SEE "RISK FACTORS" BEGINNING ON PAGE 23. IN PARTICULAR, INVESTORS
SHOULD CONSIDER THE FOLLOWING:
- The Common Stock may trade at prices substantially below the estimated
liquidation value of the Company's assets and the $25 per Share price
arbitrarily determined for the sole purpose of allocating the Shares in the
Transaction. A public market for the Notes is not expected to develop. If
the Notes are sold, they may sell at prices substantially below their
issuance price.
- The general partners of the Partnerships (the "General Partners") initiated
and participated in the structuring of the Transaction and have certain
conflicts of interest with respect to its completion. In particular, the
owners of the General Partners will receive an aggregate of 33,549 Shares,
which could have an approximate value of $838,725 based on an assumed value
of $25 per Share. In addition, the Company's advisor (the "Advisor"), a
subsidiary of the entity that controls the General Partners, will be
entitled to receive management fees from the Company following the
Transaction.
- The Transaction involves a fundamental change in the nature of the
Investors' investment. If the Transaction is completed, Investors will not
receive a return on their investment in the form of liquidation proceeds
through sales of Partnership assets. Instead, Investors who receive Shares
("Shareholders") will be able to liquidate their investments only by selling
their Shares on the NYSE or in private transactions. An Investor's share of
liquidation proceeds could be higher than the amount realized from the sale
of the Company's Shares or payments on the Notes.
- There can be no guarantee with respect to the level of the Company's future
cash dividends, and regardless of the initial level of such dividends, they
could decline so that some Shareholders would receive lower distributions
than they received from the Partnership prior to the Transaction.
- The Company is newly formed and has no operating history.
- The investment strategy and operating policies of the Company will be
materially different from those of the Partnerships and may be modified or
altered by the Board of Directors of the Company without the consent of the
Shareholders.
- Dissenting Investors are not entitled to any appraisal or other dissenters'
rights under Delaware law and none will be offered in the Transaction.
(CONTINUED ON FOLLOWING PAGE)
THIS SOLICITATION OF CONSENTS EXPIRES AT 5:00 P.M., EASTERN TIME
ON , 1999, UNLESS EXTENDED.
------------------------
THE DATE OF THE PROSPECTUS/CONSENT SOLICITATION STATEMENT IS NOVEMBER , 1998.
<PAGE>
(COVER PAGE CONTINUED)
- There are alternatives to the Transaction. By approving the Transaction,
Investors will effectively preclude the pursuit of certain alternatives.
- The external management structure of the Company creates certain conflicts
of interest. In particular, the Advisor may also manage other entities with
similar investment objectives to those of the Company.
- To the extent Notes are issued, the Partnerships will be required to
recognize taxable gain which would be allocated to all Investors in
proportion to their ownership of Units.
- The Company intends to use debt financing to increase its real estate asset
portfolio. An increase in debt may increase the possibility of default on
the Company's obligations, which could adversely affect the Company's
earnings and its ability to pay expected dividends to Shareholders.
- Approval of a majority in interest of the Investors in a Partnership with
respect to the Transaction will bind all Investors in that Partnership,
including Dissenting Investors and Investors who abstained from voting with
respect to the Transaction.
- Investors who receive Notes ("Noteholders") will not hold an equity interest
in the Company and therefore will not be able to participate in the
Company's growth or benefit from any increases in the value of the Shares.
The Notes will be unsecured obligations of the Company and may be redeemed
prior to maturity at the Company's option.
See "GLOSSARY" for definitions of certain key terms used in this
Prospectus/Consent Solicitation Statement.
This Prospectus/Consent Solicitation Statement is being furnished to
Investors in connection with the solicitation of consents by the General
Partners. Approval by a majority in interest of the Investors of each
Partnership is required for the Partnership to approve the Transaction. The
established record date for voting the Units is , 1998 (the "Record
Date"). In order to be valid, the enclosed form of consent (the "Consent Card")
must be received by by 5:00 p.m. Eastern Time on , 1998.
INVESTORS ARE URGED TO COMPLETE, DATE AND SIGN THE CONSENT CARD AND RETURN IT IN
THE ENCLOSED POSTAGE-PREPAID ENVELOPE. This Prospectus/Consent Solicitation
Statement and the accompanying Consent Card are first being mailed to Investors
on or about , 1998.
THE GENERAL PARTNERS RECOMMEND THAT ALL INVESTORS VOTE "YES" IN FAVOR OF THE
TRANSACTION.
------------------------
NEITHER THIS TRANSACTION NOR THESE SECURITIES HAVE BEEN APPROVED OR DISAPPROVED
BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE FAIRNESS OR MERITS OF THIS TRANSACTION OR
THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS/ CONSENT SOLICITATION
STATEMENT. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
------------------------
ALL QUESTIONS AND INQUIRIES SHOULD BE DIRECTED TO AMERICA FIRST INVESTOR
SERVICES DEPARTMENT, 1004 FARNAM STREET, SUITE 400, OMAHA, NEBRASKA 68102, OR
CALL (800) 239-8787 AND SELECT OPTION 2.
<PAGE>
AVAILABLE INFORMATION
The Partnerships are subject to the informational requirements of the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), and in
accordance therewith file reports, proxy and information statements and other
information with the Securities and Exchange Commission (the "SEC" or
"Commission"). In addition, the Company has filed with the Commission a
Registration Statement on Form S-4 of which this Prospectus/Consent Solicitation
Statement forms a part (including all amendments, exhibits, annexes and
schedules thereto, the "Registration Statement") pursuant to the Securities Act
of 1933, as amended (the "Securities Act") and the rules and regulations
promulgated thereunder, with respect to the Shares and Notes offered pursuant to
this Prospectus/Consent Solicitation Statement. This Prospectus/ Consent
Solicitation Statement, which is part of the Registration Statement, does not
contain all of the information set forth in the Registration Statement and the
exhibits and financial schedules thereto. For further information with respect
to the Partnerships and the Company, reference is made to the reports of the
Partnerships filed under the Exchange Act and the Company's Registration
Statement and such exhibits and schedules, copies of which may be examined
without charge or obtained upon payment of prescribed fees at the public
reference facilities maintained by the Commission at Room 1024, Judiciary Plaza,
450 Fifth Street, N.W., Washington, D.C. 20549, and at the regional offices of
the Commission at 7 World Trade Center, New York, New York 10048 and Northwest
Atrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661. The
Commission maintains a site in the World Wide Web at http://www.sec.gov that
contains reports, proxy and other information statements and other information
regarding registrants that file electronically with the Commission, including
the electronic filings of the Partnerships and the Company.
Statements contained in this Prospectus/Consent Solicitation Statement as to
the contents of any contract, agreement or other document are not necessarily
complete, and in each instance, reference is made to the copy of such contract,
agreement or other document filed as an exhibit to the Registration Statement,
each such statement being qualified in all respects by such reference. The
information in this Prospectus/Consent Solicitation Statement concerning the
Company, Cap Source I and Cap Source II has been furnished by the Company, Cap
Source I and Cap Source II, respectively. For further information with respect
to the Company, the Partnerships and the Shares and Notes offered hereby,
reference is made to the Registration Statement.
A separate supplement to this Prospectus/Consent Solicitation Statement has
been prepared for each Partnership and will be delivered to each Investor of the
Partnership covered thereby. Upon receipt of a written request by an Investor or
representative so designated in writing, the General Partners of the Investor's
Partnership will send a copy of any supplement without charge. All requests
should be directed to America First Investor Services Department, 1004 Farnam
Street, Suite 400, Omaha, Nebraska 68102.
Upon consummation of the Transaction, the Company will be required to file
reports and other information with the Commission pursuant to the Exchange Act.
Shareholders and Noteholders will receive annual reports containing audited
financial statements with a report thereon by the Company's independent public
accountants, and quarterly reports containing unaudited financial information
for each of the first three quarters of each fiscal year. If the Transaction is
not consummated, the Partnerships will continue to file reports and other
information with the Commission as required by law.
i
<PAGE>
TABLE OF CONTENTS
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PAGE
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SUMMARY.................................................................................................... 3
The Transaction.......................................................................................... 3
Summary Risk Factors..................................................................................... 4
Benefits of the Transaction.............................................................................. 6
Fairness................................................................................................. 7
Fairness Opinion......................................................................................... 7
Bringdown Fairness Opinion............................................................................... 7
The Special Committee.................................................................................... 8
Recommendation of the General Partners and the Special Committee; Fairness
Determination.......................................................................................... 8
Appraisals............................................................................................... 8
Contacts Regarding Fairness Opinions, Valuations and Other Reports....................................... 9
The Shares............................................................................................... 9
The Notes................................................................................................ 9
Voting Procedures........................................................................................ 9
Communicating With Other Investors....................................................................... 10
No Dissenters' Rights.................................................................................... 10
The Company.............................................................................................. 11
The Advisor.............................................................................................. 12
Background and Reasons for the Transaction............................................................... 12
Exchange Value........................................................................................... 13
Consideration of Alternatives............................................................................ 13
Conflicts of Interest and Benefits to Insiders........................................................... 15
Compensation, Reimbursements and Distributions to the General Partners................................... 16
Dividend Policy.......................................................................................... 17
Federal Income Tax Consequences.......................................................................... 17
Accounting Treatment..................................................................................... 17
Ratio of Earnings to Fixed Charges....................................................................... 18
Organizational Structure................................................................................. 18
Comparison of Units and Shares........................................................................... 22
RISK FACTORS............................................................................................... 23
Risks Associated with the Transaction.................................................................... 23
No Prior Market for the Shares; Market Price May Decrease After the Transaction........................ 23
No Prior Market for the Notes; Price May Decrease After the Transaction................................ 23
Conflicts of Interest of the General Partners.......................................................... 23
Fundamental Change in the Nature of Investment......................................................... 23
Possible Lower Distributions........................................................................... 24
Lack of Operating History.............................................................................. 24
Significant Change in Business Operations.............................................................. 24
No Dissenters' Rights.................................................................................. 24
Possible Alternatives to the Transaction Will Not Be Pursued........................................... 24
Conflicts of Interest Created by External Management Structure......................................... 25
Federal Income Tax Consequences........................................................................ 25
A Majority in Interest Will Bind All Investors in Each Partnership..................................... 25
Notes are Unsecured Obligations of the Company......................................................... 25
Contingent or Undisclosed Liabilities.................................................................. 25
Investors Who Elect to Receive Notes Could Receive Shares.............................................. 25
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ii
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Risks Associated with the Company's Business............................................................. 26
Leveraging Strategy.................................................................................... 26
No Assurance of Successful Implementation of New Business Plan......................................... 26
Real Estate Investments................................................................................ 26
Investments in Assets Located Outside the United States................................................ 27
Dependence on Available Investments.................................................................... 27
Competition............................................................................................ 27
Illiquidity of Real Estate............................................................................. 27
Unspecified Acquisitions............................................................................... 27
Investment Strategy of the Company..................................................................... 27
Title Defects.......................................................................................... 28
Environmental Laws May Impose Additional Liability..................................................... 28
Board of Directors May Change Policies Without Shareholder Approval.................................... 28
Registration Under the Investment Company Act.......................................................... 28
Potential Liability Under the Americans With Disabilities Act.......................................... 28
Regulatory and Legislative Risks......................................................................... 28
BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE TRANSACTION............................................... 29
History of the Partnerships.............................................................................. 29
The Decision to Pursue the Transaction................................................................... 31
Preparation for and Chronology of Events Leading to the Transaction...................................... 32
Alternatives Considered.................................................................................. 36
Reasons for, and Benefits of, the Transaction............................................................ 38
Consequences if Transaction Not Completed................................................................ 39
THE TRANSACTION............................................................................................ 39
General.................................................................................................. 39
Terms of the Merger Agreement............................................................................ 40
Issuance of Shares and Notes of the Company.............................................................. 40
No Fractional Shares..................................................................................... 41
Fractional Notes......................................................................................... 41
Transaction Expenses..................................................................................... 41
Accounting Treatment..................................................................................... 42
Regulatory Matters....................................................................................... 42
The Special Committee.................................................................................... 42
Recommendation of the General Partners and the Special Committee......................................... 44
Amendments to Partnership Agreements..................................................................... 44
Effect of the Transaction on Dissenting Investors........................................................ 44
Effective Time........................................................................................... 44
Conflicts of Interest and Benefits to Insiders........................................................... 44
FAIRNESS................................................................................................... 45
Belief as to Fairness.................................................................................... 45
Material Factors Underlying Belief as to Fairness........................................................ 45
Certain Alternatives to the Transaction.................................................................. 48
Comparison of Certain Alternatives to the Transaction.................................................... 50
The General Partners' Analysis for the Transaction....................................................... 53
FAIRNESS OPINION AND APPRAISALS............................................................................ 53
Fairness Opinion......................................................................................... 53
Bringdown Fairness Opinion............................................................................... 57
Appraisals............................................................................................... 58
Compensation and Material Relationships.................................................................. 62
EXCHANGE VALUES............................................................................................ 62
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iii
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COMPARISON OF LIMITED PARTNERSHIP AND CORPORATE STRUCTURE.................................................. 65
Form of Organization..................................................................................... 65
Business................................................................................................. 65
Duration of Existence.................................................................................... 66
Investment Objectives and Policies....................................................................... 66
Borrowing Policies....................................................................................... 67
Management............................................................................................... 67
Fees and Expenses........................................................................................ 68
Voting Rights............................................................................................ 69
Anti-Takeover Provisions................................................................................. 70
Review of Investor Lists................................................................................. 70
Nature of Investment..................................................................................... 71
Potential Dilution of Payments Rights.................................................................... 72
Expected Distributions and Payments...................................................................... 72
Liquidity and Transferability............................................................................ 73
Taxation of Taxable Investors............................................................................ 73
THE COMPANY................................................................................................ 74
Overview................................................................................................. 74
The Advisor.............................................................................................. 75
Investment Strategy...................................................................................... 76
Financing Strategies..................................................................................... 77
ConAm Agreement.......................................................................................... 77
Risk Control............................................................................................. 78
Affiliated REIT.......................................................................................... 78
Operating Restrictions................................................................................... 78
Dividend Policy.......................................................................................... 79
Policy with Respect to Certain Activities................................................................ 79
Legal Proceedings........................................................................................ 79
MANAGEMENT OF THE COMPANY.................................................................................. 80
Directors and Executive Officers of the Company.......................................................... 80
Board of Directors Compensation.......................................................................... 83
Committees of the Directors.............................................................................. 83
Compensation of Executive Officers....................................................................... 84
Stock Option Plan........................................................................................ 84
Limitation of Directors' Liability....................................................................... 85
Indemnification.......................................................................................... 85
The Advisor.............................................................................................. 86
PRIOR PARTNERSHIPS......................................................................................... 88
VOTING..................................................................................................... 90
Solicitation by the General Partners..................................................................... 90
Voting Procedures........................................................................................ 91
Record Date and Outstanding Units........................................................................ 92
Solicitation of Votes; Solicitation Expenses............................................................. 92
Revocability of Consent.................................................................................. 92
Communicating With Other Investors....................................................................... 93
No Right of Appraisal.................................................................................... 93
FIDUCIARY RESPONSIBILITIES................................................................................. 93
PRO FORMA FINANCIAL INFORMATION............................................................................ 94
THE PARTNERSHIPS........................................................................................... 111
Cap Source I............................................................................................. 111
</TABLE>
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Cap Source II............................................................................................ 114
SECONDARY MARKET AND OWNERSHIP OF PARTNERSHIP UNITS........................................................ 116
Sale Prices of Units..................................................................................... 116
Unitholders.............................................................................................. 120
Partnership Distributions................................................................................ 120
Third Party Tender Offers................................................................................ 121
SELECTED FINANCIAL DATA OF THE PARTNERSHIPS................................................................ 123
DESCRIPTION OF CAPITAL STOCK............................................................................... 126
General.................................................................................................. 126
Common Stock............................................................................................. 126
Preferred Stock.......................................................................................... 127
Shares Eligible for Future Sale.......................................................................... 128
THE NOTES.................................................................................................. 128
General.................................................................................................. 128
Allocation of Notes...................................................................................... 128
Notes.................................................................................................... 129
CERTAIN PROVISIONS OF THE COMPANY'S CERTIFICATE OF INCORPORATION AND BYLAWS................................ 132
FEDERAL INCOME TAX CONSEQUENCES............................................................................ 134
General.................................................................................................. 134
Opinions of Counsel...................................................................................... 135
Certain Tax Differences Between the Ownership of Units and the Shares.................................... 135
Tax Treatment of the Transaction......................................................................... 135
Taxation of the Company.................................................................................. 138
Taxation of Shareholders................................................................................. 138
Taxation of Non-U.S. Shareholders........................................................................ 139
Tax Issues Associated with Notes......................................................................... 141
Considerations for Tax-Exempt Shareholders............................................................... 143
General Partner Liabilities.............................................................................. 143
Termination of Trade Processing.......................................................................... 143
EMPLOYEE RETIREMENT INCOME SECURITY ACT.................................................................... 144
INDEPENDENT PUBLIC ACCOUNTANTS............................................................................. 145
LEGAL MATTERS.............................................................................................. 145
GLOSSARY................................................................................................... 146
INDEX TO FINANCIAL STATEMENTS.............................................................................. FS-1
LIST OF APPENDICES
APPENDIX A--Form of Agreement and Plan of Merger........................................................... A-1
APPENDIX B--Fairness Opinion............................................................................... B-1
APPENDIX C--Bringdown Fairness Opinion..................................................................... C-1
APPENDIX D--Prior Partnerships Performance Tables.......................................................... D-1
</TABLE>
FINANCIAL STATEMENTS--The Financial Statements of the Partnerships are included
in a separate volume to this Prospectus/Consent Solicitation Statement. Such
Financial Statements constitute an integral part of this Prospectus/Consent
Solicitation Statement and should be reviewed in conjunction with this material
and the accompanying Prospectus Supplement.
v
<PAGE>
SUMMARY
THE FOLLOWING SUMMARY DOES NOT PURPORT TO BE COMPLETE AND IS QUALIFIED IN
ITS ENTIRETY BY REFERENCE TO THE MORE DETAILED INFORMATION APPEARING ELSEWHERE
IN THIS PROSPECTUS/CONSENT SOLICITATION STATEMENT AND THE APPENDICES AND
SUPPLEMENTS HERETO. SEE "GLOSSARY" FOR CERTAIN CAPITALIZED TERMS USED IN THIS
PROSPECTUS/ CONSENT SOLICITATION STATEMENT.
THE TRANSACTION
This Prospectus/Consent Solicitation Statement relates to the proposed
merger (the "Transaction") of Capital Source L.P., a Delaware limited
partnership ("Cap Source I"), and Capital Source II L.P.-A, a Delaware limited
partnership ("Cap Source II," and together with Cap Source I, the
"Partnerships"), and the general partners of the Partnerships (the "General
Partners"), with and into America First Real Estate Investment Company, Inc., a
newly organized Delaware corporation (the "Company"). The Company was organized
to implement a new growth-oriented business strategy for the Partnerships upon
completion of the Transaction. The Transaction is being proposed in accordance
with an Agreement and Plan of Merger among the Partnerships, the General
Partners and the Company (the "Merger Agreement"). The form of the Merger
Agreement is attached to this Prospectus/Consent Solicitation Statement as
Appendix A. In connection with the Transaction, the Company will distribute the
securities described below to the Partnerships and the owners of the General
Partners in exchange for the assets of the Partnerships and the General
Partners. The Partnerships in turn will distribute the securities to their
respective holders (the "Investors") of beneficial assignment certificates
representing assigned limited partner interests in the Partnerships (the
"Units") based upon the number of Units held by each Investor, and to the owners
of the General Partners in exchange for the transfer of the General Partners'
assets to the Company pursuant to the Merger Agreement. Upon completion of the
Transaction, the separate existence of the Partnerships will cease.
Investors are being asked to approve the Transaction as described in this
Prospectus/Consent Solicitation Statement. Upon completion of the Transaction,
Investors will receive, at their election and subject to certain limitations,
shares of the Company's $.001 par value common stock (the "Shares") or the
Company's Variable Rate Junior Notes Callable On or After the Date of Issuance
(the "Notes"). Investors who vote "NO" against the Transaction ("Dissenting
Investors") will receive, at their election, either Shares or Notes in
connection with the transaction. The Company may, at its option, pay cash in
lieu of issuing Notes. See "THE NOTES." The owners of the General Partners will
receive 33,549 shares in connection with the Transaction. The common stock of
the Company (the "Common Stock") will be listed on the New York Stock Exchange
("NYSE"), subject to official notice of issuance, under the symbol "AFE."
The General Partners are Insured Mortgage Equities, Inc. and America First
Capital Source I, L.L.C. (together, the "Cap Source I General Partners"), and
Insured Mortgage Equities II L.P. and America First Capital Source II, L.L.C.
(together, the "Cap Source II General Partners"). The Transaction is being
proposed by the General Partners in an effort to increase the value of the
investments held by the Investors while offering substantially enhanced
liquidity. To achieve these objectives, the General Partners are proposing to
restructure the business of the Partnerships by merging the Partnerships and the
General Partners with and into the Company in accordance with the Merger
Agreement. After the Transaction, the Company's primary business objective will
be to provide Investors who receive Shares ("Shareholders") with long term
after-tax returns that are greater than those available from real estate
investment trusts ("REITs") and other similar publicly traded real estate
companies. The Company expects to achieve this objective by investing in assets
and using investment and management strategies not generally permitted to or
used by REITs. Such strategies may include investing in real estate operating
companies, in underperforming real estate assets such as office buildings and
apartment complexes with the objective of renovating and repositioning them to
increase values, and in underperforming markets and foreign markets that the
Company expects will show significant improvement. See "THE COMPANY." There can
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be no assurance, however, that any or all of the Company's business objectives
will be met, or if met, will result in returns greater than those available from
REITs.
The Transaction is subject to certain conditions and will not occur unless,
among other things: (i) both Partnerships participate in the Transaction, and
(ii) Dissenting Investors do not elect to receive more than the maximum amount
of Notes issuable in connection with the Transaction. Participation in the
Transaction requires approval of a majority in interest of Investors in each
Partnership. The maximum amount of Notes that may be issued in the Transaction
(the "Maximum Note Limitation") is $40.0 million. If the Transaction is not
consummated, the Partnerships will continue to operate as separate legal
entities with their own assets and liabilities, and their respective investment
objectives, policies and restrictions will not change.
To comply with the rules and regulations of the SEC governing the
Transaction and to facilitate the Transaction the General Partners amended the
limited partnership agreements of the Partnerships (the "Partnership
Agreements") to allow a record date to be set and notice of the consent to be
given up to 120 days prior to the time at which the consent of the Investors is
being solicited and to provide for the exchange of Units for Shares based solely
on the books and records of the Partnership. For a detailed description of these
amendments (the "Amendments"), see "THE TRANSACTION--Amendments to Partnership
Agreements." Investors voting "YES" in favor of the Transaction will be deemed
to have voted in favor of ratifying the Amendments and any other actions taken
by the General Partners to facilitate the Transaction.
SUMMARY RISK FACTORS
The following is a summary of the potential disadvantages, adverse
consequences and risks of the Transaction. This summary is qualified in its
entirety by the more detailed discussion in the section entitled "RISK FACTORS"
contained in this Prospectus/Consent Solicitation Statement.
- There is substantial uncertainty as to the prices at which the Common
Stock will trade after the Transaction. The price of the Shares may
decrease after the Transaction due to the potentially large number of
Shares that may be sold immediately by Shareholders. Thus, the Common
Stock may trade at prices substantially below the estimated liquidation
value of the Company's assets and the $25 per Share price arbitrarily
determined for the sole purpose of allocating the Shares in the
Transaction.
- A public market for the Notes is not expected to develop. If the Notes are
sold, they may sell at prices substantially below their issuance price.
Investors who receive Notes ("Noteholders") are likely to receive the full
face amount of the Notes only if they hold the Notes to maturity, which is
approximately eight years after the Transaction, or if the Company repays
or refinances the Notes at or prior to maturity.
- The General Partners initiated and participated in the structuring of the
Transaction and have certain conflicts of interests with respect to its
completion. The owners of the General Partners will receive certain
economic benefits as a result of the Transaction, including an aggregate
of 33,549 shares, which could have an approximate value of $838,725 based
on an assumed value of $25 per Share. In addition, the Company's advisor
(the "Advisor"), a subsidiary of American First Companies L.L.C. ("America
First Companies"), which controls the General Partners, will be entitled
to receive management fees from the Company following the Transaction. See
"THE TRANSACTION--Conflicts of Interest and Benefits to Insiders" and
"MANAGEMENT OF THE COMPANY--The Advisor."
- The Transaction involves a fundamental change in the nature of the
Investors' investment from an investment in a finite-life entity in which
Investors will receive a distribution upon liquidation based on the net
proceeds from the sale of the entity's assets, to an investment in an
infinite-life entity in which Shareholders will be able to liquidate their
investments only by selling their Shares on the NYSE or in private
transactions. Retaining the finite life feature of the Partnerships would
allow
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Investors eventually to receive liquidation proceeds from the disposition
of the Partnership assets, and an Investor's share of these proceeds could
be higher than the amount realized from the sale of the Company's Shares
or payments on the Notes.
- There can be no guarantee with respect to the level of the Company's
future dividends, and regardless of the initial level of such dividends,
they could decline in the future so that some Shareholders would receive
dividends that are lower than the distributions they received as Investors
prior to the Transaction. The Company may also reinvest cash generated by
the sale of existing assets or from operations to acquire additional
assets, potentially causing cash dividends to be lower than the
distributions made by the Partnerships in certain cases.
- The Company has only recently been organized and has no operating history.
As a result, there can be no assurance that any of the Company's planned
future activities will be successful.
- There is a material difference between the investment strategies and
operating policies of the Partnerships and those of the Company. The
Company's investment objectives will be to identify and pursue
growth-oriented real estate investments, which will create a greater
degree of risk for Investors than the investments of the Partnerships. The
Company's investment strategies and operating policies are determined by,
and may be modified or altered by, the Board of Directors of the Company
(the "Board of Directors") without the consent of the Shareholders.
- Dissenting Investors are not entitled to receive cash based on an
appraisal of their Units or other dissenters' rights under Delaware law,
and no such rights will be afforded by the Partnerships. Dissenting
Investors will only have the right to exchange their Units for Notes if
they so elect, subject to certain limitations. See "THE NOTES."
- There are alternatives to the Transaction. By approving the Transaction,
Investors will effectively preclude the pursuit of certain alternatives.
See "BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE
TRANSACTION--Alternatives Considered."
- The external management structure of the Company creates certain conflicts
of interest. In particular, the Company's advisor may also manage other
entities with similar investments, objectives and goals, and may be
required to resolve conflicts between the entities it manages from time to
time.
- To the extent Notes are issued, the Partnerships will be required to
recognize gain and include such gain in income. Each Investor, regardless
of whether such Investor chooses Shares or Notes, would be allocated a
portion of such gain based on his ownership of Units. In the event the
maximum amount of Notes are chosen, the resulting gain would be
approximately $26,000,000 for both Partnerships. The maximum potential
gain for Cap Source I and Cap Source II is approximately $5.12 per Unit
and $2.20 per Unit, respectively.
- The Company intends to use debt financing to increase its real estate
asset portfolio. Although the Notes will be issued under an indenture (the
"Indenture") which creates certain debt limitations, the Company's
organizational documents do not limit the amount of debt the Company may
incur. The Company may therefore be more leveraged than either of the
Partnerships. The Company's use of debt financing may increase the
possibility of default on the Company's obligations, which could adversely
affect the Company's earnings and its ability to pay expected dividends to
Shareholders.
- Approval of the Transaction by Investors holding a majority of outstanding
Units of a Partnership may cause the Partnership to be merged with and
into the Company, and such approval will bind all Investors in such
Partnership, including Dissenting Investors and Investors who abstained
from voting with respect to the Transaction.
- The Notes, which will be prepayable at any time, are unsecured obligations
of the Company and, as a practical matter, will be junior to all other
debt of the Company. The Notes will bear interest at a variable rate that
may be lower than rates on other variable rate debt instruments that may
be
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perceived as having comparable or lower risks than the Notes. Noteholders
will not hold an equity interest in the Company and therefore will not be
able to participate in the Company's growth or benefit from any increases
in the value of the Shares.
- The Company may be liable for unknown, undisclosed or contingent
liabilities of the Partnerships, which could adversely affect the
liquidity of the Company and its ability to pay expected dividends to
Shareholders.
- If Dissenting Investors elect to receive Notes in excess of the Maximum
Note Limitation, the Transaction will not be consummated. If this does not
occur, but the total amount of Notes allocable to all Investors who elect
to receive Notes exceeds the Maximum Note Limitation, Notes will be
allocated first to Dissenting Investors who elected to receive Notes and
then, on a pro rata basis, to Investors who abstained from voting or who
voted "YES" in favor of the Transaction ("Consenting Investors"). Thus, an
Investor could choose Notes but receive Shares instead. To be assured of
receiving Notes, an Investor must vote "NO" with respect to the
Transaction and elect to receive Notes.
BENEFITS OF THE TRANSACTION
The following is a summary of the principal benefits of the Transaction.
This summary is qualified in its entirety by the more detailed discussion in the
section titled "BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE TRANSACTION"
contained in this Prospectus/Consent Solicitation Statement:
- The Transaction creates the potential for substantially enhanced liquidity
of investment due to conversion of limited partnership interests into
publicly traded Shares of the Company. There is no established public
trading market for the Units, and secondary sales activity for the Units
has been limited and sporadic at prices which the General Partners believe
are generally below fair value. The Transaction offers Shareholders
liquidity through the public trading expected to result from the listing
of the Common Stock on the NYSE.
- The Company will be afforded significant growth and profit opportunities
due to new real estate investments. The Company will expand the investment
objectives and policies of the Partnerships and will have the potential
for enhanced access to and flexibility in obtaining additional equity and
debt financing. In particular, the Company will have the ability to fund
future portfolio growth through the issuance of additional publicly traded
securities and the raising of funds from borrowing under secured and
unsecured debt obligations.
- If the Transaction is completed, affiliates of the Cap Source I General
Partners have agreed to permanently waive amounts which may be payable to
such affiliates by certain Operating Partnerships (as defined herein)
pursuant to the terms of the respective partnership agreements of such
Operating Partnerships. As of June 30, 1998, such amounts total
$3,416,295.
- By combining the Partnerships into a single ownership entity, the
Transaction will create an investment portfolio larger and more
diversified than the portfolio of an individual Partnership. The
diversification of assets to be held by the Company is expected to limit
the effect of adverse developments and reduce Shareholder risks associated
with investments concentrated in any particular asset type. The increased
size and the resulting combination of operations spreads the risk of the
investment over a broader group of assets and reduces the dependence of
Investors' investment upon the performance of any particular asset or
group of assets.
- The Transaction will provide a capital and operating structure that will
allow the Company to respond more efficiently to, and to anticipate the
occurrence of, changing conditions in the U.S. equity markets, thereby
potentially reducing the adverse effects of such changes.
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- The Transaction will result in simplified federal and state tax reporting
for Investors. Shareholders and Noteholders will receive Form 1099 rather
than the more complicated Schedule K-1 and will no longer be subject to
state tax withholding or be required to file individual state tax returns
(other than in their state of residence) solely as a result of an
investment in the Company.
For a discussion of the potential benefits of the alternatives to the
Transaction and the reasons such alternatives were rejected by the General
Partners, see "BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE
TRANSACTION--Alternatives Considered," below, and "FAIRNESS--Comparison of
Alternatives to the Transaction." The Transaction will require Investors to
forego certain alternatives to the Transaction.
FAIRNESS
The General Partners reasonably believe the terms of the Transaction are
fair as a whole, to each of the Partnerships and to the Investors in each of the
Partnerships. The General Partners have based their determination as to the
fairness of the Transaction on the following material factors: (i) the process
of arm's-length negotiation of the terms and conditions of the Transaction, with
a committee (the "Special Committee") representing the interests of the
Partnerships and Investors; (ii) the opportunity for each Investor to object to
the Transaction and the requirement that the Transaction be approved by
Investors holding a majority in interest in each of the Partnerships'
outstanding Units; (iii) the form and amount of consideration offered to the
Investors; (iv) the method of allocating the Shares and Notes among the
Partnerships and the General Partners in the Transaction and the Exchange Values
used in connection with this allocation (the "Exchange Values"); (v) the
fairness opinion dated May 7, 1998 (the "Fairness Opinion"), and written
confirmatory opinion dated , 1998 (the "Bringdown Fairness Opinion"),
rendered by Sutro & Co., Inc. ("Sutro & Co."); (vi) the independent appraisals
(the "Appraisals") prepared by Valuation Research Corporation ("Valuation
Research"), which were used in part in the determination of the Exchange Values;
(vii) the lack of material differences with respect to the assets of the
Partnerships and the consistent valuation methodology applied to the assets; and
(viii) the fact that all Investors, including Dissenting Investors, will be
given the opportunity to elect to receive Notes, subject to certain limitations.
For a more detailed discussion of the General Partners' belief as to the
fairness of the Transaction, see "FAIRNESS."
FAIRNESS OPINION
The Special Committee retained Sutro & Co. to render the Fairness Opinion as
to the fairness, from a financial point of view, of the Transaction. Based on
the analysis described under "FAIRNESS OPINION AND APPRAISALS--Fairness
Opinion," and subject to the assumptions, limitations and qualifications noted
in the Fairness Opinion, Sutro & Co. concluded that the aggregate consideration
to be received by the Investors and General Partners, collectively, the
allocation of such consideration among the Investors and General Partners, and
the principal allocation of the Notes, in the Transaction, is fair to the
Investors and the General Partners from a financial point of view.
The full text of the Fairness Opinion and the assumptions and qualifications
made, matters considered and limitations imposed on the review and analysis, is
set forth at Appendix B attached hereto and should be read in its entirety.
BRINGDOWN FAIRNESS OPINION
Sutro & Co. subsequently delivered its Bringdown Fairness Opinion, that the
Transaction continues to be fair from a financial point of view. The full text
of the Bringdown Fairness Opinion, which contains a description of the
assumptions and qualifications made, matters considered and limitations imposed
on the review and analysis, is set forth in Appendix C and should be read in its
entirety. See "FAIRNESS OPINION AND APPRAISALS--Bringdown Fairness Opinion."
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THE SPECIAL COMMITTEE
The General Partners arranged for the organization of the Special Committee
to represent the interests of the Partnerships and Investors in negotiating the
terms and conditions of the Transaction and the Advisory Agreement. The Special
Committee also negotiated the fees to be paid to America First Real Estate
Advisors LLC, a Delaware limited liability company (the "Advisor") under the
Advisory Agreement following the Transaction. The Exchange Values were initially
determined by the General Partners and subsequently reviewed and approved by the
Special Committee. The Special Committee concluded that the terms of the
Transaction are fair as a whole, to the Partnerships and to the Investors in
each of the Partnerships. The Special Committee was retained without conditions
or restrictions.
The members of the Special Committee are Messrs. Martin A. Massengale and
George J. Kubat. Since the organization of the Special Committee, it has met in
person on four occasions and has had seven additional telephonic meetings and
numerous other telephone conferences for the purpose of considering the proposed
Transaction. As part of its analysis of the Transaction, the Special Committee
engaged its own legal counsel and engaged Sutro & Co. to render the Fairness
Opinion with regard to the Transaction. See "FAIRNESS OPINION AND APPRAISALS."
The two members of the Special Committee serve as directors on the board of
managers of America First Companies. America First Companies is a privately held
limited liability company that controls the General Partners. The two members of
the Special Committee are independent members of the board of managers of
America First Companies for purposes of meeting the independent director
requirement of the national securities exchanges where securities of other
companies sponsored by affiliates of the General Partners are traded. The two
members of the Special Committee do not own an equity interest in America First
Companies or the General Partners, nor will they receive any interest in the
Company or the Advisor. The two members will not be employed by, or serve as a
director of the Advisor or the Company following the Transaction. The
compensation for the Special Committee is a fixed amount of $15,000 per member,
plus reimbursement of expenses, and not contingent upon the outcome of the
Transaction. Therefore, the General Partners have not retained an unaffiliated
representative to act on behalf of the Investors. The Company believes that the
affiliation of the members of the Special Committee with America First Companies
does not materially and adversely affect their ability to act as representatives
for the interests of the Investors. If the General Partners had retained an
unaffiliated party to represent the interests of the Investors, those
representatives might have been able to negotiate a more favorable fee structure
for the Advisor and better terms for the Transaction on behalf of the Investors.
RECOMMENDATION OF THE GENERAL PARTNERS AND THE SPECIAL COMMITTEE; FAIRNESS
DETERMINATION
The General Partners, together with the Special Committee, have determined
that the Transaction is in the best interests of the Investors and that it is
fair to the Partnerships, to the Investors in each of the Partnerships and as a
whole. Accordingly, the General Partners have approved the Transaction and the
Merger Agreement, and the General Partners and the Special Committee recommend
that Investors vote "YES" in favor of the Transaction and the adoption of the
Merger Agreement. The General Partners believe the Transaction is the most
attractive alternative for providing Investors with the possibility of
increasing the value of their investments while offering substantially enhanced
liquidity. The Special Committee was not engaged to determine whether the
Transaction is the most attractive alternative to the Investors. See "THE
TRANSACTION--Recommendation of the General Partners and the Special Committee"
and "FAIRNESS."
APPRAISALS
In connection with the Transaction, Valuation Research, an independent full
service appraisal firm, rendered its opinion as to the fair market value of the
real estate held by the Operating Partnerships (the "Properties"). In its
appraisal of the Properties, Valuation Research considered the cost approach,
the direct sales comparison approach and the income approach to market value,
and relied upon the income approach as its primary appraisal technique, using
the direct sales comparison approach as a basis for
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checking the reasonableness of the results obtained using the income approach.
See "FAIRNESS OPINION AND APPRAISALS--Appraisals."
CONTACTS REGARDING FAIRNESS OPINIONS, VALUATIONS AND OTHER REPORTS
In addition to Sutro & Co., the Special Committee conducted interviews with
three other firms regarding the possibility of advising the Special Committee
with respect to the Transaction and issuing a fairness opinion for the
Transaction. The three other firms were Valuation Research, J.C. Bradford & Co.
and Schroders. The Special Committee selected Sutro & Co. over these firms based
on Sutro & Co.'s experience in similar transactions and its research
capabilities, reputation, resources and more competitive fee structure. Prior to
organizing the Special Committee, representatives of the General Partners
contacted Robert A. Stanger & Co., Inc. regarding a fairness opinion for the
Transaction. The representatives of the General Partners did not pursue these
discussions after it was decided that the Special Committee would select the
fairness opinion provider. Other than Valuation Research and Robert A. Stanger &
Co., Inc., the General Partners did not make any other contacts with outside
parties regarding the valuation of the Properties or other Partnership assets or
commission any other report with respect to the Transaction. See "BENEFITS OF,
AND BACKGROUND AND REASONS FOR, THE TRANSACTION--Preparation for and Chronology
of Events Leading to the Transaction."
THE SHARES
In connection with the Transaction, the Company will issue to the
Partnerships and the owners of the General Partners up to an aggregate of
3,354,887 Shares. Of these Shares, the owners of the General Partners will
receive an aggregate of 33,549 Shares in exchange for transferring the General
Partners' assets to the Company in connection with the Transaction. The total
number of Shares allocated to the Partnerships and the owners of the General
Partners was based upon the Exchange Value for each Partnership and was derived
by dividing such Exchange Value by $25, an arbitrary price per Share chosen by
the General Partners for the sole purpose of allocating the Shares.
THE NOTES
All Investors, including Dissenting Investors, will be given the opportunity
to elect to receive Notes instead of Shares, subject to the limitations
discussed below. The Notes will be Variable Rate Junior Notes Callable On or
After the Date of Issuance and will be unsecured obligations of the Company. The
Company may issue additional senior debt, which may be secured, in compliance
with the covenants of the Notes for the issuance of senior debt.
The Notes will bear interest at a floating rate equal to 120% of the annual
applicable federal rate for debt instruments with a term of not over three years
as determined under the Internal Revenue Code of 1986, as amended (the "Code")
and applicable regulations thereunder. The interest rate on the Notes will be
adjusted and paid annually. The Notes will mature on , 2006 and are
subject to optional redemption by the Company at any time. This optional
redemption may prevent the sale of the Notes at a premium and limit the term the
Notes will be outstanding. See "THE NOTES."
The Company may, at its option, pay cash in lieu of issuing the Notes. If
the Company elects to pay cash to Investors otherwise entitled to receive Notes,
it will pay such Investors an amount equal to the principal amount of Notes such
Investors would have received plus interest accrued to the date of payment at a
rate determined as set forth above.
The total amount of Notes to be issued is subject to the Maximum Note
Limitation, which is equal to $40.0 million. See "THE NOTES."
VOTING PROCEDURES
Each Investor is being asked by the General Partners to consider the
following elections with respect to the Transaction:
"YES," I approve of my Partnership's participation in the Transaction.
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or
"NO," I do not approve of my Partnership's participation in the Transaction.
Investors may also abstain from voting.
Each Unit entitles the holder thereof to one vote. An Investor will receive
Shares unless the Investor elects to receive Notes. An Investor may elect to
receive Notes regardless of whether he votes "YES" or "NO" with respect to the
Transaction. An otherwise valid consent card will be deemed to grant consent to
the Transaction if it is not marked "NO" or to abstain. See "VOTING."
The General Partners will not hold a meeting of the Investors to consider
the Transaction, but instead are seeking the written consent of the Investors as
provided in Article X of the Partnership Agreements. Only Investors holding
Units of record at the close of business on , 1998 (the "Record Date")
will be entitled to vote with respect to the Transaction. A consent card (the
"Consent Card") is included with this Prospectus/Consent Solicitation Statement
and Investors are asked to complete, date and sign the Consent Card and return
it to in the enclosed envelope as soon as possible. In order to be
valid, consents must be received by by 5:00 p.m. Eastern Time on
, 1998, unless such date is extended by the General Partners in their
sole discretion (the "Approval Date"). See "VOTING."
An Investor who does not wish to approve his Partnership's participation in
the Transaction may either (i) vote "NO" or (ii) abstain from voting. An
Investor who votes "NO" will receive Shares if the Transaction is completed,
unless such Investor elects to receive Notes as indicated on the Consent Card.
An Investor who abstains from voting with respect to the Transaction by
indicating his abstention on the Consent Card will also receive Shares if the
Transaction is completed, unless such Investor elects to receive Notes as
indicated on the Consent Card. An Investor who does not return the Consent Card
will receive Shares if the Transaction is completed. Investors may withdraw or
revoke their consent at any time prior to the Approval Date. See
"VOTING--Revocability of Consent."
Investors who sign and return the Consent Card without indicating a vote
will be deemed to have voted "YES" in favor of the Transaction. Such Investors
and Investors voting "YES" in favor of the Transaction will also be deemed to
have voted in favor of ratifying the Amendments and any other actions taken by
the General Partners to facilitate the Transaction. For a description of the
Amendments see "THE TRANSACTION--Amendments to Partnership Agreements."
THE GENERAL PARTNERS BELIEVE THAT THE TERMS OF THE TRANSACTION ARE FAIR AND
IN THE BEST INTERESTS OF THE PARTNERSHIPS AND THE INVESTORS AND RECOMMEND THAT
INVESTORS VOTE "YES" IN FAVOR OF THE TRANSACTION.
COMMUNICATING WITH OTHER INVESTORS
Under Rule 14a-7 of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), each Partnership, upon written request from an Investor, will
deliver to such Investor (i) a statement of the approximate number of Investors
of the Partnership and (ii) the estimated cost of mailing proxy materials or
similar communications to the Investors of such Partnership. In addition, under
such rule, an Investor has the right, at his or her option, to have his or her
Partnership (i) mail (at the Investor's expense) any such materials which the
Investor desires to deliver to the other Investors of the Partnership in
connection with the Transaction or (ii) to have the Partnership deliver, within
five business days of the receipt of the request, a reasonably current list of
the names and addresses of the Investors of the Partnership as of the Record
Date. The Partnerships may require a requesting Investor to pay the reasonable
cost of duplicating and mailing such Investor list. Any such requests should be
sent to America First Investor Services Department, 1004 Farnam Street, Suite
400, Omaha, Nebraska, 68102.
NO DISSENTERS' RIGHTS
Dissenting Investors are not entitled to receive cash based on an appraisal
of their Units or other dissenters' or appraisal rights under the Partnership
Agreements or Delaware law, nor will such rights be
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provided by the Partnerships or the Company. Dissenting Investors do, however,
have the right to elect to exchange their Units for Notes rather than Shares. If
a Dissenting Investor votes against the Transaction but does not elect to
receive Notes, the Dissenting Investor will receive Shares. See "VOTING--No
Right of Appraisal."
THE COMPANY
The Company was organized under the laws of the State of Delaware on
February 5, 1998, to facilitate the Transaction. As a result of the Transaction,
the Company will acquire the assets and liabilities of the Partnerships and
General Partners.
Following the Transaction, the Company's primary business objective will be
to provide Shareholders with long term after-tax returns that are greater than
those available from REITs and other similar publicly traded real estate
companies. The Company expects to achieve this objective by investing in assets
and using investment and management strategies not generally permitted to or
employed by REITs. There can be no assurance, however, that the Company's
business objectives will be met.
In furtherance of its business objectives, the Company intends to focus
initially on investments in four distinct aspects of the real estate business.
The Company will seek to acquire underperforming real estate assets such as
office, residential and other commercial properties and attempt to improve their
value by renovation, redevelopment, and/or releasing and by acquiring over time
groups of similar assets that have a value as a portfolio greater than their
individual values. The Company will also seek investments in real estate
operating companies. Such operating companies include brokers, developers,
partnerships and general partners thereof which own real estate, and other
similar companies. In addition, the Company plans to consider investments in
foreign or foreign-controlled real estate. The Company will also maintain
ownership in the Operating Partnerships and plans to conduct a detailed
evaluation of each of the Properties in order to determine the best strategy to
maximize their value to the Company.
The Company's investment strategy will be funded initially from available
cash and short-term investments and from borrowing against the mortgage-backed
securities (the "GNMA Certificates") guaranteed as to principal and interest by
the United States Government National Mortgage Association ("GNMA") and first
mortgage loans on multifamily housing properties (the "FHA Loans") insured as to
principal and interest by the United States Federal Housing Authority (the
"FHA"), which the Company will acquire from the Partnerships in connection with
the Transaction. The Company also plans to seek additional sources of financing,
both debt and equity, to further its business objectives and investment
strategies.
The Company currently does not intend to qualify as a REIT under the Code.
Consequently, the Company will have the flexibility to respond quickly to
opportunities without the structural limitations imposed by the Code on REITs
and to operate, when deemed advantageous by management, on a more highly
leveraged basis than most REITs. By not qualifying as a REIT under the Code
(which would require the Company to distribute each year at least 95% of its net
taxable income, excluding capital gains), the Company will have the ability to
retain cash flow generated from operations, to retain proceeds from sales of
properties for reinvestment and to sell properties without the substantial
income tax penalties which may be imposed on REITs from certain prohibited
transactions.
In addition, the Company differs from real estate opportunity funds that are
typically structured as private partnerships. Such private partnerships
typically have a finite life which limits their ability to grow and may limit
their ability to maximize value. Furthermore, investment in such private
partnerships are generally limited to large, institutional investors. Unlike
investors in such private partnerships, the Company's Shareholders are expected
to have enhanced liquidity through their ability to sell or margin their Shares.
However, unlike private partnerships and in most cases REITs, the Company will
be subject to corporate level taxation.
11
<PAGE>
The Company will enter into an advisory agreement (the "Advisory Agreement")
with the Advisor to manage the assets held by the Company and to provide other
services to the Company. See "MANAGEMENT OF THE COMPANY--The Advisor" below. The
principal executive offices of the Company are located at 1004 Farnam Street,
Suite 400, Omaha, Nebraska 68102, and its telephone number is (402) 444-1630.
THE ADVISOR
Under the terms of the Advisory Agreement, the Advisor will manage the
investments of the Company, formulate investment criteria, represent the Company
in connection with the acquisition and disposition of real estate assets,
recommend strategies to improve the performance of the Company's investments,
administer the day-to-day operation of the Company, communicate with and
maintain relations with the investors of the Company, and perform such other
services as set forth in the Advisory Agreement and as directed from
time-to-time by the Board of Directors. An external advisor is being used by the
Company in place of full time employees. The General Partners believe that the
Company is not of sufficient size to economically employ on a full time basis
all necessary management or employees with the requisite expertise for managing
the Company's assets. In addition, the General Partners believe that the Advisor
will be able to manage the Company's investments at a lower initial cost than
employing the necessary employees on a full time basis. These beliefs are based
upon an analysis conducted by the General Partners comparing estimated future
costs of employing a full time staff to an estimate of the fees that will be
payable to the Advisor during the initial years of operations of the Company.
For a detailed description of the estimated future fees payable to the Advisor
and an estimate of the cost of employing the necessary full time staff to manage
the Company see "THE COMPANY--The Advisor."
The Advisory Agreement will have an initial term of three years (subject to
earlier termination as provided therein), and will automatically renew for one
year terms unless written notice of termination is delivered 180 days prior to
the expiration of any term. The Advisor will bear all costs of providing
services to the Company, except for the costs of services provided by third
parties, and certain limited office expenses and travel expenses on behalf of
the Company. Pursuant to the terms of the Advisory Agreement, the Advisor will
receive compensation (the "Advisor Fees") in the form of an Acquisition Fee, an
Asset Management Fee and an Incentive Fee on New Assets, as more particularly
described under "MANAGEMENT OF THE COMPANY--The Advisor--THE ADVISORY
AGREEMENT." The Advisor Fees were negotiated with the Advisor by the Special
Committee. The Company may engage affiliates of the Advisor to provide other
services if approved by, and upon the terms approved by, the Independent
Directors (as defined herein) of the Company. See "MANAGEMENT OF THE COMPANY."
The Advisor is indirectly owned by America First Companies, an affiliate of the
General Partners. In addition, Michael B. Yanney, Paul L. Abbott, Gary Thompson,
George H. Krauss, John H. Cassidy and Helen L. Poorman are all directors and/ or
officers of the Company and directors and/or officers of the Advisor. See
"MANAGEMENT OF THE COMPANY--Directors and Executive Officers of the Company" and
"--Directors and Executive Officers of the Advisor."
BACKGROUND AND REASONS FOR THE TRANSACTION
Cap Source I was formed in 1985 and Cap Source II was formed in 1986. Both
Partnerships were formed to make debt and equity investments in multifamily
rental complexes (the "Complexes"). The Partnerships were organized and
sponsored by persons not affiliated with the Company, the Advisor or their
affiliates. The current General Partners acquired ownership of the General
Partner entities in 1991 and 1997.
The General Partners have proposed the Transaction in an effort to, among
other things, increase the value of the investments held by the Investors while
offering substantially enhanced liquidity, provide a capital and operating
structure that will be able to respond more efficiently to changing conditions
in the U.S. equity markets, and simplify federal and state tax reporting for
Investors. To achieve these objectives,
12
<PAGE>
the General Partners are proposing to restructure the business of the
Partnerships by merging them with and into Company, which will pursue new
business objectives and will list its Common Stock on the NYSE. See "THE
COMPANY" and "BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE TRANSACTION."
EXCHANGE VALUE
Investors will receive Shares or Notes based upon the exchange values (the
"Exchange Values") set forth in the table below. In connection with the
Transaction, the owners of the General Partners will receive an aggregate of
33,549 Shares, or approximately 1% of all Shares outstanding following the
completion of the Transaction assuming no Notes are issued, in exchange for all
of their tangible and intangible assets. Approximately 88% of the Partnerships'
combined assets are in the form of (i) cash, (ii) the GNMA Certificates, which
are collateralized by first mortgage loans on multifamily housing properties,
and (iii) the FHA Loans. The Exchange Values, which were initially determined by
the General Partners and subsequently reviewed and approved by the Special
Committee, are based on (i) the principal amount of GNMA Certificates and the
FHA Loans as set forth in the Partnerships' audited financial statements for the
period ended December 31, 1997, (ii) the value of the Partnerships' limited
partnership interests in the Operating Partnerships, and (iii) the market value
of the Partnerships' remaining net assets as set forth in the Partnerships'
audited financial statements for the period ended December 31, 1997. The fair
market value of the real estate held by the Operating Partnerships, as
determined by Valuation Research, was the value assigned to such real estate for
the purpose of determining the Exchange Value. For a more detailed description
of how the Exchange Value was determined, see "EXCHANGE VALUES."
The following table sets forth the Exchange Values attributable to the
Partnerships for purposes of the Transaction.
EXCHANGE VALUE
<TABLE>
<CAPTION>
EXCHANGE VALUE PER $1,000
TOTAL EXCHANGE ORIGINAL INVESTMENT
PARTNERSHIP VALUE BY INVESTORS(1)
- ---------------------------------------------- ------------------- ---------------------------
<S> <C> <C>
Cap Source I.................................. $ 50,991,970 $ 748
Cap Source II................................. 32,880,190 406
-------------------
Total....................................... $ 83,872,160
-------------------
-------------------
</TABLE>
- ------------------------
(1) Since the initial investment by Investors, per $1,000 original investment,
the Cap Source I Investors have received a return of capital of $83 and the
Cap Source II Investors have received a return of capital of $381.
CONSIDERATION OF ALTERNATIVES
In addition to the proposed Transaction, the General Partners considered the
following options: (i) continued management of the Partnerships as currently
structured, (ii) listing the Units of each Partnership on a national securities
exchange or automated quotation system; (iii) merging the Partnerships into a
single publicly traded partnership and listing the resulting partnership
interests on a national securities exchange or automated quotation system; (iv)
merging the Partnerships together to form a single REIT; (v) qualifying each
Partnership as an individual REIT; and (vi) liquidating the Partnerships through
entire portfolio sales or sales of individual properties. For the reasons set
forth under "BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE
TRANSACTION--Alternatives Considered," the General Partners rejected each of the
alternatives in favor of the Transaction.
13
<PAGE>
CONTINUATION OF THE PARTNERSHIPS. An alternative to the Transaction would
be to continue each of the Partnerships in accordance with its respective
existing business plan and the Partnership Agreements. Continuing the
Partnerships without change would have the following benefits: (i) each
Partnership would remain a separate entity, with its own assets and liabilities,
and would remain under an obligation to pursue its original investment
objectives, consistent with the Partnership Agreement; (ii) the Partnership's
performance would not be affected by the performance of the other Partnership,
including the investment objectives, interests and intentions of the Investors
in the other Partnership; (iii) the Partnerships would not incur any expenses in
connection with the Transaction; (iv) the Partnerships would avoid the risks
inherent in the Transaction; and (v) the Partnerships would continue their tax
advantaged status and not be subject to federal income tax. See "RISK FACTORS."
However, maintaining the Partnerships as separate entities would have the
following disadvantages, among others: (i) illiquidity of investment on a
current basis due to the lack of a large and established secondary market; (ii)
inability to raise new capital or make new investments, thus limiting growth of
the Partnerships' capital to that inherent in the existing Partnership
investments; (iii) less flexibility and control in actively managing the
portfolio; (iv) duplication among the Partnerships in reporting, filing and
other costly administrative services; (v) continued complicated tax filings for
Investors; and (vi) the declining value of the mortgage investments due to
amortization and subsequent distribution of such amounts.
LISTING THE PARTNERSHIP UNITS. Another alternative to the Transaction would
be to list the Units of each Partnership on a national securities exchange or an
automated quotation system in an attempt to increase the liquidity of the Units.
However, the General Partners believe that limited partnership units generally
do not trade well on such exchanges or automated quotation systems and that
meaningful liquidity would not be achieved. Furthermore, the General Partners
believe that the market tends to view common stock more favorably than limited
partnership units and that pursuing this alternative would substantially
diminish the Partnerships' ability to grow compared to the Transaction. As a
publicly traded company with a base of assets greater than a single Partnership,
the Company expects to be able to issue additional debt and equity securities
with greater ease and on more attractive terms than would be available to a
Partnership individually. The General Partners therefore concluded that the
potential negatives of this alternative outweigh any advantages it may have over
the Transaction.
MERGER RESULTING IN A SINGLE PUBLICLY TRADED LIMITED PARTNERSHIP. Instead
of participating in the Transaction, the Partnerships could be merged together
to form a single publicly traded limited partnership with the partnership units
of the new partnership listed on a national securities exchange or quoted on an
automated quotation system. For the reasons discussed above with respect to
listing the Units of each individual Partnership, the General Partners
determined that this alternative is less advantageous to the Investors than the
Transaction.
SINGLE REIT. The General Partners considered merging the two Partnerships
into a single entity which would elect REIT status but determined that it was a
less attractive alternative to the Transaction. The General Partners concluded
that the resulting REIT would be too small in terms of total capitalization to
compete with existing REITs having similar investment objectives. Specifically,
the initial capitalization of the new company would be less than $85 million, in
contrast to over 85 publicly traded REITS with total current capitalization in
excess of $500 million each, placing the new company at a significant
disadvantage. For example, many investment opportunities available to the
competition would be foreclosed to the new company because of its small size and
resulting difficulty in attracting capital at competitive pricing. As such,
growth prospects would be constrained by the new company's unfavorable
competitive position. Furthermore, due to restrictions in the Code relating to
distributions of net taxable income and limitations on sales of assets, as a
REIT, the new company would not be able to pursue the business plan described
herein which involves the ability to retain cash flow for investment purposes
and to sell assets regularly after the achievement of goals set for those
assets.
14
<PAGE>
INDIVIDUAL REIT. The General Partners considered converting each
Partnership into an individual REIT, but determined that it was a less
attractive alternative than the Transaction for the same reasons discussed above
for the single REIT alternative. The issues cited above as reasons for the lack
of attractiveness of a new company as a single REIT would be magnified when
applied to each Partnership as an individual REIT due to the significantly
smaller size of each Partnership as a stand alone entity.
LIQUIDATION. Although the investment objectives and policies of the
Partnerships do not contemplate the commencement of the liquidation of the
Partnerships at any specific time, the General Partners assessed the possibility
of commencing the orderly liquidation of the Partnerships and distributing the
net proceeds from such liquidation to the Investors and General Partners. The
General Partners concluded that liquidation would be costly and time-consuming
and would not be as beneficial to Investors as the Transaction.
The General Partners determined that an attempt to liquidate the
Partnerships' investments at the current time would likely result in the
Investors not achieving the full potential benefits from an investment in the
Partnerships. They concluded that liquidation would not be the best option to
realize the optimum return on an investment in the Partnerships because although
the Partnerships' investments in mortgage loans could likely be sold at or
slightly above their face value, most of the Partnerships equity positions in
the Operating Partnerships are not attractive to buyers due to restrictions in
the various partnership documents. Liquidation of most of the equity positions
would require either (i) a protracted period of negotiations with the various
general partners of the Operating Partnerships which could potentially create
both substantial transaction costs and additional costs to the Partnerships of
continuing operations during the negotiation period, and/or (ii) the
Partnerships' accepting substantial discounts in value. In addition, there may
be additional costs associated with representations, warranties, and
indemnifications that purchasers generally require and which may result in
additional escrow costs and a delay in final distributions to Investors.
Furthermore, the liquidation of the Partnerships would involve certain
transaction costs, such as legal fees and various other closing costs, which
would further reduce the amount of net proceeds available for distribution.
On the other hand, in a liquidation of the Partnerships, Investors would
benefit by avoiding the risks of continuing their ownership of the Partnerships
and those associated with the Transaction. Liquidation would provide for the
final liquidation of the Investors' investments and a likely substantial
distribution of cash equal to net liquidation proceeds, though not in an amount
that would allow Investors to realize their original investment. In addition,
the Investors would have the potential to reinvest the net proceeds received in
the liquidation in similar or different investments.
CONFLICTS OF INTERESTS AND BENEFITS TO INSIDERS
The General Partners have participated in the initiation and structuring of
the Transaction and are expected to receive certain benefits as a result of its
completion. First, in connection with the Transaction, the General Partners will
receive an aggregate of 33,549 Shares in exchange for their assets. These Shares
could have an approximate value of $838,725 based on an assumed value of $25 per
Share. In addition, the Advisor, a subsidiary of America First Companies, which
is the entity that controls the General Partners, will serve as the advisor to
the Company and will be entitled to receive management fees from the Company
pursuant to the Advisory Agreement. See "MANAGEMENT OF THE COMPANY--The
Advisor." Further, Michael B. Yanney, who is a member and manager of America
First Companies, will also serve as Chairman of the Board of the Company and the
Advisor. As such, he will be entitled to receive stock options under the
Company's 1998 Stock Option Plan. See "MANAGEMENT OF THE COMPANY--Compensation
of Executive Officers" and "THE TRANSACTION--Conflicts of Interests and Benefits
to Insiders."
15
<PAGE>
COMPENSATION, REIMBURSEMENTS AND DISTRIBUTIONS TO THE GENERAL PARTNERS
The following table sets forth the cash distributions, fees and
reimbursements the General Partners currently receive from the Partnerships and
the fees that the Advisor, an Affiliate of the General Partners, would have
received from the Company had the Transaction occurred prior to the periods
indicated.
COMPARISON OF COMPENSATION,
REIMBURSEMENTS AND DISTRIBUTIONS TO
GENERAL PARTNERS
<TABLE>
<CAPTION>
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
ACTUAL AMOUNTS PAID TO GENERAL PARTNERS
Capital Source I
- -----------------------------------------------------------------------------
1% Share of Cash Distributions(1)........................................ $ 34,424 $ 34,424 $ 34,424
Asset Management and Partnership Administrative Fee(2)................... 0 0 0
Reimbursements(3)........................................................ 138,857 193,822 240,759
---------- ---------- ----------
Subtotal............................................................... $ 173,281 $ 228,246 $ 275,183
---------- ---------- ----------
Capital Source II
- -----------------------------------------------------------------------------
1% Share of Cash Distributions(1)........................................ $ 32,818 $ 32,818 $ 32,818
Asset Management and Partnership Administrative Fee(4)................... 166,000 166,000 166,000
Reimbursements(3)........................................................ 128,754 165,424 211,845
---------- ---------- ----------
Subtotal............................................................... $ 327,572 $ 364,242 $ 410,663
---------- ---------- ----------
Total.................................................................... $ 500,853 $ 592,488 $ 685,846
---------- ---------- ----------
---------- ---------- ----------
COMPANY--FEES PAYABLE TO THE ADVISOR
Acquisition Fee(5)......................................................... $ 0 $ 0 $ 0
Asset Management Fee(6).................................................... 431,790 429,968 433,014
Incentive Fee(7)........................................................... 0 0 0
---------- ---------- ----------
Total.................................................................... $ 431,790 $ 429,968 $ 433,014
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
- ------------------------
(1) The respective Partnership Agreements provide that 1% of cash available for
distribution will be allocated to the General Partners.
(2) The General Partners are entitled to receive an asset management and
partnership administrative fee equal to 0.5% of invested assets per annum,
payable only during such years that an 8% return has been paid to investors
on a noncumulative basis. Any unpaid amounts will accrue and be payable only
after a 13% annual return to investors has been paid on a cumulative basis
and the investors have received the return of their capital contributions.
(3) The General Partners are paid or reimbursed for certain costs and expenses
incurred in connection with the operation of the Partnership. The increase
in historical reimbursements to the General Partners from 1995 to 1997 is
primarily the result of an increase in salaries and related expenses.
Starting in 1996, additional management time was incurred in exploring
various options available to the Partnerships to improve total returns. The
pro forma compensation to the Advisor does not reflect this increase because
the Advisor's fees are based on asset values, not specific reimbursements.
For a description of the fee structure of the Advisor, see "MANAGEMENT OF
THE COMPANY--The Advisor--THE ADVISORY AGREEMENT."
(4) The General Partners are entitled to receive an asset management and
partnership administrative fee equal to 0.5% of invested assets per annum,
the first $50,000 of which shall be paid each year with the balance payable
only during such years that a 6.5% annual return has been paid to investors
on a noncumulative basis. An additional fee of 0.5% of invested assets will
be paid in those years that an 11.5% annual return has been paid to
investors on a cumulative basis. Any unpaid amounts will accrue
16
<PAGE>
and be payable only after an 11.5% annual return to investors has been paid
on a cumulative basis and the investors have received the return of their
capital contributions.
(5) No acquisition fees would have been paid because no new assets were
purchased or permitted to be purchased in the years 1995 to 1997.
(6) Calculated based on the Advisor fees described in more detail under
"MANAGEMENT OF THE COMPANY--The Advisor".
(7) No incentive fee would have been paid because no new assets were owned which
would have qualified for such a fee if sold.
DIVIDEND POLICY
The Company intends to pay regular quarterly dividends to its Shareholders,
beginning with the first full fiscal quarter following the completion of the
Transaction, subject to the discretion of, and in amounts determined by, the
Board of Directors. The Company intends to distribute substantially all of its
net cash flow from operations, after giving effect to any reasonable reserves,
as dividends with respect to the Company's first four complete quarters of
operations. In addition, the Company intends to distribute with respect to the
first two complete quarters of operations an amount which is the greater of (i)
substantially all of its net cash flow from operations as described above, or
(ii) the cash distributions which would have been distributed to Cap Source I
investors if the Transaction had not occurred and distributions were made at the
same quarterly rates as were made in 1997 for the Cap Source I Partnership, or
(iii) cash distributions which would have been distributed to Cap Source II
investors if the Transaction had not occurred and distributions were made at the
current monthly rate for Cap Source II, which rate has been reduced for the
distribution for the month of August 1998, payable in October 1998. For a
description of the historical distributions for the Partnerships see "SECONDARY
MARKET AND OWNERSHIP OF PARTNERSHIP UNITS--Partnership Distributions." The
Company anticipates that the amount resulting from the application of (ii) and
(iii) above will be $.42 per share per quarter.
FEDERAL INCOME TAX CONSEQUENCES
The Company will not recognize any gain or loss as a result of the
Transaction. In addition, the Partnerships will not recognize gain as a result
of the Transaction except to the extent of the fair market value of any Notes
received in the Transaction subject to the assumptions and other matters
discussed in this Prospectus/Consent Solicitation Statement under "FEDERAL
INCOME TAX CONSEQUENCES-- Tax Treatment of the Transaction." The Company will be
characterized as a corporation for federal income tax purposes. Therefore, the
Company's income and gains are subject to federal corporate income taxation and
do not pass through to the Shareholders. In addition, all items of losses,
deductions and credits must be used to offset the Company's income and thus are
not passed through to the Shareholders. See "FEDERAL INCOME TAX
CONSEQUENCES--Taxation of the Company." Distributions by the Company to
Shareholders will generally be characterized as dividends and taken into account
by Shareholders as ordinary income. Dividends by the Company will be treated as
portfolio income to the Shareholders and, thus, will not be available to offset
passive losses from any other source. See "FEDERAL INCOME TAX
CONSEQUENCES--Taxation of Shareholders."
Dividends by the Company will not constitute unrelated business taxable
income to tax-exempt Shareholders unless Shares are "debt-financed property."
Shares will generally be deemed "debt-financed property" in the hands of a
tax-exempt Shareholder if such Shares are subject to debt. See "FEDERAL INCOME
TAX CONSEQUENCES--Considerations for Tax-Exempt Shareholders."
ACCOUNTING TREATMENT
The Transaction will be accounted for using the purchase method of
accounting in accordance with generally accepted accounting principles ("GAAP").
Cap Source I will be deemed to be the acquirer of Cap Source II under the
purchase method because its Unitholders will be allocated the largest number of
17
<PAGE>
Shares. Accordingly, the Transaction will result, for financial accounting
purposes, in the effective purchase by Cap Source I of all of the Units of Cap
Source II. As the surviving entity for financial accounting purposes, the assets
and liabilities of Cap Source I will be recorded by the Company at their
historical cost and the assets and liabilities of Cap Source II will be recorded
at their estimated fair values. In addition, Cap Source I will be deemed to
acquire the assets of the General Partners, which will be accounted for using
the purchase method of accounting.
RATIO OF EARNINGS TO FIXED CHARGES
The ratio of earnings to fixed charges for Cap Source I and Cap Source II
was not applicable for the last five fiscal years ending December 31, 1997, and
the 6 months ended June 30, 1998, because Cap Source I and Cap Source II had no
fixed charges for these periods.
ORGANIZATIONAL STRUCTURE
The following diagrams set forth the current organizational structure of the
Partnerships.
Chart depicting the organizational structure of Cap Source I before the
Transaction, including the General Partners.
18
<PAGE>
Chart depicting the organizational structure of Cap Source II before the
Transaction, including the General Partners.
19
<PAGE>
The following diagram sets forth the organizational structure of the Company
after the Transaction. The total number and percent of Shares refer to the
Shares issued in connection with the Transaction assuming no Notes are issued.
Chart depicting the organizational structure of the Company after completion of
the Transaction, including the Advisor.
*The Shareholders are the various limited partners who own a 30.6% equity
interest in Insured Mortgage Equities II L.P.
**The Company will own 100% of the equity interests in these Operating
Partnerships, 98.99% as limited partner, 1% as the owner of the general partner
and .01% as the owner of the special limited partner.
***The Company will own 99% of the equity interests in these Operating
Partnerships, 98.99% as limited partner and .01% as the owner of the special
limited partner.
21
<PAGE>
COMPARISON OF UNITS AND SHARES
The following is a summary of certain attributes of the ownership of Units
and the ownership of Shares. The following descriptions are qualified in their
entirety by reference to the Company's Second Amended and Restated Certificate
of Incorporation (the "Certificate of Incorporation") and Bylaws (the "Bylaws,"
and together with the Certificate of Incorporation, the "Organizational
Documents") and to each Partnership's Partnership Agreement. The descriptions
are summaries and do not purport to be complete discussions of these matters.
Investors are encouraged to review carefully the more detailed comparison
regarding the Units, the Shares and the Notes discussed in "COMPARISON OF
LIMITED PARTNERSHIP AND CORPORATE STRUCTURE" and this Prospectus/Consent
Solicitation Statement for additional comparisons.
<TABLE>
<CAPTION>
CHARACTERISTICS INVESTORS SHAREHOLDERS
- ---------------------------------------- ----------------------------------- -----------------------------------
<S> <C> <C>
Business -Equity and debt investments in -Equity and debt investments in
multifamily rental complexes real estate and real estate
related activities
Liquidity -Illiquid - no established market -Traded on NYSE
-Transfers are subject to -Freely transferable
limitations
Property Portfolio -Static portfolio -Investment flexibility
-More diversification and ability
to grow
-Larger portfolio
Duration -40 to 49 years from formation -Perpetual
Federal Taxation -The Partnerships are not subject -The Company is subject to federal
to federal tax tax as a C corporation
State Tax Withholding -Some states require withholding on -Generally, no withholding
partnership distributions
Tax Characterization of Income -Passive income -Portfolio income
Tax Reporting -Schedule K-1, generally mailed by -Form 1099-DIV must be mailed by
March 15 of each year January 31 of each year
Borrowing -New borrowing generally not -Generally permitted
permitted
Management -Vested in two General Partners -Vested in Board of Directors
elected by Shareholders
Voting -Voting is based on Investor's -One vote per Share
ownership interest in a
Partnership; voting is generally
permitted only for significant
actions
</TABLE>
22
<PAGE>
RISK FACTORS
The Transaction involves certain risks and other adverse factors. Each
material risk relating to the Company and the Transaction is described below.
Investors should read this entire Prospectus/Consent Solicitation Statement,
including all appendices and supplements hereto, and consider carefully the
following factors in evaluating the Transaction, the Company and its business
before completing the accompanying Consent Card. The risks described below are
materially the same for the Investors of each of the Partnerships.
RISKS ASSOCIATED WITH THE TRANSACTION
NO PRIOR MARKET FOR THE SHARES; MARKET PRICE MAY DECREASE AFTER THE
TRANSACTION. Prior to the Transaction, there has been no public market for the
Shares, and there can be no assurance that an active trading market will develop
or be sustained. There is substantial uncertainty as to the prices at which the
Shares will trade, and the possibility exists that the trading price of the
Shares may be lower than the proportionate Exchange Value estimated for each
Share. The price of the Shares, which was arbitrarily determined for the sole
purpose of allocating the Shares in the Transaction, may decrease after the
Transaction due to the potentially large number of Shares that may be sold
immediately by Investors who elect to receive Shares. The market value of the
Shares could also be substantially affected by numerous factors such as:
governmental regulatory action; changes in tax laws; the market's perception of
the Company and its ability to maintain or increase dividend levels; the size of
the Company in terms of assets and market capitalization; the degree to which
the management's interests are perceived to be aligned with the interests of
Shareholders; the degree to which leverage is used in the Company's capital
structure; the historical performance of the Partnerships; external factors such
as market interest rates and conditions of the mortgage investment and stock
markets; and technical factors relating to the supply and demand for Shares.
NO PRIOR MARKET FOR THE NOTES; PRICE MAY DECREASE AFTER THE
TRANSACTION. The Notes will not be listed on a national securities exchange or
quoted on an automated quotation system. Therefore, the Company does not expect
that an orderly and active trading market for the Notes will develop, and there
is substantial uncertainty as to the prices at which the Notes will trade
following the Transaction. Since the Notes may be redeemed at any time by the
Company without premium for an amount equal to the outstanding principal balance
thereon plus accrued interest, the Notes may never trade at a premium.
Noteholders are likely to receive the full face amount of the Notes only if they
hold the Notes to maturity, which is eight years after the Transaction, unless
the Notes are redeemed earlier by the Company. See "THE NOTES--Notes." There can
be no guaranty, however, that the Company will not default on the Notes prior to
maturity.
CONFLICTS OF INTEREST OF THE GENERAL PARTNERS. The General Partners
initiated and participated in the structuring of the Transaction and have
certain conflicts of interest with respect to its completion. The owners of the
General Partners will receive certain economic benefits as a result of the
Transaction, including an aggregate of 33,549 Shares, or approximately 1% of the
Shares outstanding upon completion of the Transaction assuming no Notes are
issued. These Shares could have an approximate value of $838,725 based on an
assumed value of $25 per Share. In addition, the Advisor will be entitled to
receive management fees from the Company following the Transaction pursuant to
the Advisory Agreement. The Advisor is a subsidiary of America First Companies,
the entity that controls the General Partners. Further, Michael B. Yanney, who
is a member and manager of America First Companies, will also serve as the
Chairman of the Board of the Company and the Advisor. As such, he will be
entitled to receive stock options under the Company's 1998 Stock Option Plan.
See "THE TRANSACTION--Conflicts of Interest and Benefits to Insiders."
FUNDAMENTAL CHANGE IN NATURE OF INVESTMENT. Investors who become
Shareholders or Noteholders will have fundamentally changed the nature of their
investment, and their rights will be different from their rights as Investors of
a Partnership. Each Partnership was formed as a finite-life entity with certain
characteristics, including: (i) Investors who expected to receive regular cash
distributions from the Partnership's cash flow and special distributions upon
liquidation of the Partnership's investments; (ii) any
23
<PAGE>
net proceeds from the sale or other disposition of any Partnership assets would
be distributed to Investors to the extent such proceeds exceed the Partnership's
other cash requirements, rather than reinvested; and (iii) upon liquidation, the
Investors would realize the market value of the Partnerships' investments, less
expenses of liquidation and liquidation fees, if any, payable to the General
Partners.
By contrast, the Company has no specific intention to liquidate or to sell a
substantial amount of property, and it plans to continue operations
indefinitely. If the Transaction is completed, Shareholders will not receive
liquidation proceeds through property sales but may liquidate their investment
by selling their Shares on the NYSE or in private transactions. In this regard,
the market value of the Common Stock may never reflect the full fair market
value of the Company's assets and, consequently, Shareholders may not realize
the full fair market value of such assets by selling their Shares at prices
which will be determined by trading on the NYSE. Noteholders will not hold an
equity interest in the Company and therefore will not be able to participate in
the Company's growth or benefit from any increases in the value of the Shares.
See "COMPARISON OF LIMITED PARTNERSHIP AND CORPORATE STRUCTURE."
POSSIBLE LOWER DISTRIBUTIONS. There is no guarantee with respect to the
level of the Company's future cash dividends. Regardless of the initial level of
such dividends, they could decline in the future to a level at which some
Shareholders would receive dividends lower than the distributions they received
as Investors prior to the Transaction. The Company may also reinvest cash
generated by the sale of existing assets or from operations to acquire
additional assets, potentially causing cash dividends to be lower than the
distributions made by the Partnerships in certain cases. See "THE
COMPANY--Dividend Policy."
LACK OF OPERATING HISTORY. The Company is newly organized and has no
operating history. The Company's results of operations, financial condition and
liquidity depend, to a material extent, on the ability of the Company to obtain
long term after-tax returns that are greater than those available from REITs and
other similar publicly traded real estate companies. Therefore, the failure to
invest in real estate investments generating such returns will have a material
adverse effect upon the Company's results of operations and financial condition.
There can be no assurance that any of the Company's business objectives or
planned future activities will be successful.
SIGNIFICANT CHANGE IN BUSINESS OPERATIONS. The investment strategy of the
Company will be materially different from that of the Partnerships. The
investment strategy of the Partnerships was to originate, acquire, hold, sell,
dispose of and otherwise deal with insured mortgages on multifamily rental
housing complexes and to acquire, hold, sell, dispose of and otherwise deal with
limited partnership interests in the Operating Partnerships which construct and
operate multifamily rental housing complexes. The Company's investment
strategies may include investing in real estate operating companies,
underperforming real estate assets such as office buildings and apartment
complexes with the objective of renovating and repositioning them to increase
values, and underperforming markets and foreign markets that the Company expects
will show significant improvement. The Company expects to make both equity and
debt investments, both directly and by the purchase of partnership interests and
other securities of issuers owning such assets. There can be no assurance that
the Company will be able to achieve its investment strategy as a result of the
change in business. These investments will have substantially higher risk than
the current assets of the Partnerships.
NO DISSENTERS' RIGHTS. Under Delaware law, Investors will have no
appraisal, dissenters' or similar rights in connection with the Transaction, and
no such rights will be afforded by the Partnerships of the Company. Therefore,
Investors will not be entitled to receive cash payment for the fair value of
their Units if they do not vote in favor of the Transaction and the Transaction
is approved and consummated.
POSSIBLE ALTERNATIVES TO THE TRANSACTION WILL NOT BE PURSUED. Alternatives
to the Transaction include (i) continued management of the Partnerships as
currently structured, (ii) listing the Units of each Partnership on a national
securities exchange or automated quotation system; (iii) merging the
Partnerships into a single publicly traded partnership and listing the
partnership units on a national securities exchange or automated quotation
system; (iv) merging the Partnerships together to form a single REIT;
24
<PAGE>
(v) qualifying each Partnership as an individual REIT; and (vi) liquidating the
Partnerships through entire portfolio sales or sales of individual properties.
While the consummation of the Transaction does not preclude the Company from
electing REIT status in the future, it does effectively preclude the pursuit of
the other alternatives listed above.
CONFLICTS OF INTEREST CREATED BY EXTERNAL MANAGEMENT STRUCTURE. The Company
will be managed externally by the Advisor. This external management structure
has certain conflicts of interest. In particular, the Advisor may manage other
entities with investments, investment objectives and business goals similar to
those of the Company. The Advisor may be required from time to time to resolve
conflicts between the different entities it manages and the investment choices
it makes for each entity. Also, the Advisor may make investments for the Company
in other entities managed by the Advisor.
FEDERAL INCOME TAX CONSEQUENCES. To the extent the Company issues Notes in
connection with the Transaction, the Partnerships will be required to recognize
gain. In the event the maximum amount of Notes are chosen, the resulting gain
would be approximately $26,000,000 for both Partnerships. The maximum potential
gain for Cap Source I is approximately $5.12 per Unit and the maximum potential
gain for Cap Source II is approximately $2.20 per Unit. To the extent such gain
is allocable to property which produces passive income, it may be used to offset
suspended passive activity losses. In general, such gain will be determined by
allocating the value of the Notes among the assets of each Partnership on the
basis of their relative fair market values. The amount of gain recognized will
not exceed the amount of value of the Notes allocable to each asset. The
character of any recognized gain would be the same as would be the case if each
Partnership had sold its assets. Each Investor would be required to include in
income a share of such gain even if such Investor did not vote in favor of the
Transaction and/or did not choose Notes. The Company does not expect to
distribute cash to Investors which would correspond to the income recognized as
a result of the issuance of the Notes.
A MAJORITY IN INTEREST WILL BIND ALL INVESTORS IN EACH PARTNERSHIP. Under
the Partnership Agreements and the requirements of the Delaware Revised Uniform
Limited Partnership Act (the "Delaware Partnership Law"), a Partnership may
participate in the Transaction if its general partners and a majority in
interest of its Investors consent to the Transaction. If the Transaction is
approved by such majority, all Investors in that Partnership will be bound by
the decision of the majority, including Dissenting Investors and Investors who
abstained from voting with respect to the Transaction.
NOTES ARE UNSECURED OBLIGATIONS OF THE COMPANY. The Notes, which will be
prepayable at any time, are junior unsecured obligations of the Company and, as
a practical matter, will be junior to all other debt (other than trade payables)
of the Company. The Notes will bear interest at a variable rate that may be
lower than rates on other variable rate debt instruments that may be perceived
as having comparable or lower risks than the Notes. In addition, there is no
guarantee that the Company will not default on the Notes. See "THE NOTES."
CONTINGENT OR UNDISCLOSED LIABILITIES. Under the Merger Agreement, the
Company will, as of the effective date of the Transaction (the "Effective
Date"), acquire all assets and liabilities of the Partnerships and General
Partners. Each of the Partnerships will deliver to the Company financial
statements for such entity disclosing all known material liabilities and
reserves, if any, set aside for contingent liabilities as of the Effective Date.
The General Partners will represent and warrant that, to the best of their
knowledge, the financial statements fairly present the financial position of
each Partnership, as if there is no liability or obligation to be set forth or
reserved against in the financial statements based upon generally accepted
accounting principles. The accuracy and completeness of these representations
are conditions to the closing of the Transaction and if, on or prior to the
Effective Date, these representations and warranties are shown to be inaccurate,
there may be adjustments to the consideration paid by the Company or the Company
may elect not to proceed to close the Transaction.
INVESTORS WHO ELECT TO RECEIVE NOTES COULD RECEIVE SHARES. If Dissenting
Investors elect to receive Notes in excess of the Maximum Note Limitation, the
Transaction will not be consummated. If this does not occur, and the total
amount of Notes allocable to all Investors electing to receive Notes would
exceed the
25
<PAGE>
Maximum Note Limitation, then Notes will be allocated among those who elected to
receive Notes, based on how they voted with respect to the Transaction, in the
following order of priority: first to Dissenting Investors who elected to
receive Notes and then, on a pro rata basis, to Investors who mark "ABSTAIN" on
their Consent Card and Consenting Investors. Thus, it is possible that a
Consenting Investor who elects to receive Notes may receive Shares instead of
Notes. In order to be assured of receiving Notes, an Investor must vote "NO"
with respect to the Transaction and elect to receive Notes. See "THE NOTES--
Allocation of Notes."
RISKS ASSOCIATED WITH THE COMPANY'S BUSINESS
LEVERAGING STRATEGY. The Company will employ a strategy to increase the
size of its real estate asset portfolio by bank borrowing or other credit
arrangements used to finance the acquisition of growth-oriented real estate
investments. Therefore, such assets may not be available to the Shareholders in
the event of the liquidation of the Company except to the extent that the market
value thereof exceeds the amounts due to creditors. The Organizational Documents
of the Company do not limit the amount of debt the Company can incur.
Substantial leverage incurred by the Company will be subject to the
following risks: (a) the Company could lose its interests in assets given as
collateral for secured borrowing if the required principal and interest payments
are not made when due; (b) the Company's cash flow from operations may not be
sufficient to retire these obligations as they mature, making it necessary for
the Company to either refinance these obligations prior to maturity or to raise
additional debt and/or equity for the Company or dispose of some of the
Company's assets to retire the obligations, which could have an adverse effect
on the amount of funds available for dividends to Shareholders; (c) no assurance
can be given as to the availability, or the terms and conditions, of any
financing needed by the Company to refinance borrowing; and (d) debt incurred by
the Company may be at interest rates that adjust based on prevailing market
interest rates, and an increase in the prevailing market interest rates would
adversely affect the Company's earnings and could reduce the amount of funds
available for dividends to Shareholders.
NO ASSURANCE OF SUCCESSFUL IMPLEMENTATION OF NEW BUSINESS PLAN. The
profitability of the Company depends on the successful development and
implementation of the Company's new business plan. To achieve its objective, the
Company will need to develop effective investment and operating policies and
strategies in connection with the implementation of its business plan. There can
be no assurance that the Company will be successful in developing the necessary
investment and operating policies or that it will be able to effectively
implement its business plan.
REAL ESTATE INVESTMENTS. The ultimate performance of the Company's proposed
investments under its new business plan will be subject to the varying degrees
of risk generally incident to the ownership and operation of the underlying real
property. The ultimate value of the Company's security in the underlying real
property depends upon the owners' ability to operate the real property in a
manner sufficient to maintain or increase revenues in excess of operating
expenses and debt service or, in the case of real property leased to a single
lessee, the ability of the lessee to make rental payments. Revenues may be
adversely affected by adverse changes in national economic conditions, adverse
changes in local market conditions due to changes in general or local economic
conditions and neighborhood characteristics, competition from other properties
offering the same or similar services, changes in interest rates and in the
availability, cost and terms of mortgage funds, the impact of present or future
environmental legislation and compliance with environmental laws, the ongoing
need for capital improvements (particularly in older structures), changes in
real estate tax rates and other operating expenses, adverse changes in
governmental rules and fiscal policies, civil unrest, acts of God, including
earthquakes, hurricanes and other natural disasters (which may result in
uninsured losses), acts of war, adverse changes in zoning laws, and other
factors which are beyond the control of the real property owners and the
Company. In the event that any of the properties underlying the Company's
investments experience any of the foregoing events or occurrences, the value of
and return on such investments would be negatively impacted.
26
<PAGE>
INVESTMENTS IN ASSETS LOCATED OUTSIDE THE UNITED STATES. The Company may
make investments outside the United States. These investments may have
substantially greater risks than investments in the United States. These risks
include uncertain or unknown local and regional market conditions, differences
in governmental regulation, differences in laws relating to the ownership and
operation of real estate and changes in the value of the local currency in
relationship to the value of the United States dollar. Other risks include
application of local tax laws relating to investment by foreign investors.
DEPENDENCE ON AVAILABLE INVESTMENTS. The results of the Company's future
operations under the new business plan will be dependent upon the availability
of, as well as management's ability to identify, complete and realize, real
estate investment opportunities. It may take considerable time for the Company
to find and consummate appropriate investments. In general, the availability of
desirable investment opportunities and the results of the Company's operations
will be affected by the level and volatility of interest rates, by conditions in
the financial markets, and general economic conditions. No assurances can be
given that the Company will be successful in finding and then acquiring
economically desirable assets or that the assets, once acquired, will maintain
their economic desirability.
COMPETITION. The Company is engaged in a highly competitive business. The
Company will be competing for investments with many recent entrants into the
business, including numerous public and private real estate investment vehicles,
including financial institutions (such as mortgage banks, pension funds and
REITs) and other institutional investors, as well as individuals. In addition,
the Company's competitors may seek to establish relationships with the financial
institutions and other firms from whom the Company intends to purchase such
assets. Many of the Company's anticipated competitors are significantly larger
than the Company, have established operating histories and procedures, may have
access to greater capital and other resources, may have management personnel
with more experience than the officers of the Company, and may have other
advantages over the Company in conducting certain businesses and providing
certain services.
ILLIQUIDITY OF REAL ESTATE. Real estate investments are relatively
illiquid. Such illiquidity limits the ability of the Company to vary its
portfolio of proposed and current investments in response to changes in economic
and other conditions. Illiquidity may result from the absence of an established
market for investments as well as the legal or contractual restrictions on their
resale by the Company. In addition, illiquidity may result from the decline in
value of a property securing an investment by the Company. No assurances can be
given that the fair market value of any of the real property serving as security
will not decrease in the future leaving the Company's investment
under-collateralized or not collateralized at all. It would be difficult to sell
an under-collateralized investment, and if the Company needed to do so, assuming
it were even able to do so given its typically subordinated lien position, it is
likely that such investment would be sold at a loss.
UNSPECIFIED ACQUISITIONS. Any decision to pursue real estate acquisition
opportunities will be in the discretion of the Company's management and may be
consummated without prior notice or Shareholder approval. In such instances,
Shareholders will be relying on the Company's management to assess the relative
benefits and risks associated with any such acquisition.
INVESTMENT STRATEGY OF THE COMPANY. As discussed under "THE
COMPANY--Investment Strategy," the Company intends to focus initially in aspects
of the real estate business which have particular risks. These aspects include
(i) underperforming commercial properties, (ii) real estate operating companies
and (iii) foreign or foreign-controlled real estate. Underperforming commercial
properties are subject to risks associated with the redevelopment and leasing of
these properties. These risks include a lack of or limited cash flow from
operations of the properties during redevelopment, unanticipated redevelopment
costs and delays in leasing and commercial activities. Real estate operating
companies are subject to risks associated with the ownership of a company
involved in various real estate activities. These risks include the inability of
the Company to exercise control over all activities of the operating company,
reliance upon management of the operating company and the ability of the
operating company to make appropriate investments in the future. Foreign or
foreign-controlled real estate risks are described under "--Investments in
Assets Located Outside the United States," above.
27
<PAGE>
TITLE DEFECTS. At the time the Properties were developed or acquired by the
Operating Partnerships, each of the Operating Partnerships obtained title
insurance policies under which a successor in interest by operation of law to
the Operating Partnerships will become the insured under such policies. The
General Partners are generally not aware of any exceptions to title that may
have been created by third parties during the Operating Partnerships' ownership
of the Properties. Management of the Company has no actual knowledge of any
actions or liens of third parties which would have a material adverse effect
upon the Transaction or the financial condition of the Company.
ENVIRONMENTAL LAWS MAY IMPOSE ADDITIONAL LIABILITY. Under various federal,
state, and local environmental laws, ordinances, and regulations, a current or
previous owner or operator of real property may be liable for the costs of
removal or remediation of hazardous or toxic substances on, under, or in such
property. Such laws often impose liability whether or not the owner or operator
knew of, or was responsible for, the presence of such hazardous or toxic
substances. In addition, the presence of hazardous or toxic substances, or the
failure to properly remediate such property, may adversely affect the owner's
ability to borrow using such real property as collateral. Certain environmental
laws impose liability for release of asbestos-containing materials ("ACMs") into
the air, and third parties may seek recovery from owners or operators of real
properties for personal injury associated with ACMs. In connection with the
ownership (direct or indirect), operation, management, and development of real
properties, the Company may be liable for removal or remediation costs, as well
as certain other potential costs which could relate to such hazardous or toxic
substances or ACMs (including governmental fines and injuries to persons and
property).
BOARD OF DIRECTORS MAY CHANGE POLICIES WITHOUT SHAREHOLDER APPROVAL. The
Company's operating and financial policies, including its policies with respect
to acquisitions, growth, operations, indebtedness, capitalization and dividends,
will be determined by the Board of Directors. Although it has no present
intention to amend or revise these or other policies as described herein, the
Board of Directors generally may do so, from time to time, without Shareholder
approval. Accordingly, Shareholders will have little direct control over changes
in the Company's policies. Changes in the Company's policies could adversely
affect the Company's financial condition and results of operations.
REGISTRATION UNDER THE INVESTMENT COMPANY ACT. The Company at all times
intends to conduct its business so as not to become regulated as an investment
company under the Investment Company Act of 1940, as amended (the "Investment
Company Act"). The Investment Company Act exempts entities that are "primarily
engaged in the business of purchasing or otherwise acquiring mortgages and other
liens on and interests in real estate" ("Qualifying Interests"). Under current
interpretation of the staff of the Securities and Exchange Commission (the "SEC"
or "Commission"), in order to quality for this exemption, the Company must
maintain at least 55% of its assets directly in Qualifying Interests. If the
Company fails to qualify for exemption from registration as an investment
company, its use of leverage would be substantially reduced, and it would be
unable to conduct its business as described herein. Such a failure to qualify
could have a material adverse effect on the Company.
POTENTIAL LIABILITY UNDER THE AMERICANS WITH DISABILITIES ACT. All of the
Properties were required to be in compliance with the Americans With
Disabilities Act (the "ADA"). The ADA generally requires that places of public
accommodation be made accessible to people with disabilities to the extent
readily achievable. Compliance with the ADA requirements could require removal
of access barriers, and non-compliance could result in imposition of fines by
the federal government, an award of damages to private litigants and/or a court
order to remove access barriers. Because of the limited history of the ADA, the
impact of its application to the Company's properties, including the extent and
timing of required renovations, is uncertain. Consequently, the Company will be
required to cover the costs associated with such compliance, if any, with funds
from operations, established reserves or bank borrowings.
REGULATORY AND LEGISLATIVE RISKS
The Company's business is subject to numerous federal, state and consumer
laws and regulations, which among other things: (a) require the Company to
obtain and maintain certain licenses, certifications,
28
<PAGE>
registrations and qualifications; (b) require the Company to post a bond in
certain states; (c) limit the interest rates, fees and other charges the Company
is allowed to charge; (d) limit or prescribe certain other terms and conditions
of the Company's contracts; and (e) require the Company to provide specified
disclosures.
The Company's business is subject to regulation, supervision and licensing
by the federal, state and local government authorities and is subject to various
laws and judicial administrative decisions imposing requirements and
restrictions on a substantial portion of its operations. Failure to comply with
these requirements can cause the termination or suspension of certain rights of
recision for mortgage loans, class action law suits and administrative
enforcement actions. Although the Company believes that it has systems and
procedures to facilitate compliance with these requirements and believes that it
is in compliance with all material aspects with applicable local, state and
federal laws, rules and regulations, there can be no assurance that more
restrictive laws, regulations or rules will not be adopted in the future that
could make compliance more difficult or expensive.
BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE TRANSACTION
HISTORY OF THE PARTNERSHIPS
FORMATION. Cap Source I was formed in 1985, and Cap Source II was formed
1986. Both Partnerships were formed to make debt and equity investments in
multifamily rental complexes (the "Complexes"). The Partnerships' combined debt
and equity investments are intended to provide Investors with regular
distribution of cash derived from principal and interest payments on insured
mortgages, as well as the benefits of ownership of the Complexes, including any
tax losses and income from operations.
CAP SOURCE I GENERAL PARTNERS' MANAGEMENT OF CAP SOURCE I. Cap Source I's
original general partners were TIG Insured Mortgage Equities Inc. (the "TIG
General Partner") and Hutton Insured Mortgage Equities Inc. (the "Hutton General
Partner"). All of the issued and outstanding stock of the TIG General Partner
was purchased by TIG I Holdings, Inc. ("TIG Holdings") pursuant to a stock
purchase agreement dated June 10, 1991. Thereafter, TIG Holdings merged into the
TIG General Partner with the TIG General Partner being the surviving
corporation. The TIG General Partner subsequently changed its name to America
First Capital Source I, Inc. All of the issued and outstanding capital stock of
America First Capital Source I, Inc. was transferred to America First Companies
as of March 1, 1994. America First Capital Source I, Inc. was subsequently
converted from a Delaware corporation to a Delaware limited liability company
and changed its name to America First Capital Source I, L.L.C.
Lehman Brothers, Inc. ("Lehman"), the successor to E.F. Hutton & Co.,
acquired all of the interests in the Hutton General Partner. The Hutton General
Partner changed its name to Insured Mortgage Equities Inc. Subsequently, on May
16, 1997, Lehman sold all of the shares of capital stock of Insured Mortgage
Equities Inc. to America First Companies.
Thus, Insured Mortgage Equities Inc. and America First Capital Source I,
L.L.C. are the current Cap Source I General Partners. The Cap Source I General
Partners are both wholly owned by America First Companies.
Pursuant to the Cap Source I Partnership Agreement, the Cap Source I General
Partners manage Cap Source I and are entitled to receive management fees and
certain reimbursements from Cap Source I and 1% of distributions from Cap Source
I.
CAP SOURCE II GENERAL PARTNERS' MANAGEMENT OF CAP SOURCE II. Cap Source
II's original general partners were TIG Insured Mortgage Equities II Inc. (the
"TIG II General Partner") and Hutton Insured Mortgage Equities II L.P. (the
"Hutton II General Partner"). All of the issued and outstanding stock of the TIG
II General Partner was purchased by TIG II Holdings, Inc. ("TIG II Holdings")
pursuant to a stock purchase agreement dated June 10, 1991. Thereafter, TIG II
Holdings merged into the TIG II General Partner with the TIG II General Partner
being the surviving corporation. The TIG II General Partner subsequently changed
its name to America First Capital Source II, Inc. All of the issued and
outstanding capital stock of America First Capital Source II, Inc. was
transferred to America First Companies as of March 1, 1994.
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<PAGE>
America First Capital Source II, Inc. was subsequently converted from a Delaware
corporation to a Delaware limited liability company and changed its name to
America First Capital Source II, L.L.C.
The sole general partner of the Hutton II General Partner was CS Housing II
Inc. Lehman, the successor to E.F. Hutton & Co., acquired all of the interests
in CS Housing II Inc. The Hutton II General Partner changed its name to Insured
Mortgage Equities II L.P. Subsequently, on May 16, 1997, Lehman sold all of the
shares of capital stock of CS Housing II Inc. to America First Companies.
Thus, Insured Mortgage Equities II L.P. and America First Capital Source II,
L.L.C. are the current Cap Source II General Partners. The Cap Source II General
Partners are both controlled by America First Companies. America First Companies
owns 100% of America First Capital Source II L.L.C. and owns 100% of CS Housing
II Inc., the sole general partner of Insured Mortgage Equities II L.P.
Pursuant to the Cap Source II Partnership Agreement, the Cap Source II
General Partners manage Cap Source II and are entitled to receive management
fees from Cap Source II and 1% of distributions from Cap Source II.
HISTORICAL INFORMATION AND ACHIEVEMENT OF OBJECTIVES. Cap Source I and Cap
Source II have paid quarterly distributions at the same level since March 31,
1993, and June 30, 1993, respectively. As of June 30, 1998, Cap Source I has
distributed to its Investors an aggregate of approximately $55,350,973, and Cap
Source II has distributed to its Investors an aggregate of approximately
$56,792,429. Cap Source II has been making a portion of its distributions to
Investors from reserves. As a result, Cap Source II's reserves have been
substantially decreased. Therefore, the General Partners have reduced the
monthly distribution rate to $.45 per unit on an annual basis, beginning with
the distribution for the month of August 1998, which distribution is payable in
October 1998.
The table set forth below provides a comparison of the capital raised and
distributions made by the Partnerships as of June 30, 1998:
HISTORICAL INFORMATION CONCERNING THE PARTNERSHIPS
<TABLE>
<CAPTION>
DATE OF
DISTRIBUTIONS DISTRIBUTIONS TO LAST
TO INVESTORS INVESTORS IN ADMISSION
TOTAL INVESTOR THROUGH MOST OF ORIGINAL
PARTNERSHIP CAPITAL RAISED 6/30/98 RECENT QUARTER INVESTORS
- ----------------------------- -------------- -------------- ---------------- -----------
<S> <C> <C> <C> <C>
Cap Source I................. $ 67,484,440 $ 55,350,973 $ 851,991 5/13/86
Cap Source II................ 62,372,621(1) 56,792,429 812,247 1/04/88
-------------- -------------- ----------------
Total...................... $ 129,857,061 $ 112,143,402 $ 1,664,238
-------------- -------------- ----------------
-------------- -------------- ----------------
</TABLE>
- ------------------------
(1) Total capital contributions for Cap Source II were $80,222,020, of which
$62,372,621 was invested in accordance with the Partnership's original
investment objectives, and the remaining $17,849,399 was returned to
Investors as a return of capital.
To the best knowledge of the General Partners, 100% of the net proceeds of
the original offerings of Cap Source I was invested in accordance with the
Partnership's original investment objectives. To the best knowledge of the
General Partners, 77.75% of the net proceeds of the original offerings of Cap
Source II was invested in accordance with the Partnership's original investment
objectives.
The following information sets forth the original objectives of Cap Source I
and Cap Source II and the extent to which the General Partners believe such
objectives have been met.
CAP SOURCE I. The original investment objectives of Cap Source I are to:
(a) achieve long-term capital appreciation through increases in the value of Cap
Source I's equity investments in the Cap Source I Operating Partnerships (as
defined below); (b) provide quarterly cash distributions to Cap Source I
Investors; (c) provide Cap Source I Investors with federal income tax deductions
that may offset, in part, taxable cash distributions subsequent to two years
after the initial closing on Cap Source I Units purchased by Cap Source I
Investors; (d) provide the potential for increases in cash distributions from
income from the Cap Source I Operating Partnerships and sale of the Complexes;
and (e) preserve and protect Cap
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<PAGE>
Source I's capital. Cap Source I originally intended to qualify its Units for
quotation on the National Association of Securities Dealers Automated Quotation
System ("NASDAQ") within 24 to 36 months after it commenced operations in order
to make the Units freely transferable. However, at a Special Meeting of
Investors on May 17, 1990, an amendment to the Cap Source I Partnership
Agreement was approved to only allow limited transferability of Units to
preserve the tax status of the Partnership as a partnership under the Code and
avoid being designated as a "publicly traded partnership." Based upon the
original capital raised from the Cap Source I Investors of $67,484,440,
distributions of $55,350,973 as of June 30, 1998, and a net asset value of
$50,991,970, the Cap Source I General Partners believe that objectives (b), (c)
and (e) above were substantially met and objectives (a) and (d) were not met.
The Cap Source I Operating Partnerships are Bluff Ridge Associates Limited
Partnership, Waters Edge Limited Partnership, Interstate Limited Partnership
(a/k/a Highland Park), Cypress Landings II, Ltd. (a/k/a Misty Springs), Oyster
Cove Limited Partnership (a/k/a Waterman's Crossing), Fox Hollow, Ltd. and Ponds
at Georgetown Limited Partnership (the "Cap Source I Operating Partnerships").
CAP SOURCE II. The original investment objectives of Cap Source II are to:
(a) preserve and protect Cap Source II's capital by investing in Federally
Insured Mortgages and Cap Source II Operating Partnership interests; (b) provide
quarterly cash distributions to Cap Source II Investors from income from
Federally Insured Mortgages; and (c) achieve increasing current income and
long-term capital appreciation through increases in the income from Cap Source
II's equity investments in the Cap Source II Operating Partnerships (as defined
below). Originally, there was a fourth investment objective which was to make
the Cap Source II Units freely transferable 24 to 36 months after the
Partnership commenced operations by qualifying the Units for quotation on
NASDAQ. However, at a Special Meeting of Cap Source II Investors on December 17,
1990, amendments to the Cap Source II Partnership Agreement were approved to
allow limited transferability of Units to preserve the tax status of the
Partnership as a partnership under the Code and avoid being designated as a
"publicly traded partnership." Based upon the original capital raised from the
Cap Source II Investors of $62,372,621 (net of capital returned), distributions
of $56,792,429 as of June 30, 1998, and a net asset value of $32,880,190, the
Cap Source II General Partners believe that objective (a) and (b) above were
substantially met and that objective (c) above was not met.
The Cap Source II Operating Partnerships are Crane's Landing Partners, Ltd.,
Delta Crossing Limited Partnership, Centrum Monticello Limited Partnership and
Ponds at Georgetown Limited Partnership (the "Cap Source II Operating
Partnerships," and together with the Cap Source I Operating Partnerships, the
"Operating Partnerships").
The following table sets forth, with respect to each Partnership, the age of
the Partnership relative to the original term of the Partnership as set forth in
the applicable Partnership Agreement:
LEGAL LIFE OF THE PARTNERSHIPS
<TABLE>
<CAPTION>
COMMENCED LEGAL ORIGINAL REMAINING
OPERATIONS TERMINATION DURATION LIFE
PARTNERSHIP (MO./YR.) (MO./YR.) (YEARS) (YEARS)
- -------------------------------------------- --------------- ------------- ------------- ---------------
<S> <C> <C> <C> <C>
Cap Source I................................ 8/85 12/30 45 32
Cap Source II............................... 8/86 12/35 49 37
</TABLE>
THE DECISION TO PURSUE THE TRANSACTION
As the General Partners reviewed the original investment objectives of the
Partnerships and began to explore options to increase the value of the
investments made by Investors in the Partnerships, the General Partners
concluded that the Partnerships had failed to achieve two of their original
investment objectives, namely liquidity and growth.
The General Partners have been concerned about the lack of meaningful
liquidity available for Investors in the Partnerships. The lack of a formal
secondary market for the Units limits the ability of Investors to increase or
decrease their investment in the Partnerships in response to changing personal
circumstances or the performance of the Partnerships. This concern has recently
increased as unrelated third parties have made tender offers and other offers to
purchase the Units at prices which the General
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Partners believe do not fairly represent the underlying value of the Units.
Liquidity was further decreased by the suspension of trading of partnership
interests on the Chicago Partnership Board by action of the SEC. The General
Partners concluded that it was in the best interest of Investors to develop a
transaction which would provide substantially better liquidity and will permit
Investors the opportunity to increase or decrease their individual investment at
prices more directly related to their underlying value.
The operations of the Partnerships were adversely affected in their early
years by weaknesses in the real estate markets throughout the United States.
This adversely impacted the operating results of the Partnerships' real estate
investments and led to decreases in distributions to Investors. However, in
recent years, the real estate markets nationwide have generally improved, in
some cases significantly, and the General Partners have been concerned with the
failure of those national trends to translate into improved operating results
for the Partnerships, and hence increased distributions to their Investors. In
analyzing this situation, the General Partners decided that there were two
primary reasons for the lack of improvement in the operations of the
Partnerships. First, the Partnerships' portfolios have been fixed since original
acquisition. Therefore, the Partnerships have been unable to acquire new
investments irrespective of potential investment return, have been unable to
trade poorly performing assets for assets with better profit potential, and have
been unable to increase the overall size of their portfolios to take advantage
of improving markets. Second, the majority of the Partnerships' assets are fixed
income GNMA securities or FHA insured loans, which by their nature do not
participate in improvements in the real estate markets. Consequently, the
General Partners decided that the best way to improve total returns to the
Investors was to develop a transaction that would broaden the investment
limitations of the current Partnerships so as to allow more flexibility in the
type of assets acquired and their investment management and to allow overall
portfolio growth as market conditions warrant.
The General Partners evaluated a number of alternative transactions to
achieve these objectives. Each of these alternatives appeared to have some
advantages and disadvantages, and might be in the best interest of some
Investors but not others. The General Partners consequently concluded that on
balance the proposed Transaction was the best of the alternatives for the
Investors of each Partnership and as a whole.
PREPARATION FOR AND CHRONOLOGY OF EVENTS LEADING TO THE TRANSACTION
The events leading to the Transaction may be divided into two general
phases, which overlapped somewhat: (a) general investigation and consideration
of alternate transactions; and (b) events directly leading to the structuring
and implementation of the Transaction.
GENERAL INVESTIGATION AND CONSIDERATION OF ALTERNATE TRANSACTIONS. Since
assuming management of each of the Partnerships, the General Partners have been
evaluating each Partnership's business prospects, especially with respect to the
feasibility of providing liquidity to the Investors and increasing distributions
to Investors. As the General Partners reviewed the original investment
objectives of the Partnerships and began to explore options, the General
Partners concluded that the Partnerships had failed to achieve two of their
original investment objectives, which were liquidity and growth. The General
Partners thus began to explore options such as the Transaction and certain
alternatives to the Transaction. See "--The Decision to Pursue the Transaction"
above.
STRUCTURING AND IMPLEMENTATION OF THE TRANSACTION. In September 1997,
representatives of the General Partners contacted the law firm of Kutak Rock in
Omaha, Nebraska and Denver, Colorado to discuss legal issues relating to the
Transaction. On September 12, 1997, representatives of the General Partners
initiated a conference call with representatives of Kutak Rock in Denver, and
representatives of the law firm of Skadden, Arps, Slate, Meagher & Flom
("Skadden Arps") in New York, New York to discuss preliminary issues relating to
the Transaction and the preparation of a preliminary discussion draft of a
prospectus/ consent solicitation statement and a registration statement on Form
S-4 (the "Registration Statement"). During the conference call representatives
of the General Partners authorized Kutak Rock to begin preparing the preliminary
discussion draft of the Registration Statement and related documents describing
the Transaction as a merger of the Partnerships into a publicly traded limited
partnership. In September, 1997, representatives of the General Partners signed
a formal engagement letter retaining Kutak Rock to
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perform the legal services in connection with the Transaction. Another
conference call with the same parties was held on September 29, 1997, to discuss
tax issues and other matters potentially relating to the Transaction.
In September, 1997, representatives of the General Partners contacted
representatives of Sutro & Co. in Los Angeles regarding the possibility of Sutro
& Co. rendering a fairness opinion in connection with the Transaction.
Representatives of the General Partners also contacted representatives of Robert
A. Stanger & Co., Inc. in New Jersey regarding valuations and fairness opinions
for the Transaction.
On October 4, 1997, Kutak Rock circulated a preliminary discussion draft of
the Registration Statement to representatives of the General Partners. On
October 8 and 9, 1997, a meeting was held in the offices of Skadden Arps in New
York to discuss the draft and other preliminary issues relating to the
Transaction. In attendance were representatives of the General Partners, Kutak
Rock, Skadden Arps, E&Y Kenneth Leventhal Real Estate Group and a representative
of a national investment banking firm. At the time, the possibility of forming
the Company as various different types of entities was discussed. During these
discussions, the alternative of a merger of the Partnerships into a publicly
traded limited partnership was discussed further. However, it was determined
that limited partnership units do not trade well on securities exchanges, that
the market tends to view common stock more favorably than limited partnerships
units and that pursuing this alternative would substantially diminish the
Partnerships' ability to grow, making this alternative less advantageous to
Investors.
In October, 1997, representatives of the General Partners contacted
Valuation Research regarding the possibility of Valuation Research rendering
valuations and fairness opinions in connection with the Transaction. In
November, 1997, Valuation Research was retained to provide the Appraisals of the
real estate of the Operating Partnerships in which the Partnerships have limited
partner interests.
At various times during the month of October, representatives of the General
Partners contacted representatives of Kutak Rock by telephone to discuss legal
issues relating to the Transaction and the disclosure in the Registration
Statement.
In November, 1997, the Transaction was selected as the most favorable
alternative considered by the General Partners.
In November, 1997, representatives of America First Companies contacted
George J. Kubat, Mariann Byerwalter and Martin A. Massengale to see if they
would be willing to serve on the Special Committee. All three agreed to serve on
the Special Committee. Ms. Byerwalter subsequently resigned from the Special
Committee because of a potential conflict of interest. See "THE TRANSACTION--The
Special Committee"
On December 15, 1997, the Special Committee met in Denver, Colorado at the
offices of Kutak Rock for an organizational meeting to review the outline of the
proposed Transaction and to interview law firms to represent the Special
Committee. At the meeting the Special Committee selected Holland & Hart LLP to
serve as counsel to the Special Committee. At this meeting, the Special
Committee also interviewed Valuation Research as a potential advisor to the
Special Committee and as a potential fairness opinion provider with respect to
the Transaction. Valuation Research was also interviewed with respect to the
Appraisals it had already been retained to conduct. At this meeting,
representatives of America First described to the Special Committee the
background relating to the Transaction, the goals and purposes of the
Transaction, the alternative transactions that had been considered by America
First, and some preliminary information regarding the Company.
At a meeting of the Special Committee held in Denver, Colorado on January
19, 1998, Sutro & Co., J.C. Bradford & Co. and Schroders were each interviewed
as potential advisors to the Special Committee and as potential providers of a
fairness opinion with respect to the Transaction. At the meeting, Sutro & Co.
was selected by the Special Committee to serve as the fairness opinion provider
and as an advisor to the Special Committee, in large part based on Sutro & Co.'s
experience in similar transactions, its research capabilities, resources and
more competitive fee structure. Sutro & Co. was also selected because of its
reputation in connection with companies involved in real estate activities and
real estate assets.
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At a meeting of the Special Committee held February 6, 1998 in San
Francisco, Ms. Byerwalter resigned from the Special Committee as a result of a
potential conflict of interest resulting from a separate and distinct
transaction sponsored by America First Companies. The remaining members of the
Special Committee then retained Sutro & Co. to render the Fairness Opinion in
connection with the Transaction. Sutro & Co. then made a presentation discussing
the current status, business strategy and future business plan and goals of the
Partnerships, alternatives to the Transaction, an analysis of a pro forma
trading range of the Common Stock of the Company, an analysis of proposed
management contracts and an analysis of the Fairness Opinion to be issued by
Sutro & Co.
At a meeting of the Special Committee held in Denver, Colorado on March 5,
1998, Sutro & Co. made a presentation regarding a preliminary analysis of the
Transaction. At this meeting, Sutro & Co. distributed a written outline of their
presentation. This written outline contained information relating to four major
topics: (i) the Exchange Values and Exchange Value percentage allocation
analysis, (ii) common stock pro forma estimated trading valuation for the
Company, (iii) peer groups for the Company, and (iv) an analysis of proposed
management contracts. The first section contained charts reviewing the
Appraisals rendered by Valuation Research, charts comparing the estimated
liquidation value versus a going concern value, a chart projecting 1998 property
level income statements for the Partnerships, a chart projecting 1998 income
statements for the Company and charts reviewing the Exchange Values and the
allocation of the Exchange Values between the Partnerships. The second section
contained charts reviewing the pro forma estimated initial trading valuation and
future trading valuation for the Company. The third section contained charts
comparing the Company to a peer group of multi-family equity REITs and charts
comparing the Company to a peer group of real estate development companies. The
third section also contained a description of the real estate development
companies included in the peer group. The fourth section contained a chart
comparing estimated future fees payable under the Advisory Agreement to the
historical compensation paid to the General Partners. The Special Committee,
together with the representatives from Sutro & Co., discussed a number of
matters, including potential alternatives to the Transaction, and an analysis of
fees payable under the proposed Advisory Agreement compared to fees payable
under management agreements for other real estate companies.
At a telephonic meeting of the Special Committee held on March 12, 1998, the
Special Committee discussed the proposed Advisory Agreement and asked Sutro &
Co. for some additional analysis regarding the fees and termination provisions
of the Advisory Agreement.
At a telephonic meeting of the Special Committee held on April 3, 1998, the
Special Committee received a report from Sutro & Co. regarding the terms of the
Advisory Agreement, and discussed certain proposed changes to the Advisory
Agreement.
At a telephonic meeting of the Special Committee held on April 9, 1998, the
Special Committee discussed the status of the negotiations concerning the
Advisory Agreement and received additional information from Sutro & Co.
concerning management agreements involving other real estate companies.
At a telephonic meeting of the Special Committee held on April 29, 1998, the
Special Committee discussed the status of the Advisory Agreement, and the
negotiations relating thereto. In addition, the Special Committee reviewed a
number of substantive and procedural factors relating to the Transaction that
would be taken into account when the Special Committee ultimately considered the
fairness of the Transaction.
At a telephonic meeting of the Special Committee held on May 4, 1998, the
members of the Special Committee discussed the status of negotiations relating
to the Advisory Agreement, and the status of the Transaction. The Special
Committee then reviewed and discussed the draft Fairness Opinion. The Special
Committee then reviewed a number of substantive and procedural factors relating
to the Transaction that it had considered, including, without limitation, the
following:
- the Fairness Opinion of Sutro & Co., the methodology used by Sutro & Co.
to prepare the Fairness Opinion, and each of the substantive factors
considered by Sutro & Co.
- the Appraisals conducted by Valuation Research, and the reasons why the
Appraisals were believed to be satisfactory for purposes of the Special
Committee's analysis
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- the method used to determine the Exchange Values used in the Transaction
- the proposed business plan of the Company
- a comparison of the advantages and disadvantages of the Transaction
compared to a variety of alternative transactions, including the status
quo
- the projected costs of termination and liquidation of the Partnerships
- the likely pro forma trading range for shares of the Company following the
Transaction
- the terms of the proposed Advisory Agreement
- the terms of the Notes
- the likely federal income tax effects of the Transaction on Investors
- the experience of the proposed management of the Company
- the current and historical financial condition and results of operations
of the Partnerships
- the projected financial condition, results of operations, prospects and
objectives of the Partnerships and the Company, as well as risks in the
real estate industry under then-current economic and market conditions
- the nature and background of the Investors
- the historical performance of the publicly traded Units
- the thinly traded, illiquid nature of the publicly traded Units
- the impact of the Transaction on the Partnerships' loan documents and
other contractual arrangements
- the application of the Partnership Agreements to the Transaction
- the timing and likelihood of consummation of the Transaction
- the ability of Investors to elect to receive Notes in the Transaction
- the fact that the Transaction will require the approval of a majority in
interest of the Investors
- other procedural factors, including the fact that information was provided
on a continual basis to the Special Committee and its advisors, the fact
that the Special Committee played an active role in negotiations and in
the decision-making process, the fact that the Special Committee carefully
considered the Transaction having a full awareness of its duties, and the
fact that the Special Committee used its financial advisor on an ongoing
basis.
In light of all of these factors, the Special Committee concluded that the
Transaction was fair as a whole to, and in the best interests of, the Investors,
and recommended that the General Partners and the Investors approve the
Transaction.
At a telephonic meeting of the Special Committee held on May 5, 1998, the
members of the Special Committee reviewed a number of issues relating to the
Indenture.
Between December 15, 1997 and May 5, 1998, the Special Committee
participated in numerous telephone conversations, many of which included
representatives from Holland & Hart LLP and/or Sutro & Co., in which various
issues raised during meetings of the Special Committee were discussed further.
The Board of Managers of America First Companies met on May 5, 1998 to
consider and approve the Transaction. At the May 5, 1998 meeting, the Special
Committee summarized the actions it had taken in connection with the proposed
Transaction, the conclusions it had reached regarding the fairness of the
Transaction and the recommendations it had made to the General Partners and to
the Investors that the Transaction be approved. Following a discussion of these
matters, the Board of Managers approved the Transaction.
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On May 7, 1998, the Company filed the Registration Statement on Form S-4
with the Commission.
On July 21, 1998 the Company filed with the Commission Pre-Effective
Amendment No. 1 to the Registration Statement on Form S-4 in response to
comments issued by the Commission with respect to the Registration Statement.
At a telephonic meeting of the Special Committee held on September 23, 1998,
the members of the Special Committee received a report from Sutro & Co.
regarding a draft bring-down fairness opinion that Sutro & Co. had prepared. In
addition, the Special Committee reviewed each of the factors considered at the
May 4, 1998 meeting of the Special Committee, and determined that there had not
been any changes in those factors that impacted the Special Committee's previous
conclusion about the fairness of the Transaction. The Special Committee also
discussed and approved of several changes that had been proposed to the
Partnership Agreements and to the form of Merger Agreement.
On November 3, 1998 the Company filed with the Commission Pre-Effective
Amendment No. 2 to the Registration Statement on Form S-4 in response to
comments issued by the Commission with respect to the Registration Statement.
ALTERNATIVES CONSIDERED
Before deciding to recommend the Transaction, the General Partners
considered alternatives to the proposed Transaction in an effort to achieve
maximum Investor return and substantially enhanced liquidity. The alternatives
were also considered by the Special Committee in connection with its review of
the fairness of the Transaction. In addition to the proposed Transaction, the
General Partners and the Special Committee each considered the following
options: (i) continued management of the Partnerships as currently structured,
(ii) listing the Units of each Partnership on a national securities exchange or
automated quotation system; (iii) merging the Partnerships into a single
publicly traded partnership and listing the resulting partnership interests on a
national securities exchange or automated quotation system; (iv) merging the
Partnerships together to form a single REIT; (v) qualifying each Partnership as
an individual REIT; and (vi) liquidating the Partnerships through entire
portfolio sales or sales of individual properties. For a quantitative comparison
of the alternatives to the Transaction, see "FAIRNESS."
CONTINUATION OF PARTNERSHIPS. An alternative to the Transaction would be to
continue each of the Partnerships in accordance with its existing business plan.
If the Partnerships were to continue in their current form, they would remain
separate legal entities governed by their respective Partnership Agreements,
with their own assets and liabilities. Investors in favor of this option should
consider voting against the Transaction. Continuing the Partnerships without
change has a number of benefits, including the following:
- each Partnership would remain a separate entity, with its own assets,
liabilities and original investment objectives, consistent with the
guidelines, restrictions and safeguards in its Partnership Agreement;
- there would be no change in the nature of the Investors' investments or
relative voting rights, and the Partnership's performance would not be
affected by the performance of the other Partnership, including the
investment objectives, interests and intentions of the Investors in the
other Partnership;
- the Partnerships would not incur any expenses in connection with the
Transaction;
- the Partnerships would avoid the risks inherent in the Transaction; and
- the Partnerships would continue their tax advantaged status and not be
subject to federal income tax.
Maintaining the Partnerships as separate entities may have the following
potentially negative results when compared with the benefits the General
Partners believe may be derived from the Transaction:
- illiquidity of investment on a current basis due to the lack of a large
and established secondary market;
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- inability to raise new capital or make new investments, thus limiting
growth of the Partnerships' capital to that inherent in the existing
Partnership investments;
- no flexibility or control in actively managing the portfolio in response
to changing conditions in national and international real estate markets;
- the declining value of the mortgage investments due to amortization of
principal and subsequent distributions of such amounts;
- duplication among the Partnerships in reporting, filing and other costly
administrative services; and
- continued complicated tax filings for Investors.
LISTING PARTNERSHIP UNITS. Another alternative to the Transaction would be
to list the Units of each Partnership on a national securities exchange or on an
automated quotation system in an attempt to increase the liquidity of the Units.
However, the General Partners believe that limited partnership units generally
do not trade well on such exchanges or automated quotation systems and that
consequently meaningful liquidity would not be achieved. Furthermore, the
General Partners believe that the market tends to view common stock more
favorably than limited partnership units and that pursuing this alternative
would substantially diminish the Partnerships' ability to grow compared to the
Transaction. As a publicly traded company with a base of assets greater than a
single Partnership, the Company expects to be able to issue additional debt and
equity securities with greater ease and on more attractive terms than would be
available to a Partnership individually. For the reasons described above, as
well as for some of the reasons set forth above with respect to continuation of
the Partnerships, the General Partners concluded that the potential negatives of
this alternative outweigh any advantages it may have over the Transaction.
MERGER RESULTING IN A SINGLE PUBLICLY TRADED LIMITED PARTNERSHIP. Instead
of participating in the Transaction, the Partnerships could be merged together
to form a single publicly traded limited partnership with the units of the new
limited partnership listed on a national securities exchange or automated
quotation system. For the reasons discussed above with respect to listing the
Units of each individual Partnership, the General Partners determined that this
alternative is less advantageous to the Investors than the Transaction.
SINGLE REIT. The General Partners considered merging the two Partnerships
into a single entity which would elect REIT status but determined that it was a
less attractive alternative to the Transaction. The General Partners concluded
that the resulting REIT would be too small in terms of total capitalization to
compete with existing REITs having similar investment objectives. Specifically,
the initial capitalization of the new company would be less than $85 million, in
contrast to the more than 85 REITs with total current capitalization in excess
of $500 million each, placing the new company at a significant disadvantage. For
example, many investment opportunities available to the competition would be
foreclosed to the new company because of its small size and resulting difficulty
in attracting capital at competitive pricing. As such, growth prospects would be
constrained by the new company's unfavorable competitive position. Furthermore,
due to restrictions in the Code relating to distributions of net taxable income
and limitations on sales of assets, as a REIT the Company would not be able to
pursue the business plan described herein which involves the ability to retain
cash flow for investment purposes and to sell assets regularly after the
achievement of goals set for those assets.
INDIVIDUAL REITS. The General Partners considered converting each
Partnership into an individual REIT, but determined that it was a less
attractive alternative than the Transaction for the same reasons discussed above
for the single REIT alternative. The issues cited above as reasons for the lack
of attractiveness of a new company as a single REIT would be magnified when
applied to each Partnership as an individual REIT due to the significantly
smaller size of each Partnership as a stand alone entity.
LIQUIDATION. Although the investment objectives and policies of the
Partnerships do not contemplate the commencement of the liquidation of the
Partnerships at any specific time, the General Partners assessed the possibility
of commencing the orderly liquidation of the Partnerships and distributing the
net proceeds from such liquidation to the Investors and General Partners. The
General Partners concluded
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that liquidation would be costly and time consuming and would not be as
beneficial to Investors as the Transaction.
The General Partners determined that an attempt to liquidate the
Partnerships' investments at the current time would likely result in the
Investors not achieving the full potential benefits from an investment in the
Partnerships. They concluded that liquidation would not be the best option to
realize the optimum return on an investment in the Partnerships because although
the Partnerships' investments in mortgage loans could likely be sold at or
slightly above their face value, most of the Partnerships equity positions in
the Operating Partnerships are not attractive to buyers due to restrictions in
the various Operating Partnership documents. Liquidation of most of the equity
positions would require either (i) a protracted period of negotiations with the
various general partners of the Operating Partnerships which could potentially
create both substantial transaction costs and additional costs to the
Partnerships of continuing operations during the negotiation period, and/or (ii)
the Partnerships' accepting substantial discounts in value. In addition, there
may be additional costs associated with representations, warranties, and
indemnifications that purchasers generally require and which may result in
additional escrow costs. In addition to reviewing the liquidation of the
Partnerships' assets through methods outlined by the General Partners, the
Special Committee separately considered the viability of liquidating the
Partnerships through a potential sale of the Partnerships' assets to a REIT. The
Special Committee concluded that this was not a viable option due to various
restrictions in the Operating Partnership partnership agreements. Furthermore,
the liquidation of the Partnerships would involve certain transaction costs,
such as legal fees and various other closing costs, which would further reduce
the amount of net proceeds available for distribution.
On the other hand, in a liquidation of the Partnerships, Investors would
benefit by avoiding the risks of continuing their ownership of the Partnerships
and those associated with the Transaction. Liquidation would provide for the
final liquidation of the Investors' investments and a likely substantial
distribution of cash equal to net liquidation proceeds, though not at a level
that would allow Investors to realize their original investment. In addition,
the Investors would have the potential to reinvest the net proceeds received in
the liquidation in similar or different investments.
REASONS FOR, AND BENEFITS OF, THE TRANSACTION
In deciding whether to recommend the Transaction to the Investors, and in
structuring its terms, the General Partners considered the benefits to be
derived as a result of the Transaction. The following is a brief discussion of
the primary benefits the Transaction is expected to generate for the Investors.
SUBSTANTIALLY ENHANCED LIQUIDITY POTENTIAL. The Units are not currently
listed or regularly traded on a national securities exchange or quoted in the
automated quotation system of any registered securities association or other
over-the-counter market. Following the Transaction, the anticipated listing of
the Common Stock on the NYSE and the Company's larger equity market
capitalization and growth strategy should enhance the liquidity of investments
held by Investors. The General Partners therefore believe the Transaction offers
Investors a faster and more efficient means of liquidating their investment than
if the Partnership were to attempt to liquidate their portfolios through
conventional property sales.
POTENTIAL FOR COMPANY GROWTH; ENHANCED ACCESS TO CAPITAL. The Company will
expand the investment objectives and policies of the Partnerships. Following the
Transaction, the Company will have the potential for enhanced access to and
flexibility in obtaining additional equity and debt financing. In particular,
the Company will have the ability to fund future portfolio growth through the
issuance of additional publicly traded securities and the raising of funds from
borrowing under secured and unsecured debt obligations. The Partnerships are
currently limited under their respective Partnership Agreements in their ability
to raise additional capital. Following the Transaction, the Company will not be
subject to the same capital-raising limitations. In addition, the size and
structure of the Company should provide financing alternatives presently not
available to the Partnerships. The General Partners believe that the larger
total market capitalization of the Company, as compared to those of the
individual Partnerships, will encourage additional and continuing investment, in
many cases by institutional investors (which tend to favor
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companies with large market capitalizations), which may over time lead to an
increase in the trading multiple and share price of the Company.
WAIVER BY AFFILIATES OF THE CAP SOURCE I GENERAL PARTNERS OF AMOUNTS PAYABLE
BY CERTAIN CAP SOURCE I OPERATING PARTNERSHIPS. If the Transaction is
completed, affiliates of the Cap Source I General Partners have agreed to
permanently waive amounts which may be payable by certain Cap Source I Operating
Partnerships to such affiliates. As of June 30, 1998, such amounts totaled
$3,416,295, as reflected in the financial statements of Cap Source I. These
amounts are payable pursuant to the terms of the partnership agreements for the
Cap Source I Operating Partnerships.
DIVERSIFICATION OF ASSETS. By combining the Partnerships into a single
ownership entity, the Transaction will create an investment portfolio
substantially larger and more diversified than the portfolio of an individual
Partnership. This increased size and the resulting combination of operations
spreads the risk of the investment over a broader group of assets and reduces
the dependence of Investors' investment upon the performance of any particular
asset or group of assets, any specific geographic area or industry, or any
particular large tenant or tenants.
SIMPLIFIED REPORTING REQUIREMENTS. The Transaction will result in
simplified federal and state tax reporting for Investors. Shareholders and
Noteholders will receive Form 1099 rather than the more complicated Schedule K-1
and will no longer be subject to state tax withholding or be required to file
individual state tax returns (other than in their state of residence) solely as
a result of an investment in the Company.
The General Partners also considered: (i) that the effects of the
Transaction may differ with each Investor and may be disadvantageous to certain
Investors, depending on their individual circumstances and investment
objectives; and (ii) certain negative factors relating to the Transaction. The
following is a list of all material negative factors considered by the General
Partners: (a) the uncertainty as to the prices at which the Common Stock will
trade and the possibility that the trading price of the Shares may be lower than
the value assigned to them for purposes of the Transaction; (b) the Company is a
newly formed corporation, with no operating history; (c) potential conflicts
facing the Company following the Transaction, including, among other things, the
fees payable to the Advisor under the Advisory Agreement; (d) the payment of
expenses relating to the Transaction will reduce the net worth of the Company
following the Transaction; and (e) there can be no assurance the Company will be
able to achieve the benefits of the Transaction and successfully implement its
business plan as described herein. The General Partners did not believe that the
negative factors were sufficient, either individually or collectively, to
outweigh the advantages of the Transaction. See "RISK FACTORS" and "THE
TRANSACTION--Conflicts of Interest and Benefits to Insiders."
For a discussion of the potential benefits of the alternatives to the
Transaction and the reasons such alternatives were rejected by the General
Partners, see "--Alternatives Considered," above, and "FAIRNESS--Comparison of
Certain Alternative to the Transaction." While the Transaction does not preclude
the Company from electing REIT status in the future, it does effectively
preclude the pursuit of the other alternatives to the Transaction.
CONSEQUENCES IF TRANSACTION NOT COMPLETED
If the Transaction is not completed the Partnerships will continue to
operate as separate legal entities with their own assets and liabilities. There
will be no change in their investment objectives, policies and restrictions.
THE TRANSACTION
GENERAL
The General Partners have proposed the Transaction in which (i) the
Partnerships, the General Partners and the Company will be merged together, (ii)
the separate existence of the Partnerships will cease and the Company will be
the surviving entity and will succeed to all of the assets and liabilities of
the
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Partnerships and the General Partners, and (iii) Investors will receive, at
their election and subject to certain limitations, either Shares or Notes based
upon the Exchange Value assigned to their respective Partnerships for purposes
of the Transaction. The General Partners will receive 33,549 of the Company's
Shares, or approximately 1% of the Shares that will be outstanding after the
completion of the Transaction assuming no Notes are issued, as consideration for
the transfer of their assets to the Company pursuant to the Merger Agreement.
The Transaction has been proposed by the General Partners in an effort to
increase the value of investments held by Investors while offering substantially
enhanced liquidity.
The Company, the General Partners and the Partnerships have entered into the
Merger Agreement and will consummate the Transaction pursuant to the terms
thereof promptly after the receipt of consents from Investors holding a majority
of the outstanding Units of each of the Partnerships. If the consent of a
majority in interest of the Investors of each of the Partnerships is not
received, or all other conditions to the Transaction are not satisfied, by
, 1998, the Merger Agreement will terminate. In addition, the Merger
Agreement may be terminated by a majority of the Board of Directors before or
after the receipt of consents from Investors at any time prior to the Effective
Date.
TERMS OF THE MERGER AGREEMENT
The following is a summary of the material terms of the Merger Agreement.
This summary does not purport to be complete and is subject to, and qualified in
its entirety by, the terms of the Merger Agreement, a copy of which is attached
as Appendix A of this Prospectus/Consent Solicitation Statement and is
incorporated by reference herein.
EFFECT OF THE MERGER. Under the terms of the Merger Agreement (i) the
separate existence of the Partnerships will cease and the Company will be the
surviving entity and will succeed to all of the assets and liabilities of the
Partnerships and General Partners, and (ii) Investors will become Shareholders
or Noteholders of the Company.
CONDITIONS TO CONSUMMATION OF THE TRANSACTION. The closing for the
Transaction will take place promptly after the General Partners have received
the consent to the Transaction from the holders of a majority of the outstanding
Units of each of the Partnerships. The receipt of such consent by no later than
, 1998 (unless such date is extended by the General Partners in their
sole discretion) is a condition to closing the Transaction and if it is not
obtained, or all other conditions to closing are not satisfied or waived, the
Merger Agreement will terminate. Other conditions to closing include (i) the
declaration of effectiveness of the registration statement for the Shares of the
Company under the Securities Act of 1933, as amended (the "Securities Act");
(ii) the delivery of a tax opinion acceptable to the General Partners to the
effect that for federal income tax purposes the Transaction will be an exchange
subject to the nonrecognition provisions of Section 351 of the Code, provided
that for purposes of such opinion the Transaction shall include only the merger
of the Partnerships into the Company and the related transfer of assets by the
Partnerships to the Company; (iii) the absence of any material adverse change in
the overall business of the Partnerships from the date of this
Prospectus/Consent Solicitation Statement to the Effective Date; and (iv) the
approval of the Shares of the Company for listing on NYSE, subject to official
notice of issuance.
TERMINATION OF THE MERGER AGREEMENT. The Merger Agreement may be terminated
by a majority of the Board of Directors before or after the receipt of consents
from Investors at any time prior to the effective time of the Certificate of
Merger filed with the Secretary of State of the State of Delaware relating to
the Transaction.
ISSUANCE OF SHARES AND NOTES OF THE COMPANY
On the Effective Date, the Units of both Partnerships will be cancelled. At
such time, Investors whose ownership is reflected on the books and records of
the Partnerships on the Record Date will become either Shareholders or
Noteholders, as the case may be, on the books of records of the Company, with
all the rights thereof, including the right to receive dividends or interest
payments. As promptly as practicable
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after the Effective Date, the Company will cause to be mailed to the
Shareholders or Noteholders, as the case may be, certificates representing the
number of Shares to which the Shareholder is entitled or Notes which will be
issued in denominations of $1,000 and any integral multiple thereof.
NO FRACTIONAL SHARES
No fractional Shares will be issued by the Company in the Transaction. Each
Investor who would otherwise be entitled to a fractional Share (which
entitlement will be determined by combining such Investor's allocation of Shares
from each Partnership as to which such Investor is receiving Shares) will
instead receive a cash payment equal to $25 multiplied by the fraction.
FRACTIONAL NOTES
The principal balance of the Notes to which an Investor is entitled is
determined by multiplying the number of the Investor's Units by the Exchange
Value, per $1,000 original investment, assigned to such Investor's Partnerships.
The application of this formula may result in the Investor's being entitled to a
fractional interest in a Note (determined after combining such Investor's
allocation of Notes from each Partnership as to which such Investor is receiving
Notes). The Company will issue to each Investor entitled to such a fractional
interest a promissory note ("Promissory Note") with an original principal
balance equal to that fraction times $1,000, subject to the Company's right, at
its option, to pay cash in lieu of any portion of a Promissory Note. Apart from
its principal balance, this Promissory Note will be identical to the Notes and
will be issued by the Company pursuant to the Indenture. No market is expected
to develop for these Promissory Notes and they will not be listed on any
securities exchange.
TRANSACTION EXPENSES
GENERAL. The term "Transaction Costs" means all costs associated with the
Transaction. Assuming the Transaction is approved, the Transaction Costs are
estimated to be as follows:
SOLICITATION/COMMUNICATION COSTS
<TABLE>
<S> <C>
Information Agent................................................. $ 35,000
Printing, postage and brochure.................................... 225,000
Marketing expenses................................................ 20,000
---------
Subtotal........................................................ $ 280,000
---------
</TABLE>
PRECLOSING TRANSACTION COSTS
<TABLE>
<S> <C>
Legal Fees........................................................ $ 390,000
Special Committee................................................. 40,000
Appraisals (including fee and expenses)........................... 90,000
Fairness Opinion (including fees and expenses).................... 225,000
Registration, Listing and Filing Fees............................. 110,000
Accounting........................................................ 65,000
Contingency....................................................... 35,000
---------
Subtotal........................................................ $ 955,000
---------
</TABLE>
CLOSING TRANSACTION COSTS
<TABLE>
<S> <C>
Transfer Fees, Taxes and Title..................................... $ 50,000
---------
</TABLE>
COSTS TO WIND UP AND DISSOLVE PARTNERSHIPS
<TABLE>
<S> <C>
Accounting...................................................... $ 20,000
---------
Total Transaction Costs......................................... $1,305,000
---------
---------
</TABLE>
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<PAGE>
ALLOCATION OF COSTS. If the Transaction is approved, all Transaction Costs
will be paid by the Partnerships and the Company. If the Transaction is
rejected, the General Partners of each Partnership will bear a percentage of all
Transaction Costs, excluding solicitation/communication costs, equal to the
total number of abstentions and "NO" votes cast by Investors in that Partnership
with respect to the Transaction, divided by the total number of abstentions and
votes cast by Investors in that Partnership. In such event, the Partnerships
will bear the remaining Transaction Costs. The solicitation/communication costs
listed above will be paid by the Partnerships.
ACCOUNTING TREATMENT
The Transaction will be accounted for using the purchase method of
accounting in accordance with GAAP. Cap Source I will be deemed to be the
acquirer of Cap Source II under the purchase method because its Unitholders will
be allocated the largest number of Shares. Accordingly, the Transaction will
result, for financial accounting purposes, in the effective purchase by Cap
Source I of all of the Units of Cap Source II. As the surviving entity for
financial accounting purposes, the assets and liabilities of Cap Source I will
be recorded by the Company at their historical cost and the assets and
liabilities of Cap Source II will be recorded at their estimated fair values. In
addition, Cap Source I will acquire the assets of the General Partners, which
will be accounted for using the purchase method of accounting.
REGULATORY MATTERS
The Transaction will not be subject to the requirements of the
Hart-Scott-Rodino Antitrust Improvements Act of 1976. However, the Transaction
is subject to the completion or receipt by the General Partners of all necessary
requirements and approvals by the United States Department of Housing and Urban
Development ("HUD"). These requirements include the filing by principals and
affiliates of a certificate regarding their previous participation in HUD
projects and clearance of such certificate by HUD. HUD may also require the
submission of information for a modified review of the Transaction. The General
Partners are not aware of any facts which would cause HUD not to take the
required action or approvals. Other than federal proxy solicitation rules
relating to the solicitation of Investor consents and state and federal
regulations relating to the offering of the Company's Shares and Notes, no other
federal or state regulatory requirements must be complied with and no approval
thereunder must be obtained in connection with the Transaction.
THE SPECIAL COMMITTEE
The General Partners arranged for the organization of the Special Committee
to represent the interests of the Partnerships and Investors in negotiating the
terms and conditions of the Transaction and Advisory Agreement. The Special
Committee also negotiated the fees to be paid to the Advisor under the Advisory
Agreement. The Exchange Values were initially determined by the General Partners
and subsequently reviewed and approved by the Special Committee. The Special
Committee concluded that the terms of the Transaction are fair as a whole, to
the Partnerships and to the Investors in each of the Partnerships. The Special
Committee was retained without conditions or restrictions.
The members of the Special Committee are Messrs. Martin A. Massengale and
George J. Kubat. Since the organization of the Special Committee, it has met in
person on four occasions and has had seven additional telephonic meetings and
numerous other telephone conferences for the purpose of considering the proposed
Transaction. As part of its analysis of the Transaction, the Special Committee
engaged its own legal counsel and engaged Sutro & Co. to render the Fairness
Opinion with regard to the Transaction. See "FAIRNESS OPINION AND
APPRAISALS--Fairness Opinion." The Special Committee originally consisted of
three members, including the two current members and Ms. Mariann Byerwalter. Ms.
Byerwalter resigned from the Special Committee on February 6, 1998 as a result
of a potential conflict of interest relating to her position as the former Chief
Financial Officer and director of Eureka Bank, and as a former director of the
holding company of Eureka Bank. Eureka Bank was owned by America First Financial
Fund, which could be considered to be an affiliate of America First Companies.
Eureka Bank
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<PAGE>
was sold in January 1998, and is no longer an affiliate of America First
Companies. Messrs. Massengale and Kubat were each paid $15,000 plus reasonable
out-of-pocket expenses as compensation for serving as members of the Special
Committee.
The two members of the Special Committee serve as directors on the board of
managers of America First Companies. America First Companies is a privately held
limited liability company that controls the General Partners. The two members of
the Special Committee are independent members of the board of managers of
America First Companies for purposes of meeting the independent director
requirement of the national securities exchanges where securities of other
companies sponsored by affiliates of the General Partners are traded. The two
members of the Special Committee do not own an equity interest in America First
Companies or the General Partners, nor will they receive any interest in the
Company or the Advisor. The two members will not be employed by, or serve as a
director of the Advisor or the Company following the Transaction. The
compensation for the Special Committee is a fixed amount of $15,000 per member,
plus reimbursement of expenses, and not contingent upon the outcome of the
Transaction. Therefore, the General Partners have not retained an unaffiliated
representative to act on behalf of the Investors. The Company believes that the
affiliation of the members of the Special Committee with America First Companies
does not materially and adversely affect their ability to act as representatives
for the interests of the Investors. If the General Partners had retained an
unaffiliated party to represent the interests of the Investors, those
representatives might have been able to negotiate a more favorable fee structure
for the Advisor and better terms for the Transaction on behalf of the Investors.
The members of the Special Committee were selected based on their general
business experience and because they serve as independent members of the board
of managers of America First Companies, for NASDAQ purposes, with respect to two
publicly traded limited partnerships, the general partners of which are
controlled by America First Companies. America First Companies controls the
General Partners. Messrs. Massengale and Kubat are not officers or employees of
America First Companies, nor do they own any equity interest in America First
Companies. Neither Mr. Massengale nor Mr. Kubat will receive any economic
benefit which is contingent upon the completion of the Transaction.
The business experience of the members of the Special Committee is as
follows:
George J. Kubat is president and chief executive officer of Phillips
Manufacturing, Inc. of Omaha, Nebraska. From 1969 to 1992, Mr. Kubat was
employed by Coopers & Lybrand, most recently as Tax Partner-in-Charge of the
Omaha office. Mr. Kubat is a director and chairman of the Audit Committee of
American Business Information, Inc.; member of the board of managers and
chairman of the Audit Committee of InfoUSA, Inc.; and a director and chairman of
the Audit Committee of Sitel Corp. He is active in numerous civic and charitable
organizations including being a director and treasurer of the Nebraska Game and
Parks Foundation and a director of All Our Kids, Inc. Mr. Kubat holds a degree
of Juris Doctorate from Creighton University and is a Certified Public
Accountant.
Martin A. Massengale is a member of the Board of Managers of America First
Companies. Since 1976, Dr. Massengale has been associated with the University of
Nebraska as vice chancellor, chancellor, interim president, president and
currently as president emeritus. Prior to joining the University of Nebraska, he
was a professor and associate dean with the University of Arizona. He serves on
the Board of Directors of IBP, Inc., a meat packing company, and on the Board of
Trustees of Great Plains Funds, a mutual fund. He has served on a number of
professional boards, has received more than 30 awards recognizing his
contributions to agriculture and education and has published more than 70
articles pertaining to agriculture. At the invitation of the Minister of
Education, Dr. Massengale traveled to the People's Republic of China to review
educational programs with the State Commission of Education in Beijing and for
the Shaanxi Providence in Xi'an. He has also provided his expertise to Australia
and New Zealand, Morocco, Indonesia, the Soviet Union, Saudi Arabia, Mexico and
Brazil. He has been recognized by more than 20 publications, both national and
international, for his achievements and leadership in both education and
agriculture.
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<PAGE>
RECOMMENDATION OF THE GENERAL PARTNERS AND THE SPECIAL COMMITTEE
The General Partners, together with the Special Committee, have determined
that the Transaction is in the best interest of the Investors and that it is
fair to the Partnerships, to the Investors in each of the Partnerships and as a
whole. Accordingly, the General Partners have approved the Transaction and the
Merger Agreement, and the General Partners and the Special Committee recommend
that the Investors vote "YES" in favor of the Transaction and the adoption of
the Merger Agreement. The General Partners believe the Transaction is the most
attractive alternative for providing Investors with the possibility of
increasing the value of their investments while offering substantially enhanced
liquidity. The Special Committee was not engaged to determine whether the
Transaction is the most attractive alternative to the Investors. See "FAIRNESS."
AMENDMENTS TO PARTNERSHIP AGREEMENTS
To eliminate the need for Investors to locate and present to the General
Partners certificates representing Units to be exchanged in connection with the
Transaction, the General Partners amended Sections 7.01 and 7.02 of the
Partnership Agreements to provide that ownership of the Units be evidenced
solely by the books and records of the Partnerships. To comply with the rules
and regulations of the SEC governing the Transaction, which require a
solicitation period of at least 60 days, the General Partners also amended
Sections 10.01(b) and 10.01(c) of the Partnership Agreements to specifically
provide for giving notice of a meeting and the setting of a record date at least
10 but not more than 120 days prior to the final date on which the solicitation
of the consent of the Investors takes place. Investors voting in favor of the
Transaction will also have voted in favor of ratifying these amendments to the
Partnership Agreements (the "Amendments") and any other actions taken by the
General Partners to facilitate the Transaction.
EFFECT OF THE TRANSACTION ON DISSENTING INVESTORS
Dissenting Investors and Investors who abstain from voting with respect to
the Transaction do not have a statutory right to elect to be paid the appraised
value of their interests in the Partnership. However, all Investors, including
Dissenting Investors, will be given the opportunity to elect to receive Notes
instead of Shares for their Units as described under "THE NOTES." Noteholders
are entitled to receive only the principal and interest payments required under
the Notes. Unlike Shareholders, Noteholders will have no right to participate in
the Company's earnings in excess of operating expenses, debt service and other
obligations, and will not benefit from growth in Shareholders' equity that might
result from future financial performance of the Company.
EFFECTIVE TIME
The Effective Time of the Transaction will be at the time the Certificate of
Merger with respect to the merger of the Partnerships and the General Partners
with and into the Company is filed with the Secretary of State of Delaware, or
at such later time as may be specified in the Certificate of Merger. It is
anticipated that such filings will be made as promptly as practicable after the
requisite approval of the Investors has been obtained and the other conditions
to the Transaction have been satisfied or waived, if permitted under the Merger
Agreement.
CONFLICTS OF INTEREST AND BENEFITS TO INSIDERS
The General Partners participated in the initiation and structuring of the
Transaction and are expected to receive certain benefits as a result of its
completion. First, in connection with the Transaction, the owners of the General
Partners will receive an aggregate of 33,549 Shares, or approximately 1% of the
Shares outstanding upon completion of the Transaction assuming no Notes are
issued, in exchange for their assets. These Shares could have an approximate
value of $838,725 based on an assumed value of $25 per Share. In addition, the
Advisor, a subsidiary of America First Companies, which controls the General
44
<PAGE>
Partners, will serve as the advisor to the Company and will be entitled to
receive management fees from the Company pursuant to the Advisory Agreement. See
"MANAGEMENT OF THE COMPANY--The Advisor." Further, Michael B. Yanney, who is a
member and manager of America First Companies, will also serve as Chairman of
the Board of the Company and the Advisor. As such, he will be entitled to
receive stock options under the Company's 1998 Stock Option Plan. See
"MANAGEMENT OF THE COMPANY--Compensation of Executive Officers". Mr. Yanney will
not receive any Shares or Notes for the .99% interest he has in two of the
General Partners in connection with the Transaction. In an effort to reduce
potential conflicts of interest, the Partnerships and Investors have been
represented by the Special Committee in the negotiation of the terms and
conditions of the Transaction and Advisory Agreement.
FAIRNESS
BELIEF AS TO FAIRNESS
The General Partners, together with the Special Committee, reasonably
believe that the terms of the Transaction are fair as a whole, to the
Partnerships and to the Investors in each of the Partnerships, regardless of
whether an Investor receives Shares or Notes. The material factors underlying
the beliefs of the General Partners and the Special Committee relating to the
fairness of the Transaction are discussed below under "--Material Factors
Underlying Belief as to Fairness."
The General Partners and the Special Committee based their determinations as
to the fairness of the Transaction on the following material factors: (i) the
process of arm's-length negotiation of the terms and conditions of the
Transaction and Advisory Agreement, with the Special Committee acting on behalf
of the Partnerships and Investors; (ii) the opportunity for each Investor to
object to the Transaction and the requirement that the Transaction be approved
by Investors holding a majority in interest of each of the Partnerships'
outstanding Units; (iii) the form and amount of consideration offered to the
Investors; (iv) the method of allocating the Shares and Notes between the
Partnerships in the Transaction; (v) the lack of material differences with
respect to the assets of the Partnerships and the consistent valuation
methodology applied to the assets; (vi) the Fairness Opinion rendered by Sutro &
Co.; (vii) the independent Appraisals prepared by Valuation Research, which were
used in part in the determination of the Exchange Values; and (viii) the fact
that all Investors, including Dissenting Investors, will be given the
opportunity to elect to receive Notes, subject to certain limitations.
The General Partners and the Special Committee also considered the potential
benefits of the Transaction compared to the alternatives in reaching their
conclusion as to the fairness of the Transaction. Such potential benefits
include, but are not limited to: (i) enhanced liquidity resulting from the
anticipated listing of the Shares on the NYSE and the Company's larger equity
market capitalization and growth strategy; (ii) the Company's potential for
growth and enhanced access to capital; (iii) a capital and operating structure
that will allow the Company to respond more efficiently to changing conditions
in the U.S. equity markets, thereby potentially reducing the adverse effects of
such changes; and (iv) simplified tax reporting requirements for Investors. See
"BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE TRANSACTION."
MATERIAL FACTORS UNDERLYING BELIEF AS TO FAIRNESS
The following is a discussion of the material factors underlying the belief
of the General Partners and the Special Committee that the Transaction is fair
as a whole, to the Partnerships and to the Investors in each of the
Partnerships.
PARTNERSHIP REPRESENTATIVES. The Partnerships and Investors have been
represented by the Special Committee, which participated in arm's-length
negotiations on behalf of the Partnerships with respect to the terms and
conditions of the Transaction and Advisory Agreement. The Special Committee
also negotiated the fees to be paid to the Advisor under the Advisory
Agreement. The Exchange Values were initially determined by the General
Partners and subsequently reviewed and
45
<PAGE>
approved by the Special Committee. In addition, the Special Committee
retained Sutro & Co. to render the Fairness Opinion. The members of the
Special Committee are also outside members of the Board of Managers of
America First Companies, which controls the General Partners; however,
neither is an officer or employee of America First Companies and neither
owns an equity interest in America First Companies. Furthermore, neither
member of the Special Committee will receive an economic benefit which is
contingent upon the completion of the Transaction.
VOTING PROCEDURES AND OPPORTUNITY TO ELECT TO RECEIVE NOTES. The
General Partners and the Special Committee believe that the voting process
and alternatives presented to Investors, including Dissenting Investors, are
fair. Each Investor has the opportunity to make an investment decision by
voting "YES," "NO" or "ABSTAIN" with respect to the Transaction, and the
Transaction must be approved by Investors holding a majority in interest of
each Partnership's outstanding Units. See "VOTING." All Investors, including
Dissenting Investors, are also being given the opportunity to elect to
receive Notes instead of Shares in exchange for their Units, subject to
certain limitations. See "THE NOTES."
CONSIDERATION OFFERED. The General Partners and the Special Committee
believe that the Shares and Notes offered to the Investors constitute fair
value. In reaching this conclusion, the General Partners and the Special
Committee considered the fact that Investors will surrender their right to
receive cash proceeds from the liquidation of the Partnerships at some time
in the future. In this regard, the General Partners and the Special
Committee compared the amount of consideration to be received in alternative
transactions, including liquidation, to the anticipated market value of the
Company's Shares. The General Partners and the Special Committee believe the
Exchange Value, which was negotiated in arm's-length negotiations by the
Special Committee and is based in part on the Appraisals, adequately takes
into account the relative values of each of the Partnerships.
METHOD OF ALLOCATION. The General Partners and the Special Committee
believe that it is fair to allocate the Shares and Notes between the
Partnerships in accordance with their respective Exchange Values. In view of
the similarities between the Partnerships in terms of their investment
objectives and policies as well as in their assets, the General Partners and
the Special Committee believe there is no material difference between the
Partnerships with respect to determinations related to the allocation of
Shares and Notes between the Partnerships. A majority of the assets of both
Partnerships are GNMA Certificates, FHA Loans, cash and cash equivalents.
Further, all of the properties owned by the Operating Partnerships are
multifamily apartment complexes. The General Partners and Special Committee
therefore believe that the consistent valuation methodology applied to these
assets and the lack of material difference between assets of each
Partnership support their conclusion that the allocation of the Shares and
principal allocation of Notes to be received by the Investors is fair.
FAIRNESS OPINION. The General Partners and the Special Committee have
relied, in part, upon the Fairness Opinion rendered by Sutro & Co. to
support their conclusion that the Transaction is fair. The preparation and
delivery of the Fairness Opinion was requested by the Special Committee.
Sutro & Co. was retained to render the Fairness Opinion without any
conditions or restrictions. See "FAIRNESS." The qualifications, limitations
and assumptions in the Fairness Opinion did not limit the General Partners'
reliance on the Fairness Opinion.
INDEPENDENT APPRAISALS. The General Partners and the Special Committee
have relied upon the Appraisals prepared by Valuation Research, an
independent appraiser, to establish the fair market value (the "Appraised
Value") of the Properties. Such Appraised Values were utilized, in part, in
determining the Exchange Values of the Partnerships. In preparing the
Appraisals, Valuation Research was not engaged to represent the interests of
the General Partners or any specific group of Investors, but was engaged to
determine the fair market value of the Properties in which the Partnerships
hold an interest without taking into account the specific financial interest
of any person or group. The General Partners and the Special Committee
believe that the use of a single
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<PAGE>
independent appraiser, applying consistent methodology and criteria in
assessing the value of each of the Properties, increased the likelihood that
the value of each such real property would be determined on a fair,
consistent and unbiased basis. Sutro & Co. also reviewed the Appraisals in
connection with its issuance of the Fairness Opinion, and found the
Appraisals to be acceptable. The General Partners and the Special Committee
therefore believe the Appraisals support their conclusion as to the fairness
of the Transaction.
NOTES. The Indenture for the Notes contains specific covenants for the
benefit of Noteholders. These covenants include (i) a limitation on Company
indebtedness, (ii) certain restrictions on the sale or transfer of Company
assets and (iii) certain prohibitions against mergers or transactions
involving the Company. See "THE NOTES." In addition, the Notes are variable
rate obligations. The General Partners believe the use of a variable rate
note, combined with these restrictive covenants, may improve the likelihood
that after the Transaction the price of the Notes will not fall below their
face value upon issuance. Although the aggregate principal amount of Notes
to be issued may not exceed $40 million, the General Partners and the
Special Committee believe this limitation is procedurally fair because the
Notes will be allocated first to Dissenting Investors, who will be able to
receive Notes under any circumstances, whereas an abstaining or Consenting
Investor who wishes to receive Notes will receive Shares if the issuance of
Notes has reached $40 million. See "THE NOTES--Allocation of Notes."
In addition to the foregoing material factors, the General Partners and the
Special Committee considered that the effects of the Transaction may differ with
respect to each Investor and may be disadvantageous to certain Investors,
depending on their individual circumstances and investment objectives. Further,
the General Partners and the Special Committee considered the following negative
factors relating to the Transaction:
UNCERTAIN MARKET PRICE OF COMMON STOCK. There is substantial
uncertainty as to the prices at which the Shares will trade following the
Transaction. Following the Transaction, the market value of the Common Stock
could be substantially affected by numerous factors. Accordingly, the
possibility exists that the trading price of the Shares may be lower than
the value assigned to the Shares for purposes of the Transaction.
LACK OF OPERATING HISTORY. The Company will be a newly organized
corporation, with no operating history.
CONFLICTS OF INTEREST FACING THE GENERAL PARTNERS. There are conflicts
of interest facing the General Partners with respect to the completion of
the Transaction, including, as indicated above, that (i) the Advisor will be
an affiliate of the General Partners and therefore the owners of the General
Partners will benefit from the completion of the Transaction by indirectly
receiving fees pursuant to the Advisory Agreement, and (ii) the General
Partners determined the method of allocation of the Common Stock between
themselves and Investors.
TRANSACTION EXPENSES. The payment of the expenses relating to the
Transaction will reduce the net worth of the Company following the
Transaction.
NO ASSURANCE BENEFITS OF THE TRANSACTION WILL BE REALIZED. Considerable
time and resources will be required to be devoted by the Advisor in order to
implement the business plan of the Company and to achieve the anticipated
benefits of the Transaction. Because the success of the Company will depend
on numerous factors, including the cost of the Company's borrowing, the cost
and effectiveness of the Company's risk management strategies, changing
conditions in the real estate markets, reserve requirements and the
operating expenses of the Company, there can be no assurance the Company
will be able to achieve the benefits of the Transaction and successfully
implement it business plan.
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The General Partners and the Special Committee did not believe that these
negative factors were sufficient, either individually or collectively, to
outweigh the advantages of the Transaction.
The foregoing discussion of the information and factors considered by the
General Partners and the Special Committee includes material factors considered
by the General Partners and the Special Committee. The General Partners and the
Special Committee did not assign relative weights to the above factors. A
determination of various weightings would, in the view of the General Partners
and the Special Committee, be impractical. Rather, the determinations and
recommendations of the General Partners and the Special Committee are based on
the totality of the information presented to, and considered by, them.
CERTAIN ALTERNATIVES TO THE TRANSACTION
Prior to concluding that the Transaction should be proposed to Investors and
to evaluate the fairness of the Transaction, the General Partners examined the
estimated values which could be derived from alternatives to the Transaction.
The alternatives examined by the General Partners were: (i) continuation of the
Partnerships, and (ii) liquidation of the Partnerships. To determine whether the
Transaction or one of these alternatives would be more beneficial to Investors,
the General Partners compared the potential benefits and detriments of the
Transaction with the potential benefits and detriments of each of the
alternatives. Each of the Transaction and its alternatives have potential
benefits and detriments not present in the other alternatives. For the reasons
set forth below, the General Partners determined that the Transaction is more
beneficial to Investors than either of the alternatives to the Transaction.
CONTINUATION OF THE PARTNERSHIPS. In assessing the Transaction, the General
Partners and the Special Committee considered the advantages and disadvantages
of keeping the Partnerships intact and continuing to operate them in accordance
with their respective Partnership Agreements and existing business plans. If the
Partnerships were to continue in their current form, they would remain separate
legal entities governed by their respective Partnership Agreements. In managing
the businesses of the Partnerships, the General Partners would continue to take
whatever actions they deemed were appropriate in satisfying their fiduciary
obligations to the Investors and the Partnerships. Under this alternative,
Investors would have continued to receive cash distributions in the future and,
ultimately, a liquidation distribution.
Continuing the Partnerships without change has a number of benefits,
including (i) the Partnerships would remain separate entities, with their own
assets and liabilities, and their original investment objectives, consistent
with the guidelines, restrictions and safeguards in their Partnership
Agreements; (ii) the Partnership's performance would not be affected by the
performance of the other Partnership, including the investment objectives,
interests and intentions of the Investors in the other Partnership; (iii) there
would be no change in the nature of the Investors' investments; (iv) the
Partnerships would not incur any expenses in connection with the Transaction;
and (v) the Partnerships would avoid the risks inherent in the Transaction. See
"RISK FACTORS."
The General Partners and the Special Committee concluded that maintaining
the Partnerships as separate entities may have the following potentially
negative results when compared with the benefits that the General Partners and
Special Committee believe may be derived from the Transaction: (i) lower
liquidity of investment due to the illiquid nature of the market for Units; (ii)
inability to raise new capital or make new investments, thus limiting growth of
the Partnerships' capital to that inherent in the existing Partnership
investments; (iii) less flexibility and control in actively managing the
portfolio; (iv) duplicative general and administrative expenses; and (v)
continued complicated tax filings.
LIQUIDATION. Although the investment objectives and policies of the
Partnerships do not contemplate the commencement of the liquidation of the
Partnerships at any specific time, the General Partners and the Special
Committee assessed the possibility of commencing the orderly liquidation of the
Partnerships and distributing the net proceeds from such liquidation to the
Investors and General Partners. The General Partners and Special Committee
concluded that liquidation would be costly and time consuming and would not be
as beneficial to Investors as the Transaction.
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The General Partners and the Special Committee determined that an attempt to
liquidate the Partnerships' investments at the current time would likely result
in the Investors not achieving the full potential benefits from an investment in
the Partnerships. They concluded that liquidation would not be the best option
to realize the optimum return on an investment in the Partnerships because
although the Partnerships' investments in mortgage loans could likely be sold at
or slightly above their face value, most of the Partnerships equity positions in
the Operating Partnerships are not attractive to buyers due to restrictions in
the various Operating Partnership documents. Liquidation of most of the equity
positions would require either (i) a protracted period of negotiations with the
various general partners of the Operating Partnerships which could potentially
create both substantial transaction costs and additional costs to the
Partnerships of continuing operations during the negotiation period, and/or (ii)
the Partnerships' accepting substantial discounts in value. In addition, there
may be additional costs associated with representations, warranties, and
indemnifications that purchasers generally require and which may result in
additional escrow costs. Furthermore, the liquidation of the Partnerships would
involve certain transaction costs, such as legal fees and various other closing
costs, which would further reduce the amount of net proceeds available for
distribution.
On the other hand, in a liquidation of the Partnerships, Investors would
benefit by avoiding the risks of continuing their ownership of the Partnerships
and those associated with the Transaction. Liquidation would provide for the
final liquidation of the Investors' investments and a likely substantial
distribution of cash equal to net liquidation proceeds, though not at a level
that would allow Investors to realize their original investment. In addition,
the Investors would have the potential to reinvest the net proceeds received in
the liquidation in similar or different investments.
Based upon this comparison of the potential benefits and detriments of the
Transaction to the potential benefits and detriments of certain possible
alternatives to the Transaction, the General Partners have concluded that the
Transaction is the more attractive alternative for Investors.
Notwithstanding the belief of the General Partners and the Special Committee
that the assets of the Partnerships cannot be liquidated on favorable terms and
conditions, the following table describes the estimated liquidation values of
the Partnerships.
ESTIMATED LIQUIDATION VALUES
AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
GNMA
CERTIFICATES PARTNERSHIP PARTNERSHIP NET OTHER
AND MORTGAGE EQUITY TERMINATION ASSETS AND LIQUIDATION
LOANS(1) INTERESTS(2) COSTS(3) LIABILITIES(4) VALUES
------------- ------------ ----------- ------------- -------------
<S> <C> <C> <C> <C> <C>
Cap Source I............................ $ 35,502,310 $ 2,644,095 $(500,000) $ 10,755,845 $ 48,402,250
Cap Source II........................... $ 27,494,089 $ 1,917,753 $(500,000) $ 1,630,253 $ 30,542,095
</TABLE>
ESTIMATED LIQUIDATION VALUES
AS OF DECEMBER 31, 1997
PER $1000 INVESTMENT*
<TABLE>
<CAPTION>
GNMA
CERTIFICATES PARTNERSHIP PARTNERSHIP NET OTHER
AND MORTGAGE EQUITY TERMINATION ASSETS AND LIQUIDATION
LOANS(1) INTERESTS(2) COSTS(3) LIABILITIES(4) VALUES
--------------- --------------- --------------- --------------- -------------
<S> <C> <C> <C> <C> <C>
Cap Source I................................. $ 521 $ 39 $ (7) $ 157 $ 710
Cap Source II................................ $ 339 $ 24 $ (6) $ 20 $ 377
</TABLE>
- ------------------------
* Totals assume Investors receive 99% of total liquidation value.
49
<PAGE>
(1) GNMA Certificates and FHA Loans are reflected at an average premium over
their current principal balances equivalent to 1.5%, with the exception of
the Ponds at Georgetown ("The Ponds") which is reflected at par due to the
failure of The Ponds to pay principal, interest and property taxes when due.
A settlement agreement has been entered into with the co-insurer of the
mortgage loan on The Ponds. See "THE PARTNERSHIPS--Cap Source I--RECENT
DEVELOPMENTS" and "--Cap Source II--RECENT DEVELOPMENTS." No adjustments
have been made based upon the settlement agreement because the settlement
does not have a material effect on the calculation of the estimated
liquidation values.
(2) Derived by using the arithmetic average of the value of the Properties as
determined by the Appraisals and subtracting repayment of the current
principal balances of the mortgages then allocating the remaining proceeds,
if any, according to the limited partnership agreements. These resulting
equity values were then discounted to reflect, in the cases where the
Operating Partnership remains in the control of a non-affiliated General
Partner, an amount that might be sufficient to acquire that General
Partner's interest plus, for all partnership interests, an additional
amount, 37.5% on average, to reflect the leveraged nature of the limited
partnership interest being sold.
(3) An estimate of costs to terminate the Partnership's business.
(4) Includes cash, cash equivalents, miscellaneous GNMA Certificates, interest
receivables and accounts payable.
COMPARISON OF CERTAIN ALTERNATIVES TO THE TRANSACTION
To assist Investors in evaluating the fairness of the consideration offered
by the Company in the Transaction, the General Partners have compared the
estimated market value of the Shares with: (i) estimates of the value of the
Units on a "going concern" basis, assuming that the Operating Partnerships would
be in existence until December 31, 2002, followed by the immediate liquidation
of all the Operating Partnerships for cash and the immediate distribution of the
available proceeds to the Partnerships for further distribution to the Investors
and General Partners in accordance with the respective Partnership Agreements;
(ii) estimates of the value of the Units under a liquidation scenario, assuming
that the Partnerships' mortgages were sold at their current market value, the
limited partnership interests in the Operating Partnerships were sold at prices
reflecting discounts for the highly leveraged nature of the interests plus
estimated amounts, if any, to gain operating control of the Operating
Partnerships, and that these amounts together with cash, cash equivalents and
other net assets of the Partnership are distributed to Investors and General
Partners in accordance with their respective Partnership Agreements; and (iii)
prices at which the Units have been trading on the illiquid secondary market
over the recent 12-month period ended December 31, 1997 as compiled and reported
to the General Partners by Service Data Corporation. These valuation estimates
are subject to significant uncertainties, since the value of the Shares, as well
as the comparative estimated values are based upon numerous estimates,
variables, assumptions and market conditions. Therefore, no assurance can be
given that the estimated values indicated could be realized, and actual realized
values may be higher or lower than the estimates of such values.
The results of this comparative analysis are summarized in the table
entitled "Summary of Comparative Valuation Alternatives" set forth below.
Investors should consider that the estimated values assigned to the Shares and
alternative forms of consideration are based on a variety of assumptions that
have been made by the General Partners, using information and analysis from
Sutro & Co. as to the estimated market value of the Shares. These assumptions
relate, among other things, to: (i) projections as to the Partnerships' future
income, expenses, cash flow and other significant financial matters; (ii) the
capitalization rates that would likely be used by prospective buyers if the
Partnerships' assets were liquidated; (iii) appropriate discount rates applied
to expected cash flows in computing the present value of the cash flows that may
be received with respect to the Units; and (iv) selling costs and other
expenses, discounts and contingencies attributable to the sales of assets and
liquidation of the Partnerships. In addition, these estimates are based upon
certain information available to the General Partners at the time the estimates
were prepared, and
50
<PAGE>
no assurance can be given that the same conditions will exist at the time of
closing of the Transaction. The assumptions have been determined by the General
Partners, using information and analysis from Sutro & Co. as to the estimated
values of the Shares, and where appropriate, are based upon current historical
information regarding the Partnerships and current real estate markets, and have
been highlighted below to the extent material to the General Partners'
conclusions. While the General Partners believe they have a reasonable basis for
the assumptions made, it is unlikely that all of the assumptions used by the
General Partners will prove to be accurate in all material respects, and some
assumptions used by the General Partners as to future events have been deleted
to simplify the analysis and may not approximate the actual experience of the
Partnerships. The estimated values of the Shares and alternative forms of
consideration would have been different had the General Partners made different
assumptions. No assurance can be given that such consideration would have been
realized through any of the alternatives described.
SUMMARY OF COMPARATIVE VALUATION ALTERNATIVES
PER $1,000 OF ORIGINAL INVESTMENT*
<TABLE>
<CAPTION>
ESTIMATED LIQUIDATION ESTIMATED MARKET
ESTIMATED MARKET VALUE OF UNITS IF ASSETS VALUE OF UNITS
VALUE OF SHARES(1) SOLD AT ADJUSTED NET ASSET BASED ON WEIGHTED
-------------------- ESTIMATED GOING VALUE(3) AVERAGE OF
HIGH CONCERN VALUE OF -------------------------- SECONDARY MARKET
PARTNERSHIP VALUE LOW VALUE UNITS(2) RANGE MIDPOINT TRADES(4)
- ------------------------------------- --------- --------- ----------------- ----------- ------------- -------------------
<S> <C> <C> <C> <C> <C> <C>
Cap Source I......................... $ 754 $ 653 $ 747 $700-720 710 $ 510
Cap Source II........................ $ 409 $ 354 $ 373 $371-383 377 $ 354
</TABLE>
- ------------------------
* An Original Investment of $1,000 consists of 50 Units in each of Cap Source
I and Cap Source II.
(1) The General Partners were unable to identify publicly traded companies
directly comparable to the Company. As such, the General Partners were
unable to estimate the market value at which the Shares may initially trade
based upon the trading history of similar companies. However, based upon
methodology used by Sutro & Co. in preparing its Fairness Opinion, the
General Partners have determined the range of estimated market values of the
Company based upon a division of the assets in each Partnership into three
asset types. Asset Type A is the limited partnership interests in the
Operating Partnerships; Asset Type B is the mortgages and Asset Type C is
cash, cash equivalents and other net assets. On the low end of estimated
value, no value was assigned to Asset Type A. On the high end, Funds from
Operations ("FFO") attributable to the limited partnership interests were
valued using an FFO multiple of 10. The FFO multiple of 10 was derived by
taking the average and median 1998 estimated FFO multiple from a peer group
of equity REITs, as identified by Sutro & Co. For both the high and low
estimates, Asset Types B and C were valued at their face values as of
December 31, 1997. Values assigned to Asset Types A, B and C were added
together and divided by the number of shares outstanding after consummation
of the Transaction to determine a per Share value. The Value per original
$1,000 Investment was determined by multiplying the resulting per Share
value by the number of shares allocated per original $1,000 Investment using
the Exchange Value methodology. The General Partners and the Special
Committee recognized that there is substantial uncertainty as to the prices
at which the Shares will trade following the Transaction, and it is possible
that the Shares will trade below the values reflected in this analysis.
(2) These values were derived from a discounted cash flow analysis at the
Partnership level for the period from January 1, 1998 through December 31,
2002. The five-year period was used because it was a time period reasonably
determined by the General Partners to obtain control of the Operating
Partnerships from non-affiliates of the General Partners, thus allowing the
liquidation of the Partnerships' assets on an equivalent fee-simple basis.
Cash flows from mortgages owned by the Partnerships were included at the
fixed monthly amounts described in the respective mortgage documents. To
determine any cash flow to the Partnerships from the limited partnership
interests in the Operating Partnerships, estimated cash flows for 1998 were
taken from the Appraisals prepared by Valuation Research, and revenue and
expenses in subsequent years were increased at the rates set forth in the
Appraisals. From net income in each year, debt service payments and
applicable fees were deducted to arrive at
51
<PAGE>
net cash flow available for distribution by the Operating Partnerships. Such
cash is then assumed to be distributed to the Partners in the Operating
Partnerships as prescribed in the limited partnership agreements for each
Operating Partnership; any shortfalls are assumed to be funded by the
Partnerships. (Projections for The Ponds are based on terms not materially
different from the settlement agreement. For a description of these terms
see "THE PARTNERSHIPS--Cap Source I--RECENT DEVELOPMENTS" and "--Cap Source
II--RECENT DEVELOPMENTS.") Interest income and cash from principal
repayments on miscellaneous GNMA certificates are estimated based on a model
of Partnership level cash flow; that model includes an estimate of annual
administrative and operating expenses which were increased annually by 4%.
At the end of the final year of analysis, the properties were assumed to be
sold at prices derived by capitalizing the following year's net income at a
rate 25 basis points higher than the current year capitalization rate
applied to each property in the Appraisals. Selling costs are assumed to be
3% of proceeds. Net proceeds are first used to repay the then outstanding
principal balance of any mortgage loan, and remaining cash is distributed in
accordance with the respective partnership agreements. At the Partnership
level at the end of the final year of analysis, proceeds from repayment of
the mortgage loans, cash received in respect of limited partnership
interests in the operating partnerships, and any other net assets, including
cash and cash equivalents, are then distributed to the Investors and General
Partners in accordance with the Partnership Agreement. Annual distributed
cash flows, inclusive of liquidating proceeds from the assets sales at the
end of the period, are discounted at a rate of 11% to arrive at an estimate
of the present value of each Partnership on a "going concern" basis.
(3) The figures in this column represent the amount that would be available for
distribution to Investors if the Partnerships sold their assets as of
December 31, 1997 based on the following assumptions. Mortgages were sold at
their current market values which on the noted date would have been at
slight premiums to their current principal values. With the exception of the
mortgage on The Ponds which is included at its current principal value due
to the failure of The Ponds to pay principal, interest and property taxes
when due, premiums for the high value are 2% and for the low value are 1%. A
settlement agreement has been entered into with the co-insurer of the
mortgage loan on The Ponds. See "THE PARTNERSHIPS--Cap Source I--RECENT
DEVELOPMENTS" and "--Cap Source II--RECENT DEVELOPMENTS." At December 31,
1997 there was no equity in the mortgage loan on The Ponds. No adjustments
have been made based upon the settlement agreement because the settlement
does not have a material effect on the calculation of the estimated
liquidation values. These estimated premiums reflect, to the best knowledge
of the General Partners, current pricing on similar mortgage instruments
which are generally prepayable with minimal or no penalties. Limited partner
interests in the Operating Partnerships were sold at discounts to the values
derived by using the arithmetic average of the value of the Properties as
determined by the Appraisals and subtracting repayment of the current
principal balance of the mortgages then allocating the remaining proceeds,
if any, according to the limited partnership agreements. Discounts were
determined by the General Partners by taking into account two factors.
First, if the Operating Partnership remains in the control of a non-
affiliated General Partner, an amount was estimated that might be sufficient
to acquire that General Partners' interest and was deducted from the derived
value of the limited partnership interest. Second, discounts ranging from
25% for the high value and 50% for the low value were taken to reflect the
leveraged nature of the ownership interest being sold, and thus the higher
return requirement of a buyer. Cash and cash equivalents were included at
their current market values, along with any other net assets. A deduction
was made for estimated costs of winding up the Partnerships. The resulting
amount was deemed to be distributed to the Investors and General Partners in
accordance with the Partnership Agreements.
(4) Based on the high and low value of secondary market trades during 1997,
provided to the General Partners by Service Data Corporation. Service Data
Corporation's records may not reflect all trading activity for the Units.
52
<PAGE>
THE GENERAL PARTNERS' ANALYSIS FOR THE TRANSACTION.
The General Partners' analysis for the Transaction was based upon a review
of the alternatives to the Transaction in comparison to the proposed
Transaction. This analysis was based upon the assumptions and calculations for
the alternatives and the proposed Transaction. Except as otherwise described,
there were no limitations for any analysis. In addition, as described under
"FAIRNESS--Material Factors Underlying Belief as to Fairness," no relative
weight was assigned to any one factor.
With respect to the alternative of Continued Management, the assumptions are
set forth under "FAIRNESS--Comparison of Certain Alternatives to the
Transaction" in footnote 2 to the table entitled "Summary of Comparative
Valuation Alternatives." The resulting calculation is set forth in this table.
With respect to the alternative of liquidating the Partnerships, the
assumptions are set forth in the footnotes under tables entitled "Estimated
Liquidation Values as of December 31, 1997" and "Estimated Liquidation Values as
of December 31, 1997 per $1,000 Investment," under "--Comparison of Certain
Alternatives to the Transaction." The resulting calculations are set forth in
these tables.
Other alternatives considered by the General Partners include (i) listing
the Units of each Partnership on a national securities exchange or automated
quotation system; (ii) merging the Partnerships into a single publicly-traded
limited partnership and listing the resulting limited partnership interests on a
national securities exchange or automated quotation system; (iii) merging the
Partnerships together to form a single REIT; and (iv) qualifying each
Partnership as an individual REIT. The General Partner's analysis did not
quantify any of these alternatives or any assumptions. A quantification of these
alternatives was not done by the General Partners because it involved a
quantification of the future trading prices of the securities described in these
alternatives. The General Partners concluded that using any assumption or group
of assumptions would result in a speculative valuation because of the limited
capitalization, market and trading assumptions.
FAIRNESS OPINION AND APPRAISALS
Sutro & Co. has rendered its opinion, dated May 7, 1998, that the
Consideration (as defined in the Fairness Opinion, which is attached as Appendix
B hereto) to be received by Investors and the General Partners collectively, the
allocation of such Consideration among the Investors and the General Partners,
and the principal allocation of the Notes (as defined in the Fairness Opinion)
in the Transaction, is fair to the Investors and the General Partners from a
financial point of view.
FAIRNESS OPINION
GENERAL. Sutro & Co. was engaged by the Special Committee to conduct an
analysis of the Transaction and has delivered a written summary of its
determination, based on the review, analysis, scope and limitations described
therein, as to the fairness of the allocation of interests in the Company, from
a financial point of view, pursuant to the Transaction (the "Fairness Opinion").
The full text of the Fairness Opinion, which contains a description of the
assumptions and qualifications made, matters considered and limitations imposed
on the review and analysis, is set forth in Appendix B and should be read in its
entirety. Certain of the material assumptions, qualifications and limitations to
the Fairness Opinion are described below. The summary set forth below does not
purport to be a complete description of the analyses used by Sutro & Co. in
rendering the Fairness Opinion.
Except for certain assumptions described more fully below, which the Special
Committee and the Partnerships advised Sutro & Co. that it would be reasonable
to make, neither the Special Committee nor the Partnerships imposed conditions
or limitations on the scope of Sutro & Co.'s investigation or the methods and
procedures to be followed in rendering the Fairness Opinion. There were no
factors considered by Sutro & Co. that did not support their fairness
determination with respect to the Transaction. The Partnerships have agreed to
indemnify Sutro & Co. against certain liabilities arising out of its
53
<PAGE>
engagement to prepare and deliver the Fairness Opinion. Upon consummation of the
Transaction such indemnity obligations will be obligations of the Company.
EXPERIENCE OF SUTRO & CO. Sutro & Co., as part of its investment banking
business, is regularly engaged in the evaluation of capital structures, the
valuation of businesses and their securities in connection with mergers and
acquisitions, firm commitment underwriting, secondary distributions of listed
and unlisted securities, private placements, financial restructurings and other
financial services. The Special Committee selected Sutro & Co. based on its
experience in similar transactions, its research capabilities, resources and
more competitive fee structure. Sutro & Co. was also selected because of its
reputation in connection with companies involved in real estate activities and
real estate assets.
SUMMARY OF MATERIALS CONSIDERED. Sutro & Co.'s analysis of the Transaction
involved a review of the following: (i) the Registration Statement on Form S-4
of the Company as filed on May 7, 1998, including the Preliminary
Prospectus/Consent Solicitation Statement included therein, (ii) the Appraisals,
(iii) individual Partnership Annual Reports and Form 10-Ks for the years ended
December 31, 1996 and December 31, 1997, (iv) the Prospectus for Cap Source I
dated January 10, 1986, (v) the Prospectus for Cap Source II dated February 6,
1987, (vi) the Agreement and Plan of Merger among the Partnerships, the General
Partners and the Company, (vii) certain other publicly available business,
financial and other information concerning the Partnerships, (viii) certain
internal information, primarily financial in nature (including analytical
models, projections, forecasts, estimates and analyses) prepared by or on behalf
of the management of the Partnerships, and (ix) certain information provided to
Sutro & Co. by the General Partners concerning the distributions on, the trading
of, and the trading market for, the equity securities of the Partnerships.
ANALYSIS AND CONCLUSIONS. Sutro & Co., in conducting its review and
arriving at its opinion, noted that the exchange ratios (the "Exchange Ratios")
for Cap Source I and Cap Source II in the Transaction are based on the
Appraisals and the market values of the Partnerships' remaining assets and
liabilities at December 31, 1997 and before transaction costs or other costs
associated with the Transaction (individually or collectively the "Exchange
Values"). The Exchange Ratios relating to the Exchange Values for Cap Source I
and Cap Source II are used to determine the allocation of Shares to be received
by the investors in Cap Source I and Cap Source II in the Transaction and the
principal allocation of the Notes to be received by Investors in Cap Source I
and Cap Source II in the Transaction. The Exchange Values are used to determine
the amount of the Consideration to be received.
Sutro & Co.'s evaluation of the fairness of the Consideration among the
Partnerships is based, in part, on an analysis of the net book values of the
assets and liabilities of each of the Partnerships. Cash and temporary cash
investments, investments in FHA Loans and GNMA Certificates, interest
receivable, accounts payable and distributions payable were valued at the stated
values shown at December 31, 1997 in the audited Parent Company Only Condensed
Balance Sheets in the Annual Reports on Form 10-Ks for 1997 of each of the
Partnerships. Other assets at December 31, 1997 in the audited Parent Company
Only Condensed Balance Sheets in the Annual Reports on Form 10-K for each of the
Partnerships were deemed to have no value. Values for the investments in the
Operating Partnerships were based on the low and high of the range of appraised
values for the fee simple ownership of the individual real estate properties net
of the outstanding mortgage indebtedness of the real estate properties and other
related property level liabilities at December 31, 1997. Such net book value
evaluations indicated a range of net book values for Cap Source I of $49.4
million to $52.8 million or for Cap Source I Investors a net book value of $725
to $775 per $1,000 of original investment and a range of net book values for Cap
Source II of $31.9 million to $33.3 million or for Cap Source II Investors a net
book value of $394 to $411 per $1,000 of original investment.
In addition, Sutro & Co. based its analysis, in part, on an analysis of the
liquidation values of the assets and liabilities of each of the Partnerships.
Liquidation values were calculated as net book values plus a range of a 1% to 2%
premium on the FHA Loans and GNMA Certificates to reflect pro forma market sale
54
<PAGE>
values for such securities less costs associated with disposing of the
investments in the Operating Partnerships and winding down costs for the
Partnerships. Such liquidation value evaluations indicated a range of
liquidation values for Cap Source I of $46.9 million to $50.5 million or for Cap
Source I Investors a liquidation value of $688 to $740 per $1,000 of original
investment and a range of liquidation values for Cap Source II of $29.7 million
to $31.3 million or for Cap Source II Investors a liquidation value of $367 to
$387 per $1,000 of original investment.
Sutro & Co. also analyzed the going concern values for the Partnerships to
approximate the pro forma values of the Partnerships "as is." A five-year
discounted cash flow analysis was calculated based upon pro forma dividends
projected to be received by the Investors plus a pro forma projected liquidation
of the Partnerships at the end of year five. Such cash flows were discounted at
a range of 11% to 13%. Such pro forma "as is" value evaluations indicated a
range of "as is" values for Cap Source I of $47.0 million to $50.9 million or
for Cap Source I Investors an "as is" value of $690 to $747 per $1,000 of
original investment and a range of "as is" values for Cap Source II of $28.0
million to $30.2 million or for Cap Source II Investors an "as is" value of $346
to $373 per $1,000 of original investment. Pro forma projected dividends were
provided by the General Partners and were based, in part, on five-year pro forma
projected income statements and balance sheets derived from property level
projections by Valuation Research and Partnership level projections by the
General Partners.
As part of its analysis, Sutro & Co. reviewed a peer group of publicly
traded multifamily REITs with market capitalizations of less than $500 million.
The low, high, median and average stock price to estimated 1998 FFO for this
peer group were 8.5x, 11.3x, 9.9x and 9.9x, respectively. Sutro & Co. reviewed
publicly traded multifamily REITs in valuing the equity investments of the
Partnerships. The following REITs were considered by Sutro & Co. in its peer
group analysis: Ambassador Apartments Inc., Associated Estates Realty, Amli
Residential Properties, Berkshire Realty Co., Grove Property Trust, Home
Properties of New York, Investors Real Estate Trust, Oasis Residential Inc.,
Summit Properties Inc., Cornerstone Realty Income Trust and Town & Country
Trust. Sutro & Co. also reviewed a peer group of publicly traded subchapter C
corporations, which are entities subject to federal corporate income tax, and
real estate limited partnerships engaged in, among other things, ownership of
residential properties and development activities with market capitalizations of
less than $200 million. The initial group of such companies considered by Sutro
& Co. was: (a) Atlantic Gulf Communities Corporation, (b) Bresler & Reiner,
Inc., (c) FM Properties, Inc., (d) Interstate General Company L.P. and (e) The
Newhall Land and Farming Company. Sutro & Co. selected these companies for the
initial peer group based upon preliminary discussions with representatives of
the General Partners regarding the structure, investments and operations of the
Company. After further discussions with the General Partners and the Special
Committee, and upon completion of further due diligence and research of the
Company, Sutro & Co. revised this group to include companies that more closely
matched the structure, operations, business plan and investment objectives of
the Company. By using this latter group in its analysis, Sutro & Co. believed
the comparison of the peer group to the Company resulted in a more comparable
group of companies for Sutro & Co.'s pro forma estimated trading valuation for
the Company. The final group of publicly traded subchapter C corporations, which
are entities subject to federal corporate income tax, and real estate limited
partnerships considered by Sutro & Co. in its analysis consisted of the
following companies: (a) American RE Properties, (b) Avatar Holdings, (c)
Bluegreen Corp., (d) Bresler & Reiner, Inc., (e) Catellus, (f) Echelon
International, (g) Forest City, (h) Hallwood Realty, (i) Lexford, (j) LNR
Property and (k) Wellsford Real Properties. The stock price to latest twelve
months' per share earnings before interest, taxes, depreciation and amortization
("EBITDA") multiples were 3.3x (low), 13.2x (high), 9.8x (median) and 9.1x
(average). The General Partners believe that the use of the final peer group did
not materially change the analysis regarding the Exchange Values or the General
Partners' fairness determination for the Transaction.
Sutro & Co. also considered the following financial and other factors it
deemed important under the circumstances: (a) the historical and current
operating results of the Partnerships including, among other
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<PAGE>
things, the cash flow from the investments in FHA Loans and GNMA Certificates
and the cash flow from the investments in the Operating Partnerships, (b)
distributions over the life of each of the Partnerships including distributions
and return of capital to the Investors, and (c) certain balance sheet items of
the Partnerships. Sutro & Co. also took into account its assessment of general
economic, market and financial conditions and its experience in other
transactions, as well as its experience in the securities industry and knowledge
of real estate generally.
Additionally, Sutro & Co. was requested to provide an opinion as to the
fairness, from a financial point of view, of the principal allocation of the
Notes that may be elected by the Investors. As used herein, principal allocation
refers solely to the method of allocation, as determined by Exchange Values, of
the Notes among the investors in the Partnerships. Sutro & Co. in arriving at
its opinion as to the fairness, from a financial point of view, of the
allocation of the consideration to be received by the Investors, and with
respect to each Partnership individually, assumed that the maximum amount of
Notes that may be issued in the Transaction is $40.0 million.
In the course of Sutro & Co.'s engagement, Sutro & Co. held discussions with
the senior management of the Partnerships concerning the historical, current and
projected future operations, business plans, financial conditions and results,
and prospects of the Partnerships. Additionally, Sutro & Co. discussed with
representatives of Valuation Research the results, methodology, and limitations
of the Appraisals. Sutro & Co. did not, however, independently verify the
accuracy or completeness of the Appraisals.
Based on the foregoing, Sutro & Co. concluded that, based upon its analysis
and assumptions, and as of the date of the information considered in the
Fairness Opinion, that the allocation of the Consideration to be received by
Investors and the General Partners collectively, the allocation of such
Consideration among the Investors and the General Partners, and the principal
allocation of the Notes, in the Transaction, is fair to the Investors and the
General Partners from a financial point of view.
ASSUMPTIONS, LIMITATIONS AND QUALIFICATIONS OF FAIRNESS OPINIONS. In
conducting its review, Sutro & Co. relied upon and assumed the accuracy and
completeness of the financial and other information, including the Appraisals,
provided to Sutro & Co. or which were publicly available, without independent
verification. Sutro & Co. relied upon the statements and information provided by
the management of the Partnerships as to the reasonableness and achievability of
the financial and operating forecasts and projections (and the assumptions and
bases therefor) provided to Sutro & Co. Sutro & Co. assumed that the financial
models and the financial projections provided by the General Partners that
project future results of the Partnerships are the best currently available
estimates and good faith judgements of the General Partners as to the future
performance of the Partnerships.
Sutro & Co.'s Fairness Opinion is based upon conditions as of May 7, 1998,
the date of the Fairness Opinion, and the information made available to Sutro &
Co. as of the date of the Fairness Opinion and the information made available to
Sutro & Co. as of the date such information was prepared.
The preparation of a fairness opinion is a complex process and is not
necessarily susceptible to a partial analysis or summary description. Sutro &
Co. has advised the Partnerships that its entire analysis must be considered as
a whole and that selecting portions of its analyses and the factors considered
by it, without considering all analyses and factors, could create an incomplete
view of the evaluation process underlying its opinion.
The Fairness Opinion does not constitute a recommendation of the Transaction
over any alternative transactions which may be possible for the Partnerships and
does not address the Partnerships' underlying business decision to effect the
proposed Transaction. Furthermore, the Fairness Opinion did not consider any
other aspect of the proposed Transaction or any agreements or other matters,
which include, but are not limited to, the terms or fairness of the Advisory
Agreement that may be deemed part of the Transaction. However, while Sutro & Co.
did not consider the fairness of the Advisory Agreement on a separate and
individual basis, it did consider the effects of the fees payable under the
Advisory Agreement
56
<PAGE>
in determining the fairness of the Consideration to be received by Investors and
the General Partners and the allocation of the Notes in the Transaction. Sutro &
Co. was not asked to opine on and did not express an opinion as to: (a) the
terms of the Transaction, (b) the tax consequences of the Transaction to the
Investors, and (c) the prices at which the Company's securities may trade at in
the future.
BRINGDOWN FAIRNESS OPINION
In connection with its Bringdown Fairness Opinion delivered on ,
1998, Sutro & Co. performed the following procedures to update certain analyses
made in connection with the delivery of the Fairness Opinion:
Sutro & Co., among other things, reviewed; (i) a draft of this
Prospectus/Consent Solicitation Statement; (ii) the Form 10-Q for each
Partnership for the quarter ended June 30, 1998; (iii) pro forma financial
statements of the Company; (iv) a business plan of the Company; (v) certain
information provided to Sutro & Co. by the General Partners concerning the
distributions on, the trading of, and the trading market for, the equity
securities of the Partnerships; and (vi) certain financial and other information
that was publicly available or furnished to Sutro & Co. by the Partnerships, the
General Partners and the Company.
In addition, Sutro & Co. held discussions with representatives of the
Partnerships and the Company concerning the Partnerships' and the Company's
historical and current operations, financial conditions and prospects, reviewed
a peer group of publicly traded multifamily REITs with market capitalizations of
less than $500 million, and conducted such other investigations, financial
analysis and studies, and reviewed such other information and factors as it
deemed appropriate for the purposes of the Bringdown Fairness Opinion.
In rendering the Bringdown Fairness Opinion, Sutro & Co. relied, without
assuming responsibility for independent verification, on the accuracy and
completeness of the information it reviewed. The Bringdown Fairness Opinion is
subject to the same qualifications and limitations as the Fairness Opinion. The
full text of the Bringdown Fairness Opinion, which contains a description of the
assumptions and qualifications made, matters considered and limitations imposed
on the review and analysis, is set forth in Appendix C and should be read in its
entirety.
The Bringdown Fairness Opinion was based solely upon information available
to Sutro & Co. and the economic market and other circumstances that existed as
of the date of the Bringdown Fairness Opinion. Sutro & Co. used historical
financial information through , 1998 for the Partnership's assets and
other liabilities.
In performing such analysis, Sutro & Co. observed that: (i) that the
liquidation analysis continued to support its fairness determination because of
the relationship between the implied range of values of the Units, assuming they
are converted into shares of Common Stock in the Transaction, and the implied
range of equity values of the Partnerships under the updated liquidation
analysis; and (ii) the continuation analysis continues to support its fairness
determination because the equity value for the Units, assuming the continuation
for the Partnerships under the updated continuation analysis, is within the
implied range of values of the Units in each Partnership assuming they are
converted into Shares in the Transaction for each Partnership.
Based on the foregoing, Sutro & Co. confirmed that, based upon its analysis
and assumptions, and as of the date of the information considered in the
Bringdown Fairness Opinion, that the allocation of the consideration to be
received by Investors and the General Partners, and the principal allocation of
the Notes, in the Transaction, is fair to Investors and the General Partners
from a financial point of view.
If a material amendment is made to the Merger Agreement, a revised Fairness
Opinion will be obtained.
57
<PAGE>
APPRAISALS
GENERAL. Valuation Research was engaged by the Partnerships to appraise the
multi-family apartment complexes owned by the Partnerships through their
interest in the Operating Partnerships (the "Properties") and has delivered a
written summary of its analysis, based upon the review, analysis, scope and
limitations described therein, as to the fair market value of the Properties as
of December 31, 1997 (the "Appraisals"). The Special Committee has relied, in
part, upon these Appraisals to determine the ratios for allocating the Shares
and Notes in the Transaction. Certain of the material assumptions,
qualifications, limitations and methods used in the Appraisals are described
below.
SUMMARY OF METHODOLOGY. Valuation Research evaluated each Property based
primarily upon the income approach to valuation. Appraisers typically use up to
three approaches in valuing real property: the cost approach, the direct sales
comparison approach and the income approach. These approaches are based on the
cost to replace assets, market exchanges for comparable properties and the
capitalization of income.
The Appraisals take into account all three methods of valuation. However,
due to the income-producing nature of the properties and current market
conditions, the Appraisals place more emphasis on the income approach and use
the direct sales comparison approach as a check on the reasonableness of the
results obtained using the income approach.
The scope of the Appraisals included an inspection of each Property in
December 1997, and an analysis of recent comparable sales and rental rates of
similar property in each of the subject's specific area.
The highest and best use of each property was also considered. Valuation of
a property is based on its most profitable likely use. The highest and best use
is arrived at by testing potential uses of the property, both as improved and as
though vacant, to find the use which meets the following criteria: physically
possible--the uses of vacant land which are possible after considering physical
characteristics of the land; legally permitted--uses that are permissible after
considering local, state and federal regulations and private restrictions;
financially feasible--those uses which are physically possible and legally
permitted which produce a positive return beyond operating expenses, financial
obligations, and capital amortization; and maximum productive use--the use that
is physically possible, legally permitted and financially feasible which
produces the highest price or value, which is the highest and best use.
Valuation Research concluded that the highest and best use of the Properties is
for multi-family residential development, which is also the current use of the
Properties.
THE COST APPROACH. The cost approach is a valuation technique that uses the
concept of replacement as a value indicator. Reproduction or replacement cost is
estimated for the property being appraised and is then adjusted for losses in
value (appraised depreciation) due to a variety of factors. This process
requires valuing the site as if vacant, then adding the replacement cost new of
improvements based upon market derived costs for similarly constructed
properties. Then, accrued depreciation from physical deterioration and
obsolescence of all causes is estimated and subtracted from the replacement cost
new to arrive at the present value.
THE SALES COMPARISON APPROACH. The sales comparison approach is a valuation
technique in which value is estimated on the basis of market prices in actual
transactions. The technique consists of studying available market comparable
information and adjusting for differences. This process is essentially that of
comparison and correlation. Differences always exist between properties even
though they may be almost identical, and therefore adjustments for these
differences must be made. Some adjustments that may prove important are: (i)
conditions of sale, (ii) financing terms, (iii) market conditions (time), (iv)
location, (v) physical characteristics, and (vi) income characteristics. A
minimum of three comparable sales were used to form the basis for estimating the
market value of the subject Properties.
58
<PAGE>
THE INCOME APPROACH. The income approach is a valuation technique that
capitalizes the anticipated income stream from the appraised assets. This
approach is predicated on developing either cash flow or income projections,
which are then discounted for risk and time value. Additionally, the present
value of a projected residual value is estimated and added to the present value
of the income stream to derive a total present value.
The income approach attempts to quantify expected, yet uncertain future
benefits. There are two accepted methods of applying the income approach: direct
capitalization and discounted cash flow analysis.
DIRECT CAPITALIZATION APPROACH
The direct capitalization approach is the determination of a proper rental
or revenue value that one would expect to be able to obtain for the subject
property based on actual historical operations and a study of comparable leased
properties with respect to rent levels, location, and amenities offered.
Adjustments are made for differences between the subject and comparable
properties to derive an estimated current economic rent. A similar analysis of
operating expenses aids in constructing an operating statement. The end result
is a net operating income ("NOI") for the first year income that can be
converted into an indicated property value through the overall capitalization
process.
The direct capitalization approach begins with an estimate of the subject's
market rent potential based on an analysis of comparable properties and their
current rental rates and an analysis of the actual rentals in place on the
subject property. The unit of comparison is typically the rent per unit. From
this is deducted an amount estimated to reflect the operating expenses
attributable to the subject property. This operating expense deduction is based
on published market surveys and actual historical data.
To arrive at an appropriate market rent, Valuation Research analyzed several
similar apartments in the immediate area of each subject. Gross potential rent
was derived from the historical revenue trends of the subject property, as well
as from the market surveys mentioned above. The market area for each subject was
also analyzed with respect to current and future apartment rental trends. This
information, taken together with the historical vacancy and collection loss
experience of the subject property based on discussions with the operating
manager and published data, was used to estimate the appropriate vacancy and
collection loss over the projection period.
Effective gross income for each property was estimated based on the
historical income information provided and the market rental information.
Operating expenses were estimated based upon information published by the
Institute of Real Estate Management ("IREM") along with the actual historical
experience of the subject property. A management fee of 5% of effective gross
income, including miscellaneous income, is generally charged for properties such
as the subject properties, and was used most often in Valuation Research's
analysis. A reserve for replacement was also included in the analysis.
Net operating income was calculated by taking potential gross rental income,
less vacancy and collection loss, less operating expenses, less a management fee
and less reserves for replacement. The relationship between NOI and value can be
expressed in its overall rate of return, or capitalization rate. Capitalization
rates were abstracted from market surveys conducted by reputable national firms
for each of the major metropolitan areas in which the subject properties are
located, as well as reports by The National Real Estate Index for the Third
Quarter, 1997, KORPACZ REAL ESTATE INVESTOR SURVEY and the American Council of
Life Insurance reports. The indicated value for each property was derived from
the NOI for each property divided by the Capitalization Rate.
DISCOUNTED CASH FLOW METHOD
The discounted cash flow method has two components. The first component
equals the sum of the present value of cash flows over a selected holding
period. Valuation Research used a ten year holding
59
<PAGE>
period in its analysis. The second component, a residual, equals the present
value of a perpetuity paying income equal to net income in year eleven and
capitalized with the appropriate capitalization rate. The residual reflects the
property's ongoing potential after the tenth year.
The income and expense projections for each property were based on
historical operating data, information provided by local lessors, and published
data sources. Income and expense statements, furnished by the building
management, were reviewed and adjusted, where necessary, to reflect more typical
market expenses as reported by IREM. These operating results were cross-checked
for reasonableness with market information obtained from area lessors, leasing
agents and brokers who also provided data relating to current rental rates,
vacancy levels, and typical lease terms.
The anticipated earnings received in the future must be discounted to a
present value using a discount rate derived from current market rates for
alternative investments. To determine the current discount rate applicable for
real estate investment, Valuation Research reviewed market surveys of large
institutional real estate investors. Using this market derived data, and
adjusting it based on the specific risks involved with investing in each of the
subject properties, a unique discount rate was estimated and used to discount
the projected cash flows to determine an estimated present value for each
property.
CONCLUSIONS AS TO VALUE. Based on the valuation methodology described
above, Valuation Research assigned a value to each individual Property as set
forth in the following table:
PROPERTY/VALUE RANGE SCHEDULE
<TABLE>
<CAPTION>
CAPITAL SOURCE I VALUE RANGE
- ------------------------------------------ ----------------------------
<S> <C>
Bluff Ridge (108 Units) $3,250,000 - $3,700,000
Jacksonville, North Carolina
Waterman's Crossing (260 Units) $11,700,000 - $12,500,000
Newport News, Virginia
Water's Edge (108 Units) $5,700,000 - $6,500,000
Lake Villa, Illinois
Highland Park (252 Units) $11,000,000 - $11,350,000
Reynoldsburg, Ohio
Fox Hollow (184 Units) $6,770,000 - $7,550,000
High Point, North Carolina
Misty Springs (128 Units) $4,500,000 - $5,000,000
Daytona Beach, Florida
<CAPTION>
CAPITAL SOURCE II VALUE RANGE
- ------------------------------------------ ----------------------------
<S> <C>
Crane's Landing (252 Units) $12,500,000 - $13,000,000
Winter Park, Florida
Delta Crossing (178 Units) $7,500,000 - $8,300,000
Charlotte, North Carolina
Monticello (106 Units) $5,500,000 - $6,000,000
Southfield, Michigan
<CAPTION>
CAPITAL SOURCE I AND II VALUE RANGE
- ------------------------------------------ ----------------------------
<S> <C>
The Ponds at Georgetown (134 Units) $7,250,000 - $7,375,000
Ann Arbor, Michigan
</TABLE>
60
<PAGE>
ASSUMPTIONS, LIMITATIONS AND QUALIFICATIONS OF APPRAISALS. Valuation
Research utilized certain assumptions to determine the appraised value of the
Properties under the income approach. The Appraisals reflect Valuation
Research's valuation of the Properties as of December 31, 1997 in the context of
information available on such date. Events occurring after December 31, 1997 and
before the Effective Date could affect the Properties or assumptions used in
preparing the Appraisals. Valuation Research will not deliver any additional
written summary of the analysis.
Financial statements and other related information provided by the General
Partners in the course of the investigation was accepted, without further
verification, as fully and correctly reflecting the Partnership's business
conditions and operating results for the respective periods, except as
specifically noted in the report. Public information and industry and
statistical information was obtained from sources Valuation Research deemed to
be reliable; however, Valuation Research made no representation as to the
accuracy or completeness of such information, and accepted the information
without further verification.
The conclusions of value are based upon the assumption that the current
level of management expertise and effectiveness would continue to be maintained
and that the character and integrity of the enterprise through any sale,
reorganization, exchange, or diminution of the owners' participation would not
be materially or significantly changed. Valuation Research did not render any
opinion as to title, which was assumed by Valuation Research to be marketable.
The Company conducted an independent review of title to the Properties.
Valuation Research also assumed that the Properties will be responsibly owned
and properly maintained.
Valuation Research did not make a land survey of the Properties. The
boundaries used in the report were taken from records believed to be accurate.
Valuation Research assumed that there were no hidden or unapparent conditions of
the Properties, subsoil, or structures which would render the properties more or
less valuable. Any information furnished by others and included in the Appraisal
report is from sources deemed by Valuation Research to be reliable and believed
to be true and accurate; however, no responsibility was assumed for its
accuracy.
It was assumed that there was full compliance with all applicable federal,
state, and local environmental regulations and laws unless noncompliance was
stated, defined and considered in the Appraisal report. Valuation Research is
not an environmental consultant or auditor, and it did not take responsibility
for any actual or potential environmental liabilities. Valuation Research did
not conduct or provide environmental assessments. Valuation Research asked the
managers of the apartment complexes whether they were subject to any present or
future liability relating to environmental matters (including but not limited to
CERCLA/Superfund liability). Valuation Research did not determine independently
whether any of the apartment complexes or their owners were subject to any such
liabilities, nor the scope of any such liabilities. The Appraisal did not take
such liabilities into account except as they were reported expressly to
Valuation Research by the managers of the apartment complexes, and then only to
the extent that the liability was reported to Valuation Research in an actual or
estimated dollar amount. Such matters are noted in the report. To the extent
such information was reported, Valuation Research relied on it without
verification and offered no warranty or representation as to its accuracy or
completeness.
It was assumed that all applicable zoning and use regulations and
restrictions were complied with, unless a nonconformity was stated, defined, and
considered in the appraisal report. It was also assumed that all required
licenses, certificates of occupancy, consents, or other legislative or
administrative authority from any local, state, or national government or
private entity or organization was or could be obtained or renewed for any use
on which the value estimate contained in the Appraisal report is based.
Valuation Research did not make a specific compliance survey or analysis of
the subject properties to determine whether they were subject to or in
compliance with the ADA and the opinion did not consider the impact, if any, of
noncompliance in estimating the value of the Property.
61
<PAGE>
SUMMARY OF VALUATION RESEARCH ASSUMPTIONS
<TABLE>
<CAPTION>
REVENUE GROWTH EXPENSE GROWTH CURRENT YEAR
PROPERTY RATE RATE CAPITALIZATION RATE
- ---------------------------------------------- ----------------- ----------------- ---------------------
<S> <C> <C> <C>
Bluff Ridge................................... 3.0% 3.0% 9.50%
Waterman's Crossing........................... 2.5 2.0 9.25
Misty Springs................................. 3.0 2.0 9.00
Waters Edge................................... 2.0 3.0 9.25
Highland Park................................. 3.0 2.0 9.00
Ponds at Georgetown........................... 2.5 2.0 9.50
Crane's Landing............................... 3.0 3.0 9.00
Delta Crossing................................ 2.5 3.0 9.75
Monticello.................................... 2.5 3.0 9.75
Fox Hollow.................................... 2.5 3.0 9.50
</TABLE>
COMPENSATION AND MATERIAL RELATIONSHIPS
Neither Valuation Research, Sutro & Co., nor any of their employees have a
present or intended material financial interest in the Company, the Partnerships
or the Properties, nor has there been a material relationship between Valuation
Research or Sutro & Co. or any of their respective affiliates and the Company,
the Partnerships, the General Partners or any of their respective affiliates
during the past two years.
The Partnerships paid Valuation Research aggregate fees of $80,000 plus
expenses to prepare the Appraisals. Sutro & Co. will receive the following fees
for delivering the Fairness Opinion: (i) a non-refundable retainer of $50,000
paid upon the Partnerships' execution of the engagement letter, plus (ii) a fee
of $50,000 paid upon the mailing of this Prospectus/Consent Solicitation
Statement to the Investors, plus (iii) a fee of $50,000 paid upon the delivery
and presentation of Sutro & Co.'s first analysis to the Special Committee, plus
(iv) a fee of $50,000 payable on the final closing of the Transaction, plus (v)
reimbursement for reasonable fees and disbursements of Sutro & Co.'s counsel and
Sutro & Co.'s reasonable travel and other incidental expenses.
The fees paid to Sutro & Co. in connection with the preparation of the
Fairness Opinion were determined through arm's-length negotiations between Sutro
& Co. and the Special Committee. The fees paid to Valuation Research in
connection with the preparation of the Appraisals were determined through
arm's-length negotiations between Valuation Research and the General Partners. A
copy of the Fairness Opinion and the Bringdown Fairness Opinion are attached as
Appendix B and Appendix C, respectively, to this Prospectus/Consent Solicitation
Statement. Investors may obtain a copy of the Appraisal reports prepared by
Valuation Research upon written request directed to: America First Investor
Services Department, 1004 Farnam Street, Suite 400, Omaha, Nebraska 68102.
EXCHANGE VALUES
Investors in the Partnerships will receive Shares or Notes based upon an
exchange value (the "Exchange Value") described below. The General Partners will
also receive Shares based upon the Exchange Value. The Exchange Values were
initially determined by the General Partners and reviewed and approved by the
Special Committee, which was retained without any conditions or restrictions.
The Exchange Values are based upon (i) the principal amount of GNMA
Certificates and the FHA Loans as set forth in the Partnership's audited
financial statements for the period ended December 31, 1997, (ii) the value of
the Partnership's limited partner interests in the Operating Partnerships, and
(iii) the market value of the Partnerships' remaining net assets as set forth in
the Partnerships' audited financial statements for the period ended December 31,
1997.
62
<PAGE>
To determine the value of each Partnership's limited partner interest in an
Operating Partnership, the General Partners started with the mean of the range
of values provided by Valuation Research in its Appraisal of the Operating
Partnership's Property. See "FAIRNESS OPINION AND APPRAISALS-- Appraisals." The
liabilities of the Operating Partnership, including amounts required to pay off
the insured mortgage on the Property and amounts owed to the general partner of
the Operating Partnership, were then subtracted from the mean value. The net
amount of other assets of the Operating Partnership was added. The net value
after these adjustments was then apportioned among the general partner and
limited partners of the Operating Partnership according to the Operating
Partnership limited partnership agreement. In valuing the Operating
Partnerships, the General Partners did not take into account amounts that may be
payable by certain Cap Source I Operating Partnerships to affiliates of the Cap
Source I General Partners that will be waived if the Transaction is completed.
See "BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE TRANSACTION--Reasons for,
and Benefits of, the Transaction--WAIVER BY AFFILIATES OF THE CAP SOURCE I
GENERAL PARTNERS OF AMOUNTS PAYABLE BY CERTAIN CAP SOURCE I OPERATING
PARTNERSHIPS."
The Exchange Values were determined as of December 31, 1997. As of the date
of this Prospectus/ Consent Solicitation Statement, the General Partners and
management of the Company do not know of any material change in the Partnerships
which would affect the Exchange Value.
The following tables set forth the Exchange Value attributable to the
Partnerships for purposes of the Transaction, as well as the allocation of
Shares based on the Exchange Values. The tables assume that no Notes are issued
in connection with the Transaction.
EXCHANGE VALUES
FOR ALLOCATION OF SHARES
<TABLE>
<CAPTION>
TOTAL TOTAL NUMBER PERCENT OF
EXCHANGE VALUE OF SHARES TOTAL SHARES
-------------- ------------- -------------
<S> <C> <C> <C>
PARTNERSHIPS
Cap Source I................................... $ 50,991,970 2,039,679 60.8%
Cap Source II.................................. 32,880,190 1,315,208 39.2
-------------- ------------- -----
Total........................................ $ 83,872,160 3,354,887 100.0%
-------------- ------------- -----
-------------- ------------- -----
INVESTORS
Cap Source I Investors......................... $ 50,482,050 2,019,282 60.2%
Cap Source II Investors........................ 32,551,388 1,302,056 38.8
-------------- ------------- -----
Total........................................ $ 83,033,438 3,321,338 99.0%
-------------- ------------- -----
-------------- ------------- -----
GENERAL PARTNERS
Cap Source I General Partners.................. $ 509,920 20,397 .6%
Cap Source II General Partners................. 328,802 13,152 .4
-------------- ------------- -----
Total........................................ $ 838,722 33,549 1.0%
-------------- ------------- -----
-------------- ------------- -----
</TABLE>
<TABLE>
<CAPTION>
PER $1,000
ORIGINAL INVESTMENT BY INVESTORS
--------------------------------------
EXCHANGE VALUE NUMBER OF SHARES
----------------- -------------------
<S> <C> <C>
PARTNERSHIPS
Cap Source I.................................. $ 748 29.92
Cap Source II................................. $ 406 16.23
</TABLE>
CALCULATION OF EXCHANGE VALUES. The following table sets forth the
components of the Exchange Value for the Partnerships.
63
<PAGE>
CALCULATION OF EXCHANGE VALUES
<TABLE>
<CAPTION>
GNMA
CERTIFICATES PARTNERSHIP NET OTHER
AND MORTGAGE EQUITY ASSETS AND EXCHANGE
LOANS(1) INTERESTS(2) LIABILITIES VALUE
------------- ------------ ------------- -------------
<S> <C> <C> <C> <C>
Cap Source I.......................................... $ 35,010,658 $ 5,225,467 $ 10,755,845 $ 50,991,970
Cap Source II......................................... 27,162,646 4,087,291 1,630,253 32,880,190
</TABLE>
- ------------------------
(1) GNMA Certificates and FHA Loans are included at their outstanding principal
balances as of December 31, 1997.
(2) Partnership Equity Interests are derived by using the arithmetic average of
the value of the properties as determined by the Appraisals, subtracting the
current principal balances of the mortgages then allocating the remaining
proceeds, if any, according to the limited partnership agreements.
NET OTHER ASSETS AND LIABILITIES TABLE. The following table sets forth the
components of net other assets and liabilities.
NET OTHER ASSETS AND LIABILITIES TABLE
FOR PARTNERSHIPS
<TABLE>
<CAPTION>
NET OTHER
CASH & CASH MISC. GNMA ASSETS & DISTRIBUTIONS
EQUIVALENTS CERTIFICATES(1) LIABILITIES(2) PAYABLE TOTAL
------------- ------------- ------------ ------------ -------------
<S> <C> <C> <C> <C> <C>
Cap Source I........................... $ 10,410,564 $ 1,088,526 $ 117,342 $ (860,587) $ 10,755,845
Cap Source II.......................... 1,240,992 1,050,718 (114,489) (546,968) 1,630,253
</TABLE>
- ------------------------
(1) These assets are classified for reporting purposes as "available for sale"
and, as such, are reported at fair value.
(2) Generally, interest receivable less accounts payable.
64
<PAGE>
COMPARISON OF LIMITED PARTNERSHIP AND CORPORATE STRUCTURE
In the Transaction, each Partnership will be deemed to have received Shares
and Notes and to have distributed such property to its Investors. The effect of
the Transaction, therefore, is to convert the Units into Shares and Notes. Due
to the inherent differences in form, the change in structure from a partnership
to a corporation will result in certain differences in the scope and operation
of the Partnerships' current businesses and in the interests of the Investors.
In addition, the Partnerships have certain features and characteristics which
are different from those which will exist in the Company.
The rights of Investors are governed by the Delaware Partnership Law and by
the respective Partnership Agreements of the Partnerships. The rights of the
Company's Shareholders and Noteholders will be governed by the Delaware General
Corporation Law (the "Delaware GCL") and the Organizational Documents of the
Company.
A summary of this comparison is set forth under "SUMMARY."
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------
UNITS SHARES
- ------------------------------------------------------------------------------------------
<S> <C>
FORM OF ORGANIZATION
Each Partnership is a limited partnership The Company was organized as a corporation
formed under the Delaware Partnership Law. under the Delaware GCL.
Each Partnership has been treated as a
partnership for federal income tax purposes.
EACH PARTNERSHIP WAS FORMED AS A LIMITED PARTNERSHIP UNDER THE DELAWARE PARTNERSHIP
LAW WHILE THE COMPANY WAS ORGANIZED AS A CORPORATION UNDER THE DELAWARE GCL.
BUSINESS
The Partnership Agreements limit the The Company will invest in real estate and
business of the Partnerships to originating, real estate-related activities, and may
acquiring, holding, selling, disposing of engage in any other business activities
and otherwise dealing with insured mortgages permitted a corporation organized under the
on multi-family rental housing complexes and laws of the State of Delaware. The powers,
to acquiring, holding, selling, disposing of limitations and rights with respect to the
and otherwise dealing with limited part- real estate operations conferred in the
nership interests in operating partnerships Partnership Agreements will not be
which construct and operate multi-family applicable to the business activities of the
rental housing complexes. The Partnership Company. The Company will be able to take
Agreements do not permit the Partnerships to advantage of financing opportunities and may
raise new capital. use forms of financing which the
Partnerships did not use. Additional capital
may be raised through all available sources,
including additional equity financing,
borrowings from banks, institutional
investors, public and private debt markets
or other financing vehicles which will be
dependent upon the equity and debt market
conditions, interest rates and other
factors. Many of these additional forms of
financing also expose the Company to
additional risks which do not exist with
respect to the Partnerships, including the
risk of default and foreclosure on any
security securing debt.
THE COMPANY WILL HAVE BROADER BUSINESS OPPORTUNITIES THAN THE PARTNERSHIPS. IN
ADDITION, THE COMPANY WILL HAVE ACCESS TO ADDITIONAL FINANCING OPPORTUNITIES WHICH ARE
CURRENTLY NOT ACCESSIBLE TO THE PARTNERSHIPS. INHERENT IN SEVERAL OF THE ADDITIONAL
FINANCING OPPORTUNITIES ARE CERTAIN RISKS WHICH DO NOT EXIST IN THE CASE OF THE
PARTNERSHIPS.
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DURATION OF EXISTENCE
The Partnership Agreements provide that the In accordance with the Delaware GCL and the
Partnerships may exist for terms ranging Company's Certificate of Incorporation, the
from 40 to 49 years and that the Company will continue in perpetual
Partnerships have a limited existence. In existence. The Company has no present
furtherance of this objective, the Part- intention to sell a substantial number of
nership Agreements generally provide that properties. The Company will have no
the proceeds from the sale, financing, restrictions in reinvesting funds after the
refinancing or other disposition of any sale of an original investment. Therefore,
property owned by the Partnerships will not the Company believes that it will be in a
be reinvested but will be distributed to the position to take advantage of economic
Investors to the extent such proceeds exceed opportunities as they are presented. Because
the Partnerships' other cash requirements. the Company will have no restrictions on the
reinvestment of funds, Shareholders will
assume the risk of such reinvestment and
will not be entitled to an immediate
distribution from sale, financing,
refinancing or disposition proceeds.
THE PARTNERSHIP AGREEMENTS PROVIDE FOR THE DISSOLUTION OF THE PARTNERSHIPS AFTER A
SPECIFIED NUMBER OF YEARS, WHEREAS THE COMPANY'S CERTIFICATE OF INCORPORATION PROVIDES FOR
PERPETUAL EXISTENCE. UPON COMPLETION OF THE TRANSACTION, SHAREHOLDERS WILL NOT BE ENTITLED
TO AN IMMEDIATE DISTRIBUTION OF LIQUIDATION OR DISPOSITION PROCEEDS.
INVESTMENT OBJECTIVES AND POLICIES
The principal investment objectives of the The investment objectives of the Company are
Partnerships are substantially the same: to to provide dividends and the potential for
preserve invested capital, to maximize the capital appreciation as reflected in the
potential for appreciation in property market price of the Common Stock, and to
values and to provide for partially tax expand the capital and asset base of the
deferred cash distributions throughout a Company. The Company's Board of Directors
finite life. may change the investment policies of the
Under the Partnership Agreements, the Company without a vote of the Shareholders.
Partnerships are not permitted to reinvest The Company intends to continue its
cash from sales in new properties, except in operations for an indefinite period of time
limited circumstances. The Partnerships will and is not precluded from raising new
automatically dissolve at varying times capital, including senior securities that
between 2030 and 2035, unless dissolved will have priority over the Common Stock as
earlier. The Partnerships have no present to cash flow, distributions and liquidation
intention to liquidate or to sell or finance proceeds, or from reinvesting cash flow or
their properties. sale or financing proceeds in new
properties. Therefore, Shareholders have the
ability to liquidate their investment only
by selling their Shares in the market, and
the market value of the Shares may never
equal or exceed the market value of the Com-
pany's assets or the net proceeds which may
be available for distribution upon
liquidation if the Company were to
liquidate. The Company has the potential for
increasing assets and stockholder value as
new investments are made.
INVESTORS WHO BECOME SHAREHOLDERS WILL BE ABLE TO LIQUIDATE THEIR INVESTMENT BY
SELLING THEIR SHARES IN THE MARKET. THE INTEREST OF SHAREHOLDERS IN THE COMPANY CAN BE
DILUTED THROUGH THE ISSUANCE OF ADDITIONAL SECURITIES, INCLUDING SECURITIES THAT HAVE
PRIORITY OVER THE COMMON STOCK AS TO CASH FLOW, DISTRIBUTIONS AND
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LIQUIDATION PROCEEDS. THE COMPANY'S BOARD OF DIRECTORS MAY CHANGE THE INVESTMENT POLICIES
OF THE COMPANY WITHOUT A VOTE OF THE SHAREHOLDERS.
BORROWING POLICIES
The Partnerships are not authorized to incur The Company has broad powers to borrow in
borrowings or are restricted in the amount furtherance of its investment objectives.
and nature of borrowings. The Partnerships The Company intends to incur both short-term
do not incur borrowings in the ordinary and long- term debt in the future to
course of business. increase its funds available for investment
in real estate. While the ability of the
Company to incur indebtedness provides
additional sources of funds and additional
financing opportunities, there are also
certain risks inherent in incurring
indebtedness, including the risk of default
and foreclosure on any security securing
such debt.
INVESTORS WHO BECOME SHAREHOLDERS WILL HAVE INVESTED IN AN ENTITY THAT INCURS DEBT IN
THE ORDINARY COURSE OF BUSINESS AND THAT REINVESTS PROCEEDS FROM BORROWINGS. THE
INCURRENCE OF DEBT INCREASES THE RISK OF INVESTMENT.
MANAGEMENT
The Partnerships are managed by the General The Company will be managed by a Board of
Partners, which have exclusive authority Directors elected by the Shareholders. Under
over the Partnerships' operations, subject Delaware law, the directors are accountable
to certain limitations provided in the to the Company and its Shareholders as
Partnership Agreements. Under Delaware law, fiduciaries and are required to perform
the General Partners are accountable to the their duties in good faith, in a manner
Partnerships and the limited partners as believed to be in the best interests of the
fiduciaries. The limited partners may not Company and its Shareholders and with such
participate in management of the care, including reasonable inquiry, as an
Partnerships. The General Partners have ordinarily prudent person in a like position
general liability for all partnership would use under similar circumstances. The
obligations. The Partnership Agreements liability of the directors is limited
provide generally that the General Partners pursuant to the provisions of Delaware law
are indemnified from losses relating to acts and the Company's Organizational Documents,
performed or omitted to be performed in good which limit a director's liability for mone-
faith and in the best interests of the tary damages to the Company or its
Partnerships, provided the conduct did not Shareholders for breach of the director's
constitute negligence, misconduct, breach of duty of care, where a director fails to
a fiduciary duty or a breach of obligations exercise sufficient care in carrying out the
under the Partnership Agreements. The responsibilities of his office. Those provi-
General Partners may be removed by a vote of sions would not protect a director from
a majority of partnership interests in the liability for a breach of duty of loyalty,
respective Partnerships. intentional misconduct or knowing violations
of law, unlawful dividend payments or
redemption of stock, or any transaction in
which the director derived an improper
personal benefit, nor would they foreclose
any other remedy which might be available to
the Company or the Shareholders. The Bylaws
require the Company to indemnify its
officers and directors under certain
circumstances for expenses or liability
incurred as a result of litigation. The Com-
pany intends to take full advantage of those
provisions and enter into agreements with
the Company's directors and officers,
indemnifying them to the fullest extent
permitted by Delaware law.
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THE RIGHTS OF SHAREHOLDERS AGAINST MANAGEMENT OF THE COMPANY IN CERTAIN CIRCUMSTANCES
ARE MORE LIMITED THAN THE RIGHTS OF INVESTORS AGAINST THE GENERAL PARTNERS.
FEES AND EXPENSES
DISBURSABLE CASH FEE
The Partnership Agreements generally provide
that the General Partners are entitled to an
amount not to exceed 1% of cash
distributions in each year.
ASSET MANAGEMENT COMPENSATION
The Cap Source I General Partners are The Advisor will be paid an Acquisition Fee
entitled to receive an asset management and in an amount equal to 1% of the increase in
partnership administrative fee equal to 0.5% the Company's actual investment in New
of invested assets per annum, payable only Assets, including any costs related to the
during such years that an 8% return has been acquisition or financing of New Assets but
paid to Investors on a noncumulative basis. excluding debt which is incurred or assumed
Any unpaid amounts will accrue and be in connection therewith, payable monthly in
payable only after a 13% annual return to arrears. The Advisor will be paid an Asset
Cap Source I Investors has been paid on a Management Fee each month in an amount equal
cumulative basis and such Investors have to .475%, on an annual basis, of the
received the return of their capital Company's Total Assets. The Advisor will
contributions. The Cap Source II General also receive an Incentive Fee on New Assets,
Partners are entitled to receive an asset equal to 10% of any Capital Gain on New
management and partnership administrative Assets (offset by Capital Losses), payable
fee equal to 0.5% of invested assets per by the Company to the Advisor on an annual
annum, the first $50,000 of which is paid basis in the form of Restricted Stock.
each year with the balance payable only
during such years that a 6.5% annual return
has been paid to Cap Source II Investors on
a noncumulative basis. An additional fee of
0.5% of invested assets will be paid in
years that an 11.5% annual return has been
paid to Cap Source II Investors on a
cumulative basis. Any unpaid amounts will
accrue and be payable only after an 11.5%
annual return to Investors has been paid on
a cumulative basis and the Investors have
received the return of their capital
contributions. The General Partners also
receive 1% of the net proceeds from any sale
of Partnership assets. The General Partners
will receive a termination fee equal to 3%
of all sales proceeds less actual costs
incurred in connection with all sales
transactions, payable only after the
Investors have received a return of their
capital contributions and a 13% annual
return on a cumulative basis with respect to
Cap Source I or an 11.5% annual return on a
cumulative basis with respect to Cap Source
II. The General Partners will also receive a
fee equal to 9.1% of all cash available for
distribution and sales proceeds (after
deducting from cash available or sales
proceeds
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any termination fee paid therefrom) after
Investors have received a return of their
capital contributions and a 13% annual
return on a cumulative basis with respect to
Cap Source I or an 11.5% annual return on a
cumulative basis with respect to Cap Source
II.
REIMBURSEMENT OF EXPENSES
The Partnership Agreements provide that all In connection with providing services to the
of the Partnerships' expenses, including Company, the Advisor shall be reimbursed by
legal, auditing and accounting expenses, the Company only for (i) rent, utilities,
will be billed directly to and paid by the capital equipment and related expenses
Partnerships. Under the Partnership associated with any office which is
Agreements, the General Partners are established and maintained by the Advisor
reimbursed for their expenses for services exclusively to provide services to the
performed for the Partnerships, such as Company, (ii) expenses of third parties
legal, accounting, transfer agent, data which derive 25% or less of their gross
processing and duplicating services. revenues from providing services to the
Company, and (iii) travel expenses incurred
by employees of the Advisor in connection
with travel at the request or on behalf of
the Company; provided that the Company's
reimbursement of these expenses shall be
limited to amounts for them in the annual
budget as approved by the Board of
Directors, with any subsequent changes
approved by the Board of Directors.
ONE OF THE BENEFITS OF THE TRANSACTION IS TO ALIGN THE INTERESTS OF THE SHAREHOLDERS
AND MANAGEMENT OF THE COMPANY SO AS TO MINIMIZE THE INHERENT CONFLICTS OF INTEREST
CURRENTLY EXISTING AMONG THE PARTNERSHIPS, THE GENERAL PARTNERS AND THEIR AFFILIATES. THE
TRANSACTION WILL RESULT IN THE PERSONS WHO MANAGE THE COMPANY HAVING A SUBSTANTIAL
FINANCIAL INTEREST IN ITS SUCCESS.
VOTING RIGHTS
The Investors are entitled to vote only as With respect to the rights of the
provided under the Delaware Partnership Law stockholders of a Delaware corporation, in
and the respective Partnership Agreements. general stockholders are entitled to vote on
Generally, an Investor may vote on: (i) any material transactions or actions
material amendments to the Partnership relating to such corporation, and such
Agreement; (ii) the approval of the transactions or actions may not be
disposition of substantially all of the consummated without the approval of the
Partnership's assets; (iii) an election to requisite number of stockholders. These
dissolve the Partnership; (iv) the instances include: (i) the right to elect
determination to remove the General Partner; the board of directors and thus participate
(v) the approval of the Partnership in the management of the corporation; (ii)
incurring material additional amounts of the right to amend the corporation's
indebtedness; (vi) the determination to articles of incorporation and bylaws; (iii)
terminate a contract between the Partnership the determination to dissolve the
and the General Partner or an affiliate corporation; (iv) the determination to merge
thereof; and (vii) the approval of a the corporation with or into another entity;
successor General Partner. Under the (v) the determination to approve or
Delaware Partnership Law and the Partnership disapprove the sale of substantially all of
Agreements, decisions relating to the the corporation's assets; and (vi) any other
operation and management of the Partnerships matters which are properly brought before
are made by the General Partners of each the stockholders. Corporations are also
Partnership. There are no provi- required to hold annual meetings which allow
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sions for annual meetings of Investors in stockholders to vote for the directors of
the Partnership Agreements. If a limited the corporation and to participate in the
partner were granted additional voting corporation's decision-making process.
rights, the possibility exists under the Therefore, stockholders have enhanced voting
Code that the partnership structure and the rights as to both determinations of the
terms of the applicable Partnership parties who will be effectuating policy on
Agreement would be disregarded. In such behalf of the corporation, as well as with
event, the Partnership may be taxed as an respect to all material matters affecting
association for tax purposes and thus would the corporation.
be subject to double taxation similar to a
corporation.
INVESTORS WILL BE ENTITLED TO VOTE ON MORE MATTERS AS SHAREHOLDERS OF THE COMPANY THAN
AS UNITHOLDERS OF A PARTNERSHIP. IN ADDITION, AFFILIATES OF THE COMPANY MAY HAVE VOTING
RIGHTS. ON SUBSTANTIALLY ALL MATTERS ON WHICH INVESTORS CAN VOTE, THE GENERAL PARTNERS
HAVE NO VOTE.
ANTI-TAKEOVER PROVISIONS
While the Units are transferable, subject to The Company has a staggered Board, whereby
certain restrictions, the General Partners the Board is divided into three separate
under the Partnership Agreements may under classes, with the term of each class
certain circumstances refuse to permit expiring in a different year than the other
assignees (who are not permitted to vote on two classes. A vacancy on the Board may only
any partnership matters) to become be filled by a majority of the Board of
substituted Investors. Directors. Shareholder action may only be
taken at an annual or special meeting of
Shareholders, and Shareholders do not have
the power to call a special meeting. The
Organizational Documents contain a
supermajority provision, whereby certain
provisions of such documents may not be
amended without the vote of at least 75% of
the Shareholders entitled to vote. The
Certificate of Incorporation limits the
voting power of certain persons who own a
certain percentage of the voting stock of
the Company. The Certificate of
Incorporation authorizes the Company to
issue preferred stock with disproportionate
voting power. In addition, under Section 203
of the Delaware GCL, certain business
combinations with stockholders owning 15% or
more of the Company's outstanding stock (an
"interested stockholder") are prohibited for
three years after such interested
stockholder becomes an interested
stockholder. This may have the effect of
discouraging attempts to take control of the
Company.
CERTAIN PROVISIONS OF THE ORGANIZATIONAL DOCUMENTS OF THE PARTNERSHIPS AND THE COMPANY
COULD BE USED TO DETER ATTEMPTS TO OBTAIN CONTROL OF THE PARTNERSHIPS AND THE COMPANY IN
TRANSACTIONS NOT APPROVED BY THE GENERAL PARTNERS AND THE BOARD OF DIRECTORS,
RESPECTIVELY. HOWEVER, THERE ARE MORE OPPORTUNITIES FOR SUCH ANTI-TAKEOVER PROVISIONS
AVAILABLE TO THE COMPANY THAN TO THE PARTNERSHIPS.
REVIEW OF INVESTOR LISTS
Under the Partnership Agreements and Under Delaware law, a Shareholder is
applicable law, any Investor is entitled to entitled, upon written demand, to inspect
obtain a list of the Investors in his or her and copy the record of stockholders, at any
Partnership upon reasonable demand for any time during usual business hours, for a
purpose reasonably related to the Investor's purpose reasonably related to his or her
interest as an Investor. interest as a Shareholder.
THE RIGHT OF SHAREHOLDERS TO OBTAIN A STOCKHOLDER LIST IS SIMILAR TO THE CORRESPONDING
RIGHT OF INVESTORS IN THE PARTNERSHIPS.
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The following compares certain of the investment attributes and legal rights
associated with the ownership of Units, Shares and Notes.
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NATURE OF INVESTMENT
The Units of each Partnership The Shares constitute equity The Notes will be junior,
constitute equity interests interests in the Company. unsecured obligations of the
entitling each Investor to Each Shareholder will be Company and will be issued
his pro rata share of cash entitled to his pro rata pursuant to an Indenture
distributions made to the share of the dividends made qualified under the Trust
Investors of the Partner- with respect to the Common Indenture Act of 1939, as
ship. Each Partnership Agree- Stock. The dividends payable amended. The Company may
ment specifies how the cash to the Shareholders are not issue additional debt, which
available for distribution is fixed in amount and are only may be secured, only in
to be shared among the paid when declared by the compliance with the covenants
General Partners and Company's Board of Directors. of the Notes for the issuance
Investors. The distributions of senior debt. The Notes
payable to the Investors are will bear interest at a
not fixed in amount and variable rate and will mature
depend upon the operating as of , 2006.
results and net sale or Prior to maturity, interest
refinancing proceeds only payments will be made to
available from the the Noteholders, on an annual
disposition of the basis, and on ,
Partnerships' assets. 2006, the outstanding
principal balance, plus
interest accruing since the
last payment, will be payable
in full. If the Company sells
or refinances any of the
Designated Assets of the
Partnership, 80% of the net
proceeds must be applied
toward the prepayment of the
Notes.
The Company reserves the
right to redeem the Notes at
any time, in whole or in
part, at par. Failure to make
principal and interest
payments when due constitutes
an event of default under the
Notes, allowing the Trustee
to declare the outstanding
principal, plus accrued but
unpaid interest, to be
immediately due and payable.
BOTH THE UNITS AND SHARES REPRESENT EQUITY INTERESTS ENTITLING THE HOLDERS THEREOF TO
PARTICIPATE IN THE GROWTH OF THE PARTNERSHIPS AND THE COMPANY, RESPECTIVELY. DISTRIBUTIONS
AND DIVIDENDS PAYABLE WITH RESPECT TO THE UNITS AND SHARES DEPEND UPON THE PERFORMANCE OF
THE PARTNERSHIPS AND THE COMPANY, RESPECTIVELY. IN CONTRAST, THE NOTES CONSTITUTE DEBT
OBLIGATIONS OF THE COMPANY PROVIDING FOR ANNUAL PAYMENTS OF PRINCIPAL AND INTEREST.
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POTENTIAL DILUTION OF PAYMENTS RIGHTS
Since the Partnerships are The Board of Directors may, Since the Notes are debt
not authorized to issue in its discretion, issue obligations of the Company,
additional equity securities, additional Shares of Common their payment is not
there can be no dilution of Stock or issue Preferred subordinate to dividends or
distributions to Investors. Stock, with such powers, distributions payable to the
preferences and rights as the Shareholders of the Company.
Board of Directors may at the The Company is obligated to
time designate. The issuance apply 80% of the Net Proceeds
of additional Shares of from Sales or Refinancings of
either Common Stock or Designated Assets of the
Preferred Stock, beyond the Partnerships to prepay the
Shares to be issued in the Notes. Except for the
Transaction, may result in restriction in the preceding
the dilution of the interests sentence, there are no
of the Shareholders. restrictions upon the
Company's authority to grant
mortgages, liens or other
security interests in the
Company's real and personal
property, and such security
interests, if granted, would
permit the holders thereof to
have a priority claim against
such collateral in the event
the secured obligations were
in default.
THE SHAREHOLDERS WILL BE SUBJECT TO POTENTIAL DILUTION IF THE COMPANY ISSUES ADDITIONAL
EQUITY SECURITIES. FURTHERMORE, THE COMPANY MAY ISSUE PREFERRED STOCK WITH PRIORITIES OR
PREFERENCES WITH RESPECT TO DIVIDENDS AND LIQUIDATION PROCEEDS. PAYMENT OF THE NOTES WILL
HAVE PRIORITY OVER DISTRIBUTIONS TO THE SHARES OR ANY CLASS OF EQUITY SECURITIES THAT MIGHT
BE ISSUED BY THE COMPANY; HOWEVER, ANY SENIOR SECURED OBLIGATIONS ISSUED BY THE COMPANY
WOULD HAVE PRIOR CLAIMS AGAINST THE COLLATERAL GIVEN FOR SECURITY IN THE EVENT THE COMPANY
DEFAULTS IN THE PAYMENTS OF THOSE SECURED OBLIGATIONS.
EXPECTED DISTRIBUTIONS AND PAYMENTS
Cap Source I makes quarterly The Company intends to make Noteholders are generally
distributions and Cap Source quarterly dividend payments entitled to receive only the
II makes monthly to its Shareholders, subject principal and interest
distributions. Amounts to the discretion of the payments required under the
distributed to the Investors Board of Directors. The Notes. The Company must apply
are derived from their share amount of such dividends will 80% of Net Proceeds from
of cash flow from operations be established by the Board Sales or Refinancings of
or cash flow from sales or of Directors, taking into Designated Assets of the
financings. The General account the amount of funds Participating Partnerships to
Partners may, under the lawfully available therefor prepay the Notes. Noteholders
Partnership Agreements, and the cash needs of the will have no right to
create reserves which may Company. Unlike the participate in any (a)
decrease cash distributions. Partnerships, the Company is profits derived from opera-
See "SELECTED FINANCIAL DATA not required to distribute tions of any of the Company's
OF THE PARTNERSHIPS" for a net proceeds from the sale or assets, including properties
presentation of the cash refinancing of properties, acquired as part of the
distributions to the except as may be required Transaction from the
Investors of the Partnerships under the terms of the Notes. Partnerships, or (b) profits
over the five most recent derived from the sale or
calendar years. refinancing of properties
other than those acquired as
part of the Transaction.
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INVESTORS WHO BECOME SHAREHOLDERS WILL RECEIVE THEIR PRO RATA SHARE OF THE DIVIDENDS
MADE WITH RESPECT TO THE COMPANY'S COMMON STOCK. THE AMOUNT OF SUCH DIVIDENDS WILL DEPEND
UPON THE COMPANY'S OPERATING EXPENSES, DEBT SERVICE PAYMENTS, CAPITAL EXPENDITURES,
RESERVES AND FUNDS SET ASIDE FOR EXPANSION. INTEREST PAYMENTS MADE ON THE NOTES WILL BE
PRIOR TO ANY DISTRIBUTIONS WITH RESPECT TO THE SHARES AND WILL REDUCE THE AMOUNT OTHERWISE
DISTRIBUTABLE TO THE SHAREHOLDERS.
INVESTORS WHO RECEIVE NOTES CONVERT THEIR EQUITY INVESTMENT IN THE PARTNERSHIP INTO A
JUNIOR DEBT OBLIGATION OF THE COMPANY AND ARE ENTITLED TO RECEIVE ONLY PRINCIPAL AND
INTEREST PAYMENTS ONLY UNTIL MATURITY UNDER THE NOTES. IF THE COMPANY SELLS OR REFINANCES
THE PROPERTIES OWNED BY THE OPERATING PARTNERSHIPS, 80% OF THE NET PROCEEDS FROM SALES OR
REFINANCINGS OF DESIGNATED ASSETS MUST BE APPLIED TOWARD PREPAYMENT OF THE NOTES. THE NOTES
MAY BE REDEEMED BY THE COMPANY AT ANY TIME WITHOUT PREMIUM.
LIQUIDITY AND TRANSFERABILITY
While the Units are The market for the Common The Notes will be freely
transferable, the General Stock, which will be traded transferable but will not be
Partners have discretion on the NYSE, should be more listed on a national
under the Partnership active and broader based than securities exchange or quoted
Agreements to refuse to the market for the Units. The on an automated quotation
permit assignees to become Common Stock may trade at a system. The Company does not
substituted Investors and the discount to its book value, expect that an active trading
Partnership Agreements and the market value of the market for the Notes will
contain various other Shares may never equal or develop. The Promissory Notes
restrictions on the transfer- exceed the net proceeds that will not be listed on a
ability of Units. Although might be available if the national securities exchange
limited secondary sales of Company's assets, including and no active trading market
Units have occurred, there is the investments in the for the Promissory Notes is
essentially no established Partnerships, were expected to develop.
public trading market for the liquidated.
Units and none is expected to
develop. The Units are not
marginable. Potential adverse
tax consequences would arise
if a Partnership were to be
considered a publicly traded
partnership.
ONE OF THE PRIMARY OBJECTIVES OF THE TRANSACTION IS TO PROVIDE INCREASED LIQUIDITY TO
THE INVESTORS. THE SHARES WILL BE LISTED ON THE NYSE, SUBJECT TO OFFICIAL NOTICE OF
ISSUANCE, AND THERE IS EXPECTED TO BE A PUBLIC MARKET FOR THE SHARES FOLLOWING THE
TRANSACTION. NEITHER THE NOTES NOR THE PROMISSORY NOTES WILL BE LISTED ON A NATIONAL
SECURITIES EXCHANGE OR QUOTED ON AN AUTOMATED QUOTATION SYSTEM. THE BREADTH OF THE MARKETS
FOR THE SHARES AND NOTES CANNOT YET BE DETERMINED, BUT IT IS EXPECTED THAT THE MARKET FOR
THE NOTES WILL BE LESS ACTIVE THAN THAT FOR THE SHARES. WHILE THERE HAS BEEN A LIMITED
SECONDARY MARKET FOR THE UNITS, TRADING ON THAT MARKET HAS BEEN SPORADIC AND LIMITED.
TAXATION OF TAXABLE INVESTORS
The Partnerships, as Dividends received by Interest payments made on the
partnerships for federal Shareholders from the Company Notes will constitute
income tax purposes, are not generally will constitute portfolio income which cannot
subject to tax, but the portfolio income, which offset passive losses from
Investors report their cannot offset passive losses other investments. During
allocable share of from other investments. January of each year,
partnership income and loss During January of each year, Noteholders will receive from
on their respective tax Shareholders will be mailed the Company Form 1099-INT to
returns. Income from the the less complex Form show the investors' interest
Partnerships generally 1099-DIV used by cor- payments during the
constitutes passive income to porations that pay dividends
the Investors, to
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which can generally offset their stockholders. prior calendar year.
passive losses from their Shareholders are not required
other investments. Generally, to file state income tax
by March 15 of each year, returns and/or pay state
Investors receive annual income taxes outside of their
Schedule K-1 forms with state of residence with
respect to information for respect to the Company's
inclusion on their federal operations. The Company will
income tax returns. Investors be required to pay federal
must file state income tax income taxes and state income
returns and incur state taxes in certain states where
income tax in most states in it is qualified to do
which the Partnerships have business.
property.
EACH PARTNERSHIP IS A PASS-THROUGH ENTITY WHOSE INCOME AND LOSS IS NOT TAXED AT THE
ENTITY LEVEL BUT INSTEAD ALLOCATED DIRECTLY TO THE GENERAL PARTNERS AND INVESTORS.
INVESTORS ARE TAXED ON INCOME OR LOSS ALLOCATED TO THEM WHETHER OR NOT CASH DISTRIBUTIONS
ARE MADE TO THE INVESTORS. THE COMPANY'S NET INCOME WILL BE TAXED AT THE COMPANY'S LEVEL AT
THE STANDARD CORPORATE TAX RATES. DIVIDENDS PAID TO SHAREHOLDERS WILL CONSTITUTE PORTFOLIO
INCOME AND NOT PASSIVE INCOME. NOTEHOLDERS WILL RECOGNIZE PORTFOLIO INCOME ON THE INTEREST
PAYMENTS RECEIVED ON THE NOTES.
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THE COMPANY
OVERVIEW
The Company was organized under the laws of the State of Delaware on
February 5, 1998, to facilitate the Transaction. As a result of the Transaction,
the Company will acquire the assets and liabilities of the Partnerships and the
General Partners.
Following the Transaction, the Company's primary business objective will be
to provide Shareholders with long term after-tax returns that are greater than
those available from REITs and other similar publicly traded real estate
companies. The Company expects to achieve this objective by investing in assets
and using investment and management strategies not generally permitted under the
Code or used by REITs. Such strategies may include investing in real estate
operating companies, underperforming real estate assets such as office buildings
and apartment complexes with the objective of renovating and repositioning them
to increase values, and underperforming markets and foreign markets that the
Company expects will show significant improvement.
The Company currently does not intend to qualify as a REIT under the Code.
Consequently, the Company will have the flexibility to respond quickly to
opportunities without the structural limitations imposed by the Code for REITs
and to operate, when deemed advantageous by management, on a more highly
leveraged basis than most REITs. By not qualifying as a REIT under the Code
(which would require the Company to distribute each year at least 95% of its net
taxable income, excluding capital gains), the Company will have the ability to
retain cash flow generated from operations, to retain proceeds from sales of
properties for reinvestment, to sell properties without the substantial income
tax penalties which may be imposed on REITs from certain prohibited
transactions, and to invest in the securities of real estate operating
companies.
In addition, the Company differs from real estate opportunity funds that are
typically structured as private partnerships. Such private partnerships
typically have a finite life which limits their ability to grow and may limit
their ability to maximize value. Furthermore, investment in such private
partnerships is generally limited to large, institutional investors. In
addition, unlike investors in such private partnerships, the Company's
Shareholders are expected to have enhanced liquidity through their ability to
sell or margin their Shares. However, unlike REITs and private partnerships, the
Company will be subject to corporate level taxation.
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<PAGE>
The Company will enter into the Advisory Agreement with the Advisor to
manage the assets held by the Company and to provide other services to the
Company. See "--The Advisor" below. The principal executive offices of the
Company are located at 1004 Farnam Street, Suite 400, Omaha, Nebraska 68102, and
its telephone number is (402) 444-1630.
THE ADVISOR
The General Partners have determined that it would be more economical to
employ the Advisor rather than employing the necessary employees with the
requisite expertise for managing the Company's business. This determination was
based on (i) the relatively small amount of assets held by the Company in
comparison to the costs of hiring full time employees to manage them, (ii) the
difficulties faced by a newly formed company in attracting qualified personnel
with the requisite talent and experience and (iii) a comparison of the estimated
costs of employing such staff with the estimated fees to be paid to the Advisor
under the Advisory Agreement for the initial years of operations of the Company.
In order to estimate the fees payable to the Advisor during the initial
years of operations of the Company, the General Partners made the following
assumptions: (i) the beginning base of assets upon which the Asset Management
Fee is computed is $83,872,000, which is approximately equal to the total
Exchange Value, (ii) the Company will have $62,000,000 available to invest from
internal sources including cash and cash equivalents and borrowing secured by
the GNMA Certificates and FHA Loans, (iii) no other source of cash is available
for investment and all cash flows generated by the investments are distributed
to Shareholders in the form of dividends, (iv) the Company will invest
$31,000,000 each year for a two year total of $62,000,000, (v) of the amounts
invested, 20% will be on an un-leveraged basis and the remaining 80% will be
invested using 70% leverage, (vi) total assets at the end of year 1 are
$141,740,000, (vii) total assets at the end of year 2 are $199,600,000, (viii)
no assets are sold, and (ix) there is no appreciation or depreciation of asset
values. The following table shows the fees payable to the Advisor for the first
two years of operations of the Company based solely upon the above assumptions.
ESTIMATED FEES PAYABLE TO THE ADVISOR(1)
<TABLE>
<CAPTION>
YEAR 1 YEAR 2
---------- ------------
<S> <C> <C>
Asset Management Fee................................................ $ 535,833 $ 810,692
Acquisition Fee..................................................... 310,000 310,000
Incentive Fee on New Assets(2)...................................... 0 0
---------- ------------
Total............................................................... $ 845,833 $ 1,120,692
---------- ------------
---------- ------------
</TABLE>
- ------------------------
1. These fees are estimates based solely on the assumptions made by the General
Partners listed above. There can be no assurance that the fees payable to
the Advisor will not be greater than these estimates.
2. There is no Incentive Fee on New Assets because it was assumed that no
assets would be sold during the first two years.
For a description of the fee structure of the Advisor see "MANAGEMENT OF THE
COMPANY-- The Advisor--THE ADVISORY AGREEMENT." The Advisor will not receive any
Shares or other compensation in connection with the Transaction.
The General Partners have estimated that it would cost between $1.65 and
$1.9 million annually to employ the required staff necessary to manage the
Company without the use of the Advisor. To arrive at this amount, the General
Partners estimated that the Company would have to employ at least four executive
officers on a full time basis, including a chief executive officer, chief
financial officer, and officers responsible for acquisitions, dispositions and
asset management. The General Partners estimated that an additional six to nine
staff and administrative positions would also be necessary. Based on industry
practices, the General Partners estimated that the salary and personal benefit
expense for these individuals
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<PAGE>
would range from approximately $1.5 million to $1.7 million annually. The
General Partners also estimated that the Company would be required to pay an
additional $150,000 to $195,000 a year in rent and related office expenses.
Based upon the above factors, the General Partners concluded that the cost
of employing the Advisor would be less than the costs associated with hiring a
complete staff for the Company. The General Partners also considered the fact
that the Advisor and its affiliates already employ a substantial number of
employees with the necessary experience and expertise required to manage real
estate investments. After comparing these factors with the fact that the General
Partners believe that it would be difficult for the Company to attract qualified
personnel, the General Partners concluded that it would be in the best interests
of the Company to employ the Advisor. However, once operations have been
conducted for a period of time, the Board of Directors may re-evaluate whether
or not it is still in the best interests of the Company to employ the Advisor.
Under the terms of the Advisory Agreement, the Advisor will manage the
investments of the Company, formulate investment criteria, represent the Company
in connection with the acquisition and disposition of real estate assets,
recommend strategies to improve the performance of the Company's investments,
administer the day-to-day operation of the Company, communicate with and
maintain relations with the investors of the Company, and perform such other
services as set forth in the Advisory Agreement and as directed from
time-to-time by the Board of Directors. The Advisory Agreement will have an
initial term of three years (subject to earlier termination as provided
therein), and will automatically renew for one year terms unless written notice
of termination is delivered 180 days prior to the expiration of any term. The
Advisor will bear all costs of providing services to the Company, except for the
costs of services provided by third parties, and certain limited office expenses
and travel expenses on behalf of the Company. Pursuant to the terms of the
Advisory Agreement, the Advisor will receive compensation (the "Advisor Fees")
in the form of an Acquisition Fee, an Asset Management Fee and an Incentive Fee
on New Assets, as more particularly described under "MANAGEMENT OF THE
COMPANY--The Advisor--THE ADVISORY AGREEMENT." The Company may engage affiliates
of the Advisor to provide other services if approved by, and upon the terms
approved by, the Independent Directors of the Company.
INVESTMENT STRATEGY
In furtherance of its business objectives, the Company intends to focus
initially on investments in four distinct aspects of the real estate business.
UNDERPERFORMING COMMERCIAL PROPERTIES. The Company will seek to acquire
underperforming office, residential and other commercial properties; to improve
their value by renovation, redevelopment, and/or releasing and by acquiring over
time groups of similar assets that have a value as a portfolio greater than
their individual values; and to dispose of them at such time as the Company
believes the value to its shareholders is maximized without the need to comply
with limitations on such activities that apply to REITs.
The Company believes that the prices for most Class A, well leased, large
commercial properties in the largest metropolitan areas have increased
dramatically in the last several years due to aggressive competition among the
REITs and other similar investors. However, the Company believes there are
substantial opportunities available to acquire properties at attractive prices
that are not currently sought by REITs and other similar investors because of
little or no short term cash flow due to the need for substantial investment in
rehabilitation and/or releasing; because the properties are individually too
small or the markets in which they are located are too small to attract the
interest of REITs and other similar investors; and/or because the seller wishes
to sell a portfolio of assets that is not attractive to any single REIT or
similar buyer because of varying asset classes, locations, or quality. The
Company believes that by acquiring properties on this basis and renovating them
and/or repackaging them, it can increase asset value and produce substantial
returns to the Company.
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<PAGE>
REAL ESTATE OPERATING COMPANIES. The ability of REITs to invest in
operating companies not directly related to the management of the properties
they own is limited by the Code and other factors. Such operating companies
include brokers, developers, partnerships and general partners thereof which own
real estate, and other similar companies. Many of these companies have
significant expertise and good reputations, but have been unable to grow and
increase their profitability due to lack of capital, fragmented control, and so
forth. The Company believes that there are significant opportunities to make
investments in real estate operating companies at attractive prices. The Company
believes that its financial position and managerial expertise can allow such
companies to grow. It also believes that some real estate companies may well
provide synergistic value to the Company's other businesses.
FOREIGN OR FOREIGN-CONTROLLED REAL ESTATE. The Company believes that the
liquidity that has returned to the United States real estate markets remains
limited in many foreign markets. Some of the causes of this illiquidity are the
lack of capital; pricing disparities due to poor information flow; and
regulatory or policy constraints on foreign real estate lenders and owners such
as banks and finance companies.
In addition, the Company believes that foreign financial institutions and
other foreign non-real estate corporations will increasingly seek to liquidate
non-strategic businesses and assets such as U.S. and foreign real estate. The
Company believes that the recent turmoil in several Asian economies will
exacerbate this trend as companies in these countries seek to divest themselves
of non-core assets.
EXISTING PROPERTIES. The Company will own limited partnership Interests in
ten partnerships owning multifamily properties. The Company will conduct a
detailed evaluation of each of the properties to determine the best strategy to
maximize their value to the Company. Such strategies could include
rehabilitation, refinancing and disposition. Those efforts may be adversely
impacted by the fact that the Company has limited control over most of the
partnerships. Consequently, the Company will evaluate purchasing the interest of
the existing general partner interests to permit it to control the properties
and maximize their value to the Company.
While the Company has targeted these four areas upon which to focus
initially, the Company intends to pursue other investment opportunities that may
arise that meet the Company's business objective.
FINANCING STRATEGIES
The Company intends to fund its new investments first by using its initial
cash and short-term investments, which are expected to approximate $12.2 million
at the completion of the Transaction. Thereafter the Company intends to borrow
against its GNMA Certificates and FHA Loans by entering into "reverse repo
agreements." The Company anticipates it can borrow up to 90% of the principal
balance of the loans. Since the loans carry interest rates significantly above
the rates the Company will pay on its borrowings, the Company expects to make a
significant positive spread which will contribute to cash flow and earnings.
The Company will also consider selling one or more of its loans or
partnership interests, entering into a line-of-credit or similar corporate
financing agreement, the issuance of additional stock either directly in the
market or to sellers of assets, or other ways to meet its investment objectives.
CONAM AGREEMENT
The Partnerships and the Company have entered into an agreement (the "ConAm
Agreement") with Continental American Properties, Ltd., a California limited
partnership ("ConAm") for real estate project evaluation services and
investment. ConAm was founded in 1975 and is a nationally recognized developer,
owner, and manager of multifamily real estate. ConAm is based in San Diego,
California, and has numerous regional offices throughout the United States. It
currently manages over 45,000 apartment units throughout the country.
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<PAGE>
Pursuant to the ConAm Agreement, ConAm will identify and evaluate
multifamily redevelopment projects for possible investment by the Company. If
the Company approves of the multifamily redevelopment projects presented by
ConAm, then ConAm will also participate as an investor in such projects in a
partnership or joint venture or other similar arrangement with the Company on
the terms and subject to the conditions set forth in the ConAm Agreement. The
ConAm Agreement provides that ConAm may act as the property manager for the
redevelopment projects.
Prior to closing upon any proposed redevelopment project, additional due
diligence shall be conducted as may be necessary to confirm that there are no
environmental problems affecting the subject property or the improvements
thereon, that all improvements are structurally sound, that all zoning matters
have been complied with and that the redevelopment project, in all other
material respects, meets the criteria established in the ConAm Agreement.
Nothing in the ConAm Agreement prevents the Company from locating evaluating and
entering into joint venture, partnership or other arrangements for the
ownership, development, renovation or management of any real estate project of
whatever nature that the Company locates on its own or through any third party.
RISK CONTROL
The Company will endeavor to control risks by a variety of strategies. The
Company will use experienced third-parties for construction, redevelopment,
property management and other similar services. The Company also expects to rely
on the expertise of its Advisor and its Advisor's affiliates in foreign
investing, property management and other areas. The Company will also endeavor
to use non-recourse or limited recourse debt when it believes the relationship
between cost and risk is favorable. The Company will also consider controlling
its risk on floating rate debt and any transactions in foreign currencies by
employing swaps, hedges, and other methods of controlling risk. The Company will
not invest in or engage in any such derivative transactions except to control
risks that are attendant to its business objectives.
AFFILIATED REIT
The Company intends to achieve its business objectives by investing in
assets and using investment and management strategies not generally permitted to
or employed by REITs. Occasionally, the Company may acquire as part of a
diversified portfolio or otherwise assets which may be more appropriately owned
by a REIT. Furthermore, the Company expects that its investments in the
renovation of underperforming real estate assets will result in assets that are
attractive candidates for acquisition by REITs.
Should the Company acquire a critical mass of such assets, the Company
intends to consider the formation or acquisition of a subsidiary company which
would qualify as a REIT. In such event, the Company would consider spinning off
the REIT to its Shareholders. If the subsidiary is formed and spun off, the
Company and the new REIT would initially share management and would be able to
take advantage of cost and tax synergies. The Company believes that such
synergies would provide the Company and the new REIT with substantial
competitive advantages in making investments in, managing, and disposing of
assets.
OPERATING RESTRICTIONS
The Board of Directors has established the Company's investment and
financing strategies and, except as otherwise restricted, the Board of Directors
has the power to modify or alter the Company's policies and strategies without
the consent of the Shareholders. Developments in the market which affect the
Company's policies and strategies or which change the Company's assessment of
the market may cause the Board of Directors to revise such policies and
strategies.
The Company at all times intends to conduct its business so as not to become
regulated as an investment company under the Investment Company Act. The
Investment Company Act exempts entities that are "primarily engaged in the
business of purchasing or otherwise acquiring mortgages and other liens on and
interest in real estate" (such mortgages and liens being referred to herein as
"Qualifying
78
<PAGE>
Interests"). Under current interpretation of the staff of the SEC, in order to
qualify for this exemption, the Company must maintain at least 55% of its assets
directly in Qualifying Interests. In addition, unless certain securities
relating to federally insured mortgages ("Mortgage Securities") represent all
the certificates issued with respect to an underlying pool of mortgages, such
Mortgage Securities may be treated as securities separate from the underlying
mortgage loans and, thus, may not be considered Qualifying Interests for
purposes of the 55% requirement. The Company will closely monitor its compliance
with this requirement and intends to maintain its exempt status.
Except as provided under "THE NOTES," the Company will have no restriction
on the ratio of debt to equity investments it holds and expects to use
significant levels of leverage to achieve its objective. Such leverage can be
achieved by a combination of direct borrowings by the Company, borrowings
secured by real estate, and through investing in securities of issuers who
themselves employ leverage.
DIVIDEND POLICY
The Company intends to pay regular quarterly dividends to its Shareholders,
beginning with the first full fiscal quarter of operations following the
completion of the Transaction, subject to the discretion of, and in amounts
determined by, the Board of Directors. The Company intends to distribute
substantially all of its net cash flow from operations, after giving effect to
any reasonable reserves, as dividends with respect to the Company's first four
complete quarters of operations. In addition, the Company intends to distribute
with respect to the first two complete quarters of operations an amount which is
the greater of (i) substantially all of its net cash flow from operations as
described above or (ii) the cash distributions which would have been distributed
to Cap Source I investors if the Transaction had not occurred and distributions
were made at the same quarterly rates as were made in 1997 for the Cap Source I
Partnership or (iii) cash distributions which would have been distributed to Cap
Source II Investors if the Transaction had not occurred and distributions were
made at the current monthly rate for Cap Source II, which rate has been reduced
for the distribution for the month of August 1998, payable in October 1998. For
a description of the historical distributions for the Partnerships see
"SECONDARY MARKET AND OWNERSHIP OF PARTNERSHIP UNITS--Partnership
Distributions." The Company anticipates that the amount resulting from the
application of (ii) and (iii) above will be $.42 per share per quarter.
POLICY WITH RESPECT TO CERTAIN ACTIVITIES
In order to achieve the Company's business objectives, the operating and
investment policies of the Company will be flexible in order to respond to
changing real estate and financial markets. Therefore, the Board of Directors
may change the operating, investment, financing and related policies at any time
and without shareholder approval. The Company believes that this structure will
better allow the Company to take advantage of investment opportunities as they
become available. Other than the restrictions and policies discussed under "THE
COMPANY," the Company does not have any policies or limitations with respect to
the following activities: (a) issuing senior securities, (b) borrowing money,
(c) making loans to other persons, (d) investing in the securities of other
issuers for the purpose of exercising control, (e) underwriting securities of
other issuers, (f) engaging in the purchase and sale (or turnover) of
investments, (g) offering securities in exchange for property, and (h)
repurchasing or otherwise reacquiring the Company's own Shares or other
securities. In addition, the Company does not have a specific policy with regard
to the amount of the Company's assets that may be invested in any particular
type of investment or any one investment.
LEGAL PROCEEDINGS
The Company is not presently involved in any litigation nor, to its
knowledge, is any litigation threatened against the Company.
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<PAGE>
MANAGEMENT OF THE COMPANY
The Board of Directors is responsible for the management of the Company, its
property and the disposition thereof, and is responsible for the general
policies of the Company and the general supervision of the Company's activities
conducted by its officers, agents, employees, advisors, managers or independent
contractors as may be necessary in the course of the Company's business. At all
meetings of the Board of Directors, a majority of the directors shall constitute
a quorum for the transaction of business, which majority shall include at least
two Independent Directors. The term "Independent Directors" refers to directors
of the Company who are not affiliated with the Company or the Advisor and do not
perform any services for the Company or the Advisor, other than as directors,
and are not officers or employees of the Company, the Advisor or any of their
respective affiliates. Actions to be taken by the Board of Directors will
require approval of a majority of the directors present at any meeting in which
there is a quorum, unless otherwise specified by the Company's Bylaws or by law.
The Board of Directors is divided into three classes and currently consists
of three members. Following the Transaction, the Board of Directors will be
increased to seven, with three directors in Class A, two directors in Class B
and two directors in Class C. The resulting vacancies will be filled by a vote
of the existing directors. Thereafter, the Board of Directors will consist of
not less than five nor more than eleven directors. Following the Transaction,
the majority of the Board of Directors will be Independent Directors, and at
least one director in each class will be an Independent Director. In the
election of directors, each holder of Common Stock has one vote for each Share
held.
The term of the initial Class A directors will terminate on the date of the
1999 annual meeting of shareholders; the term of the initial Class B directors
will terminate on the date of the 2000 annual meeting of shareholders; and the
term of the initial Class C directors will terminate on the date of the 2001
annual meeting. At each annual meeting of shareholders, directors of the class
to be elected shall be elected for a three-year term. Directors will hold office
until the annual meeting for the year in which their terms expire and until
their successors shall be elected and qualify.
The Board of Directors expects to hold meetings at least quarterly, and may
take action on behalf of the Company by unanimous written consent without a
meeting. Directors may participate in meetings by conference telephone or
similar communications equipment by means of which all persons participating in
the meeting can hear each other.
DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
The Company's Board of Directors currently consists of the following
persons:
<TABLE>
<CAPTION>
NAME CLASS AGE POSITION WITH THE COMPANY
- --------------------------------------------- ----- --- ---------------------------------
<S> <C> <C> <C>
Michael B. Yanney............................ B 63 Chairman of the Board
Paul L. Abbott............................... C 52 Director, President and Chief
Executive Officer
George H. Krauss............................. A 56 Director
</TABLE>
The business experience during the past five (5) years of each of the
current directors is as follows:
MICHAEL B. YANNEY has served as Chairman of the Board of Directors of the
Company since April 24, 1998. He has also served as the Chairman and Chief
Executive Officer of America First Companies and its predecessors since 1984.
America First Companies is a financial services firm located in Omaha, Nebraska,
that manages public investment funds which have raised over $1.5 billion. From
1977 until the organization of America First Companies, Mr. Yanney was
principally engaged in the ownership and management of commercial banks. From
1961 to 1977, Mr. Yanney was employed by Omaha National Bank and Omaha National
Corporation (subsequently merged into FirsTier Financial which has merged into
USBank),
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where he held various positions, including the position of Executive Vice
President and Treasurer of the holding company. Mr. Yanney also serves as a
member of the boards of directors of Burlington Northern Santa Fe Corporation,
Forest Oil Corporation, Lozier Corporation, Freedom Communications, Inc., PKS
Information Services, Inc., Magnum Resources, Inc., Rio Grande Medical
Technologies, Inc., Level 3 Communications, Inc. and RCN Corporation.
PAUL L. ABBOTT has served as Director, President and Chief Executive Officer
of the Company since its inception on February 5, 1998. Mr. Abbott has also
served in the Real Estate Investment Department of America First Companies since
1997. From 1988 until 1997, Mr. Abbott was a Managing Director of Lehman
Brothers, Inc. ("Lehman Brothers"). At Lehman Brothers, Mr. Abbott served as
chairman and chief executive of over 50 real estate investment funds controlled
by Lehman Brothers representing gross client investments exceeding $2.5 billion.
The assets owned by those funds included 50,000 multifamily units; 5,000
manufactured housing sites; 5 million square feet of retail; 900,000 feet of
self-service storage; and a variety of other debt and equity real estate
investments. His responsibilities included executive responsibility for
acquisitions, financings, planning, investment management, investor relations
and regulatory reporting. In serving as chief executive of these funds, Mr.
Abbott was also responsible for developing and managing relationships throughout
the real estate industry, including regional and national developers, property
managers, brokers, owners and lenders. Mr. Abbott served on various Lehman
Brothers committees responsible for approving a variety of real estate
transactions and was involved in a number of real estate advisory assignments
for Lehman Brothers.
Prior to joining Lehman Brothers, from 1983 until 1988, Mr. Abbott was a
Senior Vice President of Daseke & Co., Inc., a predecessor to Walden
Residential, a NYSE-traded real estate investment trust. At Daseke, Mr. Abbott
was responsible for asset management of 20,000 multifamily units and arranging
over $500 million of financings. From 1979 until 1983, Mr. Abbott was a vice
president of various insurance subsidiaries of Household International.
GEORGE H. KRAUSS has served as a Director of the Company since April 24,
1998, and has served as a consultant to America First Companies since 1997. From
1972 until the time he became a consultant to America First Companies, Mr.
Krauss was a member of Kutak Rock, a national law firm with over 200 lawyers in
eight states and the District of Columbia. As a member of Kutak Rock, Mr. Krauss
gained extensive experience in the corporate, merger and acquisition, and
regulatory areas of the firm's practice. In addition to his legal education, Mr.
Krauss has a Masters of Business Administration and is a registered Professional
Engineer. Mr. Krauss has served on the board of directors of numerous companies
including Gateway 2000, Inc., a computer manufacturing and distribution company
with over $6 billion in sales in 1997, which is listed on the NYSE, America
First Mortgage Investments, Inc., also a NYSE member, and Bayview Capital
Corporation, which is listed on the NASDAQ.
Approximately thirty (30) days after the Transaction, the following persons
will be considered for election to the Board of Directors by the current members
of the Board to serve as Independent Directors:
<TABLE>
<CAPTION>
NAME AGE
- ------------------------------------------------------ ---
<S> <C>
Elizabeth L. Jarvis................................... 63
John P. Miller........................................ 55
Steven W. Seline...................................... 45
Robert E. Van Metre................................... 57
</TABLE>
The business experience during the past five (5) years of each of the
foregoing individuals is as follows:
ELIZABETH L. JARVIS has served as President of Jarvis & Associates since
1984. Ms. Jarvis has specialized in development, re-development, merchandising,
management, marketing and leasing of shopping centers,
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since 1970. Since its formation in 1984, Jarvis & Associates has successfully
redeveloped, leased, managed or owned over four million square feet of retail
space. Ms. Jarvis also provides consulting services to financial institutions,
retailers and retail developers throughout the country and internationally.
Prior to forming Jarvis & Associates, Ms. Jarvis was Senior Vice President of
the Taubman Company where she was responsible for the financial performance of
19 regional shopping centers totaling over 30 million square feet of retail
space.
JOHN P. MILLER has served as President of Miller Mediation Services in
Omaha, Nebraska, since 1993. Beginning in 1998, Mr. Miller served as the
Commissioner of the Nebraska State Games and Parks Commission. From 1990 to
1995, Mr. Miller served as a consultant to the Omaha Development Council. Mr.
Miller was the Nebraska State Banking Director in 1989, and served as the
Chairman of the Nebraska Liquor Control Commission from 1983 to 1989. Mr. Miller
served as a mediator for the New York Stock Exchange and the National
Association of Securities Dealers from 1993 to 1998. Mr. Miller is also an
attorney, and served as a partner of Eisenstatt, Lay, Higgins and Miller from
1958-1971 and a partner of Miller and Rowen from 1971 to 1984.
STEVEN W. SELINE has served as Vice Chairman of Gold Circle Entertainment,
Inc., an entertainment company located in Nebraska, since 1998. Mr. Seline has
also served as Vice Chairman of Waitt Radio, Inc., which owns two radio stations
located in Nebraska and Iowa, and Vice Chairman of Waitt Broadcasting, Inc.,
which owns a CBS affiliate in Iowa, since 1998. Mr. Seline serves as of counsel
to the law firm of Kutak Rock in Omaha, Nebraska, where he was a senior partner
of the firm from 1979 to 1998. Mr. Seline is experienced in the acquisition and
sale of financial institutions, business entities, shopping centers and real
estate. Mr. Seline received his bachelor's degree from the University of
Nebraska at Omaha in 1975 and his law degree, cum laude, from Creighton
University in 1979.
ROBERT E. VAN METRE has served as Vice President, Accounting and Finance,
and Secretary for US Servis, Inc., a publicly traded outsourcing firm in the
healthcare industry that was acquired by HBO & Co. on October 1, 1998, since
1995. From 1987 to 1994, Mr. Van Metre held several senior management positions
with Integrated Resources Life Companies, Inc., including Senior Vice
President--Chief Financial Officer, Executive Vice President and President. From
1982-1987, Mr. Van Metre was Executive Vice President--Chief Financial Officer
for Daseke & Co. From 1973 to 1982, Mr. Van Metre held a variety of management
positions with Household International. Prior to joining Household
International, he was Administrator of Finance for the Illinois State Toll
Highway Authority. Mr. Van Metre is an attorney and a certified public
accountant.
Officers of the Company will be elected by and serve at the discretion of
the Board of Directors. The current officers of the Company are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION WITH THE COMPANY
- ------------------------------------------- --- -------------------------------------------
<S> <C> <C>
Michael B. Yanney.......................... 63 Chairman of the Board
Paul L. Abbott............................. 52 President and Chief Executive Officer
Gary Thompson.............................. 55 Chief Financial Officer and Treasurer
Helen L. Poorman........................... 37 Executive Vice President-- Acquisitions
John H. Cassidy............................ 46 Executive Vice President--Asset Management
George H. Krauss........................... 56 Secretary
</TABLE>
Subject to the approval of the Board of Directors, it is anticipated that
the foregoing persons will function as executive officers of the Company after
the Transaction, serving a one-year term and until their
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successors are elected and qualified or until their earlier resignation or
removal. There are no arrangements or understandings between or among any of the
officers or directors and any other person pursuant to which any officer or
director of the Company was selected as such. There are no family relationships
among any directors and officers of the Company.
The business experience of Messrs. Yanney, Abbott and Krauss is set forth
above. The business experience for the past five (5) years of each of the other
officers of the Company is as follows:
GARY THOMPSON has served as Chief Financial Officer of the Company since
April 24, 1998. He also has served as financial vice president of America First
Companies since 1989, and is responsible for financial accounting and tax
reporting for all of America First Companies' funds. Prior to 1989, Mr. Thompson
was an audit partner at KPMG Peat Marwick. He is a certified public accountant.
HELEN L. POORMAN has served as Executive Vice President--Acquisitions of the
Company since April 24, 1998. Ms. Poorman joined America First Companies in
1998, in the Real Estate Investment Department, after having completed a
consulting assignment for America First Companies in 1997. From 1987 through
1996, Ms. Poorman was with Copley Real Estate Advisors ("Copley") in various
Portfolio and Asset Management positions, most recently as Managing Director.
Ms. Poorman was responsible for the overall management of the account of
Copley's largest client, the real estate equity portfolio of New England Mutual
Life Insurance Company. Her responsibilities included strategic planning, asset
management, financings, workouts, and dispositions, among others. The portfolio
included approximately 200 assets comprising 32 million square feet of office
and industrial property, 2,500 apartment units, 4 hotels and nearly 5,000 acres
of land for development or sale. Her Copley background also includes portfolio
management of other multi-billion dollar portfolios, extensive workout
experience, and management of all commercial property types in various ownership
structures. Prior to joining Copley, Ms. Poorman was a Senior Asset Manager with
Daseke & Co., Inc., overseeing the management of numerous limited partnerships
which owned multi-family and office properties. Ms. Poorman holds an M.B.A. in
Finance from the University of Chicago and a B.A. SUMMA CUM LAUDE, in Economics
and Management from DePauw University.
JOHN H. CASSIDY has served as Executive Vice President--Asset Management of
the Company since April 24, 1998. Mr. Cassidy co-founded and currently serves as
President of America First Properties Management L.L.C., an affiliate of the
Advisor. As President of America First Properties Management L.L.C., Mr. Cassidy
has been responsible for the management of over 8,000 apartments located in 18
states since the Company's inception in 1992. Prior to his position with the
property management of the Company, Mr. Cassidy supervised the America First
Companies' real estate asset management team overseeing a portfolio of 45
apartment communities. Before joining America First Companies, Mr. Cassidy was a
Vice President of E.F. Hutton & Co. involved in the analysis, acquisition and
asset management of real estate investments. Mr. Cassidy holds an M.B.A. in
finance from the Columbia University School of Business and an undergraduate
degree from Georgetown University.
BOARD OF DIRECTORS COMPENSATION
The Company intends to pay an annual fee of $20,000 to each Independent
Director of the Company, $10,000 of which will be paid in the form of Common
Stock of the Company and $10,000 will be paid in cash. The Company will
reimburse all directors for travel expenses and other out-of-pocket expenses
incurred in connection with their activities on behalf of the Company.
COMMITTEES OF THE DIRECTORS
Promptly following the consummation of the Transaction, the Board of
Directors will establish the following committees:
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AUDIT COMMITTEE. The Audit Committee will consist of three directors, all
of which will be Independent Directors. The Audit Committee will be established
to make recommendations concerning the engagement of independent public
accountants, review with the independent public accountants the plans and
results of the audit engagement, approve professional services provided by the
independent public accountants, review the independence of the independent
public accountants, consider the range of audit and nonaudit fees and review the
adequacy of the Company's internal accounting controls.
EXECUTIVE COMMITTEE. The Executive Committee will consist of three
directors. The Executive Committee will have the authority to acquire, dispose
of and finance investments for the Company and execute contracts and agreements,
including those related to the borrowing of money by the Company, and generally
exercise all other powers of the Board of Directors except for those which
require action by all the directors or the Independent Directors under the
Certificate of Incorporation or the Bylaws of the Company, or under applicable
law.
COMPENSATION COMMITTEE. The Compensation Committee will consist of three
directors, which will advise the Board of Directors on all matters pertaining to
compensation programs and policies and will establish guidelines for employee
incentive and benefits programs which it will review on a continuous basis. All
members of the Compensation Committee will be Independent Directors.
The Board of Directors may from time to time establish other committees to
facilitate the management of the Company. The Board of Directors initially will
not have a nominating committee and the entire Board of Directors will perform
the function of such a committee.
COMPENSATION OF EXECUTIVE OFFICERS
The Company was formed on February 5, 1998. Accordingly, the Company has not
paid any cash compensation to its executive officers for prior years, and no
cash compensation will be paid to the executive officers so long as the Advisory
Agreement is in effect. However, pursuant to the terms of the Company's 1998
Stock Option Plan (the "Plan"), the Compensation Committee of the Board of
Directors may, subject to certain restrictions, grant options to the executive
officers to purchase Common Stock of the Company. See "--Stock Option Plan."
There are no employment agreements between the Company and any of its officers,
and the Company does not expect to enter into any such agreements in the future.
STOCK OPTION PLAN
GENERALLY. The Plan is intended to provide incentive to key employees,
officers and directors of the Company and any subsidiary of the Company, to
encourage proprietary interest in the Company, to encourage such key employees
to remain in the employ of the Company, attract new employees with outstanding
qualifications and to afford additional incentive to others to increase their
efforts in providing significant services to the Company. The term of the Plan
is ten years. No grants will be made under the Plan with an exercise price of
less than $25 per share for six months following the Effective Date.
ADMINISTRATION. The Plan will be administered by the compensation committee
appointed by the Board (the "Committee"). No member of the Committee may act as
to matters under the Plan specifically relating to such member.
Any director of the Company who is also appointed to serve on the Committee
and who at the time of his appointment qualifies as a "Non-Employee Director"
under Rule 16b-3(b)(3)(i) promulgated under the Exchange Act and, to the extent
that relief from the limitation of Section 162(m) of the Code is sought, as an
"Outside Director" under Section 1.162-27(e)(3)(i) of the Treasury Regulations
will be granted initial and periodic awards pursuant to the formula set forth in
Section 7(a) of the Plan.
The Plan vests authority in the Board to amend the Plan. However, the Board
may not make any amendment in the Plan that would, if such amendment were not
approved by the holders of the Common
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Stock, cause the Plan to fail to comply with any requirement or applicable law
or regulation, unless and until the approval of the holders of such Common Stock
is obtained.
ELIGIBILITY. Officers, directors and employees of the Company are eligible
to be granted awards under the Plan.
LIMITATION OF DIRECTORS' LIABILITY
Delaware law authorizes Delaware corporations to limit or eliminate the
personal liability of a director to the corporation and its stockholders for
monetary damages for certain breaches of the director's fiduciary duties as a
director, other than for breach of his duty of loyalty to the corporation and
its stockholders, or for acts or omissions not in good faith or involving
intentional misconduct or knowing violation of the law, or for the unlawful
purchase or redemption of stock or payment of unlawful dividends or the receipt
of improper personal benefits. The Board of Directors believes that such
provisions have become commonplace among major corporations and are beneficial
in attracting and retaining qualified directors, and the Company's Certificate
of Incorporation includes such provisions.
The director's duty of care requires that, when acting on behalf of the
corporation, directors must exercise an informed business judgment based on all
material information reasonably available to them. Absent these limitations,
directors are accountable to corporations and/or their shareholders for monetary
damages for conduct constituting gross negligence in the exercise of their duty
of care. Although this provision of Delaware law does not change directors' duty
of care, it enables corporations to limit available relief to equitable remedies
such as injunction or rescission.
The Company's Certificate of Incorporation limits the liability of directors
of the Company to its shareholders (in their capacity as directors but not in
their capacity as officers) to the fullest extent permitted by Delaware law.
Specifically, directors of the Company will not be personally liable for
monetary damages for breach of a director's fiduciary duty as a director, except
for liability (a) for any breach of the directors' duty of loyalty to the
Company or its shareholders, (b) for acts or omissions not in good faith or that
involve intentional misconduct or a knowing violation of law, (c) for unlawful
payments of dividends or unlawful stock repurchases or redemptions as provided
in Section 174 of the Delaware GCL or (d) for any transaction from which the
director derived an improper personal benefit. The inclusion of this provision
in the Certificate of Incorporation may have the effect of reducing the
likelihood of derivative litigation against directors and may discourage or
deter shareholders or management from bringing a lawsuit against directors for
breach of their duty of care, even though the action, if successful, might
otherwise benefit the Company and its shareholders.
INDEMNIFICATION
Subject to applicable law, the Company's Bylaws require the Company to
indemnify its officers and directors against expenses, judgments, settlements
and fines incurred in the defense of any claim, including any claim brought by
or in the right of the Company, to which they were made party by reason of being
or having been officers or directors.
It is anticipated that each of the Company's directors and executive
officers will enter into an indemnity agreement with the Company following the
completion of the Transaction. Pursuant to such agreements, the Company will
agree to indemnify the directors and executive officers against any costs and
expenses, judgments, settlements and fines incurred in connection with any claim
involving a director or executive officer by reason of his position as director
or executive officer that are in excess of the coverage provided by any
insurance if the indemnitee meets certain standards of conduct.
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THE ADVISOR
DIRECTORS AND OFFICERS OF THE ADVISOR. The directors and officers of the
Advisor are set forth below. These officers of the Advisor may also provide
services to the Company on behalf of the Advisor.
<TABLE>
<CAPTION>
NAME AGE OFFICES HELD
- ------------------------------------------- --- -------------------------------------------
<S> <C> <C>
Michael B. Yanney.......................... 63 Director
Paul L. Abbott............................. 52 Director, President and Chief Executive
Officer
Gary Thompson.............................. 55 Chief Financial Officer and Treasurer
John H. Cassidy............................ 46 Executive Vice President--Asset Management
George H. Krauss........................... 56 Director and Secretary
Helen L. Poorman........................... 37 Director and Executive Vice
President--Acquisitions
</TABLE>
Biographical information with respect to the directors and officers of the
Advisor is set forth above under "--Directors and Executive Officers of the
Company."
THE ADVISORY AGREEMENT. The Company will enter into an Advisory Agreement
with the Advisor for an initial term of three years, beginning on the Effective
Date, subject to earlier termination for cause as provided therein. After the
initial term, the Advisory Agreement automatically renews for additional one-
year periods unless written notice is delivered 180 days prior to the expiration
of any term.
The Advisor is entitled to receive compensation in the form of an
Acquisition Fee, an Asset Management Fee and an Incentive Fee on New Assets for
services rendered under the Advisory Agreement. The Acquisition Fee will be
payable each month in arrears and will be an amount equal to 1% of the increase
in the Company's actual investment in all New Assets, including any costs
related to the acquisition or financing of New Assets but excluding debt which
is incurred or assumed in connection therewith. The Asset Management Fee will be
equal to .475%, on an annual basis, of the Company's Total Assets, calculated as
of the last day of each month, payable by the Company to the Advisor on a
monthly basis in arrears. The Incentive Fee on New Assets will be equal to 10%
of any Capital Gain offset by any Capital Loss on New Assets, payable by the
Company to the Advisor on an annual basis in the form of Restricted Stock. The
Advisor Fees were negotiated by the Special Committee.
The Advisor may not sell, transfer or otherwise dispose of the Restricted
Stock until the earlier of: (i) the termination of the Advisory Agreement as
provided therein; and (ii) five years following the issuance of the Restricted
Stock. Upon the termination of the Advisory Agreement by the Company without
cause, or by the Advisor for cause, the Advisor is entitled to certain
registration rights with respect to the Restricted Stock as set forth in the
Advisory Agreement.
The Company will pay all of its expenses, including all costs associated
with third party services provided to it, and will reimburse the Advisor for
documented expenses of the Advisor incurred on its behalf. The Advisor will pay
all of the costs of providing services to the Company, including personnel
costs. In connection with providing services to the Company, the Advisor will be
reimbursed by the Company only for (i) rent, utilities, capital equipment and
related expenses associated with any office which is established and maintained
by the Advisor exclusively to provide services to the Company, (ii) expenses of
third parties which derive 25% or less of their gross revenues from providing
services to the Company, and (iii) travel expenses incurred by employees of the
Advisor in connection with travel at the request or on behalf of the Company;
provided that the Company's reimbursement of these expenses will be limited to
amounts for them in the annual budget as approved by the Board of Directors,
with any
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subsequent changes approved by the Board of Directors. In addition, no
reimbursement will be permitted for services for which the Advisor is entitled
to compensation by way of a separate fee.
The Advisor at all times will be subject to the supervision of the Board of
Directors and will only have such functions and authority as the Company may
delegate to it. The Advisor will be responsible for the day-to-day operations of
the Company and will perform such services and activities relating to the assets
and operations of the Company as may be appropriate, including:
(i) serving as the Company's consultant with respect to formulation of
investment criteria and preparation of policy guidelines by the Board of
Directors;
(ii) representing the Company in connection with the acquisition and
disposition of real estate assets;
(iii) representing the Company in monitoring the performance of its
assets and recommending strategies to improve such performance;
(iv) furnishing reports and statistical and economic research to the
Company regarding the investment activities and results of operations of the
Company and the services performed by the Advisor for the Company;
(v) providing the executive and administrative personnel, office space
and services required in rendering services to the Company;
(vi) administering the day-to-day operations of the Company and
performing and supervising the performance of such administrative functions
necessary in the management of the Company as may be agreed upon by the
Advisor and the Board of Directors, including collection of revenues and
payment of the expenses, debts and obligations and maintenance of
appropriate computer services to perform such administrative functions;
(vii) communicating on behalf of the Company with the holders of equity
and debt securities of the Company as required to satisfy the reporting and
other requirements of any governmental or regulatory bodies or agencies and
maintaining effective relations with such holders;
(viii) counseling the Company in connection with policy decisions to be
made by the Board of Directors;
(ix) upon request by, and in accordance with the directions of, the
Board of Directors, investing or reinvesting any money of the Company;
(x) qualifying and causing the Company to qualify to do business in all
applicable jurisdictions;
(xi) causing the Company to retain qualified accountants and tax experts
to assist in developing appropriate accounting procedures and testing
systems and conducting quarterly compliance reviews;
(xii) maintaining exemption from the Investment Company Act;
(xiii) arranging for the preparation and timely filing of all reports
required to be filed by the Company under the Exchange Act, and under any
other applicable securities laws or regulations;
(xiv) complying with and using its best efforts to cause the Company to
comply with all applicable laws; and
(xv) as approved and directed by the Board of Directors, performing such
other services as may be required from time to time for management and other
activities relating to the assets of the Company and its Subsidiaries as the
Advisor shall deem appropriate under the circumstances.
The Company may enter into separate agreements with the Advisor or
affiliates for additional services to be provided to the Company on terms and
conditions to be negotiated by the parties to such
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agreements. The fees to be paid by the Company for such additional services will
be negotiated and approved by the Independent Directors on behalf of the
Company. Neither the Company nor the Advisor may assign the Advisory Agreement
without the written consent of the other party.
The Company may terminate the Advisory Agreement upon 60 days' written
notice of termination from the Board of Directors to the Advisor if the Advisor
(i) materially breaches any provision of the Advisory Agreement and fails to
cure the breach as provided therein; or (ii) engages in fraud or willful
misconduct in connection with the business of the Company. If the Advisory
Agreement is terminated by the Company for cause, the Advisor is not entitled to
receive any additional amounts from the Company.
The Company may terminate the Advisory Agreement without cause at any time
after the third annual anniversary of the Effective Date by delivering 180 days
prior written notice of termination. Any termination without cause or
non-renewal of the Advisory Agreement by the Company must be approved by a
majority vote of the Independent Directors or by a vote of the holders of a
majority of the outstanding shares of the Company's Common Stock. In such event,
the Company shall pay the Advisor a termination fee equal to the sum of: (i) the
amount of the Acquisition Fee and the Asset Management Fee for the previous
twelve-month period, and (ii) the fair value of any Incentive Fee on New Assets
that would be earned on any New Assets owned by the Company on the date of the
termination. Under the terms of the Advisory Agreement, the Company and Advisor
are required to use their best efforts to reach a mutual agreement with respect
to the amount of the Incentive Fee on New Assets under such circumstances. If
the parties are unable to agree upon such amount within 30 days following the
notice of termination, the amount shall be determined by an independent
valuation as provided in the Advisory Agreement.
The Advisor may terminate the Advisory Agreement upon 60 days' written
notice of termination to the Company if the Company (i) materially breaches any
provision of the Advisory Agreement and fails to cure the breach as provided
therein; or (ii) engages in fraud, willful misconduct or gross negligence, other
than as a result of acts or omissions caused by employees of the Advisor. In the
case of termination of the Advisory Agreement by the Advisor with cause, the
Company is required to pay the Advisor a fee equal to the sum of: (i) the amount
of the Acquisition Fee and the Asset Management Fee for the previous twelve-
month period, and (ii) the fair value of any Incentive Fee on New Assets that
would be earned on any New Assets owned by the Company on the date of the
termination. Under the terms of the Advisory Agreement, the Company and Advisor
are required to use their best efforts to reach a mutual agreement with respect
to the amount of the Incentive Fee on New Assets under such circumstances. If
the parties are unable to agree upon such amount within 30 days following the
notice of termination, the amount shall be determined by an independent
valuation as provided in the Advisory Agreement.
The Advisor may terminate the Advisory Agreement without cause at any time
after the third annual anniversary of the Effective Date by delivering 180 days
prior written notice of termination. In such event, the Advisor is entitled to
receive twenty-five percent of the fair value of any Incentive Fee on New Assets
that would be earned on any New Asset owned by the Company on the date of
termination. All such amounts payable to the Advisor shall be paid on the third
anniversary of the date of termination, provided, however, that if any new Asset
is sold during such three-year period, the Advisor shall be paid, at the time of
sale, twenty-five percent of the Incentive Fee on New Assets which would have
been payable to the Advisor, pursuant to the terms of the Advisory Agreement,
until the Advisor receives the total amount payable as provided therein. The
parties are required to use their best efforts to reach a mutual agreement with
respect to such fee. If the parties are unable to agree upon such amount within
30 days following the notice of termination, the amount shall be determined by
an independent valuation as provided in the Advisory Agreement.
PRIOR PARTNERSHIPS
America First Companies, an affiliate of the General Partners, has formed
eleven prior public limited partnerships since 1984. These prior public
partnerships have raised approximately $1.3 billion in capital, from
approximately 93,000 investors. Three of the prior public partnerships were
merged with and into a
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newly formed corporation. Only four of the other prior programs continue in
existence. Although none of these prior public partnerships had investment
objectives similar to those of the Company, some of the prior public
partnerships did invest in designated classes of real estate assets. See
"Appendix D" for detailed information about the performance of seven of these
prior public partnerships that invested in real estate assets. Information was
not provided regarding income tax because the prior programs were limited
partnerships with a different tax structure than the Company and because there
have been substantial changes in the tax laws during the period for which the
information was presented. Prior performance information was not included for
four of the public programs because those programs did not invest in real
estate. In addition, information has not been provided for prior programs that
were not public. The eleven prior public limited partnerships organized by
America First Companies are:
AMERICA FIRST FEDERALLY GUARANTEED MORTGAGE FUND LIMITED PARTNERSHIP
("AFFGMF") commenced its offering in November 1984 and closed in January 1985,
and raised $200 million from approximately 11,000 investors. The purpose of this
partnership was to acquire "deep discount" FHA-insured mortgage loans on
multifamily housing projects. This partnership ceased operations and was
liquidated in 1986.
AMERICA FIRST FEDERALLY GUARANTEED MORTGAGE FUND 2 LIMITED PARTNERSHIP
("AFFGMF2") commenced its offering in April 1985 and closed in October 1985, and
raised approximately $200 million with sales to approximately 14,000 investors.
The purpose of this partnership was to acquire "deep discount" FHA-insured
mortgage loans on multifamily housing projects. This partnership ceased
operations and was liquidated in 1992.
AMERICA FIRST TAX EXEMPT MORTGAGE FUND LIMITED PARTNERSHIP ("AFTEMF")
commenced its offering in October 1985 and closed in December 1985, and raised
approximately $200 million with sales to approximately 10,000 investors. The
purpose of this partnership was to acquire tax-exempt mortgages on multifamily
housing projects.
AMERICA FIRST TAX EXEMPT MORTGAGE FUND 2 LIMITED PARTNERSHIP ("AFTEMF2")
commenced its offering in September 1986 and closed in October 1986, and raised
$105 million with sales to approximately 5,000 investors. The purpose of this
partnership was to acquire tax-exempt mortgages on multifamily housing projects.
AMERICA FIRST PARTICIPATING/PREFERRED EQUITY MORTGAGE FUND LIMITED
PARTNERSHIP ("AFPPEMF") commenced its offering in October 1986 and closed in
June 1987, and raised approximately $120 million with sales to approximately
7,000 investors. This partnership was formed to originate and acquire
FHA-insured mortgage loans and mortgage-backed securities guaranteed by GNMA,
FNMA and FHLMC and participating equity or debt interests in the multifamily
housing projects financed by such loans or securities.
AMERICA FIRST FINANCIAL FUND 1987-A LIMITED PARTNERSHIP, commenced its
offering in April 1987 and closed in August 1987, and raised approximately $120
million with sales to approximately 11,000 investors. This partnership was
formed for the purpose of acquiring and operating one or more savings and loan
associations or other types of financial institutions.
AMERICA FIRST PREP FUND 2 LIMITED PARTNERSHIP ("AFPF2") commenced its
offering in October 1987 and closed in October 1988, and raised approximately
$34 million from approximately 1,900 investors. This partnership was formed to
originate and acquire FHA-insured mortgage loans and mortgage-backed securities
guaranteed by GNMA, FNMA and FHLMC and participating equity or debt interests in
the multifamily housing projects financed by such loans or securities.
AMERICA FIRST PREP FUND 2 PENSION SERIES LIMITED PARTNERSHIP ("AFPF2PS")
commenced its offering in March 1988 and closed in December 1988, and has raised
approximately $18 million with sales to approximately 850 investors. This
partnership was formed to originate and acquire FHA-insured mortgage loans and
mortgage-backed securities guaranteed by GNMA, FNMA and FHLMC and participating
equity or debt interests in the multifamily housing projects financed by such
loans or securities.
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AMERICA FIRST FINANCIAL FUND 1988 A LIMITED PARTNERSHIP commenced its
offering in September 1988 and closed in May 1989, and raised approximately $295
million from approximately 30,000 investors. This partnership was formed for the
purpose of acquiring and operating one or more savings and loan associations or
other types of financial institutions. This partnership ceased operations and
was liquidated in 1991.
AMERICA FIRST MORTGAGE SERVICING COMPANY L.P. I commenced its offering in
June 1991 and closed in September 1991, and raised approximately $18 million
from approximately 604 investors. The purpose of this partnership was to acquire
mortgage servicing rights.
AMERICA FIRST MORTGAGE SERVICING COMPANY L.P. II commenced its offering in
March 1992 and closed in April 1992, and raised approximately $9.9 million from
approximately 2,500 investors. The purpose of this partnership was to acquire
mortgage servicing rights. This partnership ceased operations and was liquidated
in 1995.
On April 10, 1998, AFPPEMF, AFPF2 and AFPF2PS were merged with and into
America First Mortgage Investments, Inc. The trading price of shares of common
stock of America First Mortgage Investments, Inc. has declined from 9 1/8 on
April 13, 1998, the initial day of trading, to 6 1/8 on September 15, 1998.
America First Mortgage Investments, Inc. is a REIT which invests primarily in
real estate mortgages, and consequently its operations and business are not
similar to those of the Company.
The General Partners will provide, upon request and without charge, the
latest Form 10-K filed with the Securities and Exchange Commission by the prior
public partnerships within the last twenty-four months, if any, and will provide
upon request, for a reasonable fee, the exhibits to each such Form 10-K. Any
request for information described in this paragraph should be in writing to
America First Investor Services Department, Suite 400, 1004 Farnam Street,
Omaha, Nebraska 68102. The information contained in such Form 10-Ks should not
be construed as implying that the Company will realize results similar to any
prior partnership.
VOTING
THE MATTER TO WHICH THE INVESTORS ARE REQUESTED TO CONSENT IS OF GREAT
IMPORTANCE TO THE PARTNERSHIPS AND THE INVESTORS. ACCORDINGLY, INVESTORS ARE
URGED TO READ AND CAREFULLY CONSIDER THE INFORMATION PRESENTED IN THIS
PROSPECTUS/CONSENT SOLICITATION STATEMENT AND TO COMPLETE, DATE, SIGN AND
PROMPTLY RETURN THE ENCLOSED CONSENT CARD IN THE ENCLOSED POSTAGE-PAID ENVELOPE.
SOLICITATION BY THE GENERAL PARTNERS
The General Partners are seeking the consent of the Investors of the
Partnerships to the Transaction. The General Partners will not hold a meeting of
the Investors to consider the Transaction, but instead are seeking the written
consent of Investors as provided in Article X of the Partnership Agreements.
Under the terms of the Partnership Agreements, the transfer of all the assets of
the Partnerships in a single transaction and the dissolution of the Partnerships
requires the consent of the holders of a majority of the outstanding Units.
Accordingly, the Transaction may not be consummated without the consent of the
holders of a majority of the outstanding Units of each of the Partnerships. This
Prospectus/Consent Solicitation Statement constitutes the solicitation of the
approval of the Investors to the Transaction.
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VOTING PROCEDURES
Each Investor is being asked by the General Partners to consider the
following elections with respect to the Transaction:
"YES", I approve of my Partnership's participation in the Transaction.
or
"NO", I do not approve of my Partnership's participation in the Transaction.
Investors may also abstain from voting.
Investors, including Dissenting Investors and Investors who abstain from
voting with respect to the Transaction by indicating their abstention on the
Consent Card, will receive Shares if the Transaction is completed unless such
Investors elect to receive Notes as indicated on the Consent Card. An Investor
may elect to receive Notes regardless of whether he votes "YES" or "NO" with
respect to the Transaction. An Investor who does not return the Consent Card
will receive Shares if the Transaction is completed. If Dissenting Investors
elect to receive Notes in excess of the Maximum Note Limitation, the Transaction
will not be consummated. If this does not occur, but the total amount of Notes
allocable to all Investors who elect to receive Notes exceeds the Maximum Note
Limitation, Notes will be allocated first to Dissenting Investors who elected to
receive Notes and then, on a pro rata basis (in denominations of $1,000), to
Investors who elected to receive Notes and either abstained from voting or voted
"YES" in favor of the Investors. Thus, an Investor could choose Notes but
receive Shares instead. To be assured of receiving Notes, an Investor must vote
"NO" with respect to the Transaction and elect to receive NOTES. See
"NOTES--Allocation of Notes." An otherwise valid Consent Card will be deemed to
grant consent to the Transaction if it is not marked "NO" or to abstain.
Pursuant to the terms of each Partnership Agreement, the Partnership's
initial limited partner (the "Initial Limited Partner") holds legal title to the
limited partner interests in the Partnership. The rights and benefits of the
limited partner interests of the Partnership have been assigned by the Initial
Limited Partners to the Investors. Each Investor will be entitled to direct its
Initial Limited Partner to vote on the Approval Date (and the Initial Limited
Partner is required to vote in accordance with the Investor's direction) the
number of Units, which represent the assigned limited partner interests, held by
the Investor. A REFERENCE IN THIS PROSPECTUS/CONSENT SOLICITATION STATEMENT TO A
CONSENT OR VOTE WITH RESPECT TO UNITS SHALL REFER TO SUCH DIRECTIONS GIVEN TO
THE INITIAL LIMITED PARTNER BY THE INVESTORS OF THE UNITS BY A PROPERLY EXECUTED
CONSENT CARD OR SUBSEQUENT REVISION THEREOF. The General Partners have no right
to vote with respect to Transaction. Each Investor reflected on the books and
records of each Partnership at the close of business on the Record Date will be
entitled to vote its Units with respect to the Transaction.
A Consent Card is included with this Prospectus/Consent Solicitation
Statement and Investors are asked to complete, date and sign the Consent Card
and return it to in the enclosed envelope as soon as possible.
INVESTORS SHOULD NOT SEND THE CERTIFICATES FOR THEIR UNITS WITH THE CONSENT
CARD. Investors who sign and return the Consent Card without indicating a vote
will be deemed to have voted "YES" in favor of the Transaction. Such Investors
and Investors voting "YES" in favor of the Transaction will also be deemed to
have voted in favor of ratifying the Amendments and any other actions taken by
the General Partners to facilitate the Transaction. For a description of the
Amendments see "THE TRANSACTION--Amendments to Partnership Agreements."
In order to be valid, consents must be received by by 5:00 p.m.
Eastern Time on , 1998, which date may be extended by the General
Partners in their sole discretion. Consent Cards should be returned in the
enclosed envelope to at the following address:
Abstentions and broker nonvotes will have the same effect as a vote against
the Transaction. Investors who vote against the Transaction or abstain from
voting will have no right to require the Partnerships to
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purchase their Units or any other rights similar to those available to
dissenting shareholders of corporations under Delaware law. See "--No Right of
Appraisal" below.
The vote of the Investors with respect to the Transaction will be tabulated
by of on , 1998, unless such date is extended by the
General Partners in their sole discretion. is not affiliated with the
Company or the General Partners.
THE GENERAL PARTNERS BELIEVE THAT THE TERMS OF THE TRANSACTION ARE FAIR AND
IN THE BEST INTERESTS OF THE PARTNERSHIPS AND ALL OF THE INVESTORS AND
RECOMMENDS THE APPROVAL THEREOF BY THE INVESTORS.
RECORD DATE AND OUTSTANDING UNITS
Only Investors holding Units of record at the close of business on
(the "Record Date") will be entitled to receive this notice and to
vote with respect to the Transaction. Under the terms of the Partnership
Agreement, Investors are entitled to one vote for each Unit they hold as of the
Record Date. As of the Record Date, there was a total of 3,374,222 Cap Source I
Units and 4,011,101 Cap Source II Units outstanding. Therefore, the affirmative
vote of the holders of 1,687,112 Cap Source I Units is required to approve the
Transaction, and the affirmative vote of the holders of 2,005,551 Cap Source II
Units is required to approve the Transaction. As of the Record Date, no Units
were beneficially owned by the General Partners, America First Companies or any
of the officers or managers of America First Companies.
SOLICITATION OF VOTES; SOLICITATION EXPENSES
Votes of Investors may be solicited by the management of the General
Partners. Costs of solicitation will be allocated as set forth under "THE
TRANSACTION--Transaction Expenses." Certain officers and employees of the
General Partners and affiliates may solicit consents without additional
compensation therefor other than reimbursement for actual and reasonable
out-of-pocket expenses incurred by such persons in connection with such
solicitation. Brokerage firms, fiduciaries, nominees and others will be
reimbursed for out-of-pocket expenses incurred by them in connection with
forwarding consent materials to beneficial holders of Units held in their names.
In addition to the use of the mails, consents may be solicited by officers and
regular employees of the General Partners and affiliates, who will not be
specifically compensated for such services, by means of personal calls upon or
telephonic communications with Investors or their representatives. Moreover, the
General Partners may engage the services of a professional proxy solicitation
firm in connection with the solicitation of consents. No party will receive any
compensation contingent upon solicitation of a favorable vote. Proxies voted
against the Transaction will not be used by the General Partners to vote for
adjournment of the meeting to solicit more votes pursuant to discretionary
authority.
If any material conditions to the Transaction are waived, the consent of the
Investors to the Transaction will be resolicited.
REVOCABILITY OF CONSENT
Investors may withdraw or revoke their consent at any time prior to the
Approval Date. To be effective, a written, telegraphic or telex notice of
revocation or withdrawal of the Consent Card must be received by no
later than the Approval Date, addressed as follows: . A notice of
revocation or withdrawal must specify the Investor's name and the name of the
Partnership to which such revocation or withdrawal relates.
92
<PAGE>
COMMUNICATING WITH OTHER INVESTORS
Under Rule 14a-7 of the Exchange Act, each Partnership, upon written request
from an Investor, will deliver to such Investor (i) a statement of the
approximate number of Investors of the Partnership and (ii) the estimated cost
of mailing proxy materials or similar communications to the Investors of such
Partnership. In addition, under such rule, an Investor has the right, at his or
her option, to have his or her Partnership (i) mail (at the Investor's expense)
any such materials which the Investor desires to deliver to the other Investors
of the Partnership in connection with the Transaction or (ii) to have the
Partnership deliver, within five business days of the receipt of the request, a
reasonably current list of the names and addresses of the Investors of the
Partnership as of the Record Date. The Partnerships may require a requesting
Investor to pay the reasonable cost of duplicating and mailing such Investor
list. Any such requests should be sent to America First Investor Services
Department, 1004 Farnam Street, Suite 400, Omaha, Nebraska, 68102.
NO RIGHT OF APPRAISAL
Neither Dissenting Investors nor Investors who abstain from voting with
respect to the Transaction will be entitled to dissenters' or appraisal rights
under the Partnership Agreements, the Delaware Partnership Law or the Delaware
GCL. Such rights, when they exist, give the holders of securities the right to
surrender such securities for an appraised value in cash if the securityholder
opposes a merger or similar reorganization. No such rights will be provided by
the Partnerships or the Company. Dissenting Investors do, however, have the
right to exchange their Units for Notes rather than Shares. If a Dissenting
Investor votes against the Transaction but does not elect to receive Notes, the
Dissenting Investor will receive Shares.
FIDUCIARY RESPONSIBILITIES
Under the Delaware GCL, the directors and officers of the Company, in
exercising the powers and responsibilities of managing the Company, owe the
Company and its Shareholders a duty of care and a duty of loyalty. However, the
directors and officers of the Company are not liable for errors in judgment or
other acts or omissions made in good faith unless their actions are found to be
grossly negligent. Under Delaware law, the General Partners are accountable to
the Partnership and the Investors as fiduciaries and consequently must exercise
good faith and integrity in handling Partnership affairs. Investors who have
questions concerning the duties of the directors and officers with respect to
the Company or the duties of the General Partners with respect to any of the
Partnerships should consult their counsel.
The liability of the directors is limited pursuant to the provisions of the
Delaware GCL and the Company's Organizational Documents, which limit the
personal liability of a director to the Company or its Shareholders for monetary
damages for breach of fiduciary duty as a director. Those provisions would not
protect a director (i) for any breach of the director's duty of loyalty to the
Company or its Shareholders, (ii) for acts or omissions not in good faith or
which involve intentional misconduct or a knowing violation of law, (iii) for
any unlawful payment of dividends or unlawful purchase or redemption of the
Company's stock, or (iv) for any transaction from which the director derived an
improper personal benefit. In addition, the Company's Organizational Documents
provide for mandatory indemnification of the directors and officers by the
Company to the full extent permitted under Delaware law. Delaware law generally
authorizes Delaware corporations to indemnify their directors, officers,
employees or agents against liabilities (including litigation costs) incurred as
the result of their service to the corporation if such persons acted in good
faith and in a manner they reasonably believed to be in, or not opposed to, the
best interest of the corporation and, with respect to any criminal action or
proceeding, had no reasonable cause to believe their conduct was unlawful. In
accordance with these provisions, the Company has entered into agreements with
the Company's directors and executive officers indemnifying them to the fullest
extent permitted by Delaware law. To the extent that the foregoing provisions
concerning indemnification apply
93
<PAGE>
to actions arising under the Securities Act, the Company has been advised that,
in the opinion of the SEC, such provisions are contrary to public policy and
therefore are not enforceable.
The Partnership Agreements provide for indemnification of the General
Partners for losses arising out of any act or omission, provided that it was
determined in good faith that such conduct was in the best interest of the
Partnership and that such conduct did not constitute negligence, misconduct or a
breach of fiduciary obligations to the Investors.
The rights of Shareholders against management of the Company in certain
circumstances are more limited than the rights of Investors against the General
Partners.
Notwithstanding the indemnification conferred, no director or executive
officer of the Company shall be indemnified with regard to any liability, loss
or damage incurred by them in connection with any claim or settlement involving
allegations that the Securities Act, as amended, or any state securities laws
were violated by the director or executive officer unless: (a) (i) the director
or executive officer seeking indemnification is successful in defending such
action on the merits of each count involving such violation, (ii) such claims
have been dismissed with prejudice on the merits by a court of competent
jurisdiction or (iii) a court of competent jurisdiction approves a settlement of
such claims; and (b) such indemnification is specifically approved by a court of
law which shall have been advised as to the then current position of the SEC
regarding indemnification for violations of securities laws.
PRO FORMA FINANCIAL INFORMATION
The following unaudited pro forma statements of operations and cash flows
for the year ended December 31, 1997, and for the six months ended June 30, 1998
have been prepared to reflect the Transactions and related adjustments and
assumptions described in the accompanying notes as if the Transactions occurred
on January 1, 1997. The pro forma balance sheet has been prepared assuming the
Transaction occurred on June 30, 1998. Such pro forma financial information is
based on the historical financial statements of each of the Partnerships and
should be read in conjunction with the financial statements and notes included
in the separately bound supplement delivered with this Prospectus/Consent
Solicitation Statement. In the opinion of management, all adjustments necessary
to reflect the effects of the Transaction have been made.
To assist Unitholders in analyzing the Transaction, two presentations of pro
forma financial statements have been prepared. The first presentation of pro
forma financial statements assumes the Company will not issue any Notes. The
second presentation of pro forma financial statements assumes the Company will
issue the maximum amount of Notes. Unitholders should bear in mind that the
assumptions regarding the issuance of Notes to Investors in connection with the
Transaction are not necessarily the Company's or the General Partners'
expectations regarding the outcome of the Transaction.
Since the Transaction will be accounted for using the purchase method of
accounting, the pro forma financial statements have been prepared using this
method. Under the purchase method, Cap Source I will be deemed to be the
acquirer of Cap Source II because its Unitholders will be allocated the largest
number of shares of Common Stock of the Company. As the surviving entity, Cap
Source I's assets and liabilities will be recorded by the Company at their
historical cost, and the assets and liabilities of Cap Source II will be
recorded at their estimated fair market values. In addition, Cap Source I will
acquire the assets of the General Partners, which will be accounted for using
the purchase method of accounting.
The pro forma financial statements are based upon available information and
upon certain assumptions, as set forth in the notes to the pro forma
consolidated financial statements, that the General Partners believe are
reasonable in the circumstances. The pro forma information is unaudited and is
not necessarily indicative of the results which actually would have occurred if
the Transaction had been consummated on such dates or at the beginning of such
periods, nor does it purport to represent the financial position or results of
operations for future periods.
94
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA BALANCE SHEET
JUNE 30, 1998
(UNAUDITED)
WITHOUT NOTES ISSUED
<TABLE>
<CAPTION>
CAP SOURCE 1 CAP SOURCE 2 PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------- ------------- -------------- --------------
<S> <C> <C> <C> <C>
ASSETS
Cash and temporary cash investments.......... $ 10,053,718 $ 654,703 $ (551,923 (A) $ 10,653,893
497,395(M)
Investment in FHA Loans...................... 12,471,160 6,522,514 111,144(B) 19,104,818
Investment in GNMA Certificates.............. 23,407,224 21,149,726 320,419(B) 44,877,369
Investments in Operating Partnerships........ -- -- 4,087,291(B) 4,926,016
838,725(L)
Interest receivable.......................... 316,463 206,813 -- 523,276
Other assets................................. 479,660 129,638 (129,638 (B) 2,437,359
331,154(A)
1,626,545(M)
Net investment in real estate................ 32,328,846(M) 32,328,846
------------- ------------- -------------- --------------
$ 46,728,225 $ 28,663,394 $ 39,459,958 $ 114,851,577
------------- ------------- -------------- --------------
------------- ------------- -------------- --------------
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Liabilities
Accounts payable........................... $ 203,664 $ 237,017 $ 1,415,670(M) $ 1,856,351
Distributions payable...................... 860,587 546,968 -- 1,407,555
Mortgage loans payable..................... -- -- 28,822,729(M) 28,822,729
Other liabilities.......................... -- -- 797,092(M) 797,092
Deferred income taxes.......................... -- -- 8,193,000(N) 8,193,000
------------- ------------- -------------- --------------
1,064,251 783,985 39,228,481 41,076,727
------------- ------------- -------------- --------------
Stockholders' Equity (Deficit)
General Partners........................... (159,018) (287,663) 43,892(B)
402,789(D) --
Limited Partners........................... 45,822,992 28,167,072 4,345,324(B)
(78,335,388 (D) --
Stockholders' Equity....................... -- -- 77,932,599(D) 73,774,850
(220,769 (A)
(8,193,000 (N)
3,417,295(M)
838,725(L)
------------- ------------- -------------- --------------
45,663,974 27,879,409 231,467 73,774,850
------------- ------------- -------------- --------------
$ 46,728,225 $ 28,663,394 $ 39,459,958 $ 114,851,577
------------- ------------- -------------- --------------
------------- ------------- -------------- --------------
</TABLE>
See accompanying Notes to Pro Forma Financial Statements.
95
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA STATEMENTS OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 1997
(UNAUDITED)
WITHOUT NOTES ISSUED
<TABLE>
<CAPTION>
CAP SOURCE 1 CAP SOURCE 2 PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------ ------------ -------------- -------------
<S> <C> <C> <C> <C>
Income
Rental income................................... $ -- $ -- $ 5,234,525(M) $ 5,234,525
Mortgage backed securities income............... 3,302,727 2,499,844 -- $ 5,802,571
Interest on temporary cash investments and U.S. 554,604 91,327 11,517(M) 657,448
government securities.........................
Equity in losses of Operating Partnerships...... (178,550) (121,450) -- (300,000)
Other income.................................... 5,334 3,800 254,543(M) 263,677
Gain on sale of mortgage-backed securities...... -- -- -- --
------------ ------------ -------------- -------------
Total Income.................................. 3,684,115 2,473,521 5,500,585 11,658,221
------------ ------------ -------------- -------------
Expenses
Real estate operating expenses.................. -- -- 2,890,226(M) 2,890,226
Operating and administrative.................... 632,894 819,516 (768,338 (E) 2,058,438
(62,376 (F)
586,514(H)
158,200(I)
19,467(J)
672,561(M)
Interest expense.................................. -- -- 2,744,109(M) 2,744,109
------------ ------------ -------------- -------------
632,894 819,516 6,240,363 7,692,773
------------ ------------ -------------- -------------
Income before income taxes...................... 3,051,221 1,654,005 (739,778) 3,965,448
-- -- 8,193,000(N) 9,723,663
Provision for income taxes...................... 1,530,663(K)
------------ ------------ -------------- -------------
Net income (loss)................................. $3,051,221 $1,654,005 $ (10,463,441) $ (5,758,215)
------------ ------------ -------------- -------------
------------ ------------ -------------- -------------
Net income (loss) per unit or share............... $ 0.90 $ 0.41 $ (1.72)
------------ ------------ -------------
------------ ------------ -------------
Weighted average number of units or shares 3,374,222 4,011,101 3,354,887
outstanding during the period...................
------------ ------------ -------------
------------ ------------ -------------
Ratio of earnings to fixed charges N/A
</TABLE>
See accompanying Notes to Pro Forma Financial Statements
96
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1997
(UNAUDITED)
WITHOUT NOTES ISSUED
<TABLE>
<CAPTION>
CAP SOURCE 1 CAP SOURCE 2 PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------- ------------- -------------- -------------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income (loss)................................. $ 3,051,221 $ 1,654,005 $ (10,463,441) $ (5,758,215)
Adjustments to reconcile net income to net cash
provided by operating activities:
Equity in losses of Operating Partnerships........ 178,550 121,450 -- 300,000
Deferred taxes.................................... -- -- 8,193,000 8,193,000
Amortization...................................... -- -- (42,909) (42,909)
Amortization of discount on mortgage-backed
securities...................................... (2,665) (1,397) -- (4,062)
Decrease (increase) in interest receivable........ 275 6,637 (455) 6,457
Decrease (increase) in other assets............... (3,605) 63,589 65,407 125,391
Increase (decrease) in accounts payable........... 106,086 111,215 28,120 245,421
Other non-cash adjustments........................ -- -- 2,401,574 2,401,574
------------- ------------- -------------- -------------
Net cash provided by operating activities....... 3,329,862 1,955,499 181,296 5,466,657
------------- ------------- -------------- -------------
Cash flows from investing activities
FHA Loan and GNMA Certificate principal
payments........................................ 429,144 257,816 -- 686,960
Investment in Operating Partnerships.............. (178,550) (121,450) -- (300,000)
Principal payments on long term mortgages......... -- -- (141,011) (141,011)
------------- ------------- -------------- -------------
Net cash provided by investing activities....... 250,594 136,366 (141,011) 245,949
------------- ------------- -------------- -------------
Cash flow used in financing activities
Distributions..................................... (3,442,389) (3,281,810) -- (6,724,199)
------------- ------------- -------------- -------------
Net cash used in financing activities........... (3,442,389) (3,281,810) -- (6,724,199)
------------- ------------- -------------- -------------
Net increase in cash and temporary cash
investments................................... 138,067 (1,189,945) 40,285 (1,011,593)
Cash and temporary cash investments at beginning of
period............................................ 10,272,497 2,430,937 (756,193) 11,947,241
------------- ------------- -------------- -------------
Cash and temporary cash investments at end of
period............................................ $ 10,410,564 $ 1,240,992 $ (715,908) $ 10,935,648
------------- ------------- -------------- -------------
------------- ------------- -------------- -------------
Distributions--income............................... $ 3,024,109
Distributions--return of capital.................... 3,700,090
-------------
$ 6,724,199
-------------
-------------
</TABLE>
See accompanying Notes to Pro Forma Financial Statements
97
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA STATEMENTS OF INCOME
FOR THE SIX MONTHS ENDED JUNE 30, 1998
(UNAUDITED)
WITHOUT NOTES ISSUED
<TABLE>
<CAPTION>
CAP SOURCE I CAP SOURCE II PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------ ------------- ------------- ------------
<S> <C> <C> <C> <C>
Income
Rental income................................... $ -- $ -- $ 2,609,567(M) $ 2,609,567
Mortgage backed securities income............... 1,638,110 1,237,723 -- $ 2,875,833
Interest on temporary cash investments and U.S.
government securities......................... 274,605 19,317 2,806(M) 296,728
Equity in losses of Operating Partnerships...... -- -- -- --
Other income.................................... (6,550) 2,700 150,661(M) 146,811
Gain on sale of mortgage-backed securities...... -- 14,565 -- 14,565
------------ ------------- ------------- ------------
Total Income.................................. 1,906,165 1,274,305 2,763,034 5,943,504
------------ ------------- ------------- ------------
Expenses
Real estate operating expenses.................... -- -- 1,345,064(M) 1,345,064
Operating and administrative...................... 419,369 691,447 (506,664 (E) 1,280,135
(31,188 (F)
293,257(H)
67,900(I)
9,734(J)
336,280(M)
Interest expense.................................. -- -- 1,434,503(M) 1,434,503
------------ ------------- ------------- ------------
419,369 691,447 2,948,886 4,059,702
------------ ------------- ------------- ------------
Income before income taxes........................ 1,486,796 582,858 (185,852) 1,883,802
Provision for income taxes........................ -- -- 727,148(K) 727,148
------------ ------------- ------------- ------------
Net income........................................ $1,486,796 $ 582,858 $ (913,000) $ 1,156,654
------------ ------------- ------------- ------------
------------ ------------- ------------- ------------
Net income per unit or share...................... $ 0.44 $ 0.15 $ 0.34
------------ ------------- ------------
------------ ------------- ------------
Weighted average number of units or shares
outstanding during the period................... 3,374,222 4,011,101 3,354,887
------------ ------------- ------------
------------ ------------- ------------
Ratio of earnings to fixed charges................ N/A
</TABLE>
See accompanying Notes to Pro Forma Financial Statements
98
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1998
(UNAUDITED)
WITHOUT NOTES ISSUED
<TABLE>
<CAPTION>
CAP SOURCE I CAP SOURCE II PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------- ------------- ----------- -------------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income.......................................... $ 1,486,796 $ 582,858 $(913,000) $ 1,156,654
Adjustments to reconcile net income to net cash
provided by operating activities:
Equity in losses of Operating Partnerships.......... -- -- -- --
Deferred taxes...................................... -- -- -- --
Amortization........................................ -- -- (21,454) (21,454)
Amortization of discount on mortgage-backed
securities........................................ (1,313) (1,037) -- (2,350)
Gain on sale of mortgage backed security............ -- (14,565) -- (14,565)
Decrease (increase) in interest receivable.......... 5,022 6,211 (347) 10,886
Decrease (increase) in other assets................. (345,086) 32,516 (31,181) (343,751)
Increase (decrease) in accounts payable............. (478) (90,496) 20,499 (70,475)
Other non-cash adjustments.......................... -- -- 963,966 963,966
------------- ------------- ----------- -------------
Net cash provided by operating activities......... 1,144,941 515,487 18,483 1,678,911
------------- ------------- ----------- -------------
Cash flows from investing activities
FHA Loan and GNMA Certificate principal payments.... 219,407 164,418 -- 383,825
Proceeds from sale of mortage backed security....... -- 374,711 -- 374,711
Investment in Operating Partnerships................ -- -- -- --
Principal payments on long term mortgages........... -- -- -- --
------------- ------------- ----------- -------------
Net cash provided by investing activities......... 219,407 539,129 -- 758,536
------------- ------------- ----------- -------------
Cash flow used in financing activities
Distributions....................................... (1,721,194) (1,640,905) -- (3,362,099)
------------- ------------- ----------- -------------
Net cash used in financing activities............. (1,721,194) (1,640,905) -- (3,362,099)
------------- ------------- ----------- -------------
Net increase in cash and temporary cash
investments..................................... (356,846) (586,289) 18,483 (924,652)
Cash and temporary cash investments at beginning of
period.............................................. 10,410,564 1,240,992 (73,011) 11,578,545
------------- ------------- ----------- -------------
Cash and temporary cash investments at end of
period.............................................. $ 10,053,718 $ 654,703 $ (54,528) $ 10,653,893
------------- ------------- ----------- -------------
------------- ------------- ----------- -------------
Distributions-income $ 1,420,406
Distributions-return of capital 1,941,693
-------------
$ 3,362,099
</TABLE>
See accompanying Notes to Pro Forma Financial Statements
99
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
NOTES TO PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS
WITHOUT NOTES ISSUED
A Represents the following adjustments to record remaining transaction costs
expected to be incurred: (i) a decrease in cash for anticipated transaction
costs remaining to be incurred of $551,923; (ii) goodwill of $331,154
resulting from Cap Source 1's share of the remaining transaction costs; and
(iii) a reduction to stockholders' equity for Cap Source II's share of the
remaining transaction costs. Cap Source II's share of the remaining
transaction costs have been excluded from the pro forma statement of
operations.
B The historical balance sheet of Cap Source II has been adjusted to reflect
the impact of applying the purchase method of accounting to this
transaction. The net assets of Cap Source II are being adjusted to their
estimated fair value. The fair value is based on: (i) the amount the
partnership would receive under the terms of the Operating Partnerships'
limited partnership agreements if the underlying properties were sold for an
amount equal to net realizable value (which is based on the Appraised value
of the properties underlying the Operating Partnerships); (ii) the market
value of the GNMA Certificates and FHA Loan based on market prices; (iii)
any undistributed cash and other assets; less (iv) any outstanding
liabilities owed by the partnership.
The effect of all this on the balance sheet results in the following
adjustments: (i) the investment in the FHA Loan and GNMA Certificates and
the investment in operating partnerships has been adjusted to fair value as
described above; (ii) intangible items have been eliminated as these items
were assigned no value; and (iii) the net effect of those changes to the
assets and liabilities has been applied to the partners' capital account.
C Not Used
D Represents reclassification of the existing general partners' and unit
holders' capital to stockholders' equity.
E Under the terms of the Advisory Agreement, the Advisor is responsible for
certain types of general and administrative expenses, namely compensation of
the Company's officers and other personnel whereas, pursuant to the terms of
each Partnership's partnership agreement, compensation costs and
administrative fees were allocated to the respective Partnership. As such,
general and administrative expenses have been adjusted to reflect the
elimination of these expenses. The Advisor will receive a management fee as
described in footnote H.
F Represents the elimination of historical amortization of the initial advisory
fee for Cap Source II as these items were assigned no value in adjusting to
fair value in applying the purchase method of accounting.
G Not Used
H Represents the Asset Management Fee payable to the Advisor pursuant to the
terms of the Advisory Agreement. The Asset Management Fee is .475% per annum
of the Company's Total Assets. The Asset Management Fee will be calculated
and payable monthly. For purposes of the pro forma financial statements, the
Asset Management Fee is based on the pro forma Total Assets as of December
31, 1997 for all periods presented. Expenses incurred by the Advisor and
reimbursed by the Company are included in pro forma general and
administrative expenses.
I Represents additional incremental costs expected to be incurred in
conjunction with operating the Company. These incremental costs consist of:
(i) board of directors fees and expenses as the Company will have its own
board of directors and (ii) travel costs relating to expanding the Company's
real
100
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
NOTES TO PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
WITHOUT NOTES ISSUED
estate portfolio; (iii) legal costs; (iv) liability insurance for the
Company's directors and officers and (iv) additional mailing, printing and
other miscellaneous costs associated with operating the new Company.
Incremental costs for each period presented are as follows:
<TABLE>
<CAPTION>
SIX MONTHS YEAR ENDED
ENDED JUNE DEC. 31,
30, 1998 1997
------------- ------------
<S> <C> <C>
Board of directors fees and expenses.................. $ 13,600 $ 29,200
Travel costs.......................................... -- 29,700
Legal costs........................................... 5,500 12,000
Liability insurance................................... 36,000 72,700
Mailing, printing, and other miscellaneous............ 12,800 14,600
------------- ------------
$ 67,900 $ 158,200
------------- ------------
------------- ------------
</TABLE>
J Represents the amortization of goodwill using the straight line method over
a period of 40 years.
K Represents estimated income tax expense at a rate of 38.6% resulting from
electing to be taxed as a corporation rather than a partnership.
L Represents the acquisition of the assets and liabilities of CS Properties I
and CS Properties II by the Company in exchange for stock. As a result of
the acquisition, accounted for as a purchase, the Company now will directly
control the operation of the following properties as CS Properties I and II
serve as the general partner of these properties:
Ponds at Georgetown Limited Partnership
Oyster Cove Limited Partnership
Cypress Landings II, Ltd
Fox Hollow, Ltd
M Having acquired full ownership and direct control over these properties, the
Company has consolidated the assets, liabilities, and equity of the
following partnerships in the accompanying pro forma financial statements:
Ponds at Georgetown Limited Partnership
Oyster Cove Limited Partnership
Cypress Landings II, Ltd
Fox Hollow, Ltd
N Represents the deferred tax liability associated with differences between the
book basis and tax basis of the assets and liabilities contributed to the
new equity. The pro forma adjustment is calculated using the effective tax
rate of 38.6% applied to the difference between the pro forma book basis and
tax basis of the assets and liabilities acquired to reflect the future
effect of those differences.
101
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
SUPPLEMENTAL PRO FORMA PER SHARE/UNIT DATA (A)
WITHOUT NOTES ISSUED
<TABLE>
<CAPTION>
DISTRIBUTIONS
BOOK VALUE AS DISTRIBUTIONS NET INCOME YEAR ENDED NET INCOME
EXCHANGE OF JUNE 30, 6 MONTHS ENDED 6 MONTHS ENDED DEC. 31, YEAR ENDED
VALUE 1998 JUNE 30, 1998 JUNE 30, 1998 1997 DEC. 31, 1997
----------- ------------- --------------- ----------------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
Pro forma--the Company (Per
Share).......................... $ 25.00 $ 21.99 $ 1.0021 $ 0.34 $ 2.0043 $ (1.72)
Historical--Cap Source I (Per
Unit)........................... $ 13.58 $ 0.5050 $ 0.44 $ 1.0100 $ 0.90
Equivalent pro forma--Cap Source I
(Per Unit)...................... $ 14.96 $ 13.16 $ 0.5997 $ 0.20 $ 1.1995 $ (1.03)
Historical--Cap Source II (Per
Unit)........................... $ 7.02 $ 0.4050 $ 0.14 $ 0.8100 $ 0.41
Equivalent pro forma--Cap Source
II (Per Unit)................... $ 8.12 $ 7.14 $ 0.3253 $ 0.11 $ 0.6506 $ (0.56)
</TABLE>
- ------------------------
(A) Equivalent pro forma data has been calculated by multiplying the Company pro
forma amounts by the exchange ratio (below) for each participating
partnership, so that the Company per share pro forma amounts are equated to
the respective values for one unit of the respective partnership.
<TABLE>
<S> <C>
Exchange Values
(1 unit = x shares)
Cap Source I...................................................... 0.598444
Cap Source II..................................................... 0.324613
</TABLE>
102
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA BALANCE SHEET
JUNE 30, 1998
(UNAUDITED)
WITH NOTES ISSUED
ASSETS
<TABLE>
<CAPTION>
CAP SOURCE I CAP SOURCE II PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------- ------------- -------------- --------------
<S> <C> <C> <C> <C>
Cash and temporary cash investments............ $ 10,053,718 $ 654,703 $ (551,923 (A) $ 10,653,893
497,395(M)
Investment in FHA Loans........................ 12,471,160 6,522,514 111,144(B) 19,104,818
Investment in GNMA Certificates................ 23,407,224 21,149,726 320,419(B) 44,877,369
Investments in Operating Partnerships.......... -- -- 4,087,291(B) 4,926,016
838,725(L)
Interest receivable............................ 316,463 206,813 -- 523,276
Other assets................................... 479,660 129,638 (129,638 (B) 2,437,359
331,154(A)
1,626,545(M)
Net investment in real estate.................. 32,328,846(M) 32,328,846
------------- ------------- -------------- --------------
$ 46,728,225 $ 28,663,394 $ 39,459,958 $ 114,851,577
------------- ------------- -------------- --------------
------------- ------------- -------------- --------------
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Liabilities
Accounts payable............................. $ 203,664 $ 237,017 $ 1,415,670(M) $ 1,856,351
Distributions payable........................ 860,587 546,968 -- 1,407,555
Mortgage loans payable....................... -- -- 28,822,729(M) 28,822,729
Other liabilities............................ -- -- 797,092(M) 797,092
Notes payable................................ 40,000,000(C) 40,000,000
------------- ------------- -------------- --------------
1,064,251 783,985 71,035,491 72,883,727
------------- ------------- -------------- --------------
Stockholders' Equity (Deficit)
General Partners............................. (159,018) (287,663) 43,892(B)
402,789(D) --
Limited Partners............................. 45,822,992 28,167,072 4,345,324(B)
(78,335,388 (D) --
Stockholders' Equity......................... -- -- 77,932,599(D) 41,967,850
(220,769 (A)
3,417,295(M)
838,725(L)
(40,000,000 (C)
------------- ------------- -------------- --------------
45,663,974 27,879,409 (31,575,533) 41,967,850
------------- ------------- -------------- --------------
$ 46,728,225 $ 28,663,394 $ 39,459,958 $ 114,851,577
------------- ------------- -------------- --------------
------------- ------------- -------------- --------------
</TABLE>
See accompanying Notes to Pro Forma Financial Statements
103
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA STATEMENTS OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 1997
(UNAUDITED)
WITH NOTES ISSUED
<TABLE>
<CAPTION>
CAP SOURCE I CAP SOURCE II PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Income
Rental income................................. $ -- $ -- $ 5,234,525 (M) $ 5,234,525
Mortgage backed securities income............. 3,302,727 2,499,844 -- $ 5,802,571
Interest on temporary cash investments and
U.S. government securities.................. 554,604 91,327 11,517 (M) 657,448
Equity in losses of Operating Partnerships.... (178,550) (121,450) -- (300,000)
Other income.................................. 5,334 3,800 254,543 (M) 263,677
Gain on sale of mortgage-backed securities.... -- -- -- --
------------ ------------- ------------ ------------
Total Income................................ 3,684,115 2,473,521 5,500,585 11,658,221
------------ ------------- ------------ --- ------------
Expenses
Real estate operating expenses................ -- -- 2,890,226 (M) 2,890,226
Operating and administrative.................. 632,894 819,516 (768,338) (E) 2,058,438
(62,376) (F)
586,514 (H)
158,200 (I)
19,467 (J)
672,561 (M)
Interest expense.............................. -- -- 2,744,109 (M) 5,476,109
2,732,000 (G)
------------ ------------- ------------ ------------
632,894 819,516 8,972,363 10,424,773
------------ ------------- ------------ ------------
Income before income taxes.................... 3,051,221 1,654,005 (3,471,778) 1,233,448
Provision for income taxes.................... -- -- 476,111 (K) 476,111
------------ ------------- ------------ ------------
Net income...................................... $3,051,221 $ 1,654,005 $ (3,947,889) $ 757,337
------------ ------------- ------------ ------------
------------ ------------- ------------ ------------
Net income per unit or share.................... $ 0.90 $ 0.41 $ 0.43
------------ ------------- ------------
------------ ------------- ------------
Weighted average number of units or shares
outstanding during the period................. 3,374,222 4,011,101 1,754,887
------------ ------------- ------------
------------ ------------- ------------
Ratio of earnings to fixed charges.............. N/A
------------
------------
</TABLE>
See accompanying Notes to Pro Forma Financial Statements
104
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1997
(UNAUDITED)
WITH NOTES ISSUED
<TABLE>
<CAPTION>
CAP SOURCE I CAP SOURCE II PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------ ------------- ----------- ------------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income............................................ $3,051,221 $ 1,654,005 $(3,947,889) $ 757,337
Adjustments to reconcile net income to net cash
provided by operating activities:
Equity in losses of Operating Partnerships............ 178,550 121,450 -- 300,000
Amortization.......................................... -- -- (42,909) (42,909)
Amortization of discount on mortgage-backed
securities.......................................... (2,665) (1,397) -- (4,062)
Decrease (increase) in interest receivable............ 275 6,637 (455) 6,457
Decrease (increase) in other assets................... (3,605) 63,589 65,407 125,391
Increase (decrease) in accounts payable............... 106,086 111,215 28,120 245,421
Other non-cash adjustments............................ -- -- 2,401,574 2,401,574
------------ ------------- ----------- ------------
Net cash provided by operating activities............. 3,329,862 1,955,499 (1,496,152) 3,789,209
------------ ------------- ----------- ------------
Cash flows from investing activities
FHA Loan and GNMA Certificate principal payments...... 429,144 257,816 -- 686,960
Investment in Operating Partnerships.................. (178,550) (121,450) -- (300,000)
Principal payments on long term mortgages............. -- -- (141,011) (141,011)
------------ ------------- ----------- ------------
Net cash provided by investing activities............. 250,594 136,366 (141,011) 245,949
------------ ------------- ----------- ------------
Cash flow used in financing activities
Distributions......................................... (3,442,389) (3,281,810) -- (6,724,199)
------------ ------------- ----------- ------------
Net cash used in financing activities................. (3,442,389) (3,281,810) -- (6,724,199)
------------ ------------- ----------- ------------
Net increase in cash and temporary cash investments... 138,067 (1,189,945) (1,637,163) (2,689,041)
Cash and temporary cash investments at beginning of
period................................................ 10,272,497 2,430,937 (756,193) 11,947,241
------------ ------------- ----------- ------------
Cash and temporary cash investments at end of period.... $10,410,564 $ 1,240,992 $(2,393,356) $ 9,258,200
------------ ------------- ----------- ------------
------------ ------------- ----------- ------------
Distributions--income................................... $ 3,024,109
------------
Distributions--return of capital........................ 3,700,090
------------
$ 6,724,199
------------
------------
</TABLE>
See accompanying Notes to Pro Forma Financial Statements
105
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA STATEMENTS OF INCOME
FOR THE SIX MONTHS ENDED JUNE 30, 1998
(UNAUDITED)
WITH NOTES ISSUED
<TABLE>
<CAPTION>
CAP SOURCE I CAP SOURCE II PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------ ------------- ----------------- ------------
<S> <C> <C> <C> <C>
Income
Rental income.................................... $ -- $ -- $ 2,609,567(M) $ 2,609,567
Mortgage-backed securities income................ 1,638,110 1,237,723 -- 2,875,833
Interest income on temporary cash investments and
US government securities....................... 274,605 19,317 2,806(M) 296,728
Equity in losses of Operating
Partnerships................................... -- -- -- --
Other income..................................... (6,550) 2,700 150,661(M) 146,811
Gain on sale of mortgage-backed
securities..................................... -- 14,565 14,565
------------ ------------- ----------------- ------------
Total income................................... 1,906,165 1,274,305 2,763,034 5,943,504
------------ ------------- ----------------- ------------
Expenses
Real estate operating expenses................... -- -- 1,345,064(M) 1,345,064
Operating and administrative..................... 419,369 691,447 (506,664) (E) 1,280,135
(31,188)(F)
293,257(H)
67,900(I)
9,734(J)
336,280(M)
Interest expense................................. -- -- 1,434,503(M) 2,800,503
1,366,000(G)
------------ ------------- ----------------- ------------
419,369 691,447 4,314,886 5,425,702
------------ ------------- ----------------- ------------
Income before income taxes....................... 1,486,796 582,858 (1,551,852) 517,802
Provision for income taxes....................... -- -- 199,872(K) 199,872
------------ ------------- ----------------- ------------
Net income......................................... $1,486,796 $ 582,858 $ (1,751,724) $ 317,930
------------ ------------- ----------------- ------------
------------ ------------- ----------------- ------------
Net income per unit or share....................... $ 0.44 $ 0.15 $ 0.18
------------ ------------- ------------
------------ ------------- ------------
Weighted average number of units or shares
outstanding during the period.................... 3,374,222 4,011,101 1,754,887
------------ ------------- ------------
------------ ------------- ------------
Ratio of earnings to fixed charges................. N/A
------------
------------
</TABLE>
See accompanying Notes to Pro Forma Financial Statements
106
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
PRO FORMA STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1998
(UNAUDITED)
WITH NOTES ISSUED
<TABLE>
<CAPTION>
CAP SOURCE I CAP SOURCE II PRO FORMA PRO FORMA
(HISTORICAL) (HISTORICAL) ADJUSTMENTS COMBINED
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income......................................... $ 1,486,796 $ 582,858 $ (1,751,724) $ 317,930
Adjustments to reconcile net income to net cash
provided by operating activities:
Equity in losses of Operating Partnerships......... -- -- -- --
Deferred taxes..................................... -- -- -- --
Amortization....................................... -- -- (21,454) (21,454)
Amortization of discount on mortgage-backed
securities....................................... (1,313) (1,037) -- (2,350)
Gain on sale of mortgage-backed securities......... -- (14,565) -- (14,565)
Decrease (increase) in interest receivable......... 5,022 6,211 (347) 10,886
Decrease (increase) in other assets................ (345,086) 32,516 (31,181) (343,751)
Increase (decrease) in accounts payable............ (478) (90,496) 20,499 (70,475)
Other non-cash adjustments......................... -- -- 963,966 963,966
------------- ------------- ------------- -------------
Net cash provided by operating activities........ 1,144,941 515,487 (820,241) 840,187
------------- ------------- ------------- -------------
Cash flows from investing activities
FHA Loan and GNMA Certificate principal payments... 219,407 164,418 -- 383,825
Proceeds from sale of mortgage-backed securities... -- 374,711 -- 374,711
Investment in Operating Partnerships............... -- -- -- --
Principal payments on long term mortgages.......... -- -- -- --
------------- ------------- ------------- -------------
Net cash provided by investing activities........ 219,407 539,129 -- 758,536
------------- ------------- ------------- -------------
Cash flow used in financing activities
Distributions...................................... (1,721,194) (1,640,905) -- (3,362,099)
------------- ------------- ------------- -------------
Net cash used in financing activities............ (1,721,194) (1,640,905) -- (3,362,099)
------------- ------------- ------------- -------------
Net decrease in cash and temporary cash
investments.................................... (356,846) (586,289) (820,241) (1,763,376)
Cash and temporary cash investments at beginning of
period............................................. 10,410,564 1,240,992 (73,011) 11,578,545
------------- ------------- ------------- -------------
Cash and temporary cash investments at end of
period............................................. $ 10,053,718 $ 654,703 $ (893,252) $ 9,815,169
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Distributions--income................................ $ 1,420,406
Distributions--return of capital..................... 1,941,693
-------------
$ 3,362,099
-------------
-------------
</TABLE>
See accompanying Notes to Pro Forma Financial Statements
107
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
NOTES TO PRO FORMA FINANCIAL STATEMENTS
WITH NOTES ISSUED
A Represents the following adjustments to record remaining transaction costs
expected to be incurred: (i) a decrease in cash for anticipated transaction
costs remaining to be incurred of $551,923; (ii) goodwill of $331,154
resulting from Cap Source 1's share of the remaining transaction costs; and
(iii) a reduction to stockholders' equity for Cap Source II's share of the
remaining transaction costs. Cap Source II's share of the remaining
transaction costs have been excluded from the pro forma statement of
operations.
B The historical balance sheet of Cap Source II has been adjusted to reflect
the impact of applying the purchase method of accounting to this
transaction. The net assets of Cap Source II are being adjusted to their
estimated fair value. The fair value is based on: (i) the amount the
partnership would receive under the terms of the Operating Partnerships'
limited partnership agreements if the underlying properties were sold for an
amount equal to net realizable value (which is based on the Appraised value
of the properties underlying the Operating Partnerships); (ii) the market
value of the GNMA Certificates and FHA Loan based on market prices; (iii)
any undistributed cash and other assets; less (iv) any outstanding
liabilities owed by the partnership.
The effect of all this on the balance sheet results in the following
adjustments: (i) the investment in the FHA Loan and GNMA Certificates and
the investment in operating partnerships has been adjusted to fair value as
described above; (ii) intangible items have been eliminated as these items
were assigned no value; and (iii) the net effect of those changes to the
assets and liabilities has been applied to the partners' capital account.
C Represents the issuance of Notes by the Company to Participating Investors
electing to receive Notes. The issuance of the Notes results in an increase
in notes payable and a reduction of stockholders' equity. The Notes mature
on 2006 and bear interest at 120% of the quarterly applicable
federal rate for debt instruments with a term of not over three years
(assumed to be 6.83%).
D Represents reclassification of the existing general partners' and unit
holders' capital to stockholders' equity.
E Under the terms of the Advisory Agreement, the Advisor is responsible for
certain types of general and administrative expenses, namely compensation of
the Company's officers and other personnel whereas, pursuant to the terms of
each Partnership's partnership agreement, compensation costs and
administrative fees were allocated to the respective Partnership. As such,
general and administrative expenses have been adjusted to reflect the
elimination of these expenses. The Advisor will receive a management fee as
described in footnote H.
F Represents the elimination of historical amortization of the initial advisory
fee for Cap Source II as these items were assigned no value in adjusting to
fair value in applying the purchase method of accounting.
G Represents interest on the Notes at an assumed rate of 6.83%.
H Represents the Asset Management Fee payable to the Advisor pursuant to the
terms of the Advisory Agreement. The Asset Management Fee is .475% per annum
of the Company's Total Assets. The Asset Management Fee will be calculated
and payable monthly. For purposes of the pro forma financial statements, the
Asset Management Fee is based on the pro forma Total Assets as of December
31, 1997 for all periods presented. Expenses incurred by the Advisor and
reimbursed by the Company are included in pro forma general and
administrative expenses.
108
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
NOTES TO PRO FORMA FINANCIAL STATEMENTS (CONTINUED)
WITH NOTES ISSUED
I Represents additional incremental costs expected to be incurred in
conjunction with operating the Company. These incremental costs consist of:
(i) board of directors fees and expenses as the Company will have its own
board of directors and (ii) travel costs relating to expanding the Company's
real estate portfolio; (iii) legal costs; (iv) liability insurance for the
Company's directors and officers and (iv) additional mailing, printing and
other miscellaneous costs associated with operating the new Company.
Incremental costs for each period presented are as follows:
<TABLE>
<CAPTION>
SIX MONTHS YEAR ENDED
ENDED DEC. 31,
JUNE 30, 1998 1997
------------- ------------
<S> <C> <C>
Board of directors fees and expenses............................. $ 13,600 $ 29,200
Travel costs..................................................... -- 29,700
Legal costs...................................................... 5,500 12,000
Liability insurance.............................................. 36,000 72,700
Mailing, printing, and other miscellaneous....................... 12,800 14,600
------------- ------------
$ 67,900 $ 158,200
------------- ------------
------------- ------------
</TABLE>
J Represents the amortization of goodwill using the straight line method over
a period of 40 years.
K Represents estimated income tax expense at a rate of 38.6% resulting from
electing to be taxed as a corporation rather than a partnership.
L Represents the acquisition of the assets and liabilities of CS Properties I
and CS Properties II by the Company in exchange for stock. As a result of
the acquisition, accounted for as a purchase, the Company now will directly
control the operation of the following properties as CS Properties I and II
serve as the general partner of these properties:
Ponds at Georgetown Limited Partnership
Oyster Cove Limited Partnership
Cypress Landings II, Ltd.
Fox Hollow, Ltd.
M Having acquired full ownership and direct control over these properties, the
Company has consolidated the assets, liabilities, and equity of the
following partnerships in the accompanying pro forma financial statements:
Ponds at Georgetown Limited Partnership
Oyster Cove Limited Partnership
Cypress Landings II, Ltd.
Fox Hollow, Ltd.
N Not used as no deferred income tax provision is required due to the issuance
of the notes to the unit holders which triggers recognition of a gain to the
unit holders.
109
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
SUPPLEMENTAL PRO FORMA PER SHARE/UNIT DATA (A)
WITH NOTES ISSUED
<TABLE>
<CAPTION>
DISTRIBUTIONS
BOOK VALUE AS DISTRIBUTIONS NET INCOME YEAR ENDED NET INCOME YEAR
EXCHANGE OF 6 MONTHS ENDED 6 MONTHS ENDED DEC. 31, ENDED DEC. 31,
VALUE JUNE 30, 1998 JUNE 30, 1998 JUNE 30, 1998 1997 1997
----------- ------------- --------------- ----------------- ------------ ---------------
<S> <C> <C> <C> <C> <C> <C>
Pro forma--the Company
(Per Share)..................... $ 25.00 $ 23.91 $ 1.9158 $ 0.18 $ 3.8317 $ 0.43
Historical--Cap Source I
(Per Unit)...................... $ 13.58 $ 0.5050 $ 0.44 $ 1.0100 $ 0.90
Equivalent pro forma--
Cap Source I (Per Unit)......... $ 14.96 $ 14.31 $ 1.1465 $ 0.11 $ 2.2931 $ 0.26
Historical--Cap Source II
(Per Unit)...................... $ 7.02 $ 0.4050 $ 0.14 $ 0.8100 $ 0.41
Equivalent pro forma--
Cap Source II (Per Unit)........ $ 8.12 $ 7.76 $ 0.6219 $ 0.06 $ 1.2438 $ 0.14
</TABLE>
- ------------------------
(A) Equivalent pro forma data has been calculated by multiplying the Company pro
forma amounts by the exchange ratio (below) for each participating
partnership, so that the Company per share pro forma amounts are equated to
the respective values for one unit of the respective partnership.
<TABLE>
<S> <C>
Exchange Values
(1 unit = x shares)
Cap Source I...................................................... 0.598444
Cap Source II..................................................... 0.324613
</TABLE>
110
<PAGE>
THE PARTNERSHIPS
CAP SOURCE I
HISTORY. Cap Source I, a Delaware limited partnership, was formed August
22, 1985. The General Partners of Cap Source I are Insured Mortgage Equities,
Inc. and America First Capital Source I, L.L.C. The Initial Limited Partner of
Cap Source I, H/T Corp., a Delaware corporation wholly owned by the Cap Source I
General Partners, assigned certain of the ownership attributes of the limited
partner interests to the Cap Source I Investors, including rights to a
percentage of Cap Source I's income, gain, losses, deductions, credits and
distributions. H/T Corp. has agreed to vote the limited partner interests as
directed by the Cap Source I Investors. The Cap Source I Investors hold
beneficial assignment certificates, which represent beneficial assignments of
the limited partner interests in Cap Source I.
Cap Source I was formed to invest principally in federally insured mortgages
on multifamily housing property (the "Cap Source I Mortgage Securities") and to
acquire, hold, sell and otherwise deal with limited partnership interests (the
"Cap Source I Partnership Equity Interests") in the Cap Source I Operating
Partnerships. The Cap Source I Partnership Agreement originally provided that
the Units would be listed on NASDAQ for trading. The Investors voted by proxy
not to list the Units on NASDAQ.
Cap Source I's assets originally consisted of debt and equity financing for
eight multifamily rental housing properties. Cap Source I's investments in these
properties consisted of: (a) approximately 85% in the form of permanent
mortgages and/or construction loans, each of which was insured or guaranteed, in
an amount substantially equal to the face amount of the mortgage, by the FHA or
GNMA; and (b) the balance to purchase up to a 99% limited partner interest in
limited partnerships which developed, constructed, own and operate these
properties.
The original Cap Source I Operating Partnerships were structured with the
developer of the respective property serving as the general partner (the "Cap
Source I Operating General Partner") with a 1% interest, Cap Source I as the
limited partner with a 98.99% interest and CS Properties I, Inc., a corporation
wholly owned by the Cap Source I General Partners, as the special limited
partner (the "Cap Source I Special Limited Partner") with a .01% interest. The
Cap Source I Special Limited Partner has the power, among other things, to
remove the Cap Source I Operating General Partners under certain circumstances
and to consent to the sale of the Cap Source I Operating Partnerships' Assets.
In the only exception to the above-described original structuring, in one of the
Cap Source I Operating Partnerships, the Ponds at Georgetown L.P., Cap Source I
is a limited partner with a 30.29% interest and Cap Source II is a limited
partner with a 68.7% interest.
Since inception, Cap Source has been repaid by GNMA on one of its Cap Source
I Mortgage Securities, and, as a result, it no longer holds a Cap Source I
Partnership Equity Interest in the Cap Source I Operating Partnership which
owned the property collateralizing the repaid mortgage (Falcon Point). It has
also been repaid by FHA on another of its Cap Source I Mortgage Securities but
continues to own its Cap Source I Partnership Equity Interest in the Cap Source
I Operating Partnership (Fox Hollow). Three of the Cap Source I Operating
Partnerships (Fox Hollow, Misty Springs and Waterman's Crossing) have been
restructured with CS Properties I, Inc. succeeding to the general partner 1%
interest.
As a result of the foregoing, at December 31, 1997, Cap Source I held debt
and/or equity investments in seven properties. These investments consist of (a)
four mortgage-backed securities guaranteed as to principal and interest by GNMA,
collateralized by first mortgage loans insured as to principal and interest by
FHA on multifamily housing properties located in Virginia, Florida, Illinois and
Michigan; (b) two first mortgage loans insured as to principal and interest by
FHA on multifamily housing properties located in North Carolina and Ohio; (c)
Cap Source I Partnership Equity Interests in seven limited partnerships. Cap
Source I also holds reserve investments in the form of cash and cash equivalents
and investments in certain GNMA securities backed by pools of single family
mortgages (the "Cap Source I Reserve Investments").
111
<PAGE>
The Cap Source I Mortgage Securities provide Cap Source I with monthly
payments of principal and interest which are guaranteed either by GNMA or FHA.
The Cap Source I Partnership Equity Interests were intended to be sufficient to
cover all costs not covered by the Cap Source I Mortgage Securities until the
Cap Source I Operating Partnerships' income was sufficient to cover their
expenses, including debt service on the Cap Source I Mortgage Securities, as
well as a return to Cap Source I on its investment during the period. The
current return to Cap Source I on its Cap Source I Partnership Equity Interests
is a function of the net cash flow generated by the properties and is dependent
on the rental and occupancy rates and on the level of expenses at the
properties.
The FHA Loans and GNMA Certificates owned by Cap Source I are guaranteed as
to principal and interest by FHA and GNMA, respectively. The obligations of FHA
and GNMA are backed by the full faith and credit of the United States
government. The Cap Source I Partnership Equity Interests, however, are not
insured or guaranteed. The value of these investments is a function of the value
of the real estate owned by the Cap Source I Operating Partnerships.
The following FHA Loans and GNMA Certificates associated with the Operating
Partnerships were owned by Cap Source I at December 31, 1997.
<TABLE>
<CAPTION>
GUARANTEED AGGREGATE
OR INTEREST MATURITY PRINCIPAL AMOUNT
PROPERTY NAME INSURED BY RATE DATE OUTSTANDING
- ---------------------------------------------------------- ----------- ----------- ------------ ----------------
<S> <C> <C> <C> <C>
Bluff Ridge Apartments.................................... FHA 8.72% 11/15/2028 $ 3,510,035
Highland Park Apartments.................................. FHA 8.75 11/01/2028 9,001,010
Misty Springs Apartments.................................. GNMA 8.75 6/15/2029 4,271,964
The Ponds at Georgetown................................... GNMA 9.00 12/15/2029 2,233,927
Waterman's Crossing....................................... GNMA 10.00 9/15/2028 10,927,185
Water's Edge Apartments................................... GNMA 8.75 12/15/2028 5,066,537
----------------
$ 35,010,658
----------------
----------------
</TABLE>
The following table shows the occupancy levels and effective rental rates of
the properties financed by Cap Source I in 1997:
<TABLE>
<CAPTION>
AVERAGE EFFECTIVE
NUMBER OF PERCENTAGE OF ANNUAL RENTAL
PROPERTY NAME LOCATION UNITS UNITS OCCUPIED RATE PER UNIT
- ---------------------------------------------- ---------------------- ----------- ----------------- -----------------
<S> <C> <C> <C> <C>
Bluff Ridge Apartments........................ Jacksonville, NC 108 96% $ 6,258
Fox Hollow Apartments......................... High Point, NC 184 96 6,482
Highland Park Apartments...................... Columbus, OH 252 93 6,333
Misty Springs Apartments...................... Daytona Beach, FL 128 98 6,101
The Ponds at Georgetown....................... Ann Arbor, MI 134 97 9,883
Waterman's Crossing........................... Newport News, VA 260 98 7,207
Water's Edge Apartments....................... Lake Villa, IL 108 96 8,723
-----
1,174
-----
-----
</TABLE>
In the opinion of the Cap Source I General Partners, each of the properties
is adequately covered by insurance.
RECENT DEVELOPMENTS. Cap Source I and Cap Source II jointly invested in The
Ponds with Cap Source I holding a 30.29% interest and Cap Source II holding a
68.71% interest in the Operating Partnership as limited partners. The mortgage
loan on The Ponds was in default for several years because cash flow from the
property was insufficient to fully fund the property's taxes and obligations
under the mortgage loan. As of September 29, 1998, the property was $623,390
delinquent on its property taxes. Despite this default,
112
<PAGE>
Cap Source I and Cap Source II have continued to receive full payment with
respect to the GNMA Certificate relating to the property. In early 1998, the
co-insurer of the mortgage loan informed Cap Source I and Cap Source II that
because of the default, the co-insurer intended to commence legal proceedings
that would have lead to foreclosure of the mortgage loan. A foreclosure of the
mortgage loan would have resulted in a return to Cap Source I and Cap Source II
of the outstanding principal balance of the GNMA Certificate relating to the
property and the loss of their combined equity investment of $1,427,090 in the
Operating Partnership. As a result of negotiations with the co-insurer, a
settlement agreement was entered into on September 30, 1998. Under the terms of
the settlement, the original general partners of The Ponds, W.S. Smith Company,
Woodward S. Smith and Robert J. Goodrich, withdrew from the Operating
Partnership, effective June 1, 1998, and were replaced with CS Properties I,
Inc. and CS Properties II, Inc. as substitute general partners. CS Properties I,
Inc. and CS Properties II, Inc. are owned by the Cap Source I and Cap Source II
General Partners, respectively. The GNMA Certificate relating to The Ponds,
which as of September 30, 1998, had a principal amount of $7,271,524, was repaid
and a new certificate having a principal amount of $7,511,000 and an interest
rate of 7.85% was purchased with the proceeds from the original GNMA Certificate
together with $239,476 contributed by Cap Source I. The above transactions
relating to the settlement were completed on October 30, 1998. The increase in
the principal amount of the GNMA Certificate was used to increase the principal
balance of the outstanding mortgage, which increase was combined with capital
contributions to the Operating Partnership from Cap Source I in the amount of
$145,209 and from Cap Source II in the amount of $334,186, for a total of
$479,395. These funds were used to pay outstanding taxes on the property,
closing costs and to fund the required replacement reserves and property
escrows. The Operating Partnership also signed a surplus cash note in favor of
the co-insurer which cover other amounts associated with the default and
settlement. The first portion of the note, in the principal amount of $59,387,
will repay principal and interest advances made by the co-insurer during the
time of the default. This note will be repaid from the first available surplus
cash flow from the Operating Partnership. The second portion of the note, in the
principal amount of $125,457, will repay the past due lender's premium owed to
the co-insurer. Payments on this note will be made from 50% of available surplus
cash flow from the Operating Partnership over a period not to exceed four and
one-half years. Neither note is interest bearing. As a result of this
transaction, Cap Source I now owns a 32.51% interest and Cap Source II owns a
67.49% interest in the GNMA Certificate. The proportionate ownership of the
limited partner interests in The Ponds by Cap Source I and Cap Source II remains
unchanged. It is anticipated that, as a result of this settlement, cash flow
from the property will be sufficient to meet the Operating Partnership's
obligations associated with the mortgage loan, property taxes and all other
required payments.
LEGAL PROCEEDINGS Neither Cap Source I nor America First Capital Source I,
L.L.C., one of the Cap Source I General Partners, are presently involved in any
material litigation nor, to their knowledge, is any material litigation
threatened against Cap Source I, America First Capital Source I, L.L.C. or their
respective properties, other than routine litigation arising in the ordinary
course of business. Insured Mortgage Equities, Inc., the other Cap Source I
General Partner, is not, to its knowledge, involved in any material litigation
other than routine litigation arising in the ordinary course of business, except
as set forth below.
Insured Mortgage Equities, Inc. is currently involved in certain litigation,
unrelated to this Transaction, styled in IN RE LEHMAN BROTHERS LIMITED
PARTNERSHIPS LITIGATION, Consolidated Action No. 14886, pending before the Court
of Chancery for the State of Delaware In and For New Castle County. This class
action litigation was filed in 1996, on behalf of the investors in several
limited partnerships against the general partners of those limited partnerships.
The litigation relates to alleged breach of fiduciary responsibilities,
fraudulent mismanagement and self-dealing on the part of the general partners.
Plaintiffs seek injunctive relief, dissolution of the partnerships if necessary,
compensatory damages, attorney fees and costs. Insured Mortgage Equities, Inc.
and Cap Source I have been fully indemnified with regard to these proceedings by
Lehman Brothers, Inc.
113
<PAGE>
CAP SOURCE II
HISTORY. Cap Source II, a Delaware limited partnership, was formed August
22, 1986. The General Partners of Cap Source II are Insured Mortgage Equities,
II L.P. and America First Capital Source II, L.L.C. The Initial Limited Partner
of Cap Source II, H/T Corp. II-A, a Delaware corporation wholly owned by the Cap
Source II General Partners assigned certain of the ownership attributes of the
limited partner interests to the Cap Source II Investors, including rights to a
percentage of Cap Source II's income, gain, losses, deductions, credits and
distributions. H/T Corp. II-A has agreed to vote the limited partner interests
as directed by the Cap Source II Investors. The Cap Source II Investors hold
beneficial assignment certificates, which represent beneficial assignments of
the limited partner interests in Cap Source II.
Cap Source II was formed to invest principally in federally insured
mortgages on multifamily housing property (the "Cap Source II Mortgage
Securities") and to acquire, hold, sell and otherwise deal with limited
partnership interests (the "Cap Source II Partnership Equity Interests") in the
Cap Source II Operating Partnerships. The Cap Source II Partnership Agreement
originally provided that the Units would be listed on NASDAQ for trading. The
Investors voted by proxy not to list the Units on NASDAQ.
Cap Source II's assets originally consisted of debt and equity financing for
five multifamily rental housing properties. Cap Source II's investments in these
properties consisted of: (a) approximately 85% in the form of permanent
mortgages and/or construction loans, each of which was insured or guaranteed, in
an amount substantially equal to the face amount of the mortgage, by the FHA or
GNMA; and (b) the balance to purchase up to a 99% limited partner interest in
limited partnerships which developed, constructed, own and operate these
properties.
The Cap Source II Operating Partnerships were structured with the developer
of the respective property serving as the general partner (the "Cap Source II
Operating General Partner") with a 1% interest, Cap Source II as the limited
partner with a 98.99% interest and CS Properties II, Inc., a corporation wholly
owned by the Cap Source II General Partners, as the special limited partner (the
"Cap Source II Special Limited Partner") with a .01% interest. The Cap Source II
Special Limited Partner has the power, among other things, to remove the Cap
Source II Operating General Partners under certain circumstances and to consent
to the sale of the Cap Source II Operating Partnerships' Assets. In the only
exception to the above-described original structuring, in one of the Cap Source
II Operating Partnerships, the Ponds at Georgetown L.P., Cap Source II is a
limited partner with a 68.7% interest and Cap Source I, is a limited partner
with a 30.29% interest.
Since inception, Cap Source II has been repaid by GNMA on one of its Cap
Source II Mortgage Securities, and, as a result, it no longer holds a Cap Source
II Partnership Equity Interest in the Cap Source II Operating Partnership which
owned the property collateralizing the repaid mortgage.
As a result of the foregoing, at December 31, 1997, Cap Source II held debt
and/or equity investments in four properties. These investments consist of (a)
three mortgage-backed securities guaranteed as to principal and interest by
GNMA, collateralized by first mortgage loans insured as to principal and
interest by FHA on multifamily housing properties located in Michigan and
Florida; (b) one first mortgage loan insured as to principal and interest by FHA
on a multifamily housing property located in North Carolina; (c) Cap Source II
Partnership Equity Interests in four limited partnerships. Cap Source II also
holds reserve investments in the form of cash and cash equivalents and
investments in certain GNMA securities backed by pools of single family
mortgages (the "Cap Source II Reserve Investments").
The Cap Source II Mortgage Securities provide Cap Source II with monthly
payments of principal and interest which are guaranteed either by GNMA or FHA.
The Cap Source II Partnership Equity Interests were intended to be sufficient to
cover all costs not covered by the Cap Source II Mortgage Securities until the
Cap Source II Operating Partnerships' income was sufficient to cover their
expenses, including debt service on the Cap Source II Mortgage Securities, as
well as a return to Cap Source II on its investment during the period. The
current return to Cap Source II on its Cap Source II Partnership Equity
Interests is
114
<PAGE>
a function of the net cash flow generated by the properties and is dependent on
the rental and occupancy rates and on the level of expenses at the properties.
The FHA Loan and GNMA Certificates owned by Cap Source II are guaranteed as
to principal and interest by FHA and GNMA, respectively. The obligations of FHA
and GNMA are backed by the full faith and credit of the United States
government. The Cap Source II Partnership Equity Interests, however, are not
insured or guaranteed. The value of these investments is a function of the value
of the real estate owned by the Cap Source II Operating Partnerships.
The following FHA Loan and GNMA Certificates were owned by Cap Source II at
December 31, 1997. Interest income from the FHA Loan and GNMA Certificates is
the primary source of cash available for distribution to Investors.
<TABLE>
<CAPTION>
GUARANTEED AGGREGATE
OR INTEREST MATURITY PRINCIPAL AMOUNT
PROPERTY NAME INSURED BY RATE DATE OUTSTANDING
- ---------------------------------------------------------- ----------- ----------- ------------ ----------------
<S> <C> <C> <C> <C>
Crane's Landing........................................... GNMA 8.75% 12/15/2030 $ 10,229,304
Delta Crossing............................................ FHA 9.10 10/01/2030 6,538,424
Monticello Apartments..................................... GNMA 8.75 11/15/2029 5,328,430
The Ponds at Georgetown................................... GNMA 9.00 12/15/2029 5,066,488
----------------
$ 27,162,646
----------------
----------------
</TABLE>
The following table shows the occupancy levels and effective rental rates of
the properties financed by Cap Source II in 1997:
<TABLE>
<CAPTION>
AVERAGE EFFECTIVE
NUMBER OF PERCENTAGE OF ANNUAL RENTAL
PROPERTY NAME LOCATION UNITS UNITS OCCUPIED RATE PER UNIT
- ------------------------------------------------- ------------------ ----------- ----------------- -----------------
<S> <C> <C> <C> <C>
Crane's Landing.................................. Winter Park, FL 252 96% $ 7,366
Delta Crossing................................... Charlotte, NC 178 93 7,260
Monticello Apartments............................ Southfield, MI 106 97 8,873
The Ponds at Georgetown.......................... Ann Arbor, MI 134 97 9,883
---
670
---
---
</TABLE>
In the opinion of the Cap Source II General Partners, each of the properties
is adequately covered by insurance.
RECENT DEVELOPMENTS. Cap Source I and Cap Source II jointly invested in The
Ponds with Cap Source I holding a 30.29% interest and Cap Source II holding a
68.71% interest in the Operating Partnership as limited partners. The mortgage
loan on The Ponds was in default for several years because cash flow from the
property was insufficient to fully fund the property's taxes and obligations
under the mortgage loan. As of September 29, 1998, the property was $623,390
delinquent on its property taxes. Despite this default, Cap Source I and Cap
Source II have continued to receive full payment with respect to the GNMA
Certificate relating to the property. In early 1998, the co-insurer of the
mortgage loan informed Cap Source I and Cap Source II that because of the
default, the co-insurer intended to commence legal proceedings that would have
lead to foreclosure of the mortgage loan. A foreclosure of the mortgage loan
would have resulted in a return to Cap Source I and Cap Source II of the
outstanding principal balance of the GNMA Certificate relating to the property
and the loss of their combined equity investment of $1,427,090 in the Operating
Partnership. As a result of negotiations with the co-insurer, a settlement
agreement was entered into on September 30, 1998. Under the terms of the
settlement, the original general partners of The Ponds, W.S. Smith Company,
Woodward S. Smith and Robert J. Goodrich, withdrew from the Operating
Partnership, effective June 1, 1998, and were replaced with CS Properties I,
Inc. and CS Properties II, Inc. as substitute general partners. CS Properties I,
Inc. and CS Properties II, Inc. are owned by the Cap Source I and Cap Source II
General Partners, respectively. The GNMA Certificate relating to The Ponds,
which as of September 30, 1998, had a principal amount of $7,271,524, was repaid
and a new certificate having a principal amount of $7,511,000 and an interest
rate of 7.85% was
115
<PAGE>
purchased with the proceeds from the original GNMA Certificate together with
$239,476 contributed by Cap Source I. The above transactions relating to the
settlement were completed on October 30, 1998. The increase in the principal
amount of the GNMA Certificate was used to increase the principal balance of the
outstanding mortgage, which increase was combined with capital contributions to
the Operating Partnership from Cap Source I in the amount of $145,209 and from
Cap Source II in the amount of $334,186, for a total of $479,395. These funds
were used to pay outstanding taxes on the property, closing costs and to fund
the required replacement reserves and property escrows. The Operating
Partnership also signed a surplus cash note in favor of the co-insurer which
cover other amounts associated with the default and settlement. The first
portion of the note, in the principal amount of $59,387, will repay principal
and interest advances made by the co-insurer during the time of the default.
This note will be repaid from the first available surplus cash flow from the
Operating Partnership. The second portion of the note, in the principal amount
of $125,457, will repay the past due lender's premium owed to the co-insurer.
Payments on this note will be made from 50% of available surplus cash flow from
the Operating Partnership over a period not to exceed four and one-half years.
Neither note is interest bearing. As a result of this transaction, Cap Source I
now owns a 32.51% interest and Cap Source II owns a 67.49% interest in the GNMA
Certificate. The proportionate ownership of the limited partner interests in The
Ponds by Cap Source I and Cap Source II remains unchanged. It is anticipated
that, as a result of this settlement, cash flow from the property will be
sufficient to meet the Operating Partnership's obligations associated with the
mortgage loan, property taxes and all other required payments.
LEGAL PROCEEDINGS. Neither Cap Source II nor America First Capital Source
II, L.L.C., one of the Cap Source II General Partners, are presently involved in
any material litigation nor, to their knowledge, is any material litigation
threatened against Cap Source II, America First Capital Source II, L.L.C. or
their respective properties, other than routine litigation arising in the
ordinary course of business. Insured Mortgage Equities II L.P., the other Cap
Source II General Partner, is not, to its knowledge, involved in any material
litigation other than routine litigation arising in the ordinary course of
business except as set forth below.
Insured Mortgage Equities II L.P. is currently involved in certain
litigation, unrelated to this transaction, styled in IN RE LEHMAN BROTHERS
LIMITED PARTNERSHIP LITIGATION, Consolidated Action No. 14886, pending before
the Court of Chancery for the State of Delaware In and For New Castle County.
This class action litigation was filed in 1996, on behalf of the investors in
several limited partnerships against the general partners of those limited
partnerships. The litigation relates to alleged breach of fiduciary
responsibilities, fraudulent mismanagement and self-dealing on the part of the
general partners. Plaintiffs seek injunctive relief, dissolution of the
partnerships if necessary, compensatory damages, attorney fees and costs.
Insured Mortgage Equities II L.P. and Cap Source II have been fully indemnified
with regard to these proceedings by Lehman Brothers, Inc.
SECONDARY MARKET AND OWNERSHIP OF PARTNERSHIP UNITS
SALE PRICES OF UNITS
The Units are not listed on any national or regional securities exchange or
quoted on any automated quotation system, and there is no established public
trading market for the Units. Secondary sales activity for the Units has been
limited and sporadic. The General Partners monitor transfers of the Units (a)
because the admission of the transferee as a substitute investor requires the
consent of the General Partners under each of the Partnership Agreements, and
(b) in order to track compliance with safe harbor provisions to avoid treatment
of the Partnerships as "publicly traded partnerships" for federal income tax
purposes.
Set forth in the tables that follow is certain information regarding sale
transactions in the Units. Such information was obtained from the sources
indicated. The transactions reflected in the tables below represent only some of
the sale transactions in the Units. There may have been other secondary sale
transactions in the Units, although specific information regarding such
transactions is not readily available to the General Partners. Because the
information regarding sale transactions in the Units included in the
116
<PAGE>
tables below is provided without verification by the General Partners and
because the information provided does not reflect sufficient activity to cause
the prices shown to be representative of the values of the Units, such
information should not be relied upon as indicative of the ability of Investors
to sell their Units in secondary sale transactions or as to the prices at which
such Units may be sold. Therefore, the information presented should not
necessarily be relied upon by Investors in determining whether or not to tender
their Units in the Transaction.
The General Partners do not believe that the secondary sale prices of the
Units accurately reflect the value of the assets of the Partnerships because
secondary sale prices are adversely affected by a variety of factors unrelated
to the value of the assets of a limited partnership. Limited partner interests
are generally traded on a sporadic basis. Sale prices can vary dramatically
based on the number of interests sold at once or over time. Additionally, the
Tax Reform Act of 1986 contained provisions which eliminated certain federal
income tax advantages associated with investments in limited partnerships and
which caused limited partnerships to place restrictions on transfers of
interests in order to avoid taxation of income at the partnership and partner
levels. Accordingly, limited partnerships have not been well received by
investors and secondary sale prices have been adversely affected.
While the General Partners receive some information regarding the prices of
secondary sales transactions of the Units, the General Partners do not receive
or maintain comprehensive information regarding all activities of all
broker/dealers and others known to facilitate secondary sales of the Units. The
General Partners estimate, based solely on the transfer records of the
Partnerships, that the number of Units transferred in sale transactions (i.e.,
excluding transactions believed to be between related parties, family members or
the same beneficial owner) was as follows:
SECONDARY MARKET PARTNERSHIP NET UNIT PRICES
FROM JANUARY 1, 1996 THROUGH DECEMBER 31, 1996
CAPITAL SOURCE L.P.
<TABLE>
<CAPTION>
UNIT SALES PRICE
PER $1,000 ORIGINAL ADJUSTED CAPITAL PRICE VERSUS ADJUSTED
INVESTMENT PER ORIGINAL CAPITAL NUMBER
--------------------------- $1,000 INVESTMENT ----------------------- OF
MONTH WEIGHTED HIGH LOW AS OF 12/31/95 WEIGHTED HIGH LOW UNITS
- --------------------------------------------- -------- ------- ------- ----------------- -------- ----- ----- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
January...................................... $575.00 $575.00 $575.00 $917.50 (37.3)% (37.3)% (37.3)% 434
February..................................... 529.00 540.00 450.00 917.50 (42.3) (41.1) (51.0) 10,980
March........................................ N/A N/A N/A 917.50 N/A N/A N/A N/A
April........................................ N/A N/A N/A 917.50 N/A N/A N/A N/A
May.......................................... 522.50 550.50 501.50 917.50 (43.1) (40.0) (45.3) 2,400
June......................................... N/A N/A N/A 917.50 N/A N/A N/A N/A
July......................................... 523.00 569.50 401.50 917.50 (43.0) (37.9) (56.2) 1,700
August....................................... 549.00 587.50 300.00 917.50 (40.2) (36.0) (67.3) 10,820
September.................................... 300.50 502.50 300.00 917.50 (67.2) (45.2) (67.3) 101,524
October...................................... 494.50 576.00 300.00 917.50 (46.1) (37.2) (67.3) 29,936
November..................................... 492.50 550.00 300.00 917.50 (46.3) (40.1) (67.3) 2,229
December..................................... 558.00 562.50 545.00 917.50 (39.2) (38.7) (40.1) 1,188
</TABLE>
117
<PAGE>
SECONDARY MARKET PARTNERSHIP NET UNIT PRICES
FROM JANUARY 1, 1997 THROUGH DECEMBER 31, 1997
CAPITAL SOURCE L.P.
<TABLE>
<CAPTION>
UNIT SALES PRICE
PER $1,000 ORIGINAL ADJUSTED CAPITAL PRICE VERSUS ADJUSTED
INVESTMENT PER ORIGINAL CAPITAL NUMBER
--------------------------- $1,000 INVESTMENT ----------------------- OF
MONTH WEIGHTED HIGH LOW AS OF 12/31/96 WEIGHTED HIGH LOW UNITS
- --------------------------------------------- -------- ------- ------- ----------------- -------- ----- ----- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
January...................................... $565.00 $568.00 $563.50 $917.50 (38.4)% (38.1)% (38.6)% 1,183
February..................................... 568.50 583.00 463.00 917.50 (38.0) (36.5) (49.5) 1,602
March........................................ 542.00 545.00 529.50 917.50 (40.9) (40.6) (42.3) 2,130
April........................................ 541.50 550.00 537.50 917.50 (41.0) (40.1) (41.4) 300
May.......................................... 476.50 537.50 450.00 917.50 (48.1) (41.4) (51.0) 1,860
June......................................... N/A N/A N/A 917.50 N/A N/A N/A N/A
July......................................... 410.00 537.50 387.50 917.50 (55.3) (41.4) (57.8) 5,865
August....................................... 454.00 537.50 374.50 917.50 (50.5) (41.4) (59.2) 914
September.................................... 568.50 606.00 482.50 917.50 (38.0) (34.0) (47.4) 2,740
October...................................... 588.50 625.00 512.50 917.50 (35.9) (31.9) (44.1) 6,355
November..................................... 405.00 405.00 405.00 917.50 (55.9) (55.9) (55.9) 1,875
December..................................... N/A N/A N/A 917.50 N/A N/A N/A N/A
</TABLE>
SECONDARY MARKET PARTNERSHIP NET UNIT PRICES
FROM JANUARY 1, 1998 THROUGH AUGUST 31, 1998
CAPITAL SOURCE L.P.
<TABLE>
<CAPTION>
UNIT SALES PRICE
PER $1,000 ORIGINAL ADJUSTED CAPITAL PRICE VERSUS ADJUSTED
INVESTMENT PER ORIGINAL CAPITAL NUMBER
--------------------------- $1,000 INVESTMENT ----------------------- OF
MONTH WEIGHTED HIGH LOW AS OF 8/31/98 WEIGHTED HIGH LOW UNITS
- --------------------------------------------- -------- ------- ------- ----------------- -------- ----- ----- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
January...................................... $514.06 $617.50 $405.00 $917.50 (44.0)% (32.7)% (55.9)% 15,773
February..................................... 513.77 565.00 405.00 917.50 (44.0) (38.4) (55.9) 19,948
March........................................ 421.00 605.00 405.00 917.50 (54.1) (34.1) (55.9) 6,283
April........................................ 604.00 637.50 500.00 917.50 (34.2) (30.5) (45.5) 3,400
May.......................................... 608.00 705.50 500.00 917.50 (33.7) (23.1) (45.5) 29,621
June......................................... 551.00 635.50 500.00 917.50 (39.9) (30.7) (45.5) 40,838
July......................................... 612.00 645.00 403.00 917.50 (33.3) (29.7) (56.1) 16,017
August....................................... 604.00 630.00 500.00 917.50 (34.2) (31.3) (45.5) 5,692
</TABLE>
SECONDARY MARKET PARTNERSHIP NET UNIT PRICES
FROM JANUARY 1, 1996 THROUGH DECEMBER 31, 1996
CAPITAL SOURCE II L.P.-A
<TABLE>
<CAPTION>
UNIT SALES PRICE
PER $1,000 ORIGINAL ADJUSTED CAPITAL PRICE VERSUS ADJUSTED
INVESTMENT PER ORIGINAL CAPITAL NUMBER
--------------------------- $1,000 INVESTMENT ----------------------- OF
MONTH WEIGHTED HIGH LOW AS OF 12/31/95 WEIGHTED HIGH LOW UNITS
- --------------------------------------------- -------- ------- ------- ----------------- -------- ----- ----- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
January...................................... $350.00 $350.00 $350.00 $619.50 (43.5)% (43.5)% (43.5)% 2,406
February..................................... 303.50 315.00 225.50 619.50 (51.0) (49.2) (63.6) 763
March........................................ 327.00 350.00 323.00 619.50 (47.2) (43.5) (47.9) 4,250
April........................................ 323.00 342.50 275.00 619.50 (47.9) (44.7) (55.6) 7,805
May.......................................... N/A N/A N/A 619.50 N/A N/A N/A N/A
June......................................... 317.50 319.50 310.00 619.50 (48.7) (48.4) (50.0) 2,605
July......................................... N/A N/A N/A 619.50 N/A N/A N/A N/A
August....................................... 338.50 362.50 200.00 619.50 (45.4) (41.4) (67.7) 2,350
September.................................... 204.50 348.00 200.00 619.50 (67.0) (43.8) (67.7) 145,086
October...................................... 252.50 340.00 200.00 619.50 (59.2) (45.1) (67.7) 5,513
November..................................... 207.50 361.00 200.00 619.50 (66.5) (41.7) (67.7) 115,275
December..................................... 330.00 330.00 330.00 619.50 (46.7) (46.7) (46.7) 2,983
</TABLE>
118
<PAGE>
SECONDARY MARKET PARTNERSHIP NET UNIT PRICES
FROM JANUARY 1, 1997 THROUGH DECEMBER 31, 1997
CAPITAL SOURCE II L.P.-A
<TABLE>
<CAPTION>
UNIT SALES PRICE
PER $1,000 ORIGINAL ADJUSTED CAPITAL PRICE VERSUS ADJUSTED
INVESTMENT PER ORIGINAL CAPITAL NUMBER
--------------------------- $1,000 INVESTMENT ----------------------- OF
MONTH WEIGHTED HIGH LOW AS OF 12/31/96 WEIGHTED HIGH LOW UNITS
- --------------------------------------------- -------- ------- ------- ----------------- -------- ----- ----- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
January...................................... $333.50 $342.50 $300.00 $619.50 (46.2)% (44.7)% (51.6)% 3,250
February..................................... 343.00 349.50 337.50 619.50 (44.6) (43.6) (45.5) 3,589
March........................................ 329.50 345.00 200.00 619.50 (46.8) (44.3) (67.7) 1,254
April........................................ 378.50 387.50 355.00 619.50 (38.9) (37.4) (42.7) 9,160
May.......................................... 383.50 387.50 307.50 619.50 (38.1) (37.4) (50.4) 16,613
June......................................... 359.00 370.00 314.00 619.50 (42.1) (40.3) (49.3) 2,375
July......................................... 285.00 364.00 275.00 619.50 (54.0) (41.2) (55.6) 10,339
August....................................... 338.50 350.00 334.00 619.50 (45.4) (43.5) (46.1) 850
September.................................... 372.00 407.00 362.50 619.50 (40.0) (34.3) (41.5) 4,636
October...................................... 363.50 368.00 225.50 619.50 (41.3) (40.6) (63.6) 3,350
November..................................... 387.50 387.50 387.50 619.50 (37.4) (37.4) (37.4) 1,000
December..................................... 305.00 305.00 305.00 619.50 (50.8) (50.8) (50.8) 250
</TABLE>
SECONDARY MARKET PARTNERSHIP NET UNIT PRICES
FROM JANUARY 1, 1998 THROUGH AUGUST 31, 1998
CAPITAL SOURCE II L.P.-A
<TABLE>
<CAPTION>
UNIT SALES PRICE
PER $1,000 ORIGINAL ADJUSTED CAPITAL PRICE VERSUS ADJUSTED
INVESTMENT PER ORIGINAL CAPITAL NUMBER
--------------------------- $1,000 INVESTMENT ----------------------- OF
MONTH WEIGHTED HIGH LOW AS OF 8/31/98 WEIGHTED HIGH LOW UNITS
- --------------------------------------------- -------- ------- ------- ----------------- -------- ----- ----- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
January...................................... $325.50 $325.50 $325.50 $619.50 (47.5)% (47.5)% (47.5)% 17,203
February..................................... 372.93 387.50 350.00 619.50 (39.8) (37.4) (43.5) 5,500
March........................................ 313.00 350.00 300.00 619.50 (49.5) (43.5) (51.6) 11,740
April........................................ 391.00 402.50 300.00 619.50 (36.9) (35.0) (51.6) 4,100
May.......................................... 369.50 400.00 342.50 619.50 (40.4) (35.4) (44.7) 8,248
June......................................... 316.50 384.50 300.00 619.50 (48.9) (37.9) (51.6) 26,186
July......................................... 373.50 385.00 255.50 619.50 (39.7) (37.9) (58.8) 33,476
August....................................... 341.50 385.00 300.00 619.50 (44.9) (37.9) (51.6) 1,992
</TABLE>
119
<PAGE>
UNITHOLDERS
NUMBER OF UNITHOLDERS. As of the Record Date, Cap Source I had outstanding
3,374,222 Units which were held of record by approximately Investors.
Cap Source II had outstanding 4,011,101 Units which were held of record by
approximately Investors.
BENEFICIAL OWNERS OF MORE THAN 5% OF THE UNITS. There are no Persons known
by the General Partners to be the beneficial owners of more than 5% of the
outstanding Units in either of the Partnerships.
PARTNERSHIP DISTRIBUTIONS
Cap Source I made the following cash distributions per Unit for the two most
recent fiscal years and the interim period ended June 30, 1998:
<TABLE>
<CAPTION>
FOR THE 6 MONTHS ENDED FOR THE YEAR ENDED FOR THE YEAR ENDED
JUNE 30, 1998 DECEMBER 31, 1997 DECEMBER 31, 1996
---------------------- ------------------ ------------------
<S> <C> <C> <C>
Regular quarterly
distributions
Income...................... $ .4362 $ .8952 $ .9352
Return of capital........... .0688 .1148 .0748
------- ------- -------
$ .5050 $ 1.0100 $ 1.0100
------- ------- -------
------- ------- -------
Distributions
Paid out of cash flow....... $ .5050 $ 1.0100 $ 1.0100
------- ------- -------
------- ------- -------
</TABLE>
Cumulative cash distributions as of August 15, 1998 totaled $16.52 and
$16.31 per original $20.00 Unit, depending on the initial closing date of the
Investor's investment. These amounts include a $1.65 per Unit special return of
capital distribution paid to Investors in 1993. Accordingly, current cash
distributions are based on an adjusted Unit value of $18.35.
Regular quarterly distributions to Investors consist primarily of interest
on the FHA Loans and GNMA Certificates. Additional cash for distributions is
received from other temporary investments. Cap Source I is permitted to
replenish reserves with cash flows in excess of distributions paid. For the 6
months ended June 30, 1998, a net amount of $28,753 of undistributed cash flow
was placed in reserves. The total amount held in reserves at June 30, 1998, was
$10,684,375, of which $967,089 was invested in GNMA Certificates.
Cap Source II made the following cash distributions per Unit for the two
most recent fiscal years and the interim period ended June 30, 1998:
<TABLE>
<CAPTION>
FOR THE 6 MONTHS ENDED FOR THE YEAR ENDED FOR THE YEAR ENDED
JUNE 30, 1998 DECEMBER 31, 1997 DECEMBER 31, 1996
----------------------- ------------------- -------------------
<S> <C> <C> <C>
Regular monthly distributions
Income...................... $ .1439 $ .4082 $ .5240
Return of capital........... .2611 .4018 .2860
------ ------ ------
$ .4050 $ .8100 $ .8100
------ ------ ------
------ ------ ------
Distributions
Paid out of cash flow....... $ .1922 $ .5172 $ .6019
Paid out of reserves........ .2128 .2928 .2081
------ ------ ------
$ .4050 $ .8100 $ .8100
------ ------ ------
------ ------ ------
</TABLE>
120
<PAGE>
Cumulative cash distributions as of August 15, 1998 totaled $18.91 and
$17.94 per original $20.00 Unit, depending on the initial closing date of the
Investor's investment. These amounts include a $7.61 per Unit special return of
capital distribution paid to Investors in 1993. Accordingly, current cash
distributions are based on an adjusted Unit value of $12.39.
Regular monthly distributions to Investors consist primarily of interest on
the FHA Loan, GNMA Certificates and the Cap Source II Reserve Investments.
Additional cash for distributions is received from other temporary investments.
Cap Source II may draw on reserves to pay operating expenses or to supplement
cash distributions to Investors. For the 6 months ended June 30, 1998, a net
amount of $862,441 was distributed from reserves. The total amount held in
reserves at June 30, 1998, was $576,265.
Cap Source II has been supplementing cash flow from operations with
withdrawals from reserves in order to maintain distributions at the current
levels. Cash distributions for the first six months of 1998 were funded
primarily from reserves, with the remaining amounts being funded from cash flow
generated by Cap Source II's investment in insured or guaranteed mortgages on
four multifamily apartment complexes. As a result, Cap Source II's reserves have
been substantially decreased. Therefore, the General Partners have reduced the
monthly distribution rate to $.45 per unit on an annual basis, beginning with
the distribution for the month of August 1998, which distribution is payable in
October 1998.
Following consummation of the Transaction, Investors may receive a final
distribution from their Partnership for the period commencing on the first day
following the end of the last fiscal quarter for which distributions are made
and ending on the Effective Date.
THIRD PARTY TENDER OFFERS
The General Partners are aware of the following unsolicited tender offers
made by parties unaffiliated with the General Partners to purchase Units in Cap
Source I and Cap Source II between July of 1996 and July of 1998. The General
Partners recommended that Unitholders in each Partnership reject these offers
because they were below what the General Partners believed was fair value for
the Units when the offers were made.
CAPITAL SOURCE L.P.
TENDER OFFERS AS OF JULY 1998
<TABLE>
<CAPTION>
DATE OF TENDER PER UNIT
OFFER OFFER PRICE NUMBER OF UNITS PARTY MAKING OFFER
- ------------------- ----------- ---------------- -------------------------------
<C> <C> <S> <C>
7/3/96 $ 6.00 Up to 150,000 Equity Resource Fund XIX
5/9/97 $ 8.00 Up to 4.9% First Trust Co., L.P.
9/4/97 $ 8.10 Up to 165,150 Maxwell Bay, LLC
9/4/97 $ 8.10 Up to 75,000 Sierra Fund 3
11/25/97 $ 8.10 Up to 142,600 Maxwell Bay, LLC
5/22/98 $ 10.00 Up to 140,000 Maxwell Bay, LLC
6/10/98 $ 11.00 Up to 50,000 Sierra Fund 3
7/24/98 $ 11.50 Up to 101,227 Everest Investors 8, LLC
</TABLE>
121
<PAGE>
CAPITAL SOURCE II L.P.-A
TENDER OFFERS AS OF JULY 1998
<TABLE>
<CAPTION>
DATE OF TENDER PER UNIT
OFFER OFFER PRICE NUMBER OF UNITS PARTY MAKING OFFER
- ------------------- ------------- ---------------- -------------------------------
<C> <C> <S> <C>
7/3/96 $ 4.00 Up to 180,000 Equity Resource Fund XIX
5/9/97 $ 5.50 Up to 4.9% First Trust Co., L.P.
8/11/97 $ 5.00 Up to 196,240 Maxwell Bay, LLC
11/25/97 $ 5.50 Up to 182,800 Maxwell Bay, LLC
5/22/98 $ 6.25 Up to 178,000 Maxwell Bay, LLC
</TABLE>
122
<PAGE>
SELECTED FINANCIAL DATA OF THE PARTNERSHIPS
The following selected financial data of the Partnerships has been derived
from, and should be read in conjunction with, the financial statements and
related notes for, and as of, the end of the period indicated, which are
contained in the separately bound supplement delivered with this
Prospectus/Consent Solicitation Statement. The financial statements as of
December 31, 1997 and 1996 and for each of the three years in the period ended
December 31, 1997 have been audited by KPMG Peat Marwick LLP, independent public
accountants, whose reports thereon are included in the separately bound
supplement. The financial statements as of and for the six months ended June 30,
1997 and 1998 are unaudited.
Reference is made to the Pro Forma Financial Information which reflects the
historical financial statements of the Company and the Partnerships after giving
effect to the Transaction under the assumptions and adjustments set forth in the
accompanying notes to the pro forma financial statements.
123
<PAGE>
SELECTED FINANCIAL DATA
CAPITAL SOURCE L.P.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------------
1993 1994 1995 1996
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Mortgage-backed securities income......................... $ 4,041,282 $ 3,924,176 $ 3,895,475 $ 3,340,747
Interest income on temporary cash investments and U.S.
government securities................................... 164,968 130,252 193,257 523,636
Equity in losses of Operating Partnerships................ (589,285) (232,361) (255,500) (257,512)
Other income.............................................. 1,350 2,400 3,950 9,749
Operating and administrative expenses..................... (383,475) (359,592) (365,125) (429,313)
------------- ------------- ------------- -------------
Net income................................................ $ 3,234,840 $ 3,464,875 $ 3,472,057 $ 3,187,307
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Net income, basic and diluted, per BAC.................... $ 0.95 $ 1.02 $ 1.02 $ 0.94
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Cash distributions paid or accrued per BAC................ $ 2.6825 $ 1.0100 $ 1.0100 $ 1.0100
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Investment in FHA Loans................................... $ 12,744,294 $ 12,716,874 $ 12,654,188 $ 12,585,755
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Investment in GNMA Certificates........................... $ 30,061,060 $ 31,770,666 $ 24,388,920 $ 23,937,795
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Total assets.............................................. $ 47,427,868 $ 47,448,997 $ 47,541,721 $ 47,248,776
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
<CAPTION>
SIX MONTHS ENDED JUNE 30,
----------------------------
1997 1997 1998
------------- ------------- -------------
<S> <C> <C> <C>
Mortgage-backed securities income......................... $ 3,302,727 $ 1,655,673 $ 1,638,110
Interest income on temporary cash investments and U.S.
government securities................................... 554,604 270,635 274,605
Equity in losses of Operating Partnerships................ (178,550) (113,550) (10,000)
Other income.............................................. 5,334 1,050 3,450
Operating and administrative expenses..................... (632,894) (239,744) (419,369)
------------- ------------- -------------
Net income................................................ $ 3,051,221 $ 1,574,064 $ 1,486,796
------------- ------------- -------------
------------- ------------- -------------
Net income, basic and diluted, per BAC.................... $ 0.90 $ 0.46 $ 0.44
------------- ------------- -------------
------------- ------------- -------------
Cash distributions paid or accrued per BAC................ $ 1.0100 $ 0.5050 $ 0.5050
------------- ------------- -------------
------------- ------------- -------------
Investment in FHA Loans................................... $ 12,511,046 $ 12,549,219 $ 12,471,160
------------- ------------- -------------
------------- ------------- -------------
Investment in GNMA Certificates........................... $ 23,588,139 $ 23,776,350 $ 23,407,224
------------- ------------- -------------
------------- ------------- -------------
Total assets.............................................. $ 46,965,808 $ 47,055,741 $ 46,728,225
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
124
<PAGE>
SELECTED FINANCIAL DATA
CAPITAL SOURCE II L.P.--A
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------------
1993 1994 1995 1996
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Mortgage-backed securities income......................... $ 2,715,851 $ 2,526,266 $ 2,561,901 $ 2,520,727
Interest income on temporary cash investments and U.S.
government securities................................... 345,962 181,315 200,678 147,530
Equity in losses of Operating Partnerships................ (343,842) (209,805) (109,900) --
Other income.............................................. 2,050 2,900 4,650 6,950
Gain on sale of mortgage-backed securities................ -- -- 15,670 --
Operating and administrative expenses..................... (464,457) (479,388) (499,903) (552,170)
------------- ------------- ------------- -------------
Net income................................................ $ 2,255,564 $ 2,021,288 $ 2,173,096 $ 2,123,037
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Net income, basic and diluted, per BAC.................... $ 0.56 $ 0.50 $ 0.54 $ 0.52
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Cash distributions paid or accrued per BAC................ $ 4.0702 $ 0.8100 $ 0.8100 $ 0.8100
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Investments in FHA Loan................................... $ 6,642,560 $ 6,619,989 $ 6,595,251 $ 6,568,139
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Investment in GNMA Certificates........................... $ 20,976,662 $ 22,799,369 $ 22,142,421 $ 21,895,675
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Total assets.............................................. $ 34,883,519 $ 33,589,321 $ 32,541,767 $ 31,340,155
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
<CAPTION>
SIX MONTHS ENDED JUNE 30,
----------------------------
1997 1997 1998
------------- ------------- -------------
<S> <C> <C> <C>
Mortgage-backed securities income......................... $ 2,499,844 $ 1,252,549 $ 1,237,723
Interest income on temporary cash investments and U.S.
government securities................................... 91,327 52,614 19,317
Equity in losses of Operating Partnerships................ (121,450) (121,450) --
Other income.............................................. 3,800 1,550 2,700
Gain on sale of mortgage-backed securities................ -- -- 14,565
Operating and administrative expenses..................... (819,516) (300,213) (691,447)
------------- ------------- -------------
Net income................................................ $ 1,654,005 $ 885,050 $ 582,858
------------- ------------- -------------
------------- ------------- -------------
Net income, basic and diluted, per BAC.................... $ 0.41 $ 0.22 $ 0.14
------------- ------------- -------------
------------- ------------- -------------
Cash distributions paid or accrued per BAC................ $ 0.8100 $ 0.4050 $ 0.4050
------------- ------------- -------------
------------- ------------- -------------
Investments in FHA Loan................................... $ 6,538,424 $ 6,553,621 $ 6,522,514
------------- ------------- -------------
------------- ------------- -------------
Investment in GNMA Certificates........................... $ 21,674,940 $ 21,779,134 $ 21,149,726
------------- ------------- -------------
------------- ------------- -------------
Total assets.............................................. $ 29,829,534 $ 30,476,390 $ 28,663,394
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
125
<PAGE>
DESCRIPTION OF CAPITAL STOCK
GENERAL
Pursuant to the Second Amended and Restated Certificate of Incorporation
(the "Certificate of Incorporation") of the Company, the total number of shares
of capital stock that the Company has authority to issue is 100,000,000,
consisting of 50,000,000 shares of common stock, par value $.001 per share and
50,000,000 shares of preferred stock, par value $.001 per share. There are
presently 1,000 shares of Common Stock issued and outstanding, all of which are
held by America First Companies L.L.C., who purchased the shares at a price of
$1.00 per share when the Company was organized. Upon consummation of the
Transaction, all such outstanding shares held by America First Companies L.L.C.
will be repurchased by the Company at a price of $1.00 per share. The number of
shares of Common Stock to be issued in connection with the Transaction depends
on the number of Notes issued. Assuming all Investors receive Shares in
connection with the Transaction, 3,354,887 shares of Common Stock will be issued
and outstanding after the Transaction. Under Delaware law, shareholders
generally are not liable for the Company's debts or obligations.
COMMON STOCK
The holders of shares of Common Stock are entitled to one vote per share on
all matters voted on by Shareholders, including election of directors, and,
except as provided in the Certificate of Incorporation in respect of any other
class or series of stock, the holders of such shares exclusively possess all
voting power. The Certificate of Incorporation does not provide for cumulative
voting in the election of directors. Subject to any preferential rights of any
outstanding shares or series of stock, holders of shares of Common Stock are
entitled to receive dividends when and as declared by the Board of Directors,
out of funds legally available therefor. Upon any liquidation, dissolution or
winding up of the Company, the holders of Common Stock are entitled to receive
pro rata all assets of the Company available for distribution to its
Shareholders after payment of, or adequate provisions for, all known debts and
liabilities of the Company. All shares of Common Stock now outstanding are, and
the Shares of Common Stock offered hereby will be when issued, fully paid and
nonassessable. The holders thereof will not have preemptive rights to subscribe
to additional stock or securities issued by the Company at a subsequent date.
The Company may issue additional shares of common stock without further
stockholder approval, up to the maximum authorized number of shares, except as
may be otherwise required by applicable law or stock exchange regulations.
As further described in the Certificate of Incorporation, persons who
acquire beneficial ownership of shares of the Company's Common Stock entitling
such person, in the aggregate, to 15% or more of all voting power of the
Company, will not be able to exercise more than 15% of the Company's total
voting power until such time as such exercise is approved by a vote of at least
75% of the remaining shares of the Company entitled to vote on such matter.
The Certificate of Incorporation authorizes the Board of Directors to
classify or reclassify any unissued shares of stock, to provide for the issuance
of shares in other classes or series, including preferred stock in one or more
series, to establish the number of shares in each class or series and to fix the
preferences, conversion and other rights, voting powers, restrictions,
limitations as to distributions, qualifications or terms or conditions of
redemption of such class or series. The Company has no present intention to
issue shares of any class or series other than Common Stock.
There is currently no established trading market for the Common Stock, and
prior to the Transaction, the Common Stock will not be listed on any national
securities exchange or quoted on an automated quotation system. Therefore, no
sale or bid price information is available with respect to the Common Stock. The
Common Stock has been approved for listing on the NYSE under the symbol "AFE,"
subject to official notice of issuance. The Company will meet the round lot
distribution and market value standards established by the NYSE.
will act as transfer agent and registrar of the Common Stock.
126
<PAGE>
PREFERRED STOCK
Pursuant to the Certificate of Incorporation, the Board of Directors may
from time to time issue in one or more series up to 50,000,000 shares of
preferred stock in one or more series (the "Preferred Stock"). The Board of
Directors is authorized, by filing a certificate pursuant to the Delaware GCL
(hereinafter, the "Preferred Stock Designation"), to establish from time to time
the number of shares to be included in each series, and to fix the designations,
voting powers, privileges, preferences, terms and rights, and the limitations,
restrictions and qualifications of the shares of each series. The authority of
the Board of Directors with respect to each series shall include, but not be
limited to, determination of the following:
(a) the designation of the series, which may be by distinguishing
number, letter or title;
(b) the number of shares of the series, which number the Board of
Directors may thereafter (except where otherwise provided in the preferred
stock designation) increase or decrease (but not below the number of shares
thereof then outstanding);
(c) whether dividends, if any, shall be cumulative or noncumulative,
and, in the case of shares of any series having cumulative dividend rights,
the date or dates or method of determining the date or dates from which
dividends on the shares of such series shall be cumulative;
(d) the rate of any dividends (or method of determining such dividends)
payable to the holders of the shares of such series, any conditions upon
which such dividends shall be paid and the date or dates or the method for
determining the date or dates upon which such dividends shall be payable;
(e) the price or prices (or method of determining such price or prices)
at which, the form of payment of such price or prices (which may be cash,
property or rights, including securities of the same or another corporation
or other entity) for which, the period or periods within which and the terms
and conditions upon which the shares of such series may be redeemed or
exchanged, in whole or in part, at the option of the Company or at the
option of the holder or holders thereof or upon the happening of a specified
event or events, if any;
(f) the obligation, if any, of the Company to purchase, exchange or
redeem shares of such series pursuant to a sinking fund or otherwise and the
price or prices at which, the form of payment of such price or prices (which
may be cash, property or rights, including securities of the same or another
corporation or other entity) for which, the period or periods within which
and the terms and conditions upon which the shares of such series shall be
redeemed, exchanged or purchased, in whole or in part, pursuant to such
obligation;
(g) the amount payable out of the assets of the Company to the holders
of shares of the series in the event of any voluntary or involuntary
liquidation, dissolution or winding up of the affairs of the Company;
(h) provisions, if any, for the conversion or exchange of the shares of
such series, at any time or times at the option of the holder or holders
thereof or at the option of the Company or upon the happening of a specified
event or events, into shares of any other class or classes or any other
series of the same or any other class or classes of stock or any other
security, of the Company, or any other corporation or other entity, and the
price or prices or rate or rates of conversion or exchange and any
adjustments applicable thereto, and all other terms and conditions upon
which such conversion or exchange may be made;
(i) restrictions on the issuance of shares of the same series or
restrictions on the issuance of shares of the same series or of any other
class or series, if any;
(j) the voting powers, if any, of the holders of shares of the series,
which may provide more than one vote per share; and
(k) any other relative rights, preferences and limitations on that
series allowed by Delaware law.
127
<PAGE>
Subject to the express provisions of any other series of Preferred Stock
then outstanding, the Board of Directors may increase or decrease (but not below
the number of shares of such series then outstanding) the number of shares, or
amend the voting powers, designations, preferences and relative, participating,
optional or other rights, if any, or the qualifications, limitations or
restrictions thereof of the shares of any such series of Preferred Stock.
SHARES ELIGIBLE FOR FUTURE SALE
Shares received by Investors in the Transaction will be freely transferable
without restriction or further registration under the Securities, except for
Shares acquired by "affiliates" of the Company, as that term is defined in Rule
144 under the Securities Act, which sales would be subject to certain volume
limitations and other restrictions described below.
In general, under Rule 144 as currently in effect, a person, including a
person who may be deemed an "affiliate" of the Company, who has held restricted
shares for at least one year may sell such shares, subject to certain volume
limitations and other restrictions, without registering them under the
Securities Act. Rule 144 generally also permits sales of restricted shares,
without any volume limitations, by a person who has not been an "affiliate" of
the Company for at least three months preceding the sale of such shares and who
has held those restricted shares for at least two years.
THE NOTES
GENERAL
If the Investors holding a majority of outstanding Units of a Partnership
approve the Transaction and the other conditions to the Transaction are met, the
Transaction will be consummated and such action will bind all Investors in that
Partnership, including those who abstain from voting, fail to return a completed
Consent Card or vote "NO" against the Transaction. All Investors will be given
the opportunity to elect to receive either Shares or Notes. An Investor who
failed to return a completed Consent Card will receive Shares of the Company for
his Units. Each Investor will receive written instructions on the proper
procedures for completing and submitting the Consent Card. See "VOTING." Certain
provisions of the Notes and the Indenture under which they will be issued are
summarized under "--Notes."
Neither the Partnership Agreements nor the Delaware Partnership Law give an
Investor the right to demand any type of dissenter's rights or to elect to
receive the appraised value of his Units in connection with the Transaction. No
such rights will be given to Dissenting Investors by the Partnerships or the
Company in connection with the Transaction. See "VOTING--No Right of Appraisal."
ALLOCATION OF NOTES
The aggregate principal amount of Notes to be issued by the Company may not
exceed the Maximum Note Limitation, which is $40.0 million. If Dissenting
Investors elect to receive Notes in excess of the Maximum Note Limitation, the
Transaction will not be consummated. In the event Dissenting Investors do not
elect to receive Notes in excess of the Maximum Note Limitation, but the total
amount of Notes allocable to all Investors who elect to receive Notes exceeds
such limit, Notes will be allocated first to Dissenting Investors who elected to
receive Notes and any remaining Notes will be allocated on a pro rata basis (in
denominations of $1,000) to those Investors who elected to receive Notes and
either abstained from voting by indicating their abstention on the Consent Card
or voted "YES" in favor of the Transaction. In such event, the abstaining
Investors and Consenting Investors who elected to receive Notes will receive
Shares in an amount equal to the difference between the Exchange Value allocable
to such Investors and the amount of Notes distributed to such Investors.
128
<PAGE>
NOTES
The following summaries describing certain provisions of the Notes do not
purport to be complete and are subject to, and are qualified in their entirety
by reference to, all of the provisions of the Indenture, which is included as an
exhibit to the Registration Statement.
GENERAL. The Notes, if any, will be junior, unsecured obligations of the
Company callable on or after the date of issuance, issued under the Indenture,
to be dated as of the first day of the month in which the Notes are issued, by
and between the Company and U.S. Bank Trust National Association, as Trustee.
The Notes will be limited to $40.0 million aggregate principal amount and will
be designated as Variable Rate Junior Notes.
The Company may issue additional indebtedness, which may be secured, only in
compliance with the covenants of the Notes for the issuance of senior debt.
On , 2006 (the "Maturity Date") the outstanding principal balance
of the Notes, plus accrued but unpaid interest, will be payable in full. The
Notes will be payable as follows:
(a) annual installments of accrued interest, payable on the fifteenth
day of each January (an "Interest Payment Date"), commencing on the first
Interest Payment Date following the issuance of the Notes and continuing
until the entire interest on and principal of each Note is paid in full; and
(b) the unpaid principal balance and accrued but unpaid interest on the
Maturity Date.
Payments under the Notes will be paid to the persons in whose names such Notes
are registered, subject to certain exceptions, at the close of business on the
last day of the month preceding the applicable Interest Payment Date. The Notes
will be issued in registered form without coupons in denominations of $1,000.
FRACTIONAL NOTES. Since the aggregate principal balance of the Notes to
which an Investor is entitled is determined by multiplying the Investor's Units
by the Exchange Value, per $1,000 original investment, assigned to such
Investor's Partnerships, the Investor may be entitled to a fractional interest
in a Note. Rather than issue a fractional interest in a Note, the Company will
issue to each such Investor a promissory note ("Promissory Note") with an
original principal balance equal to the fraction times $1,000, subject to the
Company's right, at its option, to pay cash in lieu of any portion of a
Promissory Note. The Promissory Notes will be issued pursuant to the terms of
the Indenture, but will not be listed on a national securities exchange.
INTEREST. For each period from and including an Interest Payment Date to
and including the day immediately preceding the next Interest Payment Date, the
Notes will bear interest at a rate equal to 120% of the annual applicable
federal rate for debt instruments with a term of not over three years as
determined under the Code and applicable regulations thereunder. As of the date
of this Prospectus/ Consent Solicitation Statement, 120% of the annual
applicable federal rate for debt instruments with a term of not over three years
was %. Therefore, the interest rate on the Notes as of the date of this
Prospectus/Consent Solicitation Statement is %. The interest rate will
remain in effect until the first day of the calendar year following completion
of the Transaction. Interest on the Notes will be adjusted annually and computed
on the basis of a 360-day year for the actual number of days elapsed.
OPTIONAL REDEMPTION. The Company may, at its option, redeem all or any
portion of the Notes or Promissory Notes from time to time by giving written
notice of the proposed redemption to the holders of the Notes or the Promissory
Notes, as the case may be. In the event less than all of the Notes and
Promissory Notes are to be redeemed, the Trustee will select first the
Promissory Notes to be redeemed and then the Notes to be redeemed by lot until
all Notes and Promissory Notes are paid in full and redeemed. The redemption
price will be 100% of the outstanding principal balance of such Notes or the
Promissory Notes, as the case may be, together with accrued interest to the date
fixed for redemption. There will be no sinking fund established to retire the
Notes or the Promissory Notes.
129
<PAGE>
MANDATORY REDEMPTION. The Indenture requires that the Company use 80% of
the Net Proceeds from Sales or Refinancings of Designated Assets (as defined
herein) to prepay the Notes. Net Proceeds from Sales or Refinancings of
Designated Assets generally means the gross proceeds of all sales, exchanges or
refinancings received with respect to assets acquired by the Company from the
Partnerships in the Transaction, less all costs and expenses incurred by the
Company in connection with such sales, exchanges or refinancings. Upon receipt
by the Company, at least 80% of the Net Proceeds from Sales or Refinancings of
Designated Assets will be deposited into a segregated trust account established
under the Indenture, and when the funds in such account equal or exceed $5
million, the proceeds will be used to redeem the Notes as provided in the
Indenture. In the event less than all of the Notes are to be redeemed pursuant
to this provision, the Trustee will select the Promissory Notes and the Notes to
be redeemed in the same manner as for an optional redemption until all Notes and
Promissory Notes are paid in full and redeemed.
LIMITATION ON INDEBTEDNESS. The Indenture prohibits the Company from
incurring any indebtedness if the new indebtedness would cause the Company's
aggregate principal amount of indebtedness then outstanding to exceed 70% of the
greater of (a) the value which is placed by an independent appraiser on all the
assets of the Company as of the date of the Transaction, and (b) the value
placed by an independent appraiser on all assets of the Company as of the date
of determination.
TRANSACTION, CONVEYANCE OR TRANSFER. The Company will not merge or
consolidate with or into, or sell, assign, transfer, lease or otherwise dispose
of all or substantially all of its properties and assets as an entirety to, any
other entity or entities, and the Company will not permit any of its wholly
owned subsidiaries to enter into any such transaction if, in the aggregate, such
transaction would result in a sale, assignment, transfer, lease or other
disposition of all or substantially all of the properties and assets of the
Company and its subsidiaries on a consolidated basis to any other entity or
entities, unless at the time and after giving effect thereto (a) either (i) if
the transaction is a merger or transaction, the Company shall be the surviving
entity, or (ii) the entity formed by such transaction or into which the Company
or such subsidiary is merged or to which the properties and assets of the
Company or such subsidiary, as the case may be, substantially as an entirety,
are transferred shall be a corporation organized and existing under the laws of
the United States of America, any state thereof or the District of Columbia and
shall expressly assume by a supplemental indenture executed and delivered to the
Trustee, in form satisfactory to the Trustee, all the obligations of the Company
under the Notes and the Indenture, and in each case, the Indenture shall remain
in full force and effect; (b) immediately before and immediately after giving
effect to such transaction on a pro forma basis (including, without limitation,
any indebtedness incurred or anticipated to be incurred in connection with or in
respect of such transaction), no event of default shall have occurred and be
continuing and the Company, or the surviving entity, as the case may be, after
giving effect to such transaction on a pro forma basis, could incur $1.00 of
additional indebtedness under "--LIMITATION ON INDEBTEDNESS" above; and (iii)
immediately after giving effect to such transaction on a pro forma basis, the
consolidated net worth of the Company, or the surviving entity, as the case may
be, is at least equal to the consolidated net worth of the Company immediately
before such transaction.
EVENTS OF DEFAULT. A default will occur under the Indenture with respect to
the Notes if (a) the Company defaults in the payment of the principal of any
Note when the same becomes due and payable at maturity, upon redemption or
otherwise, (b) the Company defaults in the payment of interest on any Note when
the same becomes due and payable and such default continues for a period of 30
days, (c) the Company fails to comply with any of its other agreements contained
in the Indenture or the Notes for a period of 30 days after written notice
thereof, as provided in the Indenture, (d) the Company shall default under any
agreement relating to any other indebtedness of the Company where the
indebtedness exceeds $5 million, or (e) certain events of bankruptcy, insolvency
or reorganization shall have occurred.
If an event of default specified in (a) through (d) above occurs and is
continuing, either the Trustee or the holders of not less than 25% in principal
amount of the Notes then outstanding may declare all unpaid
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principal of and interest accrued on the Notes to be immediately due and
payable. In the event of a default specified in (e) above, all unpaid principal
and accrued interest on the Notes shall be immediately due and payable without
any declaration or other act on the part of the Trustee or any Noteholders. Upon
certain conditions such declarations may be annulled by the holders of a
majority in principal amount of the Notes and past defaults may be waived
(except a continuing default in payment of principal of or interest on the
Notes) by the holders of a majority in principal amount of the Notes.
The holders of a majority in principal amount of the outstanding Notes may
direct the time, method and place of conducting any proceeding for any remedy
available to the Trustee or exercising any trust or power conferred on the
Trustee, provided that such direction shall not be in conflict with any rule of
law or the Indenture. Before proceeding to exercise any right or power under the
Indenture at the direction of such holders, the Trustee shall be entitled to
receive from such holders reasonable security or indemnity against the costs,
expenses and liabilities which might be incurred by it in compliance with any
such direction.
The Company will be required to furnish to the Trustee annually a statement
of certain officers of the Company as to their knowledge of the Company's
compliance with all conditions and covenants under the Indenture. The Indenture
requires the Trustee to give to all Noteholders notice of any default by the
Company, unless such default shall have been cured or waived; however, except in
the case of a default in the payment of principal of or interest on any
outstanding Notes, the Trustee is entitled to withhold such notice in the event
that a trust committee of directors or certain officers of the Trustee in good
faith determine that withholding such notice is in the interest of the holders
of the outstanding Notes.
DEFEASANCE AND DISCHARGE. The Indenture provides that the Company will be
discharged from obligations in respect of the Notes under the Indenture
(excluding certain obligations, such as the obligation to pay principal of and
interest on the Notes then outstanding, obligations of the Company in the event
of acceleration following default in the payment of any installment of interest
on and, if applicable, principal of the Notes and obligations to register the
transfer or exchange of the outstanding Notes and to replace stolen, lost or
mutilated certificates), upon the irrevocable deposit, in trust, of cash or
certain U.S. government obligations which through the payment of interest and
principal thereof in accordance with their terms will provide cash in an amount
sufficient to pay any installment of principal of and interest on the
outstanding Notes on the stated maturity of such installments in accordance with
the terms of the Indenture and the outstanding Notes, provided that the Company
has received an opinion of counsel or a favorable ruling of the IRS to the
effect that such a discharge will not be deemed, or result in, a taxable event
with respect to holders of the outstanding Notes and that certain other
conditions are met.
CHANGE IN CONTROL. The Indenture does not contain provisions requiring
redemption of the Notes or Promissory Notes by the Company, or adjustment to any
terms of the Notes or Promissory Notes, upon any change in control of the
Company.
LIMITED PROTECTION AGAINST DECLINE IN CREDIT QUALITY. The Indenture does
not contain any provisions protecting Noteholders against a sudden and dramatic
decline in credit quality of the Notes or Promissory Notes resulting from
takeovers, restructuring, reorganizations or similar transactions involving the
Company.
MODIFICATION OF THE INDENTURE. The Company and the Trustee may amend or
supplement the Indenture or the Notes without the consent of the Noteholders to:
(a) provide for uncertificated Notes in addition to or in place of certificated
Notes, (b) add covenants and events of default for the protection of the
Noteholders, (c) cure any ambiguity, defect or inconsistency in the Indenture or
to make any other change that does not adversely affect the rights of any
Noteholder, and (d) evidence the acceptance of appointment by a successor
trustee.
The Indenture also contains provisions permitting the Company and the
Trustee, with the consent of the holders of not less than a majority in
principal amount of the Notes then outstanding, to add any
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provisions to, or change in any manner or eliminate any of the provisions of,
the Indenture, or modify in any manner the rights of the holders of the Notes,
provided that the Company and the Trustee may not, without the consent of the
holder of each outstanding Note affected thereby, (a) reduce the amount of Notes
whose holders must consent to an amendment, supplement or waiver; (b) reduce the
rate of or change the time for payment of interest on any Note; (c) reduce the
principal of or change the fixed maturity of any Note or alter the redemption
provisions with respect thereto; (d) waive a default in the payment of the
principal of or interest on any Note; or (e) make any Note payable in money
other than that stated in the Note.
GOVERNING LAW. The Notes, the Promissory Notes and the Indenture will be
governed by and construed in accordance with the laws of the State of Delaware.
THE TRUSTEE. U.S. Bank Trust National Association (the "Trustee"), will be
the Trustee under the Indenture. The Trustee does not serve as a trustee under
any other indenture relating to obligations of the Company and has no prior
business relationship with the Company, the General Partners or any of their
Affiliates.
PURCHASE OF NOTES IN SECONDARY MARKET. In addition to making partial
redemption of the Notes, the Company may purchase Notes in the secondary market,
and such purchases may be at discounts from the outstanding principal balance of
the Notes. Such purchases have the effect of retiring the obligations, but do
not obligate the Company to follow the procedures for partial redemption of the
Notes described in the Indenture.
CERTAIN PROVISIONS OF THE COMPANY'S CERTIFICATE OF
INCORPORATION AND BYLAWS
Certain provisions of the Company's Organizational Documents generally have
an anti-takeover effect with respect to the Company, and may deter an offer with
a substantial premium to the then-current trading price of the Company's Common
Stock or hinder a potential transaction that may be attractive to Shareholders.
PURPOSES AND ANTI-TAKEOVER EFFECTS OF CERTAIN PROVISIONS. The Certificate
of Incorporation contains several provisions that will make difficult an
acquisition of control of the Company, by means of a tender offer, open market
purchase, a proxy fight or otherwise, that is not approved by the Company's
Board of Directors. The Bylaws also contain provisions that could have an
anti-takeover effect.
The purposes of the relevant provisions of the Certificate of Incorporation
and Bylaws are to discourage certain types of transactions, described below,
which may involve an actual or threatened change of control of the Company and
to encourage persons seeking to acquire control of the Company to consult first
with the Board of Directors to negotiate the terms of any proposed business
combination or offer. The provisions are designed to reduce the vulnerability of
the Company to an unsolicited proposal for a takeover that does not contemplate
the acquisition of all outstanding shares or is otherwise unfair to stockholders
of the Company or an unsolicited proposal for the restructuring or sale of all
or part of the Company. The Company believes that, as a general rule, such
proposals would not be in the best interests of the Company and its
stockholders.
The Company believes that the imminent threat of removal of the Company's
management or Board of Directors in such situations would severely curtail the
ability of management or the Board of Directors to negotiate effectively with
such purchasers. The management or the Company's Board of Directors would be
deprived of the time and information necessary to evaluate the takeover
proposal, to study alternative proposals and to help ensure that the best price
is obtained in any transaction involving the Company which may ultimately be
undertaken. If the real purpose of a takeover bid were to force the Company to
repurchase an accumulated stock interest at a premium price, management or the
Board of Directors would face the risk that, if it did not repurchase the
purchaser's stock interest, The Company's business and the Company's management
would be disrupted, perhaps irreparably.
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Certain provisions of the Certificate of Incorporation and Bylaws, in the
view of the Company, will help ensure that the Company's Board of Directors, if
confronted by a surprise proposal from a third-party which has acquired a block
of stock, will have sufficient time to review the proposal and appropriate
alternatives to the proposal and to act in what it believes to be the best
interests of the stockholders. In addition, certain other provisions of the
Certificate of Incorporation are designed to prevent a purchaser from utilizing
two-tier pricing and similar inequitable tactics in the event of an attempt to
take over the Company.
These provisions, individually and collectively, will make difficult and may
discourage a merger, tender offer or proxy fight, even if such transaction or
occurrence may be favorable to the interests of the stockholders, and may delay
or frustrate the assumption of control by a holder of a large block of the
Company's Common Stock and the removal of incumbent management, even if such
removal might be beneficial to the stockholders. Furthermore, these provisions
may deter or could be utilized to frustrate a future takeover attempt which is
not approved by the incumbent Board of Directors, but which the holders of a
majority of the Company's Common Stock may deem to be in their best interests or
through which stockholders may receive a substantial premium for their stock
over prevailing market prices of such stock. By discouraging takeover attempts,
these provisions may have the incidental effect of inhibiting certain changes in
management (some or all of the members of which might be replaced in the course
of a change of control) and also the temporary fluctuations in the market price
of the stock, should a market develop, which often result from actual or rumored
takeover attempts.
Set forth below is a description of all such material provisions in the
Certificate of Incorporation and the Bylaws. Such description is intended as a
summary only and is qualified in its entirety by reference to the Certificate of
Incorporation and the Bylaws.
REMOVAL; FILLING VACANCIES. The Certificate of Incorporation generally
provides that only a majority of the Board of Directors then in office shall
have the authority to fill any vacancies on the Board of Directors, including
vacancies created by an increase in the number of directors. Further, a director
may be removed only for cause and then only pursuant to the affirmative vote of
75% of the outstanding shares of stock entitled to vote in the election of
directors. In addition, the Bylaws provide that a new director elected to fill a
vacancy on the Board of Directors will serve for the remainder of the full term
of his or her predecessor and that no decrease in the number of directors shall
shorten the term of an incumbent. These provisions relating to removal and
filling of vacancies on the Board of Directors will preclude stockholders from
enlarging the Board of Directors or removing incumbent directors and filling the
vacancies with their own nominees.
TERMS OF DIRECTORS. Generally, the Certificate of Incorporation provides
that directors shall be classified, with respect to the time for which they hold
office, into three classes as nearly equal in number as possible. One class will
be originally elected for a term expiring at the annual meeting of stockholders
to be held in 2000, another class will be originally elected for a term expiring
at the annual meeting of stockholders to be held in 2001 and the third class
will be originally elected for a term expiring at the annual meeting of
stockholders to be held in 2002. Directors in all classes will hold office until
such person's successor is duly elected and qualified.
LIMITATIONS ON STOCKHOLDER ACTION BY WRITTEN CONSENT; SPECIAL MEETINGS. The
Certificate of Incorporation and Bylaws provide that stockholder action can be
taken at an annual or special meeting of stockholders. No action of stockholders
may be taken by any consent in writing by the stockholders in lieu of such
meeting. The Certificate of Incorporation and Bylaws also provide that special
meetings of stockholders can be called only by the Chairman of the Board, the
President or the Board of Directors. Any power of stockholders to call a special
meeting is specifically denied by the Certificate of Incorporation.
INTERESTED STOCKHOLDER TRANSACTIONS. The Certificate of Incorporation
specifically provides that the Company will be governed by Section 203 of the
Delaware GCL ("Section 203"). Section 203 generally provides that the Company
may not engage in any business combination with any interested stockholder for a
period of three years following the date such stockholder became an interested
stockholder, unless
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(i) prior to such date the Board of Directors of the Company approved either the
business combination or the transaction which resulted in the stockholder
becoming an interested stockholder, (ii) upon consummation of the transaction
which resulted in the stockholder becoming an interested stockholder, the
interested stockholder owned at least 85% of the voting stock of the corporation
outstanding at the time the transaction commenced (excluding for determining the
number of shares outstanding (a) shares owned by persons who are directors and
officers and (b) employee stock plans, in certain instances), or (iii) on or
subsequent to such date the business combination is approved by the Board of
Directors and authorized at an annual or special meeting of the stockholders by
at least 66 2/3% of the affirmative voting stock that is not owned by the
interested stockholder. An interested stockholder is defined in Section 203 as
any person who (i) owns, directly or indirectly, 15% or more of the outstanding
voting stock of the Company or (ii) is an affiliate or associate of the Company
and was the owner of 15% or more of the outstanding voting stock at any time
within the three-year period immediately prior to the date on which it is sought
to be determined whether such person is an interested stockholder; and the
affiliates and the associates of such person.
SUPERMAJORITY VOTES. Certain provisions of the Certificate of Incorporation
and the Bylaws may not be amended, or repealed, nor may inconsistent provisions
be adopted, without the affirmative vote of stockholders holding at least 75% of
the stock of the Company entitled to vote.
CONTROL SHARES. Pursuant to the Certificate of Incorporation, a person
acquiring beneficial ownership of more than 15% of the Company's Common Stock
will not be able to vote more than 15% of the total voting power of the Company
unless approved by the stockholders of the Company. See "DESCRIPTION OF CAPITAL
STOCK."
PREFERRED STOCK. Pursuant to the Certificate of Incorporation, the Board of
Directors is authorized to issue up to 50,000,000 shares of preferred stock in
one or more series. The Board of Directors is also authorized to determine (i)
the number of shares, (ii) the voting power, (iii) the privileges and
preferences, (iv) the terms and rights and (v) the limitations, restrictions and
qualifications with respect to any such series. The preferred stock may be
issued with disproportionate voting power in the discretion of the Board of
Directors. See "DESCRIPTION OF CAPITAL STOCK--Preferred Stock."
ADDITIONAL ANTI-TAKEOVER PROVISIONS. The Board of Directors may, in the
future, consider and adopt future anti-takeover provisions for the Company.
These provisions may include, but are not limited to, rights agreements for
stockholders of the Company which provide for the issuance of securities to
stockholders upon the occurrence of certain events, commonly known as "poison
pills." The purpose of these provisions would be to protect, for the benefit of
the stockholders, unrecognized or unrealized value in investments of the
Company.
FEDERAL INCOME TAX CONSEQUENCES
GENERAL
The following discussion describes the material federal income tax
considerations to the Partnerships, the Investors, the Shareholders and the
Company that may result from the Transaction. This discussion is based upon the
provisions of the Internal Revenue Code of 1986, as amended (the "Code"),
applicable Treasury Department regulations promulgated thereunder (the
"Regulations"), rulings of the Internal Revenue Service (the "Service") and
applicable court decisions.
There is no assurance that provisions of the Code, Regulations or rulings
will not be changed by new legislation, Regulations or rulings, which may or may
not apply retroactively to transactions entered into or completed prior to the
date of the change, or that there will not be differences of opinion as to the
interpretation of provisions of the Code and Regulations and their application
to the Partnerships, the Investors, the Shareholders, the Company and the
holders of the Notes.
This summary is directed primarily to Investors who are individual residents
or citizens of the United States. This summary does not discuss federal income
tax consequences peculiar to nonresident alien
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individuals and foreign entities, insurance companies, banking institutions,
regulated investment companies, real estate investment trusts, or other persons
or entities to which special rules apply by virtue of the nature of their
specific activities. Specific consideration is given, however, to entities that
are exempt from federal income taxation in "--Considerations for Tax-Exempt
Shareholders" below. In addition, no representations are made as to state or
local tax consequences resulting from the Transaction or an investment in the
Company. In particular, Investors who are nonresident aliens are urged to
contact their tax advisors concerning the potential effects of the relevant
provisions of the Foreign Investment in Real Property Tax Act of 1980 to the
Transaction. ACCORDINGLY, THIS SUMMARY IS NOT INTENDED AS A SUBSTITUTE FOR
CAREFUL TAX PLANNING AND INVESTORS AND IN PARTICULAR TAX-EXEMPT INVESTORS,
SHOULD CONSULT WITH THEIR OWN TAX ADVISORS AS TO THEIR PARTICULAR CIRCUMSTANCES
IN RELATION TO THE TAX CONSIDERATIONS DESCRIBED HEREIN.
OPINIONS OF COUNSEL
Kutak Rock, counsel to the Company ("Counsel"), has rendered its opinion
(the "Opinion"), subject to various assumptions and conditioned upon certain
representations as to factual matters, that: (a) subject to the limitations
described herein, the merger of the Partnerships with and into the Company and
the related transfer of assets by the Partnerships to the Company under the
terms and conditions set forth in the Merger Agreement will be an exchange
subject to the nonrecognition provisions of Section 351 of the Code; and (b) the
discussion that follows fairly summarizes the material federal income tax
considerations associated with the Transaction. It should be noted that a ruling
from the Service will not be requested and that the Opinion, unlike a ruling by
the Service, is not binding on the Service or any court. Therefore, no assurance
can be given that the Service will not challenge any views expressed in this
discussion.
CERTAIN TAX DIFFERENCES BETWEEN THE OWNERSHIP OF UNITS AND THE SHARES
Investors are treated as limited partners of the Partnerships for federal
income tax purposes. The Partnerships are not subject to federal income taxation
and, instead, each Investor is required to take into account his or her share of
income, deductions or loss of the Partnership in which he or she invested,
regardless of whether any cash is distributed. The character of income to each
Investor is dependent upon its character to the Partnership. Upon consummation
of the Transaction, the Investors will, in essence, receive Shares in exchange
for their Units and thereby become shareholders of the Company which is
characterized as a corporation for federal income tax purposes. See "--Tax
Treatment of the Transaction" and "--Taxation of the Company" below.
In contrast to the tax treatment of the Partnerships, the Company is subject
to corporate income taxation. In addition, Shareholders will be taxed based on
the amount of distributions received from the Company. Each Shareholder will
receive a Form 1099-DIV reporting the amount of taxable and nontaxable
distributions paid to him or her during the preceding year. The extent to which
such distributions are taxable depends upon the amount of the Company's earnings
and profits. The character of distributions to the Shareholders is also not
dependant on its character to the Company and is generally characterized as
ordinary dividend income to the Shareholders. In addition, such income is
classified as portfolio income under the passive loss rules. Furthermore,
deductions and losses are not passed through to the Shareholders. See
"--Taxation of the Company" and "--Taxation of Shareholders" below.
TAX TREATMENT OF THE TRANSACTION
OVERVIEW. The Transaction will be consummated as described herein under the
laws of the State of Delaware. The Transaction shall be treated, for federal
income tax purposes, as (a) a contribution by both Cap Source I and Cap Source
II of their respective assets to the Company in exchange for Shares, Notes and
the assumption of any liabilities by the Company; and (b) the liquidation of the
Partnerships and the distribution of the Shares and Notes received in the
Transaction to the Investors.
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RECOGNITION OF GAIN OR LOSS AS A RESULT OF THE TRANSACTION. In general,
under Section 351 of the Code, no gain or loss is recognized as a result of a
contribution of property to a corporation, provided that immediately after the
exchange, the contributor is part of a group of contributors who own 80% or more
of each class of voting stock of the corporation and 80% of each other class of
stock. However, gain will be recognized by a contributor to the extent
liabilities on the contributed assets exceed the contributor's aggregate basis
in such assets. Similarly, if a contributor receives property other than stock,
such as the Notes, then gain but not loss on the transfer will be recognized to
the extent of the fair market value of such property.
In addition, Section 351 of the Code will not apply and gain or loss will be
recognized if property is transferred to an investment company. A transfer of
property will be considered to be a transfer to an investment company if the
transfer results directly or indirectly in the diversification of the
transferors' interests and the transferee is a regulated investment company, a
real estate investment trust or a corporation more than 80% of the value of the
assets of which are held for investment and are readily marketable stock or
securities. The Taxpayer Relief Act of 1997 (the "Tax Act") has changed the
definition of an investment company so that it includes certain corporations if
more than 80% of the value of their assets (the "80% Test") consists of, among
other things, readily marketable stock or securities, money, stocks and other
equity interests in corporations, evidences of indebtedness, publicly traded
partnership interests and interests in an entity if substantially all of the
assets of such entity are assets listed in this sentence (the "Listed Assets").
The legislative history of the Tax Act indicates that even though money is
treated as a Listed Asset, if pursuant to a plan, money contributed to a
corporation is used to acquire assets, other than Listed Assets, the 80% Test
will be applied immediately after such acquisition. In this regard, the General
Partners have represented that the cash to be contributed to Company will be
used to acquire assets, other than Listed Assets.
Regulations promulgated under Section 351 of the Code provide that where
there are two or more transferors in a Section 351 transaction, a transferor may
have taxable income in the event it receives stock with a value in excess of the
property contributed by it. Thus, a Partnership which receives Shares with a
fair market value in excess of the fair market value of the assets it
contributes to the Company, may recognize income in amounts equal to such
excess. Similarly, in the event the fair market values of the Notes and the
Shares are different from those anticipated by the Company, Investors of each
Partnership could recognize gain as a result of the Transaction.
The Company (a) does not expect that the liabilities of the Partnerships
will exceed their bases in their contributed assets; (b) expects that, in
addition to Shares, the Partnerships will receive, as a result of the
Transaction, Notes, Promissory Notes or cash which will be distributed to
Dissenting Investors or in certain circumstances Investors (see "THE NOTES");
(c) expects that more than 20% of the value of the assets of the Company,
(including for this purpose cash which pursuant to a plan will be invested as
described above) will be attributable to assets, other than Listed Assets; and
(d) expects that the value of the Shares each Partnership receives will not
exceed the value of its assets contributed to the Company. Based on the
foregoing, the Company expects that the Transaction will be treated as an
exchange subject to the nonrecognition provisions of Section 351 of the Code and
that gain will not be recognized except to the extent of the fair market value
of any Notes, Promissory Notes or cash received by the Partnerships.
The General Partners believe that in the event the maximum amount of Notes
are issued, the maximum amount of gain per Unit that would be realized by
Investors in Cap Source I and Cap Source II would be $5.12 and $2.20,
respectively. To the extent such gain is allocable to property which produces
passive income, it may be used to offset suspended passive activity losses.
An Investor who elects to receive Notes may be eligible to defer at least a
portion of any gain recognized as a result of the Merger under the "installment
sale" rules until principal on the Notes is paid. Those rules, however, may not
permit an Investor to defer all of the gain, and to the extent that the face
amount of the Notes held by such Investor outstanding at the end of the taxable
year (plus any other installment obligations received by the Investor during the
year) exceeds $5,000,000, will require that the Investor who defers gain pay to
the IRS interest on the resulting tax that has been deferred. The
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Partnerships, for instance, will not be eligible to defer gain to the extent
that such gain would be taxed as ordinary income under the depreciation
recapture provisions of the Code. Further, Investors who are members of Cap
Source I may be ineligible to defer gain, if any, recognized as a result of the
Merger under the provisions of Section 453(g) because the Company may be
considered a controlled entity with regard to Cap Source I. Lastly, if an
Investor disposes of his Notes, any gain that had been deferred would be
recognized in the year of disposition.
It should be noted that the Company will not request a ruling from the
Service that the Transaction will be subject to Section 351 of the Code and that
the Opinion is based in part on factual representations of the Company. In
addition, there is little guidance regarding the interpretation of the foregoing
provisions of the Tax Act. Further, the valuation of the assets of the
Partnerships is subject to uncertainty. As a result, there can be no assurance
that the Service will concur with the conclusions set forth herein.
FORMATION OF THE COMPANY. As discussed above, pursuant to the provisions of
Section 351 of the Code, the Company expects that the Partnerships will not
recognize gain or loss as a result of the contribution of assets in exchange for
Shares, except to the extent of the fair market value of any Notes, Promissory
Notes or Cash received. Each Investor would be required to include in income a
share of such gain even if such Investor did not vote in favor of the
Transaction. The Company does not expect to distribute cash to Investors which
would correspond to the income recognized as a result of the issuance of the
Notes. See "RISK FACTORS--Risks Associated with the Transaction--CERTAIN FEDERAL
INCOME TAX RISKS."
Any gain or loss recognized as a result of the Transaction would pass
through the Partnerships and be recognized by the Investors as capital gain or
losses, except for any portion of gain attributable to the Partnerships'
recapture amounts. In general, an individual may only use up to $3,000 of
capital loss in excess of capital gains to offset ordinary income in any taxable
year. The amount of any such gain recognized by an Investor would result in an
increase in his adjusted basis in his Units and a corresponding increase in the
adjusted basis of his Shares.
The basis of the Company in assets acquired from the Partnerships will equal
the Partnerships' bases in such assets immediately prior to the Transaction plus
any gain recognized as a result of the Transaction. The Company's holding period
for assets contributed by the Partnership will include the period during which
such assets were held by the Partnerships.
LIQUIDATION AND TERMINATION OF THE PARTNERSHIPS. Upon receipt of the Shares
pursuant to the Transaction, the Partnerships will liquidate and distribute to
the Investors the Shares. The taxable year for the Partnerships will end at such
time and the Investors must report, in the taxable year of the Transaction,
their respective share of all income, gain, loss, deduction and credit from the
Partnerships including, if any, their allocable share of gain or loss resulting
from the Transaction. An Investor whose taxable year differs from that of the
Partnership in which he holds Units may have bunching of income from such
Partnership because of the foregoing short taxable year.
As a general matter, a partner will recognize gain as a result of the
liquidation of a partnership only to the extent the amount of distributed cash
exceeds the basis of his or her partnership interest. However, for this purpose,
certain marketable securities are treated as if they were cash. This provision
will not apply to marketable securities received in a nonrecognition transaction
if: (i) the value of the marketable securities and cash exchanged by the
partnership in the nonrecognition transaction is less than 20% of all its assets
transferred in such exchange; and (ii) the partnership distributes the
marketable securities acquired in the nonrecognition transaction within five
years of their acquisition. Consequently, the General Partners do not expect
that the Investors will recognize gain or loss as a result of this provision.
Pursuant to the terms of their respective Partnership Agreements, upon
liquidation of the Partnerships, the General Partners are obligated to restore
any remaining deficient balances in their Capital Account. In addition, each
General Partner will receive 1% of the total number of Shares to be issued in
the Transaction. The remaining deficit balances of the General Partners' Capital
Accounts, are not expected to be material and in that event will be disregarded
in distributing Shares in liquidation of the Partnerships.
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TAXATION OF THE COMPANY
The Company will be characterized as a corporation for federal income tax
purposes. The Company's income and gains are subject to federal corporate income
taxation and do not pass through to the Shareholders. In addition, all items of
losses, deductions and credits resulting from a Company's operations must be
used to offset its income and, thus, are not passed through to the Shareholders.
There is no deduction for dividends paid by the Company. See "--Certain Tax
Differences Between the Ownership of Units and the Shares".
The Company's income will be subject to two levels of taxation because a
corporate level tax is imposed on the Company's taxable income and the
Shareholders are taxed on dividends from the Company. See "--Taxation of
Shareholders--DISTRIBUTIONS."
TAXATION OF SHAREHOLDERS
DISTRIBUTIONS. Distributions by the Company to Shareholders will be
characterized as dividends and taken into account by Shareholders as ordinary
income to the extent distributions are paid from the Company's current and
accumulated earnings and profits. Distributions in excess of current and
accumulated earnings and profits will not be taxable to a Shareholder to the
extent that the distributions do not exceed the recipient Shareholder's adjusted
basis in his or her Shares, but rather will reduce their adjusted basis therein.
To the extent such distributions exceed the adjusted basis of a Shareholder's
Shares, the distribution will be included in income as long-term capital gain
assuming the Shares are a capital asset in the hands of the Shareholder and have
been held for more than twelve months. The Company expects that all
distributions will be made from current or accumulated earnings and profits.
Therefore, the Company's distributions should be characterized as dividends and
be taken into account by Shareholders as ordinary income. Shareholders which are
corporations may be entitled to exclude from gross income a portion of any
dividends received with respect to the Shares.
BACKUP WITHHOLDING FOR SHAREHOLDERS. The Company will report to its
Shareholders and the Service the amount of dividends paid during each calendar
year and the amount of tax withheld, if any, with respect thereto. Under the
backup withholding rules, a Shareholder may be subject to backup withholding at
the rate of 31% with respect to dividends paid unless such Shareholder (a) is a
corporation or comes within certain exempt categories and, when required,
demonstrates this fact, or (b) provides a taxpayer identification number,
certifies as to no loss of exemption from backup withholding, and otherwise
complies with applicable requirements of the backup withholding rules. A
Shareholder who does not provide the Company with its correct taxpayer
identification number may also be subject to penalties imposed by the Service.
Any amount paid as backup withholding will be creditable against the
Shareholder's income tax liability.
PASSIVE INCOME AND LOSSES. Section 469 of the Code provides that losses or
deductions from passive trade or business activities in excess of income from
all such passive activities may not be deducted against wages, salaries or
portfolio income. Similarly, credits from passive activities are limited to the
tax allocable to such passive activities. Suspended losses and credits may be
carried forward and treated as deductions and credits from passive trade or
business activities in succeeding taxable years. Suspended losses are allowed in
full when the taxpayer disposes of his entire interest in the passive activity
in a taxable transaction to an unrelated party.
Portfolio income, in general, includes interest, dividends, annuities and
royalties. Generally, portfolio income and the expenses which are clearly,
directly and properly allocable to such portfolio income are not treated as
income or expense from passive activity. Therefore, the passive losses or
deductions may not be applied to offset portfolio income.
Dividends of a corporation will be treated as portfolio income and will not
be available to offset passive losses from any other source. The Company will be
characterized as a corporation for federal income tax purposes. Consequently,
dividends received by Shareholders will be characterized as portfolio income and
will not be available to offset passive losses from other sources.
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GAIN OR LOSS ON THE SALE OF SHARES. The Tax Act increased the holding
period required to receive long term capital gains treatment on the sale or
exchange of capital assets. In order to receive long term capital gains rates
the Tax Act required an individual must hold capital assets for 18 months.
However, the Internal Revenue Service Restructuring and Reform Act of 1998
subsequently reduced the holding period to 12 months for sales of capital assets
made after December 31, 1997. In addition, the Tax Act reduced the maximum
long-term capital gains rate from 28% to 20%. However, an 18% maximum long-term
capital gains rate will apply to capital assets held for more than five years
beginning after December 31, 2000. In general, an individual may only use up to
$3,000 of capital loss in excess of capital gains to offset ordinary income,
such as wages and interest income, in any taxable year. Assuming that a
Shareholder holds Shares as a capital asset, the sale of Shares will result in
either capital gain or loss and be subject to the foregoing rules.
INVESTMENT INTEREST. Investment interest (i.e., interest paid or accrued on
indebtedness incurred or continued to purchase or carry property held for
investment) is deductible by non-corporate taxpayers only to the extent it does
not exceed "net investment income" (i.e., investment income less investment
expenses). Investment interest which is not allowable as a deduction in one year
pursuant to this limitation may be carried over to subsequent years within
certain limits. Investors who borrowed to finance the purchase of their Units
should be aware that interest on such borrowing may constitute investment
interest and would therefore be subject to the above-described limitations
before and after the Transaction.
TAXATION OF NON-U.S. SHAREHOLDERS
GENERAL. The following is a general discussion of certain federal income
tax consequences of the ownership and disposition of Shares by a Shareholder who
is not a United States person (a "Non-U.S. Shareholder"). For this purpose, the
term "United States person" is defined as any person who is a citizen or
resident of the United States, a corporation or a partnership or other entity
created or organized in the United States or under the laws of the United States
or of any state, or an estate or trust whose income is includible in gross
income for federal income tax purposes regardless of source. The rules governing
the federal income taxation of Non-U.S. Shareholders are complex, and no attempt
will be made herein to provide more than a limited summary of such rules. Each
Investor that may be characterized as a Non-U.S. Shareholder is advised to
consult a tax advisor with respect to current and possible future federal income
and federal estate tax consequences of acquiring, holding and disposing of
Shares as well as any other tax consequences that may arise under the laws of
any U.S. state, municipality or other taxing jurisdiction including any
information reporting and withholding requirements associated with the
foregoing.
An individual may, subject to certain exceptions, be deemed to be a resident
alien (as opposed to a non-resident alien) by virtue of being present in the
United States for at least 31 days in the calendar year and for an aggregate of
at least 183 days during the three-year period ending in the current calendar
year (counting for such purposes all of the days present in the current year,
one-third of the days present in the immediately preceding year, and one-sixth
of the days present in the second preceding year) (a "Resident Alien"). Resident
Aliens are subject to federal income tax as if they were U.S. citizens.
In general, Non-U.S. Shareholders will be subject to regular federal income
taxation with respect to holding their Shares in the same manner as a U.S.
Shareholder (i.e., at graduated rates on a net basis after deductions) if the
holding of such Shares is "effectively connected" with the conduct of a trade or
business in the United States by such Non-U.S. Shareholder. A Non-U.S.
Shareholder that is a corporation and that receives income with respect to its
investment in Shares that is "effectively connected" with the conduct of a trade
or business in the United States may also be subject to the 30% branch profits
tax imposed under Section 884 of the Code, which is payable in addition to the
regular federal corporate income tax. The following discussion addresses only
the federal income taxation of Non-U.S. Shareholders whose holding of Shares is
not "effectively connected" with the conduct of a trade or business in the
United States. Investors who may be characterized as Non-U.S. Shareholders and
whose holding of Shares may be "effectively connected" with the conduct of a
United States trade or business should consult their own tax advisors as to the
federal income and other tax consequences associated therewith.
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DISTRIBUTIONS. The Company expects to make quarterly dividend
distributions. See "THE COMPANY--Dividend Policy." To the extent distributions
of the Company are deemed to be dividends, such dividends paid to Non-U.S.
Shareholders will be subject to withholding of federal income tax on a gross
basis at a 30% rate or such lower rate as may be specified by an applicable
income tax treaty.
Under current Regulations, dividends paid to an address outside the United
States are presumed to be paid to a resident of such country for purposes of the
withholding discussed above (unless the payor has knowledge to the contrary).
Under proposed Regulations not currently in effect, however, a Non-U.S.
Shareholder who wishes to claim the benefit of an applicable treaty rate would
be required to satisfy applicable certification and other requirements. A
Non-U.S. Shareholder eligible for a reduced rate of withholding tax pursuant to
an income tax treaty may obtain a refund of any excess amounts withheld by
filing an appropriate claim for refund with the Service.
GAIN OR LOSS ON SALE OF SHARES. A Non-U.S. Shareholder generally will not
be subject to federal income tax with respect to gain recognized on a sale or
other disposition of Shares unless: (a)(i) the gain is effectively connected
with the conduct of a trade or business in the United States by the Non-U.S.
Shareholder or (ii) if a treaty applies, the gain is attributable to a United
States permanent establishment of the Non-U.S. Shareholder; (b) in the case of a
Non-U.S. Shareholder who is an individual and holds the Shares as a capital
asset, such Shareholder is present in the United States for 183 or more days in
the taxable year of the sale or other disposition and certain other conditions
are met; (c) the Shares are characterized as United States real property
interests ("USRPIs") for federal income tax purposes; or (d) the Non-U.S.
Shareholder is subject to tax pursuant to certain provisions of the Code
applicable to expatriates.
If any class of stock of a corporation is regularly traded on an established
securities market, stock of such class shall be treated as a USRPI only in the
case of a person or entity who, at some time during the shorter of five years or
the period such person or entity held such stock, held more than 5% of such
stock. The Company believes that the Shares likely will qualify as being
regularly traded on an established securities market. Therefore, the Company
expects that the Shares will not be characterized as USRPIs except with respect
to any Non-U.S. Shareholder who acquires more than 5% of the Shares.
If an individual Non-U.S. Shareholder falls under clause (b) above, such
individual generally will be subject to a flat 30% tax on the gain derived from
a sale, which may be offset by certain United States capital losses
(notwithstanding the fact that such individual is not considered a Resident
Alien). Thus, Non-U.S. Shareholders who fall or expect to fall in clause (b)
above in the taxable year in which they contemplate a sale of Shares are urged
to consult their tax advisors as to the tax consequences of such sale.
INFORMATION REPORTING AND BACKUP WITHHOLDING TAX. The Company must report
annually to the Service and to each Non-U.S. Shareholder the amount of dividends
paid to such Shareholder and the tax withheld with respect to such dividends.
These information reporting requirements apply even if withholding was not
required because the dividends were effectively connected with the conduct of a
trade or business in the United States by the Non-U.S. Shareholder or
withholding was reduced by an applicable income tax treaty. Copies of the
information returns reporting such dividends and withholding may be made
available to the tax authorities in the country in which the Non-U.S.
Shareholder resides or is established under the provisions of an applicable
income tax treaty or agreement.
United States backup withholding (see "--Taxation of Shareholders--BACKUP
WITHHOLDING FOR SHAREHOLDERS") generally will not apply to dividends paid to
Non-U.S. Shareholders that are either subject to the 30% withholding discussed
above or subject to withholding at a reduced treaty rate.
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TAX ISSUES ASSOCIATED WITH NOTES
STATED INTEREST. Under general federal income tax principles, holders of
Notes must include stated interest in income in accordance with their method of
tax accounting. Accordingly, holders of Notes using the accrual method of tax
accounting must include stated interest in income as it accrues and holders of
Notes using the cash method of tax accounting must include stated interest in
income as it is actually or constructively received.
Payments of interest to taxable holders of Notes will constitute portfolio
income for purposes of Section 469 of the Code and not passive activity income.
Accordingly, such income will not be subject to reduction by losses from passive
activities (e.g., any interest in a trade or business held as a limited partner
in which the holders of Notes do not materially participate) of holders of Notes
who are subject to the passive activity loss rules. However, income attributable
to interest payments may be offset by investment expense deductions, subject to
the limitation that individual investors may only deduct miscellaneous itemized
deductions (including investment expenses) to the extent such deductions exceed
two percent of the investor's adjusted gross income.
ORIGINAL ISSUE DISCOUNT. Original issue discount is generally defined as
the excess of a debt instrument's stated redemption price at maturity over its
issue price, subject to a statutorily-defined DE MINIMIS exception (generally,
one-quarter of 1% of the debt instrument's stated redemption price at maturity
multiplied by the number of complete years to maturity from its issue date). The
"stated redemption price at maturity" of a debt instrument is generally the sum
of the debt instrument's stated principal amount plus all other payments
required thereunder, other than payments of "qualified stated interest"
(generally, stated interest that is unconditionally payable in cash or in
property at least annually at a single fixed rate). The "issue price" of a debt
instrument, that is not part of an issue of which a substantial part is sold for
money and is traded on an established securities market, is its fair market
value when issued, or in the case of such a debt instrument that is not so
traded, either (a) its stated principal amount, if the debt instrument provides
for "adequate stated interest" (generally, interest at the applicable federal
rate for the month of issuance) or (b) its "imputed principal amount"
(generally, the sum of the present value of all payments due under the debt
instrument, discounted at the applicable federal rate), if the debt instrument
does not provide for "adequate stated interest."
The Regulations set forth special rules applicable to debt instruments
providing for variable rates of interest. In general, if a debt instrument
providing for variable rates of interest qualifies as a variable rate debt
instrument, then the debt instrument would generally not be treated as issued
with original issue discount unless the debt instrument is issued at a price
below the debt instrument's stated principal amount, subject to the statutorily
defined DE MINIMIS amount. A debt instrument will qualify as a variable rate
debt instrument under the Regulations if (a) the issue price of the debt
instrument does not exceed the total noncontingent principal payments by more
than a specified amount, (b) the debt instrument provides for stated interest,
paid or compounded at least annually, at current values of (i) one or more
qualified floating rates, (ii) a single fixed rate and one or more qualified
floating rates, (iii) a single objective rate, or (iv) a single fixed rate and a
single objective rate that is a qualified inverse floating rate. A qualified
floating rate is any floating rate where variations in such rate can reasonably
be expected to measure contemporaneous variations in the cost of newly borrowed
funds, including certain rates based on a qualified floating rate. An objective
rate is a rate that is not itself a qualified floating rate but which is
determined using a single formula that is fixed throughout the term of the debt
instrument and which is (A) based upon one or more qualified floating rates, (B)
based upon one or more rates where each rate would be a qualified floating rate
for a debt instrument denominated in a currency other than the currency in which
the debt instrument is denominated, (C) based upon the price of certain types of
actively traded personal property, or (D) a combination of (A), (B) or (C).
The Company believes that the variable rates of interest on the Notes will
be treated as providing for stated interest, paid at least annually, at one or
more qualified floating rates and that, as a result, the Notes
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should qualify as variable rate debt instruments under the Regulations.
Accordingly, the Notes are not expected to be issued with original issue
discount.
Alternatively, if the Notes qualify as variable rate debt instruments under
the Regulations but the fair market value of the Notes is less than their stated
principal amount by more than the statutorily-defined DE MINIMIS amount, then
the Notes would be issued with original issue discount. In such case, the
holders of Notes would be required to include in gross income on a constant
yield to maturity basis the sum of the daily portions of original issue discount
for the period during the taxable year the holders of Notes held the Notes even
through the holders of Notes may not receive a payment representing the original
issue discount in such year. Any amount or original issue discount included in
income would increase a holders of Notes' tax basis in the Notes.
In addition, if, contrary to the Company's expectations, the Notes do not
qualify as variable rate debt instruments under the Regulations, then the Notes
may be subject to certain contingent payment provisions of the Regulations. In
this event, Noteholders would generally be required to include stated interest
on the Notes in income in the taxable year in which the amount of the interest
payments become fixed, regardless of their method of tax accounting.
BOND PREMIUM AND MARKET DISCOUNT. Holders of Notes should have a basis in
the Notes received in liquidation of their interests in a Partnership equal to
the adjusted basis in their Units, which may be more or less than the face
amount of Notes received. As a result, holders of Notes may have bond premium or
market discount with respect to the Notes.
If the Noteholders' initial adjusted basis in the Notes or their fair market
value immediately after the Transaction, whichever is lower, exceeds the amount
payable at maturity of such Notes (or in certain cases, on an earlier call
date), the Noteholders may be able to elect to deduct such excess using a
constant yield method over the remaining term of the Notes as amortizable bond
premium under Section 171 of the Code provided the Notes are held as a capital
asset. Except as provided in the Regulations, the amortizable bond premium will
be treated as an offset to interest income on the Notes rather than as a
separate deduction item. An election under Code Section 171 generally is binding
once made and applies to all obligations owned or subsequently acquired by the
taxpayer.
The market discount provisions of the Code generally provide that, subject
to a statutorily-defined DE MINIMIS exception, if a holder of a debt instrument
acquires it at a market discount and thereafter recognizes gain on a disposition
of the debt instrument (including a gift), the lesser of such gain or the
portion of the market discount that accrued while the debt instrument was held
by such holder will be treated as ordinary interest income at the time of the
disposition. For this purpose, in the case of a debt instrument not issued with
original issue discount, an acquisition at a market discount includes an
acquisition, other than an acquisition at original issuance, resulting in a
basis in the debt instrument below the debt instrument's stated redemption price
at maturity. The market discount rules also provide that a holder who acquires a
debt instrument at a market discount (and who does not elect to include such
market discount in income on a current basis) may be required to defer a portion
of any interest incurred or maintained to purchase or carry such debt instrument
until the holder disposes of the debt instrument in a taxable transaction.
The Notes provide that they may be redeemed, in whole or in part, before
maturity. If some or all of the Note are redeemed, each holder of a Note
acquired at a market discount would be required to treat the principal payment
as ordinary interest income to the extent of any accrued market discount on such
Notes.
A holder of a debt instrument may elect to have market discount accrue on a
constant interest rate basis (as opposed to a straight line basis). The current
inclusion election, once made, applies to all market discount obligations
acquired by such holder on or after the first day of the first taxable year to
which the election applies and may not be revoked without the consent of the
Service. If a Noteholder elects to
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include market discount in income in accordance with the preceding sentence, the
foregoing rules with respect to the recognition of ordinary income on a sale or
certain other dispositions of a Note and the deferral of interest deduction on
indebtedness related to such Note will not apply.
DISPOSITION OF NOTES. In general, a holder of Notes will recognize gain or
loss upon the sale, exchange, redemption or other taxable disposition of a Note
measured by the difference between (a) the amount of cash and the fair market
value of property received (except, for cash method taxpayers, to the extent
attributable to the payment of accrued interest) and (b) such holder's adjusted
basis in the Note (as increased by any original issue discount or market
discount previously included in income by such holder and decreased by any cash
payments received, other than payments constituting qualified stated interest,
and any amortizable bond premium deducted over the term of the Note). Subject to
the market discount and bond premium rules discussed above, any such gain or
loss will generally be long-term capital gain or loss, provided the Note was a
capital asset in the hands of the holder and was held for more than one year.
CONSIDERATIONS FOR TAX-EXEMPT SHAREHOLDERS
Shareholders that are tax-exempt entities, including charitable
corporations, pension, profit sharing or stock bonus plans, Keogh Plans,
Individual Retirement Accounts and certain other employee benefit plans are
subject to federal income tax on unrelated business taxable income (i.e., net
income derived from the conduct of a trade or business regularly carried on by a
tax-exempt entity or by a partnership in which it is a partner). A $1,000
special deduction is allowed in determining the amount of unrelated business
taxable income subject to tax. Tax-exempt entities taxed on their unrelated
business taxable income are also subject to the alternative minimum tax for
items of tax preference which enter into the computation of unrelated business
taxable income. Dividends are generally deemed not to constitute unrelated
business taxable income. Therefore, dividends received by tax-exempt
Shareholders should not constitute unrelated business taxable income. However,
unrelated business taxable income may arise from dividends from "debt-financed
property," which may result when a tax-exempt Shareholder incurs debt in
connection with the acquisition of Shares or its Shares are subject to debt
previously incurred in connection with the acquisition of Units.
GENERAL PARTNER LIABILITIES
Three Cap Source I Operating Partnerships currently have certain contingent
liabilities which might in the future become payable to their respective General
Partners which are affiliates of America First Companies. The contingent
liabilities consist of:
(a) property development and management fees;
(b) asset management and partnership administration fees; and
(c) operating deficit and construction loans.
The affiliates of America First Companies have agreed that the noted
liabilities should be waived if the Transaction is completed. The General
Partners believe that the forgiveness of these liabilities should not give rise
to any material amount of discharge of indebtedness income for federal income
tax purposes because of certain conditions precedent to their payment. If the
forgiveness of these liabilities were characterized as discharge of indebtedness
income, however, the Partnerships and the Operating Partnerships would be
required to recognize corresponding amounts of income. If such income were
recognized, no additional funds would be received by the Partnerships and
distributed to the Unitholders.
TERMINATION OF TRADE PROCESSING
In the event the General Partners have reason to believe that a requested
sale, transfer or assignment of Units would cause Cap Source I or Cap Source II
to be characterized as a publicly traded partnership for federal income tax
purposes, the General Partners will, pursuant to their powers under Section 5.09
of the Partnership Agreement, refuse to process such requested sale, transfer or
assignment unless the
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General Partners receive an unqualified opinion of Counsel to the effect that
such sale, transfer or assignment of Units, in conjunction with all other
reasonably expected sales, transfers or assignments of Units, would not cause
the Partnership to be characterized as a publicly traded partnership for federal
income tax purposes. Neither the General Partner nor the Partnership may be held
liable for any losses resulting to a holder of Units or a purchaser of Units as
a result of a requested sale, transfer or assignment of Units not being
processed due to these limitations.
The foregoing restrictions are intended to prevent the trading volume of
Units from reaching a level that would cause the Partnership to be characterized
as a publicly traded partnership under Section 7704 of the Code. In the event
the Partnership were characterized as a publicly traded partnership, the
Partnership could be subject to entity level taxation. In such event, amounts
otherwise distributable to holders of Units would be used to satisfy federal
income tax liabilities of the Partnership and, thus, amounts received by holders
of Units would be less than anticipated.
EMPLOYEE RETIREMENT INCOME SECURITY ACT
The Employee Retirement Income Security Act of 1974, as amended ("ERISA")
applies to investments by pension, profit sharing, stock bonus, Keogh and other
employee benefit plans, and by IRAs (collectively referred to as "Benefit
Plans"). ERISA does not prohibit Benefit Plans from investing in any specific
type of investment but does require that plan fiduciaries give appropriate
consideration to the facts and circumstances relevant to a particular
investment, including whether the investment is reasonably designed, as part of
the investment portfolio, to further the purposes of the Benefit Plan, taking
into consideration risk of loss and opportunity for gain. ERISA also requires
fiduciaries to take into account factors such as composition of the portfolio
with regard to diversification, liquidity, current return relative to
anticipated cash flow requirements and projected return relative to funding
objectives, and the need to value plan assets annually. ERISA prohibits certain
transactions between a Benefit Plan and a "party in interest" as defined by
ERISA. Section 4975 of the Code imposes a 5% excise tax on any fiduciary or
"disqualified person" (as defined therein) who engages in certain transactions
similar to those transactions prohibited under ERISA. The excise tax may
increase to 100% if violations are not timely corrected after notice. A
corporation, such as the Company, will be subject to the foregoing rules
restrictions and penalties if its assets are deemed to be the assets of a
Benefit Plan under ERISA. Whether or not assets of the Company will be deemed to
be assets of a Benefit Plan for purposes of ERISA or Section 4975 of the Code
will be determined in accordance with the "plan asset" regulations discussed
below. It should be noted that Benefit Plan fiduciaries should carefully
consider whether an investment in the Company is consistent with their
responsibilities under ERISA.
Under the Department of Labor plan assets regulations, the assets of a
pooled investment vehicle, the definition of which may include the Company, will
not be plan assets of a Benefit Plan for ERISA purposes (and will not be subject
to requirements regarding fiduciary responsibility and the holding of plan
assets in trust) if the issuer is an "operating company" (i.e., "an entity that
is primarily engaged in the production or sale of a product or service other
than the investment of capital") or if equity participation in the entity by
Benefit Plans is not significant (i.e., less than 25% of the value of any class
of equity interests in an entity is held by Benefit Plan investors). The Company
believes that it may be an operating company and anticipates that ownership of
Shares by Benefit Plans will be less than 25%. There can be no absolute
assurance, however, that the Company will meet the operating company exception
or 25% test.
Alternatively, the plan assets regulations further provide that assets of a
corporation will not be treated as plan assets if equity interests in such
corporation are "publicly offered securities" (i.e., a security that is widely
held, freely transferable, not offered primarily to tax-exempt limited partners,
either registered under the Exchange Act or sold pursuant to a registration
statement under the Securities Act and the class of securities is registered
under the Exchange Act within 120 days after the end of the issuer's fiscal year
during which the public offering occurred). In general, the regulations provide
that securities are "widely held" only if they are part of a class of securities
purchased and held by 100 or more persons who are independent of the issuer and
of one another. The Company expects that (a) it will have significantly
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more than 100 Shareholders independent from it and one another; (b) the Shares
will not be offered primarily to tax-exempt investors; (c) the Shares will be
freely transferrable; (d) the Shares are being offered pursuant to a
registration statement under the Securities Act; and (e) the Company will be
registered under Section 12(g) of the Exchange Act within the applicable period
because it will have more than 500 Shareholders and total assets exceeding
$5,000,000. Based on these facts, the Company believes that the Shares satisfy
all criteria for the "publicly offered securities exception." Accordingly, based
on all the facts and circumstances described above, the Shares will be
characterized as "publicly offered securities" and the assets of the Company
will not be plan assets for ERISA purposes.
INDEPENDENT PUBLIC ACCOUNTANTS
The financial statements of the Partnerships as of December 31, 1997 and
1996 and for each of the years in the three year period ended December 31, 1997
and the Company as of October 23, 1998 have been included in the
Prospectus/Consent Solicitation Statement in reliance upon the report of KPMG
Peat Marwick LLP, independent certified public accountants appearing elsewhere
herein, and upon the authority of said firm as experts in accounting and
auditing. The reports of KPMG Peat Marwick LLP covering the December 31, 1997
financial statements contain an explanatory paragraph referring to the
restatement of the financial statements to reflect investments made by the
Partnerships in Operating Partnerships on the equity method of accounting. Such
investments had previously been consolidated by the Partnerships.
LEGAL MATTERS
Kutak Rock, a national law firm, has delivered an opinion to the effect that
the Shares offered by this Prospectus/Consent Solicitation Statement will be
validly issued, and that the Notes offered by this Prospectus/Consent
Solicitation Statement will be binding obligations of the Company. Kutak Rock
has relied on Richards, Layton & Finger as to certain matters of Delaware law.
In addition, Kutak Rock has delivered an opinion to the effect that the
discussion under "FEDERAL INCOME TAX CONSEQUENCES" fairly summarizes all of the
material federal income tax considerations for a holder of Units who exchanges
such Units for Shares or Notes. Kutak Rock has previously performed certain
legal services on behalf of the Partnerships, the General Partners, the Company
and their Affiliates.
The opinions of Kutak Rock are not attached as appendices to this
Prospectus/Consent Solicitation Statement; however, upon receipt of a written
request by an Investor or representative so designated in writing, a copy of
such opinions will be sent by the General Partners. All requests should be
directed to America First Investor Services Department, Suite 400, 1004 Farnam
Street, Omaha, Nebraska, 68102.
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GLOSSARY
Certain capitalized terms used in this Prospectus/Consent Solicitation
Statement shall have the following meanings unless the context otherwise
requires.
"ACMS" means asbestos-containing materials.
"ACQUISITION FEE" means an amount equal to 1% of the increase in the
Company's actual investment in all New Assets including any costs related to the
acquisition or financing of New Assets but excluding debt which is incurred or
assumed in connection therewith, payable by the Company to the Advisor on a
monthly basis as provided in the Advisory Agreement.
"ADA" means the Americans with Disabilities Act, as amended.
"ADJUSTED NEW ASSET VALUE" means, with respect to each individual New Asset
owned by the Company, the Beginning New Asset Value increased by additional
investments in such New Asset (which investments may be made from any
borrowings, additional equity or any other source available to the Company) and
decreased by Returns of Capital; provided, however, this Value shall not be
decreased below zero by Returns of Capital; provided, further, if, after the
final sale of a New Asset, the Adjusted New Asset Value is greater than zero,
such value shall be zero.
"ADJUSTED ORIGINAL ASSET VALUE" means, with respect to each individual
Original Asset owned by the Company, (i) for each Equity Interest in an
Operating Partnership, the amount set forth in Exhibit A to the Advisory
Agreement which represents an equity interest in an Operating Partnership
reduced to zero upon the sale or redesignation as a New Asset of such asset or
(ii) for each GNMA as set forth in Exhibit A to the Advisory Agreement, the
aggregate outstanding principal amount of such GNMA decreased by (A) borrowings
which are directly or indirectly secured by such GNMA and (B) principal
repayments with respect to such GNMA.
"ADVISOR" means America First Real Estate Advisors LLC, a Delaware limited
liability company.
"ADVISORY AGREEMENT" means the agreement between the Company and the Advisor
whereby the Advisor is to manage the assets of the Company as directed by the
Board of Directors of the Company.
"ADVISOR FEES" means the Acquisition Fee, Asset Management Fee and Incentive
Fee on New Assets as set forth in the Advisory Agreement.
"AFFILIATE" means, with respect to a Person, or any other Person directly or
indirectly controlling, controlled by or under common control with such Person,
or any other Person owning or controlling 10% or more of the outstanding voting
securities of such Person.
"AMERICA FIRST COMPANIES" means America First Companies L.L.C., a Delaware
limited liability company.
"APPRAISALS" means the independent appraisals of the real estate assets of
each of the Operating Partnerships prepared by Valuation Research to show the
fair market value of such assets as of December 31, 1997.
"APPROVAL DATE" means , 1998, which is the date by which each
Investor must inform the General Partners as to whether the Investor wishes to
vote in favor of or against the Transaction, and the date on which the vote of
the Investors will be tabulated, unless extended.
"ASSET MANAGEMENT FEE" means an amount equal to .475% on an annual basis, of
the Company's Total Assets, calculated as of the last day of each month, payable
by the Company to the Advisor each month in arrears.
"BEGINNING NEW ASSET VALUE" means with respect to each individual New Asset
owned by the Company, (a) with respect to any asset directly owned by the
Company, the total consideration paid by the Company
146
<PAGE>
for such asset, including all payments made in respect of equity and all debt
incurred or assumed with respect to such asset, plus any costs related to the
acquisition or financing of such asset or (b) with respect to any asset
indirectly owned by the Company through an interest in a joint venture,
partnership or similar entity, the total consideration paid by the Company for
such interest, including all payments in respect of such interest and all debt
incurred, assumed or allocated with respect to such interest, plus any costs
related to the acquisition or financing of such interest.
"BRINGDOWN FAIRNESS OPINION" means the written confirmatory opinion rendered
by Sutro & Co. regarding the fairness of the Transaction.
"BYLAWS" means the Bylaws of the Company, as in effect from time to time.
"CAPITAL GAIN" means with respect to each individual New Asset owned by the
Company, the excess, if any, of (i) the net proceeds, net of all closing costs
(including without limitation any real estate or selling commissions), but
without deduction for any applicable mortgage indebtedness, from any partial
sale or a whole sale received by the Company upon the sale of a New Asset over
(ii) the Adjusted New Asset Value of such New Asset prior to such sale.
"CAPITAL LOSS" means with respect to each individual New Asset owned by the
Company, the deficit, if any, upon the occurrence of final sale of such Asset of
(i) the net proceeds, net of all closing costs (including without limitation any
real estate or selling commissions), but without deduction for any applicable
mortgage indebtedness, from any partial sale or a whole sale received by the
Company upon the sale of a New Asset over (ii) the Adjusted New Asset Value of
such New Asset prior to such sale.
"CAP SOURCE I" means Capital Source L.P., a Delaware limited partnership.
"CAP SOURCE I GENERAL PARTNERS" means Insured Mortgage Equities Inc. and
America First Capital Source I, L.L.C.
"CAP SOURCE I MORTGAGE SECURITIES" means securities relating to federally
insured mortgages on multifamily housing properties owned by Cap Source I.
"CAP SOURCE I OPERATING PARTNERSHIPS" means Bluff Ridge Associates Limited
Partnership, Waters Edge Limited Partnership, Interstate Limited Partnership
(a/k/a Highland Park), Cypress Landings II, Ltd. (a/k/a Misty Springs), Oyster
Cove Limited Partnership (a/k/a Waterman's Crossing), Fox Hollow, Ltd. and Ponds
at Georgetown Limited Partnership.
"CAP SOURCE I PARTNERSHIP EQUITY INTERESTS" means the limited partnership
interests in the Cap Source I Operating Partnerships.
"CAP SOURCE I SPECIAL LIMITED PARTNER" means CS Properties I, Inc.
"CAP SOURCE II" means Capital Source II L.P.-A, a Delaware limited
partnership.
"CAP SOURCE II GENERAL PARTNERS" means Insured Mortgage Equities II L.P. and
America First Capital Source II, L.L.C.
"CAP SOURCE II MORTGAGE SECURITIES" means the federally insured mortgages on
multifamily housing properties owned by Cap Source II.
"CAP SOURCE II OPERATING PARTNERSHIPS" means Crane's Landing Partners, Ltd.,
Delta Crossing Limited Partnership, Centrum Monticello Limited Partnership and
Ponds at Georgetown Limited Partnership.
"CAP SOURCE II PARTNERSHIP EQUITY INTERESTS" means the limited partnership
interests in the Cap Source II Operating Partnerships.
"CAP SOURCE II SPECIAL LIMITED PARTNER" means CS Properties II, Inc.
"CASH" means cash and cash equivalents and amounts invested on a short-term
basis by the Company.
147
<PAGE>
"CERTIFICATE OF INCORPORATION" means the Second Amended and Restated
Certificate of Incorporation of the Company, as amended from time to time.
"CERTIFICATE OF MERGER" means the Certificate of Merger to be filed with the
Delaware Secretary of State with respect to the merger of the Partnerships, the
General Partners and the Company under the terms and conditions set forth in the
Merger Agreement.
"CODE" means the Internal Revenue Code of 1986, as amended, including
successor statutes thereto.
"COMMISSION" means the United States Securities and Exchange Commission,
also sometimes referred to as the "SEC."
"COMMON STOCK" means the $.001 par value common stock of the Company.
"COMPANY" means America First Real Estate Investment Company, Inc., a newly
organized Delaware corporation.
"CONSENT CARD" means the consent card accompanying the Prospectus/Consent
Solicitation Statement which includes a ballot on which the Investor may vote in
favor of or against his Partnerships's participation in the Transaction or
abstain from voting with respect thereto.
"CONSENTING INVESTORS" means Investors who vote "YES" in favor of the
Transaction.
"COUNSEL" means Kutak Rock, a partnership including professional
corporations, which has served as counsel to the Company in the preparation of
the Transaction.
"DELAWARE GCL" means the Delaware General Corporation Law, as may be amended
from time to time.
"DELAWARE PARTNERSHIP LAW" means the Delaware Revised Uniform Limited
Partnership Act, as may be amended from time to time.
"DESIGNATED ASSETS" means assets of the Company which were owned by a
Partnership prior to the Transaction.
"DISSENTING INVESTOR" means an Investor who votes "NO" against the
Transaction.
"EFFECTIVE DATE" means the time at which the Partnerships will be merged
with and into the Company in accordance with the Merger Agreement and the
Transaction will be consummated.
"ERISA" means the Employee Retirement Income Security Act of 1974, as
amended.
"EXCHANGE ACT" means the Securities Exchange Act of 1934, as amended, and
all rules and regulations promulgated thereunder.
"EXCHANGE VALUE" means the value attributable to the Partnerships for
purposes of the Transaction.
"FAIRNESS OPINION" means the opinion rendered by Sutro & Co., Inc. that the
consideration (as defined therein) to be received by Investors and the General
Partners collectively, and with respect to each Partnership individually, the
allocation of such consideration among the Investors and the General Partners,
and the principal allocation of the Notes in the Transaction, is fair from a
financial point of view.
"FFO" or "FUNDS FROM OPERATIONS" means net income determined in accordance
with GAAP, excluding gains (or losses) from debt restructuring and sales of
property, plus depreciation.
"FHA" means the United States Federal Housing Administration.
"FHA LOANS" means the first mortgage loans insured as to principal and
interest by the FHA on certain multifamily housing properties owned by the
Operating Partnerships.
"GAAP" means generally accepted accounting principles.
148
<PAGE>
"GENERAL PARTNERS" means the Cap Source I General Partners and the Cap
Source II General Partners.
"GNMA" means the United States Government National Mortgage Association.
"GNMA CERTIFICATES" means the mortgage-backed securities guaranteed as to
principal and interest by GNMA and collateralized by first mortgage loans on
multifamily housing properties owned by the Operating Partnerships.
"INCENTIVE FEE" means an annual amount equal to 10% of any Capital Gain on
New Assets, offset by any Capital Loss, payable by the Company to the Advisor on
an annual basis in the form of Restricted Stock as provided in the Advisory
Agreement.
"INDENTURE" means the indenture dated as of the first day of the month in
which the Notes are issued, between the Company and the Trustee, pursuant to
which the Notes and the Promissory Notes are to be issued.
"INDEPENDENT DIRECTORS" means the directors of the Company who are not
affiliated with the Company or the Advisor and do not perform any services for
the Company or the Advisor, other than as directors, and who are not officers or
employees of the Company, the Advisor or any of their respective affiliates.
"INITIAL LIMITED PARTNER" means the initial limited partner of a
Partnership. The Initial Limited Partner of Cap Source I is H/T Corp. and the
Initial Limited Partner of Cap Source II is H/T Corp. II-A. The Initial Limited
Partner of each Partnership holds legal title to the limited partner interests
in the Partnership, the rights and benefits of which have been assigned by the
Initial Limited Partner to the Investors.
"INTEREST PAYMENT DATE" means the fifteenth day of each January, commencing
on the first Interest Payment Date following the issuance of the Notes, until
the principal and interest on all Notes and Promissory Notes have been paid in
full.
"INVESTMENT COMPANY ACT" means the Investment Company Act of 1940, as
amended, and the rules and regulations promulgated thereunder.
"INVESTOR" means the holder of one or more beneficial assignment certificate
representing limited partner interests in a Partnership as of the Record Date.
"IRS" means the United States Internal Revenue Service, also referred to
sometimes as the "SERVICE."
"MATURITY DATE" means the date on which the outstanding principal balance of
the Notes, plus accrued but unpaid interest thereon, will be payable in full,
which date shall be , 2006.
"MAXIMUM NOTE LIMITATION" means $40 million, the maximum aggregate dollar
amount of Notes that the Company may issue in connection with the Transaction.
"MERGER AGREEMENT" means the Agreement and Plan of Merger among the
Partnerships and the Company pursuant to which the Transaction is to be
consummated.
"MORTGAGE SECURITIES" means securities relating to federally insured
mortgages on multifamily housing property.
"NASDAQ" means the National Association of Securities Dealers Automated
Quotations System.
"NET PROCEEDS FROM SALES OR REFINANCINGS OF DESIGNATED ASSETS" means the
gross proceeds of all sales, exchanges or refinancings received in connection
with Designated Assets, less any and all costs and expenses incurred by the
Company in connection with such sales, exchanges or refinancings.
"NEW ASSETS" means any and all assets acquired by the Company after the
Effective Date and prior to the termination of the Advisory Agreement, and any
Original Asset designated by the Board of Directors as a redevelopment project.
149
<PAGE>
"NOTEHOLDERS" means Investors who receive Notes in connection with the
Transaction.
"NOTES" means the Company's Variable Rate Junior Notes Callable On or After
the Date of Issuance issued pursuant to the Indenture.
"NYSE" means the New York Stock Exchange.
"OPERATING PARTNERSHIPS" means the Cap Source I Operating Partnerships and
the Cap Source II Operating Partnerships, collectively.
"ORGANIZATIONAL DOCUMENTS" means the Second Amended and Restated Certificate
of Incorporation and Bylaws of the Company.
"ORIGINAL ASSET" means the assets contributed to the Company on the
Effective Date as set forth in Exhibit A to the Advisory Agreement, excluding
any Original Asset that is subsequently classified as a New Asset because of its
classification as a redevelopment project.
"PARTNERSHIP AGREEMENTS" means the limited partnership agreements of the
Partnerships, as amended.
"PARTNERSHIP EQUITY INTERESTS" means the Cap Source I Partnership Equity
Interests together with the Cap Source II Partnership Equity Interests.
"PARTNERSHIPS" means Cap Source I and Cap Source II, together.
"PERSON" means an individual, partnership, corporation, trust or other
entity.
"PROMISSORY NOTE" means a promissory note issued by the Company in
connection with the Transaction to Investors entitled to a fractional interest
in a Note.
"PROPERTIES" means the real estate held by the Operating Partnerships.
"PROSPECTUS/CONSENT SOLICITATION STATEMENT" means this Prospectus/Consent
Solicitation Statement, together with the supplements and appendices thereto,
filed with the SEC as it may be further supplemented or amended from time to
time.
"PROSPECTUS SUPPLEMENT" means, with respect to each Partnership, the
Supplement to this Prospectus/ Consent Solicitation Statement prepared
specifically for the Investors of that Partnership.
"REAL ESTATE ASSETS" means the real estate and real estate related
investments of the Company, including New Assets.
"RECORD DATE" means , 1998.
"REGISTRATION STATEMENT" means the Registration Statement on Form S-4,
Registration No. 333-52117, as filed with the SEC by the Company under the
Securities Act to register the offering and sale of Shares and Notes pursuant to
the Transaction, as the same may be amended or supplemented from time to time.
"REGULATIONS" means the Treasury Department regulations promulgated under
the Code.
"REIT" means the classification for federal tax purposes as a real estate
investment trust pursuant to Part II, Subchapter M of Chapter 1 of Subtitle A of
the Code, as now enacted or hereafter amended, including successor statutes and
regulations promulgated thereunder.
"RESERVE INVESTMENTS" means amounts held in each Partnership's reserve
account invested in certain GNMA securities backed by pools of single-family
mortgages.
"RESTRICTED STOCK" means Common Stock issued to the Advisor for the
Incentive Fee on New Assets, which contains the restrictions described in the
Advisory Agreement.
"RETURNS OF CAPITAL" means net proceeds, net of all closing costs (including
without limitation any real estate or selling commissions) but without deduction
for any applicable mortgage indebtedness, from any
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<PAGE>
partial sale or a whole sale of any asset, and principal repayments on debt
obligations; provided, however, this amount shall not be greater than the
Adjusted New Asset Value with respect to such assets.
"SEC" means the United States Securities and Exchange Commission, also
sometimes referred to as the "Commission."
"SECURITIES ACT" means the Securities Act of 1933, as amended, and all rules
and regulations promulgated thereunder.
"SERVICE" means the United States Internal Revenue Service, also referred to
sometimes as the "IRS."
"SHAREHOLDER" means a holder of Shares.
"SHARES" means shares of the Company's $.001 par value Common Stock proposed
to be issued in connection with the Transaction.
"SPECIAL COMMITTEE" means the committee organized to represent the interests
of the Partnerships and Investors in negotiating the structure terms and
conditions of the Transaction.
"STATE" means any state of the United States of America, and the District of
Columbia.
"SUTRO & CO." means Sutro & Co., Inc.
"TAX ACT" means the Taxpayer Relief Act of 1997, as may be amended from time
to time.
"THE PONDS" means Ponds at Georgetown Limited Partnership.
"TOTAL ASSETS" means the sum of (a) Adjusted Original Asset Value, (b)
Adjusted New Asset Value, and (c) Cash, less any allowance or adjustment for the
permanent impairment of assets as reflected on the financial statements of the
Company.
"TRANSACTION" means the merger of Cap Source I and Cap Source II with and
into the Company pursuant to the terms and conditions set forth in the Merger
Agreement, as more fully described in the Prospectus/Consent Solicitation
Statement.
"TRANSACTION COSTS" means, with respect to the Transaction, the cost of
mailing and printing the Prospectus/Consent Solicitation Statement, any
supplement thereto or other documents related to the Transaction, legal fees not
related to the solicitation of consents, financial advisory fees, investment
fees, appraisal fees, accounting fees, Special Committee expenses, travel
expenses and all other fees related to the preparatory work of the Transaction,
but not including costs that would have otherwise been incurred by the
Partnerships in the ordinary course of business.
"TRUSTEE" means U.S. Bank Trust National Association, as trustee under the
Indenture.
"UNIT" means the ownership interest of an Investor in a Partnership
representing an assigned limited partner interest in a Partnership.
"VALUATION RESEARCH" means Valuation Research Corporation.
151
<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
---------
<S> <C>
INDEX TO FINANCIAL STATEMENTS OF
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
Report of Independent Accountants.......................................................................... FS-2
Balance Sheet at April 16, 1998............................................................................ FS-3
Notes to Balance Sheet..................................................................................... FS-4
</TABLE>
INDEX TO FINANCIAL STATEMENTS OF THE PARTNERSHIPS
Financial statements and related notes for each of the Partnerships are
included in a separately bound volume provided with this Prospectus/Consent
Solicitation Statement. The index to such financial statements is set forth in
the separately bound volume.
FS-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders
America First Real Estate Investment Company, Inc.
We have audited the accompanying balance sheet of America First Real Estate
Investment Company, Inc. as of October 23, 1998. This financial statement is the
responsibility of the Company's management. Our responsibility is to express an
opinion on this financial statement based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statement is free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statement. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the balance sheet referred to above presents fairly, in all
material respects, the financial position of America First Real Estate
Investment Company, Inc. as of October 23, 1998 in conformity with generally
accepted accounting principles.
KPMG PEAT MARWICK LLP
Omaha, Nebraska
October 23, 1998
FS-2
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
BALANCE SHEET
OCTOBER 23, 1998
<TABLE>
<S> <C>
Asset
Cash.............................................................................. $ 1,000
---------
---------
Stockholders' Equity
Common stock, $.001 par value;
50,000,000 shares authorized
1,000 shares issued and outstanding............................................. $ 1
Preferred stock $.001 par value;
50,000,000 shares authorized
No shares issued or outstanding................................................. --
Additional Paid-In Capital........................................................ 999
---------
Total Stockholders' Equity...................................................... $ 1,000
---------
---------
</TABLE>
The accompanying notes are an integral part of the balance sheet.
FS-3
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
NOTES TO BALANCE SHEET
OCTOBER 23, 1998
1. ORGANIZATION
America First Real Estate Investment Company, Inc. (the "Company") was
incorporated in Delaware on February 5, 1998. The Company has not yet commenced
operations.
The Company has issued 1,000 shares of common stock for consideration of
$1,000 to America First Companies L.L.C., an affiliate of the general partners
of Capital Source L.P. and Capital Source II L.P.-A (collectively referred to as
the "Capital Source Funds"). The Company intends to issue up to 3,354,887 shares
of common stock in the ratio of 1% to the owners of the General Partners and 99%
to holders of Beneficial Assignment Certificates (BACs) of the Capital Source
Funds.
2. RELATED PARTY TRANSACTIONS
America First Real Estate Advisors L.L.C. (the "Advisor") will manage the
operations and investments of the Company and perform administrative services
for the Company. The Advisor is entitled to receive compensation in the form of
an Acquisition Fee, an Asset Management Fee and an Incentive Fee on New assets
for services rendered under the Advisory Agreement. The Acquisition Fee will be
payable each month in arrears and will be an amount equal to 1% of the increase
in the Company's actual investment in all New Assets, including any costs
related to the acquisition or financing of New Assets but excluding debt which
is incurred or assumed in connection therewith. The Asset Management Fee will be
equal to .475%, on an annual basis, of the Company's Total Assets, calculated as
of the last day of each month, payable by the Company to the Advisor on a
monthly basis. The Incentive Fee on New Assets will be equal to 10% of any
Capital Gain offset by any Capital Loss on New Assets, payable by the Company to
the Advisor on an annual basis in the form of Restricted Stock.
America First Properties Management Company L.L.C. (the "Manager"), will
provide property management services for certain of the multifamily properties
to be obtained by the Company. The Manager will receive a management fee equal
to a stated percentage of the gross revenues generated by the property under
management.
FS-4
<PAGE>
APPENDIX A
FORM OF AGREEMENT AND PLAN OF MERGER
AMONG THE COMPANY, THE GENERAL PARTNERS AND
THE PARTNERSHIPS
This Agreement and Plan of Merger (this "Agreement") dated as of
, 1998, is by and among America First Real Estate Investment
Company, Inc., a Delaware corporation (the "Company"); Capital Source L.P., a
Delaware limited partnership ("Cap Source I"); Capital Source II L.P.-A, a
Delaware limited partnership ("Cap Source II" and together with Cap Source I the
"Partnerships" and individually, a "Partnership"); America First Capital Source
I L.L.C., a Delaware limited liability company; Insured Mortgage Equities, Inc.,
a Delaware corporation (together with America First Capital Source I L.L.C. the
"Cap Source I General Partners"); America First Capital Source II L.L.C.; and
Insured Mortgage Equities II L.P. (together with America First Capital Source II
L.L.C. the "Cap Source II General Partners" and collectively with the Cap Source
I General Partners the "General Partners"). Capitalized terms used and not
otherwise defined herein shall have the meanings assigned in Section 12.12 of
this Agreement.
W I T N E S S E T H:
WHEREAS, the Company, the General Partners and the Partnerships desire to
merge the Partnerships and the General Partners with and into the Company,
pursuant to Delaware law, with the Company being the surviving entity (the
"Merger"), as part of the merger by consolidation of the Partnerships and the
Company. The Company has filed a registration statement on Form S-4, No.
333-52117, including all amendments thereto (the "Registration Statement"), with
the Securities and Exchange Commission (the "SEC") pursuant to the Securities
Act of 1933, as amended (the "Act") relating to the Transaction, of which the
Prospectus/Consent Solicitation Statement of the Company (the
"Prospectus/Consent Solicitation Statement") is a part; and
WHEREAS, Section 263 of the General Corporation Law of the State of
Delaware, 8 DEL.C. Section 101 ET SEQ. (the "DGCL") and Section 17-211 of the
Delaware Revised Uniform Limited Partnership Act (the "Partnership Act")
authorize the merger of a Delaware corporation and Delaware limited
partnerships; and
WHEREAS, Section 251 of the DGCL authorizes the merger of Delaware
Corporations; and
WHEREAS, Section 264 of the DGCL and Section 18-209 of the Delaware Limited
Liability Company Act (the "LLC Act") authorize the merger of a Delaware
corporation with Delaware limited liability companies; and
WHEREAS, the Company's Certificate of Incorporation and Bylaws permit, and
resolutions adopted by the Company's Board of Directors authorize, this
Agreement and the consummation of the Merger.
NOW, THEREFORE, for good and valuable consideration, the receipt of which is
hereby acknowledged, the parties to this Agreement covenant and agree as
follows:
ARTICLE I
THE MERGER
Section 1.01. THE MERGER; SURVIVING CORPORATION. Subject to the terms and
conditions set forth in this Agreement, at the Effective Time (as defined in
Section 1.02 below), the Partnerships and the General Partners shall each be
merged with and into the Company, pursuant to Section 17-211(e) of the
Partnership Act, Sections 263, 264, 251 and 103 of the DGCL and Section 18-209
of the LLC Act, and the
A-1
<PAGE>
separate existence of each of the Partnerships and the General Partners shall
cease. The Company shall be the surviving entity (the "Surviving Corporation")
and shall continue to be governed by the DGCL.
Section 1.02. EFFECTIVE TIME. In accordance with Section 17-211(e) of the
Partnership Act and Sections 263, 264, 251 and 103 of the DGCL and Section
18-209 of the LLC Act, the Merger shall become effective (the "Effective Time")
upon the filing of the certificate of merger (the "Certificate of Merger") with
the Secretary of State of the State of Delaware, or at such later time, not
later than five business days thereafter, as may be specified in the Certificate
of Merger. All other filings or recordings required by Delaware law in
connection with the Merger shall also be made.
Section 1.03. EFFECT OF THE MERGER. The Merger shall have the effects set
forth in Section 17-211 of the Partnership Act, Section 251, 263, and 264 of the
DGCL and Section 18-209 of the LLC Act.
ARTICLE II
THE SURVIVING CORPORATION
Section 2.01. NAME. The name of the Surviving Corporation shall be America
First Real Estate Investment Company, Inc.
Section 2.02. CERTIFICATE OF INCORPORATION AND BYLAWS. The Certificate of
Incorporation and Bylaws of the Company as in effect immediately prior to the
Effective Time shall be the Certificate of Incorporation and Bylaws of the
Surviving Corporation unless and until amended in accordance with their terms
and applicable law.
Section 2.03. OFFICERS AND DIRECTORS. The officers of the Company
immediately prior to the Effective Time shall continue as officers of the
Surviving Corporation and remain officers until their successors are duly
appointed or their prior resignation, removal or death. The directors of the
Company immediately prior to the Effective Time shall continue as directors of
the Surviving Corporation and shall remain directors until their successors are
duly elected and qualified or their prior resignation, removal or death.
ARTICLE III
CONVERSION OF PARTNERSHIP INTERESTS
Section 3.01. CONVERSION OF LIMITED PARTNER INTERESTS.
(a) At the Effective Time, as a result of the Merger each Unit shall be
converted, in proportion to the capital accounts of each Investor and
pursuant to the terms of the Partnership Agreements, into the number of
shares of the Company's Common Stock, $.001 par value per share (the "Common
Stock"), as follows:
<TABLE>
<CAPTION>
NUMBER OF SHARES OF
PARTNERSHIP COMMON STOCK PER UNIT
- ---------------------------------------------------------------------- -----------------------
<S> <C>
Cap Source I.......................................................... .5984
Cap Source II......................................................... .3246
</TABLE>
At the Effective Time, as a result of the Merger, each Initial Limited
Partner's Limited Partnership Interest shall be canceled and no
consideration shall be issued in respect thereof.
At the Effective Time, as a result of the Merger, the interests of the
General Partners in the Partnerships shall be canceled and no consideration
shall be issued in respect thereof.
Each of the Partnerships has one class of Units and all such Units are
held by the Investors.
The number of shares of Common Stock to be issued as a result of the
conversion of Units shall first be multiplied by the number of Units held by
an Investor on the Record Date, as defined in the
A-2
<PAGE>
Prospectus/Consent Solicitation Statement. No fractional shares of Common
Stock will be issued. Each Investor who would otherwise be entitled to a
fractional share (which entitlement will be determined by combining such
Investor's allocation of shares of Common Stock from each Partnership as to
which such Investor is receiving shares) of Common Stock will instead
receive cash equal to $25 multiplied by the fraction.
(b) Notwithstanding subparagraph (a) above and subject to the
limitations described herein, Investors who, in connection with the
Transaction, elected to receive the Company's Variable Rate Junior Notes
Callable On or After the Date of Issuance ("Notes"), will, except as
hereinafter provided, receive Notes. In the event Investors elect to receive
Notes in the aggregate principal amount which exceeds $40 million, the Notes
will be allocated first to such Investors who voted against the Transaction,
and any remaining Notes will be allocated on a pro rata basis (in
denominations of $1,000) to those Investors who elected to receive Notes and
either abstained from voting by indicating their abstention on the Consent
Card or voted "YES" in favor of the Transaction. In such event, the
Investors who voted for the Transaction or abstained from voting and who
elected to receive Notes will receive shares of Common Stock in an amount
equal to the difference between the Exchange Value allocable to such an
Investor and the amount of Notes distributed to such an Investor. Subject to
the foregoing limitations, each Unit held by an Investor who elected to
receive Notes shall be converted into the Notes.
Section 3.02. CONSIDERATION TO GENERAL PARTNERS. At the Effective Time,
the Company shall transfer (i) 10,198.5 shares of Common Stock to America First
Capital Source I L.L.C. in exchange for all of the assets of America First
Capital Source I L.L.C.; (ii) 10,198.5 shares of Common Stock to Insured
Mortgage Equities, Inc. in exchange for all of the assets of Insured Mortgage
Equities, Inc.; (iii) 6,576 shares of Common Stock to America First Capital
Source II L.L.C in exchange for all of the assets of America First Capital
Source II L.L.C.; and (iv) 6,576 shares of Common Stock to Insured Mortgage
Equities II L.P. in exchange for all of the assets of Insured Mortgage Equities
II L.P. The Common Stock transferred in accordance with this Section 3.02 shall
be registered in the name of America First Companies L.L.C. ("America First
Companies"), except that the 6,576 shares transferred to Insured Mortgage
Equities II L.P. shall be registered in the names and amounts set forth below:
<TABLE>
<CAPTION>
PARTNERSHIP INTEREST
IN INSURED MORTGAGE NUMBER OF SHARES
EQUITIES II L.P. OF COMMON STOCK
--------------------- ----------------
<S> <C> <C>
C.S. Housing II, Inc. (as general partner)............. 49.8% 3,274.848
C.S. Housing II, Inc. (as limited partner)............. 0.1% 6.576
Kevin F. McGuinness.................................... 5.0% 328.800
Neil R. Silver......................................... 5.0% 328.800
Richard C. Silver...................................... 5.0% 328.800
John Tommasini......................................... 2.5% 164.400
W. Duke Degrassi....................................... 2.0% 131.520
Catherine Dwyer........................................ 2.0% 131.520
Jonathan Baum.......................................... 2.0% 131.520
Paul L. Novello........................................ 2.0% 131.520
William S. Gorin....................................... 2.0% 131.520
Donald Petrow.......................................... 2.0% 131.520
Charles Gwirtsman...................................... 1.0% 65.760
Arthur P. Fisch........................................ 0.1% 6.576
America First Companies................................ 19.5% 1,282.320
----- ----------------
Total.................................................. 100.0% 6,576.000
</TABLE>
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No fractional shares of Common Stock will be issued. The individuals or
entities that would otherwise be entitled to have a fractional share of Common
Stock registered in their name will instead receive cash equal to $25 multiplied
by the fraction. The amount of cash to be given to the above individuals or
entities is expected to be $200.00.
Section 3.03. TAX ASPECTS. For federal income tax purposes, the conversion
of the Units pursuant to Section 3.01(a) of this Agreement shall be deemed a
transfer of the assets of each Partnership to the Company in exchange for the
Common Stock and Notes and a distribution of such Common Stock and Notes in
liquidation of each of the Partnerships pursuant to the terms of each respective
Partnership Agreement in accordance with the provisions of the Partnership
Agreements. The issuance of Common Stock set forth in Section 3.02 of this
Agreement shall be deemed, for federal income tax purposes, transfers of the
assets of the General Partners to the Company in exchange for the Common Stock
listed in Section 3.02 with such Common Stock initially being issued to Cap
Source I and Cap Source II for the benefit of the General Partners.
As to the transfers by the Cap Source II General Partners and America First
Capital Source I L.L.C., the parties intend that transfer of assets by such
persons be an integral part of the organizational plan of the Company and as an
exchange subject to the provisions of Section 351 of the Internal Revenue Code
of 1986, as amended (the "Code"). As to the transfer by Insured Mortgage
Equities, Inc., the parties hereto intend that the transfer of its assets be an
integral part of the organizational plan of the Company and as a transaction
described in Section 368(a)(1)(A) of the Code.
Section 3.04. ISSUANCE OF SHARES.
(a) The Company shall designate an exchange agent (the "Exchange Agent")
to act as such in connection with the issuance of certificates representing
Common Stock and Notes pursuant to this Agreement.
(b) As soon as practicable after the Effective Time, the Company shall
cause the Exchange Agent to distribute to each Investor who, in connection
with the Transaction, elected to receive shares of Common Stock, or who made
no election with respect to Common Stock or Notes, and to the owners of the
General Partners, certificates representing the number of shares of Common
Stock to which such Investor and the owners of the General Partners are
entitled pursuant to Section 3.01(a) and Section 3.02 of this Agreement.
Section 3.05. ISSUANCE OF NOTES. As soon as practicable after the
Effective Time, the Company shall cause the Exchange Agent to distribute to each
Investor who elected to receive Notes in connection with the Transaction, Notes
to which such Investor is entitled pursuant to, and subject to the limitations
set forth in, Section 3.01(b) of this Agreement.
ARTICLE IV
TRANSFER AND CONVEYANCE OF ASSETS AND ASSUMPTION OF LIABILITIES
Section 4.01. TRANSFER, CONVEYANCE AND ASSUMPTION. At the Effective Time,
the Company shall continue in existence as the Surviving Corporation and without
further transfer, succeed to and possess all the rights, privileges and powers
of the General Partners and the Partnerships, and all the assets and property of
whatever kind and character of the General Partners and the Partnerships shall
vest in the Company without further act or deed. Thereafter, the Company, as the
Surviving Corporation, shall be liable for all of the liabilities and
obligations of the General Partners and the Partnerships, and any claim or
judgement against the General Partners or the Partnerships may be enforced
against the Company, as the Surviving Corporation, in accordance with Section
17-211 of the Partnership Act and Sections 263, 264, 259 and 103 of the DGCL and
Section 18-209 of the LLC Act.
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Section 4.02. FURTHER ASSURANCES. If at any time the Company shall
consider or be advised that any further assignment, conveyance or assurance is
necessary or advisable to vest, perfect or confirm of record in the Surviving
Corporation the title to any property or right of the General Partners or the
Partnerships, or otherwise, to carry out the provisions hereof, the proper
representatives of the General Partners and the Partnerships as of the Effective
Time shall execute and deliver any and all proper deeds, assignments and
assurances, and do all things necessary and proper to vest, perfect or convey
title to such property or right in the Surviving Corporation and otherwise to
carry out the provisions hereof.
ARTICLE V
REPRESENTATIONS AND WARRANTIES OF THE PARTNERSHIPS
The Partnerships each severally represent and warrant to the Company and to
each other (with respect only to the Partnership making the representation and
warranty) as follows:
Section 5.01. VALIDITY OF ACTIONS. Each Partnership (a) is a limited
partnership duly formed, validly existing and in good standing under the laws of
the State of Delaware, (b) has the authority to conduct its business as
currently conducted and to own and operate the properties which it now owns and
operates, (c) is qualified to do business in all jurisdictions in which such
qualification is necessary, and (d) has full power and authority to enter into
this Agreement and to carry out all acts contemplated by it. This Agreement has
been duly executed and delivered on behalf of the Partnerships, and has received
all necessary authorization and is a legal, valid and binding obligation of the
Partnerships, enforceable against the Partnerships in accordance with its terms.
The execution and delivery of this Agreement and consummation of the
transactions contemplated by it will not violate any provision of the
Partnership Agreements nor violate, conflict with or result in any breach of any
of the terms, provisions or conditions of, or constitute a default or cause
acceleration of, any indebtedness under any agreement or instrument to which any
of the Partnerships are a party or by which they or their assets may be bound,
or cause a breach of any applicable federal or state law or governmental
regulation, or any applicable order, judgment, writ, award, injunction or decree
of any court or governmental instrumentality.
Section 5.02. PARTNERSHIPS' FINANCIAL STATEMENTS. The financial statements
and schedules of the Partnerships, together with related notes (the "Financial
Statements"), set forth in the Registration Statement of the Company, fairly
present, on the basis stated in the Registration Statement, the financial
position of the Partnerships at the date or for the periods specified in the
Registration Statement. The Financial Statements have been prepared in
accordance with generally accepted accounting principles applied on a consistent
basis ("GAAP"), except to the extent stated therein.
Section 5.03. NO MISSTATEMENTS. The representations of the Partnerships
contained in this Agreement and the information supplied by the Partnerships for
inclusion in the Registration Statement and the Prospectus/Consent Solicitation
Statement do not contain any untrue statement of a material fact or omit to
state any fact necessary to make such representations or information not
materially misleading.
Section 5.04. NO MATERIAL ADVERSE CHANGE. Since the respective dates as to
which information is given in the Registration Statement and the
Prospectus/Consent Solicitation Statement with respect to the Partnerships, and
except as described in the Registration Statement or the Prospectus/Consent
Solicitation Statement, there have been no changes in the business, operations,
properties, assets or the prospects or condition, financial or otherwise, of the
Partnerships which would, in the aggregate, have a material adverse effect on
the business, properties, prospects, profitability, assets or financial
condition of the Partnerships.
Section 5.05. TITLE TO ASSETS. Each Partnership has good and marketable
title to the assets reflected in the most recent balance sheet (the "Balance
Sheet") included in the Financial Statements with respect to such Partnership,
and will hold good and marketable title to such assets, and any assets acquired
by the Partnership prior to the Effective Time, as of the Effective Time, except
for assets disposed of in the
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ordinary course of business. Such assets, together with the related goodwill and
rights of each Partnership as a going concern, tangible and intangible, are
collectively referred to as the "Assets." Except as otherwise disclosed in the
Balance Sheet or related notes accompanying it, all of the Assets are owned free
and clear of any and all adverse claims, security interests, charges or other
encumbrances or restrictions of every nature, except liens for current taxes not
yet due and payable or landlords' liens as provided for in the relevant leases
or by applicable law.
Section 5.06. LIABILITIES OF THE PARTNERSHIPS. The Partnerships have no
material liabilities, including, without limitation, liabilities for state or
federal income, withholding or other taxes, except to the extent reflected,
reserved against, or provided for in the Balance Sheet, and except for any
material liabilities disclosed in the Prospectus/Consent Solicitation Statement
or any other obligations incurred after , 1998 in the ordinary course
of business which subsequently incurred obligations are of an amount and nature
as to be capable of being discharged from the operations of the Partnerships
without requiring additional equity or borrowing.
Section 5.07. REPRESENTATIONS AND WARRANTIES PERTAINING TO REAL
PROPERTY. For purposes of the following representations and warranties, "Real
Property" shall mean those parcels of real property of a Partnership as listed
in the Prospectus/Consent Solicitation Statement and "Improvements" shall mean
any building, structure or other improvements situated on the Real Property.
Each Partnership makes the following representations and warranties only with
respect to the Real Property owned by it as specified in the Prospectus/Consent
Solicitation Statement.
(a) To the best knowledge of each Partnership, all assumptions of the
appraisers of the Real Property (the "Appraisers") used by the Appraisers in
preparing the appraisals of the Real Property, as the same may have been
revised (the "Appraisals"), are reasonable assumptions. All information
provided by each Partnership to the Appraisers with respect to the Real
Property was true and correct as of the date given.
(b) To the best knowledge of each Partnership, there is at present no
material violation of any law, ordinance, rule, requirement, resolution,
policy statement or regulation (including, without limitation, those
relating to land use, subdivision, zoning, environmental, occupational
health and safety, water, and building and fire codes) of any governmental
authority (collectively, "Governmental Regulations") applicable to the
construction, alteration, rehabilitation, maintenance, use, operation or
sale of any of the Real Property, which violation would have a material
adverse impact on the use of the Real Property or the Improvements. None of
the Partnerships have received notice or have knowledge that any
governmental authority, or any employee or agent thereof, considers the
operations, use or ownership of any of the Improvements to violate or have
violated in a material manner any Governmental Regulation, or that any
investigation has been commenced or is contemplated regarding such possible
violation.
(c) To the best knowledge of each Partnership, such Partnership has
neither received notice nor has knowledge of any plan or study of any
governmental authority which would materially adversely affect the use of
the Real Property or the Improvements for their intended uses, or result in
any public improvements which will result in any material charge being
levied against, or any material lien assessed upon, all or any portion of
such Real Property or Improvements.
(d) To the best knowledge of each Partnership, such Partnership has good
and marketable title to the Real Property and Improvements owned by it, free
and clear of all liens, encumbrances, claims, covenants, conditions and
restrictions, easements, rights of way, charges and any other exceptions to
or defects of title ("Encumbrances"), except for (i) those matters disclosed
in the Prospectus/Consent Solicitation Statement or the Title Insurance
Policy issued to each Partnership with respect to each Real Property
(collectively, the "Title Policies"), and (ii) those matters created by
third parties which are the liability of the lessee of such Real Property
and Improvements, or, in the absence of acceptance of responsibility by such
lessee, have been or will be resolved by the Partnership.
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<PAGE>
(e) Except as disclosed in the Prospectus/Consent Solicitation Statement
or the Title Policies, to the best knowledge of each Partnership, there are
no delinquent taxes, assessments, charges, debts, liabilities, claims or
obligations arising from the construction, design, development, ownership,
maintenance or operation of, or otherwise relating to, the Real Property or
the Improvements, which matters could give rise to any mechanic's or
materialmen's or other statutory or common law lien against such Real
Property or Improvements or any part thereof which, individually or in the
aggregate, would have a material adverse impact on the value of such Real
Property and Improvements.
(f) Except as disclosed in the Prospectus/Consent Solicitation
Statement, to the best knowledge of each Partnership, none of the Real
Property, which for purposes of this paragraph shall include, without
limitation, subsurface soil and ground water, contains any substance,
including, without limitation, any asbestos, formaldehyde, radioactive
substance, hydrocarbons, industrial solvents, flammables, explosives, and
any hazardous substance or toxic material, which could presently or at any
time in the future cause a material detriment to or materially impair the
value or beneficial use of the Real Property, or constitute or cause a
health, safety or environmental hazard on or relating to the Real Property
or to any person who may enter on the Real Property or require remediation
at the behest of any governmental agency (collectively, "Hazardous
Materials"). Except as disclosed in the Prospectus/Consent Solicitation
Statement, none of the Partnerships have received notice that the ownership,
operation, use and condition of any of the Real Property is in violation of
any federal, state or local law, ordinance or regulation pertaining to
industrial hygiene, Hazardous Materials or environmental protection. Except
as disclosed in the Prospectus/Consent Solicitation Statement, to the best
knowledge of each Partnership, there is no proceeding or action pending or,
to its actual knowledge, threatened by any person or governmental agency
regarding the environmental condition of any of the Real Property.
Section 5.08. INSURANCE. Either each Partnership, or, in the absence of
each Partnership so doing, the respective tenants of the Real Property and
Improvements owned by each Partnership, or, where applicable, each borrower from
each Partnership which holds a loan secured by real property owned by such
borrower, carries, to the extent deemed reasonable by the General Partners under
the circumstances, comprehensive liability, fire, extended coverage and rental
loss insurance with respect to the Partnerships' properties with policy
specifications and insured limits customarily carried for similar properties.
All such policies are currently in effect and will remain in effect after the
Merger.
Section 5.09. TAXES. Each Partnership has filed timely all federal, state
and local tax returns which it is required to file, has provided to its
Investors all required Form K-1's and such other tax forms as may be required by
federal, state or local authorities, and has no outstanding liability for any
federal, state or local taxes or interest or penalties thereon, whether disputed
or not, except taxes not yet payable which have been provided for in accordance
with GAAP and are disclosed in the Financial Statements.
Section 5.10. ACTIONS PENDING. Except as disclosed in the
Prospectus/Consent Solicitation Statement: (a) there are no actions, suits,
proceedings or claims pending or threatened against the Partnerships or the
general partner of the Partnerships which, if determined adversely to such
Partnerships, could (i) have a material adverse effect on the Partnerships, the
Assets or the business of the Partnerships when taken as a whole, or (ii)
prevent or delay the consummation of any of the transactions contemplated by
this Agreement; (b) no Partnership, to the best of its knowledge, is the subject
of any pending or threatened investigation relating to any aspect of such
Partnership's operations by any federal, state or local governmental agency or
authority; and (c) each Partnership, to the best of its knowledge, is not and
has not been the subject of any formal or informal complaint, investigation or
inspection under the Equal Employment Opportunity Act or the Occupational Safety
and Health Act (or their state or local counterparts) or by any other federal,
state or local authority.
Section 5.11. APPRAISAL OF PARTNERSHIPS. To the best knowledge of each
Partnership, the information furnished by such Partnership to the appraisers
named in the Prospectus/Consent Solicitation Statement
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<PAGE>
for the purposes of determining the appraised value of the Partnerships is
accurate and complete in all material respects.
ARTICLE VI
REPRESENTATIONS AND WARRANTIES OF THE GENERAL PARTNERS
The General Partners represent to the Partnerships and to the Company as
follows:
Section 6.01 VALIDITY OF ACTIONS. Each General Partner (a) is duly
organized, validly existing and in good standing under the laws of the State of
Delaware, (b) has the authority to conduct its business as currently conducted,
(c) is qualified to do business in all jurisdictions in which such qualification
is necessary, and (d) has full power and authority to enter into this Agreement
and to carry out all acts contemplated by it. This Agreement has been duly
executed and delivered on behalf of the General Partners, has received all
necessary authorization and is a legal, valid and binding obligation of the
General Partners, enforceable against each General Partner in accordance with
its terms. The execution and delivery of this Agreement and consummation of the
transactions contemplated by it will not violate any provision of the
Certificate of Incorporation, Bylaws, Limited Partnership Agreement, Operating
Agreement or other organizational documents of the General Partners nor violate,
conflict with or result in any breach of any of the terms, provisions or
conditions of, or constitute a default or cause acceleration of any indebtedness
under any agreement or instrument to which any General Partner is a party or by
which a General Partner or its assets may be bound, or cause a breach of any
applicable federal or state law or regulations, or any applicable order,
judgment, writ, award, injunction or decree of any court or governmental
instrumentality.
Section 6.02 CAPITAL INTERESTS OF THE GENERAL PARTNERS. The authorized
capital stock of Insured Mortgage Equities Inc. consists of 1,000 shares of
Common Stock, par value $1.00 per share, all of which are issued and outstanding
as of the date of this Agreement. America First Capital Source I L.L.C. has 101
member interests, $1.00 contribution per interest, issued and outstanding as of
the date of this Agreement. The limited partner interests of Insured Mortgage
Equities II L.P. are owned 49.8% by its general partner, and the remaining 50.2%
by various limited partners, as of the date of this Agreement. America First
Capital Source II L.L.C. has 101 member interests, $1.00 contribution per
interest, issued and outstanding as of the date of this Agreement.
Section 6.03 NO MISSTATEMENTS. The representations of the General Partners
contained in this Agreement and the information supplied by the General Partners
for inclusion in the Registration Statement and the Prospectus/Consent
Solicitation Statement do not contain any untrue statement of a material fact or
omit to state any fact necessary to make such representations or information not
materially misleading.
Section 6.04 NO MATERIAL ADVERSE CHANGE. Since the respective dates as to
which information is given in the Registration Statement and the
Prospectus/Consent Solicitation Statement with respect to the General Partners,
and except as described in the Registration Statement or the Prospectus/Consent
Solicitation Statement, there have been no changes in the business, operations,
properties, assets or the prospects or condition, financial or otherwise, of the
General Partners which would, in the aggregate, have a material adverse effect
on the business, properties, prospects, profitability, assets or financial
condition of the General Partners.
Section 6.05 TITLE TO ASSETS. The assets of the General Partners, together
with the related goodwill and rights of each General Partner as a going concern,
tangible and intangible, are collectively referred to as the "the General
Partner Assets." Except as otherwise disclosed in the Registration Statement or
the Prospectus/Consent Solicitation Statement, all of the General Partner Assets
are owned free and clear of any and all adverse claims, security interests,
charges or other encumbrances or restrictions of every nature, except liens for
current taxes not yet due and payable or landlords' liens as provided for in the
relevant leases or by applicable law.
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Section 6.06 LIABILITIES OF THE GENERAL PARTNERS. The General Partners
have no material liabilities, contingent or otherwise, including, without
limitation, liabilities for state or federal income, withholding or other taxes,
except for any material liabilities disclosed in the Prospectus/Consent
Solicitation Statement or any other obligations incurred after , 1998, in
the ordinary course of business which subsequently incurred obligations are of
an amount and nature as to be capable of being discharged from the operations of
the General Partners without requiring additional equity or borrowing.
Section 6.07 INSURANCE. All of the General Partner Assets have been
continuously and are currently covered by effective insurance policies insuring
against such losses and risks as are generally insured against by comparable
businesses and in such amounts as are generally carried by comparable
businesses. The insurance coverage provided by such policies complies with all
applicable legal requirements. All such policies are currently in effect and
will remain in effect after the Merger.
Section 6.08 TAXES. The General Partners have filed timely all federal,
state and local tax returns which the General Partners are required to file, and
have no outstanding liability for any federal, state or local taxes or interest
or penalties thereon (collectively, "Taxes"), whether disputed or not, except
Taxes not yet payable.
Section 6.9 NO TAX LIABILITY. The Merger will not result in any liability
to the General Partners or the Company for Taxes.
Section 6.10 ACTIONS PENDING. Except as disclosed in the
Prospectus/Consent Solicitation Statement: (a) there are no actions, suits,
proceedings or claims pending or threatened against the General Partners which,
if determined adversely to the General Partners, could (i) have a material
adverse effect on the General Partners, the General Partner Assets, or the
business of the General Partners when taken as a whole, or (ii) present or delay
the consummation of any of the transactions contemplated by this Agreement; (b)
the General Partners, to the best of their knowledge, are not the subject of any
pending or threatened investigation relating to any aspect of the General
Partners' operations by any federal, state or local governmental agency or
authority; and (c) the General Partners, to the best of their knowledge, are not
and have not been the subject of any formal or informal complaint, investigation
or inspection under the Equal Employment Opportunity Act or the Occupational
Safety and Health Act (or their state or local counterparts) or by any other
federal, state or local authority.
ARTICLE VII
REPRESENTATIONS AND WARRANTIES OF THE COMPANY
The Company represents and warrants to the Partnerships as follows:
Section 7.01. VALIDITY OF ACTIONS. The Company (a) is duly organized,
validly existing and in good standing under the laws of the State of Delaware,
(b) has the authority to conduct its business as currently conducted, (c) is
qualified to do business in all jurisdictions in which such qualification is
necessary, and (d) has full power and authority to enter into this Agreement and
to carry out all acts contemplated by it, and (e) has no commitment to sell or
otherwise transfer any of its assets except as contemplated under Section 6.04
and except in the ordinary course of business. This Agreement has been duly
executed and delivered on behalf of the Company, has received all necessary
authorization and is a legal, valid and binding obligation of the Company,
enforceable against the Company in accordance with its terms. The execution and
delivery of this Agreement and consummation of the transactions contemplated by
it will not violate any provision of the Certificate of Incorporation or Bylaws
of the Company nor violate, conflict with or result in any breach of any of the
terms, provisions or conditions of, or constitute a default or cause
acceleration of, any indebtedness under any agreement or instrument to which the
Company is a party or by which it or its assets may be bound, or cause a breach
of any applicable federal or state law or regulation, or any applicable order,
judgment, writ, award, injunction or decree of any court or governmental
instrumentality.
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Section 7.02. CAPITAL STOCK OF THE COMPANY. The authorized capital stock
of the Company consists of 100,000,000 shares of capital stock, of which there
are 50,000,000 shares of Common Stock and 50,000,000 shares of Preferred Stock
authorized. One thousand shares of Common Stock, having an aggregate par value
of $1.00, are issued and outstanding as of the date of this Agreement, and such
shares of Common Stock constitute all of the issued and outstanding capital
stock of the Company outstanding as of the date hereof. The shares of Common
Stock of the Company to be delivered pursuant to Sections 3.01 and 3.02 of this
Agreement have been duly and validly authorized, and when issued and delivered,
will be fully paid and nonassessable. As of the date hereof, the Company has no
binding commitment to issue any capital stock, except as otherwise required
pursuant to the terms of this Agreement.
Section 7.03. MISSTATEMENTS. The representations of the Company contained
in this Agreement and the information regarding the Company contained in the
Registration Statement and the Prospectus/ Consent Solicitation Statement do not
contain any untrue statement of a material fact or omit to state any fact
necessary to make such representations or information not materially misleading.
Section 7.04. INVESTMENT OF CASH. Upon consummation of the Merger, the
Company will invest the cash it receives from the Partnerships so that not more
than 80% of the Company's assets will consist of assets listed under Section
351(e)(1) of the Code.
ARTICLE VIII
COVENANTS OF THE PARTIES
Section 8.01. PROHIBITED ACTS. Pending consummation of the Merger or prior
to termination of this Agreement, the Partnerships agree that, without prior
written consent of the Company, given in a letter which specifically refers to
this Section of the Agreement, the Partnerships shall:
(a) use their reasonable efforts so as not to perform any act, or omit
to take any action that would make any of their representations made above
or any information pertaining to them in the Registration Statement or the
Prospectus/Consent Solicitation Statement inaccurate or materially
misleading as of the Effective Time;
(b) not enter into any commitment, contract or other transaction in any
way affecting any of the Partnerships' business, except to carry out its
business in the ordinary course, and as contemplated by this Agreement or in
the Prospectus/Consent Solicitation Statement;
(c) not make any loans or advances to, or investments in, any other
corporation, partnership or other legal entity or to any other persons
except in the ordinary course of business;
(d) not borrow money for any purpose or agree to become contingently
liable, by guaranty or otherwise, for the obligations or indebtedness of any
other person other than in the ordinary course of business; and
(e) not mortgage, pledge, encumber, sell, lease or transfer any of the
Assets other than in the ordinary course of business.
Section 8.02. NOTICE. Pending the consummation of the Merger or prior to
termination of this Agreement, each party agrees that it will promptly advise
the other of the occurrence of any condition or event which would make any of
its representations contained in this Agreement or the Prospectus/Consent
Solicitation Statement inaccurate, incorrect, or materially misleading.
Section 8.03. ADDITIONAL DOCUMENTS. At the request of any party, each
party will execute and deliver any additional documents and perform in good
faith such acts as reasonably may be required in order to consummate the
transactions contemplated by this Agreement.
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ARTICLE IX
CONDITIONS TO THE MERGER
The obligation of the Company, each Partnership and each General Partner to
consummate the Merger shall be subject to compliance with or satisfaction of the
following conditions:
Section 9.01. BRING DOWN. The representations and warranties set forth in
this Agreement shall be true and correct in all material respects at and as of
the Effective Time as if then made (except for those representations and
warranties made as of a given date, which shall continue to be true and correct
as of such given date), as evidenced by a certificate made by the General
Partners of each Partnership and the President, Chief Executive Officer or Chief
Operating Officer of the Company, as of the Effective Time.
Section 9.02. COMPLIANCE. The Company, each of the General Partners and
each Partnership shall have complied with all of the covenants and agreements in
this Agreement on its part to be complied with as of or prior to the Effective
Time.
Section 9.03. PARTNERSHIP APPROVALS. The Investors holding a majority of
outstanding Units of Cap Source I and Cap Source II shall have approved the
Transaction and the Dissenting Investors of the Partnerships have not elected to
receive Notes exceeding $40,000,000 in principal amount.
Section 9.04. STOCK EXCHANGE LISTING. At or before the Effective Time, the
Common Stock to be issued in the Merger shall be approved for listing on the New
York Stock Exchange, subject to official notice of issuance.
Section 9.05. CONSENTS OBTAINED. All necessary consents, waivers,
approvals, authorizations or orders required to be obtained, and the making of
all filings required to be made by any party to the Merger for the
authorization, execution and delivery of this Agreement and the Certificate and
Plan of Merger between the Company, the General Partners and the Partnerships,
and the consummation of the transactions contemplated thereby on or before (and
remain in effect at) the Effective Time shall have been obtained or made.
Section 9.06. NO MATERIAL ADVERSE CHANGE. Since the respective dates as to
which information is given in the Registration Statement and the
Prospectus/Consent Solicitation Statement, there shall not have occurred or been
threatened any material adverse changes in the overall business or prospects of
the Partnerships or in the tax or other regulatory provisions applicable to the
Partnerships, the General Partners or the Company, and the Company shall not
have become aware of any facts that, in the sole judgment of the Company and the
General Partners, have or may have a material effect, whether adverse or
otherwise, on the Partnerships, taken as a whole, the Transaction, or the value
to the Company of the properties of the Partnerships, taken as a whole.
Section 9.07. OPINIONS AND LETTERS. The Company shall have received, on or
prior to the Effective Time, an opinion of counsel, which shall not have been
withdrawn as of the Effective Time, to the effect that for federal income tax
purposes the Merger will be an exchange subject to the nonrecognition provisions
of Section 351 of the Code; provided, however, that for purposes of this Section
8.07, the Merger shall include only the merger of the Partnerships into the
Company and the related transfer of assets by the Partnerships to the Company.
Section 9.08. NO STATUTE, RULE OR REGULATION AFFECTING CONSUMMATION. At
the Effective Time, there shall be no statute, rule, regulation, injunction or
court order enacted or issued by the United States or any State, or by a court,
which prohibits or challenges the consummation of the Transaction.
Section 9.09. NO DECLARATIONS. At the Effective Time, there shall be no
declaration of suspension of trading in, or limitation on prices for, securities
generally on the New York Stock Exchange, declaration of a banking moratorium by
federal or state authorities or any suspension of payments by banks in the
United States (whether mandatory or not) or of the extension of credit by
lending institutions in the United States, or commencement of war, armed
hostility, or other international or national calamity directly or indirectly
A-11
<PAGE>
involving the United States, which war, hostility or calamity, in the sole
judgment of the Company, would have a material adverse effect on the business
objectives of the Company, or, in the case of any of the foregoing existing on
the date of the Prospectus/Consent Solicitation Statement, any material
acceleration or worsening thereof.
Section 9.10. EFFECTIVENESS OF REGISTRATION STATEMENT. At or prior to the
Effective Time, the Registration Statement shall have been declared effective,
no stop order suspending the effectiveness of the Registration Statement shall
have been issued, no proceedings for such purpose shall have been initiated, and
all necessary approvals under state securities or blue sky laws shall have been
received.
ARTICLE X
OTHER AGREEMENTS
Section 10.01. WAIVER BY GENERAL PARTNERS. Immediately prior to the
Effective Time, the General Partners of the Partnerships shall waive all rights
to any fees not accrued to the Effective Time. The General Partners each further
acknowledge that they have no rights to additional distributions of fees or
proceeds of sale or liquidation by the Partnerships. The parties to this
Agreement hereby acknowledge and agree that at the Effective Time, CS Properties
I Inc., an affiliate of the Cap Source I General Partners that serves as the
general partner of Oyster Cove Limited Partnership, Cypress Landings II, Ltd.,
and Fox Hollow, Ltd., will waive all amounts due to or potentially due to CS
Properties I Inc. by these limited partnerships.
Section 10.02. INDEMNIFICATION.
(a) To the fullest extent permitted by law, the Partnerships and the
General Partners (the "Indemnifying Parties"), jointly and severally, agree
to defend, indemnify and hold harmless the Company and its directors,
officers, employees and agents (the "Indemnified Parties") from and against
any losses, claims, damages or liabilities (including, without limitation,
attorneys' fees and disbursements) to which such Indemnified Party may
become subject under the Act, the Securities Exchange Act of 1934, as
amended, or otherwise, insofar as such losses, claims, damages or
liabilities (or actions with respect thereof arise out of or are based upon
an untrue statement or an alleged untrue statement of a material fact
contained in the Registration Statement, the Prospectus/Consent Solicitation
Statement, or any amendment or supplement to such documents, or arise out of
or are based upon the omission or alleged omission to state therein a
material fact required to be stated therein or necessary to make the
statements therein not misleading, or to the extent that such losses,
claims, damages or liabilities (including, without limitation, attorneys'
fees and disbursements) result from a breach by an Indemnifying Party of the
representations and warranties of the Partnerships contained in Article V of
this Agreement.
(b) The Indemnified Parties shall give (or cause to be given) to the
Indemnifying Parties notice of claim or matter for which indemnity is (or
will be) sought under this Section 9.02; such notice shall be given promptly
after the Indemnified Parties receive actual notice or knowledge of the
claim or matter that is subject to indemnification. With respect to any
claim asserted by a third party against any Indemnified Parties for which
indemnity is sought, the relevant Indemnifying Party shall have the right to
employ counsel reasonably acceptable to the relevant Indemnified Parties to
defend against such assertion, and such Indemnifying Parties shall have the
right to compromise or otherwise settle any such action or claim only with
the prior written consent of the relevant Indemnified Party, which shall not
be unreasonably withheld.
(c) This Section 9.02 shall survive the Merger for a period of three (3)
years from the Effective Time.
A-12
<PAGE>
ARTICLE XI
TERMINATION; AMENDMENT; WAIVER
Section 11.01. TERMINATION. This Agreement and the transactions
contemplated hereby may be terminated at any time prior to the filing of the
Certificate of Merger with the Secretary of State of the State of Delaware, (a)
by mutual consent of the Board of Directors of the Company and the General
Partners of the Partnerships, (b) by action of the Board of Directors of the
Company in the event of a failure of a condition to the obligations of the
Company set forth in Article VIII of this Agreement, (c) by action of the
General Partners of the Partnerships in the event of a failure of a condition to
the obligations of the Partnerships set forth in Article VIII of this Agreement,
or (d) by action of the Board of Directors of the Company or of the General
Partners of the Partnerships in the event that the Merger is not consummated
prior to , 1998 or such later date as the parties shall mutually
agree in writing.
Section 11.02. EFFECT OF TERMINATION. If this Agreement is terminated
pursuant to Section 10.01, this Agreement shall become void and of no effect
with no liability on the part of any party hereto.
Section 11.03. AMENDMENT. The parties hereto may, by written agreement,
amend this Agreement at any time prior to the filing of the Certificate of
Merger with the Delaware Secretary of State, such amendment to be approved by
the parties hereto; provided that, after the approval of the Merger by the
Investors holding a majority of the Units of each Partnership no amendment shall
be made which alters or changes (a) the amount or kind of consideration which
the Investors of each Partnership are entitled to receive upon conversion of the
Units of each Partnership, (b) the Certificate of Incorporation of the Company,
or (c) the terms and conditions of this Agreement if such alteration or change
would have an adverse effect on the Investors of each Partnership or the
shareholders of the Company.
Section 11.04. WAIVER. At any time prior to the Effective Time, any party
to this Agreement may extend the time for the performance of any of the
obligations or other acts of any other party hereto, or waive compliance with
any of the agreements of any other party or with any condition to the
obligations hereunder, in each case only to the extent that such obligations,
agreements and conditions are intended for its benefit.
ARTICLE XII
MISCELLANEOUS
Section 12.01. EXPENSES. The expenses associated with the Merger shall be
paid as set forth in the Prospectus/Consent Solicitation Statement. Any
additional expenses associated with the Asset Transfer shall be paid by the
Company. Notwithstanding the foregoing, the Company shall have no obligation to
pay any personal expense of any beneficial owner of a Transferor or any expense
of a Transferor not a result of transactions contemplated under this Agreement.
Section 12.02. NOTICES. All notices or other communications required or
permitted under the terms of this Agreement by any party shall be made in
writing and shall be delivered by first class mail or by personal delivery,
postage or fees prepaid, to the other parties at America First Companies L.L.C.,
Attn: Paul L. Abbott, 399 Park Avenue, Floor 36, New York, New York 10022, with
a copy to Kutak Rock, 717 17th Street, Suite 2900, Denver, Colorado 80202,
Attention: Paul E. Belitz, or to such other address as any of the parties hereto
may designate by notice to the others.
Section 12.03. NON-ASSIGNABILITY. This Agreement shall not be assignable
by any of the parties to this Agreement.
Section 12.04. ENTIRE AGREEMENT. This Agreement contains the parties'
entire understanding and agreement with respect to its subject matter, and any
and all conflicting or inconsistent discussions, agreements, promises,
representations and statements, if any, between the parties or their
representatives that are not incorporated in this Agreement shall be null and
void and are merged into this Agreement.
A-13
<PAGE>
Section 12.05. COUNTERPARTS. This Agreement may be executed in one or more
counterparts, each of which shall constitute an original, but all of which
together shall constitute a single agreement.
Section 12.06. GOVERNING LAW. This Agreement shall be governed by and
construed in accordance with the laws of the State of Delaware, without giving
effect to conflicts of law principles.
Section 12.07. HEADINGS. The various section headings are inserted for
purposes of reference only and shall not affect the meaning or interpretation of
this Agreement or any provision hereof.
Section 12.08. GENDER; NUMBER. All references to gender or number in this
Agreement shall be deemed interchangeably to have a masculine, feminine, neuter,
singular or plural meaning, as the sense of the context requires.
Section 12.09. SEVERABILITY. The provisions of this Agreement shall be
severable, and any invalidity, unenforceability or illegality of any provision
or provisions of this Agreement shall not affect any other provision or
provisions of this Agreement, and each term and provision of this Agreement
shall be construed to be valid and enforceable to the full extent permitted by
law.
Section 12.10. AUTHORIZATION. The General Partners (a) shall be
authorized, at such time in their full discretion as they deem appropriate, to
execute, acknowledge, verify, deliver, file and record, for and in the name of
the Partnerships and, to the extent necessary, the General Partners and the
Investors, any and all documents and instruments, and (b) shall do and perform
any and all acts required by applicable law or which the General Partners deem
necessary or advisable to effectuate the Merger.
Section 12.11. LIMITATIONS OF REMEDIES. If any party hereto becomes aware,
prior to the closing, of a breach of any representation, warranty or covenant
contained in this Agreement, the sole remedy of the nonbreaching party for such
breach shall be limited to termination of this Agreement.
Section 12.12. DEFINITIONS. The following terms used in this Agreement
have the meanings specified in this Section 12.12. Unless otherwise defined in
this Agreement, all other initially capitalized terms shall have the meanings
specified in the Partnership Agreements.
"INVESTOR" shall mean any person or entity who is either (i) a Unit holder
or (ii) a holder of a Limited Partner Interest, other than each Initial Limited
Partner.
"PARTNERSHIP AGREEMENT" shall mean the respective partnership agreement of
each Partnership, and such agreements are collectively referred to in this
Agreement as the "PARTNERSHIP AGREEMENTS."
"UNIT" shall mean (i) a beneficial interest in a Limited Partner Interest
represented by a beneficial assignment certificate and (ii) a Limited
Partnership Interest, other than a Limited Partnership Interest held by an
Initial Limited Partner.
A-14
<PAGE>
IN WITNESS WHEREOF, the undersigned have caused this Agreement to be
executed by an officer duly authorized to do so, all as of the day and year
first above written.
AMERICA FIRST REAL ESTATE
INVESTMENT COMPANY, INC.,
a Delaware corporation
By
--------------------------------------
-----------------------------------------------------------------------------,
President
CAPITAL SOURCE L.P., a Delaware
limited
partnership
By:
--------------------------------------
General Partner
By
-----------------------------------
----------------------------------------------------------------------------,
President
By:
--------------------------------------
General Partner
By
-----------------------------------
----------------------------------------------------------------------------,
President
CAPITAL SOURCE II L.P.-A, a Delaware
limited
partnership
By:
--------------------------------------
General Partner
By
-----------------------------------
----------------------------------------------------------------------------,
President
By:
--------------------------------------
General Partner
By
-----------------------------------
----------------------------------------------------------------------------,
President
A-15
<PAGE>
AMERICA FIRST CAPITAL SOURCE I L.L.C.,
a Delaware limited liability company
By
--------------------------------------
-----------------------------------------------------------------------------,
President
INSURED MORTGAGE EQUITIES INC.,
a Delaware corporation
By
--------------------------------------
-----------------------------------------------------------------------------,
President
AMERICA FIRST CAPITAL SOURCE II,
L.L.C.
a Delaware limited liability company
By
--------------------------------------
-----------------------------------------------------------------------------,
President
INSURED MORTGAGE EQUITIES II L.P.,
a Delaware limited partnership
By
--------------------------------------
General Partner
By
------------------------------------
----------------------------------------------------------------------------,
President
A-16
<PAGE>
APPENDIX B
FAIRNESS OPINION
May 7, 1998
The Special Committee of
the Board of Managers of America First Companies L.L.C.
Mr. George J. Kubat
4601 South 76th Street
Omaha, NE 68132
Dr. Martin A. Massengale
University of Nebraska
Lincoln, NE 68583
America First Real Estate
Investment Company, Inc.
Suite 400
1004 Farnam Street
Omaha, NE 68102
Capital Source L.P. and
Capital Source II L.P.-A
Suite 400
1004 Farnam Street
Omaha, NE 68102
Ladies and Gentlemen:
You have requested Sutro & Co., Inc.'s ("Sutro & Co.") opinion as investment
bankers as to the fairness, from a financial point of view, of the consideration
to be received by the holders (the "Investors") of beneficial assignment
certificates representing assigned limited partnership interests (the "Units")
in Capital Source L.P. ("Cap Source I") and Capital Source II L.P.-A ("Cap
Source II") (collectively, the "Partnerships"), in connection with the proposed
merger (the "Transaction") of Cap Source I and Cap Source II with and into
America First Real Estate Investment Company, Inc. (the "Company"), a newly
formed Delaware corporation that intends to qualify as a "C" Corporation for
federal income tax purposes.
Sutro & Co. has been advised by the Partnerships and the Company that in
connection with the proposed Transaction, (a) Investors will receive, at their
election and subject to certain limitations, either shares of the Company's
$0.001 par value common stock (the "Shares" or "Consideration") or Variable Rate
Junior Notes Callable On or After the Date of Issuance (the "Notes"), (b) up to
2,019,282 Shares have been allocated to Investors in Cap Source I in exchange
for the Investors' Units and up to 1,302,056 Shares have been allocated to
Investors in Cap Source II in exchange for the Investors' Units, (c) up to
33,549 Shares or 1.00% of the pro forma outstanding Shares immediately following
the consummation of the Transaction have been collectively allocated to Insured
Mortgage Equities, Inc. and America First Capital Source I, LLC (together, the
"Cap Source I General Partners") and Insured Mortgage Equities, Inc. and America
First Capital Source II, LLC (together, the "Cap Source II General Partners" and
collectively with the Cap Source I General Partners, the "General Partners") and
(d) the Company will enter into an advisory agreement (the "Advisory Agreement")
with America First Real Estate Advisors LLC (the "Advisor") to manage the
Company.
Sutro & Co., in conducting its review and arriving at its opinion, noted
that the exchange ratios (the "Exchange Ratios") for Cap Source I and Cap Source
II in the Transaction are based on (i) the principal
B-1
<PAGE>
amount of the investments in FHA loans and GNMA certificates at December 31,
1997 in the audited Parent Company Only Condensed Balance Sheets contained in
the Annual Reports on Form 10-K for 1997 for each of the Partnerships, (ii) the
value of the Partnerships' investments in the operating partnerships (that owned
the underlying real estate properties of each of the Partnerships) based on
certain appraisals prepared by Valuation Research dated December 31, 1997 (the
"Appraisals"), and (iii) the market values of the Partnerships' remaining assets
and liabilities at December 31, 1997 and before transaction costs or other costs
associated with the Transaction (individually or collectively the "Exchange
Values"). The Exchange Ratios relating to the Exchange Values for Cap Source I
and Cap Source II are used to determine the allocation of Shares to be received
by the Investors in Cap Source I and Cap Source II in the Transaction and the
principal allocation of the Notes to be received by Investors in Cap Source I
and Cap Source II in the Transaction.
Additionally, Sutro & Co. was requested to provide an opinion as to the
fairness, from a financial point of view, of the principal allocation of the
Notes that may be elected by the Investors. As used herein, principal allocation
refers solely to the method of allocation, as determined by the Exchange Values,
of the Notes among the investors in the Partnerships. Sutro & Co. in arriving at
its opinion as to the fairness, from a financial point of view, of the
Consideration to be received by the Investors, assumes that the maximum amount
of Notes that may be issued in the Transaction is $40.0 million.
Based upon and subject to the foregoing and following, Sutro & Co. is of the
opinion, as investment bankers, that, as of the date hereof, the Consideration
to be received by the Investors and the General Partners collectively, the
allocation of such Consideration among the Investors and the General Partners,
and the principal allocation of the Notes, in the Transaction, is fair to the
Investors and the General Partners from a financial point of view.
Sutro & Co., as part of its investment banking business, is regularly
engaged in the evaluation of capital structures, the valuation of businesses and
their securities in connection with mergers and acquisitions, firm commitment
underwritings, secondary distributions of listed and unlisted securities,
private placements, financial restructurings and other financial services. Sutro
& Co. is currently acting as a financial advisor to the Special Committee of the
Board of Managers of America First Companies L.L.C. (the "Special Committee") in
connection with the proposed Transaction and will receive a fee for delivering
this opinion and for performing those advisory services. The Partnerships have
agreed to indemnify Sutro & Co. against certain liabilities arising out of or in
connection with the services rendered by Sutro & Co. under such engagement.
Sutro & Co., in the ordinary course of business, may in the future trade
securities of the Company for its own account or for the accounts of its
customers, and accordingly, may at any time hold a long or short position in
those securities.
Sutro & Co., in arriving at its opinion, reviewed and analyzed, among other
things, the following: (a) the Registration Statement on Form S-4 of the Company
as filed on May 7, 1998, including the Preliminary Prospectus/Consent
Solicitation Statement included therein, (b) the Appraisals, (c) individual
Partnership Annual Reports and Reports on Form 10-K for the years ended December
31, 1996 and December 31, 1997, (d) the Prospectus of Capital Source I dated
January 10, 1986, (e) the Prospectus of Capital Source II dated February 6,
1987, (f) the Agreement and Plan of Merger among the Partnerships, the General
Partners and the Company, (g) certain other publicly available business,
financial and other information concerning the Partnerships, (h) certain
internal information, primarily financial in nature (including analytical
models, projections, forecasts, estimates and analyses) prepared by or on behalf
of the management of the Partnerships, and (i) certain information provided to
us by the management of the Partnerships concerning the distributions on, the
trading of and the trading market for, the equity securities of the
Partnerships.
In the course of Sutro & Co.'s engagement, Sutro & Co. held discussions with
the senior management of the Partnerships concerning the historical, current and
projected future operations, business plans, financial conditions and results,
and prospects of the Partnerships. Additionally, Sutro & Co. has discussed
B-2
<PAGE>
with representatives of Valuation Research, the results, methodology and
limitations of the Appraisals. Sutro & Co. has not, however, independently
verified the accuracy or completeness of the Appraisals.
In conducting its review, Sutro & Co. has relied upon and assumed the
accuracy and completeness of the financial and other information, including the
Appraisals, provided to Sutro & Co. or which were publicly available and have
not attempted to verify the same. Sutro & Co. has relied upon the statements and
information provided by the management of the Partnerships as to the
reasonableness and achievability of the financial and operating forecasts and
projections (and the assumptions and bases therefor) provided to Sutro & Co.
While the financial models and the financial projections, that were provided by
the management of the Partnerships, that project future results of the
Partnerships are inherently subject to uncertainty, we have assumed that such
forecasts and projections are the best currently available estimates and good
faith judgments of the management of the Partnerships as to the future
performance of the Partnerships.
In rendering its opinion, Sutro & Co. notes that the consummation of the
proposed Transaction is conditioned upon, among other things, the approval of
the majority of both Partnerships. Sutro & Co. is not recommending or
disapproving of any action that may be taken by the Investors, the Partnerships,
the Company, the Advisor or any other person in regard to the Transaction. This
opinion does not constitute a recommendation of the proposed Transaction over
any alternative Transactions which may be possible for the Partnerships and does
not address the Partnerships' underlying business decision to effect the
proposed Transaction. Furthermore, our analysis in this matter has not
considered any other aspect of the proposed Transaction or any agreement or
other matters, which include, but are not limited to, the terms or fairness of
the Advisory Agreement except with respect to the fees payable to the Advisor.
Sutro & Co. was not asked to opine on and is not expressing an opinion as to:
(a) the terms of the Transaction, (b) the tax consequences of the Transaction to
the Investors, and (c) the prices at which the Company's securities may trade at
in the future.
In connection with this opinion, we have assumed that the documents to be
prepared and used to effect the Transaction will do substantially on the terms
set forth in the Agreement and Plan of Merger among the Partnerships, the
General Partners and the Company. Sutro & Co. has not participated in the
negotiation of the Transaction or provided any legal or other advice with
respect to the Transaction except as otherwise described herein or to providing
advice regarding the Advisory Agreement between the Company and the Advisor.
Sutro & Co.'s opinion is necessarily based upon conditions as they exist and
can be evaluated as of the date hereof and the information made available to
Sutro & Co. as of the dates that such information was prepared and based upon.
The preparation of a fairness opinion is a complex process and is not
necessarily susceptible to a partial analysis or summary description. Sutro &
Co. has advised the Partnerships that its entire analysis must be considered as
a whole and that selecting portions of its analyses and the factors considered
by it, without considering all analyses and factors, could create an incomplete
view of the evaluation process underlying its opinion.
It is understood and agreed that this opinion is provided solely for the use
of the Special Committee, the Partnerships and the Investors as one element of
their consideration of the Transaction, and may not be used for any other
purpose or any other party, or otherwise referred to, relied upon, quoted,
summarized or circulated, except with Sutro & Co.'s written consent. This
opinion may be reproduced in full in the Company's Prospectus/Consent
Solicitation Statement pertaining to the Transaction.
/s/ Sutro & Co., Inc.
Sutro & Co., Inc.
B-3
<PAGE>
APPENDIX C
FORM OF BRINGDOWN FAIRNESS OPINION
, 1998
The Special Committee of the Board of Managers of America First Companies L.L.C.
Mr. George J. Kubat
4601 South 76th Street
Omaha, NE 68132
Dr. Martin A. Massengale
University of Nebraska
Lincoln, NE 68583
America First Real Estate Investment Company, Inc.
Suite 400
1004 Farnam Street
Omaha, NE 68102
Capital Source L.P. and Capital Source II L.P.-A
Suite 400
1004 Farnam Street
Omaha, NE 68102
Ladies and Gentlemen:
As of May 7, 1998, Sutro & Co., Inc. delivered to you an initial fairness
opinion (the "Initial Fairness Opinion") (a copy of which is attached hereto as
Exhibit A and is incorporated herein by this reference) as investment bankers as
to the fairness, from a financial point of view, of the consideration to be
received by the holders of beneficial assignment certificates representing
assigned limited partnership interests in Capital Source L.P. ("Cap Source I")
and Capital Source II L.P.-A ("Cap Source II"), in connection with the proposed
merger of Cap Source I and Cap Source II with and into America First Real Estate
Investment Company, Inc., a newly formed Delaware corporation that intends to
qualify as a "C" Corporation for federal income tax purposes.
You have requested that Sutro & Co. confirm that the opinion set forth in the
Initial Fairness Opinion remains true and correct as of the date hereof. All
capitalized terms used herein, not otherwise defined, shall have the meanings
ascribed to them in the Initial Fairness Opinion.
Sutro & Co. hereby confirms, subject to and based on all of the assumptions,
limitations, and qualifications set forth in the Initial Fairness Opinion and
such other updated and/or additional information that Sutro & Co. believed was
necessary or appropriate to render this opinion, that Sutro & Co. is of the
opinion that, as investment bankers as of the date hereof, the Consideration to
be received by the Investors and the General Partners collectively, the
allocation of such Consideration among the Investors and the General Partners,
and the principal allocation of the Notes, in the Transaction, is fair to the
Investors and the General Partners from a financial point of view.
Sutro & Co.'s opinion is necessarily based upon conditions as they exist and can
be evaluated as of the date hereof and the information made available to Sutro &
Co. as of the dates that such information was prepared and based upon.
The preparation of a fairness opinion is a complex process and is not
necessarily susceptible to a partial analysis or summary description. Sutro has
advised the Partnerships that its entire analysis must be considered as a whole
and that selecting portions of its analyses and the factors considered by it,
without
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<PAGE>
considering all analyses and factors, could create an incomplete view of the
evaluation process underlying its opinion.
It is understood and agreed that this opinion is provided solely for the use of
the Special Committee, the Partnerships and the Investors, as one element of
their consideration of the Transaction, and may not be used for any other
purpose or any other party, or otherwise referred to, relied upon, quoted,
summarized or circulated, except with Sutro & Co.'s written consent. This
opinion may be reproduced in full in the Company's Prospectus/Consent
Solicitation Statement pertaining to the Transaction.
Sutro & Co., Inc.
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<PAGE>
APPENDIX D
PRIOR PARTNERSHIPS PERFORMANCE TABLES
The following tables set forth financial information regarding parnterships
sponsored by America First Companies, an affiliate of the General Partners. For
a description of these partnerships, see "PRIOR PARTNERSHIPS."
TABLE I
EXPERIENCE IN RAISING AND UTILIZING FUNDS
Table I presents a summary of the funds raised by prior public real estate
programs sponsored by Affiliates of America First and the manner in which such
funds were utilized as of December 31, 1997.
<TABLE>
<CAPTION>
AFFGMF AFFGMF2 AFTEMF AFTEMF2 AFPPEMF AFPF2
------------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Dollar amount offered........... $ 200,000,000 $ 200,000,000 $ 300,000,000 $ 107,000,000 $ 200,000,000 $ 200,000,000
Dollar amount raised (100%)..... $ 200,000,000 $ 199,449,200 $ 199,582,560 $ 104,912,460 $ 119,450,540 $ 33,678,080
Less offering expenses:
Selling commissions........... 4.00% 4.00% 5.00% 5.00% 5.00% 5.00%
Organizational and offering
expenses.................... 1.00% 1.00% 2.05% 1.80% 1.90% 2.17%
Investment evaluation fee..... 0.00% 0.00% 0.00% 0.00% 0.68% 0.68%
Reserves........................ 4.52% 1.38% 2.50% 4.77% 1.00% 1.00%
Percent available for
investment..................... 90.48% 93.62% 90.45% 88.43% 91.42% 91.15%
Acquisition costs:
Purchase price of mortgages
acquired or committed for
acquisition................. 90.48% 91.78% 88.75% 86.51% 83.22% 81.13%
Percent leveraged............... 0.00% 0.00% 0.00% 0.00% 0.00% 0.00%
Date offering commenced......... 11/30/84 4/1/85 10/28/85 8/28/86 10/2/86 10/10/87
Length of offering (in months).. 1.5 6.0 2.0 1.0 8.5 12.0
Months to invest 90% of amount
available for investment....... 7.5 8.0 2.0 10.5 10.0 17.0
<CAPTION>
AFPF2PS
-------------
<S> <C>
Dollar amount offered........... $ 100,000,000
Dollar amount raised (100%)..... $ 18,119,480
Less offering expenses:
Selling commissions........... 5.00%
Organizational and offering
expenses.................... 2.17%
Investment evaluation fee..... 0.68%
Reserves........................ 1.00%
Percent available for
investment..................... 91.15%
Acquisition costs:
Purchase price of mortgages
acquired or committed for
acquisition................. 81.12%
Percent leveraged............... 0.00%
Date offering commenced......... 3/3/88
Length of offering (in months).. 9.5
Months to invest 90% of amount
available for investment....... 15.0
</TABLE>
D-1
<PAGE>
TABLE II
COMPENSATION TO SPONSORS AND THEIR AFFILIATES
Table II summarizes the types and amounts of compensation paid to Affiliates
of America First by prior programs sponsored by such Affiliates for the period
from the date of commencement of operations through the date of liquidation or
December 31, 1997.
<TABLE>
<CAPTION>
AFFGMF2 AFTEMF AFTEMF2(1) AFPPEMF(2) AFPF2(2)
AFFGMF 1/2/85 7/8/85 TO 11/21/85 TO 10/17/86 TO 11/26/86 TO 3/25/88 TO
TO 11/17/86 3/16/92 12/31/97 12/31/97 12/31/97 12/31/97
------------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Date offering commenced......... 1/30/84 4/1/85 10/28/85 8/28/86 10/2/86 10/10/87
Dollar amount raised............ $ 200,000,000 $ 199,449,200 $ 199,582,560 $ 104,912,460 $ 119,450,540 $ 33,678,080
Amount paid to sponsor from
proceeds of offering:
Selling commissions........... 8,000,000 7,977,968 9,979,128 5,245,623 5,972,527 1,683,904
Organizational and offering
expenses.................... 2,000,000 1,994,492 4,091,442 1,688,425 2,299,423 732,499
Investment evaluation fee..... 0 0 0 0 806,291 227,327
Dollar amount of cash generated
from operations before
deducting payments to
sponsor........................ 33,182,228 62,681,757 115,373,031 54,835,435 104,595,958 25,566,097
Amount paid to sponsor from
operations:
Mortgage evaluation fees and
syndication costs........... 2,117,704 1,885,072 0 0 0 0
Administrative fees........... 1,058,562 2,802,432 1,673,662 1,814,150 2,741,575 703,710
Property management fees...... 0 0 1,390,066 1,993,983 687,296 300,225
Distributions................. 237,461 412,419 1,452,221 493,335 537,428 231,663
Dollar amount of property sales
before deducting payments to
sponsor........................ 216,222,929 204,077,436 0 12,750,000 56,593,532 598,867
Stock received from properties
transferred(3)................. 0 0 6,101,600 0 0 0
Amount paid to sponsor from
property sales................. 5,450,890 3,530,895 0 0 0 0
<CAPTION>
AFPF2PS(2)
5/25/88 TO
12/31/97
-------------
<S> <C>
Date offering commenced......... 3/3/88
Dollar amount raised............ $ 18,119,480
Amount paid to sponsor from
proceeds of offering:
Selling commissions........... 905,974
Organizational and offering
expenses.................... 394,099
Investment evaluation fee..... 122,306
Dollar amount of cash generated
from operations before
deducting payments to
sponsor........................ 15,252,702
Amount paid to sponsor from
operations:
Mortgage evaluation fees and
syndication costs........... 0
Administrative fees........... 419,293
Property management fees...... 146,669
Distributions................. 126,768
Dollar amount of property sales
before deducting payments to
sponsor........................ 226,587
Stock received from properties
transferred(3)................. 0
Amount paid to sponsor from
property sales................. 0
</TABLE>
D-2
<PAGE>
TABLE III
OPERATING RESULTS OF PRIOR PROGRAMS
Table III summarizes the operating results of seven prior public real estate
programs sponsored by Affiliates of America First for the period from the date
of commencement of operations through the date of liquidation or December 31,
1997.
<TABLE>
<CAPTION>
AFTEMF AFTEMF2(1) AFPPEMF(2) AFPF2(2)
AFFGMF 1/2/85 AFFGMF2 7/8/85 11/21/85 TO 10/17/86 TO 11/26/86 TO 3/25/88 TO
TO 11/17/86 TO 3/16/92 12/31/97 12/31/97 12/31/97 12/31/97
-------------- -------------- -------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Gross revenues................. $ 26,662,820 $ 60,664,437 $ 155,816,315 $ 82,463,177 $ 76,005,816 $ 15,250,942
Profit on sale of properties... 34,541,492 22,227,208 0 0 0 598,867
Less operating expenses,
interest & depreciation....... (2,916,959) (7,384,641) (83,806,059) (58,423,135) (35,947,499) (4,454,857)
-------------- -------------- -------------- ------------- ------------- -------------
Net income..................... $ 58,287,353 $ 75,507,004 $ 72,010,256 $ 24,040,042 $ 40,058,317 $ 11,394,952
-------------- -------------- -------------- ------------- ------------- -------------
-------------- -------------- -------------- ------------- ------------- -------------
Cash generated from
operations.................... $ 33,182,228 $ 59,879,325 $ 112,309,303 $ 51,027,302 $ 101,167,087 $ 24,562,762
Cash generated from sales and
prepayments................... 216,222,929 204,077,436 0 12,750,000 56,593,532 598,867
Stock received from properties
transferred(3)................ 0 0 60,101,600 0 0 0
-------------- -------------- -------------- ------------- ------------- -------------
Cash generated from operations
and sales..................... 249,405,157 263,956,761 172,410,903 63,777,302 157,760,619 25,161,629
Less distributions to
investors:
Cash from operating cash
flow....................... (30,826,963) (57,461,354) (128,465,674) (58,598,016) (79,033,192) (24,650,399)
Cash from sales and
prepayments................ (210,772,039) (200,667,021) 0 (9,934,625) (24,159,992) (598,867)
Stock from properties
transferred(3)............. 0 0 (60,101,600) 0 0 0
-------------- -------------- -------------- ------------- ------------- -------------
Cash generated after cash
distributions................. 7,806,155 5,828,386 (16,156,371) (4,755,339) 54,567,435 (87,637)
Less special items:
Amount withdrawn from (added
to) reserves............... 0 0 17,608,592 5,248,674 (54,030,007) 319,300
Amount withheld from income
for payment of mortgage
evaluation fees and
syndication costs.......... (2,117,704) (1,885,072) 0 0 0 0
Distribution to sponsor...... (5,688,451) (3,943,314) (1,452,221) (493,335) (537,428) (231,663)
-------------- -------------- -------------- ------------- ------------- -------------
Cash generated after cash
distributions and special
items......................... $ 0 $ 0 $ 0 $ 0 $ 0 $ 0
-------------- -------------- -------------- ------------- ------------- -------------
-------------- -------------- -------------- ------------- ------------- -------------
DISTRIBUTION DATA FOR $1,000
INVESTED
Cash distributions to
investors:
From operations:
Income..................... $ 106.96 $ 240.25 $ 406.25 $ 331.17 $ 384.05 $ 383.84
Return of capital.......... 47.20 32.99 237.43 227.37 277.59 354.05
From sales and prepayments:
Income..................... 145.45 94.34 0.00 0.00 3.10 17.78
Return of capital.......... 908.39 911.76 0.00 94.69 199.16 0.00
From stock transferred:
Income..................... 0.00 0.00 0.00 0.00 0.00 0.00
Return of capital.......... $ 0.00 $ 0.00 $ 301.14 $ 0.00 $ 0.00 $ 0.00
-------------- -------------- -------------- ------------- ------------- -------------
-------------- -------------- -------------- ------------- ------------- -------------
Percentage of original total
acquisition cost of properties
remaining invested at December
31, 1997...................... 0% 0% 40% 63% 36% 51%
-------------- -------------- -------------- ------------- ------------- -------------
-------------- -------------- -------------- ------------- ------------- -------------
<CAPTION>
AFPF2PS(2)
5/25/88 TO
12/31/97
-------------
<S> <C>
Gross revenues................. $ 8,518,555
Profit on sale of properties... 226,587
Less operating expenses,
interest & depreciation....... (2,318,531)
-------------
Net income..................... $ 6,426,611
-------------
-------------
Cash generated from
operations.................... $ 14,686,740
Cash generated from sales and
prepayments................... 226,587
Stock received from properties
transferred(3)................ 0
-------------
Cash generated from operations
and sales..................... 14,913,327
Less distributions to
investors:
Cash from operating cash
flow....................... (12,998,276)
Cash from sales and
prepayments................ (226,587)
Stock from properties
transferred(3)............. 0
-------------
Cash generated after cash
distributions................. 1,688,464
Less special items:
Amount withdrawn from (added
to) reserves............... (1,561,696)
Amount withheld from income
for payment of mortgage
evaluation fees and
syndication costs.......... 0
Distribution to sponsor...... (126,768)
-------------
Cash generated after cash
distributions and special
items......................... $ 0
-------------
-------------
DISTRIBUTION DATA FOR $1,000
INVESTED
Cash distributions to
investors:
From operations:
Income..................... $ 419.21
Return of capital.......... 298.16
From sales and prepayments:
Income..................... 12.51
Return of capital.......... 0.00
From stock transferred:
Income..................... 0.00
Return of capital.......... $ 0.00
-------------
-------------
Percentage of original total
acquisition cost of properties
remaining invested at December
31, 1997...................... 50%
-------------
-------------
</TABLE>
D-3
<PAGE>
- ------------------------------
(1) On August 20, 1996, AFTEMF2 merged with and into America First Apartment
Investors, L.P., a newly formed partnership. The operating results shown
above for AFTEMF2 include those of America First Apartment Investors, L.P.
subsequent to August 20, 1996.
(2) On April 10, 1998, AFPPEMF, AFPF2 and AFPF2PS merged with and into America
First Mortgage Investments, Inc., a newly formed REIT.
(3) On June 1, 1993, AFTEMF transferred properties to America First REIT, Inc.,a
newly formed REIT, in exchange for all outstanding shares of the REIT's
common stock. Thereafter, all shares of the REIT's coomon stock were
distributed to investors.
TABLE IV
RESULTS OF COMPLETED PROGRAMS
Table IV summarizes the results of two prior public real estate programs
sponsored by Affiliates of America First which completed operations prior to
December 31, 1997. The results are for the period from the date of commencement
of operations through the date of dissolution.
<TABLE>
<CAPTION>
AFFGMF 1/2/85 AFFGMF2 7/8/85
TO 11/17/86 TO 3/16/92
-------------- --------------
<S> <C> <C>
Dollar amount raised............................................................. $ 200,000,000 $ 199,449,200
Number of mortgages purchased.................................................... 29 37
Date of closing of offering...................................................... 1/2/85 11/1/85
Date of first mortgage sale...................................................... 5/24/85 10/22/86
Date of final mortgage sale...................................................... 10/22/86 1/30/92
DISTRIBUTION DATA FOR $1,000 INVESTED
Cash distributions to investors:
From operations:
Income....................................................................... $ 106.96 $ 240.25
Return of capital............................................................ 47.20 32.99
From sales:
Income....................................................................... 145.45 94.34
Return of capital............................................................ $ 908.39 $ 911.76
</TABLE>
D-4
<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON NOVEMBER 3, 1998
REGISTRATION NO. 333-52117
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FINANCIAL STATEMENT SUPPLEMENT
TO
PRE-EFFECTIVE
AMENDMENT NO. 2
TO
FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
(Exact name of registrant as specified in its charter)
SUITE 400, 1004 FARNAM STREET
OMAHA, NEBRASKA 68102
(402) 444-1130
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
CAPITAL SOURCE L.P.
Management's Discussion and Analysis of Financial Condition and Results of Operations as of December 31,
1997..................................................................................................... 1
Report of Independent Accountants.......................................................................... 8
Balance Sheets as of December 31, 1997 and 1996............................................................ 9
Statements of Income for the Years Ended December 31, 1997, 1996, 1995..................................... 10
Statements of Partners' Capital for the Years Ended December 31, 1997, 1996, 1995.......................... 11
Statements of Cash Flows for the Years Ended December 31, 1997, 1996, and 1995............................. 12
Notes to Financial Statements.............................................................................. 13
Management's Discussion and Analysis of Financial Condition and Results of Operations as of June 30,
1998..................................................................................................... 24
Balance Sheets as of June 30, 1998 (Unaudited)............................................................. 29
Statements of Income for the Three and Six Months Ended June 30, 1998 (Unaudited).......................... 30
Statements of Partners' Capital for the Six Months Ended
June 30, 1998 (Unaudited)................................................................................ 31
Statements of Cash Flows for the Six Months Ended June 30, 1998 (Unaudited)................................ 32
Notes to Financial Statements.............................................................................. 33
CAPITAL SOURCE II L.P.-A
Management's Discussion and Analysis of Financial Condition and Results of Operations as of December 31,
1997..................................................................................................... 40
Report of Independent Accountants.......................................................................... 46
Balance Sheets as of December 31, 1997 and 1996............................................................ 47
Statements of Income for the Years Ended December 31, 1997, 1996, 1995..................................... 48
Statements of Partners' Capital for the Years Ended December 31, 1997, 1996, 1995.......................... 49
Statements of Cash Flows for the Years Ended December 31, 1997, 1996, and 1995............................. 50
Notes to Financial Statements.............................................................................. 51
Management's Discussion and Analysis of Financial Condition and Results of Operations as of June 30,
1998..................................................................................................... 61
Balance Sheets as of June 30, 1998 (Unaudited)............................................................. 66
Statements of Income for the Three and Six Months Ended June 30, 1998 (Unaudited).......................... 67
Statements of Partners' Capital for the Six Months Ended
June 30, 1998 (Unaudited)................................................................................ 68
Statements of Cash Flows for the Six Months Ended June 30, 1998 (Unaudited)................................ 69
Notes to Financial Statements.............................................................................. 70
</TABLE>
i
<PAGE>
CAPITAL SOURCE L.P.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
DECEMBER 31, 1997
Capitalized terms not otherwise defined herein shall have the meanings set
forth in the accompanying Prospectus/Consent Solicitation Statement.
LIQUIDITY AND CAPITAL RESOURCES
Capital Source L.P. (the "Partnership") originally acquired: (i) five
mortgage-backed securities guaranteed as to principal and interest by the
Government National Mortgage Association ("GNMA") collateralized by first
mortgage loans on multifamily housing properties located in five states; (ii)
three first mortgage loans insured as to principal and interest by the Federal
Housing Administration ("FHA") on multifamily housing properties located in two
states; and (iii) Partnership Equity Investments in eight limited partnerships
which own the multifamily properties financed by the GNMA Certificates and FHA
Loans. The Partnership subsequently received FHA Debentures in payment of the
FHA Loan on Fox Hollow Apartments which were paid in full in 1993. In 1994,
foreclosure proceedings were initiated on Falcon Point Apartments and,
accordingly, the Partnership no longer holds a Partnership Equity Investment in
this property. In addition, during 1995, the GNMA Certificate related to Falcon
Point Apartments was paid-in-full to the Partnership. Collectively, the
remaining GNMA Certificates, FHA Loans and Partnership Equity Investments are
referred to as the "Permanent Investments." The Partnership has also invested
amounts held in its reserve account in certain GNMA securities backed by pools
of single-family mortgages ("Reserve Investments"). The obligations of GNMA and
FHA are backed by the full faith and credit of the United States government.
DISTRIBUTIONS
Cash distributions paid or accrued per Beneficial Assignment Certificate of
the Partnership (a "BAC") were as follows:
<TABLE>
<CAPTION>
FOR THE YEAR ENDED FOR THE YEAR ENDED FOR THE YEAR ENDED
DECEMBER 31, 1997 DECEMBER 31, 1996 DECEMBER 31, 1995
------------------ ------------------ ------------------
<S> <C> <C> <C>
Regular monthly distributions
Income.......................... $ .8952 $ .9352 $ 1.0100
Return of capital............... .1148 .0748 .0000
------- ------- -------
$ 1.0100 $ 1.0100 $ 1.0100
------- ------- -------
------- ------- -------
Distributions
Paid out of cash flow........... $ 1.0100 $ 1.0100 $ 1.0100
------- ------- -------
------- ------- -------
</TABLE>
Regular quarterly distributions to BAC holders consist primarily of interest
received on FHA Loans and GNMA Certificates. Additional cash for distributions
is received from other temporary investments. The Partnership may draw on
reserves to pay operating expenses or to supplement cash distributions to BAC
holders. The Partnership is permitted to replenish reserves with cash flows in
excess of distributions paid. For the year ended December 31, 1997, a net amount
of $189,014 of undistributed cash flow was added to reserves. The total amount
held in reserves at December 31, 1997, was $10,787,058 of which $1,088,526 was
invested in GNMA Certificates.
The Partnership believes that cash provided by operating and investing
activities and, if necessary, withdrawals from the Partnership's reserves will
be adequate to meet its short-term and long-term liquidity requirements,
including the payments of distributions to BAC holders. Under the terms of its
Partnership
1
<PAGE>
Agreement, the Partnership has the authority to enter into short-term and
long-term debt financing arrangements; however, the Partnership currently does
not anticipate entering into such arrangements. The Partnership is not
authorized to issue additional BACs to meet short-term and long-term liquidity
requirements.
YEAR 2000
The Partnership does not own or operate its own computer system and owns no
business or other equipment. However, the operation of the Partnership's
business relies on the computer system and other equipment maintained by America
First Companies L.L.C., the parent company of its general partners ("America
First"). In addition, the Partnership has business relationships with a number
of third parties whose ability to perform their obligations to the Partnership
depend on such systems and equipment. Some or all of these systems and equipment
may be affected by the inability of certain computer programs and embedded
circuitry to correctly recognize dates occurring after December 31, 1999.
America First has adopted a plan to deal with this so-called "Year 2000 problem"
with respect to its information technology ("IT") systems, non-IT systems and
third party business relationships.
STATE OF READINESS
The IT system maintained by America First consists primarily of personal
computers, most of which are connected by a local area network. All accounting
and other record keeping functions relating to the Partnership that are
conducted in house by America First are performed on this PC-LAN system. America
First does not own or operate any "mainframe" computer systems. The PC-LAN
system runs software programs that America First believes are compatible with
dates after December 31, 1999. America First has engaged a third party computer
consulting firm to review and test its PC-LAN system to ensure that it will
function correctly after that date and expects that this process, along with any
necessary remediation, will be completed by March 31, 1999. America First
believes any Year 2000 problems relating to its IT systems will be resolved
without significant operational difficulties. However, there can be no assurance
that testing will discover all potential Year 2000 problems or that it will not
reveal unanticipated material problems with the America First IT systems that
will need to be resolved.
Non-IT systems include embedded circuitry such as microcontrollers found in
telephone equipment, security and alarm systems, copiers, fax machines, mail
room equipment, heating and air conditioning systems and other infrastructure
systems that are used by America First in connection with the operation of the
Partnership's business. America First is reviewing its non-IT systems along with
the providers that service and maintain these systems, with initial emphasis
being placed on those, such as telephone systems, which have been identified as
necessary to America First's ability to conduct the operation of the
Partnership's business activities. America First expects that any necessary
modification or replacement of such "mission critical" systems will be
accomplished by mid-1999.
The Partnership has no control over the remediation efforts of third parties
with which it has material business relationships and the failure of certain of
these third parties to successfully remediate their Year 2000 issues could have
a material adverse effect on the Partnership. Accordingly, America First has
undertaken the process of contacting each such third party to determine the
state of their readiness for Year 2000. Such parties include, but are not
limited to, the obligors on the Partnership's GNMA Certificates and FHA Loans,
the Partnership's transfer and paying agent and the financial institutions with
which the Partnership maintains accounts. America First has received initial
assurances from certain of these third parties that their ability to perform
their obligations to the Partnership are not expected to be materially adversely
affected by the Year 2000 problem. America First will continue to request
updated information from these material third parties in order to access their
Year 2000 readiness. If a material third party vendor is unable to provide
assurance to America First that it is, or will be, ready for Year 2000, America
First intends to seek an alternative vendor to the extent practical.
2
<PAGE>
COSTS
All of the IT systems and non-IT systems used to conduct the Partnership's
business operations are owned or leased by America First. Under the terms of its
partnership agreement, neither America First nor the Partnership's general
partners may be reimbursed by the Partnership for expenses associated with their
computer systems or other business equipment. Therefore, the costs associated
with the identification, remediation and testing of America First's IT and
non-IT systems will be paid by America First rather than the Partnership. The
Partnership will bear its proportionate share of the costs associated with
surveying the Year 2000 readiness of third parties. However, the Partnership's
share of the costs associated with these activities is expected to be
insignificant. Accordingly, the costs associated with addressing the
Partnership's Year 2000 issues are not expected to have a material effect on the
Partnership's results of operations, financial position or cash flow.
YEAR 2000 RISKS
The Partnership's general partners believe that the most reasonably likely
worst-case scenario will be that one or more of the third parties with which it
has a material business relationship will not have successfully dealt with its
Year 2000 issues and, as a result, is unable to provide services or otherwise
perform its obligations to the Partnership. For example, if an obligor on the
Partnership's GNMA Certificates or FHA Loans encounters a serious and unexpected
Year 2000 issue, it may be unable to make a timely payment of principal and
interest to the Partnership. This, in turn, could cause a delay or temporary
reduction in cash distributions to BAC holders. In addition, if the
Partnership's transfer and paying agent experiences Year 2000-related
difficulties, it may cause delays in making distributions to BAC holders or in
the processing of transfers of BACs. It is also possible that one or more of the
IT and non-IT systems of America First will not function correctly, and that
such problems may make it difficult to conduct necessary accounting and other
record keeping functions for the Partnership. However, based on currently
available information, the general partners do not believe that there will be
any protracted systemic failures of the IT or non-IT systems utilized by America
First in connection with the operation of the Partnership's business.
CONTINGENCY PLANS
Because of the progress which America First has made toward achieving Year
2000 readiness, the Partnership has not made any specific contingency plans with
respect to the IT and non-IT systems of America First. In the event of a Year
2000 problem with its IT system, America First may be required to manually
perform certain accounting and other record-keeping functions. America First
plans to terminate the Partnership's relationships with material third party
service providers that are not able to represent to America First that they will
be able to successfully resolve their material Year 2000 issues in a timely
manner. However, the Partnership will not be able to terminate its relationships
with certain third parties, such as the obligors on its GNMA Certificates and
FHA Loans, who may experience Year 2000 problems. The Partnership has no
specific contingency plans for dealing with Year 2000 problems experienced with
these third parties.
All forecasts, estimates or other statements in this report relating to the
Year 2000 readiness of the Partnership and its affiliates are based on
information and assumptions about future events. Such "forward-looking
statements" are subject to various known and unknown risks and uncertainties
that may cause actual events to differ from such statements. Important factors
upon which the Partnership's Year 2000 forward-looking statements are based
include, but are not limited to, (a) the belief of America First that the
software used in IT systems is already able to correctly read and interpret
dates after December 31, 1999 and will require little or any remediation; (b)
the ability to identify, repair or replace mission critical non-IT equipment in
a timely manner, (c) third parties' remediation of their internal systems to be
Year 2000 ready and their willingness to test their systems interfaces with
those of America First, (d) no third party system failures causing material
disruption of telecommunications, data transmission, payment
3
<PAGE>
networks, government services, utilities or other infrastructure, (e) no
unexpected failures by third parties with which the Partnership has a material
business relationship and (f) no material undiscovered flaws in America First's
Year 2000 testing process.
ASSET QUALITY
The FHA Loans and GNMA Certificates owned by the Partnership are guaranteed
as to principal and interest by FHA and GNMA, respectively. The obligations of
FHA and GNMA are backed by the full faith and credit of the United States
government. The Partnership Equity Investments, however, are not insured or
guaranteed. The value of these investments is a function of the value of the
real estate owned by the Operating Partnerships.
The fair value of the properties underlying the Operating Partnerships is
based on management's best estimate of the fair value of such properties,
however; the ultimate realized values may vary from these estimates. The fair
value of the properties is determined based on the discounted estimated future
cash flows from the properties, including estimated sales proceeds. The
calculation of discounted estimated future cash flows includes certain variables
such as the assumed inflation rates for rents and expenses, capitalization rates
and discount rates. These variables are supplied to management by an independent
real estate firm and are based on local market conditions for each property. In
certain cases, additional factors such as the replacement value of the property
or comparable sales of similar properties are also taken into consideration.
The following table shows the occupancy levels of the properties financed by
the Partnership at December 31, 1997:
<TABLE>
<CAPTION>
NUMBER PERCENTAGE
NUMBER OF UNITS OF UNITS
PROPERTY NAME LOCATION OF UNITS OCCUPIED OCCUPIED
- ------------------------------------- ---------------------- ----------- ----------- -------------
<S> <C> <C> <C> <C>
Bluff Ridge Apartments............... Jacksonville, NC 108 106 98%
Fox Hollow Apartments................ High Point, NC 184 170 92%
Highland Park Apartments............. Columbus, OH 252 225 89%
Misty Springs Apartments............. Daytona Beach, FL 128 127 99%
The Ponds at Georgetown.............. Ann Arbor, MI 134 128 96%
Waterman's Crossing.................. Newport News, VA 260 249 96%
Water's Edge Apartments.............. Lake Villa, IL 108 104 96%
----- ----- ---
1,174 1,109 94%
----- ----- ---
----- ----- ---
</TABLE>
BLUFF RIDGE APARTMENTS. Bluff Ridge Apartments is a 108-unit complex
located in Jacksonville, North Carolina. Average occupancy was 96% in 1997,
compared to 94% in 1996. Operations at Bluff Ridge are heavily dependent on
demand from the local military personnel. The Jacksonville rental market has
remained relatively stable throughout 1997. An increase in operating revenue
resulting from rental rate increases and an increase in average occupancy was
virtually offset by an increase in property operating costs. The increase in
operating costs was largely due to property improvements made during the year.
As a result net cash generated by the property in 1997, excluding interest,
approximated that of 1996. The property was current on its debt service payments
during 1997 and generated cash flow in excess of debt service.
FOX HOLLOW APARTMENTS. Fox Hollow Apartments is a 184-unit apartment
community located in High Point, North Carolina. Average occupancy was 96% in
1997, compared to 95% in 1996. Excluding interest, net cash flow generated by
Fox Hollow Apartments decreased approximately 12% from 1996 to 1997. This
decrease is primarily due to increases of approximately 27% in repairs and
maintenance expenses and property improvements and 18% in property taxes which
were partially offset by a slight increase in
4
<PAGE>
operating revenue. Notwithstanding the decrease in net cash flow, the property
remained in compliance with the terms of the Loan Modification Agreement ("LMA")
entered into with a mortgage holder in 1996. While there can be no assurance
that the modified terms of the Fox Hollow mortgage will enable the property to
remain current on its mortgage obligations, the restructuring allows the
Partnership to retain its Partnership Equity Investment in the Fox Hollow
Apartments and improves the property's ability to make its required mortgage
payments from operating cash flow.
HIGHLAND PARK APARTMENTS. Highland Park Apartments contains 252 luxury
garden apartments and is located in Columbus, Ohio. Average occupancy was 93% in
1997, compared to 95% in 1996. Excluding interest, net cash flow generated by
Highland Park Apartments increased approximately 7% from 1996 to 1997. This
increase is due to a 2% increase in operating revenue resulting from rental rate
increases and a 5% decrease in real estate operating expenses, primarily
property improvements. The property remained current on its mortgage obligations
throughout 1997 and generated cash flow in excess of debt service.
MISTY SPRINGS APARTMENTS. Misty Springs Apartments is a 128-unit apartment
community located in Daytona Beach, Florida. Average occupancy was 98% in 1997,
compared to 94% in 1996. The net cash flow generated by the property, excluding
interest, was approximately 22% higher in 1997, compared to 1996, due to an
increase of approximately 9% in operating revenue accompanied by a decrease of
approximately 2% in real estate operating expenses. The increase in operating
revenue was due to the increase in average occupancy and rental rate increases.
Real estate operating expenses were lower primarily due to a decrease in
property taxes.
At December 31, 1997, the Operating Partnership was in compliance with the
terms of a Reinstatement Agreement entered into in 1993. The Operating
Partnership was current on its debt service payments on its mortgage loan during
1997.
THE PONDS AT GEORGETOWN. The Ponds at Georgetown consists of 134 apartments
located in Ann Arbor, Michigan. Average occupancy was 97% in 1997 compared to
95% in 1996. Operating revenue increased approximately 8% in 1997, compared to
1996, primarily due to the increase in average occupancy, rental rate increases
and an increase in corporate unit rentals. Despite the increase in operating
revenue the Operating Partnership remains in default on its mortgage loan and is
delinquent in paying property taxes and insurance. The Partnership continues to
explore a number of alternatives with the mortgage holder to determine the best
course of action to pursue, including a possible restructuring of the mortgage
loan.
WATERMAN'S CROSSING. Waterman's Crossing is a 260-unit apartment community
located in Newport News, Virginia. Average occupancy was 98% in 1997, compared
to 96% in 1996. The Operating Partnership remains current on its mortgage
obligations; however, shortfalls of $95,000 were funded by Partnership reserves
in 1997. An increase in operating revenue resulting from an increase in average
occupancy and rental rate increases was virtually offset by an increase in
repairs and maintenance expenses and property improvements. As a result, net
cash flow generated by the property in 1997, excluding interest, approximated
that of 1996.
WATER'S EDGE APARTMENTS. Water's Edge Apartments is a 108-unit apartment
complex located in Lake Villa, Illinois. Average occupancy was 96% in 1997,
compared to 91% in 1996. The property's net cash flow, excluding interest,
increased approximately 5% in 1997 compared to 1996. This increase resulted from
a 7% increase in operating revenue due to the increase in average occupancy and
rental rate increases which was partially offset by a 10% increase in real
estate operating expenses, primarily real estate taxes. The Operating
Partnership remained current on its mortgage obligations in 1997.
5
<PAGE>
RESULTS OF OPERATIONS
The tables below compare the results of operations for each year shown.
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE
YEAR ENDED YEAR ENDED YEAR ENDED
DEC. 31, DEC. 31, DEC. 31,
1997 1996 1995
------------ ------------ ------------
<S> <C> <C> <C>
Mortgage-backed securities income...................................... $3,302,727 $3,340,747 $3,895,475
Interest income on temporary cash investments and U.S. government
securities........................................................... 554,604 523,636 193,257
Equity in losses of Operating Partnerships............................. (178,550) (257,512) (255,500)
Other income........................................................... 5,334 9,749 3,950
------------ ------------ ------------
3,684,115 3,616,620 3,837,182
Operating and administrative expenses.................................. 632,894 429,313 365,125
------------ ------------ ------------
Net income............................................................. $3,051,221 $3,187,307 $3,472,057
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
<TABLE>
<CAPTION>
INCREASE INCREASE
(DECREASE) (DECREASE)
FROM 1996 FROM 1995
----------- -----------
<S> <C> <C>
Mortgage-backed securities income....................................................... $ (38,020) $ (554,728)
Interest income on temporary cash investments and
U.S. government securities............................................................ 30,968 330,379
Equity in losses of Operating Partnerships.............................................. 78,962 (2,012)
Other income............................................................................ (4,415) 5,799
----------- -----------
67,495 (220,562)
Operating and administrative expenses................................................... 203,581 64,188
----------- -----------
Net income.............................................................................. $ (136,086) $ (284,750)
----------- -----------
----------- -----------
</TABLE>
Mortgage-backed securities income decreased $38,020 from 1996 to 1997. The
decrease was due to the continued amortization of the principal balances of the
Partnership's mortgage-backed securities.
Mortgage-backed securities income decreased $554,728 from 1995 to 1996,
primarily due to payoff of the GNMA Certificate related to Falcon Point
Apartments in November 1995.
Interest on temporary cash investments and U.S. government securities
increased $30,968 from 1996 to 1997 due to an increase in the Partnership's cash
reserve as additional cash was placed in reserves during 1996 and 1997. Interest
on temporary cash investments and U.S. government securities increased $330,379
from 1995 to 1996. This increase is the result of investing proceeds received
from the payoff of the GNMA Certificate related to Falcon Point Apartments in
November 1995 and to additions made to the Partnership's reserves during 1996.
The Partnership suspended recognizing losses in the Operating Partnerships
when the entire initial investment had been consumed by such losses.
Subsequently, losses have been recognized only to the extent of additional
contributions, net of distribution received, to the Operating Partnerships by
the Partnership.
The Partnership made additional investments in certain Operating
Partnerships of $178,550, $334,745 and $255,500 during 1997, 1996 and 1995,
respectively. During 1996, the Partnership received a distribution of $77,233
from one of the Operating Partnerships. The Partnership recorded equity in
losses of Operating Partnerships for 1997, 1996, and 1995 to the extent of the
additional investments in Operating Partnerships, net of distributions received.
6
<PAGE>
Operating and administrative expenses increased $203,581 from 1996 to 1997.
This increase was due to: (i) an increase of approximately $137,000 in salaries
and related expenses, and (ii) an increase of approximately $44,000 in
professional fees incurred in connection with a review of various options
available to the Partnership to improve total investment returns and provide
liquidity to the Partnership's investors and (iii) an increase of approximately
$23,000 in other operating and administrative expenses. Operating and
administrative expenses increased $64,188 from 1995 to 1996 primarily due to
increases in salaries and related expenses.
This Management's Discussion and Analysis of Financial Condition and Results
of Operations contains forward-looking statements that reflect management's
current beliefs and estimates of future economic circumstances, industry
conditions, the Partnership's performance and financial results. All statements,
trend analysis and other information concerning possible or assumed future
results of operations of the Partnership and the real estate investments it has
made constitute forward-looking statements. BAC holders and others should
understand that these forward-looking statements are subject to numerous risks
and uncertainties and a number of factors could affect the future results of the
Partnership and could cause those results to differ materially from those
expressed in the forward-looking statements contained herein.
7
<PAGE>
INDEPENDENT ACCOUNTANTS' REPORT
To the Partners
Capital Source L.P.:
We have audited the accompanying balance sheets of Capital Source L.P. as of
December 31, 1997 and 1996, and the related statements of income, partners'
capital (deficit), and cash flows for each of the three years in the period
ended December 31, 1997. These financial statements are the responsibility of
the Partnership's management. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Capital Source L.P. as of
December 31, 1997 and 1996, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 1997, in conformity
with generally accepted accounting principles.
As discussed in Note 2.H., the accompanying financial statements have been
restated to reflect the investments made by Capital Source L.P. in Operating
Partnerships on the equity method of accounting. Such investments had previously
been consolidated by Capital Source L.P.
/s/ KPMG Peat Marwick LLP
Omaha, Nebraska
October 23, 1998
8
<PAGE>
CAPITAL SOURCE L.P.
BALANCE SHEETS
<TABLE>
<CAPTION>
DEC. 31, 1997 DEC. 31, 1996
----------------- -----------------
<S> <C> <C>
ASSETS
Cash and temporary cash investments, at cost which approximates market
value.................................................................... $ 10,410,564 $ 10,272,497
Investment in FHA Loans (Note 5)........................................... 12,511,046 12,585,755
Investment in GNMA Certificates (Note 5)................................... 23,588,139 23,937,795
Investment in Operating Partnerships (Note 6).............................. -- --
Interest receivable........................................................ 321,485 321,760
Other...................................................................... 134,574 130,969
----------------- -----------------
$ 46,965,808 $ 47,248,776
----------------- -----------------
----------------- -----------------
LIABILITIES AND PARTNERS' CAPITAL (DEFICIT)
Liabilities
Accounts payable (Note 7)................................................ $ 204,142 $ 98,056
Distribution payable (Note 4)............................................ 860,587 860,587
----------------- -----------------
1,064,729 958,643
----------------- -----------------
Partners' Capital (Deficit)
General Partner.......................................................... (156,647) (152,756)
Beneficial Assignment Certificate Holders ($13.65 per BAC in 1997 and
$13.76 in 1996)........................................................ 46,057,726 46,442,889
----------------- -----------------
45,901,079 46,290,133
----------------- -----------------
$ 46,965,808 $ 47,248,776
----------------- -----------------
----------------- -----------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
9
<PAGE>
CAPITAL SOURCE L.P.
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
FOR THE YEAR ENDED DECEMBER 31,
----------------------------------------
1997 1996 1995
------------ ------------ ------------
<S> <C> <C> <C>
Income
Mortgage-backed securities income (Note 5)........................... $3,302,727 $3,340,747 $3,895,475
Interest income on temporary cash investments and U.S. government
securities......................................................... 554,604 523,636 193,257
Equity in losses of Operating Partnerships (Note 6).................. (178,550) (257,512) (255,500)
Other income......................................................... 5,334 9,749 3,950
------------ ------------ ------------
3,684,115 3,616,620 3,837,182
Expenses
Operating and administrative expenses (Note 7)....................... 632,894 429,313 365,125
------------ ------------ ------------
Net income............................................................. $3,051,221 $3,187,307 $3,472,057
------------ ------------ ------------
------------ ------------ ------------
Net income allocated to:
General Partner...................................................... $ 30,512 $ 31,873 $ 34,721
BAC Holders.......................................................... 3,020,709 3,155,434 3,437,336
------------ ------------ ------------
$3,051,221 $3,187,307 $3,472,057
------------ ------------ ------------
------------ ------------ ------------
Net income, basic and diluted, per BAC................................. $ .90 $ .94 $ 1.02
------------ ------------ ------------
------------ ------------ ------------
Weighted average number of BACs outstanding............................ 3,374,222 3,374,222 3,374,222
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
10
<PAGE>
CAPITAL SOURCE L.P.
STATEMENT OF PARTNERS' CAPITAL (DEFICIT)
FROM DECEMBER 31, 1994 TO DECEMBER 31, 1997
<TABLE>
<CAPTION>
GENERAL BAC
PARTNERS HOLDERS TOTAL
----------- ------------- -------------
<S> <C> <C> <C>
Partners' Capital (Deficit) (excluding net unrealized holding gains)
Balance at December 31, 1994, as previously reported................ $ (269,500) $ 34,885,222 $ 34,615,722
Effect of restatement (Note 2.H.)................................... 118,583 11,739,739 11,858,322
----------- ------------- -------------
Balance at December 31, 1994, as restated........................... (150,917) 46,624,961 46,474,044
Net income.......................................................... 34,721 3,437,336 3,472,057
Cash distributions paid or accrued (Note 4)......................... (34,424) (3,407,964) (3,442,388)
----------- ------------- -------------
Balance at December 31, 1995........................................ (150,620) 46,654,333 46,503,713
Net income.......................................................... 31,873 3,155,434 3,187,307
Cash distributions paid or accrued (Note 4)......................... (34,424) (3,407,965) (3,442,389)
----------- ------------- -------------
Balance at December 31, 1996........................................ (153,171) 46,401,802 46,248,631
Net income.......................................................... 30,512 3,020,709 3,051,221
Cash distributions paid or accrued (Note 4)......................... (34,424) (3,407,965) (3,442,389)
----------- ------------- -------------
(157,083) 46,014,546 45,857,463
----------- ------------- -------------
Net unrealized holding gains
Balance at December 31, 1994........................................ -- -- --
Net change.......................................................... 810 80,196 81,006
----------- ------------- -------------
Balance at December 31, 1995........................................ 810 80,196 81,006
Net change.......................................................... (395) (39,109) (39,504)
----------- ------------- -------------
Balance at December 31, 1996........................................ 415 41,087 41,502
Net change.......................................................... 21 2,093 2,114
----------- ------------- -------------
436 43,180 43,616
----------- ------------- -------------
Balance at December 31, 1997.......................................... $ (156,647) $ 46,057,726 $ 45,901,079
----------- ------------- -------------
----------- ------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
11
<PAGE>
CAPITAL SOURCE L.P.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE
FOR THE FOR THE YEAR ENDED
YEAR ENDED YEAR ENDED DEC. 31,
DEC. 31, 1997 DEC. 31, 1996 1995
------------- ------------- ------------
<S> <C> <C> <C>
Cash flows from operating activities
Net income......................................................... $ 3,051,221 $ 3,187,307 $3,472,057
Adjustments to reconcile net income to net cash provided by
operating activities
Equity in losses of Operating Partnerships....................... 178,550 257,512 255,500
Amortization of discount on mortgage-backed securities........... (2,665) (6,700) (11,656)
Decrease in interest receivable.................................. 275 10,926 10,911
Decrease (increase) in other assets.............................. (3,605) 67,223 67,811
Increase (decrease) in accounts payable.......................... 106,086 1,641 (17,951)
------------- ------------- ------------
Net cash provided by operating activities............................ 3,329,862 3,517,909 3,776,672
------------- ------------- ------------
Cash flows from investing activities
FHA Loan and GNMA principal payments received...................... 429,144 491,754 7,519,672
Maturity of U.S. government securities............................. -- 1,000,000 --
Distributions received from Operating Partnerships................. -- 77,233 --
Investments in Operating Partnerships.............................. (178,550) (334,745) (255,500)
Acquisition of U.S. government securities.......................... -- -- (987,578)
------------- ------------- ------------
Net cash provided by investing activities.......................... 250,594 1,234,242 6,276,594
------------- ------------- ------------
Cash flows from financing activities
Distributions paid................................................. (3,442,389) (3,442,389) (3,442,388)
------------- ------------- ------------
Net increase in cash and temporary cash investments.................. 138,067 1,309,762 6,610,878
Cash and temporary cash investments at beginning of year............. 10,272,497 8,962,735 2,351,857
------------- ------------- ------------
Cash and temporary cash investments at end of year................... $ 10,410,564 $ 10,272,497 $8,962,735
------------- ------------- ------------
------------- ------------- ------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
12
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
1. ORGANIZATION.
Capital Source L.P. (the "Partnership") was formed on August 22, 1985, under
the Delaware Revised Uniform Limited Partnership Act. The General Partners of
the Partnership are Insured Mortgage Equities Inc. and America First Capital
Source I, L.L.C. (the "General Partners").
The Partnership was formed to invest principally in federally-insured
mortgages on multifamily housing properties and limited partnership interests in
operating partnerships which construct and operate these properties. Each
federally insured loan is guaranteed in amounts equal to the face amount of the
mortgage, by the Federal Housing Administration (FHA) or the Government National
Mortgage Association (GNMA). Hereinafter, the Partnership's investments in such
mortgages are referred to as investments in mortgage-backed securities. The
Operating Partnerships are geographically located as follows: (i) two in North
Carolina; and, (ii) one each in Ohio, Florida, Michigan, Virginia and Illinois.
CS Properties I, Inc., which is owned by the General Partners, serves as the
Special Limited Partner for the Operating Partnerships. The Special Limited
Partner has the power, among other things, to remove the general partners of the
Operating Partnerships under certain circumstances and to consent to the sale of
the Operating Partnerships' assets. CS Properties I, Inc. also serves as the
general partner of Misty Springs Apartments, Waterman's Crossing and Fox Hollow
Apartments.
The Partnership will terminate subsequent to the sale of all properties but
in no event will the Partnership continue beyond December 31, 2030.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES.
(a) FINANCIAL STATEMENT PRESENTATION. The financial statements of the
Partnership are prepared on the accrual basis of accounting in accordance
with generally accepted accounting principles.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure 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.
(b) INVESTMENT IN MORTGAGE-BACKED SECURITIES. Investment securities
are classified as held-to-maturity, available-for-sale, or trading.
Investments classified as held-to-maturity are carried at amortized cost.
Investments classified as available-for-sale are reported at fair value, as
determined by reference to published sources. Any unrealized gains or losses
are excluded from earnings and reflected as a separate component of
partners' capital. Subsequent increases and decreases in the net unrealized
gain/loss on the available-for-sale securities are reflected as adjustments
to the carrying value of the portfolio and adjustments to the component of
partners' capital. The Partnership does not have investment securities
classified as trading.
(c) INVESTMENT IN OPERATING PARTNERSHIPS. The investment in Operating
Partnerships consists of interests in limited partnerships which own
properties underlying the mortgage-backed securities and are accounted for
using the equity method. The investments by the Partnership in the Operating
Partnerships were recorded at the cost to acquire such interests.
Subsequently losses were recorded by the Partnership as they were realized
by the Operating Partnerships. The Partnership suspended recognizing losses
in the Operating Partnerships when its entire initial investment had been
consumed
13
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES. (CONTINUED)
by such losses. Subsequently, losses have been recognized only to the extent
of additional contributions, net of distribution received, to the Operating
Partnerships by the Partnership. The Operating Partnerships are not insured
or guaranteed. The value of these investments is a function of the value of
the real estate owned by Operating Partnerships. With regard to the
Operating Partnerships, the Partnership has no legal obligation to provide
additional cash support as they are not the general partner, nor have they
indicated any commitment to provide this support; accordingly they have not
reduced their investment in these operating partnerships below zero.
(d) INCOME TAXES. No provision has been made for income taxes since
BAC Holders are required to report their share of the Partnership's income
for federal and state income tax purposes. The book basis of the
Partnerships' assets and liabilities exceeded the tax basis by $9,517,551
and $8,336,381 at December 31, 1997, and December 31, 1996, respectively.
(e) TEMPORARY CASH INVESTMENTS. Temporary cash investments are
invested in short-term debt securities purchased with an original maturity
of three months or less.
(f) NET INCOME PER BENEFICIAL ASSIGNMENT CERTIFICATE ("BAC"). Net
income per BAC is based on the number of BACs outstanding (3,374,222) during
each year presented.
(g) NEW ACCOUNTING PRONOUNCEMENT. The Financial Accounting Standards
Board has issued Financial Accounting Standards No. 128 "Earnings Per Share"
(FAS 128). FAS 128, which is effective for periods ending after December 15,
1997, did not have an impact on the Partnership's computation, presentation
or disclosure of earnings per BAC as no dilutive common share equivalents
existed at December 31, 1997.
(h) RESTATEMENT. The Partnership holds a majority ownership interest
and through CS Properties I, Inc. can influence the decisions of the general
partners of the Operating Partnerships in certain circumstances.
Accordingly, the Partnership had consolidated the Operating Partnerships
since inception. In 1998, it was determined that this influence did not
constitute control of the Operating Partnerhips. Therefore, the accompanying
financial statements have been restated to deconsolidate the Operating
Partnerships and to account for the investments in Operating Partnerships
under the equity method of accounting rather than consolidation.
Under the equity method of accounting, the Partnership's investments are
adjusted to reflect its share of Operating Partnership profits or losses and
distributions. As required by consolidation accounting, the Partnership had
recorded losses from the Operating Partnerships substantially in excess of
its investments. As previously disclosed, the Partnership is not the general
partner nor is it obliged to fund the negative balances. Under equity
accounting, the Partnership does not reduce the carrying value of its
investments below zero. As restated, investments in the Operating
Partnerships are reflected at zero and profits and losses are recorded based
on capital contributions made and distributions received from the Operating
Partnerships.
The restatement increased partners' capital at December 31, 1994 by
$11,858,322, which was the negative balance of the Investment in Operating
Partnerships at that date. The restatement further increased net income for
1997, 1996 and 1995 by $648,681, $539,989 and $639,944, respectively. Income
before extraordinary item increased by $622,205 for 1996. Net income per BAC
(basic and
14
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES. (CONTINUED)
diluted) increased by $.20, $.16, and $.19, respectively. Income per BAC,
before extraordinary item, increased by $.18 for 1996.
3. PARTNERSHIP RESERVE ACCOUNT.
The Partnership maintains a reserve account which consisted of the following
at December 31, 1997:
<TABLE>
<CAPTION>
<S> <C>
Cash and temporary cash investments............................................ $ 9,698,532
GNMA Certificates.............................................................. 1,088,526
-------------
$ 10,787,058
-------------
-------------
</TABLE>
The reserve account was established to maintain working capital for the
Partnership and is available for distribution to BAC Holders and for any
contingencies related to the Partnership's investment in mortgage-backed
securities and the operation of the Partnership. See Note 5 regarding the
investment in mortgage-backed securities.
4. PARTNERSHIP INCOME, EXPENSES AND CASH DISTRIBUTIONS.
Profits and losses from continuing operations and cash available for
distribution will be allocated 99% to the investors and 1% to the General
Partners. Certain fees payable to the General Partners will not become due until
investors have received certain priority returns. Cash distributions included in
the financial statements represent the actual cash distributions made during
each year and the cash distributions accrued at the end of each year.
The General Partners will also receive 1% of the net proceeds from any sale
of Partnership assets. The General Partners will receive a termination fee equal
to 3% of all sales proceeds less actual costs incurred in connection with all
sales transactions, payable only after the investors have received a return of
their capital contributions and a 13% annual return on a cumulative basis. The
General Partners will also receive a fee equal to 9.1% of all cash available for
distribution and sales proceeds (after deducting from cash available or sales
proceeds any termination fee paid therefrom) after investors have received a
return of their capital contributions and a 13% annual return on a cumulative
basis.
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES.
The mortgage-backed securities held by the Partnership represent Government
National Mortgage Association ("GNMA") Certificates and Federal Housing
Administration ("FHA") Loans. The GNMA Certificates are backed by first mortgage
loans on multifamily housing properties and pools of single-family properties.
The GNMA Certificates are debt securities issued by a private mortgage lender
and are guaranteed by GNMA as to the full and timely payment of principal and
interest on the underlying loans. The FHA Loans are guaranteed as to the full
and timely payment of principal and interest on the underlying loans.
At December 31, 1997, the total amortized cost, gross unrealized holding
gains, and aggregate fair value of available-for-sale securities were
$1,044,910, $43,616 and $1,088,526, respectively. The total amortized cost,
gross unrealized holding gains and aggregate fair value of held-to-maturity
securities were $35,010,659, $491,651 and $35,502,310, respectively.
15
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES. (CONTINUED)
At December 31, 1996, the total amortized cost, gross unrealized holding
gains, and aggregate fair value of available-for-sale securities were
$1,285,894, $41,502 and $1,327,396, respectively. The total amortized cost,
gross unrealized holding gains and aggregate fair value of held-to-maturity
securities were $35,196,154, $369,253 and $35,565,407, respectively.
Prior to June 30, 1995, the Partnership classified all investment securities
as held-to-maturity. However, during the quarter ending June 30, 1995, the
Partnership reassessed the appropriateness of the classification of securities
held in the reserve account. The Partnership concluded, given the nature of the
reserve account, it would be more appropriate to classify securities held in the
reserve account as available-for-sale rather than as held-to-maturity.
Accordingly, on June 30, 1995, the Partnership transferred all securities held
in the reserve account from the held-to-maturity classification to the
available-for-sale classification. The total amortized cost, gross unrealized
holding gains and aggregate fair value of the securities transferred were
$2,740,792, $57,052 and $2,797,844, respectively.
Descriptions of the Partnership's mortgage-backed securities held during the
year ended December 31, 1997, are as follows:
<TABLE>
<CAPTION>
INCOME
NUMBER OF INTEREST MATURITY CARRYING EARNED IN
TYPE OF SECURITY AND NAME LOCATION UNITS RATE DATE AMOUNT 1997
- ---------------------------------- ------------------ ------------- ---------- ------------ ---------- ---------
<S> <C> <C> <C> <C> <C> <C>
Held-to-Maturity
GNMA Certificates:
Misty Springs Apartments Daytona Beach, FL 128 8.75% 06-15-2029 $4,271,963 $ 374,738
Waterman's Crossing Newport News, VA 260 10.00% 09-15-2028 10,927,185 1,094,961
The Ponds at Georgetown Ann Arbor, MI 134 9.00% 12-15-2029 2,233,928 201,510
Water's Edge Apartments Lake Villa, IL 108 12-15-2028 5,066,537 444,493
---------- ---------
22,499,613 2,115,702
---------- ---------
FHA Loan:
Bluff Ridge Apartments Jacksonville, NC 108 8.72% 11-15-2028 3,510,035 306,923
Highland Park Apartments Columbus, OH 252 8.75% 11-01-2028 9,001,011 789,781
---------- ---------
35,010,658 3,212,406
---------- ---------
Available-for-sale
GNMA Certificates:
Pools of single-family mortgages 7.58%(1) 2006 to 2009 539,913(2) 45,538
Pools of single-family mortgages 7.58%(1) 2007 to 2008 548,613(2) 44,783
---------- ---------
1,088,526 90,321
---------- ---------
Balance at December 31, 1997 36,099,185 3,302,727
---------- ---------
---------- ---------
</TABLE>
- ------------------------------
(1) Represents yield to the Partnership.
(2) Reserve account asset--see Note 3.
16
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES. (CONTINUED)
Reconciliation of the carrying amount of the mortgage-backed securities is
as follows:
<TABLE>
<CAPTION>
FOR THE YEAR FOR THE YEAR FOR THE YEAR
ENDED DEC. ENDED DEC. ENDED DEC.
31, 1997 31, 1996 31, 1995
------------- ------------- -------------
<S> <C> <C> <C>
Balance at beginning of year........................................ $ 36,523,550 $ 37,043,108 $ 44,487,540
Additions
Amortization of discount on mortgage-backed securities.......... 2,665 6,700 11,656
Change in net unrealized holding gains on available-for-sale
securities...................................................... 2,114 (34,504) 63,584
Deductions
FHA Loan and GNMA principal payments received................... (429,144) (491,754) (7,519,672)
------------- ------------- -------------
Balance at end of year.............................................. $ 36,099,185 $ 36,523,550 $ 37,043,108
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
6. INVESTMENT IN OPERATING PARTNERSHIPS.
The Partnership's Operating Partnerships consist of interests in limited
partnerships which own multifamily properties financed by the GNMA Certificates
and FHA Loans held by the Partnership. The limited partnership agreements
originally provided for the payment of a base return on the equity provided to
the limited partnerships and for the payment of additional amounts out of a
portion of the net cash flow or net sale or refinancing proceeds of the
properties subject to various priority payments.
Descriptions of the Operating Partnerships held at December 31, 1997, are as
follows:
<TABLE>
<CAPTION>
EQUITY IN
LOSSES OF
CARRYING OPERATING
NAME LOCATION PARTNERSHIP NAME AMOUNT PARTNERSHIPS
- --------------------------- ------------------ ------------------------------ ----------- ------------
<S> <C> <C> <C> <C>
Misty Springs Apartments Daytona Beach, FL Cypress Landings II, LTD. $ -- $ (30,000)
The Ponds at Georgetown Ann Arbor, MI Ponds at Georgetown Limited -- (53,550)
Partnership
Waterman's Crossing Newport News, VA Oyster Cove Limited -- (95,000)
Partnership
Water's Edge Apartments Lake Villa, IL Water's Edge Limited -- --
Partnership
Bluff Ridge Apartments Jacksonville, NC Bluff Ridge Associates Limited -- --
Partnership
Highland Park Apartments Columbus, OH Interstate Limited Partnership -- --
----- ------------
Balance at December 31, $ -- $ (178,550)
1997
----- ------------
----- ------------
</TABLE>
17
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
6. INVESTMENT IN OPERATING PARTNERSHIPS. (CONTINUED)
Reconciliation of the carrying amount of the Operating Partnerships is as
follows:
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE
YEAR ENDED YEAR ENDED YEAR ENDED
DEC. 31, DEC. 31, DEC. 31,
1997 1996 1995
----------- ----------- -----------
<S> <C> <C> <C>
Balance at beginning of year.......................... $ -- $ -- $ --
Addition
Investment in Operating Partnerships.............. 178,550 334,745 255,500
Deductions
Equity in losses of Operating Partnerships........ (178,550) (257,512) (255,500)
Distributions received from Operating
Partnerships.................................... -- (77,233) --
----------- ----------- -----------
Balance at end of year................................ $ -- $ -- $ --
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
18
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
6. INVESTMENT IN OPERATING PARTNERSHIPS. (CONTINUED)
Combined Financial Statements of the Operating Partnerships are as follows:
CAPITAL SOURCE L.P.
OPERATING PARTNERSHIPS BALANCE SHEETS
<TABLE>
<CAPTION>
DEC. 31, 1997 DEC. 31, 1996
-------------- --------------
<S> <C> <C>
Assets
Investment in real estate:
Land.......................................................................... $ 3,093,671 $ 3,093,671
Buildings..................................................................... 37,716,906 37,697,254
Personal Property............................................................. 2,001,950 1,992,979
-------------- --------------
42,812,527 42,783,904
Less accumulated depreciation................................................. (11,267,188) (10,307,126)
-------------- --------------
Net investment in real estate................................................. 31,545,339 32,476,778
Cash and temporary cash investments, at cost which approximates market
value....................................................................... 294,233 317,401
Escrow deposits and property reserves......................................... 600,753 600,395
Interest and other receivables................................................ 16,103 8,805
Deferred mortgage issuance cost, net of accumulated amortization.............. 2,047,698 2,121,677
Other assets.................................................................. 518,661 540,623
-------------- --------------
$ 35,022,787 $ 36,065,679
-------------- --------------
-------------- --------------
Liabilities and Partners' Capital (Deficit)
Liabilities
Accounts payable and accrued expenses......................................... $ 1,303,872 $ 1,294,720
Mortgage loan payable......................................................... 41,331,679 41,551,672
Intercompany interest payable................................................. 291,230 292,403
Due to general partners and their affiliates.................................. 4,013,626 4,117,105
-------------- --------------
46,940,407 47,255,900
-------------- --------------
Partners' Capital (Deficit)
General Partners.............................................................. (11,917,620) (11,190,221)
Limited Partners.............................................................. -- --
-------------- --------------
(11,917,620) (11,190,221)
$ 35,022,757 $ 36,065,679
-------------- --------------
-------------- --------------
</TABLE>
19
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
6. INVESTMENT IN OPERATING PARTNERSHIPS. (CONTINUED)
CAPITAL SOURCE L.P.
OPERATING PARTNERSHIPS INCOME STATEMENTS
<TABLE>
<CAPTION>
FOR THE FOR THE
YEAR ENDED FOR THE YEAR ENDED
DEC. 31, YEAR ENDED DEC. 31,
1997 DEC. 31, 1996 1995
------------ ------------- ------------
<S> <C> <C> <C>
Income
Rental income....................................................... $7,555,700 $ 7,203,323 $7,210,114
Interest on temporary cash investment and U.S. government
securities........................................................ 29,277 26,964 31,879
Other income........................................................ 246,723 260,383 215,426
------------ ------------- ------------
7,831,700 7,490,670 7,457,419
------------ ------------- ------------
Expenses
Real estate operating expenses...................................... 3,838,231 3,712,500 3,462,042
Depreciation expense................................................ 960,062 951,835 950,919
Interest expense.................................................... 3,836,067 3,855,732 3,922,945
Amortization........................................................ 73,980 69,309 74,026
------------ ------------- ------------
8,708,340 8,589,376 8,409,932
------------ ------------- ------------
Loss before extraordinary item........................................ (876,640) (1,098,706) (952,513)
Extraordinary item--gain from forgiveness of accrued interest....... -- 82,216 --
------------ ------------- ------------
Net Loss.............................................................. $ (876,640) $ (1,016,490) $ (952,513)
------------ ------------- ------------
------------ ------------- ------------
Net Loss allocated to:
General Partners.................................................... (698,090) (758,978) (697,013)
Limited partners.................................................... (178,550) (257,512) (255,500)
------------ ------------- ------------
$ (876,640) $ (1,016,490) $ (952,513)
------------ ------------- ------------
------------ ------------- ------------
</TABLE>
20
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
6. INVESTMENT IN OPERATING PARTNERSHIPS. (CONTINUED)
CAPITAL SOURCE L.P.
OPERATING PARTNERSHIPS CASH FLOW
<TABLE>
<CAPTION>
FOR THE FOR THE
YEAR ENDED FOR THE YEAR ENDED
DEC. 31, YEAR ENDED DEC. 31,
1997 DEC. 31, 1996 1995
------------ ------------- ------------
<S> <C> <C> <C>
Cash flows from operating activities
Net loss $ (876,640) $ (1,016,490) $ (952,513)
Adjustments to reconcile net loss to net cash provided by operating
activities:
Extraordinary item--gain from forgiveness of accrued interest...... -- 82,216 --
Depreciation and amortization...................................... 1,034,042 1,021,144 1,024,945
Decrease (increase) in interest and other receivables.............. (7,298) 1,233 (2,179)
Decrease (increase) in escrow deposits and property reserves....... (358) 55,329 342,614
Decrease (increase) in other assets................................ 21,962 (31,269) (103,396)
Increase in accounts payable and accrued expenses.................. 9,152 209,282 27,507
Decrease in intercompany interest payable.......................... (1,173) (313,032) (38,172)
Increase (decrease) in due to general partners and their
affiliates....................................................... (103,479) 4,522 (399,530)
------------ ------------- ------------
Net cash provided by operating activities............................ 76,208 12,935 (100,724)
------------ ------------- ------------
Cash flows from investing activities:
Acquisition of real estate......................................... (19,652) (12,000) --
Acquisition of personal property................................... (8,971) (5,222) (7,211)
------------ ------------- ------------
Net cash used in investing activities.............................. (28,623) (17,222) (7,211)
------------ ------------- ------------
Cash flows from financing activities:
Principal payments on mortgage loan payable........................ (219,993) (206,424) (157,182)
Contributions...................................................... 178,550 334,745 255,500
Distributions...................................................... -- (77,233) --
Other net.......................................................... (29,310) (93,005) --
------------ ------------- ------------
Net cash provided by (used in) financing activities................ (70,753) (41,917) 98,318
------------ ------------- ------------
Net decrease in cash and temporary cash investments.................... (23,168) (46,204) (9,617)
Cash and temporary cash investments at beginning of year............... 317,401 363,605 373,222
------------ ------------- ------------
Cash and temporary cash investments at end of year..................... $ 294,233 $ 317,401 $ 363,605
------------ ------------- ------------
------------ ------------- ------------
</TABLE>
7. TRANSACTIONS WITH RELATED PARTIES.
The General Partners, certain of their affiliates and the Operating
Partnerships' general partners have received or may receive fees, compensation,
income, distributions and payments from the Partnership in
21
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
7. TRANSACTIONS WITH RELATED PARTIES. (CONTINUED)
connection with the offering and the investment, management and sale of the
Partnership's assets (other than disclosed elsewhere) as follows.
The General Partners are entitled to receive an asset management and
partnership administration fee equal to 0.5% of invested assets per annum,
payable only during such years that an 8% return has been paid to investors on a
noncumulative basis. Any unpaid amounts will accrue and be payable only after a
13% annual return to investors has been paid on a cumulative basis and the
investors have received the return of their capital contributions. For the years
ended December 31, 1997, 1996 and 1995, distributions to investors represented
less than an 8% return; accordingly, no fees were paid or accrued during these
years.
Substantially all of the Partnership's general and administrative expenses
and certain costs capitalized by the Partnership are paid by a General Partner
or an affiliate and reimbursed by the Partnership. The amount of such expenses
reimbursed to the General Partner was $533,419, $347,522, and $309,826 for the
years ended December 31, 1997, 1996 and 1995, respectively. These reimbursed
expenses are presented on a cash basis and do not reflect accruals made at each
year end.
An affiliate of the General Partners has been retained to provide property
management services for Waterman's Crossing, Misty Springs Apartments, Fox
Hollow Apartments (beginning in June 1995) and The Ponds at Georgetown
(beginning in November 1996). The fees for services provided were $183,069,
$165,721 and $136,529 for 1997, 1996 and 1995, respectively, and represented the
lower of costs incurred in providing management of the property or customary
fees for such services determined on a competitive basis.
8. FAIR VALUE OF FINANCIAL INSTRUMENTS.
The following methods and assumptions were used by the Partnership in
estimating the fair value of its financial instruments:
CASH AND TEMPORARY CASH INVESTMENTS, INTEREST RECEIVABLE, OTHER ASSETS,
ACCOUNTS PAYABLE, DISTRIBUTIONS PAYABLE: Fair value approximates the carrying
value of such assets.
INVESTMENT IN FHA LOANS AND GNMA CERTIFICATES. Fair values are based on
prices obtained
from an independent pricing source, adjusted for estimated prepayments.
<TABLE>
<CAPTION>
AT DECEMBER 31, 1997 AT DECEMBER 31, 1996
---------------------------- ----------------------------
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Cash and temporary cash investments................. $ 10,410,564 $ 10,410,564 $ 10 272,497 $ 10,272,497
Investment in FHA Loans............................. $ 12,511,046 $ 12,679,944 $ 12,585,755 $ 12,695,402
Investment in GNMA Certificates..................... $ 23,588,139 $ 23,910,892 $ 23,937,795 $ 24,197,401
</TABLE>
22
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
10. SUMMARY OF UNAUDITED QUARTERLY RESULTS OF OPERATIONS. (RESTATED)
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
FROM JANUARY 1, 1997, TO DECEMBER 31, 1997 QUARTER QUARTER QUARTER QUARTER
- -------------------------------------------------------------- ----------- ----------- ----------- ----------
<S> <C> <C> <C> <C>
Total income.................................................. $ 928,096 $ 885,712 $ 947,165 $ 923,142
Total expenses................................................ (120,423) (119,321) (138,961) (254,189)
----------- ----------- ----------- ----------
Net income.................................................... $ 807,673 $ 766,391 $ 808,204 $ 668,953
----------- ----------- ----------- ----------
----------- ----------- ----------- ----------
Net income, basic and diluted, per BAC........................ $ .24 $ .22 $ .24 $ .20
----------- ----------- ----------- ----------
----------- ----------- ----------- ----------
</TABLE>
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
FROM JANUARY 1, 1996, TO DECEMBER 31, 1996 QUARTER QUARTER QUARTER QUARTER
- -------------------------------------------------------------- ----------- ----------- ----------- ----------
<S> <C> <C> <C> <C>
Total income.................................................. $ 753,100 $ 983,837 $ 940,235 $ 939,448
Total expenses................................................ (112,536) (114,190) (112,790) (89,797)
----------- ----------- ----------- ----------
Net income.................................................... $ 640,564 $ 869,647 $ 827,445 $ 849,651
----------- ----------- ----------- ----------
----------- ----------- ----------- ----------
Net income per BAC............................................ $ .19 $ .26 $ .24 $ .25
----------- ----------- ----------- ----------
----------- ----------- ----------- ----------
</TABLE>
23
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
JUNE 30, 1998
LIQUIDITY AND CAPITAL RESOURCES
The Partnership originally acquired: (i) five mortgage-backed securities
guaranteed as to principal and interest by the Government National Mortgage
Association ("GNMA") collateralized by first mortgage loans on multifamily
housing properties located in five states; (ii) three first mortgage loans
insured as to principal and interest by the Federal Housing Administration
("FHA") on multifamily housing properties located in two states; and (iii)
Partnership Equity Investments in eight limited partnerships which own the
multifamily properties financed by the GNMA Certificates and FHA Loans. The
Partnership subsequently received FHA Debentures in payment of the FHA Loan on
Fox Hollow Apartments which were paid in full in 1993. In 1994, foreclosure
proceedings were initiated on Falcon Point Apartments and, accordingly, the
Partnership no longer holds a Partnership Equity Investment in this property. In
addition, during 1995, the GNMA Certificate related to Falcon Point Apartments
was paid-in-full to the Partnership. Collectively, the remaining GNMA
Certificates, FHA Loans and Partnership Equity Investments are referred to as
the "Permanent Investments". The Partnership has also invested amounts held in
its reserve account in certain GNMA securities backed by pools of single-family
mortgages ("Reserve Investments"). The obligations of GNMA and FHA are backed by
the full faith and credit of the United States government.
DISTRIBUTIONS
Cash distributions paid or accrued per BAC were as follows:
<TABLE>
<CAPTION>
FOR THE SIX FOR THE SIX
MONTHS ENDED MONTHS ENDED
JUNE 30, 1998 JUNE 30, 1997
--------------- ---------------
<S> <C> <C>
Regular quarterly distributions
Income....................................................... $ .4362 $ .4618
Return of capital............................................ .0688 .0432
------ ------
.5050 .5050
------ ------
------ ------
Distributions
Paid out of cash flow........................................ $ .5050 $ .5050
------ ------
------ ------
</TABLE>
Regular quarterly distributions to BAC Holders consist primarily of interest
received on FHA Loans and GNMA Certificates. Additional cash for distributions
is received from other investments. The Partnership may draw on reserves to pay
operating expenses or to supplement cash distributions to investors. The
Partnership is permitted to replenish reserves with cash flows in excess of
distributions paid. For the six months ended June 30, 1998, $28,753 ($41,349 for
the quarter ended June 30, 1998) of undistributed cash flow was placed in
reserves. The total amount held in reserves at June 30, 1998, was $10,684,375 of
which $967,089 was invested in GNMA Certificates.
The Partnership believes that cash provided by operating activities and, if
necessary, withdrawals from the Partnership's reserves will be adequate to meet
its short-term and long-term liquidity requirements, including the payments of
distributions to BAC Holders. Under the terms of its Partnership Agreement, the
Partnership has the authority to enter into short-term and long-term debt
financing arrangements; however, the Partnership currently does not anticipate
entering into such arrangements. The Partnership is not authorized to issue
additional BACs to meet short-term and long-term liquidity requirements.
24
<PAGE>
YEAR 2000
The Partnership does not own or operate its own computer system and owns no
business or other equipment. However, the operation of the Partnership's
business relies on the computer system and other equipment maintained by America
First Companies L.L.C., the parent company of its general partners ("America
First"). In addition, the Partnership has business relationships with a number
of third parties whose ability to perform their obligations to the Partnership
depend on such systems and equipment. Some or all of these systems and equipment
may be affected by the inability of certain computer programs and embedded
circuitry to correctly recognize dates occurring after December 31, 1999.
America First has adopted a plan to deal with this so-called "Year 2000 problem"
with respect to its information technology ("IT") systems, non-IT systems and
third party business relationships.
STATE OF READINESS
The IT system maintained by America First consists primarily of personal
computers, most of which are connected by a local area network. All accounting
and other record keeping functions relating to the Partnership that are
conducted in house by America First are performed on this PC-LAN system. America
First does not own or operate any "mainframe" computer systems. The PC-LAN
system runs software programs that America First believes are compatible with
dates after December 31, 1999. America First has engaged a third party computer
consulting firm to review and test its PC-LAN system to ensure that it will
function correctly after that date and expects that this process, along with any
necessary remediation, will be completed by March 31, 1999. America First
believes any Year 2000 problems relating to its IT systems will be resolved
without significant operational difficulties. However, there can be no assurance
that testing will discover all potential Year 2000 problems or that it will not
reveal unanticipated material problems with the America First IT systems that
will need to be resolved.
Non-IT systems include embedded circuitry such as microcontrollers found in
telephone equipment, security and alarm systems, copiers, fax machines, mail
room equipment, heating and air conditioning systems and other infrastructure
systems that are used by America First in connection with the operation of the
Partnership's business. America First is reviewing its non-IT systems along with
the providers that service and maintain these systems, with initial emphasis
being placed on those, such as telephone systems, which have been identified as
necessary to America First's ability to conduct the operation of the
Partnership's business activities. America First expects that any necessary
modification or replacement of such "mission critical" systems will be
accomplished by mid-1999.
The Partnership has no control over the remediation efforts of third parties
with which it has material business relationships and the failure of certain of
these third parties to successfully remediate their Year 2000 issues could have
a material adverse effect on the Partnership. Accordingly, America First has
undertaken the process of contacting each such third party to determine the
state of their readiness for Year 2000. Such parties include, but are not
limited to, the obligors on the Partnership's GNMA Certificates and FHA Loans,
the Partnership's transfer and paying agent and the financial institutions with
which the Partnership maintains accounts. America First has received initial
assurances from certain of these third parties that their ability to perform
their obligations to the Partnership are not expected to be materially adversely
affected by the Year 2000 problem. America First will continue to request
updated information from these material third parties in order to access their
Year 2000 readiness. If a material third party vendor is unable to provide
assurance to America First that it is, or will be, ready for Year 2000, America
First intends to seek an alternative vendor to the extent practical.
COSTS
All of the IT systems and non-IT systems used to conduct the Partnership's
business operations are owned or leased by America First. Under the terms of its
partnership agreement, neither America First nor the Partnership's general
partners may be reimbursed by the Partnership for expenses associated with
25
<PAGE>
their computer systems or other business equipment. Therefore, the costs
associated with the identification, remediation and testing of America First's
IT and non-IT systems will be paid by America First rather than the Partnership.
The Partnership will bear its proportionate share of the costs associated with
surveying the Year 2000 readiness of third parties. However, the Partnership's
share of the costs associated with these activities is expected to be
insignificant. Accordingly, the costs associated with addressing the
Partnership's Year 2000 issues are not expected to have a material effect on the
Partnership's results of operations, financial position or cash flow.
YEAR 2000 RISKS
The Partnership's general partners believe that the most reasonably likely
worst-case scenario will be that one or more of the third parties with which it
has a material business relationship will not have successfully dealt with its
Year 2000 issues and, as a result, is unable to provide services or otherwise
perform its obligations to the Partnership. For example, if an obligor on the
Partnership's GNMA Certificates or FHA Loans encounters a serious and unexpected
Year 2000 issue, it may be unable to make a timely payment of principal and
interest to the Partnership. This, in turn, could cause a delay or temporary
reduction in cash distributions to BAC holders. In addition, if the
Partnership's transfer and paying agent experiences Year 2000-related
difficulties, it may cause delays in making distributions to BAC holders or in
the processing of transfers of BACs. It is also possible that one or more of the
IT and non-IT systems of America First will not function correctly, and that
such problems may make it difficult to conduct necessary accounting and other
record keeping functions for the Partnership. However, based on currently
available information, the general partners do not believe that there will be
any protracted systemic failures of the IT or non-IT systems utilized by America
First in connection with the operation of the Partnership's business.
CONTINGENCY PLANS
Because of the progress which America First has made toward achieving Year
2000 readiness, the Partnership has not made any specific contingency plans with
respect to the IT and non-IT systems of America First. In the event of a Year
2000 problem with its IT system, America First may be required to manually
perform certain accounting and other record-keeping functions. America First
plans to terminate the Partnership's relationships with material third party
service providers that are not able to represent to America First that they will
be able to successfully resolve their material Year 2000 issues in a timely
manner. However, the Partnership will not be able to terminate its relationships
with certain third parties, such as the obligors on its GNMA Certificates and
FHA Loans, who may experience Year 2000 problems. The Partnership has no
specific contingency plans for dealing with Year 2000 problems experienced with
these third parties.
All forecasts, estimates or other statements in this report relating to the
Year 2000 readiness of the Partnership and its affiliates are based on
information and assumptions about future events. Such "forward-looking
statements" are subject to various known and unknown risks and uncertainties
that may cause actual events to differ from such statements. Important factors
upon which the Partnership's Year 2000 forward-looking statements are based
include, but are not limited to, (a) the belief of America First that the
software used in IT systems is already able to correctly read and interpret
dates after December 31, 1999 and will require little or any remediation; (b)
the ability to identify, repair or replace mission critical non-IT equipment in
a timely manner, (c) third parties' remediation of their internal systems to be
Year 2000 ready and their willingness to test their systems interfaces with
those of America First, (d) no third party system failures causing material
disruption of telecommunications, data transmission, payment networks,
government services, utilities or other infrastructure, (e) no unexpected
failures by third parties with which the Partnership has a material business
relationship and (f) no material undiscovered flaws in America First's Year 2000
testing process.
26
<PAGE>
ASSET QUALITY
The FHA Loans and GNMA Certificates owned by the Partnership are guaranteed
as to principal and interest by FHA and GNMA, respectively. The obligations of
FHA and GNMA are backed by the full faith and credit of the United States
government. The Partnership Equity Investments, however, are not insured or
guaranteed. The value of these investments is a function of the value of the
real estate owned by Operating Partnerships. The fair value of the properties
underlying the Operating Partnerships is based on management's best estimate of
the fair value of such properties; however, the ultimate realized values may
vary from these estimates.
In order to cure the ongoing mortgage default and tax delinquency at The
Ponds of Georgetown, a preliminary agreement has been reached between all
parties to the transaction. The general partners of the Operating Partnership
which owns The Ponds at Georgetown have agreed to withdraw from the partnership.
CS Properties I, Inc., which is owned by affiliates of the General Partner of
the Partnership and currently serves as a special limited partner for such
Operating Partnership, would become a substitute general partner along with CS
Properties II, Inc. which currently serves as the special limited partner
representing the partnership interests of Capital Source II, the owner of a
portion of the limited partnership interests in the Operating Partnership. It is
anticipated that the mortgage loan will be rewritten at its original principal
amount at a lower interest rate with anticipation that cash flow from the
property will be sufficient to cover all of the property's cash needs, including
the mortgage and taxes. Capital Source I, along with Capital Source II, have
agreed to contribute additional capital for delinquent taxes and other
outstanding amounts in conjunction with this agreement.
The overall status of the Partnership's other investments has remained
relatively constant since March 31, 1998.
The following table shows the occupancy levels of the properties financed by
the Partnership at June 30, 1998:
<TABLE>
<CAPTION>
NUMBER PERCENTAGE
NUMBER OF UNITS OF UNITS
PROPERTY NAME LOCATION OF UNITS OCCUPIED OCCUPIED
- ------------------------------------- ---------------------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Bluff Ridge Apartments............... Jacksonville, NC 108 104 96%
Fox Hollow Apartments................ High Point, NC 184 164 89%
Highland Park Apartments............. Columbus, OH 252 242 96%
Misty Springs Apartments............. Daytona Beach, FL 128 128 100%
The Ponds at Georgetown.............. Ann Arbor, MI 134 131 98%
Waterman's Crossing.................. Newport News, VA 260 260 100%
Water's Edge Apartments.............. Lake Villa, IL 108 106 98%
----- ----- -----
1,174 1,135 97%
----- ----- -----
----- ----- -----
</TABLE>
27
<PAGE>
RESULTS OF OPERATIONS
The tables below compare the results of operations for each period shown.
<TABLE>
<CAPTION>
FOR THE FOR THE INCREASE
QUARTER ENDED QUARTER ENDED (DECREASE)
JUNE 30, 1998 JUNE 30, 1997 FROM 1997
-------------- -------------- -----------
<S> <C> <C> <C>
Mortgage-backed securities income..................................... $ 817,818 $ 826,753 $ (8,935)
Interest income on temporary cash investments......................... 136,428 137,159 (731)
Equity in losses of Operating Partnerships............................ -- (78,550) 78,550
Other income.......................................................... 2,300 350 1,950
-------------- -------------- -----------
956,546 885,712 70,834
Operating and administrative expenses................................. 196,565 119,321 77,244
-------------- -------------- -----------
Net income............................................................ $ 759,981 $ 766,391 $ (6,410)
-------------- -------------- -----------
-------------- -------------- -----------
</TABLE>
<TABLE>
<CAPTION>
FOR THE SIX FOR THE SIX INCREASE
MONTHS ENDED MONTHS ENDED (DECREASE)
JUNE 30, 1998 JUNE 30, 1997 FROM 1997
------------- ------------- ----------
<S> <C> <C> <C>
Mortgage-backed securities income..................................... $ 1,638,110 $ 1,655,673 $ (17,563)
Interest income on temporary cash investments......................... 274,605 270,635 3,970
Equity in losses of Operating Partnerships............................ (10,000) (113,550) 103,550
Other income.......................................................... 3,450 1,050 2,400
------------- ------------- ----------
1,906,165 1,813,808 92,357
Operating and administrative expenses................................. 419,369 239,744 179,625
------------- ------------- ----------
Net income............................................................ $ 1,486,796 $ 1,574,064 $ (87,268)
------------- ------------- ----------
------------- ------------- ----------
</TABLE>
Mortgage-backed securities income decreased for the quarter and six months
ended June 30, 1998, compared to the same periods in 1997 due to the continued
amortization of the principal balances of the Partnership's mortgage-backed
securities.
The Partnership suspended recognizing losses in the Operating Partnerships
when its entire initial investment had been consumed by such losses.
Subsequently, losses have been recognized only to the extent of additional
contributions, net of distribution received, to the Operating Partnerships by
the Partnership. During the six months ended June 30, 1998, the Partnership made
additional investments in certain Operating Partnerships of $10,000 (none for
the quarter). During the six months ended June 30, 1997, the Partnership made
additional investments in certain Operating Partnerships of $113,550 ($78,550
for the quarter). The Partnership recorded equity in losses of Operating
Partnerships for the respective periods to the extent of the additional
investments.
Operating and administrative expenses increased for the quarter and six
months ended June 30, 1998, compared to the same periods in 1997 primarily due
to increases in salaries and related expenses, consulting expenses and travel
expenses. Salaries and related expenses increased as additional management time
was incurred in conjunction with the proposed merger described in Note 8 to the
financial statements.
This Management's Discussion and Analysis of Financial Condition and
Result's of Operations contains forward looking statements that reflect
management's current beliefs and estimates of future economic circumstances,
industry conditions, the Partnership's performance and financial results. All
statements, trend analysis and other information concerning possible or assumed
future results of operations of the Partnership and the real estate investments
it has made constitute forward-looking statements. BAC Holders and others should
understand that these forward-looking statements are subject to numerous risks
and uncertainties and a number of factors could affect the future results of the
Partnership and could cause those results to differ materially from those
expressed in the forward-looking statements contained herein.
28
<PAGE>
CAPITAL SOURCE L.P.
BALANCE SHEETS
(UNAUDITED)
<TABLE>
<CAPTION>
JUNE 30, 1998 DEC. 31, 1997
------------- -------------
<S> <C> <C>
ASSETS
Cash and temporary cash investments, at cost which approximates market value....... $ 10,053,718 $ 10,410,564
Investment in FHA Loans (Note 5)................................................. 12,471,160 12,511,046
Investment in GNMA Certificates (Note 5)......................................... 23,407,224 23,588,139
Investment in Operating Partnerships (Note 6).................................... -- --
Interest receivable.............................................................. 316,463 321,485
Other assets..................................................................... 479,660 134,574
------------- -------------
$ 46,728,225 $ 46,965,808
------------- -------------
------------- -------------
LIABILITIES AND PARTNERS' CAPITAL (DEFICIT)
Liabilities
Accounts payable (Note 7)........................................................ $ 203,664 $ 204,142
Distribution payable (Note 4).................................................... 860,587 860,587
------------- -------------
1,064,251 1,064,729
------------- -------------
Partners' Capital (Deficit)
General Partner.................................................................. (159,018) (156,647)
Beneficial Assignment Certificate Holders ($13.58 per BAC in 1998 and $13.65 in
1997).......................................................................... 45,822,992 46,057,726
------------- -------------
45,663,974 45,901,079
------------- -------------
$ 46,728,225 $ 46,965,808
------------- -------------
------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
29
<PAGE>
CAPITAL SOURCE L.P.
STATEMENTS OF INCOME
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE SIX FOR THE SIX
QUARTER ENDED QUARTER ENDED MONTHS ENDED MONTHS ENDED
JUNE 30, 1998 JUNE 30, 1997 JUNE 30, 1998 JUNE 30, 1997
-------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
Income
Mortgage-backed securities income............... $ 817,818 $ 826,753 $ 1,638,110 $ 1,655,673
Interest income on temporary cash investments... 136,428 137,159 274,605 270,635
Equity in losses of Operating
Partnerships.................................. -- (78,550) (10,000) (113,550)
Other income.................................... 2,300 350 3,450 1,050
-------------- -------------- ------------- -------------
956,546 885,712 1,906,165 1,813,808
Expenses
Operating and administrative expenses
(Note 7)...................................... 196,565 119,321 419,369 239,744
-------------- -------------- ------------- -------------
Net income........................................ $ 759,981 $ 766,391 $ 1,486,796 $ 1,574,064
-------------- -------------- ------------- -------------
-------------- -------------- ------------- -------------
Net income allocated to:
General Partner................................. $ 7,600 $ 7,664 $ 14,868 $ 15,741
Limited Partners................................ 752,381 758,727 1,471,928 1,558,323
-------------- -------------- ------------- -------------
$ 759,981 $ 766,391 $ 1,486,796 $ 1,574,064
-------------- -------------- ------------- -------------
-------------- -------------- ------------- -------------
Net income, basic and diluted, per BAC............ $ .22 $ .22 $ .44 $ .46
-------------- -------------- ------------- -------------
-------------- -------------- ------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
30
<PAGE>
CAPITAL SOURCE L.P.
STATEMENT OF PARTNERS CAPITAL (DEFICIT)
FOR THE SIX MONTHS ENDED JUNE 30, 1998
(UNAUDITED)
<TABLE>
<CAPTION>
GENERAL BAC
PARTNER HOLDERS TOTAL
----------- ------------- -------------
<S> <C> <C> <C>
Partners' Capital (Deficit) (excluding net unrealized
holding gains)
Balance at December 31, 1997, as previously reported................ $ (293,953) $ 32,464,480 $ 32,170,527
Effect of restatement (Note 2.H.)................................... 136,870 13,550,066 13,686,936
----------- ------------- -------------
Balance at December 31, 1997, as restated........................... (157,083) 46,014,546 45,857,463
Net income.......................................................... 14,868 1,471,928 1,486,796
Cash distributions paid or accrued (Note 4)......................... (17,212) (1,703,982) (1,721,194)
----------- ------------- -------------
(159,427) 45,782,492 45,623,065
----------- ------------- -------------
Net unrealized holding gains
Balance at December 31, 1997........................................ 436 43,180 43,616
Net change.......................................................... (27) (2,680) (2,707)
----------- ------------- -------------
409 40,500 40,909
----------- ------------- -------------
Balance at June 30, 1998.............................................. $ (159,018) $ 45,822,992 $ 45,663,974
----------- ------------- -------------
----------- ------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
31
<PAGE>
CAPITAL SOURCE L.P.
STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE SIX FOR THE SIX
MONTHS ENDED MONTHS ENDED
JUNE 30, 1998 JUNE 30, 1997
------------- -------------
<S> <C> <C>
Cash flows from operating activities
Net income......................................................................... $ 1,486,796 $ 1,574,064
Adjustments to reconcile net income to net cash from operating activities
Equity in losses of Operating Partnerships................................... 10,000 113,550
Amortization of discount on mortgage-backed securities....................... (1,313) (1,134)
Decrease in interest receivable.............................................. 5,022 1,710
Increase (decrease) in other assets.......................................... (345,086) (28,995)
Decrease in accounts payable................................................. (478) (41,101)
------------- -------------
Net cash provided by operating activities.......................................... 1,154,941 1,676,084
------------- -------------
Cash flows from investing activities
FHA Loan and GNMA principal payments received.................................... 219,407 194,311
Investment in Operating Partnerships............................................. (10,000) (113,550)
------------- -------------
Net cash provided by investing activities.......................................... 209,407 80,761
------------- -------------
Cash flow used in financing activity
Distributions paid............................................................... (1,721,194) (1,721,194)
------------- -------------
Net increase (decrease) in cash and temporary cash investments..................... (356,846) 35,651
Cash and temporary cash investments at beginning of period......................... 10,410,564 10,272,497
------------- -------------
Cash and temporary cash investments at end of period............................... $10,053,718 $10,308,148
------------- -------------
------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
32
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS
JUNE 30, 1998
(UNAUDITED)
1. ORGANIZATION.
Capital Source L.P. (the "Partnership") was formed on August 22, 1985, under
the Delaware Revised Uniform Limited Partnership Act. The General Partners of
the Partnership are Insured Mortgage Equities, Inc. and America First Capital
Source I L.L.C. (the "General Partners").
The Partnership was formed to invest principally in federally-insured
mortgages on multifamily housing properties and limited partnership interests in
Operating Partnerships which construct and operate these properties. Each
federally insured loan is guaranteed in amounts equal to the face amount of the
mortgage, by the Federal Housing Administration (FHA) or the Government National
Mortgage Association (GNMA). Hereinafter, the Partnership's investments in such
mortgages are referred to as investments in mortgage-backed securities. The
Operating Partnerships are geographically located as follows: (i) two in North
Carolina; and, (ii) one each in Ohio, Florida, Michigan, Virginia and Illinois.
CS Properties I, Inc., which is owned by the General Partners, serves as the
Special Limited Partner for the Operating Partnerships. The Special Limited
Partner has the power, among other things, to remove the general partners of the
Operating Partnerships under certain circumstances and to consent to the sale of
the Operating Partnerships' assets. CS Properties I, Inc. also serves as the
general partner of Misty Springs Apartments, Waterman's Crossing and Fox Hollow
Apartments.
The Partnership will terminate subsequent to the sale of all properties but
in no event will the Partnership continue beyond December 31, 2030.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES.
A) FINANCIAL STATEMENT PRESENTATION
The financial statements of the Partnership are prepared without audit
on the accrual basis of accounting in accordance with generally accepted
accounting principles. The financial statements should be read in
conjunction with the financial statements and notes thereto included in the
Partnership's Annual Report on Form 10-K/A for the year ended December 31,
1997. In the opinion of management, all normal and recurring adjustments
necessary to present fairly the financial position at June 30, 1998, and
results of operations for all periods presented have been made.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure 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.
B) INVESTMENT IN MORTGAGE-BACKED SECURITIES
Investment securities are classified as held-to-maturity,
available-for-sale, or trading. Investments classified as held-to-maturity
are carried at amortized cost. Investments classified as available-for-sale
are reported at fair value, as determined by reference to published sources.
Any unrealized gains or losses excluded from earnings and reflected as a
separate component of partners' capital. Subsequent increases and decreases
in the net unrealized gain/loss on the available-for-sale securities are
reflected as adjustments to the carrying value of the portfolio and
adjustments to the component of partners' capital. The Partnership does not
have investment securities classified as trading.
33
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES. (CONTINUED)
C) INVESTMENT IN OPERATING PARTNERSHIPS
The investment in Operating Partnerships consists of interests in
limited partnerships which own properties underlying the mortgage-backed
securities and are accounted for using the equity method. The investments by
the Partnership in the Operating Partnerships were recorded at the cost to
acquire such interests. Subsequently losses were recorded by the Partnership
as they were realized by the Operating Partnerships. The Partnership
suspended recognizing losses in the Operating Partnerships when its entire
initial investment had been consumed by such losses. Subsequently, losses
have been recognized only to the extent of additional contributions net of
distributions received, to the Operating Partnerships by the Partnership.
The Operating Partnerships are not insured or guaranteed. The value of these
investments is a function of the value of the real estate owned by the
Operating Partnerships. With regard to the Operating Partnerships, the
Partnership is not the general partner and it has no legal obligation to
provide additional cash support, nor has it indicated any commitment to
provide this support; accordingly it has not reduced its investment in these
Operating Partnerships below zero.
D) INCOME TAXES
No provision has been made for income taxes since Beneficial Assignment
Certificate (BAC) Holders are required to report their share of the
Partnership's income for federal and state income tax purposes.
E) TEMPORARY CASH INVESTMENTS
Temporary cash investments are invested in short-term debt securities
purchased with an original maturity of three months or less.
F) NET INCOME PER BAC
Net income per BAC has been calculated based on the number of BACs
outstanding (3,374,222) for all periods presented.
G) COMPREHENSIVE INCOME
In the first quarter of 1998, the Partnership adopted Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income"
(SFAS 130). SFAS 130 requires the display and reporting of comprehensive
income, which includes all changes in Partners' Capital with the exception
of additional investments by partners or distributions to partners.
Comprehensive income for the Partnership includes net income and the change
in net unrealized holding losses on investments
34
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES. (CONTINUED)
charged or credited to Partners' Capital. Comprehensive income for the
quarter and six months ended June 30, 1998, compared to the same periods in
1997 was as follows:
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE SIX FOR THE SIX
QUARTER ENDED QUARTER ENDED MONTHS ENDED MONTHS ENDED
JUNE 30, 1998 JUNE 30, 1997 JUNE 30, 1998 JUNE 30, 1997
-------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
Net income.................... $ 759,981 $ 766,391 $ 1,486,796 $ 1,574,064
Change in net unrealized
holding gains (losses)...... (6,745) 11,043 (2,707) (4,804)
-------------- -------------- ------------- -------------
Comprehensive income.......... $ 753,236 $ 777,434 $ 1,484,089 $ 1,569,260
-------------- -------------- ------------- -------------
-------------- -------------- ------------- -------------
</TABLE>
H) RESTATEMENT
The Partnership holds a majority ownership interest and through CS
Properties I Inc. can influence the decisions of the general partners of the
Operating Partnerships in certain circumstances. Accordingly, the
Partnership had consolidated the Operating Partnerships since inception. In
1998, it was determined that this influence did not constitute control of
the Operating Partnerships. Therefore, the accompanying financial statements
have been restated to deconsolidate the Operating Partnerships and to
account for the investments in Operating Partnerships under the equity
method of accounting rather than consolidation.
Under the equity method of accounting, the Partnership's investments are
adjusted to reflect its share of Operating Partnership profits or losses and
distributions. As required by consolidation accounting, the Partnership had
recorded losses from the Operating Partnerships substantially in excess of
its investments. As previously disclosed, the Partnership is not the general
partner nor is it obliged to fund the negative balances. Under equity
accounting, the Partnership does not reduce the carrying value of its
investments below zero. As restated, investments in the Operating
Partnerships are stated at zero and profits and losses are recorded based on
capital contributions made and distributions received from the Operating
Partnerships.
The restatement increased partners' capital at December 31, 1997 by
$13,686,936 which was the negative balance of the investment in Operating
Partnerships at that date. The restatement further increased net income for
the quarter and six months ended June 30, 1998 by $186,732 and $346,246,
respectively. Net income per BAC (basic and diluted) increased by $.06 and
$.11. The restatement further increased net income for the quarter and six
months ended June 30, 1997 by $236,714 and $286,106, respectively. Net
income per BAC (basic and diluted) increased by $.06 and $.08.
3. PARTNERSHIP RESERVE ACCOUNT.
The Partnership maintains a reserve account which consisted of the following
at June 30, 1998:
<TABLE>
<CAPTION>
Cash and temporary cash investments............................ $9,717,286
<S> <C>
GNMA Certificates.............................................. 967,089
----------
$10,684,375
----------
----------
</TABLE>
35
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
3. PARTNERSHIP RESERVE ACCOUNT. (CONTINUED)
The reserve account was established to maintain working capital for the
Partnership and is available for distribution to BAC Holders and for any
contingencies related to the Partnership's investment in mortgage-backed
securities and the operation of the Partnership. See Note 5 regarding the
investment in mortgage backed securities.
4. PARTNERSHIP INCOME, EXPENSES AND CASH DISTRIBUTIONS.
Profits and losses from continuing operations and cash available for
distribution will be allocated 99% to the investors and 1% to the General
Partner. Certain fees payable to the General Partner will not become due until
investors have received certain priority returns. Cash distributions included in
the financial statements represent the actual cash distributions made during
each period and the cash distributions accrued at the end of each period.
The General Partner will also receive 1% of the net proceeds from any sale
of Partnership assets. The General Partner will receive a termination fee equal
to 3% of all sales proceeds less actual costs incurred in connection with all
sales transactions, payable only after the investors have received a return of
their capital contributions and a 13% annual return on a cumulative basis. The
General Partner will also receive a fee equal to 9.1% of all cash available for
distribution and sales proceeds (after deducting from cash available or sales
proceeds any termination fee paid therefrom) after investors have received a
return of their capital contributions and a 13% annual return on a cumulative
basis.
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES.
The mortgage-backed securities held by the Partnership represent Government
National Mortgage Association ("GNMA") Certificates and Federal Housing
Administration ("FHA") Loans. The GNMA Certificates are backed by first mortgage
loans on multifamily housing properties and pools of single-family properties.
The GNMA Certificates are debt securities issued by a private mortgage lender
and are guaranteed by GNMA as to the full and timely payment of principal and
interest on the underlying loans. The FHA Loans are guaranteed as to the full
and timely payment of principal and interest on the underlying loans.
At June 30, 1998, the total amortized cost, gross unrealized holding gains
and aggregate fair value of available-for-sale securities were $926,180, $40,909
and $967,089, respectively. At June 30, 1998, the total amortized cost, gross
unrealized holding gains and aggregate fair value of held-to-maturity securities
were $34,911,295, $539,948 and $35,451,243, respectively.
36
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES. (CONTINUED)
Descriptions of the Partnership's mortgage-backed securities at June 30,
1998, are as follows:
<TABLE>
<CAPTION>
NUMBER INTEREST MATURITY CARRYING
TYPE OF SECURITY AND NAME LOCATION OF UNITS RATE DATE AMOUNT
- ----------------------------------- ---------------------- ----------- -------------- -------------- ----------------
<S> <C> <C> <C> <C> <C>
HELD-TO-MATURITY
GNMA Certificates:
Misty Springs Apartments......... Daytona Beach, FL 128 8.75% 06-15-2029 $ 4,259,606
Waterman's Crossing.............. Newport News, VA 260 10.00% 09-15-2028 10,901,262
The Ponds at Georgetown.......... Ann Arbor, MI 134 9.00% 12-15-2029 2,228,101
Water's Edge Apartments.......... Lake Villa, IL 108 12-15-2028 5,051,166
----------------
22,440,135
----------------
FHA Loan:
Bluff Ridge Apartments........... Jacksonville, NC 108 8.72% 11-15-2028 3,498,880
Highland Park Apartments......... Columbus, OH 252 8.75% 11-01-2028 8,972,280
----------------
34,911,295
----------------
AVAILABLE-FOR-SALE
GNMA Certificates:
Pools of single-family
mortgages...................... 7.58%(1) 2008 to 2009 476,964(2)
Pools of single-family
mortgages...................... 7.58%(1) 2007 to 2008 490,125(2)
----------------
----------------
987,089
----------------
----------------
Balance at June 30, 1998........... 35,878,384
----------------
----------------
</TABLE>
- ------------------------
(1) Represents yield to the Partnership.
(2) Reserve account asset--see Note 3.
Reconciliation of the carrying amount of the mortgage-backed securities is
as follows:
<TABLE>
<CAPTION>
Balance at December 31, 1997................................... $36,099,185
<S> <C>
Addition
Amortization of discount on mortgage-backed securities..... 1,313
Deductions
FHA Loan and GNMA principal payments received.............. (219,407)
Change in net unrealized holding gains..................... (2,707)
----------
Balance at June 30, 1998....................................... $35,878,384
----------
----------
</TABLE>
37
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
6. INVESTMENT IN OPERATING PARTNERSHIPS.
The Partnership's Operating Partnerships consist of interests in limited
partnerships which own multifamily properties financed by the GNMA Certificates
and FHA Loans held by the Partnership. The limited partnership agreements
originally provided for the payment of a base return on the equity provided to
the limited partnerships and for the payment of additional amounts out of a
portion of the net cash flow or net sale or refinancing proceeds of the
properties subject to various priority payments.
Descriptions of the Operating Partnerships at June 30, 1998, are as follows:
<TABLE>
<CAPTION>
CARRYING
NAME LOCATION PARTNERSHIP NAME AMOUNT
- ---------------------------------- ---------------------- ------------------------------------------------ -----------
<S> <C> <C> <C>
Misty Springs Apartments.......... Daytona Beach, FL Cypress Landings II, Ltd. $ --
The Ponds at Georgetown........... Ann Arbor, MI Ponds at Georgetown Limited Partnership --
Waterman's Crossing............... Newport News, VA Oyster Cove Limited Partnership --
Water's Edge Apartments........... Lake Villa, IL Water's Edge Limited Partnership --
Bluff Ridge Apartments............ Jacksonville, NC Bluff Ridge Associates Limited Partnership --
Highland Park Apartments.......... Columbus, OH Interstate Limited Partnership --
-----
Balance at June 30, 1998.......... $ --
-----
-----
</TABLE>
Reconciliation of the carrying amount of the Operating Partnerships is as
follows:
<TABLE>
<CAPTION>
FOR THE
SIX MONTHS ENDED
JUNE 30, 1998
-----------------
<S> <C>
Balance at beginning of year............................................... $ --
Addition
Investment in Operating Partnerships................................... 10,000
Deduction
Equity in losses of Operating Partnerships............................. 10,000
-------
Balance at end of period................................................... $ --
-------
-------
</TABLE>
7. TRANSACTIONS WITH RELATED PARTIES.
The General Partners, certain of their affiliates and the Operating
Partnerships' general partners have received or may receive fees, compensation,
income, distributions and payments from the Partnership in connection with the
offering and the investment, management and sale of the Partnership's assets
(other than disclosed elsewhere) as follows.
The General Partners are entitled to receive an asset management and
partnership administration fee equal to 0.5% of invested assets per annum,
payable only during such years that an 8% return has been paid to investors on a
noncumulative basis. Any unpaid amounts will accrue and be payable only after a
13% annual return to investors has been paid on a cumulative basis and the
investors have received the return of their capital contributions. For the
quarter and six months ended June 30, 1998, distributions to investors
represented less than an 8% return; accordingly, no fees were paid or accrued
during this period.
38
<PAGE>
CAPITAL SOURCE L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
7. TRANSACTIONS WITH RELATED PARTIES. (CONTINUED)
Substantially all of the Partnership's general and administrative expenses
and certain costs capitalized by the Partnership are paid by a General Partner
or an affiliate and reimbursed by the Partnership. The amount of such expenses
reimbursed to the General Partner for 1998 was $701,787 ($338,360 for the
quarter ended June 30, 1998). These reimbursed expenses are presented on a cash
basis and do not reflect accruals made at quarter end.
An affiliate of the America First Capital Source I, L.L.C. has been retained
to provide property management services for Waterman's Crossing, Misty Springs
Apartments, Fox Hollow Apartments and The Ponds at Georgetown. The fees for
services provided in 1998, amounted to $97,062 ($48,446 for the quarter ended
June 30, 1998), and represented the lower of costs incurred in providing
management of the property or customary fees for such services determined on a
competitive basis.
8. PROPOSED MERGER.
On May 7, 1998, a Registration Statement on Form S-4 was filed by America
First Real Estate Investment Company, Inc. (the "Company") with the Securities
and Exchange Commission which includes a prospectus/consent solicitation
statement of the Partnership and Capital Source II L.P.-A, a sister partnership
with assets and investment objectives similar to the Partnership. Upon approval
of the proposed merger by investors in both partnerships, the partnerships and
their respective general partners will be combined into the Company which will
be engaged in the business of making real estate and related investments. At
their election and subject to certain limitations, investors in each partnership
will receive, in exchange for their partnership units, shares of common stock in
the Company (the "Common Stock") or variable rate junior notes (the "Notes") of
the Company. The Company intends to list shares of Common Stock issued pursuant
to the proposed merger on a national securities exchange. The limited partners
of the Partnership will receive a prospectus/consent solicitation statement in
the future, at which time they will have the opportunity to vote on the proposed
merger.
39
<PAGE>
CAPITAL SOURCE II L.P.-A
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
DECEMBER 31, 1997
Capitalized terms not otherwise defined herein shall have the meanings set
forth in the accompanying Prospectus/Consent Solicitation Statement.
LIQUIDITY AND CAPITAL RESOURCES
Capital Source II L.P.-A (the "Partnership") originally acquired: (i) four
GNMA Certificates which are guaranteed as to principal and interest by the
Government National Mortgage Association ("GNMA") collateralized by first
mortgage loans on multifamily housing properties located in three states; (ii)
an FHA Loan which is insured as to principal and interest by the Federal Housing
Administration ("FHA") on a multifamily housing property; and (iii) Partnership
Equity Investments in five Operating Partnerships which own the multifamily
properties financed by the GNMA Certificates and the FHA Loan. The Partnership
has been repaid by GNMA on one of the GNMA Certificates and the related property
has been deeded to GNMA in lieu of foreclosure, thus eliminating the Partnership
Equity Investment in this property. Collectively, the remaining GNMA
Certificates, the FHA Loan, and the Partnership Equity Investments are referred
to as the "Permanent Investments." The Partnership has also invested amounts
held in its reserve account in certain GNMA securities backed by pools of
single-family mortgages ("Reserve Investments"). The obligations of GNMA and FHA
are backed by the full faith and credit of the United States government.
DISTRIBUTIONS
Cash distributions paid or accrued per Beneficial Assignment Certificate of
the Partnership (a "BAC") were as follows:
<TABLE>
<CAPTION>
FOR THE YEAR ENDED FOR THE YEAR ENDED FOR THE YEAR ENDED
DECEMBER 31, 1997 DECEMBER 31, 1996 DECEMBER 31, 1995
------------------- ------------------- -------------------
<S> <C> <C> <C>
Regular monthly distributions
Income.......................... $ .4082 $ .5240 $ .5364
Return of capital............... .4018 .2860 .2736
------ ------ ------
$ .8100 $ .8100 $ .8100
------ ------ ------
------ ------ ------
Distributions
Paid out of cash flow........... $ .5172 $ .6019 $ .6497
Paid out of reserves............ .2928 .2081 .1603
------ ------ ------
$ .8100 $ .8100 $ .8100
------ ------ ------
------ ------ ------
</TABLE>
Regular monthly distributions to BAC Holders consist primarily of interest
received on the FHA Loan, GNMA Certificates and the Reserve Investments.
Additional cash for distributions is received from other temporary investments.
The Partnership may draw on reserves to pay operating expenses or to supplement
cash distributions to BAC Holders. The Partnership is permitted to replenish
reserves with cash flows in excess of distributions paid. During 1997,
$1,186,163 was withdrawn from reserves to supplement regular monthly cash
distributions. The total amount held in reserves at December 31, 1997, was
$1,550,084 of which $1,050,718 was invested in mortgaged-backed securities.
The Partnership has been supplementing cash flow from operations with
withdrawals from reserves in order to maintain distributions at the current
levels. Consequently, it is likely that the level of distributions
40
<PAGE>
will be reduced in the future. The General Partners will continue to review the
level of distributions each quarter in light of the Partnership's operating
results and financial position.
The Partnership believes that cash provided by operating activities and, if
necessary, withdrawals from the Partnership's reserves will be adequate to meet
its short-term liquidity requirements, including the payments of distributions
to BAC Holders. The Partnership has no other internal or external sources of
liquidity. Under the terms of its Partnership Agreement, the Partnership has the
authority to enter into short- and long-term debt financing arrangements;
however, the Partnership currently does not anticipate entering into such
arrangements. The Partnership is not authorized to issue additional BACs to meet
short-term and long-term liquidity requirements.
YEAR 2000
The Partnership does not own or operate its own computer system and owns no
business or other equipment. However, the operation of the Partnership's
business relies on the computer system and other equipment maintained by America
First Companies L.L.C., the parent company of its general partners ("America
First"). In addition, the Partnership has business relationships with a number
of third parties whose ability to perform their obligations to the Partnership
depend on such systems and equipment. Some or all of these systems and equipment
may be affected by the inability of certain computer programs and embedded
circuitry to correctly recognize dates occurring after December 31, 1999.
America First has adopted a plan to deal with this so-called "Year 2000 problem"
with respect to its information technology ("IT") systems, non-IT systems and
third party business relationships.
STATE OF READINESS
The IT system maintained by America First consists primarily of personal
computers, most of which are connected by a local area network. All accounting
and other record keeping functions relating to the Partnership that are
conducted in house by America First are performed on this PC-LAN system. America
First does not own or operate any "mainframe" computer systems. The PC-LAN
system runs software programs that America First believes are compatible with
dates after December 31, 1999. America First has engaged a third party computer
consulting firm to review and test its PC-LAN system to ensure that it will
function correctly after that date and expects that this process, along with any
necessary remediation, will be completed by March 31, 1999. America First
believes any Year 2000 problems relating to its IT systems will be resolved
without significant operational difficulties. However, there can be no assurance
that testing will discover all potential Year 2000 problems or that it will not
reveal unanticipated material problems with the America First IT systems that
will need to be resolved.
Non-IT systems include embedded circuitry such as microcontrollers found in
telephone equipment, security and alarm systems, copiers, fax machines, mail
room equipment, heating and air conditioning systems and other infrastructure
systems that are used by America First in connection with the operation of the
Partnership's business. America First is reviewing its non-IT systems along with
the providers that service and maintain these systems, with initial emphasis
being placed on those, such as telephone systems, which have been identified as
necessary to America First's ability to conduct the operation of the
Partnership's business activities. America First expects that any necessary
modification or replacement of such "mission critical" systems will be
accomplished by mid-1999.
The Partnership has no control over the remediation efforts of third parties
with which it has material business relationships and the failure of certain of
these third parties to successfully remediate their Year 2000 issues could have
a material adverse effect on the Partnership. Accordingly, America First has
undertaken the process of contacting each such third party to determine the
state of their readiness for Year 2000. Such parties include, but are not
limited to, the obligors on the Partnership's GNMA Certificates and FHA Loan,
the Partnership's transfer and paying agent and the financial institutions with
which the Partnership maintains accounts. America First has received initial
assurances from certain of
41
<PAGE>
these third parties that their ability to perform their obligations to the
Partnership are not expected to be materially adversely affected by the Year
2000 problem. America First will continue to request updated information from
these material third parties in order to access their Year 2000 readiness. If a
material third party vendor is unable to provide assurance to America First that
it is, or will be, ready for Year 2000, America First intends to seek an
alternative vendor to the extent practical.
COSTS
All of the IT systems and non-IT systems used to conduct the Partnership's
business operations are owned or leased by America First. Under the terms of its
partnership agreement, neither America First nor the Partnership's general
partners may be reimbursed by the Partnership for expenses associated with their
computer systems or other business equipment. Therefore, the costs associated
with the identification, remediation and testing of America First's IT and
non-IT systems will be paid by America First rather than the Partnership. The
Partnership will bear its proportionate share of the costs associated with
surveying the Year 2000 readiness of third parties. However, the Partnership's
share of the costs associated with these activities is expected to be
insignificant. Accordingly, the costs associated with addressing the
Partnership's Year 2000 issues are not expected to have a material effect on the
Partnership's results of operations, financial position or cash flow.
YEAR 2000 RISKS
The Partnership's general partners believe that the most reasonably likely
worst-case scenario will be that one or more of the third parties with which it
has a material business relationship will not have successfully dealt with its
Year 2000 issues and, as a result, is unable to provide services or otherwise
perform its obligations to the Partnership. For example, if an obligor on the
Partnership's GNMA Certificates or FHA Loan encounters a serious and unexpected
Year 2000 issue, it may be unable to make a timely payment of principal and
interest to the Partnership. This, in turn, could cause a delay or temporary
reduction in cash distributions to BAC holders. In addition, if the
Partnership's transfer and paying agent experiences Year 2000-related
difficulties, it may cause delays in making distributions to BAC holders or in
the processing of transfers of BACs. It is also possible that one or more of the
IT and non-IT systems of America First will not function correctly, and that
such problems may make it difficult to conduct necessary accounting and other
record keeping functions for the Partnership. However, based on currently
available information, the general partners do not believe that there will be
any protracted systemic failures of the IT or non-IT systems utilized by America
First in connection with the operation of the Partnership's business.
CONTINGENCY PLANS
Because of the progress which America First has made toward achieving Year
2000 readiness, the Partnership has not made any specific contingency plans with
respect to the IT and non-IT systems of America First. In the event of a Year
2000 problem with its IT system, America First may be required to manually
perform certain accounting and other record-keeping functions. America First
plans to terminate the Partnership's relationships with material third party
service providers that are not able to represent to America First that they will
be able to successfully resolve their material Year 2000 issues in a timely
manner. However, the Partnership will not be able to terminate its relationships
with certain third parties, such as the obligors on its GNMA Certificates and
FHA Loan, who may experience Year 2000 problems. The Partnership has no specific
contingency plans for dealing with Year 2000 problems experienced with these
third parties.
All forecasts, estimates or other statements in this report relating to the
Year 2000 readiness of the Partnership and its affiliates are based on
information and assumptions about future events. Such "forward-looking
statements" are subject to various known and unknown risks and uncertainties
that may cause actual events to differ from such statements. Important factors
upon which the Partnership's Year
42
<PAGE>
2000 forward-looking statements are based include, but are not limited to, (a)
the belief of America First that the software used in IT systems is already able
to correctly read and interpret dates after December 31, 1999 and will require
little or any remediation; (b) the ability to identify, repair or replace
mission critical non-IT equipment in a timely manner, (c) third parties'
remediation of their internal systems to be Year 2000 ready and their
willingness to test their systems interfaces with those of America First, (d) no
third party system failures causing material disruption of telecommunications,
data transmission, payment networks, government services, utilities or other
infrastructure, (e) no unexpected failures by third parties with which the
Partnership has a material business relationship and (f) no material
undiscovered flaws in America First's Year 2000 testing process.
ASSET QUALITY
The FHA Loan and GNMA Certificates owned by the Partnership are guaranteed
as to principal and interest by FHA and GNMA, respectively. The obligations of
FHA and GNMA are backed by the full faith and credit of the United States
government. The Partnership Equity Investments, however, are not insured or
guaranteed. The value of these investments is a function of the value of the
real estate owned by the Operating Partnerships.
The fair value of the properties underlying the Operating Partnerships is
based on management's best estimate of the fair value of such properties,
however; the ultimate realized values may vary from these estimates. The fair
value of the properties is determined based on the discounted estimated future
cash flows from the properties, including estimated sales proceeds. The
calculation of discounted estimated future cash flows includes certain variables
such as the assumed inflation rates for rents and expenses, capitalization rates
and discount rates. These variables are supplied to management by an independent
real estate firm and are based on local market conditions for each property. In
certain cases, additional factors such as the replacement value of the property
or comparable sales of similar properties are also taken into consideration.
The following table shows the occupancy levels of the properties financed by
the Partnership as of December 31, 1997:
<TABLE>
<CAPTION>
NUMBER PERCENTAGE
NUMBER OF UNITS OF UNITS
PROPERTY NAME LOCATION OF UNITS OCCUPIED OCCUPIED
- ---------------------------------------- ------------------ ----------- ------------- -------------
<S> <C> <C> <C> <C>
Crane's Landing......................... Winter Park, FL 252 237 94%
Delta Crossing.......................... Charlotte, NC 178 168 94%
Monticello Apartments................... Southfield, MI 106 104 98%
The Ponds at Georgetown................. Ann Arbor, MI 134 128 96%
--- --- ---
670 637 95%
--- --- ---
--- --- ---
</TABLE>
CRANE'S LANDING. Crane's Landing, located in Winter Park, Florida, is a
252-unit complex with one-, two- and three-bedroom apartments on 14 acres of
land. Average occupancy was 96% during 1997, compared to 94% during 1996. As a
result of the increase in average occupancy and rental rate increases, rental
income increased approximately 9% in 1997, compared to 1996. The increase in
rental income was partially offset by an increase in real estate operating
expenses, primarily an increase of approximately 23% in repairs and maintenance
expenses and 15% in labor expenses. This resulted in an increase of
approximately 4.4% in net cash flow generated by this property, before debt
service, in 1997, compared to 1996. The property generated cash flow in excess
of debt service and was current on its mortgage obligations during 1997.
DELTA CROSSING. Delta Crossing is a 178-unit apartment complex located in
Charlotte, North Carolina. Average occupancy was 93% in 1997, compared to 92% in
1996. As a result of the increase in occupancy and rental rate increases, rental
income increased approximately 3% in 1997, compared to 1996. The increase in
rental income was offset by increases of approximately 11% in repairs and
maintenance
43
<PAGE>
expenses and property improvements, 9% in labor expenses and slight increases in
other expenses. Thus, net cash flow generated by this property in 1997 was
comparable to 1996. The property generated cash flow in excess of debt service
and was current on its mortgage obligations during 1997.
MONTICELLO APARTMENTS. Monticello Apartments, located in Southfield,
Michigan, contains 106 rental units. Average occupancy was 97% in 1997, compared
to 96% in 1996. As a result, rental income increased slightly in 1997, compared
to 1996. The increase in rental income was more than offset by increases in real
estate operating expenses, primarily an increase of approximately 42% in repairs
and maintenance expenses and property improvements and 13% in labor expenses.
Thus, net cash flow generated by this property, before debt service, decreased
approximately 2.3% in 1997, compared to 1996. Despite the decrease in net cash
flow, the property generated cash flow in excess of debt service and was current
on its mortgage obligations during 1997.
THE PONDS AT GEORGETOWN. The Ponds at Georgetown consists of 134 apartments
located in Ann Arbor, Michigan. Average occupancy was 97% in 1997 compared to
95% in 1996. Operating revenue increased approximately 8% in 1997 compared to
1996, primarily due to the increase in average occupancy, rental rate increases
and an increase in corporate unit rentals. Despite the increase in operating
revenue, the Operating Partnership remains in default on its mortgage loan and
is delinquent in paying property taxes and insurance. The Partnership continues
to explore a number of alternatives with the mortgage holder to determine the
best course of action to pursue, including a possible restructuring of the
mortgage loan.
RESULTS OF OPERATIONS
The tables below compare the results of operations for each year shown.
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE
YEAR ENDED YEAR ENDED YEAR ENDED
DEC. 31, DEC. 31, DEC. 31,
1997 1996 1995
------------ ------------ ------------
<S> <C> <C> <C>
Mortgage-backed securities income...................................... $2,499,844 $2,520,727 $2,561,901
Interest income on temporary cash investments and U.S. government
securities........................................................... 91,327 147,530 200,678
Equity in losses of Operating Partnerships............................. (121,450) -- (109,900)
Other income........................................................... 3,800 6,950 4,650
Gain on sale of mortgage-backed securities............................. -- -- 15,670
------------ ------------ ------------
2,473,521 2,675,207 2,672,999
Operating and administrative expenses.................................. 819,516 552,170 499,903
------------ ------------ ------------
Net income............................................................. $1,654,005 $2,123,037 $2,173,096
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
<TABLE>
<CAPTION>
INCREASE INCREASE
(DECREASE) (DECREASE)
FROM 1996 FROM 1995
----------- -----------
<S> <C> <C>
Mortgage-backed securities income....................................................... $ (20,883) $ (41,174)
Interest income on temporary cash investments and U.S. government securities............ (56,203) (53,148)
Equity in losses of Operating Partnerships.............................................. (121,450) 109,900
Other income............................................................................ (3,150) 2,300
Gain on sale of mortgage-backed securities.............................................. -- (15,670)
----------- -----------
(201,686) 2,208
Operating and administrative expenses................................................... 267,346 52,267
----------- -----------
Net income.............................................................................. $ (469,032) $ (50,059)
----------- -----------
----------- -----------
</TABLE>
44
<PAGE>
Mortgage-backed securities income decreased $20,883 from 1996 to 1997 and
$41,174 from 1995 to 1996. The decreases were due to the continued amortization
of the principal balances of the Partnership's mortgage-backed securities.
Interest on temporary cash investments and U.S. government securities
decreased $56,203 from 1996 to 1997 and $53,148 from 1995 to 1996. The decreases
were due to withdrawals made from the Partnership's reserves to supplement
distributions to BAC Holders.
The Partnership suspended recognizing losses in the Operating Partnerships
when the entire initial investment had been consumed by such losses.
Subsequently, losses have been recognized only to the extent of additional
contributions, net of distributions received, to the Operating Partnerships by
the Partnership.
The Partnership made additional investments in certain Operating
Partnerships during 1997 and 1995. As such, equity in losses of Operating
Partnerships was recorded in 1997 and 1995 to the extent of the additional
investments. No such investments were made and no equity in losses was recorded
in 1996.
During 1995, the Partnership sold a portion of its mortgage-backed
securities and realized a gain of $15,670 on the sale. There were no such sales
during either 1996 or 1997.
Operating and administrative expenses increased $267,346 from 1996 to 1997.
Approximately $126,000 of such increase was due to costs incurred in connection
with a review of various options available to the Partnership to improve total
investment returns and provide liquidity to the Partnership's investors. The
remaining increase of $141,346 from 1996 to 1997 was due primarily to increases
in salaries and related expenses. Operating and administrative expenses
increased $52,267 from 1995 to 1996 primarily due to increases in salaries and
related expenses.
This Management's Discussion and Analysis of Financial Condition and Results
of Operations contains forward-looking statements that reflect management's
current beliefs and estimates of future economic circumstances, industry
conditions, the Partnership's performance and financial results. All statements,
trend analysis and other information concerning possible or assumed future
results of operations of the Partnership and the real estate investments it has
made constitute forward-looking statements. BAC Holders and others should
understand that these forward-looking statements are subject to numerous risks
and uncertainties and a number of factors could affect the future results of the
Partnership and could cause those results to differ materially from those
expressed in the forward-looking statements contained herein.
45
<PAGE>
INDEPENDENT ACCOUNTANTS' REPORT
To the Partners
Capital Source II L.P.-A:
We have audited the accompanying balance sheets of Capital Source II L.P.-A
as of December 31, 1997 and 1996, and the related statements of income,
partners' capital (deficit) and cash flows for each of the three years in the
period ended December 31, 1997. These financial statements are the
responsibility of the Partnership's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Capital Source II L.P.-A as
of December 31, 1997 and 1996, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 1997, in
conformity with generally accepted accounting principles.
As discussed in Note 2.H., the accompanying financial statements have been
restated to reflect the investments made by Capital Source II L.P.-A. in
Operating Partnerships on the equity method of accounting. Such investments had
previously been consolidated by Capital Source II L.P.-A.
/s/ KPMG Peat Marwick LLP
Omaha, Nebraska
October 23, 1998
46
<PAGE>
CAPITAL SOURCE II L.P.-A
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, 1997 DECEMBER 31, 1996
----------------- -----------------
<S> <C> <C>
ASSETS
Cash and temporary cash investments, at cost which approximates market
value.................................................................. $ 1,240,992 $ 2,430,937
Investment in FHA Loan (Note 5).......................................... 6,538,424 6,568,139
Investment in GNMA Certificates (Note 5)................................. 21,674,940 21,895,675
Investment in Operating Partnerships (Note 6)............................ -- --
Interest receivable...................................................... 213,024 219,661
Other assets............................................................. 162,154 225,743
----------------- -----------------
$ 29,829,534 $ 31,340,155
----------------- -----------------
----------------- -----------------
LIABILITIES AND PARTNERS' CAPITAL (DEFICIT)
Liabilities
Accounts payable (Note 7)................................................ $ 327,513 $ 216,298
Distribution payable (Note 4)............................................ 546,968 546,968
----------------- -----------------
874,481 763,266
----------------- -----------------
Partners' Capital (Deficit)
General Partner.......................................................... (276,907) (260,689)
Beneficial Assignment Certificate Holders ($7.29 per BAC in 1997 and
$7.69 in 1996)......................................................... 29,231,960 30,837,578
----------------- -----------------
28,955,053 30,576,889
----------------- -----------------
$ 29,829,534 $ 31,340,155
----------------- -----------------
----------------- -----------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
47
<PAGE>
CAPITAL SOURCE II L.P.-A
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
FOR THE YEAR ENDED DECEMBER 31,
----------------------------------------
1997 1996 1995
------------ ------------ ------------
<S> <C> <C> <C>
Income
Mortgage-backed securities income (Note 5)............................ $ 2,499,844 $ 2,520,727 $ 2,561,901
Interest income on temporary cash investments and U.S. government
securities.......................................................... 91,327 147,530 200,678
Equity in losses of Operating Partnerships (Note 6)................... (121,450) -- (109,900)
Other income.......................................................... 3,800 6,950 4,650
Gain on sale of mortgage-backed securities............................ -- -- 15,670
------------ ------------ ------------
2,473,521 2,675,207 2,672,999
Expenses
Operating and administrative expenses (Note 7)........................ 819,516 552,170 499,903
------------ ------------ ------------
Net income.............................................................. $ 1,654,005 $ 2,123,037 $ 2,173,096
------------ ------------ ------------
------------ ------------ ------------
Net income allocated to:
General Partner....................................................... $ 16,540 $ 21,230 $ 21,731
BAC Holders........................................................... 1,637,465 2,101,807 2,151,365
------------ ------------ ------------
$ 1,654,005 $ 2,123,037 $ 2,173,096
------------ ------------ ------------
------------ ------------ ------------
Net income, basic and diluted, per BAC.................................. $ .41 $ .52 $ .54
------------ ------------ ------------
------------ ------------ ------------
Weighted average number of BACs outstanding............................. 4,011,101 4,011,101 4,011,101
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
48
<PAGE>
CAPITAL SOURCE II L.P.-A
STATEMENTS OF PARTNERS' CAPITAL (DEFICIT)
FROM DECEMBER 31, 1994 TO DECEMBER 31, 1997
<TABLE>
<CAPTION>
GENERAL BAC
PARTNERS HOLDERS TOTAL
----------- ------------- -------------
<S> <C> <C> <C>
Partners' Capital (Deficit) (excluding net unrealized holding gains)
Balance at December 31, 1994, as previously reported................ $ (280,672) $ 28,859,231 $ 28,578,559
Effect of restatement (Note 2.H.)................................... 42,296 4,187,279 4,229,575
----------- ------------- -------------
Balance at December 31, 1994, as restated........................... (238,376) 33,046,510 32,808,134
Net income.......................................................... 21,731 2,151,365 2,173,096
Cash distributions paid or accrued (Note 4)......................... (32,818) (3,248,992) (3,281,810)
----------- ------------- -------------
Balance at December 31, 1995........................................ (249,463) 31,948,883 31,699,420
Net income.......................................................... 21,230 2,101,807 2,123,037
Cash distributions paid or accrued (Note 4)......................... (32,818) (3,248,992) (3,281,810)
----------- ------------- -------------
Balance at December 31, 1996........................................ (261,051) 30,801,698 30,540,647
Net income.......................................................... 16,540 1,637,465 1,654,005
Cash distributions paid or accrued (Note 4)......................... (32,818) (3,248,992) (3,281,810)
----------- ------------- -------------
(277,329) 29,190,171 28,912,842
----------- ------------- -------------
Net unrealized holding gains
Balance at December 31, 1994........................................ -- -- --
Net change........................................................ 787 77,955 78,742
----------- ------------- -------------
Balance at December 31, 1995........................................ 787 77,955 78,742
Net change........................................................ (425) (42,075) (42,500)
----------- ------------- -------------
Balance at December 31, 1996........................................ 362 35,880 36,242
Net change.......................................................... 60 5,909 5,969
----------- ------------- -------------
422 41,789 42,211
----------- ------------- -------------
Balance at December 31, 1997.......................................... $ (276,907) $ 29,231,960 $ 28,955,053
----------- ------------- -------------
----------- ------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
49
<PAGE>
CAPITAL SOURCE II L.P.-A
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE
YEAR ENDED YEAR ENDED YEAR ENDED
DECEMBER 31, 1997 DECEMBER 31, 1996 DECEMBER 31, 1995
----------------- ----------------- -----------------
<S> <C> <C> <C>
Cash flows from operating activities
Net income............................................ $ 1,654,005 $ 2,123,037 $ 2,173,096
Adjustments to reconcile net income to net cash
provided by operating activities
Equity in losses of Operating Partnerships.......... 121,450 -- 109,900
Amortization of discount............................ (1,397) (9,400) (25,076)
Gain on sale of mortgage-backed securities.......... -- -- (15,670)
Decrease (increase) interest receivable............. 6,637 26,654 (15,159)
Decrease in other assets............................ 63,589 62,156 62,871
Increase (decrease) in accounts payable............. 111,215 (339) (17,582)
----------------- ----------------- -----------------
Net cash provided by operating activities........... 1,955,499 2,202,108 2,272,380
----------------- ----------------- -----------------
Cash flows from investing activities
FHA Loan and GNMA principal payments received......... 257,816 253,258 286,952
Maturity of U.S. government securities................ -- 2,500,000 --
Disposition of mortgage-backed securities............. -- -- 470,667
Investment in Operating Partnerships.................. (121,450) -- (109,900)
Acquisition of U.S. government securities............. -- -- (2,468,945)
----------------- ----------------- -----------------
Net cash provided by (used in) investing
activities........................................ 136,366 2,753,258 (1,821,226)
----------------- ----------------- -----------------
Cash flows from financing activities
Distributions paid.................................... (3,281,810) (3,281,810) (3,281,810)
----------------- ----------------- -----------------
Net increase (decrease) in cash and temporary cash
investments........................................... (1,189,945) 1,673,556 (2,830,656)
Cash and temporary cash investments at beginning of
year.................................................. 2,430,937 757,381 3,588,037
----------------- ----------------- -----------------
Cash and temporary cash investments at end of year...... $ 1,240,992 $ 2,430,937 $ 757,381
----------------- ----------------- -----------------
----------------- ----------------- -----------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
50
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
1. ORGANIZATION.
Capital Source II L.P.-A (the "Partnership") was formed on August 22, 1986,
under the Delaware Revised Uniform Limited Partnership Act. The General Partners
of the Partnership are Insured Mortgage Equities II L.P. and America First
Capital Source II, L.L.C. (the "General Partners").
The Partnership was formed to invest principally in federally-insured
mortgages on multifamily housing properties and limited partnership interests in
the Operating Partnerships which construct and operate these properties. Each
federally insured loan is guaranteed in amounts equal to the face amount of the
mortgage, by the Federal Housing Administration ("FHA") or the Government
National Mortgage Association ("GNMA"). Hereinafter, the Partnership's
investments in such mortgages are referred to as investments in mortgage-backed
securities. The Operating Partnerships are geographically located as follows:
(i) two in Michigan and (ii) one each in Florida and North Carolina.
CS Properties II, Inc., which is owned by the General Partners, serves as
the Special Limited Partner for the Operating Partnerships. The Special Limited
Partner has the power, among other things, to remove the general partners of the
Operating Partnerships under certain circumstances and to consent to the sale of
the Operating Partnerships' assets.
The Partnership will terminate subsequent to the sale of all properties but
in no event will the Partnership continue beyond December 31, 2035.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES.
(a) METHOD OF ACCOUNTING. The financial statements of the Partnership
are prepared on the accrual basis of accounting in accordance with generally
accepted accounting principles.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure 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.
(b) INVESTMENT IN MORTGAGE-BACKED SECURITIES. Investment securities
are classified as held-to-maturity, available-for-sale or trading.
Investments classified as held-to-maturity are carried at amortized cost.
Investments classified as available-for-sale are reported at fair value, as
determined by reference to published sources. Any unrealized gains or losses
excluded from earnings and reflected as a separate component of partners'
capital. Subsequent increases and decreases in the net unrealized gain/loss
on the available-for-sale securities are reflected as adjustments to the
carrying value of the portfolio and adjustments to the component of
partners' capital. The Partnership does not have investment securities
classified as trading.
(c) INVESTMENT IN OPERATING PARTNERSHIPS. The investment in Operating
Partnerships consists of interests in limited partnerships which own
properties underlying the mortgage-backed securities and are accounted for
using the equity method. The investments by the Partnership in the Operating
Partnerships were recorded at the cost to acquire such interests.
Subsequently, losses were recorded by the Partnership as they were realized
by the Operating Partnerships. The Partnership suspended recognizing losses
in the Operating Partnerships when its entire initial investment had been
consumed
51
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES. (CONTINUED)
by such losses. Subsequently, losses have been recognized only to the extent
of additional contributions net of distribution received, to the Operating
Partnerships by the Partnership. The Operating Partnerships are not insured
or guaranteed. The value of these investments is a function of the value of
the real estate owned by the Operating Partnerships. With regard to the
Operating Partnerships, the Partnership has no legal obligation to provide
additional cash support as they are not the general partner, nor have they
indicated any commitment to provide this support; accordingly they have not
reduced their investment in these operating partnerships below zero.
(d) INCOME TAXES. No provision has been made for income taxes since
BAC Holders are required to report their share of the Partnership's income
for federal and state income tax purposes. The tax basis of the
Partnerships' assets and liabilities exceeded the reported amounts by
$1,817,163 and $2,147,478 at December 31, 1997, and December 31, 1996,
respectively.
(e) TEMPORARY CASH INVESTMENTS. Temporary cash investments are
invested in short-term debt securities purchased with original maturities of
three months or less.
(f) NET INCOME PER BENEFICIAL ASSIGNMENT CERTIFICATE ("BAC"). Net
income per BAC was calculated based on the number of BACs outstanding
(4,011,101) during each year presented.
(g) NEW ACCOUNTING PRONOUNCEMENT. The Financial Accounting Standards
Board has issued Financial Accounting Standards No. 128 "Earnings Per Share"
("FAS 128"). FAS 128, which is effective for periods ending after December
15, 1997, did not have an impact on the Partnership's computation,
presentation or disclosure of earnings per BAC as no dilutive common share
equivalents existed at December 31, 1997.
(h) RESTATEMENT. The Partnership holds a majority ownership interest
and through Capital Source Properties II, Inc. can influence the decisions
of the general partners of the Operating Partnerships in certain
circumstances. Accordingly, the Partnership had consolidated the Operating
Partnerships since inception. In 1998 it was determined that this influence
did not constitute control of the Operating Partnerships. Therefore, the
accompanying financial statements have been restated to deconsolidate the
Operating Partnerships and to account for the investments in Operating
Partnerships under the equity method of accounting rather than
consolidation.
Under the equity method of accounting, the Partnership's investments are
adjusted to reflect its share of Operating Partnership profits or losses and
distributions. As required by consolidation accounting, the Partnership had
recorded losses from the Operating Partnerships substantially in excess of
its investments. As previously disclosed, the Partnership is not the general
partner, nor is it obliged to fund the negative balances. Under equity
accounting, the Partnership does not reduce the carrying value of its
investments below zero. As restated, investments in the Operating
Partnerships are zero and profits and losses are recorded based on capital
contributions made and distributions received from the Operating
Partnerships. The restatement increased partners' capital at December 31,
1994 by $4,229,575 which was the negative balance of the investment in
Operating Partnerships at that date. The restatement further increased net
income for 1997, 1996 and 1995 by $256,455, $523,809 and $444,782,
respectively. Net income per BAC (basic and diluted) increased by $.07, $.13
and $.11, respectively.
52
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
3. PARTNERSHIP RESERVE ACCOUNT.
The Partnership maintains a reserve account which consisted of the following
at December 31, 1997:
<TABLE>
<CAPTION>
<S> <C>
Cash and temporary cash investments............................................. $ 499,366
GNMA Certificates............................................................... 1,050,718
------------
$ 1,550,084
------------
------------
</TABLE>
The reserve account was established to maintain working capital for the
Partnership and is available for distribution to BAC Holders and for any
contingencies related to the Partnership's investment in mortgage-backed
securities and the operation of the Partnership. See Note 5 regarding the
investment in the mortgage-backed securities.
4. PARTNERSHIP INCOME, EXPENSES AND CASH DISTRIBUTIONS.
Profits and losses from continuing operations and cash available for
distribution will be allocated 99% to the Investors and 1% to the General
Partners. Certain fees payable to the General Partners will not become due until
investors have received certain priority returns. Cash distributions included in
the financial statements represent the actual cash distributions made during
each year and the change in cash distributions accrued at the end of each year.
The General Partners will receive 1% of the net proceeds from any sale of
Partnership assets. The General Partners will receive a termination fee equal to
3% of all sales proceeds less actual costs incurred in connection with all sales
transactions, payable only after the investors have received a return of their
capital contributions and an 11.5% annual return on a cumulative basis. The
General Partners will also receive a fee equal to 9.1% of all cash available for
distribution and sales proceeds (after deducting from cash available or sales
proceeds any termination fee paid therefrom) after investors have received a
return of their capital contributions and a 11.5% annual return on a cumulative
basis.
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES.
The mortgage-backed securities held by the Partnership represent Government
National Mortgage Association (GNMA) Certificates and Federal Housing
Administration (FHA) Loans. The GNMA Certificates are backed by first mortgage
loans on multifamily housing properties and pools of single-family properties.
The GNMA Certificates are debt securities issued by a private mortgage lender
and are guaranteed by GNMA as to the full and timely payment of principal and
interest on the underlying loans. The FHA Loan is guaranteed as to the full and
timely payment of principal and interest on the underlying loans.
At December 31, 1997, the total amortized cost, gross unrealized holding
gains and aggregate fair value of available-for-sale securities were $1,008,507,
$42,211, and $1,050,718, respectively. At December 31, 1997, the total amortized
cost, gross unrealized holding gains and aggregate fair value of held-to-
maturity securities were $27,162,646, $331,442, and $27,494,088, respectively.
At December 31, 1996, the total amortized cost, gross unrealized holding
gains and aggregate fair value of available-for-sale securities were $1,134,837,
$36,242 and $1,171,079, respectively. At December 31, 1996, the total amortized
cost, gross unrealized holding gains and aggregate fair value of held-to-
maturity securities were $27,292,735, $211,781, and $27,504,516, respectively.
53
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES. (CONTINUED)
During 1995, the Partnership sold a portion of the securities in the
available-for-sale portfolio. The total amortized cost and realized gain for
sales of securities classified as available-for-sale were $454,997 and $15,670,
respectively.
Prior to June 30, 1995, the Partnership classified all investment securities
as held-to-maturity. However, during the quarter ending June 30, 1995, the
Partnership reassessed the appropriateness of the classification of securities
held in the reserve account. The Partnership concluded, given the nature of the
reserve account, it would be more appropriate to classify securities held in the
reserve account as available-for-sale rather than as held-to-maturity.
Accordingly, on June 30, 1995, the Partnership transferred all securities held
in the reserve account from the held-to-maturity classification to the
available-for-sale classification. The total amortized cost, gross unrealized
holding gains and aggregate fair value of the securities transferred were
$4,283,759, $67,199, $4,350,958, respectively.
Descriptions of the Partnership's mortgage-backed securities held during the
year ended December 31, 1997, are as follows:
<TABLE>
<CAPTION>
INCOME
NUMBER OF INTEREST MATURITY CARRYING EARNED IN
TYPE OF SECURITY AND NAME LOCATION UNITS RATE DATE AMOUNT 1997
- ---------------------------------- --------------- ------------- ----------- ------------ ---------- ---------
<S> <C> <C> <C> <C> <C> <C>
Held-to-Maturity
GNMA Certificates:
Crane's Landing Winter Park, FL 252 8.76% 12-15-2030 $10,229,304 $ 897,020
Monticello Apartments Southfield, MI 106 8.75% 11-15-2029 5,328,430 467,367
The Ponds at Georgetown Ann Arbor, MI 134 9.00% 12-15-2029 5,066,488 457,018
---------- ---------
20,624,222 1,821,405
---------- ---------
FHA Loan:
Delta Crossing Charlotte, NC 178 9.10% 10-01-2030 6,538,424 596,257
---------- ---------
27,162,646 2,417,662
---------- ---------
Available-for-sale
GNMA Certificates:
Pools of single-family mortgages 7.58%(1) 2008 to 2009 1,050,718(2) 82,182
---------- ---------
Balance at December 31, 1997 $28,213,364 $2,499,844
---------- ---------
---------- ---------
</TABLE>
- ------------------------------
(1) Represents yield to the Partnership.
(2) Reserve account asset--See Note 3.
54
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES. (CONTINUED)
Reconciliation of the carrying amount of the mortgage-backed securities is
as follows:
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE
YEAR ENDED YEAR ENDED YEAR ENDED
DEC. 31, 1997 DEC. 31, 1996 DEC. 31, 1995
------------- ------------- -------------
<S> <C> <C> <C>
Balance at beginning of year.................... $ 28,463,814 $ 28,737,672 $ 29,419,358
Additions
Amortization of discount on mortgage-backed
securities................................ 1,397 1,470 1,951
Change in net unrealized holding gains on
available-for-sale securities............. 5,969 (22,070) 58,312
Deductions
Mortgage principal payments received........ (257,816) (253,258) (286,952)
Disposition of mortgage-backed securities... -- -- (454,997)
------------- ------------- -------------
Balance at end of year.......................... $ 28,213,364 $ 28,463,814 $ 28,737,672
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
6. INVESTMENT IN OPERATING PARTNERSHIPS.
The Partnership's Operating Partnerships consist of interests in limited
partnerships which own multifamily properties financed by the GNMA Certificates
and FHA Loan held by the Partnership. The limited partnership agreements
originally provided for the payment of a base return on the equity provided to
the limited partnerships and for the payment of additional amounts out of a
portion of the net cash flow or net sale or refinancing proceeds of the
properties subject to various priority payments.
Descriptions of the Operating Partnerships held at December 31, 1997, are as
follows:
<TABLE>
<CAPTION>
EQUITY IN
LOSSES OF
CARRYING OPERATING
NAME LOCATION PARTNERSHIP NAME AMOUNT PARTNERSHIPS
- --------------------------- --------------- ------------------------------------- ----------- ------------
<S> <C> <C> <C> <C>
Delta Crossing Charlotte, NC Delta Crossing Limited Partnership $ -- $ --
Crane's Landing Winter Park, FL Crane's Landing Partner, Ltd. -- --
Monticello Apartments Southfield, MI Centrum Monticello Limited
Partnership -- --
The Ponds at Georgetown Ann Arbor, MI Ponds at Georgetown Limited
Partnership -- (121,450)
----- ------------
Balance at December 31,
1997 $ -- $ (121,450)
----- ------------
----- ------------
</TABLE>
55
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
6. INVESTMENT IN OPERATING PARTNERSHIPS. (CONTINUED)
Reconciliation of the carrying amount of the Operating Partnerships is as
follows:
<TABLE>
<CAPTION>
FOR THE FOR THE
YEAR ENDED FOR THE YEAR ENDED
DEC. 31, YEAR ENDED DEC. 31,
1997 DEC. 31, 1996 1995
------------ --------------- ------------
<S> <C> <C> <C>
Balance at beginning of year................................. $ -- $ -- $ --
Addition
Investment in Operating Partnerships..................... 121,450 -- 109,900
Deduction
Equity in losses of Operating Partnerships............... (121,450) -- (109,900)
------------ ----- ------------
Balance at end of year....................................... $ -- $ -- $ --
------------ ----- ------------
------------ ----- ------------
</TABLE>
Combined Financial Statements of the Operating Partnerships are as follows:
CAPITAL SOURCE II L.P.
OPERATING PARTNERSHIPS BALANCE SHEET
<TABLE>
<CAPTION>
DEC. 31, 1997 DEC. 31, 1996
------------- -------------
<S> <C> <C>
Assets
Investment in real estate:
Land................................................................. $ 2,800,750 $ 2,800,750
Buildings............................................................ 24,396,923 24,396,923
Personal Property.................................................... 1,666,485 1,597,666
------------- -------------
28,864,158 28,795,339
Less accumulated depreciation............................................ (6,598,576) (5,899,183)
------------- -------------
Net investment in real estate.......................................... 22,265,582 22,896,156
Cash and temporary cash investments, at cost which approximates market
value................................................................ 491,562 283,185
Escrow deposits and property reserves.................................. 613,261 487,876
Interest and other receivables......................................... 7,442 5,450
Deferred mortgage issuance cost, net of accumulated amortization....... 1,428,684 1,477,452
Other assets........................................................... 234,560 211,891
------------- -------------
$ 25,041,091 $ 25,362,010
------------- -------------
------------- -------------
Liabilities and Partners' Capital (Deficit)
Liabilities
Accounts payable and accrued expenses................................ $ 850,743 $ 740,469
Mortgage loan payable................................................ 27,164,788 27,294,690
Intercompany interest payable........................................ 247,487 248,281
Due to general partners and their affiliates......................... 961,563 971,209
------------- -------------
29,224,581 29,254,649
------------- -------------
Partners' Capital (Deficit)
General Partners..................................................... (4,183,490) (3,892,639)
Limited Partners..................................................... -- --
------------- -------------
(4,183,490) (3,892,639)
$ 25,041,091 $ 25,362,010
------------- -------------
------------- -------------
</TABLE>
56
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
6. INVESTMENT IN OPERATING PARTNERSHIPS. (CONTINUED)
CAPITAL SOURCE II L.P.
OPERATING PARTNERSHIPS INCOME STATEMENT
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE
YEAR ENDED YEAR ENDED YEAR ENDED
DEC. 31, DEC. 31, DEC. 31,
1997 1996 1995
------------ ------------ ------------
<S> <C> <C> <C>
Income
Rental income.............................................. $5,105,108 $4,854,898 $4,656,371
Interest on temporary cash investments and U.S. government
securities............................................... 13,084 20,781 17,399
Other income............................................... 198,870 154,855 140,317
------------ ------------ ------------
5,317,062 5,030,534 4,814,087
------------ ------------ ------------
Expenses
Real estate operating expenses............................. 2,504,026 2,325,848 2,075,218
Depreciation expense....................................... 700,297 725,922 737,694
Property development and management fees................... -- 314 28,769
Interest expense........................................... 2,476,272 2,487,587 2,497,927
Amortization............................................... 48,768 48,819 64,920
------------ ------------ ------------
5,729,363 5,588,490 5,404,528
------------ ------------ ------------
Net Loss..................................................... $ (412,301) $ (557,956) $ (590,411)
------------ ------------ ------------
------------ ------------ ------------
Net Loss allocated to:
General Partners........................................... (290,851) (557,956) (480,541)
Limited Partners........................................... (121,450) -- (109,900)
------------ ------------ ------------
$ (412,301) $ (557,956) $ (590,441)
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
57
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
6. INVESTMENT IN OPERATING PARTNERSHIPS. (CONTINUED)
CAPITAL SOURCE II L.P.
OPERATING PARTNERSHIPS CASH FLOW
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE
YEAR ENDED YEAR ENDED YEAR ENDED
DEC. 31, DEC. 31, DEC. 31,
1997 1996 1995
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities
Net Loss..................................................... $ (412,301) $ (557,956) $ (590,441)
Adjustments to reconcile net loss to net cash provided by
operating activities
Depreciation and amortization............................ 749,065 774,741 802,614
Property development and management fees................. -- 314 28,769
Decrease (increase) in interest and other receivables.... (1,992) 10,467 (11,443)
Decrease (increase) in escrow deposits and property
reserves............................................... (125,385) 63,524 56,250
Decrease in other assets................................. (22,669) (21,816) (64,138)
Increase in accounts payable and accrued expenses........ 110,274 22,040 137,065
Decrease in intercompany interest payable................ (794) (728) (665)
Increase (decrease) in due to general partners and their
affiliates............................................. (9,646) 15,090 (110,296)
------------ ------------ ------------
Net cash provided by operating activities.................. 286,552 305,676 247,715
------------ ------------ ------------
Cash flows from investing activities
Acquisition of real estate................................. -- (60,663) (34,527)
Acquisition of personal property........................... (68,819) (102,292) (100,757)
------------ ------------ ------------
Net cash used in investing activities...................... (68,819) (162,955) (135,284)
------------ ------------ ------------
Cash flows from financing activities
Principal payments on mortgage loan payable................ (129,902) (118,650) (108,374)
Capital contributions...................................... 121,450 -- 109,900
Other net.................................................. (904) (17,956) 27,391
------------ ------------ ------------
Net cash provided by (used in) financing activities........ (9,356) (136,606) 28,917
------------ ------------ ------------
Net increase in cash and temporary cash investments.......... 208,377 6,115 141,348
Cash and temporary cash investments at beginning of year..... 283,185 277,070 135,722
------------ ------------ ------------
Cash and temporary cash investments at end of year........... $ 491,562 $ 283,185 $ 277,070
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
7. TRANSACTIONS WITH RELATED PARTIES.
The General Partners, certain of their affiliates and the Operating
Partnerships' general partners have received or may receive fees, compensation,
income, distributions and payments from the Partnership in
58
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
7. TRANSACTIONS WITH RELATED PARTIES. (CONTINUED)
connection with the offering and the investment, management and sale of the
Partnership's assets (other than disclosed elsewhere) as follows.
The General Partners are entitled to receive an asset management and
partnership administration fee equal to 0.5% of invested assets per annum, the
first $50,000 of which will be paid each year with the balance payable only
during such years that a 6.5% annual return has been paid to investors on a
noncumulative basis. An additional fee equal to 0.5% of invested assets per
annum will be payable only during those years that an 11.5% annual return has
been paid to investors on a noncumulative basis. Any unpaid amounts will accrue
and be payable only after an 11.5% annual return to investors has been paid on a
cumulative basis and the investors have received the return of their capital
contributions. Asset management and partnership administration fees for the
years ended December 31, 1997, 1996 and 1995 amounted to $166,000 for each year.
Substantially all of the Partnership's general and administrative expenses
are paid by a General Partner or an affiliate and reimbursed by the Partnership.
The amount of such expenses reimbursed to the General Partner for the years
ended December 31, 1997, 1996 and 1995 amounted to $494,165, $313,049 and
$281,606, respectively. These reimbursed expenses are presented on a cash basis
and do not reflect accruals made at each year end.
An affiliate of the General Partners has been retained to provide property
management services for The Ponds at Georgetown beginning in November 1996. The
fees for services provided were $31,924 for 1997 and $4,933 for 1996,
respectively, and represented the lower of costs incurred in providing
management of the property or customary fees for such services determined on a
competitive basis.
8. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used by the Partnership in
estimating the fair value of its financial instruments:
CASH AND TEMPORARY CASH INVESTMENTS, INTEREST RECEIVABLE, OTHER ASSETS,
ACCOUNTS PAYABLE, DISTRIBUTIONS PAYABLE: Fair value approximates the
carrying value of such assets.
INVESTMENT IN FHA LOAN AND GNMA CERTIFICATES: Fair values are based on
prices obtained
from an independent pricing source, adjusted for estimated
prepayments.
<TABLE>
<CAPTION>
AT DECEMBER 31, 1997 AT DECEMBER 31, 1996
---------------------------- ----------------------------
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Cash and temporary cash
investments............................. $ 1,240,992 $ 1,240,992 $ 2,430,937 $ 2,430,937
Investment in FHA Loan.................... $ 6,538,424 $ 6,645,393 $ 6,568,139 $ 6,644,328
Investment in GNMA Certificates........... $ 21,674,940 $ 21,899,413 $ 21,895,675 $ 22,031,267
</TABLE>
59
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997
10. SUMMARY OF UNAUDITED QUARTERLY RESULTS OF OPERATIONS (RESTATED)
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
FROM JANUARY 1, 1997 TO DECEMBER 31, 1997 QUARTER QUARTER QUARTER QUARTER
- --------------------------------------------------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Total income....................................... $ 655,945 $ 529,318 $ 646,693 $ 641,565
Total expenses..................................... (151,630) (148,583) (164,872) (354,431)
----------- ----------- ----------- -----------
Net income......................................... $ 504,315 $ 380,735 $ 481,821 $ 287,134
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
Net income, basic and diluted, per BAC............. $ .12 $ .10 $ .12 $ .07
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
</TABLE>
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
FROM JANUARY 1, 1996 TO DECEMBER 31, 1996 QUARTER QUARTER QUARTER QUARTER
- --------------------------------------------------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Total income....................................... $ 679,515 $ 674,522 $ 659,196 $ 661,974
Total expenses..................................... (140,501) (141,908) (140,608) (129,153)
----------- ----------- ----------- -----------
Net income......................................... $ 539,014 $ 532,614 $ 518,588 $ 532,821
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
Net income per BAC................................. $ .13 $ .13 $ .13 $ .13
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
</TABLE>
60
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
JUNE 30, 1998
LIQUIDITY AND CAPITAL RESOURCES
The Partnership originally acquired: (i) four GNMA Certificates which are
guaranteed as to principal and interest by the Government National Mortgage
Association (GNMA) collateralized by first mortgage loans on multifamily housing
properties located in three states; (ii) an FHA Loan which is insured as to
principal and interest by the Federal Housing Administration (FHA) on a
multifamily housing property; and (iii) Partnership Equity Investments in five
Operating Partnerships which own the multifamily properties financed by the GNMA
Certificates and the FHA Loan. The Partnership has been repaid by GNMA on one of
the GNMA Certificates and the related property has been deeded to GNMA in lieu
of foreclosure, thus eliminating the Partnership Equity Investment in such
property. Collectively, the remaining GNMA Certificates, the FHA Loan, and the
Partnership Equity Investments are referred to as the "Permanent Investments."
The Partnership has also invested amounts held in its reserve account in certain
GNMA securities backed by pools of single-family mortgages ("Reserve
Investments"). The obligations of GNMA and FHA are backed by the full faith and
credit of the United States government.
DISTRIBUTIONS
Cash distributions paid or accrued per BAC were as follows:
<TABLE>
<CAPTION>
FOR THE SIX FOR THE SIX
MONTHS ENDED MONTHS ENDED
JUNE 30, 1998 JUNE 30, 1997
--------------- ---------------
<S> <C> <C>
Regular monthly distributions
Income..................................................... $ .1439 $ .2184
Return of capital.......................................... .2611 .1866
------ ------
$ .4050 $ .4050
------ ------
------ ------
Distributions
Paid out of cash flow...................................... $ .1922 $ .2879
Paid out of reserves....................................... .2128 .1171
------ ------
$ .4050 $ .4050
------ ------
------ ------
</TABLE>
Regular monthly distributions to BAC Holders consist primarily of interest
received on the FHA Loan, GNMA Certificates and the Reserve Investments.
Additional cash for distributions is received from other investments. The
Partnership may draw on reserves to pay operating expenses or to supplement cash
distributions to Investors. The Partnership is permitted to replenish reserves
with cash flows in excess of distributions paid. For the six months ended June
30, 1998, $862,441 was withdrawn from reserves to supplement regular monthly
cash distributions ($364,664 for the quarter ended June 30, 1997). The total
amount held in reserves at June 30, 1998 was $576,265.
The Partnership has been supplementing cash flow from operations with
withdrawals from reserves in order to maintain distributions at the current
level. However, in light of available cash flow and reserves, the level of
distributions will be reduced effective with the distribution payable in
October. A reduction in the distribution is required so that cash provided by
operating activities and, if necessary, withdrawals from the Partnership's
reserves will be adequate to meet short-term liquidity requirements, including
the payments of distributions to BAC Holders. The Partnership has no other
internal or external sources of liquidity. Under the terms of its Partnership
Agreement, the Partnership has the authority to enter into short- and long-term
debt financing arrangements; however, the Partnership currently does not
anticipate entering into such arrangements. The Partnership is not authorized to
issue additional BACs to meet short-term and long-term liquidity requirements.
61
<PAGE>
YEAR 2000
The Partnership does not own or operate its own computer system and owns no
business or other equipment. However, the operation of the Partnership's
business relies on the computer system and other equipment maintained by America
First Companies L.L.C., the parent company of its general partners ("America
First"). In addition, the Partnership has business relationships with a number
of third parties whose ability to perform their obligations to the Partnership
depend on such systems and equipment. Some or all of these systems and equipment
may be affected by the inability of certain computer programs and embedded
circuitry to correctly recognize dates occurring after December 31, 1999.
America First has adopted a plan to deal with this so-called "Year 2000 problem"
with respect to its information technology ("IT") systems, non-IT systems and
third party business relationships.
STATE OF READINESS
The IT system maintained by America First consists primarily of personal
computers, most of which are connected by a local area network. All accounting
and other record keeping functions relating to the Partnership that are
conducted in house by America First are performed on this PC-LAN system. America
First does not own or operate any "mainframe" computer systems. The PC-LAN
system runs software programs that America First believes are compatible with
dates after December 31, 1999. America First has engaged a third party computer
consulting firm to review and test its PC-LAN system to ensure that it will
function correctly after that date and expects that this process, along with any
necessary remediation, will be completed by March 31, 1999. America First
believes any Year 2000 problems relating to its IT systems will be resolved
without significant operational difficulties. However, there can be no assurance
that testing will discover all potential Year 2000 problems or that it will not
reveal unanticipated material problems with the America First IT systems that
will need to be resolved.
Non-IT systems include embedded circuitry such as microcontrollers found in
telephone equipment, security and alarm systems, copiers, fax machines, mail
room equipment, heating and air conditioning systems and other infrastructure
systems that are used by America First in connection with the operation of the
Partnership's business. America First is reviewing its non-IT systems along with
the providers that service and maintain these systems, with initial emphasis
being placed on those, such as telephone systems, which have been identified as
necessary to America First's ability to conduct the operation of the
Partnership's business activities. America First expects that any necessary
modification or replacement of such "mission critical" systems will be
accomplished by mid-1999.
The Partnership has no control over the remediation efforts of third parties
with which it has material business relationships and the failure of certain of
these third parties to successfully remediate their Year 2000 issues could have
a material adverse effect on the Partnership. Accordingly, America First has
undertaken the process of contacting each such third party to determine the
state of their readiness for Year 2000. Such parties include, but are not
limited to, the obligors on the Partnership's GNMA Certificates and FHA Loans,
the Partnership's transfer and paying agent and the financial institutions with
which the Partnership maintains accounts. America First has received initial
assurances from certain of these third parties that their ability to perform
their obligations to the Partnership are not expected to be materially adversely
affected by the Year 2000 problem. America First will continue to request
updated information from these material third parties in order to access their
Year 2000 readiness. If a material third party vendor is unable to provide
assurance to America First that it is, or will be, ready for Year 2000, America
First intends to seek an alternative vendor to the extent practical.
COSTS
All of the IT systems and non-IT systems used to conduct the Partnership's
business operations are owned or leased by America First. Under the terms of its
partnership agreement, neither America First nor the Partnership's general
partners may be reimbursed by the Partnership for expenses associated with
62
<PAGE>
their computer systems or other business equipment. Therefore, the costs
associated with the identification, remediation and testing of America First's
IT and non-IT systems will be paid by America First rather than the Partnership.
The Partnership will bear its proportionate share of the costs associated with
surveying the Year 2000 readiness of third parties. However, the Partnership's
share of the costs associated with these activities is expected to be
insignificant. Accordingly, the costs associated with addressing the
Partnership's Year 2000 issues are not expected to have a material effect on the
Partnership's results of operations, financial position or cash flow.
YEAR 2000 RISKS
The Partnership's general partners believe that the most reasonably likely
worst-case scenario will be that one or more of the third parties with which it
has a material business relationship will not have successfully dealt with its
Year 2000 issues and, as a result, is unable to provide services or otherwise
perform its obligations to the Partnership. For example, if an obligor on the
Partnership's GNMA Certificates or FHA Loan encounters a serious and unexpected
Year 2000 issue, it may be unable to make a timely payment of principal and
interest to the Partnership. This, in turn, could cause a delay or temporary
reduction in cash distributions to BAC holders. In addition, if the
Partnership's transfer and paying agent experiences Year 2000-related
difficulties, it may cause delays in making distributions to BAC holders or in
the processing of transfers of BACs. It is also possible that one or more of the
IT and non-IT systems of America First will not function correctly, and that
such problems may make it difficult to conduct necessary accounting and other
record keeping functions for the Partnership. However, based on currently
available information, the general partners do not believe that there will be
any protracted systemic failures of the IT or non-IT systems utilized by America
First in connection with the operation of the Partnership's business.
CONTINGENCY PLANS
Because of the progress which America First has made toward achieving Year
2000 readiness, the Partnership has not made any specific contingency plans with
respect to the IT and non-IT systems of America First. In the event of a Year
2000 problem with its IT system, America First may be required to manually
perform certain accounting and other record-keeping functions. America First
plans to terminate the Partnership's relationships with material third party
service providers that are not able to represent to America First that they will
be able to successfully resolve their material Year 2000 issues in a timely
manner. However, the Partnership will not be able to terminate its relationships
with certain third parties, such as the obligors on its GNMA Certificates and
FHA Loan, who may experience Year 2000 problems. The Partnership has no specific
contingency plans for dealing with Year 2000 problems experienced with these
third parties.
All forecasts, estimates or other statements in this report relating to the
Year 2000 readiness of the Partnership and its affiliates are based on
information and assumptions about future events. Such "forward-looking
statements" are subject to various known and unknown risks and uncertainties
that may cause actual events to differ from such statements. Important factors
upon which the Partnership's Year 2000 forward-looking statements are based
include, but are not limited to, (a) the belief of America First that the
software used in IT systems is already able to correctly read and interpret
dates after December 31, 1999 and will require little or any remediation; (b)
the ability to identify, repair or replace mission critical non-IT equipment in
a timely manner, (c) third parties' remediation of their internal systems to be
Year 2000 ready and their willingness to test their systems interfaces with
those of America First, (d) no third party system failures causing material
disruption of telecommunications, data transmission, payment networks,
government services, utilities or other infrastructure, (e) no unexpected
failures by third parties with which the Partnership has a material business
relationship and (f) no material undiscovered flaws in America First's Year 2000
testing process.
63
<PAGE>
ASSET QUALITY
The FHA Loan and GNMA Certificates owned by the Partnership are guaranteed
as to principal and interest by FHA and GNMA, respectively. The obligations of
FHA and GNMA are backed by the full faith and credit of the United States
government. The Partnership Equity Investments, however, are not insured or
guaranteed. The value of these investments is a function of the value of the
real estate underlying by the Operating Partnerships. The fair value of the
properties owned by the Operating Partnerships is based on management's best
estimate of the fair value of such properties; however, the ultimate realized
values may vary from these estimates.
In order to cure the ongoing mortgage default and tax delinquency at The
Ponds of Georgetown, a preliminary agreement has been reached between all
parties to the transaction. The general partners of the Operating Partnership
which owns The Ponds at Georgetown have agreed to withdraw from the partnership;
CS Properties II, Inc., which is owned by affiliates of the General Partner of
the Partnership and currently serves as a special limited partner for such
Operating Partnership, would become a substitute general partner along with CS
Properties I, Inc. which currently serves as the special limited partner
representing the partnership interests of Capital Source I, the owner of a
portion of the limited partnership interests in the Operating Partnership. It is
anticipated that the mortgage loan will be rewritten at its original principal
amount at a lower interest rate with anticipation that cash flow from the
property will be sufficient to cover all of the property's cash needs, including
the mortgage and taxes. Capital Source II, along with Capital Source I, have
agreed to contribute additional capital for delinquent taxes and other
outstanding amounts in conjunction with this agreement.
The overall status of the Partnership's investments has remained relatively
constant since March 31, 1998.
The following table shows the occupancy levels of the properties financed by
the Partnership as of June 30, 1998:
<TABLE>
<CAPTION>
NUMBER OF PERCENTAGE OF
NUMBER OF UNITS UNITS
PROPERTY NAME LOCATION UNITS OCCUPIED OCCUPIED
- ------------------------------------------------------------ ------------------ ----------- ------------- -------------
<S> <C> <C> <C> <C>
Crane's Landing............................................. Winter Park, FL 252 245 97%
Delta Crossing.............................................. Charlotte, NC 178 164 92%
Monticello Apartments....................................... Southfield, MI 106 105 99%
The Ponds at Georgetown..................................... Ann Arbor, MI 134 131 98%
--- --- ---
670 645 96%
--- --- ---
--- --- ---
</TABLE>
RESULTS OF OPERATIONS
The table below compares the results of operations for each period shown.
<TABLE>
<CAPTION>
FOR THE FOR THE INCREASE
QUARTER ENDED QUARTER ENDED (DECREASE)
JUNE 30, 1998 JUNE 30, 1997 FROM 1997
-------------- -------------- -----------
<S> <C> <C> <C>
Mortgage-backed securities income................................... $ 616,279 $ 625,571 $ (9,292)
Interest income on temporary cash investments....................... 7,561 24,447 (16,886)
Equity in losses of Operating Partnerships.......................... -- (121,450) 121,450
Other income........................................................ 1,550 750 800
Gain on sale of mortgage-backed securities.......................... 14,565 -- 14,565
-------------- -------------- -----------
639,955 529,318 110,637
Operating and administrative expenses............................... 273,959 148,583 125,376
-------------- -------------- -----------
Net income.......................................................... $ 365,996 $ 380,735 $ (14,739)
-------------- -------------- -----------
-------------- -------------- -----------
</TABLE>
64
<PAGE>
<TABLE>
<CAPTION>
FOR THE SIX FOR THE SIX INCREASE
MONTHS ENDED MONTHS ENDED (DECREASE)
JUNE 30, 1998 JUNE 30, 1997 FROM 1997
-------------- -------------- -----------
<S> <C> <C> <C>
Mortgage-backed securities income................................... $ 1,237,723 $ 1,252,549 $ (14,826)
Interest income on temporary cash investments....................... 19,317 52,614 (33,297)
Equity in losses of Operating Partnerships.......................... -- (121,450) 121,450
Other income........................................................ 2,700 1,550 1,150
Gain on sale of mortgage-backed securities.......................... 14,565 -- 14,565
-------------- -------------- -----------
1,274,305 1,185,263 89,042
Operating and administrative expenses............................... 691,447 300,213 391,234
-------------- -------------- -----------
Net income.......................................................... $ 582,858 $ 885,050 $ (302,192)
-------------- -------------- -----------
-------------- -------------- -----------
</TABLE>
Mortgage-backed securities income decreased for the quarter and six months
ended June 30, 1998, compared to the same periods in 1997, due to the continued
amortization of the principal balances of the Partnership's mortgage-backed
securities.
Interest income on temporary cash investments decreased for the quarter and
six months ended June 30, 1998, compared to the same periods in 1997, due to
withdrawals made from the Partnership's reserves to supplement distributions to
BAC Holders.
The Partnership suspended recognizing losses in the Operating Partnerships
when the entire initial investment had been consumed by such losses.
Subsequently, losses have been recognized only to the extent of additional
contributions, net of distribution received, to the Operating Partnerships by
the Partnership. During the quarter and six months ended June 30, 1997, the
Partnership made additional investments in Operating Partnerships of $121,450.
The Partnership recorded equity in losses of Operating Partnerships, for the
respective periods to the extent of the additional investments. No such
additional investments were made and no equity in losses was recorded for the
quarter and six months ended June 30, 1998.
During the quarter and six months ended June 30, 1998, the Partnership
recorded a gain of $14,565 on the sale of mortgage-backed securities held in its
reserves. No such sale or gain occurred during the comparable periods in 1997.
Operating and administrative expenses increased $125,376 for the quarter and
$391,234 for the six months ended June 30, 1998, respectively, compared to the
same periods in 1997. Approximately $66,300 and $252,800 of such increase for
the quarter and six months ended June 30, 1998, respectively, was due to costs
incurred in connection with the proposed merger described in Note 8 to the
financial statements. The remaining increase for the quarter and six months was
due primarily to increases in salaries and related expenses, consulting fees and
travel expenses.
This Management's Discussion and Analysis of Financial Condition and Results
of Operations contains forward-looking statements that reflect management's
current beliefs and estimates of future economic circumstances, industry
conditions, the Partnership's performance and financial results. All statements,
trend analysis and other information concerning possible or assumed future
results of operations of the Partnership and the real estate investments it has
made, constitute forward-looking statements. BAC Holders and others should
understand that these forward-looking statements are subject to numerous risks
and uncertainties and a number of factors could affect the future results of the
Partnership and could cause those results to differ materially from those
expressed in the forward-looking statements contained herein.
65
<PAGE>
CAPITAL SOURCE II L.P.-A
BALANCE SHEETS
(UNAUDITED)
<TABLE>
<CAPTION>
JUNE 30, 1998 DEC. 31, 1997
------------- -------------
<S> <C> <C>
ASSETS
Cash and temporary cash investments, at cost which approximates market value....... $ 654,703 $ 1,240,992
Investment in FHA Loan (Note 5).................................................... 6,522,514 6,538,424
Investment in GNMA Certificates (Note 5)........................................... 21,149,726 21,674,940
Investment in Operating Partnerships (Note 6)...................................... -- --
Interest receivable................................................................ 206,813 213,024
Other assets....................................................................... 129,638 162,154
------------- -------------
$ 28,663,394 $ 29,829,534
------------- -------------
------------- -------------
LIABILITIES AND PARTNERS' CAPITAL (DEFICIT)
Liabilities
Accounts payable (Note 7)........................................................ $ 237,017 $ 327,513
Distribution payable (Note 4).................................................... 546,968 546,968
------------- -------------
783,985 874,481
------------- -------------
Partners' Capital (Deficit)
General Partner.................................................................. (287,663) (276,907)
Beneficial Assignment Certificate Holders ($7.02 per BAC in 1998 and $7.29 in
1997).......................................................................... 28,167,072 29,231,960
------------- -------------
27,879,409 28,955,053
------------- -------------
$ 28,663,394 $ 29,829,534
------------- -------------
------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
66
<PAGE>
CAPITAL SOURCE II L.P.-A
STATEMENTS OF INCOME
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE FOR THE FOR THE SIX FOR THE SIX
QUARTER ENDED QUARTER ENDED MONTHS ENDED MONTHS ENDED
JUNE 30, 1998 JUNE 30, 1997 JUNE 30, 1998 JUNE 30, 1997
-------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
Income:
Mortgage-backed securities income............... $ 616,279 $ 625,571 $ 1,237,723 $ 1,252,549
Interest income on temporary cash investments... 7,561 24,447 19,317 52,614
Equity in losses of Operating Partnerships...... -- (121,450) -- (121,450)
Other income.................................... 1,550 750 2,700 1,550
Gain on sale of mortgage-backed securities...... 14,565 -- 14,565 --
-------------- -------------- ------------- -------------
639,955 529,318 1,274,305 1,185,263
Expenses
Operating and administrative expenses (Note
7)............................................ 273,959 148,583 691,447 300,213
-------------- -------------- ------------- -------------
Net income........................................ $ 365,996 $ 380,735 $ 582,858 $ 885,050
-------------- -------------- ------------- -------------
-------------- -------------- ------------- -------------
Net income allocated to:
General Partners................................ $ 3,660 $ 3,807 $ 5,829 $ 8,851
Limited Partners................................ 362,336 376,928 577,029 876,199
-------------- -------------- ------------- -------------
$ 365,996 $ 380,735 $ 582,858 $ 885,050
-------------- -------------- ------------- -------------
-------------- -------------- ------------- -------------
Net income, basic and diluted, per BAC............ $ .09 $ .10 $ .14 $ .22
-------------- -------------- ------------- -------------
-------------- -------------- ------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
67
<PAGE>
CAPITAL SOURCE II L.P.-A.
STATEMENT OF PARTNERS' CAPITAL (DEFICIT)
FOR THE SIX MONTHS ENDED JUNE 30, 1998
(UNAUDITED)
<TABLE>
<CAPTION>
GENERAL
PARTNERS BAC HOLDERS TOTAL
----------- ------------- -------------
<S> <C> <C> <C>
Partners' Capital (Deficit)
(excluding net unrealized holding gains)
Balance at December 31, 1997, as previously reported................ $ (331,875) $ 23,790,096 $ 23,458,221
Effect of Restatement (Note 2.H.)................................... 54,546 5,400,075 5,454,621
----------- ------------- -------------
Balance at December 31, 1997, as restated........................... (277,329) 29,190,171 28,912,842
Net income.......................................................... 5,829 577,029 582,858
Cash distributions paid or accrued (Note 4)......................... (16,409) (1,624,496) (1,640,905)
----------- ------------- -------------
(287,909) 28,142,704 27,854,795
----------- ------------- -------------
Net unrealized holding gains
Balance at December 31, 1997........................................ 422 41,789 42,211
Net change.......................................................... (176) (17,421) (17,597)
----------- ------------- -------------
246 24,368 24,614
----------- ------------- -------------
Balance at June 30, 1998.............................................. $ (287,663) $ 28,167,072 $ 27,879,409
----------- ------------- -------------
----------- ------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
68
<PAGE>
CAPITAL SOURCE II L.P.-A
STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE SIX FOR THE SIX
MONTHS ENDED MONTHS ENDED
JUNE 30, 1998 JUNE 30, 1997
------------- -------------
<S> <C> <C>
Cash flows from operating activities
Net income....................................................................... $ 582,858 $ 885,050
Adjustments to reconcile net income to net cash from operating activities
Equity in losses of Operating Partnerships..................................... -- 121,450
Amortization of discount on mortgage-backed securities......................... (1,037) (711)
Gain on the sale of mortgage-backed securities................................. (14,565) --
Decrease in interest receivable................................................ 6,211 3,743
Decrease in other assets....................................................... 32,516 28,265
Decrease in accounts payable................................................... (90,496) (104,648)
------------- -------------
Net cash provided by operating activities.......................................... 515,487 933,149
------------- -------------
Cash flows from investing activities
FHA Loan and GNMA Certificate principal payments received........................ 164,418 128,508
Disposition of mortgage-backed securities........................................ 374,711 --
Investment in Operating Partnerships............................................. -- (121,450)
------------- -------------
Net cash provided by investing activities.......................................... 539,129 7,058
------------- -------------
Cash flow used in financing activity
Distributions paid............................................................... (1,640,905) (1,640,905)
------------- -------------
Net decrease in cash and temporary cash investments................................ (586,289) (700,698)
Cash and temporary cash investments at beginning of period......................... 1,240,992 2,430,937
------------- -------------
Cash and temporary cash investments at end of period............................... $ 654,703 $ 1,730,239
------------- -------------
------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
69
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS
JUNE 30, 1998
(UNAUDITED)
1. ORGANIZATION
Capital Source II L.P.-A (the "Partnership") was formed on August 22, 1986,
under the Delaware Revised Uniform Limited Partnership Act. The General Partners
of the Partnership are Insured Mortgage Equities II L.P. and America First
Capital Source II L.L.C. (the "General Partners").
The Partnership was formed to invest principally in federally-insured
mortgages on multifamily housing properties and limited partnership interests in
Operating Partnerships which construct and operate these properties. Each
federally-insured loan is guaranteed in amounts equal to the face amount of the
mortgage, by the Federal Housing Administration ("FHA") or the Government
National Mortgage Association ("GNMA"). Hereinafter, the Partnership's
investments in such mortgages are referred to as investments in mortgage-backed
securities. The Operating Partnerships are geographically located as follows:
(i) two in Michigan; and, (ii) one each in Florida and North Carolina.
CS Properties II, Inc., which is owned by the General Partners, serves as
the Special Limited Partner for the Operating Partnerships. The Special Limited
Partner has the power, among other things, to remove the general partners of the
Operating Partnerships under certain circumstances and to consent to the sale of
the Operating Partnerships' assets.
The Partnership will terminate subsequent to the sale of all properties but
in no event will the Partnership continue beyond December 31, 2035.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) FINANCIAL STATEMENT PRESENTATION
The financial statements of the Partnership are prepared without audit
on the accrual basis of accounting in accordance with generally accepted
accounting principles. The financial statements should be read in
conjunction with the financial statements and notes thereto included in the
Partnership's Annual Report on Form 10-K/A for the year ended December 31,
1997. In the opinion of management, all normal and recurring adjustments
necessary to present fairly the financial position at June 30, 1998, and
results of operations for all periods presented have been made.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure 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.
(b) INVESTMENT IN MORTGAGE-BACKED SECURITIES
Investment securities are classified as held-to-maturity,
available-for-sale, or trading. Investments classified as held-to-maturity
are carried at amortized cost. Investments classified as available-for-sale
are reported at fair value, as determined by published sources. Any
unrealized gains or losses excluded from earnings and reflected as a
separate component of partners' capital. Subsequent increases and decreases
in the net unrealized gain/loss on the available-for-sale securities are
reflected as adjustments to the carrying value of the portfolio and
adjustments to the component of partners' capital. The Partnership does not
have investment securities classified as trading.
70
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(c) INVESTMENT IN OPERATING PARTNERSHIPS
The investment in Operating Partnerships consists of interests in
limited partnerships which own properties underlying the mortgage-backed
securities and are accounted for using the equity method. The investments by
the Partnership in the Operating Partnerships were recorded at the cost to
acquire such interests. Subsequently losses were recorded by the Partnership
as they were realized by the Operating Partnerships. The Partnership
suspended recognizing losses in the Operating Partnerships when its entire
initial investment had been consumed by such losses. Subsequently, losses
have been recognized only to the extent of additional contributions net of
distributions received, to the Operating Partnerships by the Partnership.
The Operating Partnerships are not insured or guaranteed. The value of these
investments is a function of the value of the real estate owned by the
Operating Partnerships. With regard to the Operating Partnerships, the
Partnership is not the general partner and it has no legal obligation to
provide additional cash support nor has it indicated any commitment to
provide this support; accordingly it has not reduced its investment in these
Operating Partnerships below zero.
(d) INCOME TAXES
No provision has been made for income taxes since Beneficial Assignment
Certificate ("BAC") Holders are required to report their share of the
Partnership's income for federal and state income tax purposes.
(e) TEMPORARY CASH INVESTMENTS
Temporary cash investments are invested in short-term debt securities
purchased with original maturities of three months or less.
(f) NET INCOME PER BENEFICIAL ASSIGNMENT CERTIFICATE (BAC)
Net income per BAC has been calculated based on the number of BACs
outstanding (4,011,101) for all periods presented.
(g) COMPREHENSIVE INCOME
In the first quarter of 1998, the Partnership adopted Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income"
("SFAS 130"). SFAS 130 requires the display and reporting of comprehensive
income, which includes all changes in Partners' capital with the exception
of additional investments by partners or distributions to partners.
Comprehensive income for the Partnership includes net income and the change
in net unrealized holding losses on investments
71
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
charged or credited to Partners' Capital. Comprehensive income for the
quarter and six months ended June 30, 1998, compared to the same periods in
1997 was as follows:
<TABLE>
<CAPTION>
FOR THE FOR THE
FOR THE FOR THE SIX MONTHS SIX MONTHS
QUARTER ENDED QUARTER ENDED ENDED JUNE ENDED JUNE
JUNE 30, 1998 JUNE 30, 1997 30, 1998 30, 1997
-------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
Net income........................................ $ 365,996 $ 380,735 $ 582,858 $ 885,050
Unrealized gains (losses) from investments
Unrealized holding gains (losses) arising during
the period.................................... (7,514) 10,947 (19,391) (3,262)
Reclassification adjustment for net (gains)
losses included in net income................. (13,498) -- 1,794 --
-------------- -------------- ------------- -------------
Change in net unrealized holding gains (losses)... (21,012) 10,947 (17,597) (3,262)
-------------- -------------- ------------- -------------
Comprehensive income.............................. $ 344,984 $ 391,682 $ 565,261 $ 881,788
-------------- -------------- ------------- -------------
-------------- -------------- ------------- -------------
</TABLE>
(h) RESTATEMENT
The Partnership holds a majority ownership interest and through CS
Properties II, Inc. can influence the decisions of the general partners of
the Operating Partnerships in certain circumstances. Accordingly, the
Partnership had consolidated the Operating Partnerships since inception. In
1998, it was determined that this influence did not constitute control of
the Operating Partnerships. Therefore, the accompanying financial statements
have been restated to deconsolidate the Operating Partnerships and to
account for the investments in Operating Partnerships under the equity
method of accounting rather than consolidation.
Under the equity method of accounting, the Partnership's investments are
adjusted to reflect its share of Operating Partnership profits or losses and
distributions. As required by consolidation accounting, the Partnership had
recorded losses from the Operating Partnerships substantially in excess of
its investments. As previously disclosed, the Partnership is not the general
partner, nor is it obliged to fund the negative balances. Under equity
accounting, the Partnership does not reduce the carrying value of its
investments below zero. As restated, investments in the Operating
Partnerships are zero and profits and losses are recorded based on capital
contributions made and distributions received from the Operating
Partnerships.
The restatement increased partners' capital at December 31, 1997 by
$5,454,621, which was the negative balance of the investment in Operating
Partnerships at that date. The restatement further increased net income for
the quarter and six months ended June 30, 1998 by $105,823 and $211,862,
respectively. Net income per BAC increased by $.03 and $.05. The restatement
further decreased net income for the quarter and six months ended June 30,
1997, by $12,819 and $3,291, respectively. The restatement had no
significant impact on net income per BAC.
72
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
3. PARTNERSHIP RESERVE ACCOUNT
The Partnership maintains a reserve account which consisted of the following
at June 30, 1998.
<TABLE>
<S> <C>
Cash and temporary cash investments............................... $ (2,929)
GNMA Certificates................................................. 579,194
---------
$ 576,265
---------
---------
</TABLE>
The reserve account was established to maintain working capital for the
Partnership and is available to supplement distributions to investors or for
other contingencies related to the investment in mortgage-backed securities and
the operation of the Partnership. See Note 5 regarding the investment in
mortgage-backed securities.
4. PARTNERSHIP INCOME, EXPENSES AND CASH DISTRIBUTIONS
Profits and losses from continuing operations and cash available for
distribution will be allocated 99% to the Investors and 1% to the General
Partners. Certain fees payable to the General Partners will not become due until
Investors have received certain priority returns. Cash distributions included in
the financial statements represent the actual cash distributions made during
each period and the change in cash distributions accrued at the end of each
period.
The General Partners will receive 1% of the net proceeds from any sale of
Partnership assets. The General Partners will receive a termination fee equal to
3% of all sales proceeds less actual costs incurred in connection with all sales
transactions, payable only after the Investors have received a return of their
capital contributions and an 11.5% annual return on a cumulative basis. The
General Partners will also receive a fee equal to 9.1% of all cash available for
distribution and sales proceeds (after deducting from cash available or sales
proceeds any termination fee paid therefrom) after Investors have received a
return of their capital contributions and an 11.5% annual return on a cumulative
basis.
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES
The mortgage-backed securities held by the Partnership represent Government
National Mortgage Association (GNMA) Certificates and Federal Housing
Administration (FHA) Loans. The GNMA Certificates are backed by first mortgage
loans on multifamily housing properties and pools of single-family properties.
The GNMA Certificates are debt securities issued by a private mortgage lender
and are guaranteed by GNMA as to the full and timely payment of principal and
interest on the underlying loans. The FHA Loans are guaranteed as to the full
and timely payment of principal and interest on the underlying loans.
At June 30, 1998, the total amortized cost, gross unrealized holding gains
and aggregate fair value of available-for-sale securities were $554,580, $24,614
and $579,194, respectively. At June 30, 1998, the total amortized cost, gross
unrealized holding gains and aggregate fair value of mortgage-backed securities
were $27,093,046, $431,561 and $27,524,607, respectively.
In May of 1998, the Partnership sold mortgage-backed securities with a
carrying value of $360,146 for $374,711, thereby recognizing a gain of $14,565
on the sale.
73
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
5. INVESTMENT IN MORTGAGE-BACKED SECURITIES (CONTINUED)
Descriptions of the Partnership's mortgage-backed securities at June 30,
1998, are as follows:
<TABLE>
<CAPTION>
NUMBER OF INTEREST CARRYING
TYPE OF SECURITY AND NAME LOCATION UNITS RATE MATURITY DATE AMOUNT
- -------------------------------------- ------------------ ----------- ----------- -------------- -------------
<S> <C> <C> <C> <C> <C>
Held-to-Maturity
GNMA Certificates:
Crane's Landing Winter Park, FL 252 8.75% 12-15-2030 $ 10,203,641
Monticello Apartments Southfield, MI 106 8.75% 11-15-2029 5,313,616
The Ponds at Georgetown Ann Arbor, MI 134 9.00% 12-15-2029 5,053,275
-------------
20,570,532
-------------
FHA Loan:
Delta Crossing Charlotte, NC 178 9.10% 10-01-2030 6,522,514
-------------
27,093,046
-------------
Available-for-sale
GNMA Certificates:
Pools of single-family mortgages 7.58%(1) 2008 to 2009 579,194(2)
-------------
Balance at June 30, 1998 $ 27,672,240
-------------
-------------
</TABLE>
- ------------------------
(1) Represents yield to the Partnership.
(2) Reserve account asset--See Note 3.
Reconciliation of the carrying amount of the mortgage-backed securities is
as follows:
<TABLE>
<S> <C>
Balance at December 31, 1997................................... $28,213,364
Addition
Amortization of discount on mortgage-backed securities..... 1,037
Deductions
FHA Loan and GNMA Certificate principal payments
received................................................. (164,418)
Disposition of mortgage backed securities.................. (360,146)
Change in net unrealized holding gains..................... (17,597)
----------
Balance at June 30, 1998....................................... $27,672,240
----------
----------
</TABLE>
6. INVESTMENT IN OPERATING PARTNERSHIPS
The Partnership's Operating Partnerships consist of interests in limited
partnerships which own multifamily properties financed by the GNMA Certificates
and FHA Loan held by the Partnership. The limited partnership agreements
originally provided for the payment of a base return on the equity provided to
the limited partnerships and for the payment of additional amounts out of a
portion of the net cash flow or net sale or refinancing proceeds of the
properties subject to various priority payments.
74
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
6. INVESTMENT IN OPERATING PARTNERSHIPS (CONTINUED)
Descriptions of the Operating Partnerships held at June 30, 1998, are as
follows:
<TABLE>
<CAPTION>
CARRYING
NAME LOCATION PARTNERSHIP NAME AMOUNT
- -------------------------------- ------------------ ----------------------------------------------- -------------
<S> <C> <C> <C>
Delta Crossing Charlotte, NC Delta Crossing Limited Partnership $ --
Crane's Landing Winter Park, FL Crane's Landing Partnership, Ltd. --
Monticello Apartments Southfield, MI Centrum Monticello Limited Partnership --
The Ponds at Georgetown Ann Arbor, MI Ponds at Georgetown Limited Partnership --
-----
Balance at June 30, 1998 $ --
-----
-----
</TABLE>
7. TRANSACTIONS WITH RELATED PARTIES
The General Partners, certain of their affiliates and the Operating
Partnerships' general partners have received or may receive fees, compensation,
income, distributions and payments from the Partnership in connection with the
offering and the investment, management and sale of the Partnership's assets
(other than disclosed elsewhere) as follows.
The General Partners are entitled to receive an asset management and
partnership administrative fee equal to 0.5% of invested assets per annum, the
first $50,000 of which will be paid each year with the balance payable only
during such years that a 6.5% annual return has been paid to Investors on a
noncumulative basis. An additional fee equal to 0.5% of invested assets per
annum will be payable only during those years that an 11.5% annual return has
been paid to Investors on a noncumulative basis. Any unpaid amounts will accrue
and be payable only after an 11.5% annual return to Investors has been paid on a
cumulative basis and the Investors have received the return of their capital
contributions. Asset management and partnership administration fees of $83,000
were incurred during 1998 ($41,500 for the quarter ended June 30, 1998).
Substantially all of the Partnership's general and administrative expenses
are paid by a General Partner or an affiliate and reimbursed by the Partnership.
The amount of such expenses reimbursed to the General Partner for 1998 was
$515,967 ($161,147 for the quarter ended June 30, 1998). These reimbursed
expenses are presented on a cash basis and do not reflect accruals made at
quarter end.
An affiliate of the General Partners has been retained to provide property
management services for The Ponds at Georgetown. The fees for services provided
were $20,137 for 1998 ($10,113 for the quarter ended June 30, 1998) and
represented the lower of costs incurred in providing management of the property
or customary fees for such services determined on a competitive basis.
8. PROPOSED MERGER
On May 7, 1998, a Registration Statement on Form S-4 was filed by America
First Real Estate Investment Company, Inc. (the Company) with the Securities and
Exchange Commission which includes a prospectus/consent solicitation statement
of the Partnership and Capital Source L.P., a sister partnership with assets and
investment objectives similar to the Partnership. Upon approval of the proposed
merger by investors in both partnerships, the partnerships and their respective
general partners will be combined into
75
<PAGE>
CAPITAL SOURCE II L.P.-A
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
8. PROPOSED MERGER (CONTINUED)
the Company which will be engaged in the business of making real estate and
related investments. At their election and subject to certain limitations,
investors in each partnership will receive, in exchange for their partnership
units, shares of common stock in the Company (the Common Stock) or variable rate
junior notes (the Notes) of the Company. The Company intends to list shares of
Common Stock issued pursuant to the proposed merger on a national securities
exchange. The limited partners of the Partnership will receive a
prospectus/consent solicitation statement in the future, at which time they will
have the opportunity to vote on the proposed merger.
76
<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON NOVEMBER 3, 1998
REGISTRATION NO. 333-52117
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
PARTNERSHIP SUPPLEMENTS
TO
PRE-EFFECTIVE
AMENDMENT NO. 2
TO
FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
(Exact name of registrant as specified in its charter)
SUITE 400, 1004 FARNAM STREET
OMAHA, NEBRASKA 68102
(402) 444-1130
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
SUPPLEMENT DATED , 1998
TO
PROSPECTUS/CONSENT SOLICITATION STATEMENT
DATED , 1998
FOR
CAPITAL SOURCE II L.P.-A
On the terms described in the Prospectus/Consent Solicitation Statement
dated , 1998, of which this Supplement (the "Supplement") is a part,
Insured Mortgage Equities, Inc. and America First Capital Source I, L.L.C.
(together, the "Cap Source I General Partners") and Insured Mortgage Equities II
L.P. and America First Capital Source II, L.L.C. (together, the "Cap Source II
General Partners, " and together with the Cap Source I General Partners, the
"General Partners") are proposing the consolidation by merger (the
"Transaction") of Capital Source L.P., a Delaware limited partnership ("Cap
Source I"), Capital Source II L.P.-A, a Delaware limited partnership ("Cap
Source II," or the "Partnership" and together with Cap Source I, the
"Partnerships") and the General Partners, with and into America First Real
Estate Investment Company, Inc., a newly organized Delaware corporation (the
"Company"). The Partnerships are Delaware limited partnerships formed from 1985
through 1986 to invest principally in federally-insured mortgages on multifamily
housing properties and to acquire, hold, sell, dispose of and otherwise deal
with limited partnership interests ("Partnership Equity Interests") in the
limited partnerships (the "Operating Partnerships") which construct, own and
operate these properties. Upon completion of the Transaction, the Company's
primary business objective will be to provide Investors who receive Shares
("Shareholders") with long term after-tax returns that are greater than those
available from real estate investment trusts ("REITs") and other similar
publicly traded real estate companies. The Company expects to achieve this
objective by investing in assets and using investment and management strategies
not generally permitted to or used by REITs. Such strategies may include
investing in real estate operating companies, in underperforming real estate
assets such as office buildings and apartment complexes with the objective of
renovating and repositioning them to increase values, and in underperforming
markets and foreign markets that the Company expects will show significant
improvement. See "THE COMPANY" in the Prospectus/Consent Solicitation Statement.
Upon completion of the Transaction, the Partnerships and the General
Partners will be merged with and into the Company. Cap Source I Investors,
together with Cap Source II Investors (collectively, the "Investors"), will
receive, at their election, either shares of the Common Stock of the Company
(the "Common Stock" or the "Shares") or Variable Rate Junior Notes Callable on
or After the Date of Issuance (the "Notes") of the Company, together with
promissory notes (the "Promissory Notes") to each Investor entitled to a
fractional interest in the Notes. See "DESCRIPTION OF CAPITAL STOCK" and "THE
NOTES" in the Prospectus/Consent Solicitation Statement. The Common Stock will
be listed on the New York Stock Exchange under the symbol "AFE," subject to
official notice of issuance. The Transaction will not occur unless it is
approved by both Partnerships and Investors who vote against the Transaction
("Dissenting Investors") do not elect to receive more than the maximum amount of
Notes issuable in connection with the Transaction. The maximum amount of Notes
that may be issued in the Transaction is $40.0 million.
This Supplement has been prepared for the Cap Source II Investors to discuss
the effects and fairness of the Transaction with respect to their beneficial
assignment certificates of the Partnership (the "Units"), and to provide
information on the Partnership. The effects of the Transaction may be different
for Cap Source II Investors than for Cap Source I Investors. A supplement has
also been prepared for Cap Source I Investors. The Supplements are a part of the
Prospectus/Consent Solicitation Statement. Capitalized terms not defined herein
shall have the meaning set forth in the accompanying Prospectus/ Consent
Solicitation Statement.
Copies of any Supplement may be obtained without charge by an Investor or
representative so designated in writing, by giving written notice to the General
Partners of the Investor's respective
<PAGE>
Partnership. All requests should be directed to America First Investor Services
Department, 1004 Farnam Street, Suite 400, Omaha, Nebraska 68102.
THIS TRANSACTION INVOLVES MATERIAL RISKS THAT SHOULD BE CONSIDERED BY THE
INVESTORS. SEE "RISK FACTORS" BEGINNING ON PAGE 22 OF THE PROSPECTUS/CONSENT
SOLICITATION STATEMENT. IN PARTICULAR, INVESTORS SHOULD CONSIDER THE FOLLOWING:
- The Common Stock may trade at prices substantially below the estimated
liquidation value of the Company's assets and the $25 per Share price
arbitrarily determined for the sole purpose of allocating the Shares in the
Transaction. A public market for the Notes is not expected to develop. If
the Notes are sold, they may sell at prices substantially below their
issuance price.
- The general partners of the Partnerships (the "General Partners") initiated
and participated in the structuring of the Transaction and have certain
conflicts of interest with respect to its completion. In particular, the
owners of the General Partners will receive an aggregate of 33,549 Shares,
which could have an approximate value of $838,725 based on an assumed value
of $25 per Share. In addition, the Company's advisor (the "Advisor"), a
subsidiary of the entity that controls the General Partners, will be
entitled to receive management fees from the Company following the
Transaction.
- The Transaction involves a fundamental change in the nature of the
Investors' investment. If the Transaction is completed, Investors will not
receive a return on their investment in the form of liquidation proceeds
through sales of Partnership assets. Instead, Investors who receive Shares
("Shareholders") will be able to liquidate their investments only by selling
their Shares on the NYSE or in private transactions. An Investor's share of
liquidation proceeds could be higher than the amount realized from the sale
of the Company's Shares or payments on the Notes.
- There can be no guarantee with respect to the level of the Company's future
cash dividends, and regardless of the initial level of such dividends, they
could decline so that some Shareholders would receive lower distributions
than they received from the Partnership prior to the Transaction.
- The Company is newly organized and has no operating history.
- The investment strategy and operating policies of the Company will be
materially different from those of the Partnerships and may be modified or
altered by the Board of Directors of the Company without the consent of the
Shareholders.
- Dissenting Investors are not entitled to any appraisal or other dissenters'
rights under Delaware law and none will be offered in the Transaction.
- There are alternatives to the Transaction. By approving the Transaction,
Investors will effectively preclude the pursuit of certain alternatives.
- The external management structure of the Company creates certain conflicts
of interest. In particular, the Advisor may also manage other entities with
similar investment objectives to those of the Company.
- To the extent Notes are issued, the Partnerships will be required to
recognize taxable gain which would be allocated to all Investors in
proportion to their ownership of Units.
- The Company intends to use debt financing to increase its real estate asset
portfolio. An increase in debt may increase the possibility of default on
the Company's obligations, which could adversely affect the Company's
earnings and its ability to pay expected dividends to Shareholders.
- Approval of a majority in interest of the Investors in a Partnership with
respect to the Transaction will bind all Investors in that Partnership,
including Dissenting Investors and Investors who abstained from voting with
respect to the Transaction.
Cap Source II Supp-2
<PAGE>
- Investors who receive Notes ("Noteholders") will not hold an equity interest
in the Company and therefore will not be able to participate in the
Company's growth or benefit from any increases in the value of the Shares.
The Notes will be unsecured obligations of the Company and may be redeemed
prior to maturity at the Company's option.
SIMILARITIES BETWEEN CAP SOURCE I AND CAP SOURCE II
The investment objectives and the assets held by the Partnerships are
substantially similar in nature and character. Based on the Exchange Values
determined as of December 31, 1997, Cap Source I's assets consisted of 70.8% in
GNMA Certificates and FHA Loans, 19.0% in cash, cash equivalents and net other
assets and liabilities, and the remaining 10.2% in the Partnership Equity
Interests in the Cap Source I Operating Partnerships. As of December 31, 1997,
Cap Source II's assets consisted of 85.8% in GNMA Certificates and FHA Loans,
1.8% in cash, cash equivalents and net other assets and liabilities, and the
remaining 12.4% in the Partnership Equity Interests in the Cap Source II
Operating Partnerships.
Although there are differences in the geographic area, style of construction
and specific locations for each property owned by the Operating Partnerships,
there are no significant differences in occupancy rates or property types. All
of the properties owned by the Operating Partnerships are multifamily apartment
complexes. In addition, the Operating Partnership interests in the Ponds at
Georgetown Limited Partnership ("The Ponds") are owned by Cap Source I and Cap
Source II.
DIFFERENCES BETWEEN CAP SOURCE I AND CAP SOURCE II
Except for The Ponds, each Partnership Equity Interest is unique to the
Partnership that holds the interest. The style of construction, specific
location and geographic areas for each property owned by the Operating
Partnerships are different. Cap Source I has Partnership Equity Interests in
three Operating Partnerships that have a general partner that is an affiliate of
Cap Source I, which include Waterman's Crossing, Fox Hollow and Misty Springs.
The remaining Cap Source I Operating Partnerships have general partners that are
not affiliated with Cap Source I. All of the Cap Source II Operating
Partnerships have general partners that are not affiliated with Cap Source II.
See "THE PARTNERSHIPS" in the Prospectus/Consent Solicitation Statement.
Although both Partnerships hold a majority of their assets in liquid
investments, the amount of cash and cash equivalents held by each Partnership is
different. Cash, cash equivalents and net other assets and liabilities make up
19% of Cap Source I's assets, whereas only 1.8% of Cap Source II's assets are in
cash, cash equivalents and net other assets and liabilities.
Distributions for both Partnerships are based upon the adjusted Unit value,
which is $20.00 per Unit of original investment, adjusted for returns of capital
to Investors. The adjusted Unit value for Cap Source I is $18.35. The adjusted
Unit value for Cap Source II is $12.39.
In 1997, Cap Source I made distributions at the rate of 5.5% of its adjusted
Unit value, which equaled $1.01 per Unit for the year. Cap Source I made
distributions at an annual rate of 5.5% of its adjusted Unit value, which
equaled $.5050 per Unit for the first two quarters of 1998. Cap Source II made
distributions at the rate of 6.5% of its adjusted Unit value, which equaled $.81
per Unit for 1997, $.293 of which was made from reserves. Cap Source II made
distributions at an annual rate of 6.5% of its adjusted Unit value, which
equaled $.4050 per Unit for the first two quarters of 1998, $.2128 of which was
made from reserves. Cap Source II's reserves have been substantially decreased
since Cap Source II has been making part of its distributions from reserves.
Therefore, the Cap Source II General Partners have reduced the Cap Source II
monthly distribution rate to $.45 per Unit on an annual basis, beginning with
the distribution for the month of August 1998, which distribution is payable in
October 1998. See "SECONDARY MARKET AND OWNERSHIP OF PARTNERSHIP
UNITS--Partnership Distributions" in the Prospectus/Consent Solicitation
Statement.
Cap Source II Supp-3
<PAGE>
The Partnerships have different fee structures for compensating the General
Partners. The Cap Source I General Partners are entitled to receive an asset
management and partnership administrative fee equal to 0.5% of invested assets
per annum, payable only during such years that an 8% return has been paid to
Investors on a noncumulative basis. Any unpaid amounts will accrue and be
payable only after a 13% annual return to Cap Source I Investors has been paid
on a cumulative basis and such Investors have received the return of their
capital contributions.
The Cap Source II General Partners are entitled to receive an asset
management and partnership administrative fee equal to 0.5% of invested assets
per annum, the first $50,000 of which is paid each year with the balance payable
only during such years that a 6.5% annual return has been paid to Cap Source II
Investors on a noncumulative basis. An additional fee of 0.5% of invested assets
will be paid in years that an 11.5% annual return has been paid to Cap Source II
Investors on a cumulative basis. Any unpaid amounts will accrue and be payable
only after an 11.5% annual return to investors has been paid on a cumulative
basis and the investors have received the return of their capital contributions.
The General Partners of both Partnerships also receive 1% of the net
proceeds from any sale of Partnership assets. The General Partners of both
Partnerships will receive a termination fee equal to 3% of all sales proceeds
less actual costs incurred in connection with all sales transactions, payable
only after the Investors have received a return of their capital contributions
and a 13% annual return on a cumulative basis with respect to Cap Source I or an
11.5% annual return on a cumulative basis with respect to Cap Source II. The
General Partners of both Partnerships will also receive a fee equal to 9.1% of
all cash available for distribution and sales proceeds (after deducting from
cash available or sales proceeds any termination fee paid therefrom) after
Investors have received a return of their capital contributions and a 13% annual
return on a cumulative basis with respect to Cap Source I or an 11.5% annual
return on a cumulative basis with respect to Cap Source II. However, the
difference in this latter fee is not a material difference since neither
Partnership has achieved such a target level since their inception, and the
General Partners do not anticipate that such a level will be reached in the
foreseeable future.
RISK FACTORS
The Transaction does not involve risks which are more significant to Cap
Source II Investors than to Cap Source I Investors. However, the Transaction
involves certain risks and other adverse factors which are applicable to both
Partnerships, as discussed in detail in the accompanying Prospectus/Consent
Solicitation Statement, of which this Supplement is a part. See "RISK FACTORS"
in the Prospectus/ Consent Solicitation Statement. Because all of the risks and
adverse factors described in the Prospectus/ Consent Solicitation Statement
apply to the effect of the Transaction on both Partnerships, Cap Source II
Investors should carefully review the section entitled "RISK FACTORS" therein.
Except as otherwise stated herein, there are no material differences in the
manner in which Cap Source I or Cap Source II will be affected by any of the
risks or adverse factors discussed in such "RISK FACTORS" section.
For most Investors, the Transaction will not result in a taxable transaction
except to the extent Notes are received in the Transaction. For a more detailed
discussion of the tax consequences of the transaction see "Certain Tax
Differences Between the Ownership of Units and Shares" herein and "FEDERAL
INCOME TAX CONSEQUENCES" in the Prospectus/Consent Solicitation Statement.
By participating in the Transaction, Investors in Cap Source II will assume
risks associated with the assets of Cap Source I. Although the majority of the
assets in Cap Source I are substantially similar to those of Cap Source II, the
multifamily apartment complexes in which Cap Source I owns limited partnership
interests are of different construction, geographic area and specific location
than the complexes in which Cap Source II owns interests. Because the market for
real estate may vary from one region of the country to another, the change in
geographic diversity may expose Cap Source II Investors to different and greater
risks than those to which they are presently exposed. For geographic information
regarding the Partnerships' properties, see "THE PARTNERSHIPS" in the
Prospectus/Consent Solicitation Statement. Moreover, because the properties
owned by the Partnerships are not of uniform quality,
Cap Source II Supp-4
<PAGE>
combining assets and liabilities of the Partnerships in the Transaction may
diminish the overall asset quality underlying the investments of certain of the
Investors by comparison with their existing Partnership investment.
The following is a brief description of the potential disadvantages, adverse
consequences and risks of the Transaction that is applicable to both
Partnerships. This description is qualified in its entirety by the more detailed
discussion in the section entitled "RISK FACTORS" contained in the
Prospectus/Consent Solicitation Statement.
- There is substantial uncertainty as to the prices at which the Common
Stock will trade after the Transaction. The price of the Shares may
decrease after the Transaction due to the potentially large number of
Shares that may be sold immediately by Shareholders. Thus, the Common
Stock may trade at prices substantially below the estimated liquidation
value of the Company's assets and the $25 per Share price arbitrarily
determined for the sole purpose of allocating the Shares in the
Transaction.
- A public market for the Notes is not expected to develop. If the Notes are
sold, they may sell at prices substantially below their issuance price.
Investors who receive Notes ("Noteholders") are likely to receive the full
face amount of the Notes only if they hold the Notes to maturity, which is
approximately eight years after the Transaction, or if the Company repays
or refinances the Notes at or prior to maturity.
- The General Partners initiated and participated in the structuring of the
Transaction and have certain conflicts of interests with respect to its
completion. The owners of the General Partners will receive certain
economic benefits as a result of the Transaction, including an aggregate
of 33,549 shares, which could have an approximate value of $838,725 based
on an assumed value of $25 per Share. In addition, the Company's advisor
(the "Advisor"), a subsidiary of American First Companies L.L.C. ("America
First Companies"), which controls the General Partners, will be entitled
to receive management fees from the Company following the Transaction. See
"THE TRANSACTION--Conflicts of Interest and Benefits to Insiders" and
"MANAGEMENT OF THE COMPANY--The Advisor."
- The Transaction involves a fundamental change in the nature of the
Investors' investment from an investment in a finite-life entity in which
Investors will receive a distribution upon liquidation based on the net
proceeds from the sale of the entity's assets, to an investment in an
infinite-life entity in which Shareholders will be able to liquidate their
investments only by selling their Shares on the NYSE or in private
transactions. Retaining the finite life feature of the Partnerships would
allow Investors eventually to receive liquidation proceeds from the
disposition of the Partnership assets, and an Investor's share of these
proceeds could be higher than the amount realized from the sale of the
Company's Shares or payments on the Notes.
- There can be no guarantee with respect to the level of the Company's
future dividends, and regardless of the initial level of such dividends,
they could decline in the future so that some Shareholders would receive
dividends that are lower than the distributions they received as Investors
prior to the Transaction. The Company may also reinvest cash generated by
the sale of existing assets or from operations to acquire additional
assets, potentially causing cash dividends to be lower than the
distributions made by the Partnerships in certain cases.
- The Company has only recently been organized and has no operating history.
As a result, there can be no assurance that any of the Company's planned
future activities will be successful.
- There is a material difference between the investment strategies and
operating policies of the Partnerships and those of the Company. The
Company's investment objectives will be to identify and pursue
growth-oriented real estate investments, which will create a greater
degree of risk for Investors than the investments of the Partnerships. The
Company's investment strategies and
Cap Source II Supp-5
<PAGE>
operating policies are determined by, and may be modified or altered by,
the Board of Directors of the Company (the "Board of Directors") without
the consent of the Shareholders.
- Dissenting Investors are not entitled to receive cash based on an
appraisal of their Units or other dissenters' rights under Delaware law,
and no such rights will be afforded by the Partnerships. Dissenting
Investors will only have the right to exchange their Units for Notes if
they so elect, subject to certain limitations. See "THE NOTES."
- There are alternatives to the Transaction. By approving the Transaction,
Investors will effectively preclude the pursuit of certain alternatives.
See "BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE
TRANSACTION--Alternatives Considered."
- The external management structure of the Company creates certain conflicts
of interest. In particular, the Company's advisor may also manage other
entities with similar investments, objectives and goals, and may be
required to resolve conflicts between the entities it manages from time to
time.
- To the extent Notes are issued, the Partnerships will be required to
recognize gain and include such gain in income. Each Investor, regardless
of whether such Investor chooses Shares or Notes, would be allocated a
portion of such gain based on his ownership of Units. The amount of such
gain could be material if the maximum amount of Notes is chosen.
- The Company intends to use debt financing to increase its real estate
asset portfolio. Although the Notes will be issued under an indenture (the
"Indenture") which creates certain debt limitations, the Company's
organizational documents do not limit the amount of debt the Company may
incur. The Company may therefore be more leveraged than either of the
Partnerships. The Company's use of debt financing may increase the
possibility of default on the Company's obligations, which could adversely
affect the Company's earnings and its ability to pay expected dividends to
Shareholders.
- Approval of the Transaction by Investors holding a majority of outstanding
Units of a Partnership may cause the Partnership to be merged with and
into the Company, and such approval will bind all Investors in such
Partnership, including Dissenting Investors and Investors who abstained
from voting with respect to the Transaction.
- The Notes, which will be prepayable at any time, are unsecured obligations
of the Company and, as a practical matter, will be junior to all other
debt of the Company. The Notes will bear interest at a variable rate that
may be lower than rates on other variable rate debt instruments that may
be perceived as having comparable or lower risks than the Notes.
Noteholders will not hold an equity interest in the Company and therefore
will not be able to participate in the Company's growth or benefit from
any increases in the value of the Shares.
- The Company may be liable for unknown, undisclosed or contingent
liabilities of the Partnerships, which could adversely affect the
liquidity of the Company and its ability to pay expected dividends to
Shareholders.
- If Dissenting Investors elect to receive Notes in excess of the Maximum
Note Limitation, the Transaction will not be consummated. If this does not
occur, but the total amount of Notes allocable to all Investors who elect
to receive Notes exceeds the Maximum Note Limitation, Notes will be
allocated first to Dissenting Investors who elected to receive Notes and
then, on a pro rata basis, to Investors who abstained from voting or who
voted "YES" in favor of the Transaction ("Consenting Investors"). Thus, an
Investor could choose Notes but receive Shares instead. To be assured of
receiving Notes, an Investor must vote "NO" with respect to the
Transaction and elect to receive Notes.
For a more detailed discussion of the risks associated with the Transaction,
see "RISK FACTORS" in the Prospectus/Consent Solicitation Statement.
Cap Source II Supp-6
<PAGE>
EFFECT ON FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Upon completion of the Transaction, the operations and existence of the
Partnerships will cease. See "THE TRANSACTION" in the Prospectus/Consent
Solicitation Statement. If the Transaction is not consummated, the General
Partners do not contemplate liquidation of the Partnerships, which would result
in an all-cash payment to Investors, in the near future. The Transaction,
however, does not result in an all-cash payment to Investors in liquidation of
their investment. For example, Investors who become Noteholders will have
exchanged their Units for unsecured debt obligations of the Company which may
not be retired in full until , 2006, a date approximately seven years
after the Effective Date. On the other hand, Investors who exchange their Units
for Shares will receive an equity interest in the Company whose marketability
will depend upon the aftermarket that may develop with respect to the Shares.
If the Transaction is approved, all Transaction Costs will be paid by the
Partnerships and the Company. If the Transaction is rejected, the General
Partners of each Partnership will bear a percentage of all Transaction Costs,
excluding solicitation/communication costs, equal to the total number of
abstentions and "NO" votes cast by Investors in that Partnership with respect to
the Transaction, divided by the total number of abstentions and votes cast by
Investors in that Partnership. In such event, the Partnerships will bear the
remaining Transaction Costs. For a more detailed discussion of the Transaction
Costs see "THE TRANSACTION--Transaction Expenses" in the Prospectus/Consent
Solicitation Statement.
EXCHANGE VALUE TABLES
The first table set forth below indicates the Exchange Value as it relates
to the allocation of Shares to Cap Source II in connection with the Transaction.
The second indicates the Exchange Value as it relates to the allocation of
Shares to the Cap Source II General Partners in connection with the Transaction.
The third table sets forth the Exchange Value assigned to Cap Source II, which
is composed of (a) the principal amount of GNMA Certificates and the FHA Loans
as set forth in the Partnership's audited financial statements for the period
ended December 31, 1997, (b) the value of the Partnership's limited partnership
interests in the Cap Source II Operating Partnerships based in part on the
Appraisals, and (c) the market value of the Partnership's remaining net assets
as set forth in the Partnership's audited financial statements for the period
ended December 31, 1997. The owners of the Cap Source II General Partners will
receive Shares in an amount equal to 1% of the Exchange Value assigned to Cap
Source II upon consummation of the Transaction in exchange for transferring the
assets of the General Partners to the Company pursuant to the Merger Agreement.
See "--Determination of Exchange Values" herein, and the tables entitled
"Calculation Of Exchange Values" and "Net Other Assets and Liabilities Table for
Partnerships" in the Prospectus/Consent Solicitation Statement. The fourth table
sets forth the specific components of net other assets and liabilities of Cap
Source II.
EXCHANGE VALUE(1)
FOR ALLOCATION OF SHARES TO CAP SOURCE II
AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
PER $1,000 ORIGINAL
INVESTMENT
PERCENT OF TOTAL ------------------------
TOTAL EXCHANGE TOTAL NUMBER SHARES EXCHANGE NUMBER OF
VALUE(2) OF SHARES(3) (EXCHANGE RATIO) VALUE SHARES(4)
- ---------------------- ------------- --------------------- ----------- -----------
<S> <C> <C> <C> <C>
$32,880,190 1,315,208 39.2% $ 406 16.23
</TABLE>
- ------------------------
(1) This Exchange Value Table assumes that no Notes will be issued.
(2) See the table entitled "Calculation Of Exchange Values" in the
Prospectus/Consent Solicitation Statement for a determination of the
Exchange Values for each of the Partnerships.
Cap Source II Supp-7
<PAGE>
(3) The total number of Shares to be allocated to Cap Source II was calculated
by dividing the Total Exchange Value assigned to the Partnership by $25.
(4) The number of Shares to be issued per $1,000 original investment was
calculated by dividing the Exchange Value per $1,000 original investment by
$25. No fractional Shares will be issued. Each Investor who would otherwise
be entitled to a fractional Share will instead receive a cash payment equal
to $25 multiplied by the fraction. See "THE TRANSACTION--No Fractional
Shares" in the Prospectus/Consent Solicitation Statement.
EXCHANGE VALUE(1)
FOR ALLOCATION OF SHARES TO CAP SOURCE II GENERAL PARTNERS
AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
TOTAL EXCHANGE TOTAL NUMBER PERCENT OF TOTAL SHARES
VALUE(2) OF SHARES(3) (EXCHANGE RATIO)
- ---------------------- ------------- -------------------------
<S> <C> <C>
$328,802 13,152 .4%
</TABLE>
- ------------------------
(1) This Exchange Value Table assumes that no Notes will be issued.
(2) See the table entitled "Calculation Of Exchange Values" in the
Prospectus/Consent Solicitation Statement for a determination of the
Exchange Values for each of the Partnerships.
(3) The total number of Shares to be allocated to the Cap Source II General
Partners was calculated by dividing the Total Exchange Value assigned to the
General Partners by $25.
CALCULATION OF EXCHANGE VALUE
OF CAP SOURCE II
AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
LIMITED
GNMA CERTIFICATES AND PARTNERSHIP NET OTHER ASSETS EXCHANGE
MORTGAGE LOANS(1) INTERESTS(2) AND LIABILITIES VALUE
- --------------------- ------------------ ---------------- -------------
<S> <C> <C> <C>
$27,162,646 $ 4,087,291 $ 1,630,253 $ 32,880,190
</TABLE>
- ------------------------
(1) GNMA Certificates and FHA Loans are included at their outstanding principal
balance as of December 31, 1997.
(2) Partnership Equity Interests are derived by using the arithmetic average of
the value of the properties as determined by the Appraisals, subtracting the
current principal balances of the mortgages then allocating the remaining
proceeds, if any, according to the limited partnership agreements.
NET OTHER ASSETS AND LIABILITIES TABLE
FOR CAP SOURCE II
AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
MISCELLANEOUS NET OTHER ASSETS
GNMA AND DISTRIBUTIONS
CASH(1) CERTIFICATES(2) LIABILITIES(3) PAYABLE TOTAL
- ------------ ------------- ---------------- ------------ ------------
<S> <C> <C> <C> <C>
$1,240,992 $ 1,050,718 $ (114,489) $ (546,968) $ 1,630,253
</TABLE>
- ------------------------
(1) Cash and cash equivalents.
(2) These assets are classified for reporting purposes as "available for sale"
and, as such, are reported at fair value.
(3) Generally, interest receivable less accounts payable.
Cap Source II Supp-8
<PAGE>
DETERMINATION OF EXCHANGE VALUES
GENERAL. Exchange Values, which were determined as of December 31, 1997,
have been assigned to each of the Partnerships solely to establish a consistent
method for allocating Shares and Notes to Investors. The Exchange Values were
initially determined by the General Partners and subsequently reviewed and
approved by the Special Committee. The Exchange Values are based on (i) the
principal amount of GNMA Certificates and the FHA Loans as set forth in the
Partnerships' audited financial statements for the period ended December 31,
1997, (ii) the value of the Partnerships' limited partnership interests in the
Operating Partnerships, and (iii) the market value of the Partnerships'
remaining net assets as set forth in the Partnerships' audited financial
statements for the period ended December 31, 1997.
To determine the value of each Partnership's limited partner interest in an
Operating Partnership, the General Partners started with the mean of the range
of values provided by Valuation Research in its Appraisal of the Operating
Partnership's Property. See "FAIRNESS OPINION AND APPRAISALS-- Appraisals" in
the Prospectus/Consent Solicitation Statement. The liabilities of the Operating
Partnership, including amounts required to pay off the insured mortgage on the
Property and amounts owed to the general partner of the Operating Partnership,
were then subtracted from the mean value. The net amount of other assets of the
Operating Partnership was added. The net value after these adjustments was then
apportioned among the general partner and limited partners of the Operating
Partnership according to the Operating Partnership limited partnership
agreement. In valuing the Operating Partnerships, the General Partners did not
take into account amounts that may be payable by certain Cap Source I Operating
Partnerships to affiliates of the Cap Source I General Partners that will be
waived if the Transaction is completed. See "BENEFITS OF, AND BACKGROUND AND
REASONS FOR, THE TRANSACTION--Reasons for, and Benefits of, the
Transaction--WAIVER BY AFFILIATES OF THE CAP SOURCE I GENERAL PARTNERS OF
AMOUNTS PAYABLE BY CERTAIN CAP SOURCE I OPERATING PARTNERSHIPS" in the
Prospectus/Consent Solicitation Statement.
The Exchange Value assigned to Cap Source II for purposes of the Transaction
is $32,880,190. The aggregate Exchange Value assigned to both Partnerships is
$83,872,160. Based on the assigned Exchange Values, Cap Source II will receive
1,315,208 Shares of Common Stock, or approximately 39.2% of the total 3,354,887
Shares of Common Stock issued in the Transaction, assuming that no Notes are
issued. See "EXCHANGE VALUES" in the Prospectus/Consent Solicitation Statement.
The Exchange Value of Cap Source II does not necessarily reflect the price at
which the assets of the Partnership may be sold, or the price at which Shares or
Notes may be sold after the Transaction.
VALUATION. The value of the Partnership Equity Interests is based in part
upon the Appraisals by Valuation Research. In its appraisal of the Partnership
Properties, Valuation Research considered the cost approach, the direct sales
comparison approach and the income approach to market value, and relied upon the
income approach as its primary appraisal technique, using the direct sales
comparison approach as a basis for checking the reasonableness of the results
obtained using the income approach. See "FAIRNESS OPINION AND
APPRAISALS--Appraisals" in the Prospectus/Consent Solicitation Statement.
CERTAIN TAX DIFFERENCES BETWEEN THE OWNERSHIP OF UNITS AND SHARES
Investors are treated as limited partners of the Partnerships for federal
income tax purposes. The Partnerships are not subject to federal income taxation
and, instead, each Investor is required to take into account his or her share of
income, deductions or loss of the Partnership in which he or she invested,
regardless of whether any cash is distributed. The character of income to each
Investor is dependent upon its character to the Partnership. Upon consummation
of the Transaction, the Investors will, in essence, receive Shares in exchange
for their Units and thereby become shareholders of the Company which is
characterized as a corporation for federal income tax purposes. See "FEDERAL
INCOME TAX CONSEQUENCES" in the Prospectus/Consent Solicitation Statement.
Cap Source II Supp-9
<PAGE>
In contrast to the tax treatment of the Partnerships, the Company is subject
to corporate income taxation. In addition, Shareholders will be taxed based on
the amount of distributions received from the Company. Each Shareholder will
receive a Form 1099-DIV reporting the amount of taxable and nontaxable
distributions paid to him or her during the preceding year. The extent to which
such distributions are taxable depends upon the amount of the Company's earnings
and profits. The character of distributions to the Shareholders is also not
dependant on its character to the Company and is generally characterized as
ordinary dividend income to the Shareholders. In addition, such income is
classified as portfolio income under the passive loss rules. Furthermore,
deductions and losses are not passed through to the Shareholders. See "FEDERAL
INCOME TAX CONSEQUENCES" in the Prospectus/Consent Solicitation Statement.
To the extent the Company issues Notes in connection with the Transaction,
the Partnerships will be required to recognize gain. In the event the maximum
amount of Notes are chosen, the resulting gain would be approximately
$26,000,000 for both Partnerships. The maximum potential gain for Cap Source I
is approximately $5.12 per Unit and the maximum potential gain for Cap Source II
is approximately $2.20 per Unit. To the extent such gain is allocable to
property which produces passive income, it may be used to offset suspended
passive activity losses. For a discussion of the material federal tax
consequences of the Transaction see "FEDERAL INCOME TAX CONSEQUENCES" in the
Prospectus/Consent Solicitation Statement.
FAIRNESS
GENERAL. There are no material differences with respect to the fairness of
the Transaction to the Partnerships, individually, or in the aggregate.
Therefore, the discussion of the fairness of the Transaction set forth below is
intended to summarize briefly the General Partners' belief as to fairness and
the material factors on which such belief is based. In their analysis, the
General Partners did not assign relative weights to these factors. For a more
detailed discussion of the fairness of the Transaction, see the sections
entitled "FAIRNESS" and "FAIRNESS OPINION AND APPRAISALS--Fairness Opinion" in
the Prospectus/ Consent Solicitation Statement.
GENERAL PARTNERS' BELIEF AS TO FAIRNESS. The General Partners, together
with the Special Committee, believe the terms of the Transaction are fair as a
whole, to the Partnerships and to the Investors in each of the Partnerships,
regardless of whether an Investor receives Shares or Notes.
BASIS FOR GENERAL PARTNERS' BELIEF AS TO FAIRNESS. The General Partners and
the Special Committee have based their determination as to the fairness of the
Transaction on the following material factors: (i) the process of arm's-length
negotiation of the terms and conditions of the Transaction and Advisory
Agreement, with the Special Committee acting on behalf of the Partnerships and
Investors; (ii) the opportunity for each Investor to object to the Transaction
and the requirement that the Transaction be approved by Investors holding a
majority in interest of each of the Partnerships' outstanding Units; (iii) the
form and amount of consideration offered to the Investors; (iv) the method of
allocating the Shares and Notes between the Partnerships in the Transaction; (v)
the Fairness Opinion rendered by Sutro & Co.; (vi) the independent Appraisals
prepared by Valuation Research, which were used in part in the determination of
the Exchange Values; (vii) the lack of material differences with respect to the
assets of the Partnerships and the consistent valuation methodology applied to
the assets; and (viii) the fact that all Investors, including Dissenting
Investors, will be given the opportunity to elect to receive Notes, subject to
certain limitations. For a complete discussion of these factors, see
"FAIRNESS--Material Factors Underlying Belief as to Fairness" in the
Prospectus/Consent Solicitation Statement.
The General Partners and the Special Committee also considered the potential
benefits of the Transaction compared to the alternatives in reaching their
conclusion as to the fairness of the Transaction. Such potential benefits
include, but are not limited to: (i) enhanced liquidity resulting from the
anticipated listing of the Shares on the NYSE and the Company's larger equity
market capitalization and growth
Cap Source II Supp-10
<PAGE>
strategy; (ii) the Company's potential for growth and enhanced access to
capital; (iii) a capital and operating structure that will allow the Company to
respond more efficiently to changing conditions in the U.S. equity markets,
thereby potentially reducing the adverse effects of such changes; and (iv)
simplified tax reporting requirements for Investors. See "BENEFITS OF, AND
BACKGROUND AND REASONS FOR, THE TRANSACTION" in the Prospectus/Consent
Solicitation Statement.
COMPENSATION, REIMBURSEMENTS AND DISTRIBUTIONS TO THE GENERAL PARTNERS
The following information has been prepared to compare the amounts of
compensation paid, and cash distributions made, by Cap Source II to its General
Partners and their affiliates to the amounts that would have been paid if the
compensation and distribution structure, which will be in effect after the
Transaction, had been in effect during the years presented.
Under Cap Source II's Partnership Agreement, the General Partners are
entitled to receive fees in connection with managing the affairs of the
Partnership. The Partnership Agreement also provides that the General Partners
are to be reimbursed for expenses for services performed for the Partnership,
such as legal, accounting, transfer agent, data processing and duplicating
services. In addition, the General Partners of Cap Source II have a 1% interest
in the Partnership.
During the years ended December 31, 1995, 1996 and 1997, amounts actually
paid by Cap Source II to its General Partners are shown below under "Historical"
and Cap Source II's share of the estimated amounts of compensation that would
have been paid to the Advisor had the Transaction been in effect for the years
presented are shown under "Pro Forma":
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
HISTORICAL:
1% share of Cash Distributions(1)............................................ $ 32,818 $ 32,818 $ 32,818
Asset Management and Partnership Administrative Fee(2)....................... 166,000 166,000 166,000
Reimbursements(3)............................................................ 128,754 165,424 211,845
---------- ---------- ----------
Total historical......................................................... $ 327,572 $ 364,242 $ 410,663
---------- ---------- ----------
---------- ---------- ----------
PRO FORMA:
Acquisition Fee(4)........................................................... $ 0 $ 0 $ 0
Asset Management Fee(5)...................................................... 176,763 174,276 171,882
Incentive Fee(6)............................................................. 0 0 0
---------- ---------- ----------
Total Pro Forma.......................................................... $ 176,763 $ 174,276 $ 171,882
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
- ------------------------
(1) The Partnership Agreement provides that 1% of cash available for
distribution will be allocated to the General Partners.
(2) The General Partners are entitled to receive an asset management and
partnership administrative fee equal to 0.5% of invested assets per annum,
the first $50,000 of which shall be paid each year with the balance payable
only during such years that a 6.5% annual return has been paid to investors
on a noncumulative basis. An additional fee of 0.5% of invested assets will
be paid in those years that an 11.5% annual return has been paid to
investors on a cumulative basis. Any unpaid amounts will accrue and be
payable only after an 11.5% annual return to investors has been paid on a
cumulative basis and the investors have received the return of their capital
contributions.
(3) The General Partners are paid or reimbursed for certain costs and expenses
incurred in connection with the operation of the Partnership. The increase
in historical reimbursements to the General Partners from 1995 to 1997 is
primarily the result of an increase in salaries and related expenses.
Cap Source II Supp-11
<PAGE>
Starting in 1996, additional management time was incurred in exploring
various options available to the Partnerships to improve total returns. The
pro forma compensation to the Advisor does not reflect this increase because
the Advisor's fees are based on asset values, not specific reimbursements.
For a description of the fee structure of the Advisor, see "MANAGEMENT OF
THE COMPANY--The Advisor--THE ADVISORY AGREEMENT" in the Prospectus/Consent
Solicitation Statement.
(4) No acquisition fees would have been paid because no new assets were
purchased or permitted to be purchased in the years 1995 to 1997.
(5) Calculated based on the Advisor fees described in more detail under "THE
COMPANY--The Advisor" in the Prospectus/Consent Solicitation Statement.
(6) No incentive fee would have been paid because no new assets were owned which
would have qualified for such a fee if sold.
For purposes of comparing pro forma compensation levels to historical
compensation levels of the General Partners, a pro forma model was developed of
the compensation and distribution structure that the General Partners expect
would have been in place had the Transaction been consummated.
The pro forma model was applied to the years ended December 31, 1995, 1996
and 1997 as shown in the "Pro Forma" table above. Cap Source II's allocation of
the total pro forma cash compensation to the General Partners is set forth
below, using December 31, 1997 amounts for illustrative purposes. The allocation
is based on the ratio that Cap Source II's assigned Exchange Value bears to the
aggregate Exchange Value for both Partnerships:
<TABLE>
<CAPTION>
1997
-------------
<S> <C>
Cap Source II's assigned Exchange Value........................................ $ 32,880,190
Aggregate Exchange Value of both Partnerships.................................. $ 83,872,160
Allocation Ratio............................................................... 39.2%
Aggregate pro forma compensation............................................... $ 433,014
Cap Source II's allocation of pro forma compensation........................... $ 171,882
</TABLE>
CASH DISTRIBUTIONS TO INVESTORS
The information below should be read in conjunction with the information in
the Prospectus/Consent Solicitation Statement under the captions "SECONDARY
MARKET AND OWNERSHIP OF PARTNERSHIP UNITS" and "SELECTED FINANCIAL DATA OF THE
PARTNERSHIPS."
The following table sets forth the distributions paid to Investors in Cap
Source II (per $1,000 original investment) for the periods indicated below:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 6 MONTHS ENDED
------------------------------------------------------ JUNE 30,
1993 1994 1995 1996 1997 1998(1)
---------- --------- --------- --------- --------- ---------------
<S> <C> <C> <C> <C> <C> <C>
Distributions from Income............... $ 28.117 $ 25.196 $ 27.089 $ 26.465 $ 20.618 $ 7.266
Distributions from Return of Capital.... 175.393 15.304 13.411 14.035 19.882 12.984
---------- --------- --------- --------- --------- -------
Total............................... $ 203.510 $ 40.500 $ 40.500 $ 40.500 $ 40.500 $ 20.25
---------- --------- --------- --------- --------- -------
---------- --------- --------- --------- --------- -------
</TABLE>
- ------------------------
(1) Cap Source II has been making a portion of its distributions to Investors
from reserves. As a result, Cap Source II's reserves have been substantially
decreased. Therefore, the General Partners have reduced the distribution
rate to $22.50 per $1,000 original investment on an annual basis, beginning
with the distribution for the month of August 1998, which distribution is
payable in October 1998.
Cap Source II Supp-12
<PAGE>
Cash from operations, defined in the Partnership Agreement as disbursable
cash, is distributed to the Investors. Any variation in the amount of
distributions from operations is due to fluctuations in net cash from operating
activities. Reference is made to "MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS" in the Financial Statement
Supplement to the Prospectus/Consent Solicitation Statement for a discussion and
analysis of such fluctuations. Cash proceeds from the sale of property may be
distributed separately to the Investors as a return of capital. The Adjusted
Capital Contribution of an Investor is generally the Investor's initial capital
contribution reduced by the cash distributions to the Investor of proceeds from
the sale of Partnership properties. The Adjusted Capital Contribution per Unit
for Investors in Cap Source II, as defined in its Partnership Agreement, was
$12.39 as of June 30, 1998, based on an initial capital contribution of $20 per
unit.
See the information in the Prospectus/Consent Solicitation Statement under
"SELECTED FINANCIAL DATA OF THE PARTNERSHIPS" for more detailed financial
information with respect to the Partnerships and the effects of the Transaction.
Cap Source II Supp-13
<PAGE>
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
SUPPLEMENT DATED , 1998
TO
PROSPECTUS/CONSENT SOLICITATION STATEMENT
DATED , 1998
FOR
CAPITAL SOURCE L.P.
On the terms described in the Prospectus/Consent Solicitation Statement
dated , 1998, of which this Supplement (the "Supplement") is a part,
Insured Mortgage Equities, Inc. and America First Capital Source I, L.L.C.
(together, the "Cap Source I General Partners") and Insured Mortgage Equities II
L.P. and America First Capital Source II, L.L.C. (together, the "Cap Source II
General Partners," and together with the Cap Source I General Partners, the
"General Partners") are proposing the consolidation by merger (the
"Transaction") of Capital Source L.P., a Delaware limited partnership ("Cap
Source I" or the "Partnership"), Capital Source II L.P.-A, a Delaware limited
partnership ("Cap Source II," and together with Cap Source I, the
"Partnerships") and the General Partners, with and into America First Real
Estate Investment Company, Inc., a newly organized Delaware corporation (the
"Company"). The Partnerships are Delaware limited partnerships formed from 1985
through 1986 to invest principally in federally-insured mortgages on multifamily
housing properties and to acquire, hold, sell, dispose of and otherwise deal
with limited partnership interests ("Partnership Equity Interests") in the
limited partnerships (the "Operating Partnerships") which construct, own and
operate these properties. Upon completion of the Transaction, the Company's
primary business objective will be to provide Investors who receive Shares
("Shareholders") with long term after-tax returns that are greater than those
available from real estate investment trusts ("REITs") and other similar
publicly traded real estate companies. The Company expects to achieve this
objective by investing in assets and using investment and management strategies
not generally permitted to or used by REITs. Such strategies may include
investing in real estate operating companies, in underperforming real estate
assets such as office buildings and apartment complexes with the objective of
renovating and repositioning them to increase values, and in underperforming
markets and foreign markets that the Company expects will show significant
improvement. See "THE COMPANY" in the Prospectus/Consent Solicitation Statement.
Upon completion of the Transaction, the Partnerships and the General
Partners will be merged with and into the Company. Cap Source I Investors,
together with Cap Source II Investors (collectively, the "Investors"), will
receive, at their election, either shares of the Common Stock of the Company
(the "Common Stock" or the "Shares") or Variable Rate Junior Notes Callable on
or After the Date of Issuance (the "Notes") of the Company, together with
promissory notes (the "Promissory Notes") to each Investor entitled to a
fractional interest in the Notes. See "DESCRIPTION OF CAPITAL STOCK" and "THE
NOTES" in the Prospectus/Consent Solicitation Statement. The Common Stock will
be listed on the New York Stock Exchange under the symbol "AFE," subject to
official notice of issuance. The Transaction will not occur unless it is
approved by both Partnerships and Investors who vote against the Transaction
("Dissenting Investors") do not elect to receive more than the maximum amount of
Notes issuable in connection with the Transaction. The maximum amount of Notes
that may be issued in the Transaction is $40.0 million.
This Supplement has been prepared for the Cap Source I Investors to discuss
the effects and fairness of the Transaction with respect to their beneficial
assignment certificates of the Partnership (the "Units"), and to provide
information on the Partnership. The effects of the Transaction may be different
for Cap Source I Investors than for Cap Source II Investors. A supplement has
also been prepared for Cap Source II Investors. The Supplements are a part of
the Prospectus/Consent Solicitation Statement. Capitalized terms not defined
herein shall have the meaning set forth in the accompanying Prospectus/Consent
Solicitation Statement.
Copies of any Supplement may be obtained without charge by an Investor or
representative so designated in writing, by giving written notice to the General
Partners of the Investor's respective
<PAGE>
Partnership. All requests should be directed to America First Investor Services
Department, 1004 Farnam Street, Suite 400, Omaha, Nebraska 68102.
THIS TRANSACTION INVOLVES MATERIAL RISKS THAT SHOULD BE CONSIDERED BY THE
INVESTORS. SEE "RISK FACTORS" BEGINNING ON PAGE 22 OF THE PROSPECTUS/CONSENT
SOLICITATION STATEMENT. IN PARTICULAR, INVESTORS SHOULD CONSIDER THE FOLLOWING:
- The Common Stock may trade at prices substantially below the estimated
liquidation value of the Company's assets and the $25 per Share price
arbitrarily determined for the sole purpose of allocating the Shares in the
Transaction. A public market for the Notes is not expected to develop. If
the Notes are sold, they may sell at prices substantially below their
issuance price.
- The general partners of the Partnerships (the "General Partners") initiated
and participated in the structuring of the Transaction and have certain
conflicts of interest with respect to its completion. In particular, the
owners of the General Partners will receive an aggregate of 33,549 Shares,
which could have an approximate value of $838,725 based on an assumed value
of $25 per Share. In addition, the Company's advisor (the "Advisor"), a
subsidiary of the entity that controls the General Partners, will be
entitled to receive management fees from the Company following the
Transaction.
- The Transaction involves a fundamental change in the nature of the
Investors' investment. If the Transaction is completed, Investors will not
receive a return on their investment in the form of liquidation proceeds
through sales of Partnership assets. Instead, Investors who receive Shares
("Shareholders") will be able to liquidate their investments only by selling
their Shares on the NYSE or in private transactions. An Investor's share of
liquidation proceeds could be higher than the amount realized from the sale
of the Company's Shares or payments on the Notes.
- There can be no guarantee with respect to the level of the Company's future
cash dividends, and regardless of the initial level of such dividends, they
could decline so that some Shareholders would receive lower distributions
than they received from the Partnership prior to the Transaction.
- The Company is newly organized and has no operating history.
- The investment strategy and operating policies of the Company will be
materially different from those of the Partnerships and may be modified or
altered by the Board of Directors of the Company without the consent of the
Shareholders.
- Dissenting Investors are not entitled to any appraisal or other dissenters'
rights under Delaware law and none will be offered in the Transaction.
- There are alternatives to the Transaction. By approving the Transaction,
Investors will effectively preclude the pursuit of certain alternatives.
- The external management structure of the Company creates certain conflicts
of interest. In particular, the Advisor may also manage other entities with
similar investment objectives to those of the Company.
- To the extent Notes are issued, the Partnerships will be required to
recognize taxable gain which would be allocated to all Investors in
proportion to their ownership of Units.
- The Company intends to use debt financing to increase its real estate asset
portfolio. An increase in debt may increase the possibility of default on
the Company's obligations, which could adversely affect the Company's
earnings and its ability to pay expected dividends to Shareholders.
- Approval of a majority in interest of the Investors in a Partnership with
respect to the Transaction will bind all Investors in that Partnership,
including Dissenting Investors and Investors who abstained from voting with
respect to the Transaction.
- Investors who receive Notes ("Noteholders") will not hold an equity interest
in the Company and therefore will not be able to participate in the
Company's growth or benefit from any increases in the
Cap Source I Supp-2
<PAGE>
value of the Shares. The Notes will be unsecured obligations of the Company
and may be redeemed prior to maturity at the Company's option.
SIMILARITIES BETWEEN CAP SOURCE I AND CAP SOURCE II
The investment objectives and the assets held by the Partnerships are
substantially similar in nature and character. Based on the Exchange Values
determined as of December 31, 1997, Cap Source I's assets consisted of 70.8% in
GNMA Certificates and FHA Loans, 19.0% in cash, cash equivalents and net other
assets and liabilities, and the remaining 10.2% in the Partnership Equity
Interests in the Cap Source I Operating Partnerships. As of December 31, 1997,
Cap Source II's assets consisted of 85.8% in GNMA Certificates and FHA Loans,
1.8% in cash, cash equivalents and net other assets and liabilities, and the
remaining 12.4% in the Partnership Equity Interests in the Cap Source II
Operating Partnerships.
Although there are differences in the geographic area, style of construction
and specific locations for each property owned by the Operating Partnerships,
there are no significant differences in occupancy rates or property types. All
of the properties owned by the Operating Partnerships are multifamily apartment
complexes. In addition, the Operating Partnership interests in the Ponds at
Georgetown Limited Partnership ("The Ponds") are owned by Cap Source I and Cap
Source II.
DIFFERENCES BETWEEN CAP SOURCE I AND CAP SOURCE II
Except for The Ponds, each Partnership Equity Interest is unique to the
Partnership that holds the interest. The style of construction, specific
location and geographic areas for each property owned by the Operating
Partnerships are different. Cap Source I has Partnership Equity Interests in
three Operating Partnerships that have a general partner that is an affiliate of
Cap Source I, which include Waterman's Crossing, Fox Hollow and Misty Springs.
The remaining Cap Source I Operating Partnerships have general partners that are
not affiliated with Cap Source I. All of the Cap Source II Operating
Partnerships have general partners that are not affiliated with Cap Source II.
See "THE PARTNERSHIPS" in the Prospectus/Consent Solicitation Statement.
Although both Partnerships hold a majority of their assets in liquid
investments, the amount of cash and cash equivalents held by each Partnership is
different. Cash, cash equivalents and net other assets and liabilities make up
19% of Cap Source I's assets, whereas only 1.8% of Cap Source II's assets are in
cash, cash equivalents and net other assets and liabilities.
Distributions for both Partnerships are based upon the adjusted Unit value,
which is $20.00 per Unit of original investment, adjusted for returns of capital
to Investors. The adjusted Unit value for Cap Source I is $18.35. The adjusted
Unit value for Cap Source II is $12.39.
In 1997, Cap Source I made distributions at the rate of 5.5% of its adjusted
Unit value, which equaled $1.01 per Unit for the year. Cap Source I made
distributions at an annual rate of 5.5% of its adjusted Unit value, which
equaled $.5050 per Unit for the first two quarters of 1998. Cap Source II made
distributions at the rate of 6.5% of its adjusted Unit value, which equaled $.81
per Unit for 1997, $.293 of which was made from reserves. Cap Source II made
distributions at an annual rate of 6.5% of its adjusted Unit value, which
equaled $.4050 per Unit for the first two quarters of 1998, $.2128 of which was
made from reserves. Cap Source II's reserves have been substantially decreased
since Cap Source II has been making part of its distributions from reserves.
Therefore, the Cap Source II General Partners have reduced the Cap Source II
monthly distribution rate to $.45 per Unit on an annual basis, beginning with
the distribution for the month of August 1998, which distribution is payable in
October 1998. See "SECONDARY MARKET AND OWNERSHIP OF PARTNERSHIP
UNITS--Partnership Distributions" in the Prospectus/Consent Solicitation
Statement.
The Partnerships have different fee structures for compensating the General
Partners. The Cap Source I General Partners are entitled to receive an asset
management and partnership administrative fee equal to 0.5% of invested assets
per annum, payable only during such years that an 8% return has been
Cap Source I Supp-3
<PAGE>
paid to Investors on a noncumulative basis. Any unpaid amounts will accrue and
be payable only after a 13% annual return to Cap Source I Investors has been
paid on a cumulative basis and such Investors have received the return of their
capital contributions.
The Cap Source II General Partners are entitled to receive an asset
management and partnership administrative fee equal to 0.5% of invested assets
per annum, the first $50,000 of which is paid each year with the balance payable
only during such years that a 6.5% annual return has been paid to Cap Source II
Investors on a noncumulative basis. An additional fee of 0.5% of invested assets
will be paid in years that an 11.5% annual return has been paid to Cap Source II
Investors on a cumulative basis. Any unpaid amounts will accrue and be payable
only after an 11.5% annual return to investors has been paid on a cumulative
basis and the investors have received the return of their capital contributions.
The General Partners of both Partnerships also receive 1% of the net
proceeds from any sale of Partnership assets. The General Partners of both
Partnerships will receive a termination fee equal to 3% of all sales proceeds
less actual costs incurred in connection with all sales transactions, payable
only after the Investors have received a return of their capital contributions
and a 13% annual return on a cumulative basis with respect to Cap Source I or an
11.5% annual return on a cumulative basis with respect to Cap Source II. The
General Partners of both Partnerships will also receive a fee equal to 9.1% of
all cash available for distribution and sales proceeds (after deducting from
cash available or sales proceeds any termination fee paid therefrom) after
Investors have received a return of their capital contributions and a 13% annual
return on a cumulative basis with respect to Cap Source I or an 11.5% annual
return on a cumulative basis with respect to Cap Source II. However, the
difference in this latter fee is not a material difference since neither
Partnership has achieved such a target level since their inception, and the
General Partners do not anticipate that such a level will be reached in the
foreseeable future.
RISK FACTORS
The Transaction does not involve risks which are more significant to Cap
Source I Investors than to Cap Source II Investors. However, the Transaction
involves certain risks and other adverse factors which are applicable to both
Partnerships, as discussed in detail in the accompanying Prospectus/Consent
Solicitation Statement, of which this Supplement is a part. See "RISK FACTORS"
in the Prospectus/ Consent Solicitation Statement. Because all of the risks and
adverse factors described in the Prospectus/ Consent Solicitation Statement
apply to the effect of the Transaction on both Partnerships, Cap Source I
Investors should carefully review the section entitled "RISK FACTORS" therein.
Except as otherwise stated herein, there are no material differences in the
manner in which Cap Source I or Cap Source II will be effected by any of the
risks or adverse factors discussed in such "RISK FACTORS" section.
For most Investors, the Transaction will not result in a taxable transaction
except to the extent Notes are received in the Transaction. For a more detailed
discussion of the tax consequences of the transaction see "Certain Tax
Differences Between the Ownership of Units and Shares" herein and "FEDERAL
INCOME TAX CONSEQUENCES" in the Prospectus/Consent Solicitation Statement.
By participating in the Transaction, Investors in Cap Source I will assume
risks associated with the assets of Cap Source II. Although the majority of the
assets in Cap Source II are substantially similar to those of Cap Source I, the
multifamily apartment complexes in which Cap Source II owns limited partnership
interests are of different construction, geographic area and specific location
than the complexes in which Cap Source I owns interests. Because the market for
real estate may vary from one region of the country to another, the change in
geographic diversity may expose Cap Source I Investors to different and greater
risks than those to which they are presently exposed. For geographic information
regarding the Partnerships' properties, see "THE PARTNERSHIPS" in the
Prospectus/Consent Solicitation Statement. Moreover, because the properties
owned by the Partnerships are not of uniform quality, combining assets and
liabilities of the Partnerships in the Transaction may diminish the overall
asset quality underlying the investments of certain of the Investors by
comparison with their existing Partnership investment.
Cap Source I Supp-4
<PAGE>
The following is a brief description of the potential disadvantages, adverse
consequences and risks of the Transaction that is applicable to both
Partnerships. This description is qualified in its entirety by the more detailed
discussion in the section entitled "RISK FACTORS" contained in the
Prospectus/Consent Solicitation Statement.
- There is substantial uncertainty as to the prices at which the Common
Stock will trade after the Transaction. The price of the Shares may
decrease after the Transaction due to the potentially large number of
Shares that may be sold immediately by Shareholders. Thus, the Common
Stock may trade at prices substantially below the estimated liquidation
value of the Company's assets and the $25 per Share price arbitrarily
determined for the sole purpose of allocating the Shares in the
Transaction.
- A public market for the Notes is not expected to develop. If the Notes are
sold, they may sell at prices substantially below their issuance price.
Investors who receive Notes ("Noteholders") are likely to receive the full
face amount of the Notes only if they hold the Notes to maturity, which is
approximately eight years after the Transaction, or if the Company repays
or refinances the Notes at or prior to maturity.
- The General Partners initiated and participated in the structuring of the
Transaction and have certain conflicts of interests with respect to its
completion. The owners of the General Partners will receive certain
economic benefits as a result of the Transaction, including an aggregate
of 33,549 shares, which could have an approximate value of $838,725 based
on an assumed value of $25 per Share. In addition, the Company's advisor
(the "Advisor"), a subsidiary of American First Companies L.L.C. ("America
First Companies"), which controls the General Partners, will be entitled
to receive management fees from the Company following the Transaction. See
"THE TRANSACTION--Conflicts of Interest and Benefits to Insiders" and
"MANAGEMENT OF THE COMPANY--The Advisor."
- The Transaction involves a fundamental change in the nature of the
Investors' investment from an investment in a finite-life entity in which
Investors will receive a distribution upon liquidation based on the net
proceeds from the sale of the entity's assets, to an investment in an
infinite-life entity in which Shareholders will be able to liquidate their
investments only by selling their Shares on the NYSE or in private
transactions. Retaining the finite life feature of the Partnerships would
allow Investors eventually to receive liquidation proceeds from the
disposition of the Partnership assets, and an Investor's share of these
proceeds could be higher than the amount realized from the sale of the
Company's Shares or payments on the Notes.
- There can be no guarantee with respect to the level of the Company's
future dividends, and regardless of the initial level of such dividends,
they could decline in the future so that some Shareholders would receive
dividends that are lower than the distributions they received as Investors
prior to the Transaction. The Company may also reinvest cash generated by
the sale of existing assets or from operations to acquire additional
assets, potentially causing cash dividends to be lower than the
distributions made by the Partnerships in certain cases.
- The Company has only recently been organized and has no operating history.
As a result, there can be no assurance that any of the Company's planned
future activities will be successful.
- There is a material difference between the investment strategies and
operating policies of the Partnerships and those of the Company. The
Company's investment objectives will be to identify and pursue
growth-oriented real estate investments, which will create a greater
degree of risk for Investors than the investments of the Partnerships. The
Company's investment strategies and operating policies are determined by,
and may be modified or altered by, the Board of Directors of the Company
(the "Board of Directors") without the consent of the Shareholders.
- Dissenting Investors are not entitled to receive cash based on an
appraisal of their Units or other dissenters' rights under Delaware law,
and no such rights will be afforded by the Partnerships.
Cap Source I Supp-5
<PAGE>
Dissenting Investors will only have the right to exchange their Units for
Notes if they so elect, subject to certain limitations. See "THE NOTES."
- There are alternatives to the Transaction. By approving the Transaction,
Investors will effectively preclude the pursuit of certain alternatives.
See "BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE
TRANSACTION--Alternatives Considered."
- The external management structure of the Company creates certain conflicts
of interest. In particular, the Company's advisor may also manage other
entities with similar investments, objectives and goals, and may be
required to resolve conflicts between the entities it manages from time to
time.
- To the extent Notes are issued, the Partnerships will be required to
recognize gain and include such gain in income. Each Investor, regardless
of whether such Investor chooses Shares or Notes, would be allocated a
portion of such gain based on his ownership of Units. The amount of such
gain could be material if the maximum amount of Notes is chosen.
- The Company intends to use debt financing to increase its real estate
asset portfolio. Although the Notes will be issued under an indenture (the
"Indenture") which creates certain debt limitations, the Company's
organizational documents do not limit the amount of debt the Company may
incur. The Company may therefore be more leveraged than either of the
Partnerships. The Company's use of debt financing may increase the
possibility of default on the Company's obligations, which could adversely
affect the Company's earnings and its ability to pay expected dividends to
Shareholders.
- Approval of the Transaction by Investors holding a majority of outstanding
Units of a Partnership may cause the Partnership to be merged with and
into the Company, and such approval will bind all Investors in such
Partnership, including Dissenting Investors and Investors who abstained
from voting with respect to the Transaction.
- The Notes, which will be prepayable at any time, are unsecured obligations
of the Company and, as a practical matter, will be junior to all other
debt of the Company. The Notes will bear interest at a variable rate that
may be lower than rates on other variable rate debt instruments that may
be perceived as having comparable or lower risks than the Notes.
Noteholders will not hold an equity interest in the Company and therefore
will not be able to participate in the Company's growth or benefit from
any increases in the value of the Shares.
- The Company may be liable for unknown, undisclosed or contingent
liabilities of the Partnerships, which could adversely affect the
liquidity of the Company and its ability to pay expected dividends to
Shareholders.
- If Dissenting Investors elect to receive Notes in excess of the Maximum
Note Limitation, the Transaction will not be consummated. If this does not
occur, but the total amount of Notes allocable to all Investors who elect
to receive Notes exceeds the Maximum Note Limitation, Notes will be
allocated first to Dissenting Investors who elected to receive Notes and
then, on a pro rata basis, to Investors who abstained from voting or who
voted "YES" in favor of the Transaction ("Consenting Investors"). Thus, an
Investor could choose Notes but receive Shares instead. To be assured of
receiving Notes, an Investor must vote "NO" with respect to the
Transaction and elect to receive Notes.
For a more detailed discussion of the risks associated with the Transaction,
see "RISK FACTORS" in the Prospectus/Consent Solicitation Statement.
EFFECTIVE ON FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Upon completion of the Transaction, the operations and existence of the
Partnerships will cease. See "THE TRANSACTION" in the Prospectus/Consent
Solicitation Statement. If the Transaction is not consummated, the General
Partners do not contemplate liquidation of the Partnerships, which would
Cap Source I Supp-6
<PAGE>
result in an all-cash payment to Investors, in the near future. The Transaction,
however, does not result in an all-cash payment to Investors in liquidation of
their investment. For example, Investors who become Noteholders will have
exchanged their Units for unsecured debt obligations of the Company which may
not be retired in full until , 2006, a date approximately seven years
after the Effective Date. On the other hand, Investors who exchange their Units
for Shares will receive an equity interest in the Company whose marketability
will depend upon the aftermarket that may develop with respect to the Shares.
If the Transaction is approved, all Transaction Costs will be paid by the
Partnerships and the Company. If the Transaction is rejected, the General
Partners of each Partnership will bear a percentage of all Transaction Costs,
excluding solicitation/communication costs, equal to the total number of
abstentions and "NO" votes cast by Investors in that Partnership with respect to
the Transaction, divided by the total number of abstentions and votes cast by
Investors in that Partnership. In such event, the Partnerships will bear the
remaining Transaction Costs. For a more detailed discussion of the Transaction
Costs see "THE TRANSACTION--Transaction Expenses" in the Prospectus/Consent
Solicitation Statement.
EXCHANGE VALUE TABLES
The first table set forth below indicates the Exchange Value as it relates
to the allocation of Shares to Cap Source I in connection with the Transaction.
The second indicates the Exchange Value as it relates to the allocation of
Shares to the Cap Source I General Partners in connection with the Transaction.
The third table sets forth the Exchange Value assigned to Cap Source I, which is
composed of (a) the principal amount of GNMA Certificates and the FHA Loans as
set forth in the Partnership's audited financial statements for the period ended
December 31, 1997, (b) the value of the Partnership's limited partnership
interests in the Cap Source I Operating Partnerships based in part on the
Appraisals, and (c) the market value of the Partnership's remaining net assets
as set forth in the Partnership's audited financial statements for the period
ended December 31, 1997. The owners of the Cap Source I General Partners will
receive Shares in an amount equal to 1% of the Exchange Value assigned to Cap
Source I upon consummation of the Transaction in exchange for transferring the
assets of the General Partners to the Company pursuant to the Merger Agreement.
See "--Determination of Exchange Values" herein, and the tables entitled
"Calculation Of Exchange Values" and "Net Other Assets and Liabilities Table for
Partnerships" in the Prospectus/Consent Solicitation Statement. The fourth table
sets forth the specific components of net other assets and liabilities of Cap
Source I.
EXCHANGE VALUE(1)
FOR ALLOCATION OF SHARES TO CAP SOURCE I
AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
PER $1,000 ORIGINAL
INVESTMENT
------------------------
TOTAL EXCHANGE TOTAL NUMBER PERCENT OF TOTAL SHARES EXCHANGE NUMBER OF
VALUE(2) OF SHARES(3) (EXCHANGE RATIO) VALUE SHARES(4)
- -------------- ------------- ------------------------- ----------- -----------
<S> <C> <C> <C> <C>
$ 50,991,970 2,039,679 60.8% $ 748 29.92
</TABLE>
- ------------------------
(1) This Exchange Value Table assumes that no Notes will be issued.
(2) See the table entitled "Calculation Of Exchange Values" in the
Prospectus/Consent Solicitation Statement for a determination of the
Exchange Values for each of the Partnerships.
(3) The total number of Shares to be allocated to Cap Source I was calculated by
dividing the Total Exchange Value assigned to the Partnership by $25.
(4) The number of Shares to be issued per $1,000 original investment was
calculated by dividing the Exchange Value per $1,000 original investment by
$25. No fractional Shares will be issued. Each Investor who would otherwise
be entitled to a fractional Share will instead receive a cash payment
Cap Source I Supp-7
<PAGE>
equal to $25 multiplied by the fraction. See "THE TRANSACTION--No Fractional
Shares" in the Prospectus/Consent Solicitation Statement.
EXCHANGE VALUE(1)
FOR ALLOCATION OF SHARES TO CAP SOURCE I GENERAL PARTNERS
AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
TOTAL EXCHANGE TOTAL NUMBER PERCENT OF TOTAL SHARES
VALUE(2) OF SHARES(3) (EXCHANGE RATIO)
- -------------- ------------- ---------------------------
<S> <C> <C>
$ 509,920 20,397 .6%
</TABLE>
- ------------------------
(1) This Exchange Value Table assumes that no Notes will be issued.
(2) See the table entitled "Calculation Of Exchange Values" in the
Prospectus/Consent Solicitation Statement for a determination of the
Exchange Values for each of the Partnerships.
(3) The total number of Shares to be allocated to the Cap Source I General
Partners was calculated by dividing the Total Exchange Value assigned to the
General Partners by $25.
CALCULATION OF EXCHANGE VALUE
OF CAP SOURCE I
AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
LIMITED
GNMA CERTIFICATES AND PARTNERSHIP NET OTHER ASSETS EXCHANGE
MORTGAGE LOANS(1) INTERESTS(2) AND LIABILITIES VALUE
- --------------------- ------------------ ---------------- -------------
<S> <C> <C> <C>
$ 35,010,658 $ 5,225,467 $ 10,755,845 $ 50,991,970
</TABLE>
- ------------------------
(1) GNMA Certificates and FHA Loans are included at their outstanding principal
balance as of December 31, 1997.
(2) Partnership Equity Interests are derived by using the arithmetic average of
the value of the properties as determined by the Appraisals, subtracting the
current principal balances of the mortgages then allocating the remaining
proceeds, if any, according to the limited partnership agreements.
NET OTHER ASSETS AND LIABILITIES TABLE
FOR CAP SOURCE I
AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
MISCELLANEOUS NET OTHER ASSETS
GNMA AND DISTRIBUTIONS
CASH(1) CERTIFICATES(2) LIABILITIES(3) PAYABLE TOTAL
- ------------- ------------- ---------------- ------------ -------------
<S> <C> <C> <C> <C>
$ 10,410,564 $ 1,088,526 $ 117,342 $ (860,587) $ 10,755,845
</TABLE>
- ------------------------
(1) Cash and cash equivalents.
(2) These assets are classified for reporting purposes as "available for sale"
and, as such, are reported at fair value.
(3) Generally, interest receivable less accounts payable.
DETERMINATION OF EXCHANGE VALUES
GENERAL. Exchange Values, which were determined as of December 31, 1997,
have been assigned to each of the Partnerships solely to establish a consistent
method for allocating Shares and Notes to Investors. The Exchange Values were
initially determined by the General Partners and subsequently reviewed and
approved by the Special Committee. The Exchange Values are based on (i) the
principal amount of GNMA Certificates and the FHA Loans as set forth in the
Partnerships' audited financial statements for the period ended December 31,
1997, (ii) the value of the Partnerships' limited partnership
Cap Source I Supp-8
<PAGE>
interests in the Operating Partnerships, and (iii) the market value of the
Partnerships' remaining net assets as set forth in the Partnerships' audited
financial statements for the period ended December 31, 1997.
The Exchange Value assigned to Cap Source I for purposes of the Transaction
is $50,991,970. The aggregate Exchange Value assigned to both Partnerships is
$83,872,160. Based on the assigned Exchange Values, Cap Source I will receive
2,039,679 Shares of Common Stock, or approximately 60.8% of the total 3,354,887
Shares of Common Stock issued in the Transaction, assuming that no Notes are
issued. See "EXCHANGE VALUES" in the Prospectus/Consent Solicitation Statement.
The Exchange Value of Cap Source I does not necessarily reflect the price at
which the assets of the Partnership may be sold, or the price at which Shares or
Notes may be sold after the Transaction.
To determine the value of each Partnership's limited partner interest in an
Operating Partnership, the General Partners started with the mean of the range
of values provided by Valuation Research in its Appraisal of the Operating
Partnership's Property. See "FAIRNESS OPINION AND APPRAISALS-- Appraisals" in
the Prospectus/Consent Solicitation Statement. The liabilities of the Operating
Partnership, including amounts required to pay off the insured mortgage on the
Property and amounts owed to the general partner of the Operating Partnership,
were then subtracted from the mean value. The net amount of other assets of the
Operating Partnership was added. The net value after these adjustments was then
apportioned among the general partner and limited partners of the Operating
Partnership according to the Operating Partnership limited partnership
agreement. In valuing the Operating Partnerships, the General Partners did not
take into account amounts that may be payable by certain Cap Source I Operating
Partnerships to affiliates of the Cap Source I General Partners that will be
waived if the Transaction is completed. See "BENEFITS OF, AND BACKGROUND AND
REASONS FOR, THE TRANSACTION--Reasons for, and Benefits of, the
Transaction--WAIVER BY AFFILIATES OF THE CAP SOURCE I GENERAL PARTNERS OF
AMOUNTS PAYABLE BY CERTAIN CAP SOURCE I OPERATING PARTNERSHIPS" in the
Prospectus/Consent Solicitation Statement.
VALUATION. The value of the Partnership Equity Interests is based in part
upon the Appraisals by Valuation Research. In its appraisal of the Partnership
Properties, Valuation Research considered the cost approach, the direct sales
comparison approach and the income approach to market value, and relied upon the
income approach as its primary appraisal technique, using the direct sales
comparison approach as a basis for checking the reasonableness of the results
obtained using the income approach. See "FAIRNESS OPINION AND
APPRAISALS--Appraisals" in the Prospectus/Consent Solicitation Statement.
CERTAIN TAX DIFFERENCES BETWEEN THE OWNERSHIP OF UNITS AND SHARES
Investors are treated as limited partners of the Partnerships for federal
income tax purposes. The Partnerships are not subject to federal income taxation
and, instead, each Investor is required to take into account his or her share of
income, deductions or loss of the Partnership in which he or she invested,
regardless of whether any cash is distributed. The character of income to each
Investor is dependent upon its character to the Partnership. Upon consummation
of the Transaction, the Investors will, in essence, receive Shares in exchange
for their Units and thereby become shareholders of the Company which is
characterized as a corporation for federal income tax purposes. See "FEDERAL
INCOME TAX CONSEQUENCES" in the Prospectus/Consent Solicitation Statement.
In contrast to the tax treatment of the Partnerships, the Company is subject
to corporate income taxation. In addition, Shareholders will be taxed based on
the amount of distributions received from the Company. Each Shareholder will
receive a Form 1099-DIV reporting the amount of taxable and nontaxable
distributions paid to him or her during the preceding year. The extent to which
such distributions are taxable depends upon the amount of the Company's earnings
and profits. The character of distributions to the Shareholders is also not
dependant on its character to the Company and is generally characterized as
ordinary dividend income to the Shareholders. In addition, such income is
classified as portfolio income
Cap Source I Supp-9
<PAGE>
under the passive loss rules. Furthermore, deductions and losses are not passed
through to the Shareholders. See "FEDERAL INCOME TAX CONSEQUENCES" in the
Prospectus/Consent Solicitation Statement.
To the extent the Company issues Notes in connection with the Transaction,
the Partnerships will be required to recognize gain. In the event the maximum
amount of Notes are chosen, the resulting gain would be approximately
$26,000,000 for both Partnerships. The maximum potential gain for Cap Source I
is approximately $5.12 per Unit and the maximum potential gain for Cap Source II
is approximately $2.20 per Unit. To the extent such gain is allocable to
property which produces passive income, it may be used to offset suspended
passive activity losses. For a discussion of the material federal tax
consequences of the Transaction see "FEDERAL INCOME TAX CONSEQUENCES" in the
Prospectus/Consent Solicitation Statement.
FAIRNESS
GENERAL. There are no material differences with respect to the fairness of
the Transaction to the Partnerships, individually, or in the aggregate.
Therefore, the discussion of the fairness of the Transaction set forth below is
intended to summarize briefly the General Partners' belief as to fairness and
the material factors on which such belief is based. In their analysis, the
General Partners did not assign relative weights to these factors. For a more
detailed discussion of the fairness of the Transaction, see the sections
entitled "FAIRNESS" and "FAIRNESS OPINION AND APPRAISALS--Fairness Opinion" in
the Prospectus/ Consent Solicitation Statement.
GENERAL PARTNERS' BELIEF AS TO FAIRNESS. The General Partners, together
with the Special Committee, believe the terms of the Transaction are fair as a
whole, to the Partnerships and to the Investors in each of the Partnerships,
regardless of whether an Investor receives Shares or Notes.
BASIS FOR GENERAL PARTNERS' BELIEF AS TO FAIRNESS. The General Partners and
the Special Committee have based their determination as to the fairness of the
Transaction on the following material factors: (i) the process of arm's-length
negotiation of the terms and conditions of the Transaction and Advisory
Agreement, with the Special Committee acting on behalf of the Partnerships and
Investors; (ii) the opportunity for each Investor to object to the Transaction
and the requirement that the Transaction be approved by Investors holding a
majority in interest of each of the Partnerships' outstanding Units; (iii) the
form and amount of consideration offered to the Investors; (iv) the method of
allocating the Shares and Notes between the Partnerships in the Transaction; (v)
the Fairness Opinion rendered by Sutro & Co.; (vi) the independent Appraisals
prepared by Valuation Research, which were used in part in the determination of
the Exchange Values; (vii) the lack of material differences with respect to the
assets of the Partnerships and the consistent valuation methodology applied to
the assets; and (viii) the fact that all Investors, including Dissenting
Investors, will be given the opportunity to elect to receive Notes, subject to
certain limitations. For a complete discussion of these factors, see
"FAIRNESS--Material Factors Underlying Belief as to Fairness" in the
Prospectus/Consent Solicitation Statement.
The General Partners and the Special Committee also considered the potential
benefits of the Transaction compared to the alternatives in reaching their
conclusion as to the fairness of the Transaction. Such potential benefits
include, but are not limited to: (i) enhanced liquidity resulting from the
anticipated listing of the Shares on the NYSE and the Company's larger equity
market capitalization and growth strategy; (ii) the Company's potential for
growth and enhanced access to capital; (iii) a capital and operating structure
that will allow the Company to respond more efficiently to changing conditions
in the U.S. equity markets, thereby potentially reducing the adverse effects of
such changes; and (iv) simplified tax reporting requirements for Investors. See
"BENEFITS OF, AND BACKGROUND AND REASONS FOR, THE TRANSACTION" in the
Prospectus/Consent Solicitation Statement.
Cap Source I Supp-10
<PAGE>
COMPENSATION, REIMBURSEMENTS AND DISTRIBUTIONS TO THE GENERAL PARTNERS
The following information has been prepared to compare the amounts of
compensation paid, and cash distributions made, by Cap Source I to its General
Partners and their affiliates to the amounts that would have been paid if the
compensation and distribution structure, which will be in effect after the
Transaction, had been in effect during the years presented.
Under Cap Source I's Partnership Agreement, the General Partners are
entitled to receive fees in connection with managing the affairs of the
Partnership. The Partnership Agreement also provides that the General Partners
are to be reimbursed for expenses for services performed for the Partnership,
such as legal, accounting, transfer agent, data processing and duplicating
services. In addition, the General Partners of Cap Source I have a 1% interest
in the Partnership.
During the years ended December 31, 1995, 1996 and 1997, amounts actually
paid by Cap Source I to its General Partners are shown below under "Historical"
and Cap Source I's share of the estimated amounts of compensation that would
have been paid to the Advisor had the Transaction been in effect for the years
presented are shown under "Pro Forma":
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
HISTORICAL:
1% share of Cash Distributions(1)............................................ $ 34,424 $ 34,424 $ 34,424
Asset Management and Partnership............................................. 0 0 0
Administrative Fee(2)........................................................
Reimbursements(3)............................................................ 138,857 193,822 240,759
---------- ---------- ----------
Total historical......................................................... $ 173,281 $ 228,246 $ 275,183
---------- ---------- ----------
---------- ---------- ----------
PRO FORMA:
Acquisition Fee(4)........................................................... $ 0 $ 0 $ 0
Asset Management Fee(5)...................................................... 255,027 255,692 261,132
Incentive Fee(6)............................................................. 0 0 0
---------- ---------- ----------
Total Pro Forma.......................................................... $ 255,027 $ 255,692 $ 261,132
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
- ------------------------
(1) The Partnership Agreement provides that 1% of cash available for
distribution will be allocated to the General Partners.
(2) The General Partners are entitled to receive an asset management and
partnership administrative fee equal to 0.5% of invested assets per annum,
payable only during such years that an 8% return has been paid to investors
on a noncumulative basis. Any unpaid amounts will accrue and be payable only
after a 13% annual return to investors has been paid on a cumulative basis
and the investors have received the return of their capital contributions.
(3) The General Partners are paid or reimbursed for certain costs and expenses
incurred in connection with the operation of the Partnership. The increase
in historical reimbursements to the General Partners from 1995 to 1997 is
primarily the result of an increase in salaries and related expenses.
Starting in 1996, additional management time was incurred in exploring
various options available to the Partnerships to improve total returns. The
pro forma compensation to the Advisor does not reflect this increase because
the Advisor's fees are based on asset values, not specific reimbursements.
For a description of the fee structure of the Advisor, see "MANAGEMENT OF
THE COMPANY--The Advisor--THE ADVISORY AGREEMENT" in the Prospectus/Consent
Solicitation Statement.
(4) No acquisition fees would have been paid because no new assets were
purchased or permitted to be purchased in the years 1995 to 1997.
Cap Source I Supp-11
<PAGE>
(5) Calculated based on the Advisor fees described in more detail under "THE
COMPANY--The Advisor" in the Prospectus/Consent Solicitation Statement.
(6) No incentive fee would have been paid because no new assets were owned which
would have qualified for such a fee if sold.
For purposes of comparing pro forma compensation levels to historical
compensation levels of the General Partners, a pro forma model was developed of
the compensation and distribution structure that the General Partners expect
would have been in place had the Transaction been consummated.
The pro forma model was applied to the years ended December 31, 1995, 1996
and 1997 as shown in the "Pro Forma" table above. Cap Source I's allocation of
the total pro forma cash compensation to the General Partners is set forth
below, using December 31, 1997 amounts for illustrative purposes. The allocation
is based on the ratio that Cap Source I's assigned Exchange Value bears to the
aggregate Exchange Value for both Partnerships:
<TABLE>
<CAPTION>
1997
-------------
<S> <C>
Cap Source I's assigned Exchange Value............................... $ 50,991,970
Aggregate Exchange Value of both Partnerships........................ $ 83,872,160
Allocation Ratio..................................................... 60.8%
Aggregate pro forma compensation..................................... $ 433,014
Cap Source I's allocation of pro forma compensation.................. $ 261,132
</TABLE>
CASH DISTRIBUTIONS TO INVESTORS
The information below should be read in conjunction with the information in
the Prospectus/Consent Solicitation Statement under the captions "SECONDARY
MARKET AND OWNERSHIP OF PARTNERSHIP UNITS" and "SELECTED FINANCIAL DATA OF THE
PARTNERSHIPS."
The following table sets forth the distributions paid to Investors in Cap
Source I (per $1,000 original investment) for the periods indicated below:
<TABLE>
<CAPTION>
6 MONTHS ENDED
YEAR ENDED DECEMBER 31, JUNE 30,
------------------------------------------------------ ---------------
1993 1994 1995 1996 1997 1998
---------- --------- --------- --------- --------- ---------------
<S> <C> <C> <C> <C> <C> <C>
Distributions from Income............... $ 47.935 $ 50.50 $ 50.500 $ 47.230 $ 45.214 $ 22.032
Distributions from Return of Capital.... 86.190 -- -- 3.270 5.286 3.218
---------- --------- --------- --------- --------- -------
Total............................... $ 134.125 $ 50.500 $ 50.500 $ 50.500 $ 50.500 $ 25.250
---------- --------- --------- --------- --------- -------
---------- --------- --------- --------- --------- -------
</TABLE>
Cash from operations, defined in the Partnership Agreement as disbursable
cash, is distributed to the Investors. Any variation in the amount of
distributions from operations is due to fluctuations in net cash from operating
activities. Reference is made to "MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS" in the Financial Statement
Supplement to the Prospectus/Consent Solicitation Statement for a discussion and
analysis of such fluctuations. Cash proceeds from the sale of property may be
distributed separately to the Investors as a return of capital. The Adjusted
Capital Contribution of an Investor is generally the Investor's initial capital
contribution reduced by the cash distributions to the Investor of proceeds from
the sale of Partnership properties. The Adjusted Capital Contribution per Unit
for Investors in Cap Source I, as defined in its Partnership Agreement, was
$18.35 as of June 30, 1998, based on an initial capital contribution of $20 per
unit.
See the information in the Prospectus/Consent Solicitation Statement under
"SELECTED FINANCIAL DATA OF THE PARTNERSHIPS" for more detailed financial
information with respect to the Partnerships and the effects of the Transaction.
Cap Source I Supp-12
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS/CONSENT
SOLICITATION STATEMENT
ITEM 20. INDEMNIFICATION
The General Corporation Law of the State of Delaware permits a Delaware
corporation to indemnify its officers or directors under certain circumstances.
Such statute provides that, in actions in which the corporation is not a party,
a corporation may indemnify its officers or directors for losses incurred by
them if the officer or director acted in good faith and in a manner he
reasonably believed to be in or not opposed to the best interests of the
corporation. In actions in which the corporation is a party, the statute
provides the same standard but prohibits indemnification if the director or
officer is adjudged liable to the corporation.
The Company has implemented such indemnification provisions in its
Certificate of Incorporation which provides that officers and directors shall be
entitled to be indemnified by the corporation to the fullest extent permitted by
law against expenses (including attorney's fees), judgments, fines and amounts
paid in settlement incurred in connection with any action, suit or proceeding by
reason of the fact that he is or was an officer or director of the Company.
ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) The following is a complete list of exhibits filed as part of the
Registration Statement. For electronic filing purposes only, this registration
statement contains Exhibit 27.1, the Financial Data Schedule. Exhibit numbers
correspond to the numbers in the Exhibit Table of Item 601 of Regulation S-K.
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
- ------ --------------------------------------------------------------------------
<C> <S>
2.01 Form of Agreement and Plan of Merger to be entered into by and among the
Partnerships, the General Partners and the Company, is incorporated
herein by reference from Appendix A to the Prospectus/Consent
Solicitation Statement.
3.01 Amended and Restated Certificate of Incorporation of the Company.(1)
3.02 Bylaws of the Company.(3)
3.03 Form of Second Amended and Restated Certificate of Incorporation of the
Company.(1)
3.04 Limited Partnership Agreement and Amended Certificate of Limited
Partnership of Capital Source L.P.(1)
3.05 Limited Partnership Agreement and Amended Certificate of Limited
Partnership of Capital Source II L.P.-A.(1)
3.06 Amended Certificate of Limited Partnership of Capital Source L.P.(3)
3.07 Amended Certificate of Limited Partnership of Capital Source II L.P.-A(3)
3.08 Amendment to Limited Partnership Agreement of Capital Source L.P.(2)
3.09 Amendment to Limited Partnership Agreement of Capital Source II L.P.-A(2)
4.01 The Amended and Restated Certificate of Incorporation and Bylaws of the
Company included as Exhibits 3.01 and 3.02 are incorporated herein by
reference.
4.02 Form of Indenture between the Company and the trustee relating to the
Notes being registered pursuant to this Registration Statement,
including the form of Variable Rate Junior Notes Callable On or After
the Date of Issuance and the form of Promissory Notes.(1)
4.03 Form of Common Stock Certificate of the Company.(1)
</TABLE>
- ------------------------
(1) Previously filed.
(2) To be filed by amendment.
(3) Filed herewith.
II-1
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
- ------ --------------------------------------------------------------------------
<C> <S>
4.04 Form of Variable Rate Junior Notes Callable On or After the Date of
Issuance and Promissory Notes of the Company are included in Exhibit
4.02.
5.01 Opinion of Kutak Rock as to the legality of the Shares and the validity of
the Notes.(3)
8.01 Opinion of Kutak Rock as to certain tax matters.(3)
10.01 Advisory Agreement between the Company and America First Real Estate
Advisors LLC.(1)
10.02 Agreement between Continental American Properties, the Partnerships and
the Company.(3)
12.01 Ratio of Earnings to Fixed Charges.(3)
23.01 Consent of Independent Accountants.(3)
23.02 Consent of Kutak Rock (included in Exhibits 5.01 and 8.01).
23.03 Consent of Sutro & Co., Inc., to being named in the Registration Statement
and to the inclusion in the Prospectus/Consent Solicitation Statement of
its Fairness Opinion.(3)
23.04 Consent of Valuation Research Corporation to being named in the
Registration Statement.(1)
23.05 Consent of Elizabeth L. Jarvis to being named in the Registration
Statement as a director nominee of America First Real Estate Investment
Company, Inc.(3)
23.06 Consent of John P. Miller to being named in the Registration Statement as
a director nominee of America First Real Estate Investment Company,
Inc.(3)
23.07 Consent of Steven W. Seline to being named in the Registration Statement
as a director nominee of America First Real Estate Investment Company,
Inc.(3)
23.08 Consent of Robert E. Van Metre to being named in the Registration
Statement as a director nominee of America First Real Estate Investment
Company, Inc.(3)
24.01 The Power of Attorney, included on Page II-5 of the Registration Statement
filed on May 7, 1998, is incorporated herein by reference.
25.01 Statement of Eligibility of Trustee.(3)
27.01 Financial Data Schedule of the Company.(1)
99.01 The Fairness Opinion and Bringdown Fairness Opinion of Sutro & Co., Inc.,
are incorporated herein by reference from Appendix B and Appendix C to
the Prospectus/ Consent Solicitation Statement.
99.02 Market Value Report of Valuation Research Corporation.(1)
99.03 Form of Consent Card for Capital Source I and Capital Source II.(3)
99.04 Board Presentation Outline of Sutro & Co., Inc. dated March 5, 1998.(3)
</TABLE>
- ------------------------
(1) Previously filed.
(2) To be filed by amendment.
(3) Filed herewith.
(b) Not Applicable.
(c) The Fairness Opinion and Bringdown Fairness Opinion of Sutro & Co.,
Incorporated is included as Appendix B and Appendix C to the Prospectus/Consent
Solicitation Statement. The Market Value Report of Valuation Research
Corporation is included as Exhibit 99.02 to this Registration Statement. The
Board Presentation Outline of Sutro & Co., Inc. is included as Exhibit 99.04 to
this Registration Statement.
ITEM 22. UNDERTAKINGS
A. The Company hereby undertakes the following:
(1) To file, during any period in which offers or sales are being made,
a post-effective amendment to this Registration Statement:
(a) To include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933;
II-2
<PAGE>
(b) To reflect in the prospectus any facts or events arising after
the effective date of the Registration Statement (or the most recent
post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth in
the Registration Statement; and
(c) To include any material information with respect to the plan of
distribution not previously disclosed in the Registration Statement or
any material change to such information in the Registration Statement.
(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall be deemed
to be a new registration statement relating to the securities offered
therein, and the offering of such securities at that time shall be deemed to
be the initial bona fide offering thereof.
(3) To remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the
termination of the offering.
B. (1) The undersigned Registrant hereby undertakes as follows: that prior
to any public reoffering of the securities registered hereunder through use of a
prospectus which is a part of this Registration Statement, by any person or
party who is deemed to be an underwriter within the meaning of Rule 145(c), the
issuer undertakes that such reoffering prospectus will contain the information
called for by the applicable registration form with respect to reofferings by
persons who may be deemed underwriters, in addition to the information called
for by the other items of the applicable form.
(2) The undersigned Registrant undertakes that every prospectus (i) that is
filed pursuant to paragraph (1) immediately preceding, or (ii) that purports to
meet the requirements of Section 10(a)(3) of the Securities Act of 1933 and is
used in connection with an offering of securities subject to Rule 415, will be
filed as part of an amendment to the registration statement and will not be used
until such amendment is effective, and that, for purposes of determining any
liability under the Securities Act of 1933, each such post-effective amendment
shall be deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
C. Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling persons of
the Registrant pursuant to the foregoing provisions, or otherwise, the
Registrant has been advised that in the opinion of the Securities and Exchange
Commission such indemnification is against public policy as expressed in the
Securities Act of 1933 and is, therefore, unenforceable. In the event that a
claim for indemnification against such liabilities (other than the payment by
the Registrant of expenses incurred or paid by a director, officer or
controlling person of the Registrant in the successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling person
in connection with the securities being registered, the Registrant will, unless
in the opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the
Securities Act of 1933 and will be governed by the final adjudication of such
issue.
D. The undersigned Registrant hereby undertakes to respond to requests for
information that is incorporated by reference into the Prospectus/Consent
Solicitation Statement pursuant to Items 4, 10(b), 11 or 13 of this Form, within
one business day of receipt of such request, and to send the incorporated
documents by first class mail or other equally prompt means. This includes
information contained in documents filed subsequent to the effective date of
this Registration Statement through the date of responding to the request.
E. The undersigned Registrant hereby undertakes to supply by means of a
post-effective amendment all information concerning a transaction, and the
company being acquired involved therein, that was not the subject of and
included in the Registration Statement when it became effective.
II-3
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, the
Registrant has duly caused this Pre-Effective Amendment No. 2 to the Form S-4
Registration Statement to be signed on its behalf by the undersigned, thereunto
duly authorized, in the City of Omaha, State of Nebraska, on November 2, 1998.
<TABLE>
<S> <C> <C>
AMERICA FIRST REAL ESTATE INVESTMENT
COMPANY, INC.
By: /s/ PAUL L. ABBOTT
-----------------------------------------
Paul L. Abbott,
PRESIDENT AND CHIEF EXECUTIVE OFFICER
</TABLE>
Pursuant to the requirements of the Securities Act of 1933, as amended, this
Registration Statement has been signed by the following persons in the
capacities and on the dates indicated.
NAME TITLE DATE
- ------------------------------ -------------------------- -------------------
/s/ PAUL L. ABBOTT
- ------------------------------ Director, President and November 2, 1998
Paul L. Abbott Chief Executive Officer
***
- ------------------------------ Director and Chairman of November 2, 1998
Michael B. Yanney the Board
***
- ------------------------------ Director and Secretary November 2, 1998
George H. Krauss
*** Chief Financial Officer,
- ------------------------------ Treasurer and Principal November 2, 1998
Gary Thompson Accounting Officer
- ------------------------
***By
/s/ PAUL L. ABBOTT
- ------------------------------
Paul L. Abbott,
as attorney-in-fact
II-4
<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON NOVEMBER 3, 1998
REGISTRATION NO. 333-52117
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
EXHIBITS
TO
PRE-EFFECTIVE
AMENDMENT NO. 2
TO
FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
(Exact name of registrant as specified in its charter)
SUITE 400, 1004 FARNAM STREET
OMAHA, NEBRASKA 68102
(402) 444-1130
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NO. DESCRIPTION NUMBERED PAGE
- ------------- ------------------------------------------------------------------------------------- -----------------
<C> <S> <C>
2.01 Form of Agreement and Plan of Merger to be entered into by and among the
Partnerships, the General Partners and the Company, is incorporated herein by
reference from Appendix A to the Prospectus/Consent Solicitation Statement.
3.01 Amended and Restated Certificate of Incorporation of the Company.(1)
3.02 Bylaws of the Company.(3)
3.03 Form of Second Amended and Restated Certificate of Incorporation of the Company.(1)
3.04 Limited Partnership Agreement and Amended Certificate of Limited Partnership of
Capital Source L.P.(1)
3.05 Limited Partnership Agreement and Amended Certificate of Limited Partnership of
Capital Source II L.P.-A.(1)
3.06 Amended Certificate of Limited Partnership of Capital Source L.P.(3)
3.07 Amended Certificate of Limited Partnership of Capital Source II L.P.-A(3)
3.08 Amendment to Limited Partnership Agreement of Capital Source L.P.(2)
3.09 Amendment to Limited Partnership Agreement of Capital
Source II L.P.-A(2)
4.01 The Amended and Restated Certificate of Incorporation and Bylaws of the Company
included as Exhibits 3.01 and 3.02 are incorporated herein by reference.
4.02 Form of Indenture between the Company and the trustee relating to the Notes being
registered pursuant to this Registration Statement, including the form of Variable
Rate Junior Notes Callable On or After the Date of Issuance and the form of
Promissory Notes.(1)
4.03 Form of Common Stock Certificate of the Company.(1)
4.04 Form of Variable Rate Junior Notes Callable On or After the Date of Issuance and
Promissory Notes of the Company are included in Exhibit 4.02.
5.01 Opinion of Kutak Rock as to the legality of the Shares and the validity of the
Notes.(3)
8.01 Opinion of Kutak Rock as to certain tax matters.(3)
10.01 Advisory Agreement between the Company and America First Real Estate Advisors LLC.(1)
10.02 Agreement between Continental American Properties, Ltd. and the Company and the
Partnerships.(3)
12.01 Ratio of Earnings to Fixed Charges.(3)
23.01 Consents of Independent Accountants.(3)
23.02 Consent of Kutak Rock (included in Exhibits 5.01 and 8.01).
23.03 Consent of Sutro & Co., Inc., to being named in the Registration Statement and to the
inclusion in the Prospectus/Consent Solicitation Statement of its Fairness
Opinion.(3)
23.04 Consent of Valuation Research Corporation to being named in the Registration
Statement.(1)
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NO. DESCRIPTION NUMBERED PAGE
- ------------- ------------------------------------------------------------------------------------- -----------------
<C> <S> <C>
23.05 Consent of Elizabeth L. Jarvis to being named in the Registration Statement as a
director nominee of America First Real Estate Investment Company, Inc.(3)
23.06 Consent of John P. Miller to being named in the Registration Statement as a director
nominee of America First Real Estate Investment Company, Inc.(3)
23.07 Consent of Steven W. Seline to being named in the Registration Statement as a
director nominee of America First Real Estate Investment Company, Inc.(3)
23.08 Consent of Robert E. Van Metre to being named in the Registration Statement as a
director nominee of America First Real Estate Investment Company, Inc.(3)
24.01 Power of Attorney, included on Page II-5 of the Registration Statement filed on May
7, 1998, is incorporated herein by reference.
25.01 Statement of Eligibility of Trustee.(3)
27.01 Financial Data Schedule for the Company.(1)
99.01 The Fairness Opinion and Bringdown Fairness Opinion of Sutro & Co., Inc., are
incorporated herein by reference from Appendix B and Appendix C to the
Prospectus/Consent Solicitation Statement.
99.02 Market Value Report of Valuation Research Corporation.(1)
99.03 Form of Consent Card for Capital Source I and Capital Source II.(3)
99.04 Board Presentation Outline of Sutro & Co., Inc., dated March 5, 1998.(3)
</TABLE>
- ------------------------
(1) Previously filed.
(2) To be filed by amendment.
(3) Filed herewith.
<PAGE>
BYLAWS
OF
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
ARTICLE I
OFFICES
SECTION 1. REGISTERED OFFICE. The registered office of the
corporation shall be in the City of Wilmington, County of New Castle, State of
Delaware.
SECTION 2. OTHER OFFICES. The corporation may also have offices at
such other places both within and without the State of Delaware as the Board of
Directors may from time to time determine or the business of the corporation may
require.
ARTICLE II
MEETINGS OF STOCKHOLDERS
SECTION 1. PLACE OF MEETING. Meetings of stockholders shall be held
at any place within or without the State of Delaware designated by the Board of
Directors. In the absence of any such designation, stockholders' meetings shall
be held at the principal executive office of the corporation.
SECTION 2. ANNUAL MEETINGS. The annual meeting of stockholders shall
be held each year on a date and at a time designated by the Board of Directors.
At each annual meeting directors shall be elected and any other proper business
may be transacted.
SECTION 3. QUORUM.
(a) A majority of the stock issued and outstanding and entitled to
vote at any meeting of stockholders, the holders of which are present in
person or represented by proxy, shall constitute a quorum for the
transaction of business, except as otherwise provided by law, the
Certificate of Incorporation or these Bylaws. A quorum, once established,
shall not be broken by the withdrawal of enough votes to leave less than a
quorum and the votes present may continue to transact business until
adjournment. If, however, such quorum shall not be present or represented
at any meeting of the stockholders, a majority of the voting stock
represented in person or by proxy may adjourn the meeting from time to
time, to reconvene at the same or some other place, and notice need not be
given of any such adjourned meeting if the time and place thereof are
announced at the meeting at which the adjournment is taken. At such
adjourned meeting at which a quorum shall be present or represented, any
business may be transacted that might have been transacted at the meeting
as originally notified. If the adjournment is for more than 30 days, or if
after the adjournment a new record date is fixed for the
<PAGE>
adjourned meeting, a notice of the adjourned meeting shall be given to each
stockholder of record entitled to vote thereat.
(b) All elections of directors shall be by a plurality vote cast of
the stockholders present and in person entitled to vote at such meeting of
stockholders. When a quorum is present at any meeting, the vote of the
holders of a majority of the stock having voting power present represented
in person or by proxy shall decide any question brought before such
meeting, unless the question is one upon which by express provision of law,
the Certificate of Incorporation or these Bylaws, a different vote is
required, in which case such express provision shall govern and control the
decision of such question.
SECTION 4. PROXY. Each stockholder entitled to vote at a meeting of
stockholders or to express consent or dissent to corporate action in writing
without a meeting, may vote in person or may authorize another person or persons
to act for him by proxy appointed in any manner permitted under Delaware law as
the same exists or may hereafter be amended. All proxies must be filed with,
transmitted to or otherwise conveyed to the Secretary of the corporation at the
beginning of each meeting in order to be counted in any vote at such meeting.
Each stockholder shall have one vote for each share of stock having voting
power, registered in his name on the books of the corporation on the record date
set by the Board of Directors as provided in Article V, Section 6 hereof.
SECTION 5. SPECIAL MEETINGS. Special meetings of the stockholders,
for any purpose or purposes, unless otherwise prescribed by statute or by the
Certificate of Incorporation, may be called by the President and shall be called
by the President or the Secretary at the request in writing of a majority of the
Board of Directors, or at the request in writing of stockholders owning not less
than 10% of the entire capital stock of the corporation issued and outstanding,
and entitled to vote. Such request shall state the purpose or purposes of the
proposed meeting. Business transacted at any special meeting of stockholders
shall be limited to the purposes stated in the notice.
SECTION 6. NOTICE OF MEETINGS. Whenever stockholders are required or
permitted to take any action at a meeting, a written notice of the meeting shall
be given which notice shall state the place, date and hour of the meeting, and,
in the case of a special meeting, the purpose or purposes for which the meeting
is called. Unless otherwise provided in the Certificate of Incorporation or
these Bylaws, the written notice of any meeting shall be given to each
stockholder entitled to vote at such meeting not less than 10 nor more than 60
days before the date of the meeting. If mailed, notice is given when deposited
in the United States mail, postage prepaid, directed to the stockholder at his
address as it appears on the records of the corporation.
SECTION 7. STOCKHOLDER LIST. The officer who has charge of the stock
ledger of the corporation shall prepare and make, at least 10 days before every
meeting of stockholders, a complete list of the stockholders entitled to vote at
the meeting, arranged in alphabetical order, and showing the address of each
stockholder and the number of shares registered in the name of each stockholder.
Such list shall be open to the examination of any stockholder, for any purpose
germane to the meeting, during ordinary business hours, for a period of at least
10 days prior to the meeting, either at a place within the city where the
meeting is to be held, which place shall be
2
<PAGE>
specified in the notice of the meeting, or, if not so specified, at the place
where the meeting is to be held. The list shall also be produced and kept at
the time and place of the meeting during the whole time thereof, and may be
inspected by any stockholder who is present.
SECTION 8. ACTION BY CONSENT OF STOCKHOLDERS. Unless otherwise
provided in the Certificate of Incorporation, any action required or permitted
to be taken at any annual or special meeting of stockholders of the corporation,
may be taken without a meeting, without prior notice and without a vote, if a
consent in writing, setting forth the action so taken, shall be signed by the
holders of outstanding stock having not less than the minimum number of votes
that would be necessary to authorize or take such action at a meeting at which
all shares entitled to vote thereon were present and voted. Prompt notice of
the taking of the corporate action without a meeting by less than unanimous
written consent shall be given to those stockholders who have not consented in
writing.
ARTICLE III
BOARD OF DIRECTORS
SECTION 1. NUMBER. The initial number of directors which shall
constitute the Board of Directors shall be three (3). The number of directors
which shall constitute the whole Board of Directors shall be not less than three
(3) nor more than eleven (11). The number of directors of the corporation may
be changed by a majority vote of the Board of Directors. The directors need not
be stockholders.
SECTION 2. TERM OF OFFICE. Subject to the provisions of Section 4
of this Article, at the annual meeting of stockholders, directors of the
class to be elected shall be elected for a three-year term. The directors
will be divided into three separate classes as nearly equal in number as may
be, and all directors elected shall hold office for the duration of his term
of office and until his successor is elected and qualified. The term of the
initial Class A directors will terminate on the date of the 2000 annual
meeting of stockholders; the term of the initial Class B directors will
terminate on the date of the 2001 annual meeting of stockholders; and the
term of the initial Class C directors will terminate on the date of the 2002
annual meeting of stockholders. When the number of directors is changed, any
newly created directorships or any decrease in directorships shall be so
apportioned among the classes as to make all classes as nearly equal in
number as possible. No decrease in the number of directors on the board
shall shorten the term of any incumbent director.
SECTION 3. INDEPENDENT DIRECTORS. Following the merger of Capital
Source L.P. ("Cap Source I"), Capital Source II L.P.-A ("Cap Source II"), and
the general partners of Cap Source I and Cap Source II, with and into the
corporation (the "Merger"), the majority of the directors serving on the Board
of Directors shall be independent directors. The term "Independent
Directors" refers to directors of the corporation who are not officers or
employees of the corporation, America First Real Estate Advisors L.L.C. (the
"Advisor") or their respective affiliates, do not perform any services for
the corporation, other than as directors, the Advisor or their respective
affiliates and are not otherwise affiliated with the corporation, the Advisor
or their respective affiliates. Following the Merger, each class of
directors shall have at least one Independent Director. If at any time there
is less than a majority of Independent Directors serving on the Board of
Directors, the then serving directors shall appoint an additional Independent
Director(s) so that the majority of the directors serving on the Board of
Directors shall be Independent Directors.
3
<PAGE>
SECTION 4. RESIGNATIONS, REMOVAL AND VACANCIES. Any director may
resign at any time upon the delivery of written notice to the corporation.
Vacancies on the Board of Directors by reason of death, resignation, retirement,
disqualification, removal from office or otherwise, and newly created
directorships resulting from any increase in the authorized number of directors,
may be filled by a majority of the directors then in office, although less than
a quorum, or by a sole remaining director. The directors so chosen shall hold
office until the next annual election of directors and until their successors
are duly elected and shall qualify, unless sooner displaced. If there are no
directors in office, then an election of directors may be held in the manner
provided by statute. If, at the time of filling any vacancy or any newly
created directorship, the directors then in office shall constitute less than a
majority of the whole Board of Directors (as constituted immediately prior to
any such increase), the Court of Chancery of the State of Delaware may, upon
application of any stockholder or stockholders holding at least 10 percent of
the total number of the shares at the time outstanding having the right to vote
for such directors, summarily order an election to be held to fill any such
vacancies or newly created directorships, or to replace the directors chosen by
the directors then in office.
SECTION 5. POWER AND AUTHORITY. The property and business of the
corporation shall be managed by or under the direction of its Board of
Directors. In addition to the powers and authorities by these Bylaws expressly
conferred upon them, the Board of Directors may exercise all such powers of the
corporation and do all such lawful acts and things as are not by statute, the
Certificate of Incorporation or these Bylaws directed or required to be
exercised or done by the stockholders.
SECTION 6. PLACE OF MEETING. The directors may hold their meetings
and have one or more offices, and keep the books of the corporation within or
without the State of Delaware.
SECTION 7. REGULAR MEETINGS. Regular meetings of the Board of
Directors may be held without notice at such time and place as shall from time
to time be determined by the Board of Directors.
SECTION 8. SPECIAL MEETINGS. Special meetings of the Board of
Directors may be called by the President on 48 hours' notice to each director,
either personally or by mail, telegram or telecopy; special meetings shall be
called by the President or the Secretary in like manner and on like notice on
the written request of two directors unless the Board of Directors consists of
only one director, in which case special meetings shall be called by the
President or Secretary in like manner or on like notice on the written request
of the sole director.
SECTION 9. QUORUM. At all meetings of the Board of Directors a
majority of the authorized number of directors shall be necessary and sufficient
to constitute a quorum for the transaction of business, and the vote of a
majority of the directors present at any meeting at which there is a quorum,
shall be the act of the Board of Directors, except as may be otherwise
specifically provided by statute, the Certificate of Incorporation or these
Bylaws. If a quorum shall not be present at any meeting of the Board of
Directors, the directors present thereat may adjourn the meeting from time to
time, without notice other than announcement at the meeting, until a quorum
shall be present. If only one director is authorized, such sole director shall
constitute a quorum.
4
<PAGE>
SECTION 10. ACTION BY CONSENT IN LIEU OF MEETING. Unless otherwise
restricted by the Certificate of Incorporation or these Bylaws, any action
required or permitted to be taken at any meeting of the Board of Directors or of
any committee thereof may be taken without a meeting, if all members of the
Board of Directors or committee, as the case may be, consent thereto in writing,
and the writing or writings are filed with the minutes of proceedings of the
Board of Directors or committee.
SECTION 11. TELEPHONIC MEETINGS. Unless otherwise restricted by the
Certificate of Incorporation or these Bylaws, members of the Board of Directors,
or any committee designated by the Board of Directors, may participate in a
meeting of the Board of Directors, or any committee, by means of conference
telephone or similar communications equipment by means of which all persons
participating in the meeting can hear each other, and such participation in a
meeting shall constitute presence in person at such meeting.
SECTION 12. COMMITTEES OF DIRECTORS. The Board of Directors may, by
resolution passed by a majority of the whole Board of Directors, designate one
or more committees, each such committee to consist of one or more of the
directors of the corporation. The Board of Directors may designate one or more
directors as alternate members of any committee, who may replace any absent or
disqualified member at any meeting of the committee. In the absence or
disqualification of a member of a committee, the member or members thereof
present at any meeting and not disqualified from voting, whether or not he or
they constitute a quorum, may unanimously appoint another member of the Board of
Directors to act at the meeting in the place of any such absent or disqualified
member. Any such committee, to the extent provided in the resolution of the
Board of Directors, shall have and may exercise all the powers and authority of
the Board of Directors in the management of the business and affairs of the
corporation, and may authorize the seal of the corporation to be affixed to all
papers which may require it; but no such committee shall have the power or
authority in reference to amending the Certificate of Incorporation (except that
a committee may, to the extent authorized in the resolution or resolutions
providing for the issuance of shares of stock adopted by the Board of Directors,
fix the designations and any of the preferences or rights of such shares
relating to dividends, redemption, dissolution, any distribution of assets of
the corporation or the conversion into, or the exchange of such shares for,
shares of any other class or classes or any other series of the same or any
other class or classes of stock of the corporation or fix the number of shares
of any series of stock or authorize the increase or decrease of the shares of
any series), adopting an agreement of merger or consolidation, recommending to
the stockholders the sale, lease or exchange of all or substantially all of the
corporation's property and assets, recommending to the stockholders a
dissolution of the corporation or a revocation of a dissolution, or amending
these Bylaws; and, unless the resolution or the Certificate of Incorporation
expressly so provides, no such committee shall have the power or authority to
declare a dividend, to authorize the issuance of stock or to adopt a certificate
of ownership and merger. Each committee shall keep regular minutes of its
meetings and report the same to the Board of Directors when required.
SECTION 13. COMPENSATION OF DIRECTORS. Unless otherwise restricted by
the Certificate of Incorporation or these Bylaws, the Board of Directors shall
have the authority to fix the compensation of directors; provided, however, that
no officer of the corporation shall receive any compensation for serving as a
director of the corporation. The directors who are not officers of the
corporation shall be paid their expenses, if any, and a fixed sum for their
attendance at each
5
<PAGE>
meeting of the Board of Directors and each committee meeting. No such payment
shall preclude any director from serving the corporation in any other capacity
and receiving compensation therefor. Members of special or standing committees
may be allowed like compensation for attending committee meetings.
SECTION 14. INDEMNIFICATION. The corporation shall indemnify every
person who was or is a party or is or was threatened to be made a party to any
action, suit, or proceeding, whether civil, criminal, administrative or
investigative, by reason of the fact that he is or was a director or officer of
the corporation or, while a director or officer of the corporation, is or was
serving at the request of the corporation as a director, officer, employee,
agent or trustee of another corporation, partnership, joint venture, trust,
employee benefit plan or other enterprise, against expenses (including counsel
fees), judgments, fines and amounts paid in settlement actually and reasonably
incurred by him in connection with such action, suit or proceeding, to the full
extent permitted by applicable law.
SECTION 15. TRANSACTIONS WITH INTERESTED DIRECTORS. No contract or
transaction between the corporation and one or more of its directors, or between
the corporation and any other corporation, partnership, association or other
entity in which one or more of its directors are directors or officers of this
corporation or are financially interested, shall be either void or voidable for
this reason alone, or solely because the director is present at or participates
in the meeting of the board or committee which authorizes the contract or
transaction, or solely because his or their votes are counted for such purpose,
if (i) the material facts as to his relationship or interest and as to the
contract or transaction are disclosed or are known to the Board of Directors or
committee, and the board or committee in good faith authorizes the contract or
transaction by the affirmative vote of a majority of the disinterested
directors, even though the disinterested directors be less than a quorum; or
(ii) the material facts as to his relationship or interest and to the contract
or transaction are disclosed or made known to the stockholders entitled to vote
thereon, and the contract or transaction are specifically approved in good
faith; or (iii) the contract or transaction is fair as to the corporation as of
the time it is authorized, approved or ratified by the Board of Directors, a
committee or the stockholders.
ARTICLE IV
OFFICERS
SECTION 1. OFFICERS.
(a) The officers of this corporation shall be chosen by the Board of
Directors and shall include a President and a Secretary. The corporation
may also have at the discretion of the Board of Directors such other
officers as are desired, including a Chairman of the Board of Directors,
one or more Vice Presidents, a Treasurer, one or more Assistant Secretaries
and Assistant Treasurers, and such other officers as may be appointed in
accordance with the provisions of this Article IV. In the event there are
two or more Vice Presidents, then one or more may be designated as
Executive Vice President, Senior Vice President, or other similar or
dissimilar title. At the time of the election of officers, the directors
may by resolution determine the order of their rank.
6
<PAGE>
Any number of offices may be held by the same person, unless the
Certificate of Incorporation or these Bylaws otherwise provide.
(b) The Board of Directors, at its first meeting after each annual
meeting of stockholders, shall choose the officers of the corporation.
(c) The Board of Directors may appoint such other officers and agents
as it shall deem necessary who shall hold their offices for such terms and
shall exercise such powers and perform such duties as shall be determined
from time to time by the Board of Directors.
(d) The salaries of all officers and agents of the corporation shall
be fixed by the Board of Directors.
(e) The officers of the corporation shall hold office until their
successors are chosen and qualify in their stead. Any officer elected or
appointed by the Board of Directors may be removed at any time by the
affirmative vote of a majority of the Board of Directors. If the office of
any officer or officers becomes vacant for any reason, the vacancy shall be
filled by the Board of Directors.
SECTION 2. CHAIRMAN OF THE BOARD OF DIRECTORS. The Chairman of the
Board of Directors, if such an officer be elected, shall, if present, preside at
all meetings of the Board of Directors and exercise and perform such other
powers and duties as may be from time to time assigned to him by the Board of
Directors or prescribed by these Bylaws. If there is no President, the Chairman
of the Board of Directors shall in addition be the Chief Executive Officer of
the corporation and shall have the powers and duties prescribed in Section 3 of
this Article IV.
SECTION 3. PRESIDENT. Subject to such supervisory powers, if any, as
may be given by the Board of Directors to the Chairman of the Board of
Directors, if there be such an officer, the President shall be the Chief
Executive Officer of the corporation and shall, subject to the control of the
Board of Directors, have general supervision, direction and control of the
business and officers of the corporation. He shall preside at all meetings of
the stockholders and, in the absence of the Chairman of the Board of Directors,
or if there be none, at all meetings of the Board of Directors. He shall be an
ex-officio member of all committees and shall have the general powers and duties
of management usually vested in the office of President and Chief Executive
Officer of corporations, and shall have such other powers and duties as may be
prescribed by the Board of Directors or these Bylaws.
SECTION 4. VICE PRESIDENTS. In the absence or disability of the
President, the Vice Presidents in order of their rank as fixed by the Board of
Directors, or if not ranked, the Vice President designated by the Board of
Directors, shall perform all the duties of the President, and when so acting
shall have all the powers of and be subject to all the restrictions upon the
President. The Vice Presidents shall have such other duties as from time to
time may be prescribed for them, RESPECTIVELY, BY THE BOARD OF DIRECTORS.
SECTION 5. SECRETARY. The Secretary shall attend all sessions of the
Board of Directors and all meetings of the stockholders and record all votes and
the minutes of all proceedings in a
7
<PAGE>
book to be kept for that purpose; and shall perform like duties for the standing
committees when required by the Board of Directors. The Secretary shall give,
or cause to be given, notice of all meetings of the stockholders and of the
Board of Directors, and shall perform such other duties as may be prescribed by
the Board of Directors or these Bylaws. He shall keep in safe custody the seal
of the corporation, and when authorized by the Board, affix the same to any
instrument requiring it, and when so affixed it shall be attested by his
signature or by the signature of an Assistant Secretary. The Board of Directors
may give general authority to any other officer to affix the seal of the
corporation and to attest the affixing by his signature.
SECTION 6. ASSISTANT SECRETARY. The Assistant Secretary, or if there
be more than one, the Assistant Secretaries in the order determined by the Board
of Directors, or if there be no such determination, the Assistant Secretary
designated by the Board of Directors, shall, in the absence or disability of the
Secretary, perform the duties and exercise the powers of the Secretary and shall
perform such other duties and have such other powers as the Board of Directors
may from time to time prescribe.
SECTION 7. TREASURER. The Treasurer shall have the custody of the
corporate funds and securities and shall keep full and accurate accounts of
receipts and disbursements in books belonging to the corporation and shall
deposit all moneys, and other valuable effects in the name and to the credit of
the corporation, in such depositories as may be designated by the Board of
Directors. He shall disburse the funds of the corporation as may be ordered by
the Board of Directors, taking proper vouchers for such disbursements, and shall
render to the Board of Directors, at its regular meetings, or when the Board of
Directors so requires, an account of all his transactions as Treasurer and of
the financial condition of the corporation. If required by the Board of
Directors, he shall give the corporation a bond, in such sum and with such
surety or sureties as shall be satisfactory to the Board of Directors, for the
faithful performance of the duties of his office and for the restoration to the
corporation, in case of his death, resignation, retirement or removal from
office, of all books, papers, vouchers, money and other property of whatever
kind in his possession or under his control belonging to the corporation.
SECTION 8. ASSISTANT TREASURER. The Assistant Treasurer, or if there
shall be more than one, the Assistant Treasurers in the order determined by the
Board of Directors, or if there be no such determination, the Assistant
Treasurer designated by the Board of Directors, shall, in the absence or
disability of the Treasurer, perform the duties and exercise the powers of the
Treasurer and shall perform such other duties and have such other powers as the
Board of Directors may from time to time prescribe.
ARTICLE V
THE CORPORATION'S STOCK
SECTION 1. CERTIFICATES OF STOCK. Every holder of stock of the
corporation shall be entitled to have a certificate signed by, or in the name of
the corporation by, the Chairman or Vice Chairman of the Board of Directors, or
the President or a Vice President, and by the Secretary or an Assistant
Secretary, or the Treasurer or an Assistant Treasurer of the corporation,
certifying the number of shares represented by the certificate owned by such
stockholder in the corporation.
8
<PAGE>
SECTION 2. SIGNATURES ON CERTIFICATES. Any or all of the signatures
on the certificate may be a facsimile. In case any officer, transfer agent or
registrar who has signed or whose facsimile signature has been placed upon a
certificate shall have ceased to be such officer, transfer agent, or registrar
before such certificate is issued, it may be issued by the corporation with the
same effect as if he were such officer, transfer agent or registrar at the date
of issue.
SECTION 3. POWERS, DESIGNATIONS AND PREFERENCES. If the corporation
shall be authorized to issue more than one class of stock or more than one
series of any class, the powers, designations, preferences and relative,
participating, optional or other special rights of each class of stock or series
thereof and the qualification, limitations or restrictions of such preferences
and/or rights shall be set forth in full or summarized on the face or back of
the certificate which the corporation shall issue to represent such class or
series of stock; provided that, except as otherwise provided in Section 202 of
the General Corporation Law of the State of Delaware, in lieu of the foregoing
requirements, there may be set forth on the face or back of the certificate
which the corporation shall issue to represent such class or series of stock, a
statement that the corporation will furnish without charge to each stockholder
who so requests the powers, designations, preferences and relative,
participating, optional or other special rights of each class of stock or series
thereof and the qualifications, limitations or restrictions of such preferences
and/or rights.
SECTION 4. LOST, STOLEN OR DESTROYED CERTIFICATES. The Board of
Directors may direct a new certificate or certificates to be issued in place of
any certificate or certificates theretofore issued by the corporation alleged to
have been lost, stolen or destroyed, upon the making of an affidavit of that
fact by the person claiming the certificate of stock to be lost, stolen or
destroyed. When authorizing such issue of a new certificate or certificates,
the Board of Directors may, in its discretion and as a condition precedent to
the issuance thereof, require the owner of such lost, stolen or destroyed
certificate or certificates, or his legal representative, to advertise the same
in such manner as it shall require and/or to give the corporation a bond in such
sum as it may direct as indemnity against any claim that may be made against the
corporation with respect to the certificate alleged to have been lost, stolen or
destroyed.
SECTION 5. TRANSFERS OF STOCK. Upon surrender to the corporation, or
the transfer agent of the corporation, of a certificate for shares duly endorsed
or accompanied by proper evidence of succession, assignation or authority to
transfer, it shall be the duty of the corporation to issue a new certificate to
the person entitled thereto, cancel the old certificate and record the
transaction upon its books.
SECTION 6. RECORD DATE. In order that the corporation may determine
the stockholders entitled to notice of or to vote at any meeting, or at any
adjournment of a meeting, of stockholders; or entitled to express consent to
corporate action in writing without a meeting; or entitled to receive payment of
any dividend or other distribution or allotment of any rights; or entitled to
exercise any rights in respect of any change, conversion, or exchange of stock;
or for the purpose of any other lawful action; the Board of Directors may fix,
in advance, a record date, which record date shall not precede the date upon
which the resolution fixing the record date is adopted by the Board of
Directors. The record date for determining the stockholders entitled to notice
of or to vote at any meeting of the stockholders or any adjournment thereof
shall not be more than 60 nor less than 10 days before the date of such meeting;
provided, however, that so
9
<PAGE>
long as any shares of the Corporation's stock are listed on the New York Stock
Exchange, the Record Date shall be no less than 30 days before such meeting.
The record date for determining the stockholders entitled to consent to
corporate action in writing without a meeting shall not be more than 10 days
after the date upon which the resolution fixing the record date is adopted by
the Board of Directors. The record date for any other purpose shall not be more
than 60 days prior to such other action; provided, however, that so long as any
shares of the Corporation's stock are listed on the New York Stock Exchange, the
Record Date shall be no less than 30 days before such meeting. If no record
date is fixed, (a) the record date for determining stockholders entitled to
notice of or to vote at any meeting shall be at the close of business on the day
next preceding the day on which notice is given or, if notice is waived by all
stockholders, at the close of business on the day next preceding the day on
which the meeting is held; (b) the record date for determining stockholders
entitled to express consent to corporate action in writing without a meeting,
when no prior action by the Board of Directors is required, shall be the first
date on which a signed written consent setting forth the action taken or to be
taken is delivered to the corporation, and when prior action by the Board of
Directors is required, shall be at the close of business on the day on which the
Board of Directors adopts the resolution taking such prior action; and (c) the
record date for determining stockholders for any other purpose shall be at the
close of business on the day on which the Board of Directors adopts the
resolution relating to such other purpose. A determination of stockholders of
record entitled to notice of or to vote at a meeting of stockholders shall apply
to any adjournment of the meeting; provided, however, that the Board of
Directors may fix a new record date for the adjourned meeting.
SECTION 7. REGISTERED STOCKHOLDERS. The corporation shall be
entitled to treat the holder of record of any share or shares of stock as the
holder in fact thereof and accordingly shall not be bound to recognize any
equitable or other claim or interest in such share on the part of any other
person, whether or not it shall have express or other notice thereof, except as
expressly provided by the laws of the State of Delaware.
ARTICLE VI
GENERAL PROVISIONS
SECTION 1. DIVIDENDS.
(a) Dividends upon the capital stock of the corporation, subject to
the provisions of the Certificate of Incorporation, if any, may be declared
by the Board of Directors at any regular or special meeting, pursuant to
law. Dividends may be paid in cash, in property or in shares of the
capital stock, subject to the General Corporation Law of the State of
Delaware and the provisions of the Certificate of Incorporation.
(b) Before payment of any dividend there may be set aside out of any
funds of the corporation available for dividends such sum or sums as the
directors from time to time, in their absolute discretion, think proper as
a reserve fund to meet contingencies, or for equalizing dividends, or for
repairing or maintaining any property of the corporation, or for such other
purpose as the directors shall think conducive to the interests of the
corporation, and the directors may abolish any such reserve.
10
<PAGE>
SECTION 2. CHECKS. All checks or demands for money and notes of the
corporation shall be signed by such officer or officers as the Board of
Directors may from time to time designate.
SECTION 3. FISCAL YEAR. The fiscal year of the corporation shall be
fixed by resolution of the Board of Directors.
SECTION 4. SEAL. The corporate seal shall have inscribed thereon the
name of the corporation and the words "Corporate Seal, Delaware." Said seal may
be used by causing it or a facsimile thereof to be impressed or affixed or
reproduced or otherwise.
SECTION 5. NOTICES.
(c) Whenever, under the provisions of the law, the Certificate of
Incorporation or these Bylaws, notice is required to be given to any
director or stockholder, it shall not be construed to mean personal notice,
but such notice may be given in writing, by mail, addressed to such
director or stockholder, at his address as it appears on the records of the
corporation, with postage thereon prepaid, and such notice shall be deemed
to be given at the time when the same shall be deposited in the United
States mail. Notice to a director may also be given by telegram or
telecopy.
(d) Whenever any notice is required to be given under the provisions
of the law, the Certificate of Incorporation or these Bylaws, a waiver
thereof in writing, signed by the person or persons entitled to said
notice, whether before or after the time stated therein, shall be deemed to
be equivalent to written notice.
SECTION 6. ANNUAL STATEMENT. The Board of Directors shall present at
each annual meeting a full and clear statement of the business and condition of
the corporation.
ARTICLE VII
AMENDMENTS
SECTION 1. AMENDMENTS. These Bylaws may be altered, amended or
repealed or new Bylaws may be adopted by the stockholders when such power is
conferred upon the stockholders by the Certificate of Incorporation, at any
regular meeting of the stockholders or at any special meeting of the
stockholders if notice of such alteration, amendment, repeal or adoption of new
Bylaws be contained in the notice of such special meeting.
11
<PAGE>
Exhibit 3.06
CERTIFICATE OF AMENDMENT
TO
CERTIFICATE OF LIMITED PARTNERSHIP
OF
CAPITAL SOURCE L.P.
THIS Certificate of Amendment to Certificate of Limited Partnership of
Capital Source L.P. (the "Partnership"), dated as of September 22, 1998, is
being duly executed and filed by America First Capital Source I L.L.C. and
Insured Mortgage Equities Inc., as general partners, in accordance with the
provisions of 6 DEL. C. Sections 17-202 and 17-204, to amend the original
Certificate of Limited Partnership of the Partnership, which was filed on
August 22, 1985, as amended (the "Certificate"), to form a limited
partnership under the Delaware Revised Uniform Limited Partnership Act
(6 DEL. C. Section 17-101. ET SEQ.).
1. NAME. The name of the limited partnership is Capital Source L.P.
2. AMENDMENT. The definition of "HUTTON GENERAL PARTNER" in Article II
of the Certificate shall be amended to read:
"HUTTON GENERAL PARTNER" means Insured Mortgage Equities Inc., a
Delaware corporation.
IN WITNESS WHEREOF, the undersigned have executed this Certificate of
Amendment to Certificate of Limited Partnership as of the date first-above
written.
AMERICA FIRST CAPITAL SOURCE I L.L.C.,
as general partner
By: /s/ Paul L. Abbott
--------------------------------
Paul L. Abbott
President
INSURED MORTGAGE EQUITIES INC., as
general partner
By: /s/ Paul L. Abbott
--------------------------------
Paul L. Abbott
President
<PAGE>
Exhibit 3.07
CERTIFICATE OF AMENDMENT
TO
CERTIFICATE OF LIMITED PARTNERSHIP
OF
CAPITAL SOURCE II L.P.-A
THIS Certificate of Amendment to Certificate of Limited Partnership of
Capital Source II L.P.-A (the "Partnership"), dated as of September 22, 1998,
is being duly executed and filed by America First Capital Source II L.L.C.
and Insured Mortgage Equities II L.P., as general partners, in accordance
with the provisions of 6 DEL. C. Sections 17-202 and 17-204, to amend the
original Certificate of Limited Partnership of the Partnership, which was
filed on August 22, 1986, as amended (the "Certificate"), to form a limited
partnership under the Delaware Revised Uniform Limited Partnership Act (6
DEL. C. Section 17-101. ET SEQ.).
1. NAME. The name of the limited partnership is Capital Source II L.P.-A
2. AMENDMENT.
(a) Article III of the Certificate is amended to read in its entirety
as follows:
III. The names of and business addresses of the general partners are
as follows: America First Capital Source II L.L.C., 1004 Farnam Street,
Suite 400, Omaha, Nebraska 68102; and Insured Mortgage Equities II L.P.,
3 World Financial Center, 29th Floor, New York, New York 10285.
(b) The section of Schedule A to the Certificate entitled "General
Partners" is amended to read in its entirety as follows:
<TABLE>
<CAPTION>
GENERAL PARTNERS: Capital Partnership
Contribution Interest
------------ -----------
<S> <C> <C>
Insured Mortgage Equities II L.P. $10.10 .5%
3 World Financial Center
29th Floor
New York, New York 10285
America First Capital Source II L.L.C. $10.10 .5%
1004 Farnam Street
Suite 400
Omaha, Nebraska 68102
</TABLE>
<PAGE>
IN WITNESS WHEREOF, the undersigned have executed this Certificate of
Amendment to Certificate of Limited Partnership as of the date first-above
written.
AMERICA FIRST CAPITAL SOURCE II L.L.C.,
as general partner
By: /s/ Paul L. Abbott
--------------------------------
Paul L. Abbott
President
INSURED MORTGAGE EQUITIES II L.P., as
general partner
By: CS HOUSING II INC., as
general partner
By: /s/ Paul L. Abbott
--------------------------------
Paul L. Abbott
President
2
<PAGE>
KUTAK ROCK
SUITE 2900 ATLANTA
717 SEVENTEENTH STREET KANSAS CITY
LITTLE ROCK
DENVER, COLORADO 80202-3329 NEW YORK
NEWPORT BEACH
303-297-2400 OKLAHOMA CITY
FACSIMILE 303-292-7799 OMAHA
PHOENIX
http://www.kutakrock.com PITTSBURGH
WASHINGTON
November 2, 1998
America First Real Estate Investment Company, Inc.
1004 Farnam Street
Suite 400
Omaha, Nebraska 68102
Re: Securities Offering
Gentlemen:
We have acted as counsel to America First Real Estate Investment Company,
Inc. (the "Company") in connection with the filing of a registration statement
on Form S-4 (Registration No. 333-52117), including a related Prospectus/Consent
Solicitation Statement, under the Securities Act of 1933, as amended (the
"Act"), and such amendments thereto and such amended Prospectus/Consent
Solicitation Statements as may have been required to the date hereof. The
registration statement covers a proposed offering by the Company of up to
3,354,887 shares of common stock, $.001 par value per share (the "Common
Stock"), and up to $40,000,000 principal amount of Variable Rate Junior Notes
and Promissory Notes (the "Notes"). Such registration statement, as amended,
and the Prospectus/Consent Solicitation Statement on file with the Securities
and Exchange Commission (the "Commission") at the time such registration
statement becomes effective (including financial statements and schedules,
exhibits and all other documents filed as a part thereof or incorporated
therein) are herein called, respectively, the "Registration Statement" and the
"Prospectus/Consent Solicitation Statement."
In connection with this opinion, we have made such investigations and
examined such records, including the Company's Certificate of Incorporation,
Bylaws and corporate minutes as we deemed necessary to the performance of our
services and to give this opinion. We have also examined and are familiar with
the originals or copies, certified or otherwise identified to our satisfaction,
of such other documents, corporate records and other instruments as we have
deemed necessary for the preparation of this opinion. In expressing this
opinion, we have relied, as to any questions of fact upon which our opinion is
predicated, upon representations and certificates of the officers of the
Company.
In giving this opinion we assumed:
(a) the genuineness of all signatures and the authenticity and
completeness of all documents submitted to us as originals;
<PAGE>
America First Real Estate
Investment Company, Inc.
November 2, 1998
Page 2
(b) the conformity to originals and the authenticity of all documents
supplied to us as certified, photocopied, conformed or facsimile copies and
the authenticity and completeness of the originals of any such documents;
and
(c) the proper, genuine and due execution and delivery of all
documents by all parties to them and that there has been no breach of the
terms thereof.
Based upon the foregoing and subject to the qualifications set forth above,
and assuming (i) that the Registration Statement has become effective under the
Act, (ii) that all required actions are taken and conditions satisfied with
respect to the issuance of the Company's Common Stock and Notes as specified in
the Prospectus/Consent Solicitation Statement and (iii) consideration is
received for the Common Stock and the Notes: we are of the opinion that: (a) at
the time the Common Stock is issued, the Common Stock will be legally issued,
fully paid and nonassessable; and (b) at the time the Notes are issued, the
Notes will be binding obligations of the Company.
We consent to the filing of this opinion as an exhibit to the Registration
Statement and the use of our name in the Registration Statement. In giving such
consent, we do to thereby admit that we come within the category of persons
whose consent is required under Section 7 of the Act or the Rules and
Regulations of the Commission promulgated pursuant thereto.
Very truly yours,
/s/ Kutak Rock
Kutak Rock
<PAGE>
KUTAK ROCK
SUITE 2900 ATLANTA
717 SEVENTEENTH STREET KANSAS CITY
LITTLE ROCK
DENVER, COLORADO 80202-3329 NEW YORK
NEWPORT BEACH
303-297-2400 OKLAHOMA CITY
FACSIMILE 303-292-7799 OMAHA
PHOENIX
http://www.kutakrock.com PITTSBURGH
WASHINGTON
November 2, 1998
America First Real Estate Investment Company, Inc.
1004 Farnam Street, Suite 400
Omaha, NE 68102
Re: Certain Federal Income Tax Issues
Ladies and Gentlemen:
We have acted as your tax counsel in connection with the proposed merger
(the "Transaction") of Capital Source, L.P., a Delaware limited partnership
("Cap Source I"), and Capital Source II, L.P.-A, a Delaware limited
partnership ("Cap Source II," and together with Cap Source I, the
"Partnerships") with and into you pursuant to that certain Agreement and Plan
of Merger, dated as of _________________, 1998, among the Partnerships,
America First Capital Source I, L.L.C., Insured Mortgage Equities, Inc.,
America First Capital Source II, L.L.C., Insured Mortgage Equities II L.P.
and you (the "Merger Agreement"). Terms not otherwise defined herein shall
have the same meaning as ascribed to them in the registration statement on
Form S-4 Registration No. 333-52117, including all amendments and supplements
thereto (the "Registration Statement").
In this regard, you have requested our opinion concerning certain
federal income tax matters, including, but not limited to, the
characterization of the merger of the Partnerships with and into the Company
and the related transfer of assets by the Partnerships to the Company (the
"Merger") as an exchange subject to the nonrecognition provisions of Section
351 of the Internal Revenue Code of 1986, as amended (the "Code"). The
opinions set forth herein are based on the applicable provisions of the Code
(including the Taxpayer Relief Act of 1997 and portions of its legislative
history), the Treasury Regulations promulgated thereunder (the "Regulations")
and interpretations thereof by the Internal Revenue Service (the "Service")
and the courts having jurisdiction over such matters, each as of the date
hereof. The opinions set forth herein are also based upon certain
assumptions and representations described below. There can be no assurance
that the Code or the Regulations will not be amended or that interpretations
of the Service or the courts will not change in a manner which would preclude
us from rendering similar opinions in the future. Moreover, any such changes
in the Code, the Regulations or the interpretations thereof may have
retroactive effect.
These opinions, further, depend upon the facts and circumstances
surrounding your operations, the operations of the Partnerships, the
operations of the Operating Partnerships and the consummation of the
Transaction. In the event such operations differ from your representations
concerning the foregoing or the descriptions set forth in the Registration
Statement, our conclusions could differ from those set forth herein.
<PAGE>
November 2, 1998
Page 2
In connection with rendering the opinions set forth herein, we have
examined and relied upon such documents as we believe necessary, including,
but not limited to, the following:
(a) the Registration Statement;
(b) the federal income tax returns of Cap Source I and Cap Source II
for the taxable years ended December 31, 1995, December 31, 1996 and
December 31, 1997;
(c) certain data regarding the trading volume of the Units as
prepared by Service Data Corporation;
(d) the Partnership Agreements;
(e) certain registration statements filed by the Partnerships with
the Securities and Exchange Commission;
(f) the Appraisals;
(g) the limited partnership agreements of the Operating Partnerships;
(h) the Fairness Opinion;
(i) the Merger Agreement;
(j) Prospectus/Consent Solicitation Statement dated as of _________;
(k) the Organizational Documents; and
(l) the balance sheet of each Partnership dated as of June 30, 1998
(the "Balance Sheets").
In rendering the opinions set forth herein, we have assumed the
authenticity of all original documents, the accuracy of copies and the
genuineness of signatures, and that the forms of documents supplied to us are
substantially identical to those documents executed by you or for your
benefit. In this regard, you should note that we have reviewed only those
documents which appeared relevant and have not undertaken a review of any
other documents or matters. In addition, we have not independently verified
any of the information described in the foregoing documents or in the
following representations. We have further assumed compliance with the
provisions of the Partnership Agreements and the Merger Agreement and that
the Investors have no binding commitment to sell or otherwise transfer Shares
acquired in the Transaction. In addition, we have, with your permission, in
connection with the delivery of our opinions, relied upon the following
representations made by you:
(a) that you believe the assumptions used in preparation of the
Appraisals are reasonable;
2
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November 2, 1998
Page 3
(b) that you believe the assumptions used in the preparation of the
Fairness Opinion are reasonable;
(c) that the assets and liabilities of the Partnerships do not differ
in any material respect from those described in the Balance Sheets;
(d) that to the best of your knowledge the Partnerships and the
Operating Partnerships each is characterized as a partnership and not as a
publicly traded partnership or as an association taxable as a corporation
for federal income tax purposes;
(e) that pursuant to the Merger Agreement, you will invest cash
received by you from the Partnerships, so that not more than 80% of your
assets, will consist of: (i) cash, foreign currency or readily marketable
securities, (ii) stocks or other equity interests in corporations, (iii)
evidences of indebtedness, (iv) options, (v) forward or futures contracts,
(vi) notional principal contracts or derivatives, (vii) interests in real
estate investment trusts, (viii) interests in regulated investment
companies, (ix) interests in publicly traded partnerships, as defined under
Section 7704(b) of the Code, or (x) other securities or assets set forth in
Section 351(e) of the Code;
(f) that the fair market value of the Shares each Partnership will
receive in the Transaction will not exceed the value of the assets
contributed by such Partnership;
(g) that, as of the date of the Merger, the liabilities of each
Partnership will not exceed their bases in their assets;
(h) that except as otherwise disclosed to us in writing, Shares will
be proportionately distributed by the Partnerships to the Investors in
accordance with their respective capital accounts and that to the best of
your knowledge the capital accounts of the Investors reflect their
respective interests in the Partnerships in all material respects;
(i) that all of the limited partner interests in the Operating
Partnerships are owned by the Partnerships;
(j) that you believe that the assumptions used in determining the
Exchange Value are reasonable;
(k) that less than 20% of the value of the assets contributed
to the Company by each of the Partnerships is attributable to money
or marketable securities, as such term is used in Regulation
Section 1.731-2(d)(1)(ii)(A);
(l) that you have no binding commitment to issue any shares of
capital stock, except as contemplated by the Transaction; and
(m) that you have no binding commitment to dispose of any of the
assets acquired in the Transaction, except in the ordinary course of
business.
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November 2, 1998
Page 4
Based solely on the documents, representations and assumptions set forth
above and subject to limitations described herein, we are of the opinion
that: (a) the Merger will be an exchange subject to the nonrecognition
provisions of Section 351 of the Code; and (b) the discussion set forth in
the section of the Registration Statement entitled "CERTAIN FEDERAL INCOME
TAX CONSEQUENCES" fairly summarizes the material federal income tax
considerations associated with the Transaction.
The opinions set forth herein are rendered only to you and are solely
for your benefit. Please be advised that we have rendered no opinion, except
as expressly set forth above, with regard to any other federal income tax or
other tax issue associated with you, the Investors, the Transaction, the
Partnerships, the Operating Partnerships or any other party described in the
Registration Statement. In addition, we have rendered no opinion with
respect to the merger of General Partners with and into the Company. We
disclaim any obligation to update this opinion letter for events occurring or
coming to our attention after the date hereof.
Very truly yours,
/s/ Kutak Rock
Kutak Rock
4
<PAGE>
EXHIBIT 10.02
AGREEMENT
THIS AGREEMENT (the "Agreement") is effective as of the _______ day of
July, 1998 (the "Effective Date"), by and among Capital Source, L.P., a Delaware
limited partnership ("Cap Source I"), Capital Source II, L.P.-A, a Delaware
limited partnership ("Cap Source II" and together with Cap Source I, the
"Partnerships"), America First Real Estate Investment Company, Inc., a Delaware
corporation (the "Company") and Continental American Properties, Ltd., a
California limited partnership ("ConAm").
WITNESSETH
WHEREAS, the Partnerships are in the business of providing debt and equity
investments for multifamily rental complexes; and
WHEREAS, ConAm is in the business of making investments in real estate and
is able to identify multifamily redevelopment projects for investment; and
WHEREAS, pursuant to a proposed Agreement and Plan of Merger, the
Partnerships intend to merge into the Company; and
WHEREAS, after completion of the transaction contemplated pursuant to the
Agreement and Plan of Merger, the Company desires to invest in the certain
multifamily rental projects, and ConAm desires to identify potential multifamily
rental projects, present them to the Company and participate in such projects in
a partnership or joint venture or other similar arrangement with the Company on
the terms and subject to the conditions set forth in this Agreement.
NOW THEREFORE, in consideration of the promises and mutual covenants
herein, and for Ten Dollars and other good and valuable consideration, the
receipt and sufficiency of which are hereby acknowledged, the parties hereto
agree as follows:
ARTICLE I
DEFINITIONS
The defined terms used in this Agreement and not otherwise parenthetically
defined shall have the following meanings:
"CAPITAL" shall mean the amount of cash and the net fair market value of
any property contributed to each Redevelopment Project, as determined in
accordance with generally accepted accounting principles.
"CRITERIA" shall have the meaning specified in Section 3.4 of this
Agreement.
"EVALUATION" shall mean the work product to be prepared by ConAm for the
evaluation of a real estate project which shall include, without
limitation, proposed cost and renovation analysis and budgets, anticipated
financing, proposed operating budgets and financial
<PAGE>
projections, market analysis (including without limitation, regional
employment data, metropolitan area data and neighborhood data), known
environmental problems and required remediation (but not requiring an
environmental assessment report) and such other information that would
allow a reasonable person to evaluate with reasonable certainty all
material aspects of a multifamily real estate project for investment
purposes and, with respect to the Redevelopment Projects, compliance with
the Criteria.
"GOVERNING AGREEMENT" shall have the meaning specified in Section 5.1 of
this Agreement for the acquisition, development, redevelopment and
management of a Redevelopment Project.
"MERGER TRANSACTION" means the transaction whereby the Partnerships shall
be merged into the Company and the Company will become the successor to the
interests of the Partnerships as contemplated by that certain Agreement and
Plan of Merger among the Partnerships and the Company.
"REDEVELOPMENT PROJECTS" means a multifamily real estate rental project
identified by ConAm pursuant to this Agreement for redevelopment and
possible investment by the Company. A Redevelopment Project does not
include (i) the Specified Projects identified on Exhibit A attached hereto
or (ii) any real estate project in which either the Company or ConAm or any
of their affiliated entities owns all, a portion or an equity interest on
the Effective Date.
"SPECIFIED PROJECTS" means those real estate projects identified on Exhibit
A attached hereto in which the Partnerships own an interest as of the
Effective Date. A Specified Project is not a Redevelopment Project under
Articles III, IV and V of this Agreement.
"TOTAL COMPANY CAPITAL CONTRIBUTION" means the total Capital contribution
made to a Venture by the Company.
"VENTURE" means the joint venture, partnership or other legally recognized
form of entity or arrangement entered into by ConAm and the Company after
the Merger Transaction to be formed for the purpose of acquiring,
renovating, developing and managing a Redevelopment Projects pursuant to
this Agreement.
ARTICLE II
ENGAGEMENT FOR EXISTING SPECIFIED PROJECTS
2.1 ENGAGEMENT FOR EXISTING SPECIFIED PROJECTS. The Partnerships hereby
engage ConAm to prepare an Evaluation of the Specified Projects. Such
Evaluation shall be delivered to the Partnerships on or before One Hundred
Twenty (120) days after the Effective Date. With respect to any Specified
Project, the Partnerships may request that the Evaluation for such Specified
Project be in such form and contain such additional information as is reasonably
required by the Partnerships in order for the Partnerships to reasonably
determine whether the Partnerships are interested in proceeding with more
detailed due diligence regarding the Specified Projects.
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2.2 EVALUATION FEE. For each Evaluation delivered to the Partnerships for
a Specified Project pursuant to Section 2.1, the Partnerships shall pay to ConAm
a fee of Fifty Thousand Dollars ($50,000.00) ("Specified Project Evaluation
Fee"). The Partnerships' obligation to pay the Specified Project Evaluation Fee
shall survive the cancellation or termination of this Agreement and shall not be
affected by the occurrence or non-occurrence of the Commencement Date pursuant
to Section 3.1 or the Company's obligations under this Agreement.
2.3 SPECIFIED PROJECT VENTURE. Should the Partnerships determine to
proceed with ConAm in the redevelopment of any of the Specified Projects, the
Partnerships shall give written notice thereof to ConAm (outlining any
additional due diligence required to be supplied to the Partnerships, if any)
whereupon the Partnerships and ConAm shall proceed to enter into an agreement in
form and content and containing such terms as may be acceptable to the
Partnerships and ConAm for the acquisition, development and management of the
applicable Specified Project; provided, however, that any such Venture agreement
shall provide that one-half (1/2) the Specified Project Evaluation Fee paid to
ConAm pursuant to Section 2.2 shall be credited to any development fees payable
to ConAm in connection with any such acquisition, development and management of
the Specified Projects contemplated hereby.
2.4 COMPANY AS SUCCESSOR TO PARTNERSHIPS AFTER THE MERGER TRANSACTION.
Upon completion of the Merger Transaction, the Company shall be successor to the
Partnerships and shall succeed to the rights and benefits of the Partnerships
under this Article II of this Agreement.
ARTICLE III
ENGAGEMENT FOR REDEVELOPMENT PROJECTS
3.1 ENGAGEMENT FOR REDEVELOPMENT PROJECTS; CONDITION PRECEDENT. ConAm
hereby agrees to provide the services set forth in Section 3.2 beginning on the
earlier of (i) December 15, 1998 or (ii) such earlier date as may be elected in
writing by the Company after consummation of the Merger Transaction (the
"Commencement Date"); provided, however, it shall be a condition precedent to
the obligations of the Company and ConAm that the Merger Transaction be
consummated prior to the Commencement Date. The term (the "Term") of ConAm's
and the Company's obligations under this Agreement shall begin on the
Commencement Date and, unless terminated sooner as provided in Section 3.5 or by
the mutual written consent of the parties, will terminate on the earlier of (A)
two (2) years after the Commencement Date, or (B) the date following the day
upon which the Company completes a Venture transaction with ConAm that results
in the Company having invested a total of Twenty Million Dollars ($20,000,000)
in Redevelopment Projects pursuant to this Agreement. Notwithstanding any
provision contained herein, in the event that the Merger Transaction is not
consummated on or before December 15, 1998, this Agreement shall be terminated
and shall be of no further force or effect on December 15, 1998. It is the
express understanding and agreement of the Parties that, with the exception of
the obligations of the Partnerships pursuant to Article II of this Agreement,
the Partnerships shall have no obligation to complete the Redevelopment Project
transactions contemplated hereby and that only the Company, after completion of
the Merger Transaction, shall be obligated to complete the Redevelopment Project
transactions contemplated hereby.
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<PAGE>
3.2 OBLIGATIONS OF CONAM. ConAm shall perform the following services for
the benefit of the Company during the Term:
(a) IDENTIFICATION/FIRST TRANSACTION AFTER COMMENCEMENT DATE. ConAm shall
have the obligation to use its good faith best efforts to (i) locate,
identify, perform an Evaluation for and present to the Company
Redevelopment Projects that meet the Criteria and that would allow the
Company to invest a total of Twenty Million Dollars ($20,000,000) in
Redevelopment Projects during the Term of this Agreement, and (ii) if such
Redevelopment Projects are approved by the Company as provided herein, to
invest Capital in the Ventures for the acquisition, development and
management of the Redevelopment Projects in accordance with Section 3.2(b).
ConAm shall have the obligation to identify, perform an Evaluation for and
present to the Company the first Redevelopment Project that would
reasonably meet the Criteria that ConAm locates (or has located and which
is not committed by agreement to a different investor) after the
Commencement Date.
(b) INVESTMENT. For any Redevelopment Project that is approved for
investment by the Company pursuant to Section 4.2, ConAm shall contribute
to the Venture formed pursuant to Article V, Capital equal to 11.11% of the
Total Company Capital Contribution in such Venture on a pari passu basis.
(c) BROKERAGE ARRANGEMENTS. Notwithstanding any provision contained
herein, in the event that ConAm employs the services of any third person or
entity as a contract or sub-broker for the purpose of locating potential
Redevelopment Projects, ConAm shall be solely responsible for any fees or
costs associated therewith. The parties acknowledge and agree, however,
that any commissions paid to any broker retained by the seller of any
Redevelopment Project shall be paid as a cost of the Venture. ConAm shall
not enter into any brokerage arrangements with any third parties in the
name of, or that may be binding upon the Company or any Venture without the
express written consent of the Company or Venture.
3.3 INVESTMENT COMMITMENT OF THE COMPANY. The Company agrees to invest in
Ventures with ConAm in a total amount not to exceed Twenty Million Dollars
($20,000,000.00) for Redevelopment Projects that meet the Criteria and that
otherwise comply with and are acquired into Ventures pursuant to the provisions
of this Agreement.
3.4 CRITERIA. The Redevelopment Projects shall be of the type and nature
and shall meet each of the following criteria and conditions (collectively, the
"Criteria"), any of which may be waived in writing by the Company:
(a) TERRITORIES. The Redevelopment Projects shall be located within the
continental United States, excluding the following states: New York,
Connecticut and Nebraska.
(b) CAPITAL. For each Redevelopment Project, the Evaluation and
subsequent due diligence shall support projections that the Redevelopment
Project can be acquired, renovated, developed and managed by the
to-be-formed Venture under proposed budgets that would limit the Total
Company Capital Contribution in such Venture for such
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<PAGE>
Redevelopment Project to an amount not greater than Five Million Dollars
($5,000,000.00).
(c) TARGET INTERNAL RATE OF RETURN. For each Redevelopment Project, the
Evaluation and subsequent due diligence shall support projections that the
Redevelopment Project can be acquired, renovated, developed and managed by
the to-be-formed Venture under proposed budgets and financial projections
that would result in a target internal rate of return ("Target IRR") of the
Company for each Redevelopment Project equal to or greater than twenty
percent (20%) per annum of the Total Company Capital Contribution.
3.5 DEFAULT AND RIGHT TO TERMINATE. If at any time after the Commencement
Date the Company reasonably determines that ConAm is not complying with its
obligations to the Company under Section 3.2(a) or if, within any consecutive
120 day period, ConAm has failed to deliver a Notice presenting to the Company a
Redevelopment Project, then the Company shall have the right, but not the
obligation, to notify ConAm that the Company deems ConAm to be in default under
this Agreement and specifying the reasons therefor (the "Default Notice").
ConAm shall have a period of sixty (60) days from the date of the Default Notice
(the "Cure Period") within which to cure the default specified in the Default
Notice to the satisfaction of the Company. If the Company reasonably determines
that ConAm has failed to cure the default during the Cure Period, then the
Company shall deliver written notice to ConAm confirming (i) that the default
has not been cured to the satisfaction of the Company and (ii) that the Company
has elected to terminate the Agreement effective as of the date of such notice,
subject to the provisions of Section 6.1. The right to terminate is the sole
remedy of the Company for failure of ConAm to comply with Section 3.2(a).
ARTICLE IV
NOTICE, DUE DILIGENCE, ACCEPTANCE AND FEES
4.1 NOTICE TO COMPANY. ConAm shall use its best efforts to locate
proposed Redevelopment Projects that meet the Criteria and shall propose such
Redevelopment Projects to the Company by giving written notice ("Notice") to the
Company of a proposed Redevelopment Project, which Notice shall include an
Evaluation of the proposed Redevelopment Project together with such additional
information as may be reasonably necessary for the Company to determine
compliance with the Criteria.
4.2 REVIEW OF REDEVELOPMENT PROJECTS. Following receipt by the Company of
the Notice and information pursuant to Section 4.1:
(a) RESPONSE/ADDITIONAL DUE DILIGENCE. The Company shall have a period of
five (5) business days after receipt from ConAm of the Notice and
accompanying information contemplated to be delivered pursuant to Section
4.1 to deliver to ConAm in writing a rejection or approval of the proposed
Redevelopment Project and setting forth therein (i) the reasons for
rejection, if rejected, including the reasons that the Redevelopment
Project does not meet the Criteria (the "Rejection Notice"), or (ii) if
approved what, if any, additional information may be required by the
Company prior to the Company entering into a Venture with ConAm for the
purposes of moving forward with the proposed Redevelopment Project (the
"Approval Notice"). If any additional information is
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<PAGE>
required by the Company in the Approval Notice, such information shall be
supplied to the Company within fifteen (15) days following ConAm's receipt
of the Approval Notice. Within three (3) business days after receipt of
such additional information from ConAm, the Company shall deliver a written
Rejection Notice or Approval Notice to ConAm rejecting or approving the
proposed Redevelopment Project. If the Company reasonably concludes that
the Redevelopment Project does not meet the Criteria after reviewing such
additional information, the Company shall specify in the Rejection Notice
to ConAm the reasons for such rejection. The failure by the Company to
deliver a written notice to ConAm within the specified time frame shall be
deemed to be a rejection of the proposed Redevelopment Project.
(b) FORMATION OF VENTURE UPON APPROVAL. If a proposed Redevelopment
Project is approved as provided in Section 4.2(a) above, then the Company
and ConAm shall proceed to enter into a Venture in form and content
acceptable to ConAm and the Company and containing the terms set forth in
Article V below and such additional terms as may be acceptable to the
parties.
(c) DUE DILIGENCE. Prior to closing upon and acquiring into the newly
formed Venture any proposed Redevelopment Project approved by the Company
as provided above, and prior to the payment by the parties of their
respective Capital relating to such Redevelopment Project, the newly formed
Venture for each Redevelopment Project shall conduct such additional due
diligence as may be reasonably necessary and appropriate including, without
limitation, appraisals, surveys, environmental assessments, engineering
studies, soils tests, title review and other such due diligence and studies
as may be necessary to confirm that there are no environmental problems
affecting the subject property or the improvements thereon, that all
improvements are structurally sound, that all zoning matters have been
complied with and that the Redevelopment Project, in all other material
respects, meets the Criteria and is capable of being owned by the Venture
and developed and/or rehabilitated in accordance with the budgets and in
the manner contemplated in the Evaluation delivered to the Company pursuant
to Section 4.1. The cost of such due diligence shall be paid for by the
Venture. If the due diligence information obtained pursuant to this
Section 4.2(c) reveals that the proposed Redevelopment Project does not
meet the Criteria or is materially different than the information supplied
in the Evaluation (due, among other things, to market changes,
environmental problems, regional employment changes or the like), as the
same may be reasonably determined by the Company, then the Company shall
have the right to terminate the Venture by written notice to ConAm. If the
Venture is so terminated, all costs for obtaining the due diligence and
studies pursuant to this Section 4.2(c) shall be paid for by the Venture
with the Company and ConAm contributing the following amounts: the Company
shall pay ninety percent (90%) thereof to the Venture and ConAm shall pay
ten percent (10%) thereof to the Venture.
ARTICLE V
FORMATION OF VENTURE
5.1 FORMATION OF VENTURE. The Company and ConAm, or their respective
affiliates, shall enter into a Venture in the form of and pursuant to a joint
venture, partnership, limited
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liability company or other legally recognized entity formation agreement, the
legal form of which entity shall be agreed upon by the parties (the "Governing
Agreement") for the acquisition, development, renovation and management of the
Redevelopment Project. Each Governing Agreement shall contain such terms as may
be agreed upon by the parties; provided, however, the following terms contained
in this Article V shall be included in each Governing Agreement:
5.2 DEVELOPER'S FEE. For each Redevelopment Project, the Governing
Agreement for each Venture shall provide that ConAm shall be entitled to a
developer's fee equal to the following (for each Redevelopment Project, the
"Developer's Fee"):
(a) Ten percent (10%) of the Total Company Capital Contribution in the
applicable Venture, if the Total Company Capital Contribution is Two
Million Five Hundred Thousand Dollars ($2,500,000.00) or less;
(b) Seven and one-half percent (7.5%) of the Total Company Capital
Contribution in the applicable Venture if the Total Company Capital
Contribution is in excess of Two Million Five Hundred Thousand Dollars
($2,500,000.00), up to and including Five Million Dollars ($5,000,000.00);
and
(c) If for any reason the Company agrees in writing that the Total Company
Capital Contribution in the applicable Venture may exceed Five Million
Dollars ($5,000,000.00), the Developer's Fee shall be determined by mutual
agreement between the Company and ConAm.
5.3 OTHER VENTURE FEES. The Governing Agreement for each Venture shall
provide for payment of the following fees:
(a) SALES FEE. Unless the Company, in its reasonable judgement,
determines that a third party would be better qualified to act as the sales
broker on behalf of the Venture, ConAm or an affiliate shall have the right
to act as the sales broker for the Venture in connection with any of the
Redevelopment Projects. If ConAm is acting as the sales broker for the
transaction, ConAm shall be paid a sales brokerage fee to ConAm in an
amount not to exceed one and three quarters percent (1.75%) of the gross
sales price of the Redevelopment Project. In the event that ConAm or an
affiliate acts as the sales broker for the Venture, any co-brokerage fee or
similar cost will be paid for exclusively by ConAm.
(b) PROPERTY MANAGEMENT FEE. Unless the Company, in its reasonable
judgment, determines that a third party would be better qualified to act as
the manager of a Redevelopment Project, ConAm or an affiliate shall act as
the property manager for the Redevelopment Project and, as consideration
therefor, shall be paid a property management fee to ConAm of three and
one-half percent (3.5%) of the gross property revenue for such
Redevelopment Project.
(c) OTHER FEES. The Governing Agreement for each Venture shall contain a
provision which permits either party to provide services to the Venture,
provided the Venture will not be required to pay for services in an amount
which is greater than the
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competitive fair market price for similar services paid to other unrelated
persons in the geographic area.
5.4 DISTRIBUTIONS. The Governing Agreement for each Venture shall provide
for the distribution to the Company and ConAm as follows with respect to the
Redevelopment Project owned by such Venture:
(a) DISBURSABLE CASH FOR OPERATIONS. The Venture shall distribute the
amount of Disbursable Cash (as defined below) to the Company and ConAm for
each fiscal quarter within twenty (20) days after the end of each such
fiscal quarter. Distributions of Disbursable Cash will be distributed to
the Company and to ConAm pro rata until each shall have received a priority
return (the "Priority Return") equal to a fifteen percent (15%) per annum
cumulative, compounded on their respective Capital contributions to the
Venture from Disbursable Cash pursuant to this Section 5.4(a), and the
balance if any will be distributed pursuant to Section 5.4(c) below.
Disbursable Cash will be distributed and will not be reinvested. For
purposes of this Agreement, the term "Disbursable Cash" means receipts from
operations after deducting cash used to pay operating expenses, debt
service, capital expenditures and amounts used for the creation or
restoration of reserves, but without deduction for depreciation and
amortization.
(b) SALES PROCEEDS. The Venture shall distribute the Sales Proceeds (as
defined below) to the Company and to ConAm for each fiscal quarter within
twenty (20) days after receipt thereof. Sales Proceeds shall be
distributed (i) to the Company and ConAm until the Company and ConAm have
each received the balance of the Priority Return due and owing to each and
not paid out of Disbursable Cash pursuant to Section 5.4(a) above, then
(ii) the balance of Sales Proceeds, if any, will be distributed pro rata
until the Company and ConAm have received one hundred percent (100%) of
their respective Capital contribution to the Venture, then (iii) the
balance, if any, will be distributed to the Partnerships and ConAm
according to Section 5.4(c) below. Sales Proceeds will be distributed and
will not be reinvested. For purposes of this Agreement, the term "Sales
Proceeds" means the net proceeds from the disposition (including
refinancing proceeds, if any) of land, buildings and equipment related to
the Redevelopment Project owned by such Venture.
(c) SHARING RATIO OF REMAINING DISBURSABLE CASH AND SALES PROCEEDS. The
Venture shall, following the distributions of Disbursable Cash and Sales
Proceeds set forth in Sections (a) and (b) above and subject to adjustments
which may be necessary for federal income tax purposes, allocate and
distribute all remaining Disbursable Cash and Sales Proceeds pro rata as
follows:
<TABLE>
<CAPTION>
<S> <C>
The Company 80%
ConAm 20%
</TABLE>
5.5 SALE OF REDEVELOPMENT PROJECTS. At any time after the earlier of (i)
six (6) months after the completion of a Redevelopment Project and the issuance
of a certificate of occupancy therefor, or (ii) 30 months after the Company
makes its Total Company Capital Contribution to the Venture, either the Company
or ConAm may, by written notice to the other
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party, require the Venture to initiate a sale of a Redevelopment Project,
pursuant to terms and conditions mutually acceptable to both the Company and
ConAm. Upon such sale, the Sale Proceeds shall be distributed as set forth in
Sections 5.4 above.
ARTICLE VI
TERMINATION
6.1 CONTINUING OBLIGATIONS UPON TERMINATION. Upon the expiration of the
Term or the earlier termination of this Agreement pursuant to Section 3.5 or by
written agreement of the parties (the "Termination Date") the following
obligations shall be deemed to continue and shall survive such Termination Date:
(a) The obligation to pay fees and amounts as set forth herein;
(b) The indemnities contained in Article VIII; and
(c) The obligations of the parties pursuant to the applicable Governing
Agreements, if any, which shall continue until terminated as provided
therein.
ARTICLE VII
OTHER COVENANTS AND AGREEMENTS/NON-EXCLUSIVITY
7.1 OTHER ACTIVITIES. This Agreement is non-exclusive and no provision of
this Agreement shall be construed so as to prohibit the Company or ConAm or
their respective affiliates from participating in the ownership, development,
redevelopment or management of other multifamily rental projects. The Company
acknowledges ConAm's right to acquire properties comparable to the Redevelopment
Projects on behalf of or in partnership with other capital sources. Except as
provided in Section 3.2(a) with respect to the first Redevelopment Project
meeting the Criteria identified by ConAm after the Commencement Date, nothing in
this Agreement is intended to grant the Company a first right of refusal for
projects identified by ConAm which meet the Criteria found in Section 3.4
hereof; provided, however, ConAm shall not acquire or redevelop any multifamily
rental project that competes directly with any Redevelopment Project or Existing
Specified Projects. Further, nothing in this Section 7.1 shall be deemed or
construed to prevent ConAm from acquiring, brokering or otherwise working with
any proposed Redevelopment Project that has been presented to the Company and
rejected by the Company in writing pursuant to the provisions of this Agreement.
7.2 OTHER ACTIVITIES. Nothing in this Agreement shall prevent the Company
from locating, evaluating and entering into joint venture, partnership or other
arrangements for the ownership, development, renovation or management of any
real estate project of whatever nature that the Company locates on its own or
through any third party; provided, however, the Company covenants and agrees
that it will not acquire or redevelop any multifamily rental project that
competes directly with any of the Redevelopment Projects.
ARTICLE VIII
INDEMNIFICATION
9
<PAGE>
8.1 INDEMNIFICATION. Each party hereto (each an "Indemnitor") agrees to
indemnify and hold each other party hereto harmless from and against all claims,
losses, damages, liabilities, demands, judgments, settlements, costs and
expenses of any nature whatsoever (including attorneys' fees) arising out of,
resulting from or related to the Indemnitor's actions, inactions or omissions
with respect to the performance of its duties under this Agreement. The
indemnification provisions relating to any particular Redevelopment Project
shall be governed by the Venture Agreement entered into with respect to such
Redevelopment Project.
ARTICLE IX
CONFIDENTIAL INFORMATION
9.1 ACKNOWLEDGEMENT OF CONFIDENTIALITY. Each party to this Agreement
agrees and acknowledges that in the course of performing its respective
obligations hereunder, it may have access to and become acquainted with
confidential information about the professional, business and financial affairs
of the other parties (collectively, the "Confidential Information") and that
each party to this Agreement is engaged in a highly competitive business and
that the success of each such in the marketplace depends upon their goodwill and
reputation for quality and dependability. Each party agrees and acknowledges
that reasonable limits on its ability to engage in activities competitive with
the other parties are warranted to protect each of the other party's substantial
investment in developing their status, reputation and goodwill in the
marketplace. Accordingly, each party agrees to keep confidential all
Confidential Information that is marked "confidential" or that is delivered to
such party in a manner so as to imply with reasonable certainty the
confidentiality of such information. ConAm also agrees to keep confidential the
terms of this Agreement unless the Company otherwise agrees in writing. Nothing
in this Article IX is intended or shall be deemed to limit the ability of any
party to (i) comply with its obligations under this Agreement, (ii) comply with
the requirements of any court order requiring disclosure of Confidential
Information, or (iii) comply with any filing or other disclosure requirements
mandated by any state or federal laws governing securities.
9.2 PROPRIETARY INFORMATION. Except as provided above in Section 9.1,
trade secrets and proprietary information of either party shall be deemed
Confidential Information and shall be kept confidential by the party receiving
such information as follows:
(a) TRADE SECRETS. At no time during or after the Effective Date, shall
any either party disclose to any third party any trade secrets of the other
party except as may be reasonably necessary to perform its obligations
under this Agreement.
(b) PROPRIETARY INFORMATION. In addition to the prohibition of Section
9.2(a) and all common law prohibitions against the disclosure of trade
secrets, each party agrees, at all times for a period of twelve (12)
consecutive months subsequent to the Termination Date, not to disclose to
any third person, corporation or other entity without the written
permission of the affected party any Proprietary Information (as defined
below) regardless of whether such Proprietary Information would be deemed a
"trade secret" at common law. For purposes of this Agreement, the term
"Proprietary Information" includes, but is not limited to: (i) any
documents or information relating to the products, research and plans of
the affected party; (ii) all financial data relating to the affected party
and their officers, directors, members, employees, representatives and
shareholders; or
10
<PAGE>
(iii) any confidential documents or information concerning the affected
party (or any business entity affiliated with such party).
9.3 RETURN OF INFORMATION/RECORDS. All information and materials
delivered to either party by the other in the course of this Agreement are and
shall remain the sole property of the delivering party and upon termination of
this Agreement, each party shall, upon the written request of the other, return
to the delivering party all records, notes, data, memorandum, models and
equipment of any nature that are in its possession or under its control. Any
Evaluation or to other information delivered to the Company by ConAm pursuant to
this Agreement shall remain the property of ConAm unless and until the Company
approves the Redevelopment Project to which such information and Evaluation
relates, whereupon such Evaluation and other information relating to such
Redevelopment Project shall be deemed to be owned by both parties until the
Venture is formed, whereupon the Evaluation and other information shall be
deemed to be owned by such Venture.
9.4 EQUITABLE RELIEF. Each party acknowledges that the restrictions
contained in Article IX are reasonable and necessary in order to protect the
legitimate interests of the parties to this Agreement and that any violation
thereof would likely result in irreparable injury to the affected party. Each
party, therefore, further acknowledges and agrees that any aggrieved party under
this Article IX shall be entitled to obtain from any court of competent
jurisdiction, without the posting of any bond or other security, preliminary and
permanent injunctive relief as well as damages and an equitable accounting of
all earnings, profits and other benefits arising from such violation, which
rights shall be cumulative and in addition to any other rights or remedies in
law or equity to which such aggrieved party may be entitled.
ARTICLE X
MISCELLANEOUS
10.1 RELATIONSHIP OF THE PARTIES. The Partnerships and ConAm with respect
to the Specified Projects and the Company and ConAm with respect to the
Redevelopment Projects intend to negotiate in good faith and to enter into
separate agreements governing their relationship, rights and obligations for
each such project, consistent with the terms of this Agreement. ConAm shall not
be authorized or empowered to enter into any agreements or understandings with
any person or entity on behalf of the Partnerships, the Company or any Venture
without the prior written consent of the Partnerships, the Company or the
Venture as evidenced by their signature on said agreement.
10.2 SURVIVAL OF PROVISIONS. Notwithstanding any provision contained
herein, the indemnities contained in Article VIII and the confidentiality
provisions contained in Article IX shall survive the expiration or termination
of this Agreement for any reason whatsoever.
10.3 ASSIGNMENT. ConAm's rights, duties and obligations under this
Agreement may not be assigned or transferred to any other person, firm,
corporation or other entity without the prior written consent of the
Partnerships with respect to the Specified Projects or the Company with respect
to the Redevelopment Projects. The parties hereto may assign their rights under
this Agreement to any entity that is affiliated by common ownership or control.
11
<PAGE>
10.4 ENTIRE AGREEMENT. This Agreement contains the entire agreement of the
parties hereto and there are no other promises or conditions in any other
agreement whether oral or written regarding the subject matter hereof. This
Agreement supersedes any prior written or oral agreements between the parties
hereto regarding the subject matter hereof.
10.5 AMENDMENT. This Agreement may be modified or amended only by
amendment or modification made in writing and is signed by all parties hereto.
10.6 SEVERABILITY. If any provision of this Agreement shall be held to be
invalid or unenforceable for any reason, the remaining provisions shall continue
to be valid and enforceable. If a court finds that any provision of this
Agreement is invalid or unenforceable, but that by limiting such provision it
would become valid and enforceable, then such provision shall be deemed to be
written, construed, and enforced as so limited.
10.7 COMMUNICATION. ConAm shall report to Mr. Paul Abbott on all matters
relating to the Partnerships or the Company under this Agreement and ConAm's
performance of its obligations hereunder to either party.
10.8 NOTICES. All notices required or permitted under this Agreement shall
be in writing and shall be deemed delivered when (a) delivered in person; (b)
deposited in the United States mail, postage prepaid, by certified mail, return
receipt requested; (c) upon transmission by facsimile; or (d) delivered by
reputable overnight courier, addressed as follows:
The Partnerships: Capital Source
Capital Source II A
399 Park Avenue
New York, New York 10022
Attention: Paul L. Abbott
Facsimile: (212) 935-8765
The Company: America First Real Estate Investment Company, Inc.
399 Park Avenue
New York, New York 10022
Attention: Paul L. Abbott
Facsimile: (212) 935-8765
ConAm: Continental American Properties, Ltd.
1764 San Diego Avenue
San Diego, California 92110
Attention: J. Bradley Forrester
Facsimile: (619) 294-2451
Such addresses may be changed from time to time by any party by providing
written notice in the manner set forth above.
10.9 WAIVER. The failure of any party to enforce any provision of this
Agreement shall not be construed as a waiver or limitation of that party's right
to subsequently enforce and compel strict compliance with every provision of
this Agreement.
12
<PAGE>
10.10 ARBITRATION OF ALL DISPUTES. Except as provided in Article IX
and without limiting the right of the Company to terminate this Agreement
pursuant to the provisions of Section 3.5, if any disputes or controversies
arise between the parties in connection with this Agreement or their acts or
duties hereunder, such disputes or controversies shall be submitted to and
resolved by binding arbitration in accordance with the laws of the State of New
York and the rules of the American Arbitration Association. Each party shall
select one arbitrator, and the arbitrators so selected shall select a third
arbitrator, which three arbitrators shall constitute the arbitration panel for
the dispute. All arbitration proceedings shall be conducted in New York, New
York. The decision or award of the arbitration panel shall be final and
binding, and judgment thereon may be entered in a state or federal court with
jurisdiction over the parties. It is understood that the arbitration panel
shall have no authority to add to, subtract from, or modify any provision of
this Agreement. The cost of any arbitration proceeding hereunder shall be borne
equally by the parties, subject to the arbitrators awarding such costs
otherwise. A party shall only be entitled to be awarded damages for actual
losses suffered by the injured party plus reasonable costs (including reasonable
attorney's fees and costs).
10.11 FACSIMILE TRANSMISSION; COUNTERPARTS. This Agreement may be
executed in counterpart and by facsimile signature transmission and shall be
binding upon the parties transmitting the same. Counterparts with original
signatures shall be provided to the other parties within seven (7) days of the
applicable facsimile transmission, provided, however, that the failure to
provide the original counterpart shall have no effect on the validity or the
binding nature of the Agreement. If executed in counterparts, the Agreement
shall be effective as if simultaneously executed.
10.12 JURISDICTION. Subject to the provisions of Section 10.10, the
parties hereby agree that any legal action or proceeding with respect to this
Agreement and any action or proceeding to execute or otherwise enforce any
judgment obtained in connection therewith, will be instituted in the courts of
the State of New York, or in the U.S. District Court for the District of New
York, and by execution and delivery of this Agreement each of the parties hereto
irrevocably and unconditionally submits to the jurisdiction of each such court
and waives any objection which it may now or hereafter have to the laying of
venue of any such action or proceeding brought in any such court and any claim
that any such action or proceeding has been brought in an inconvenient forum.
10.13 SUCCESSORS AND ASSIGNS. This Agreement shall inure to the
benefit of and shall be binding upon the parties and their respective successors
and assigns. The parties expressly agree that, upon completion of the Merger
Transaction, the Company shall succeed to the rights, remedies, obligations or
liabilities of the Partnerships under this Agreement. Nothing in this
Agreement, express or implied, is intended to confer upon any other person or
entity any rights, remedies, obligations or liabilities.
10.14 SECTION HEADINGS. The section and other headings contained in
this Agreement are for reference purposes only and shall not affect the meaning
or interpretation of this Agreement.
13
<PAGE>
10.15 GOVERNING LAW. This Agreement is made and entered into, and
shall be governed by and construed in accordance with, the laws of the State of
New York, without regard to the conflict of laws provisions of such state.
10.16 FURTHER ASSURANCES. The parties agree to execute, acknowledge,
seal and deliver, such further assurances, instruments and documents, and to
take such further actions, as any other party may reasonably request in order to
fulfill the intent of this Agreement and the transactions contemplated
hereunder.
10.17 ATTORNEY FEES. In the event of litigation or arbitration arising
out of this Agreement, the court or the arbitrators, as the case may be, shall
award to the prevailing party all reasonable costs and expenses, including
without limitation, attorneys' fees.
10.18 LIMITATION OF LIABILITY. Notwithstanding any provision hereof or
by operation of law to the contrary, the liability, if any, of Daniel J.
Epstein, the individual general partner of ConAm, shall be limited to his
interest in ConAm and shall not affect his other assets.
[SIGNATURE PAGE FOLLOWS]
14
<PAGE>
IN WITNESS WHEREOF, the parties have caused this Agreement to be executed
as of the day and year first above written.
The Partnerships:
CAPITAL SOURCE L.P., a Delaware limited partnership
By Insured Mortgage Equities, Inc., a General Partner
By /s/ Paul L. Abbott
-------------------------------------
Name: Paul L. Abbott
-------------------------------------
Title: President
-------------------------------------
CAPITAL SOURCE II L.P.-A, a Delaware limited
partnership
By Insured Mortgage Equities II, L.P., a General
Partner
By CS Housing II, Inc.,
its General Partner
By /s/ Paul L. Abbott
--------------------------------
Name: Paul L. Abbott
--------------------------------
Title: President
--------------------------------
15
<PAGE>
ConAm:
CONTINENTAL AMERICAN PROPERTIES, LTD., a California
limited partnership
By: D.J.E. FINANCIAL CORPORATION, its
General Partner
By /s/ J. Bradley Forrester
--------------------------------------
Name: J. Bradley Forrester
--------------------------------------
Title:
--------------------------------------
THE COMPANY:
AMERICA FIRST REAL ESTATE
INVESTMENT COMPANY, INC., a Delaware
corporation
By /s/ Paul L. Abbott
--------------------------------------
Name: Paul L. Abbott
--------------------------------------
Title: President
--------------------------------------
16
<PAGE>
EXHIBIT A
SPECIFIED PROJECTS
1. WATERMAN'S CROSSING, LEGALLY DESCRIBED AS FOLLOWS:
All that certain piece or parcel of land, situate, lying and being in the City
of Newport News, Virginia, as shown on that certain plat entitled "Plat of the
Property to be conveyed to Drucker & Falk, 19.8607 Acres, City of Newport News,
Virginia," made by Coenen & Associates, Inc., Engineers-Planners-Surveyors,
dated June 16, 1983, revised April 13, 1984 containing 19.8607 acres, and more
particularly described as follows:
Beginning at a pipe located on the westerly right-of-way line of Criston Drive
at the northerly end of the aforesaid Criston Drive, and thence from the point
of beginning thus established, along the arc of a curve to the left, having
radius of 920.00 feet, a distance of 14.27 feet to a pipe, thence continuing
along the arc of a curve to the left, having a radius of 220.00 feet a distance
of 161.27 feet to a pipe, thence continuing along the arc of a curve to the
left, having a radius of 520.00 feet, a distance of 268.89 feet to a pipe,
thence N. 2DEG. 52' 20" W, a distance of 311.73 feet to a pipe, thence
N. 87DEG. 07' 40" E, a distance of 393.44 feet to a pipe, thence N. 2DEG.
52' 20" W, a distance of 547.85 feet to a pipe, thence N. 19DEG. 00' W, a
distance of 138.00 feet to a pipe, thence N 25DEG. 09' 00" W, a distance of
493.32 feet to a pipe, thence N 64DEG. 51' 00" E, a distance of 248.53 feet to
a pipe, thence S 25DEG. 09' 00" E, a distance of 318.63 feet to an axle, thence
continuing S 25DEG. 09' 00" E, a distance of 1,092.38 feet to a monument,
thence S 87DEG. 02' 30" E, a distance of 300.98 feet to a point, thence S 3DEG.
24' 10" W, a distance of 388.97 feet to a pipe, thence N 84DEG. 29' 10" W, a
distance of 705.35 feet to a pipe, thence along the arc of a curve to the left,
having a radius of 125.50 feet, a distance of 78.89 feet to a pipe, thence
S. 30DEG. 59' 04" E, a distance of 50.01 feet to a pipe, thence along the arc
of a curve to the left, having a radius of 25.00 feet, a distance of 36.18 feet
to a pipe, thence S 66DEG. 53' 20" W, a distance of 60.00 feet to the point of
beginning.
17
<PAGE>
2. FOX HOLLOW, LEGALLY DESCRIBED AS FOLLOWS:
BEGINNING at a point in the Southern right of way line of Hartley Avenue said
point being located South 56 degrees 25 minutes 20 seconds West, 644.00 feet
from the Southwest intersection of Hartley Avenue and North Main Street, said
point also being the Northwest corner of the property of R. T. Amos Trustees as
recorded in Plat Book 57, Page 124 in the Guilford County Register of Deeds,
thence line of said R. T. Amos Trustees, Doris Dowdy and Brunswick Corporation,
South 33 degrees 39 minutes 47 seconds East, 970.62 feet to a point in the
Northern line of Greenwood Hills Subdivision as recorded in Plat Book 27,
Page 23 of the said Guilford County Register of Deeds, thence with a North line
of Greenwood Hills, South 80 degrees 33 minutes 42 seconds West, 339.23 feet to
a point, thence continuing with said North line, North 85 degrees 56 minutes 58
seconds West, 687.00 feet to a point, said point being the Southeast corner of
the property of Mary Lee Hedgecock, thence along Hedgecock's Eastern line, North
14 degrees 11 minutes 07 seconds West, 534.35 feet to a point in the Southern
right of way line of Hartley Avenue, Hedgecock's Northeast corner, thence along
the Southern line of Hartley Avenue, in a Northeasterly direction with a curve
to the left an arc distance of 600.00 feet to a point in said right of way,
thence continuing with said Hartley Avenue, North 56 degrees 25 minutes 20
seconds East, 84.21 feet to the point and place of beginning.
Being all of Lot "A" of the Fox Hollow, Ltd., Subdivision, Plat of which is duly
recorded in Plat Book 77 at Page 133, in the Office of the Register of Deeds for
Guilford County, North Carolina.
3. MISTY SPRINGS, LEGALLY DESCRIBED AS FOLLOWS:
Lot 3, Schalekamp West PUD, Phase II, as per map in Map Book 41, page 94 of the
Public Records of Volusia County, Florida.
18
<PAGE>
EXHIBIT 12.01
RATIO OF EARNINGS TO FIXED CHARGES
CAPITAL SOURCE L.P.
<TABLE>
<CAPTION>
Six Months Year Year Year Year Year
Ended Ended Ended Ended Ended Ended
June 30, 1998 Dec. 31, 1997 Dec. 31, 1996 Dec. 31, 1995 Dec. 31, 1994 Dec. 31, 1993
------------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Net income 1,486,796 3,051,221 3,187,307 3,472,057 3,464,875 3,234,840
Interest -- -- -- -- -- --
--------- --------- --------- --------- --------- ---------
1,486,796 3,051,221 3,187,307 3,472,057 3,464,875 3,234,840
--------- --------- --------- --------- --------- ---------
--------- --------- --------- --------- --------- ---------
Ratio** N/A N/A N/A N/A N/A N/A
</TABLE>
** Pretax income plus interest/interest
(Pretax income=net income)
CAPITAL SOURCE II L.P.-A
<TABLE>
<CAPTION>
Six Months Year Year Year Year Year
Ended Ended Ended Ended Ended Ended
June 30, 1998 Dec. 31, 1997 Dec. 31, 1996 Dec. 31, 1995 Dec. 31, 1994 Dec. 31, 1993
------------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Net income 582,858 1,654,005 2,123,037 2,173,096 2,021,288 2,255,564
Interest -- -- -- -- -- --
--------- --------- --------- --------- --------- ---------
582,858 1,654,005 2,123,037 2,173,096 2,021,288 2,255,564
--------- --------- --------- --------- --------- ---------
--------- --------- --------- --------- --------- ---------
Ratio** N/A N/A N/A N/A N/A N/A
</TABLE>
** Pretax income plus interest/interest
(Pretax income=net income)
<PAGE>
EXHIBIT 23.01
INDEPENDENT ACCOUNTANTS' CONSENT
To the Board of Directors:
America First Real Estate Investment Company, Inc.:
We consent to the use of our report included herein and to the references to our
firm under the headings "Independent Public Accountants" and "Selected Financial
Data of the Partnerships" in the registration statement.
KPMG Peat Marwick LLP
/s/ KPMG Peat Marwick LLP
Omaha, Nebraska
November 3, 1998
<PAGE>
INDEPENDENT ACCOUNTANTS' CONSENT
To the Partners:
Capital Source L.P.:
We consent to the use of our reports included herein and to the references to
our firm under the headings "Independent Public Accountants" and "Selected
Financial Data of the Partnerships" in the registration statement.
Our report dated October 23, 1998 contains an explanatory paragraph that states
the financial statements of Capital Source L.P. have been restated to reflect
investments made by Capital Source L.P. in Operating Partnerships on the equity
method of accounting. Such investments had previously been consolidated by
Capital Source L.P.
KPMG Peat Marwick LLP
/s/ KPMG Peat Marwick LLP
Omaha, Nebraska
November 3, 1998
<PAGE>
INDEPENDENT ACCOUNTANTS' CONSENT
To the Partners:
Capital Source II L.P.-A:
We consent to the use of our reports included herein and to the references to
our firm under the headings "Independent Public Accountants" and "Selected
Financial Data of the Partnerships" in the registration statement.
Our report dated October 23, 1998 contains an explanatory paragraph that states
the financial statements of Capital Source II L.P.-A have been restated to
reflect investments made by Capital Source II L.P.-A in Operating Partnerships
on the equity method of accounting. Such investments had previously been
consolidated by Capital Source II L.P.-A.
KPMG Peat Marwick LLP
/s/ KPMG Peat Marwick LLP
Omaha, Nebraska
November 3, 1998
<PAGE>
CONSENT OF SUTRO & CO., INC.
We hereby consent to the use of our Fairness Opinion and our Bringdown
Fairness Opinion included in this Pre-Effective Amendment No. 2 to the
Registration Statement and related Prospectus/Consent Solicitation Statement,
and we further consent to all references to our firm under the headings
"FAIRNESS OPINION AND APPRAISALS" in the Prospectus/Consent Solicitation
Statement, and to the use of our name wherever appearing in this Pre-Effective
Amendment No. 2 to the Registration Statement and the related Prospectus/Consent
Solicitation Statement.
Dated: November 3, 1998 SUTRO & CO., INC.
/s/ Sutro & Co., Inc.
------------------------
<PAGE>
Exhibit 23.05
CONSENT OF ELIZABETH L. JARVIS
I hereby consent to the use of my name under the heading "MANAGEMENT OF THE
COMPANY" in the Prospectus/Consent Solicitation Statement which is a part of
this Registration Statement, and to the use of my name wherever appearing in
this Registration Statement and related Prospectus/Consent Solicitation
Statement, and any amendments thereto.
Dated: July 29, 1998.
/s/ Elizabeth L. Jarvis
----------------------------
Elizabeth L. Jarvis
<PAGE>
Exhibit 23.06
CONSENT OF JOHN P. MILLER
I hereby consent to the use of my name under the heading "MANAGEMENT OF THE
COMPANY" in the Prospectus/Consent Solicitation Statement which is a part of
this Registration Statement, and to the use of my name wherever appearing in
this Registration Statement and related Prospectus/Consent Solicitation
Statement, and any amendments thereto.
Dated: July 30, 1998.
/s/ John P. Miller
----------------------------
John P. Miller
2
<PAGE>
Exhibit 23.07
CONSENT OF STEVEN W. SELINE
I hereby consent to the use of my name under the heading "MANAGEMENT OF THE
COMPANY" in the Prospectus/Consent Solicitation Statement which is a part of
this Registration Statement, and to the use of my name wherever appearing in
this Registration Statement and related Prospectus/Consent Solicitation
Statement, and any amendments thereto.
Dated: August 4, 1998.
/s/ Steven W. Seline
----------------------------
Steven W. Seline
3
<PAGE>
Exhibit 23.08
CONSENT OF ROBERT E. VAN METRE
I hereby consent to the use of my name under the heading "MANAGEMENT OF THE
COMPANY" in the Prospectus/Consent Solicitation Statement which is a part of
this Registration Statement, and to the use of my name wherever appearing in
this Registration Statement and related Prospectus/Consent Solicitation
Statement, and any amendments thereto.
Dated: July 28, 1998.
/s/ Robert E. Van Metre
------------------------------
Robert E. Van Metre
4
<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------
FORM T-1
Statement of Eligibility and Qualification under the
Trust Indenture Act of 1939, as amended by
Trust Indenture Reform Act of 1990 ("TIRA") of a Corporation
Designated to Act as Trustee
--------------------
U.S. BANK TRUST NATIONAL ASSOCIATION
(Exact name of trustee as specified in its charter)
41-0417860
(I.R.S. employer Identification No.)
180 E. FIFTH STREET
ST. PAUL, MINNESOTA 55101
(Address of principal executive offices and zip code)
--------------------
AMERICA FIRST REAL ESTATE INVESTMENT COMPANY, INC.
(Exact name of obligor as specified in its charter)
DELAWARE 47-0810842
(State or other jurisdiction of (I.R.S. employer
Incorporation or organization) Identification No.)
SUITE 400
1004 FARNAM STREET
OMAHA, NEBRASKA 68102
(Address of principal executive offices) (Zip code)
--------------------
VARIABLE RATE JUNIOR NOTES AND PROMISSORY NOTES
(Title of the indenture securities)
<PAGE>
GENERAL
1. GENERAL INFORMATION Furnish the following information as to the trustee.
(a) Name and address of each examining or supervising authority to which
it is subject.
Comptroller of the Currency
Washington D.C.
(b) Whether it is authorized to exercise corporate trust powers.
Yes
2. AFFILIATIONS WITH OBLIGOR AND UNDERWRITERS If the obligor or any
underwriter for the obligor is an affiliate of the trustee, describe each
such affiliation.
None
See Note following Item 16.
ITEMS 3-15 ARE NOT APPLICABLE BECAUSE TO THE BEST OF THE TRUSTEE'S
KNOWLEDGE THE OBLIGOR IS NOT IN DEFAULT UNDER ANY INDENTURE FOR WHICH THE
TRUSTEE ACTS AS TRUSTEE.
16. LIST OF EXHIBITS List below all exhibits filed as a part of this statement
of eligibility and qualification.
1. Copy of Articles of Association *
2. Copy of Certificate of Authority to Commence Business *
3. Copy of Trust Permit authorizing the exercise of corporate trust
powers *
4. Copy of existing By-Laws *
5. Copy of each Indenture referred to in item 4. - N/A
6. The consents of the trustee required by Section 321(b) of the Act
7. Copy of the latest report of condition of the trustee published
pursuant to law or the requirements of its supervising or examining
authority **
* Incorporated by reference to the exhibit of the same number filed with
the registration statement number 22-27000.
** Incorporated by reference to the exhibit of the same number filed with
the registration statement number 333-53211.
<PAGE>
NOTE
The answers to this statement insofar as such answers relate to what persons
have been underwriters for any securities of the obligor within three years
prior to the date of filing this statement, or what persons are owners of 10%
or more of the voting securities of the obligor, or affiliates, are based
upon information furnished to the trustee by the obligor. While the trustee
has no reason to doubt the accuracy of any such information, it cannot accept
any responsibility therefor.
SIGNATURE
Pursuant to the requirements of the TIRA, the Trustee, U.S. Bank Trust
National Association, an Association organized and existing under the laws of
the United States, has duly caused this statement of eligibility and
qualification to be signed on its behalf by the undersigned, thereunto duly
authorized and attested, all in the City of Denver and State of Colorado on
the 14th day of September, 1998.
U.S. BANK TRUST
NATIONAL ASSOCIATION
/s/ Colleen A. Carwin
-------------------------
Colleen A. Carwin
Trust Officer
/s/ Patricia M. Peters
- -----------------------------
Patricia M. Peters
Assistant Secretary
<PAGE>
EXHIBIT 6
C O N S E N T
In accordance with Section 321(b) of the TIRA, the undersigned, U.S. Bank
Trust National Association, hereby consents that reports of examination of
the undersigned by Federal, State, Territorial or District authorities may be
furnished by such authorities to the Securities and Exchange Commission upon
its request therefor.
Dated: September 14, 1998
U.S. BANK TRUST
NATIONAL ASSOCIATION
/s/ Colleen A. Carwin
-------------------------
Colleen A. Carwin
Trust Officer
<PAGE>
99.03 Form of Consent Card for Cap Source I and Cap Source II.
<PAGE>
<TABLE>
<S> <C> <C>
MAILING LABEL CONSENT FRONT SIDE
[Includes name of
Partnership]
</TABLE>
THIS CONSENT IS SOLICITED ON BEHALF OF THE GENERAL PARTNERS OF [CAPITAL
SOURCE, L.P.][CAPITAL SOURCE II, L.P.-A]
Reference is made to the Prospectus/Consent Solicitation Statement dated
, 1998, sent with this Consent Card relating to the proposed
consolidation by merger (the "Transaction") of Capital Source L.P. and
Capital Source II, L.P-A (the "Partnerships") and the general partners of the
Partnerships with and into America First Real Estate Investment Company,
Inc., a Delaware corporation (the "Company"). The undersigned hereby directs
the Initial Limited Partner to vote as set forth below with respect to all
Partnership Units which the undersigned may be entitled to vote. Please put
an "X" in the appropriate box to vote "YES" in favor of the Transaction, "NO"
against the Transaction or to "ABSTAIN" from voting.
/ / "YES" I approve of my Partnership's participation in the Transaction.
/ / "NO" I do not approve of my Partnership's participation in the
Transaction.
/ / I wish to "ABSTAIN" from voting.
<TABLE>
<S> <C>
- ------------------------------------------------------------------ ---------------------------------------------------------------
Signature of Investor Signature of Co-Owner (if any)
Dated: ------------------------------------------------------------ Dated: --------------------------------------------------------
</TABLE>
PLEASE DATE; SIGN EXACTLY AS YOUR NAME APPEARS ON THE MAILING LABEL, UNLESS
YOUR NAME IS PRINTED INCORRECTLY; AND MAIL THIS CONSENT CARD IN THE ENVELOPE
PROVIDED. NO POSTAGE IS REQUIRED IF MAILED IN THE UNITED STATES.
THIS CONSENT WHEN PROPERLY EXECUTED, WILL BE VOTED BY THE LIMITED PARTNER IN
THE MANNER DIRECTED HEREIN BY THE UNDERSIGNED. IF NO DIRECTION IS MADE, THIS
CONSENT WILL BE VOTED FOR THE MERGER.
(Continued on reverse side)
<PAGE>
REVERSE SIDE
INVESTORS WILL RECEIVE COMMON STOCK OF THE COMPANY UNLESS THE FOLLOWING ELECTION
IS MARKED:
/ / I wish to receive Variable Rate Junior Notes of the Company as
described in the Prospectus/Consent Solicitation Statement.
If you sign and return this Consent Card without indicating a vote, you
will be deemed to have voted "YES" in favor of the Transaction and you will
receive Common Stock of the Company if the Transaction is consummated.
A Consent Card voted "NO" will not be used to vote for adjournment of the
meeting to solicit more votes pursuant to discretionary authority.
By signing this Consent Card, you hereby acknowledge receipt of the
Prospectus/Consent Solicitation Statement dated , 1998 and
furnished herewith.
IF YOU HAVE ANY QUESTIONS OR NEED ASSISTANCE IN COMPLETING THE CONSENT CARD,
PLEASE CALL AMERICA FIRST INVESTOR SERVICES DEPARTMENT, TOLL-FREE AT (800)
239-8787, AND SELECT OPTION 2.
PLEASE MARK, SIGN, DATE AND RETURN THIS CONSENT CARD USING THE ENCLOSED ENVELOPE
SO THAT IT ARRIVES NO LATER THAN 5:00 P.M. EASTERN TIME ON , 1998.
<PAGE>
CAPITAL SOURCE L.P. AND
CAPITAL SOURCE II L.P. -A
BOARD PRESENTATION
MARCH 5, 1998
SUTRO & CO. INCORPORATED
Investment Banking Department
11150 Santa Monica Boulevard
Suite 1500
Los Angeles, CA 90025
Main Tel.: (310) 914-7799
Main Fax: (310) 477-6060
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. -A
Table of Contents
-----------------
1. Exchange Value and Exchange Value Percentage Allocation Analysis
- Review of Valuation Research Appraisal Data
- Liquidation versus Going Concern Values
- Projected 1998 Property Level Income Statements
- Exchange 1998 GAAP C Corp Income Statement
- Exchange Values and Exchange Value Percentage Allocations
2. C Corp Common Stock Proforma Estimated Trading Valuation
- Proforma Estimated Initial Trading Valuation
- Proforma Estimated Future Trading Valuations
3. Peer Groups
- Real Estate Development C Corporations
- Multi-family Equity REITs
4. Analysis of Proposed Management Contract
- Historical versus Projected G&A Expenses
<PAGE>
EXCHANGE VALUE AND EXCHANGE VALUE
PERCENTAGE ALLOCATION ANALYSIS
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- -----------------------------------------------------------------------------------------------------------------------------------
SUMMARY APPRAISAL DATA AS PROVIDED BY VALUATION RESEARCH
9/30/97 9/30/97 Appraisal Appraisal Appraisal Appraisal Appraisal Appraisal
Low High 1997 Capped Direct 1998 Residual DCF Discount
Property Appraisal Appraisal NOI NOI Cap Rate Est NOI Cap Rate Rate
- -------- --------- --------- --- --- -------- ------- -------- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Bluff Ridge $3,250,000 $3,700,000 $410,840 $352,610 9.50% $335,488 10.00% 12.00%
Waterman's 11,700,000 12,500,000 1,238,690 1,145,700 9.25% 1,159,099 9.50% 11.00%
Misty 4,500,000 5,000,000 461,433 393,090 9.00% 420,274 9.50% 11.25%
Water's Edge 5,700,000 6,500,000 565,520 568,640 9.25% 592,338 10.00% 11.50%
Highland 11,000,000 11,350,000 1,036,996 996,580 9.00% 1,025,880 10.00% 11.50%
Fox Hollow 6,770,000 7,550,000 753,016 678,400 9.50% 705,726 10.50% 12.00%
Pond's 7,250,000 7,375,000 792,413 700,630 9.50% 713,563 10.00% 12.00%
Crane's 12,500,000 13,000,000 1,220,195 1,150,810 9.00% 1,198,290 10.00% 11.25%
Delta 7,500,000 8,300,000 767,261 747,750 9.75% 759,925 10.00% 12.00%
Monticello 5,500,000 6,000,000 607,859 589,950 9.75% 579,001 10.50% 12.00%
----------- ----------- ---------- ---------- ----------
Total $75,670,000 $81,275,000 $7,854,223 $7,324,160 $7,489,584
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- ------------------------------------------------------------------------------------------------------------------------------
LIMITED PARTNERSHIP PROFORMA EQUITY LIQUIDATION VALUES FOR CAPITAL SOURCE L.P. (NO DISCOUNT ON EQUITY/NO PREMIUM ON MORTGAGES)
9/30/97 9/30/97 Est. Mortgage
Control of Low High Balance
Property GP (Y/N) Appraisal Appraisal at 12/31/97
- -------- -------- --------- --------- -----------
<S> <C> <C> <C> <C>
Bluff Ridge N $3,250,000 $3,700,000 $3,510,035
Waterman's Y 11,700,000 12,500,000 10,927,186
Misty Spring Y 4,500,000 5,000,000 4,271,964
Water's Edge N 5,700,000 6,500,000 5,066,536
Highland N 11,000,000 11,350,000 9,001,010
Fox Hollow Y 6,770,000 7,550,000 6,316,733
Pond's N 2,196,533 2,234,404 2,211,296
---------- ---------- ----------
Total $45,116,533 $48,834,404 $41,304,760
Low High
Low High Payable to Payable to Low High Going
Appraised Appraised GP from Sale GP from Sale Net Sales Net Sales Concern
Property Equity Equity Proceeds Proceeds Proceeds Proceeds Value
- -------- ------ ------ -------- -------- -------- -------- -----
<S> <C> <C> <C> <C> <C> <C> <C>
Bluff Ridge $0 $189,965 $0 $0 $0 $78,965
Waterman's 772,814 1,572,814 0 0 421,814 1,197,814
Misty Spring 228,036 728,036 224,450 224,450 0 353,586
Water's Edge 633,464 1,433,464 0 300,075 462,464 1,238,464
Highland 1,998,990 2,348,990 216,110 216,110 1,452,880 1,792,380
Fox Hollow 453,267 1,233,267 0 0 250,167 1,006,767
Pond's (14,764) 23,108 0 0 (80,659) (43,924)
---------- ---------- ---------- ---------- ---------- ----------
Total $4,071,808 $7,529,644 $440,560 $740,635 $2,506,666 $5,624,052
</TABLE>
<TABLE>
<S> <C> <C> <C>
Mortgage Balances at 12/31/97 $34,988,027 $34,988,027
Cash at 9/30/97 10,412,534 10,412,534
Investments at 9/30/97 1,145,376 1,145,376
Estimated Closing Costs (500,000) (500,000)
Partnership GP's 1% (485,526) (516,700)
---------- -----------
Proforma Liquidation Value $48,067,076 $51,153,289 $50,421,209
Per Unit $14.25 $15.16 $14.94
Per $1,000 $712.27 $758.00 $747.15
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ---------------------------------------------------------------------------------------------------------------------------------
LIMITED PARTNERSHIP PROFORMA EQUITY LIQUIDATION VALUES FOR CAPITAL SOURCE II L.P. - A (NO DISCOUNT ON EQUITY/NO PREMIUM ON
MORTGAGES)
9/30/97 9/30/97 Est. Mortgage Low High
Control of Low High Balance Appraised Appraised
Property GP (Y/N) Appraisal Appraisal at 12/31/97 Equity Equity
- -------- -------- --------- --------- ----------- ------ ------
<S> <C> <C> <C> <C> <C> <C>
Crane's N $12,500,000 $13,000,000 $10,229,304 $2,270,696 $2,770,696
Delta N 7,500,000 8,300,000 6,538,424 961,576 1,761,576
Monticello N 5,500,000 6,000,000 5,328,430 171,570 671,570
Pond's N 5,053,468 5,140,596 5,015,386 38,082 125,210
---------- ---------- ---------- ---------- ----------
Total $30,553,468 $32,440,596 $27,111,544 $3,441,924 $5,329,052
<CAPTION>
Low High
Payable to Payable to Low High Going
GP from Sale GP from Sale Net Sales Net Sales Concern
Property Proceeds Proceeds Proceeds Proceeds Value
- -------- -------- -------- -------- -------- -----
<S> <C> <C> <C> <C> <C>
Crane's $128,317 $128,317 $1,767,379 $2,252,379
Delta 0 296,045 736,576 1,512,576
Monticello 0 0 6,570 491,570
Pond's 0 0 (113,523) (29,008)
---------- ---------- ---------- ----------
Total $128,317 $424,362 $2,397,002 $4,227,517
</TABLE>
<TABLE>
<S> <C> <C> <C>
Mortgage Balances at 12/31/97 $27,111,544 $27,111,544
Cash at 9/30/97 1,513,962 1,513,962
Investments at 9/30/97 1,085,151 1,085,151
Estimated Closing Costs (500,000) (500,000)
Partnership GP's 1% (316,077) (334,382)
---------- ----------
Proforma Liquidation Value $31,291,583 $33,103,793 $29,863,509
Per Unit $7.80 $8.25 $7.45
Per $1,000 $390.06 $412.65 $372.26
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ---------------------------------------------------------------------------------------------------------------
COMBINED LIMITED PARTNERSHIP PROFORMA EQUITY LIQUIDATION VALUES (NO DISCOUNT ON EQUITY / NO PREMIUM ON MORTGAGES)
9/30/97 9/30/97 Est. Mortgage Low High
Low High Balance Appraised Appraised
Property Appraisal Appraisal at 12/31/97 Equity Equity
- -------- --------- --------- ----------- ------ ------
<S> <C> <C> <C> <C> <C>
Combined $75,670,000 $81,275,000 $68,416,304 $7,513,731 $12,858,696
<CAPTION>
Low High
Payable to Payable to Low High Going
GP from Sale GP from Sale Net Sales Net Sales Concern
Property Proceeds Proceeds Proceeds Proceeds Value
- -------- -------- -------- -------- -------- -----
<S> <C> <C> <C> <C> <C>
Combined $568,877 $1,164,997 $79,358,659 $84,257,081 $80,284,718
</TABLE>
<TABLE>
<S> <C> <C> <C>
Mortgage Balances at 12/31/97 $62,099,571 $62,099,571 $62,099,571
Gross Proceeds for Equity 4,903,668 9,851,569 5,839,081
Cash at 9/30/97 11,926,496 11,926,496 11,926,496
Investments at 9/30/97 2,230,527 2,230,527 2,230,527
Estimated Closing Costs (1,801,603) (1,851,082) (1,810,957)
---------- ---------- ----------
Total $79,358,659 $84,257,081 $80,284,718
Net Valuation of Equity $3,102,065 $8,000,487 $4,028,124
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ------------------------------------------------------------------------------------------------------------------------------------
PROJECTED 1998 PROPERTY LEVEL CASH FLOW STATEMENTS AS PROVIDED BY MANAGEMENT AND VALUATION RESEARCH
CAPITAL SOURCE L.P.
Bluff Ridge Waterman's Misty Water's Edge Ponds Highland Fox Hollow
----------- ---------- ----- ------------ ----- -------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Income $725,315 $1,981,655 $832,308 $1,081,383 $439,550 $1,725,997 $1,329,195
Operating Expenses 343,927 712,056 357,634 443,144 206,161 593,017 545,269
------- ------- ------- ------- ------- ------- -------
NOI before Capital Improvements 381,388 1,269,599 474,674 638,239 233,388 1,132,980 783,926
Capital Improvements 45,900 110,500 54,400 45,900 17,250 107,100 78,200
------ ------- ------ ------ ------ ------- ------
Cash Flow before Debt Service 335,488 1,159,099 420,274 592,339 216,138 1,025,880 705,726
Debt Service 327,744 1,142,221 397,369 472,646 210,030 843,667 599,364
Loan Service and Guarantee 21,180 98,615 43,619 38,914 22,815 36,689 0
------ ------ ------ ------ ------ ------ -
Cash Flow after Debt Service ($13,436) ($81,737) ($20,714) $80,779 ($16,707) $145,524 $106,362
1998 Interest Expense $308,678 $1,117,583 $383,451 $454,712 $204,053 $789,757 $558,010
Income to Equity 26,810 41,516 36,823 137,627 12,085 236,123 147,716
<CAPTION>
CAPITAL SOURCE II L.P. - A
Ponds Crane's Delta Monticello Total
----- ------- ----- ---------- -----
<S> <C> <C> <C> <C> <C>
Income $1,021,855 $2,018,923 $1,395,919 $966,064 $13,518,164
Operating Expenses 476,941 713,533 560,344 342,013 5,294,039
------- ------- ------- ------- ---------
NOI before Capital Improvements 544,914 1,305,390 835,575 624,051 8,224,124
Capital Improvements 40,298 107,100 75,650 45,050 727,349
------ ------- ------ ------ -------
Cash Flow before Debt Service 504,616 1,198,290 759,925 579,001 7,496,776
Debt Service 476,364 944,014 625,854 494,496 6,533,770
Loan Service and Guarantee 51,747 87,866 10,146 54,288 465,878
------ ------ ------ ------ -------
Cash Flow after Debt Service ($23,495) $166,410 $123,925 $30,217 $497,128
1998 Interest Expense $462,807 $918,507 $600,184 $478,329 $6,276,071
Income to Equity 41,809 279,783 159,741 100,672 1,220,705
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ------------------------------------------------------------------------------------------------------------------------------------
PROJECTED 1998 GAAP INCOME STATEMENT (C CORP) AS PROVIDED BY MANAGEMENT AND VALUATION RESEARCH
Consolidated Parent Company Only
1998 Budget 1998 Budget
----------- -----------
<S> <C> <S> <C>
Real Estate Income $13,518,164 Interest Income on Mortgages $5,718,061
Real Estate Operating Expenses (5,294,039) Income on Equity in Partnerships 1,220,705
Capital Improvements (727,349) Interest Income on Investments 743,333
-------
Interest Income on Investments 743,333 Sub-total Revenues 7,682,099
Loan Service and Guarantee (465,878)
Mgmt Fees and Expenses (813,300) Mgmt Fees and Corp. Expenses (813,300)
---------
EBITDA 6,960,931 Loan Service and Guarantee (465,878)
Est.(1) Amortization (248,000)
Interest Expense (558,010) Est.(1) Depreciation (1,562,800)
-----------
Est.(1) Amortization (248,000) Sub-total Expenses (3,089,978)
---------
Traditional FFO 6,154,921
Pre-tax Income 4,592,121
Est.(1) Depreciation (1,562,800) Federal Taxes (1,561,321)
----------- -----------
Pre-tax Income 4,592,121 Net Income $3,030,800
Federal Taxes (1,561,321)
-----------
Net Income $3,030,800
</TABLE>
(1) Based on annualizing the September 30, 1997 quarter data for Capital Source
L.P. and Capital Source II L.P. - A.
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ---------------------------------------------------------------------------------------------------------------------------
EXCHANGE VALUE PERCENTAGE ALLOCATION
GOING CONCERN VALUATION EST. 1998 CONTRIBUTION TO C CORP PRE-TAX INCOME
- ----------------------- -----------------------------------------------
Total Value
Cap Source I Cap Source II excluding GPs Cap Source I Cap Source II
------------ ------------- ------------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
LP Value $50,421,209 $29,863,510 $80,284,718 Pre-tax Income $2,735,932 $1,856,188
Per LP Unit 14.94 7.45
Per $1,000 747.15 372.26 PERCENTAGE 59.6% 40.4%
PERCENTAGE 62.8% 37.2%
<CAPTION>
LOW MARKED TO MARKET BOOK EQUITY HIGH MARKED TO MARKET BOOK EQUITY
- -------------------------------- ---------------------------------
Total Value Total Value
Cap Source I Cap Source II excluding GP's Cap Source I Cap Source II excluding GPs
------------ ------------- -------------- ------------ ------------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
LP Value $49,675,413 $32,694,021 $82,369,434 LP Value $52,801,596 $34,269,194 $87,070,790
Per LP Unit $14.72 $8.15 Per LP Unit $15.65 $8.54
Per $1,000 $736.10 $407.54 Per $1,000 $782.43 $427.18
PERCENTAGE 60.3% 39.7% PERCENTAGE 60.6% 39.4%
<CAPTION>
LOW LIQUIDATION VALUE HIGH LIQUIDATION VALUE
- --------------------- ----------------------
Total Value Total Value
Cap Source I Cap Source II excluding GPs Cap Source I Cap Source II excluding GPs
------------ ------------- ------------- ------------ ------------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
LP Value $48,067,076 $31,291,583 $79,358,659 LP Value $51,153,289 $33,103,793 $84,257,081
Per LP Unit $14.25 $7.80 Per LP Unit $15.16 $8.25
Per $1,000 $712.27 $390.06 Per $1,000 $758.00 $412.65
PERCENTAGE 60.6% 39.4% PERCENTAGE 60.7% 39.3%
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ---------------------------------------------------------------------------------------------------------------------------
PROPOSED COMMON STOCK SHARE ALLOCATION / EXCHANGE RATIO
<S> <C>
Value assigned to C Corp Equity(1) $83,875,825
Shares Issue Price $25.00
Shares Issued 3,355,033
<CAPTION>
Shares As a % of LPs As a % of Total
------ ------------- ---------------
<S> <C> <C> <C>
Issued to Capital Source L.P. 2,015,574 60.7%
Issued to Capital Source II L.P.-A 1,305,909 39.3%
--------- --------
Sub-total Issued to Limited Partners 3,321,483 100.0% 99.0%
Issued to General Partner 33,550 1.0%
--------- ------
Total Shares Issued 3,355,033 100.0%
EXCHANGE RATIO
CAP SOURCE I CAP SOURCE II
------------ -------------
Exchange Ratio (shares per LP unit) 0.5973 0.3256
Proforma Share Value received per LP Unit $14.93 $8.14
Proforma Share Value received per $1,000 $746.68 $406.97
</TABLE>
(1) Based on midpoint of marked to market valuation of book equity.
<PAGE>
C CORP COMMON STOCK PROFORMA
ESTIMATED TRADING VALUATION
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ----------------------------------------------------------------------------------------------------------
PROFORMA LOW ESTIMATED INITIAL TRADING VALUATION AT 9/30/97
Basket A Basket B Basket C
Real Estate Mortgages Cash and
Equity at 12/31/97 Investments Total(1)
------ ----------- ----------- -------
<S> <C> <C> <C> <C>
Pricing Methodology FFO Multiple 100% of Face 100% of Face
Par or Appraised Value $9,058,393 $62,099,571 $14,157,023 $84,009,987
Estimated FFO 1,132,299 4,413,865 608,757 6,154,921
Allocated G&A(2) (88,406) (590,318) (134,576) (813,300)
Value/FFO 8.0x 14.1x 23.3x 13.6x
Value/Book value na 1.0x 1.0x na
Value/Revenues 5.9x
</TABLE>
(1) Net of $1.3 million in cash used for the formation costs of the C Corp.
(2) Allocated based on Face or Appraised Value.
<TABLE>
<CAPTION>
At Low Initial Est. Trading Value
--------------------------------------
Cap Source I Cap Source II
Limited Partners Limited Partners
---------------- ----------------
<S> <C> <C>
Per Share Value $25.04 $25.04
Per LP Unit $14.96 $8.15
Per $1,000 $747.88 $407.62
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- -------------------------------------------------------------------------------------------
PROFORMA HIGH ESTIMATED INITIAL TRADING VALUATION AT 9/30/97
Basket A Basket B Basket C
Real Estate Mortgages Cash and
Equity at 12/31/97 Investments Total(1)
------ ----------- ----------- -------
<S> <C> <C> <C> <C>
Pricing Methodology FFO Multiple 100% of Face 100% of Face
Par or Appraised Value $11,322,991 $62,099,571 $14,157,023 $86,274,585
Estimated FFO 1,132,299 4,413,865 608,757 6,154,921
Allocated G&A(2) (88,406) (590,318) (134,576) (813,300)
Value/FFO 10.0x 14.1x 23.3x 13.6x
Value/Book value na 1.0x 1.0x na
Value/Revenues 6.0x
</TABLE>
(1) Net of $1.3 million in cash used for the formation costs of the C Corp.
(2) Allocated based on Face or Appraised Value.
<TABLE>
<CAPTION>
At High Inital Est. Trading Value
--------------------------------------
Cap Source I Cap Source II
Limited Partners Limited Partners
---------------- ----------------
<S> <C> <C>
Per Share Value $25.71 $25.71
Per LP Unit $15.36 $8.37
Per $1,000 $768.04 $418.61
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- -----------------------------------------------------------------------------------------------------------------------------------
ESTIMATED PROFORMA FUTURE VALUATIONS BASED ON BOOK AND EBITDA MULTIPLES
Start Up Years Years where Development Projects are Sold
--------------------------------- ---------------------------------------------------
1999 2000 2001 2002 2003
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
VALUATION USING PRICE / BOOK MULTIPLES
Proforma Book Value $80,066,669 $82,480,916 $110,009,551 $136,922,515 $164,306,632
Per Share $23.86 $24.58 $32.79 $40.81 $48.97
Value at 1.0X Book 80,066,669 82,480,916 110,009,551 136,922,515 164,306,632
Value at 1.5X Book 120,100,003 123,721,374 165,014,327 205,383,772 246,459,948
VALUATION USING EBITDA MARKET VALUE MULTIPLES
Value at 4.9x EBITDA $57,139,725 $105,096,677 $252,383,918 $265,798,899 $222,668,113
Per Share $17.03 $31.33 $75.23 $79.22 $66.37
PV AT 12% DISCOUNT 51,017,612 83,782,428 179,641,888 168,920,006 126,347,867
PV at 12% Discount - 1 Year Delay na 45,551,439 74,805,739 160,394,543 150,821,434
PV at 12% Discount - 2 Year Delay na na 40,670,928 66,790,838 143,209,413
Value at 5.7x EBITDA $66,468,660 $122,255,318 $293,589,456 $309,194,638 $259,022,091
Per Share $19.81 $36.44 $87.51 $92.16 $77.20
PV AT 12% DISCOUNT 59,347,018 97,461,191 208,971,176 196,498,782 146,976,091
PV at 12% Discount - 1 Year Delay na 52,988,409 87,018,921 186,581,407 175,445,341
PV at 12% Discount - 2 Year Delay na na 47,311,079 77,695,465 166,590,542
Price / Book at 4.9x EBITDA na 1.3x 2.3x 1.9x 1.4x
Price / Book at 5.7x EBITDA na 1.5x 2.7x 2.3x 1.6x
</TABLE>
<PAGE>
PEER GROUPS
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- -----------------------------------------------------------------------------------------------------------------------------------
COMPARATIVE VALUE ANALYSIS -- MULTIPLES ANALYSIS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE) MARKET VALUE AS A
MULTIPLE (C) OF
-------------------------------------------
Stock Price Market(A) Enterprise(B) LTM LTM LTM Book
Company FYE 3/1/98 Value Value Revenues EBITDA EBIT Value
- ------- --- ------ ----- ----- -------- ------ ---- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BLUEGREEN CORP Mar $4.81 $97.4 $186.0 0.7x 6.9x 7.6x 1.5x
BRESLER & REINER Dec 22.63 63.2 52.6 2.0x 4.0x 4.7x 0.9x
ECHELON INTL Dec 21.81 148.0 160.7 3.4x 9.2x 14.9x 0.7x
HALLWOOD REALTY Dec 51.63 86.4 249.7 1.6x 3.4x 7.1x 2.7x
LEXFORD Dec 38.25 154.2 287.3 2.2x 4.9x 6.1x 2.2x
<CAPTION>
SELECTED COMPANIES ABOVE
-------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Average 2.0x 5.7x 8.1x 1.6x
Median 2.0x 4.9x 7.1x 1.5x
High 3.4x 9.2x 14.9x 2.7x
Low 0.7x 3.4x 4.7x 0.7x
-------------------------------------------
American RE Ptrs Dec $11.06 $511.1 $265.4 7.7x 9.8x 11.0x 0.6x
Avatar Holdings Dec 24.25 220.6 357.1 1.4x 11.5x 25.9x 1.4x
Catellus Dec 18.38 1,957.0 2,503.3 12.1x 17.1x 24.8x 4.4x
Forest City Jan 55.13 826.3 2,859.2 1.4x 3.6x 5.2x 3.0x
LNR Property Nov 26.81 976.0 1,336.9 6.3x 13.2x 14.3x 2.5x
Wellsford Real Properties(D) Dec 14.50 245.2 257.7 19.1x 31.6x 34.9x 1.4x
Capital Trust(D) Dec 9.75 89.1 150.8 NM NM NM 1.6x
<CAPTION>
ALL COMPANIES
-------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Average 3.9x 8.4x 12.2x 1.9x
Median 2.1x 8.1x 9.3x 1.6x
High 12.1x 17.1x 25.9x 4.4x
Low 0.7x 3.4x 4.7x 0.6x
-------------------------------------------
</TABLE>
(A) Market Value of equity equals market price per share multiplied by the
number of shares outstanding. Market Value of equity as of 3/1/98.
(B) Enterprise Value equals Market Value of equity plus book value of preferred
stock plus book value of total debt (net of cash and marketable securities).
(C) Market Value is used to derive Book Value Multiple. Price is used for the
PE multiples. LTM EPS = Sum of previous 4 quarters EPS before extraordinary
expense as reported. FY+1 EPS is the average EPS projection 1 fiscal year
forward, FY+2 EPS is the average EPS projection 2 fiscal years forward.
(D) Not included in "All Companies" analysis except for market value as a
multiple of book value.
EARNINGS ESTIMATES SOURCE: FIRST CALL; I/B/E/S; NELSON PUBLICATIONS
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- -----------------------------------------------------------------------------------------------------------------------------------
COMPARATIVE VALUE ANALYSIS - MULTIPLES ANALYSIS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE) ENTERPRISE VALUE AS A
MULTIPLE (C) OF
-------------------------------------------
Stock Price Market(A) Enterprise(B) LTM LTM LTM Book
Company FYE 3/1/98 Value Value Revenues EBITDA EBIT Value
- ------- --- ------ ----- ----- -------- ------ ---- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BLUEGREEN CORP Mar $4.81 $97.4 $186.0 1.3x 13.2x 14.6x 2.9x
BRESLER & REINER Dec 22.63 63.2 52.6 1.7x 3.3x 3.9x 0.7x
ECHELON INTL Dec 21.81 148.0 160.7 3.7x 10.0x 16.2x 0.8x
HALLWOOD REALTY Dec 51.63 86.4 249.7 4.8x 9.8x 20.7x 7.7x
LEXFORD Dec 38.25 154.2 287.3 4.1x 9.0x 11.3x 4.1x
<CAPTION>
SELECTED COMPANIES ABOVE
-------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Average 3.1x 9.1x 13.3x 3.2x
Median 3.7x 9.8x 14.6x 2.9x
High 4.8x 13.2x 20.7x 7.7x
Low 1.3x 3.3x 3.9x 0.7x
-------------------------------------------
American RE Ptrs Dec $11.06 $511.1 $265.4 4.0x 5.1x 5.7x 0.3x
Avatar Holdings Dec 24.25 220.6 357.1 2.3x 18.6x 42.0x 2.3x
Catellus Dec 18.38 1,957.0 2,503.3 15.5x 21.9x 31.7x 5.7x
Forest City Jan 55.13 826.3 2,859.2 4.7x 12.3x 18.1x 10.2x
LNR Property Nov 26.81 976.0 1,336.9 8.6x 18.0x 19.6x 3.5x
Wellsford Real Properties(D) Dec 14.50 245.2 257.7 20.0x 33.2x 36.6x 1.4x
Capital Trust(D) Dec 9.75 89.1 150.8 NM NM NM 2.7x
<CAPTION>
ALL COMPANIES
-------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Average 5.1x 12.1x 18.4x 3.5x
Median 4.0x 11.2x 17.2x 2.8x
High 15.5x 21.9x 42.0x 10.2x
Low 1.3x 3.3x 3.9x 0.3x
-------------------------------------------
</TABLE>
(A) Market Value of equity equals market price per share multiplied by the
number of shares outstanding. Market Value of equity as of 3/1/98.
(B) Enterprise Value equals Market Value of equity plus book value of preferred
stock plus book value of total debt (net of cash and marketable securities).
(C) Market Value is used to derive Book Value Multiple. Price is used for the
PE multiples. LTM EPS = Sum of previous 4 quarters EPS before extraordinary
expense as reported. FY+1 EPS is the average EPS projection 1 fiscal year
forward, FY+2 EPS is the average EPS projection 2 fiscal years forward.
(D) Not included in "All Companies" analysis except for enterprise value as a
multiple of book value.
EARNINGS ESTIMATES SOURCE: FIRST CALL; I/B/E/S; NELSON PUBLICATIONS
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ----------------------------------------------------------------------------------------------------------------------------------
COMPARATIVE VALUE ANALYSIS - INCOME STATEMENTS & BALANCE SHEETS
(Dollars in Millions, Except per Share Data)
-------------------------------------------------------------------------------
AMERICAN RE AVATAR BLUEGREEN BRESLER &
PTRS HOLDINGS CORP REINER CAPITAL TRUST CATELLUS
Fiscal Year End: Dec Dec Mar Dec Dec Dec
-------------------------------------------------------------------------------
INCOME STATEMENT AS OF: 9/97 9/97 9/97 9/97 9/97 9/97
---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
SALES $66.3 $152.4 $140.2 $31.7 $3.7 $161.4
Cost of Goods Sold 19.8 134.1 66.0 16.4 5.5 72.0
---- ----- ---- ---- --- ----
GROSS PROFIT 46.5 18.3 74.2 15.3 (1.8) 89.4
S, G & A 0.0 9.8 61.4 1.7 0.0 10.5
--- --- ---- --- --- ----
EBIT 46.5 8.5 12.8 13.6 (1.8) 78.9
Depreciation and Amortization 5.6 10.7 1.4 2.3 0.1 35.4
--- ---- --- --- --- ----
EBITDA 52.1 19.2 14.1 15.9 (1.8) 114.3
Interest Expense 13.6 13.3 6.8 2.2 0.3 46.6
Other Income/(Expense) 47.9 0.0 0.3 0.8 (0.5) 17.1
---- --- --- --- ----- ----
PRE-TAX EARNINGS 80.8 (4.8) 6.3 12.1 (2.6) 49.3
Provision for Income Taxes 0.0 0.0 2.6 4.0 0.0 20.1
--- --- --- --- --- ----
NET EARNINGS BEFORE EXT. ITEM 80.8 (4.8) 3.7 8.1 (2.6) 29.2
Extraordinary item (0.2) 0.6 0.0 0.0 0.0 0.0
----- --- --- --- --- ---
NET EARNINGS 80.6 (4.2) 3.7 8.1 (2.6) 29.2
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
Primary LTM EPS (b/f extra items) $2.81 ($0.46) $0.18 $2.91 ($0.36) $0.25
<CAPTION>
BALANCE SHEET AS OF: 9/97 9/97 9/97 9/97 9/97 9/97
---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
Cash & Equivalents 473.2 9.4 24.7 31.7 4.1 17.3
Accounts Receivable 342.9 32.6 65.9 8.5 0.0 33.6
Inventory 4.2 175.9 88.3 15.0 0.0 0.0
Other Current Assets 0.0 0.0 0.0 0.0 0.0 0.0
--- --- --- --- --- ---
TOTAL CURRENT ASSETS 820.3 217.8 178.9 55.2 4.1 51.0
Net PP&E 113.8 187.8 7.2 36.4 0.0 1,133.5
Other Assets 32.1 43.6 18.8 8.9 108.2 21.8
---- ---- ---- --- ----- ----
TOTAL ASSETS 966.1 449.3 204.9 100.4 112.3 1,206.3
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
Accounts Payable 8.7 5.1 2.9 2.2 2.7 44.6
Income Taxes Payable 0.0 0.0 0.0 1.4 0.0 0.0
Current LT Debt & Notes Payable 0.0 0.0 0.0 0.0 0.0 36.0
Other Current Liabilities 0.5 0.0 0.0 0.6 0.0 0.0
--- --- --- --- --- ---
TOTAL CURRENT LIABILITIES 9.2 5.1 2.9 4.2 2.7 80.6
Total Long-Term Debt (Less Current Portion) 152.6 145.9 113.3 21.1 53.5 527.7
Deferred & Other Liabilities 2.8 145.3 24.8 4.1 0.7 156.1
--- ----- ---- --- --- -----
TOTAL LIABILITIES 164.6 296.4 141.0 29.5 56.9 764.4
Preferred Stock 74.9 0.0 0.0 0.0 12.3 0.0
Shareholders' Equity 801.6 152.9 63.9 71.0 55.4 441.9
----- ----- ---- ---- ---- -----
TOTAL LIABILITIES & EQUITIES 966.1 449.3 204.9 100.4 112.3 1,206.3
-------------------------------------------------------------------------------
<CAPTION>
-------------------------------------------------------------------------------
HALLWOOD WELLSFORD REAL
ECHELON INTL FOREST CITY REALTY LEXFORD LNR PROPERTY PROPERTIES
Fiscal Year End: Dec Jan Dec Dec Nov Dec
-------------------------------------------------------------------------------
INCOME STATEMENT AS OF: 9/97 10/97 9/97 9/97 5/97 9/97
---- ----- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
SALES $43.1 $602.3 $52.5 $70.6 $156.0 $12.9
Cost of Goods Sold 17.0 444.3 36.7 45.3 63.1 1.8
---- ----- ---- ---- ---- ---
GROSS PROFIT 26.1 157.9 15.8 25.4 92.9 11.1
S, G & A 16.2 0.0 3.7 0.0 24.6 4.0
---- --- --- --- ---- ---
EBIT 9.9 157.9 12.1 25.4 68.3 7.0
Depreciation and Amortization 6.1 74.8 13.3 6.4 5.9 0.7
--- ---- ---- --- --- ---
EBITDA 16.0 232.7 25.4 31.8 74.1 7.8
Interest Expense 10.2 130.2 13.0 14.7 23.7 1.6
Other Income/(Expense) 3.0 (30.0) 0.0 1.4 36.1 0.2
--- ------ --- --- ---- ---
PRE-TAX EARNINGS 2.7 (2.3) (0.9) 12.1 80.7 5.6
Provision for Income Taxes 0.7 (1.9) 0.0 4.7 31.5 2.1
--- ----- --- --- ---- ---
NET EARNINGS BEFORE EXT. ITEM 2.0 (0.4) (0.9) 7.4 49.2 3.6
Extraordinary item (1.2) 16.2 0.0 (1.8) 0.0 0.0
----- ---- --- ----- --- ---
NET EARNINGS 0.8 15.8 (0.9) 5.6 49.2 3.6
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Primary LTM EPS (b/f extra items) $0.08 ($0.05) ($0.54) $1.83 $1.35 $0.45
<CAPTION>
BALANCE SHEET AS OF: 9/97 10/97 9/97 9/97 5/97 9/97
---- ----- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
Cash & Equivalents 64.2 27.1 4.8 17.6 9.0 12.3
Accounts Receivable 32.7 196.6 1.4 54.7 0.0 145.9
Inventory 1.4 46.6 0.0 0.0 0.0 21.9
Other Current Assets 0.3 0.0 0.0 0.0 72.6 0.0
--- --- --- --- ---- ---
TOTAL CURRENT ASSETS 98.6 270.4 6.1 72.3 81.6 180.0
Net PP&E 115.2 2,203.0 179.8 156.6 212.8 0.0
Other Assets 242.1 349.5 20.7 9.6 498.7 34.4
----- ----- ---- --- ----- ----
TOTAL ASSETS 455.9 2,822.8 206.7 238.4 793.1 214.4
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Accounts Payable 10.6 346.1 4.0 1.0 3.3 0.0
Income Taxes Payable 0.0 0.0 0.0 0.0 0.0 0.0
Current LT Debt & Notes Payable 15.2 26.3 0.0 0.0 170.6 0.0
Other Current Liabilities 0.0 0.0 0.0 11.3 0.0 0.0
--- --- --- --- ---- ---
TOTAL CURRENT LIABILITIES 25.8 372.4 4.0 12.4 173.9 0.0
Total Long-Term Debt (Less Current Portion) 61.7 2,033.8 168.1 150.6 199.3 24.8
Deferred & Other Liabilities 158.5 137.7 2.3 4.7 35.7 9.8
----- ----- --- --- ---- ---
TOTAL LIABILITIES 246.0 2,543.8 174.4 167.7 408.9 34.5
Preferred Stock 0.0 0.0 0.0 0.0 0.0 0.0
Shareholders' Equity 209.9 279.0 32.3 70.7 384.1 179.9
----- ----- ---- ---- ----- -----
TOTAL LIABILITIES & EQUITIES 455.9 2,822.8 206.7 238.4 793.1 214.4
---------------------------------------------------------------------------------
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ------------------------------------------------------------------------------------------------------------------------------------
COMPARATIVE VALUE ANALYSIS - COMPANY RATIO ANALYSIS
(Dollars in Millions, Except per Share Data)
----------------------------------------------------------------------------------
AMERICAN RE AVATAR BLUEGREEN BRESTER &
PTRS HOLDINGS CORP REINER CAPITAL TRUST CATELLUS
----------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
MARKET DATA AS OF: 3/1/98 3/1/98 3/1/98 3/1/98 3/1/98 3/1/98
Ticker ACP AVTR BXG 3BRER CT CDX
Exchange NYSE OTC NYSE OTC NYSE NYSE
Price per share $11.06 $24.25 $4.81 $22.63 $9.75 $18.38
52 week high $14.25 $36.75 $5.13 $26.00 $15.13 $22.00
52 week low $9.13 $24.75 $2.63 $11.25 $4.50 $13.63
Shares outstanding (millions) 46.2 9.1 20.2 2.8 9.1 106.5
Market Value of equity(A) $511.1 $220.6 $97.4 $63.2 $89.1 $1,957.0
Enterprise Value(B) $265.4 $357.1 $186.0 $52.6 $150.8 $2,503.3
PROFITABILITY:
Net Margin 121.9% NM 2.6% 25.7% NM 18.1%
EBITDA Margin 78.6% 12.6% 10.1% 50.0% NM 70.8%
Gross Margin 70.1% 12.0% 52.9% 48.2% NM 55.4%
Return on Average Assets 10.1% NM 2.0% 8.0% NM 2.5%
Return on Average BV Common Equity 12.9% NM 5.9% 12.2% NM 6.8%
SG & A as % of Sales 0.0% 6.4% 43.8% 5.4% 0.0% 6.5%
Taxes as % of Pre-Tax Earnings 0.0% NM 41.0% 32.8% NM 40.8%
EFFICIENCY:
Asset Turnover 0.1 0.3 0.8 0.3 0.1 0.1
Sales to Employees ($000) $3,901.3 $137.5 $281.5 $253.8 NA $530.9
Inventory Days 65 463 466 301 0 NA
Receivable Days 1,689 111 142 99 113 56
Payable Days 179 18 14 44 96 220
LIQUIDITY:
Current Ratio 89.6 42.4 61.8 13.1 1.5 0.6
Quick Ratio 89.1 8.2 31.3 9.5 1.5 0.6
LEVERAGE:
Total Debt to Equity 19.0% 95.4% 177.3% 29.8% 96.6% 127.5%
Total Liabilities to Total Assets 17.0% 66.0% 68.8% 29.3% 50.7% 63.4%
Cash Flow Interest Coverage 3.8x 1.4x 2.1x 7.2x NM 2.4x
----------------------------------------------------------------------------------
<CAPTION>
------------------------------------------------------------------------------------------
HALLWOOD WELLSFORD REAL
ECHELON INTL FOREST CITY REALTY LEXFORD LNR PROPERTY PROPERTIES
------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
MARKET DATA AS OF: 3/1/98 3/1/98 3/1/98 3/1/98 3/1/98 3/1/98
Ticker EIN FCE.A HRY CRSI LNR WRP
Exchange NYSE NYSE AMEX OTC NYSE AMEX
Price per share $21.81 $55.13 $51.63 $38.25 $26.81 $14.50
52 week high $25.25 $62.50 $55.50 $36.00 $27.13 $17.25
52 week low $16.75 $39.50 $24.13 $21.88 $21.13 $10.50
Shares outstanding (millions) 6.8 15.0 1.7 4.0 36.4 16.9
Market Value of equity(A) $148.0 $826.3 $86.4 $154.2 $976.O $245.2
Enterprise Value(B) $160.7 $2,859.2 $249.7 $287.3 $1,336.9 $257.7
PROFITABILITY:
Net Margin 4.6% NM NM 10.5% 31.6% 27.9%
EBITDA Margin 37.1% 38.6% 48.3% 45.0% 47.5% 60.4%
Gross Margin 60.6% 26.2% 30.1% 35.9% 59.6% 85.9%
Return on Average Assets NA 0.0% NM 3.1% 6.5% NA
Return on Average BV Common Equity NA NM NM 11.3% 12.7% NA
SG & A as % of Sales 37.6% 0.0% 7.1% 0.0% 15.8% 31.3%
Taxes as % of Pre-Tax Earnings 25.9% NM NM 38.8% 39.0% 36.3%
EFFICIENCY:
Asset Turnover NA 0.2 0.2 0.3 0.2 NA
Sales to Employees ($000) $590.4 $178.0 NA $37.3 NA NA
Inventory Days NA 37 0 0 NA NA
Receivable Days NA 118 NA 281 NA NA
Payable Days NA 297 52 11 14 NA
LIQUIDITY:
Current Ratio 3.8 0.7 1.5 5.9 0.5 NA
Quick Ratio 3.8 0.6 1.5 5.9 0.1 NA
LEVERAGE:
Total Debt to Equity 36.6% 738.4% 521.1% 213.1% 96.3% 13.8%
Total Liabilities to Total Assets 54.0% 90.1% 84.4% 70.3% 51.6% 16.1%
Cash Flow Interest Coverage 1.6x 1.8x 2.0x 2.2x 3.1x 5.0x
------------------------------------------------------------------------------------------
</TABLE>
(A) Market Value of equity equals market price per share multiplied by the
number of shares outstanding. Market Value of equity as of 3/1/98.
(B) Enterprise Value equals Market Value of equity plus book value of
preferred stock plus book value of total debt (net of cash and
marketable securities).
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. -A
- -------------------------------------------------------------------------------
SELECTED COMPARABLE REAL ESTATE DEVELOPMENT COMPANIES
AMERICAN RE PROPERTIES Partnership, through a 99% limited partnership
interest in American Real Estate Holdings L.P.,
acquires and manages real estate, primarily
office, retail, industrial, residential and hotel
properties. Partnership also may make non-real
estate investments, which includes investments in
securities of domestic and foreign companies not
engaged in real estate activities.
AVATAR HOLDINGS The Company owns and develops real property in
Florida, Arizona, Tennessee and California; and
also provides utility services including the
purification and distribution of water, treatment
and disposal of wastewater and contract management
services for utility companies. The company's real
estate activities include the construction and
sale of single family and multifamily housing; and
the development, sale and management of vacation
ownership units and homesites and
industrial/commercial land sales, with the types
of activities varying from community to community.
Avatar also operates amenities and resorts,
conducts cable television operations and provides
property management services.
BLUEGREEN CORP The Company acquires, develops, markets and sells
recreational land, residential land and vacation
ownership resorts. The Company operates in 21
states including Texas, North Carolina and
Florida.
BRESLER & REINER The Company develops and constructs residential
and commercial land; owns and operates rental
properties, including apartments, offices, a motel
and a hotel; manages and leases apartment
buildings, a shopping center and office buildings
for others; and provides equipment leasing.
CATELLUS The Company owns substantial property interests in
the West, Southwest and Midwest U.S. The Company's
holdings consist of income producing properties,
including industrial, retail and office
facilities; and land development and natural
resource properties.
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. -A
- -------------------------------------------------------------------------------
SELECTED COMPARABLE REAL ESTATE DEVELOPMENT COMPANIES
ECHELON INTERNATIONAL The Company develops, owns and manages commercial
and multifamily residential real estate in
Florida; and manages a portfolio of aircraft and
real estate loans and aircraft leases. The Company
plans to gradually withdraw from its aircraft and
real estate lending businesses in order to focus
on its core real estate development operations.
The Company owns and manages income-producing
commercial real estate holdings in Florida with
the predominant value located in Tampa Bay, St.
Petersburg and Clearwater. Dec. 31, 1996, the
Company owned 11 commercial real estate
properties, consisting of 5 office buildings and 6
industrial sites, and other properties.
Additionally, the Company owns undeveloped land in
the St. Petersburg area which it plans to develop
for residential and commercial real estate
projects; and owns and operates a marina in St.
Petersburg.
FOREST CITY The Company develops, constructs, owns and manages
commercial and residential real estate throughout
the U.S. The Commercial Group owns, acquires,
develops and manages retail, office, hotel and
mixed-use projects throughout the U.S. Development
activities focus on locating opportunities,
structuring deals as advantageously as possible,
obtaining favorable financing, supervising
construction and handling the initial leasing of
developed properties. The Residential Group owns,
acquires, develops, leases and manages the
Company's residential properties. In addition to
acquiring or developing new residential assets for
the Company, this division is responsible for
increasing cash flow and long-term value of the
existing portfolio by deciding when to refinance,
optimizing the Company's leasing strategy and
determining the appropriate level of capital
expenditures. The Land Group acquires and sells
both raw land and developed lots to commercial,
industrial and residential users. The Group's
efforts are concentrated on major developments in
Ariz., Fla., Nev., N.Y. and Ohio. The Trading
Group conducts the lumber brokerage portion of the
Company's business. Lumber brokerage consists of
the purchase of lumber and plywood from sawmills
and other specialty products for immediate resale
to retailers and other large purchasers of lumber
throughout the U.S. The Group also supplies
building materials and lumber to general
contractors, and is a wholesaler of major home
appliances, cabinets and hardware to housing
contractors.
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. -A
- -------------------------------------------------------------------------------
SELECTED COMPARABLE REAL ESTATE DEVELOPMENT COMPANIES
HALLWOOD REALTY The Company is a limited partnership that is
involved in diversified real estate activities.
The Company's activities include acquisition,
ownership and operation of commercial office,
industrial real estate and other real estate
related assets.
LEXFORD The Company has equity interests in apartment
communities, either as the sole owner or as
general partner. The Company's wholly owned
subsidiary, Lexford Properties, Inc., manages
apartment units in several states, including
substantially all of the properties in which
Lexford has an ownership interest.
LNR PROPERTY The Company is a real estate investment and
management business. The Company develops,
acquires and manages commercial and residential
multifamily real estate. LNR also acquires
portfolios of mortgage loans and writes commercial
real estate mortgage loans.
WELLSFORD REAL PROPERTIES The Company invests in developing multi-family
residential properties and secured debt
instruments for income producing commercial office
properties. The Company, through its subsidiary,
WCPT, has other debt and equity joint venture
interests which acquire and improve
underperforming commercial realty mainly in New
York, Boston and Washington, D.C. metropolitan
areas.
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. -A
- -------------------------------------------------------------------------------
CAPITAL TRUST OVERVIEW
CAPITAL TRUST:
Capital Trust was created on 7/16/97 by California Real Estate Trust changing
its status from a REIT to a C-Corp. Capital trust is a specialty finance company
designed primarily to take advantage of high-yielding "mezzanine" investment
opportunities in commercial real estate. The Company's portfolio includes
investments in commercial mortgage back securities. The Company provides real
estate investment banking, advisory and asset management services through its
subsidiary, Victor Capital Group.
Prior to the Company changing its status to a C-Corp, the stock was trading at
$8.37. After the Company changed it's status, the stock moved up to $11.12, a
33% gain in value for the Company.
<PAGE>
CAPITAL TRUST
PRICE / VOLUME CHART (WEEKLY)
-----------------------------
2/28/97 - 3/02/98
[GRAPH]
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ---------------------------------------------------------------------------------------------------------------------------------
SELECTED MULTI FAMILY REIT TRADING MULTIPLES ($ IN MILLIONS)
MARKET INDICATED ANNUAL DIVIDEND
STOCK MARKET ADJUSTED --------------------------------
COMPANY TICKER PRICE VALUE(1) CAP.(2) PER SHARE YIELD PAYOUT
- ------- ------ ----- -------- ------- --------- ----- ------
<S> <C> <C> <C> <C> <C> <C> <C>
AMBASSADOR APARTMENTS INC. AAH $20.38 $233.2 $605.0 $1.60 7.85% 84.21%
ASSOCIATED ESTATES REALTY AEC $20.31 $346.8 $638.4 $1.86 9.16% 85.71%
AMLI RESIDENTIAL PROPERTIES AML $22.63 $442.9 $662.3 $1.76 7.78% 82.24%
BERKSHIRE REALTY CO. BRI $11.50 $368.0 $621.5 $0.93 8.09% 85.32%
GROVE PROPERTY TRUST GVE $10.69 $72.8 $126.7 $0.68 6.39% 66.94%
HOME PROPERTIES OF NEW YORK HME $26.56 $309.9 $470.4 $1.80 6.78% 85.31%
INVESTORS REAL ESTATE TRUST IRETS $7.25 $114.6 $251.0 $0.42 5.79% NA
OASIS RESIDENTIAL INC. OAS $21.44 $348.1 $754.6 $1.81 8.44% 81.90%
SUMMIT PROPERTIES INC. SMT $20.50 $477.9 $916.0 $1.59 7.76% 79.50%
CORNERSTONE REALTY INCOME TRST TCR $12.75 $449.4 $454.9 $1.00 7.84% 86.21%
TOWN & COUNTRY TRUST TCT $16.88 $307.6 $607.6 $1.60 9.48% 91.95%
--------------------------------------------------------------
AVERAGE $315.6 $555.3 7.76% 82.93%
MEDIAN $346.8 $607.6 7.84% 84.76%
HIGH $477.9 $916.0 9.48% 91.95%
LOW $72.8 $126.7 5.79% 66.94%
--------------------------------------------------------------
<CAPTION>
ESTIMATED 1997 FFO ESTIMATED 1998 FFO
--------------------------- ----------------------------
COMPANY PER SHARE MULTIPLE PER SHARE MULTIPLE
- ------- --------- -------- --------- --------
<S> <C> <C> <C> <C>
AMBASSADOR APARTMENTS INC. $1.90 10.7x $1.97 10.3x
ASSOCIATED ESTATES REALTY $2.17 9.4x $2.38 8.5x
AMLI RESIDENTIAL PROPERTIES $2.14 10.6x $2.30 9.8x
BERKSHIRE REALTY CO. $1.09 10.6x $1.17 9.8x
GROVE PROPERTY TRUST $1.02 10.5x $1.06 10.1x
HOME PROPERTIES OF NEW YORK $2.11 12.6x $2.36 11.3x
INVESTORS REAL ESTATE TRUST NA NA NA NA
OASIS RESIDENTIAL INC. $2.21 9.7x $2.31 9.3x
SUMMIT PROPERTIES INC. $2.00 10.3x $2.15 9.5x
CORNERSTONE REALTY INCOME TRST $1.16 11.0x $1.17 10.9x
TOWN & COUNTRY TRUST $1.74 9.7x $1.75 9.6x
------------------------------------------------------
AVERAGE 10.5x 9.9x
MEDIAN 10.5x 9.9x
HIGH 12.6x 11.3x
LOW 9.4x 8.5x
------------------------------------------------------
</TABLE>
- --------------------------------------------------------------------------------
(1) Market Value equals the stock price per share multiplied by the total number
of shares outstanding (including OP units). Prices current as of 03/03/98.
(2) Market Adjusted Capitalization is defined as Market Value plus Long-Term
Debt, plus Minority Interest at market, plus (liquidation value of)
Preferred Stock.
<PAGE>
<TABLE>
<CAPTION>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ---------------------------------------------------------------------------------------------------------------------------------
SELECTED MULTI FAMILY REIT TRADING MULTIPLES ($ IN MILLIONS)
CURRENT ANNUAL DIVIDEND LTM FFO
STOCK --------------------------- ------------------------------------
COMPANY TICKER PRICE PER SHARE YIELD PER SHARE MULTIPLE PAYOUT
- ------- ------ ----- --------- ----- --------- -------- ------
<S> <C> <C> <C> <C> <C> <C> <C>
AMBASSADOR APARTMENTS INC. AAH $20.38 $1.60 7.85% $1.96 10.4x 81.63%
ASSOCIATED ESTATES REALTY AEC $20.31 $1.86 9.16% $2.13 9.5x 87.32%
AMLI RESIDENTIAL PROPERTIES AML $22.63 $1.76 7.78% $2.11 10.7x 83.41%
BERKSHIRE REALTY CO. BRI $11.50 $0.93 8.09% $1.07 10.7x 86.92%
GROVE PROPERTY TRUST GVE $10.69 $0.68 6.39% $0.97 11.0x 70.39%
HOME PROPERTIES OF NEW YORK HME $26.56 $1.80 6.78% $2.08 12.8x 86.54%
INVESTORS REAL ESTATE TRUST IRETS $ 7.25 $0.42 5.79% $0.55 13.2x 76.36%
OASIS RESIDENTIAL INC. OAS $21.44 $1.81 8.44% $2.51 8.5x 72.11%
SUMMIT PROPERTIES INC. SMT $20.50 $1.59 7.76% $1.84 11.1x 86.41%
CORNERSTONE REALTY INCOME TRST TCR $12.75 $1.00 7.84% $1.04 12.3x 96.15%
TOWN & COUNTRY TRUST TCT $16.88 $1.60 9.48% $1.75 9.6x 91.43%
---------------------------------------------------------------
AVERAGE 7.76% 10.9x 83.52%
MEDIAN 7.84% 10.7x 86.41%
HIGH 9.48% 13.2x 96.15%
LOW 5.79% 8.5x 70.39%
---------------------------------------------------------------
<CAPTION>
1997 FFO 1998 FFO
-------------------------------------- --------------------------------------
COMPANY PER SHARE MULTIPLE PAYOUT PER SHARE MULTIPLE PAYOUT
- ------- ------------ -------- ------ ------------ -------- ---------
<S> <C> <C> <C> <C> <C> <C>
AMBASSADOR APARTMENTS INC. $1.90 10.7x 84.21% $1.97 10.3x 81.22%
ASSOCIATED ESTATES REALTY $2.17 9.4x 85.71% $2.38 8.5x 78.15%
AMLI RESIDENTIAL PROPERTIES $2.14 10.6x 82.24% $2.30 9.8x 76.52%
BERKSHIRE REALTY CO. $1.09 10.6x 85.32% $1.17 9.8x 79.49%
GROVE PROPERTY TRUST $1.02 10.5x 66.94% $1.06 10.1x 64.42%
HOME PROPERTIES OF NEW YORK $2.11 12.6x 85.31% $2.36 11.3x 76.27%
INVESTORS REAL ESTATE TRUST NA NA NA NA NA NA
OASIS RESIDENTIAL INC. $2.21 9.7x 81.90% $2.31 9.3x 78.35%
SUMMIT PROPERTIES INC. $2.00 10.3x 79.50% $2.15 9.5x 73.95%
CORNERSTONE REALTY INCOME TRST $1.16 11.0x 86.21% $1.17 10.9x 85.47%
TOWN & COUNTRY TRUST $1.74 9.7x 91.95% $1.75 9.6x 91.43%
----------------------------------------------------------------------------
AVERAGE 10.5x 82.93% 9.9x 78.53%
MEDIAN 10.5x 84.76% 9.9x 78.15%
HIGH 12.6x 91.95% 11.3x 91.43%
LOW 9.4x 66.94% 8.5x 64.42%
----------------------------------------------------------------------------
</TABLE>
- --------------------------------------------------------------------------------
(1) Market Value equals the stock price per share multiplied by the total number
of shares outstanding (including OP units). Prices current as of 03/03/98.
(2) Market Adjusted Capitalization is defined as Market Value plus Long-Term
Debt, plus Minority Interest at market, plus (liquidation value of)
Preferred Stock.
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- ------------------------------------------------------------------------------
PEER GROUP MARKET INFORMATION & BALANCE SHEET DATA ($ IN MILLIONS)
<TABLE>
<CAPTION>
AMBASSADOR ASSOCIATED AMLI RESIDENTIAL BERKSHIRE GROVE PROPERTY
APARTMENTS INC. ESTATES REALTY REALTY REALTY CO. TRUST
--------------- -------------- ---------------- ---------- --------------
<S> <C> <C> <C> <C> <C>
COMPANY INFORMATION
Ticker AAH AEC AML BRI GVE
UPREIT (Yes/No) Yes No Yes Yes Yes
Prices current as of 03/03/98 $20.38 $20.31 $22.63 $11.50 $10.69
Shares outstanding (1) 11.4 17.1 19.6 32.0 6.8
52 Week High $25.88 $24.19 $24.63 $12.38 $12.38
52 Week Low $19.56 $21.75 $21.63 $10.13 $8.25
Indicated Annual Dividend $1.60 $1.86 $1.76 $0.93 $0.68
Indicated Annual Dividend Yield 7.9% 9.2% 7.8% 8.1% 6.4%
Estimated 1996 FFO per share
(First Call) $1.90 $2.17 $2.14 $1.09 $1.02
Indicated Annual Dividend Payout 84.2% 85.7% 82.2% 85.3% 66.9%
Senior Unsecured Credit Rating
(Moody's/S&P/Fitch) NR /NR /NR Baa3/BBB-/NR NR /NR /NR NR /NR /NR NR /NR /NR
LTM Information as of: 9/30/97 9/30/97 9/30/97 9/30/97 9/30/97
BALANCE SHEET INFORMATION (BOOK BASIS)
Current Assets 5.5 1.9 1.5 17.1 1.2
Land & Improvements, Gross 547.3 626.5 564.3 685.1 145.6
Accumulated Depreciation (47.3) (125.3) (60.0) (118.2) (33.5)
----- ------ ----- ------ -----
Land & Improvements, Net 500.0 501.2 504.3 566.9 112.0
Mortgages & Notes Receivable 0.0 0.0 0.0 2.3 0.0
Other Long Term Assets 54.3 26.1 68.8 69.8 3.3
----- ------ ----- ------ -----
Total Assets 559.9 529.1 574.6 656.0 116.4
----- ------ ----- ------ -----
Short-Term Debt(2) 32.3 61.2 38.8 118.4 11.1
Long-Term Secured Debt(3) 347.6 0.0 158.2 179.6 42.7
Long-Term Unsecured Debt 0.0 235.4 38.8 8.0 11.1
----- ------ ----- ------ -----
Total Funded Debt & Capitalized Leases 379.9 296.6 235.7 306.0 65.0
Other Liabilities 12.9 37.5 20.7 17.7 5.2
----- ------ ----- ------ -----
Total Liabilities 392.8 334.0 256.4 323.7 70.2
Minority Interest in Consolidated
Partnerships 0.0 0.0 0.0 0.0 0.0
Minority Interests in Operating
Partnership 29.9 0.0 46.7 57.9 22.4
Preferred Stock 24.1 56.3 22.5 65.8 0.0
Common Shareholders' Equity
(Book Basis) 113.0 138.8 249.0 208.6 23.9
----- ------ ----- ------ -----
Total Equity 167.1 195.1 318.2 332.3 46.3
Total Liabilities and Equity 559.9 529.1 574.6 656.0 116.4
----- ------ ----- ------ -----
Total Equity Capitalization (Market
Value) $233.2 $346.8 $442.9 $368.0 $72.8
Total Capitalization (Book Basis)(4) 514.7 430.4 515.2 519.9 100.1
Total Capitalization (Market
Adjusted)(5) 605.0 638.4 662.3 621.5 126.7
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Includes OP units.
(2) Short-Term Debt includes the current portion of Long-Term Debt and
revolving credit lines.
(3) Long-Term Secured Debt includes Capital Leases.
(4) Total Capitalization (Book Basis) is defined as Long-Term Debt, Minority
Interest, Preferred Stock and Common Shareholders' Equity (Book Basis).
(5) Total Capitalization (Market Adjusted) is defined as Long-Term Debt,
Minority Interest at market, Preferred Stock and market value of common
equity. Prices current as of 03/03/98.
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- ------------------------------------------------------------------------------
PEER GROUP MARKET INFORMATION & BALANCE SHEET DATA ($ IN MILLIONS)
<TABLE>
<CAPTION>
HOME PROPERTIES INVESTORS REAL OASIS SUMMIT CORNERSTONE REALTY TOWN & COUNTRY
OF NEW YORK ESTATE TRUST RESIDENTIAL INC. PROPERTIES INC. INCOME TRST TRUST
--------------- -------------- ---------------- --------------- ------------------ --------------
<S> <C> <C> <C> <C> <C> <C>
COMPANY INFORMATION
Ticker HME IRETS OAS SMT TCR TCT
UPREIT (Yes/No) Yes No No Yes No Yes
Prices current as of
03/03/98 $26.56 $7.25 $21.44 $20.50 $12.75 $16.88
Shares Outstanding(1) 11.7 15.8 16.2 23.3 35.3 18.2
52 Week High $28.06 $7.44 $25.00 $22.31 $13.06 $18.88
52 Week Low $20.38 $6.63 $21.69 $19.63 $10.38 $14.25
Indicated Annual Dividend $1.80 $0.42 $1.81 $1.59 $1.00 $1.60
Indicated Annual Dividend
Yield 6.8% 5.8% 8.4% 7.8% 7.8% 9.5%
Estimated 1996 FFO per
share (First Call) $2.11 NA $2.21 $2.00 $1.16 $1.74
Indicated Annual Dividend
Payout 85.3% NA 81.9% 79.5% 86.2% 92.0%
Senior Unsecured Credit
Rating
(Moody's/S&P/Fitch) NR /NR /NR NR /NR /NR Baa3/BBB-/NR Baa3/BBB-/NR NR /NR /NR Aa2 /CCC /AA
LTM Information as of: 9/30/97 10/31/97 9/30/97 9/30/97 9/30/97 9/30/97
BALANCE SHEET INFORMATION
(BOOK BASIS)
Current Assets 1.1 6.9 9.2 9.0 4.5 2.2
Land & Improvements,
Gross 384.6 211.1 845.0 865.3 456.6 569.6
Accumulated Depreciation (43.9) (19.1) (66.7) (99.8) (23.2) (216.9)
----- ----- ----- ----- ----- ------
Land & Improvements, Net 340.6 192.0 778.3 765.5 433.5 352.7
Mortgages & Notes
Receivable 0.0 1.8 0.0 0.0 0.0 0.0
Other Long Term Assets 52.9 3.3 26.1 11.7 7.4 15.6
----- ----- ----- ----- ----- ------
Total Assets 394.7 204.0 813.6 786.2 445.3 370.5
----- ----- ----- ----- ----- ------
Short-Term Debt(2) 32.1 0.0 132.2 0.0 117.8 0.0
Long-Term Secured
Debt(3) 128.3 122.3 25.2 438.1 0.0 300.0
Long-Term Unsecured Debt 32.2 12.8 282.0 0.0 5.5 0.0
----- ----- ----- ----- ----- ------
Total Funded Debt &
Capitalized Leases 192.6 135.1 439.5 438.1 123.3 300.0
Other Liabilities 12.0 2.9 10.5 34.7 6.2 7.9
----- ----- ----- ----- ----- ------
Total Liabilities 204.6 138.0 450.0 472.8 129.5 307.9
Minority Interest in
Consolidated
Partnerships 0.0 1.2 0.0 0.0 0.0 0.0
Minority Interests in
Operating Partnership 79.0 0.0 0.0 45.9 0.0 8.6
Preferred Stock 0.0 0.0 99.2 0.0 0.0 0.0
Common Shareholders'
Equity (Book Basis) 111.2 64.7 264.3 267.5 315.8 54.0
----- ----- ----- ----- ----- ------
Total Equity 190.1 66.0 363.6 313.4 315.8 62.6
Total Liabilities and
Equity 394.7 204.0 813.6 786.2 445.3 370.5
----- ----- ----- ----- ----- ------
Total Equity
Capitalization (Market
Value) $309.9 $114.6 $348.1 $477.9 $449.4 $307.6
Total Capitalization
(Book Basis)(4) 350.6 201.1 670.8 751.5 321.3 362.6
Total Capitalization
(Market Adjusted)(5) 470.4 251.0 754.6 916.0 454.9 607.6
- -------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Includes OP units.
(2) Short-Term Debt includes the current portion of Long-Term Debt and
revolving credit lines.
(3) Long-Term Secured Debt includes Capital Leases.
(4) Total Capitalization (Book Basis) is defined as Long-Term Debt, Minority
Interest, Preferred Stock and Common Shareholders' Equity (Book Basis).
(5) Total Capitalization (Market Adjusted) is defined as Long-Term Debt,
Minority Interest at market, Preferred Stock and market value of common
equity. Prices current as of 03/03/98.
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- ------------------------------------------------------------------------------
PEER GROUP CASH FLOW STATEMENTS ($ IN MILLIONS)
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------
AMBASSADOR ASSOCIATED AMLI RESIDENTIAL BERKSHIRE GROVE PROPERTY
APARTMENTS INC. ESTATES REALTY REALTY REALTY CO. TRUST
------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Information as of: 9/30/97 9/30/97 9/30/97 9/30/97 9/30/97
Net Income ($5.8) $16.5 $18.9 ($8.5) $1.5
Depreciation and Amortization 19.1 18.0 13.2 37.3 2.2
Preferred Dividends 2.3 5.5 1.9 0.1 0.0
Minority Interests 1.9 0.0 3.9 (2.1) 0.8
Net Loss (Gains) on Sale of Real Estate 0.1 0.0 0.0 (4.5) 0.0
Extraordinary Items 5.6 (1.0) 0.2 0.1 0.0
Changes in Operating Accounts and
Other Adjustments 0.0 0.0 0.0 0.0 0.0
------ ------ ------ ------ ------
Cash Flow from Operations (CFO) $23.0 $39.0 $38.2 $22.4 $4.5
Interest Expense 21.0 17.4 11.1 23.2 1.8
Less: Maintenance Capital Expenditures(1) (3.6) (4.2) (3.4) (4.0) (0.5)
------ ------ ------ ------ ------
Free Cash Flow(2) $40.4 $52.2 $45.9 $41.6 $5.8
Interest Expense 21.0 17.4 11.1 23.2 1.8
Estimated Principal Payments 0.0 0.0 13.0 0.0 0.0
------ ------ ------ ------ ------
Total Debt Service Requirements $21.0 $17.4 $24.0 $23.2 $1.8
Preferred Dividends $2.3 $5.5 $1.9 $0.1 $0.0
Common Stock Dividends(3) 15.1 35.5 25.3 23.3 1.7
<CAPTION>
----------------
HOME PROPERTIES
OF NEW YORK
----------------
<S> <C>
Information as of: 9/30/97
Net Income $5.2
Depreciation and Amortization 9.7
Preferred Dividends 0.0
Minority Interests 2.1
Net Loss (Gains) on Sale of Real Estate 2.2
Extraordinary Items 0.0
Changes in Operating Accounts and
Other Adjustments 0.0
------
Cash Flow from Operations (CFO) $19.1
Interest Expense 10.3
Less: Maintenance Capital Expenditures(1) (2.3)
------
Free Cash Flow(2) $27.1
Interest Expense 10.3
Estimated Principal Payments 1.2
------
Total Debt Service Requirements $11.5
Preferred Dividends $0.0
Common Stock Dividends(3) 11.5
</TABLE>
- -------------------------------------
(1) Maintenance Capital Expenditures assumed equal to 4% of Revenues.
(2) Free Cash Flow is defined as Cash Flow from Operations plus Interest
Expense and Subordinated Advisory Fees, less Maintenance Capital
Expenditures.
(3) Includes OP Units.
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- ------------------------------------------------------------------------------
PEER GROUP CASH FLOW STATEMENTS ($ IN MILLIONS)
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------
INVESTORS REAL OASIS SUMMIT CORNERSTONE REALTY TOWN & COUNTRY
ESTATE TRUST RESIDENTIAL INC. PROPERTIES INC. INCOME TRST TRUST
------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Information as of: 10/31/97 9/30/97 9/30/97 9/30/97 9/30/97
Net Income $3.8 $19.3 $27.1 $1.5 $4.0
Depreciation and
Amortization 4.5 19.2 22.7 13.7 26.3
Preferred Dividends 0.0 9.4 0.0 0.0 0.0
Minority Interests 0.0 0.0 4.8 0.0 1.0
Net Loss (Gains) on
Sale of Real Estate (0.3) (2.4) (4.4) 0.0 0.0
Extraordinary Items 0.0 1.4 0.0 0.0 2.5
Changes in Operating
Accounts and Other
Adjustments 0.0 0.0 0.0 0.0 0.0
------ ------ ------ ------ ------
Cash Flow from
Operations (CFO) $8.1 $46.8 $50.2 $15.3 $33.8
Interest Expense 9.6 23.4 22.0 5.7 17.8
Less: Maintenance Capital
Expenditures(1) (1.1) (4.4) (4.7) (2.6) (3.7)
------ ------ ------ ------ ------
Free Cash Flow(2) $16.6 $65.8 $67.5 $18.3 $47.9
Interest Expense 9.6 23.4 22.0 5.7 17.8
Estimated Principal
Payments 0.0 0.0 0.0 117.8 0.0
------ ------ ------ ------ ------
Total Debt Service
Requirements $9.6 $23.4 $22.0 $123.5 $17.8
Preferred Dividends $0.0 $9.4 $0.0 $0.0 $0.0
Common Stock Dividends(3) 6.2 31.0 43.3 30.4 24.9
</TABLE>
- -------------------------------------
(1) Maintenance Capital Expenditures assumed equal to 4% of Revenues.
(2) Free Cash Flow is defined as Cash Flow from Operations plus Interest
Expense and Subordinated Advisory Fees, less Maintenance Capital
Expenditures.
(3) Includes OP Units.
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- ------------------------------------------------------------------------------
PEER GROUP INCOME STATEMENTS ($ IN MILLIONS)
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------
AMBASSADOR ASSOCIATED AMLI RESIDENTIAL BERKSHIRE GROVE PROPERTY
APARTMENTS INC. ESTATES REALTY REALTY REALTY CO. TRUST
------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Information as of: 9/30/97 9/30/97 9/30/97 9/30/97 9/30/97
INCOME STATEMENT INFORMATION:
Rental Income $83.0 $97.5 $80.4 $100.8 $11.5
Mortgage Interest Income 0.0 0.0 1.1 2.5 0.2
Investment Interest and Other Income 6.4 7.5 3.8 (2.3) 0.4
------ ------ ------ ------ ------
Total Revenues $89.3 $105.0 $85.4 $101.1 $12.0
Property Operation Expense 35.0 40.9 33.3 46.6 5.1
Depreciation and Amortization 19.1 18.0 13.2 37.3 2.2
Interest Expense 21.0 17.4 11.1 23.2 1.8
General and Administrative 10.3 7.8 2.8 8.9 0.7
------ ------ ------ ------ ------
Total Operating Expenses 85.4 84.1 60.4 116.0 9.7
------ ------ ------ ------ ------
Income from Operations $3.9 $21.0 $25.0 ($14.9) $2.3
Interest in Earnings of Unconsolidated
Affiliate 0.0 0.0 0.0 0.0 0.0
Minority Interest in Operating
Partnership (1.9) 0.0 (3.9) 2.1 (0.8)
Preferred Dividends 2.3 5.5 1.9 0.1 0.0
------ ------ ------ ------ ------
Net Income Before Extraordinary Items
and Gains on Sale ($0.2) $15.5 $19.1 ($12.9) $1.5
Extraordinary Items and Gains on Sale (5.6) 1.0 (0.2) 4.4 0.0
------ ------ ------ ------ ------
Net Income $(5.8) $16.5 $18.9 ($8.5) $1.5
------ ------ ------ ------ ------
------ ------ ------ ------ ------
COMPANY REPORTED & SUTRO ESTIMATE
- ------------------------------------------------------------------------------------------------------------------------------------
Net Income per share ($0.56) $1.06 $1.28 ($0.30) $0.46
FFO per share $1.96 $2.13 $2.11 $1.07 $0.97
Weighted Average Shares 9.4 15.5 14.7 25.5 2.4
LTM Dividend (as reported) $1.60 $2.30 $1.72 $0.92 $0.70
LTM Dividend/FFO per share 81.6% 107.7% 81.5% 85.5% 71.9%
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- ------------------------------------------------------------------------------
PEER GROUP INCOME STATEMENTS ($ IN MILLIONS)
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------
HOME PROPERTIES INVESTORS REAL OASIS SUMMIT CORNERSTONE REALTY TOWN & COUNTRY
OF NEW YORK ESTATE TRUST RESIDENTIAL INC. PROPERTIES INC. INCOME TRUST TRUST
------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Information as of: 9/30/97 10/31/97 9/30/97 9/30/97 9/30/97 9/30/97
INCOME STATEMENT INFORMATION:
Rental Income $54.5 $27.8 $106.7 $116.0 $63.9 $90.4
Mortgage Interest Income 1.3 0.7 0.0 0.4 0.6 0.0
Investment Interest and
Other Income 2.0 0.0 4.0 0.6 1.1 1.8
------ ------ ------ ------ ------ ------
Total Revenues $57.7 $28.6 $110.7 $117.0 $65.6 $92.2
Property Operation Expense 26.6 10.1 37.0 42.0 21.8 36.2
Depreciation and
Amortization 9.7 4.5 19.2 22.7 13.7 26.3
Interest Expense 10.3 9.6 23.4 22.0 5.7 17.8
General and Administrative 1.7 0.8 3.5 2.7 22.8 4.4
------ ------ ------ ------ ------ ------
Total Operating Expenses 48.3 25.0 83.1 89.4 64.1 84.7
------ ------ ------ ------ ------ ------
Income from Operations $9.4 $3.6 $27.6 $27.6 $1.5 $7.5
Interest in Earnings of
Unconsolidated Affiliate 0.0 (0.0) 0.0 0.0 0.0 0.0
Minority Interest in
Operating Partnership (2.1) 0.0 0.0 (4.8) 0.0 (1.0)
Preferred Dividends 0.0 0.0 9.4 0.0 0.0 0.0
------ ------ ------ ------ ------ ------
Net Income Before
Extraordinary Items
and Gains on Sale $7.3 $3.6 $18.2 $22.8 $1.5 $6.5
Extraordinary Items
and Gains on Sale (2.2) 0.3 1.0 4.4 0.0 (2.5)
------ ------ ------ ------ ------ ------
Net Income $5.2 $3.8 $19.3 $27.1 $1.5 $4.0
------ ------ ------ ------ ------ ------
------ ------ ------ ------ ------ ------
COMPANY REPORTED &
SUTRO ESTIMATE
- ------------------------------------------------------------------------------------------------------------------------------------
Net Income per share $0.79 $0.25 $1.18 $0.00 ($0.24) $0.26
FFO per share $2.08 $0.55 $2.51 $1.84 $1.04 $1.75
Weighted Average Shares 6.7 15.6 17.3 27.3 30.6 15.6
LTM Dividend (as reported) $1.72 $0.40 $1.79 $1.59 $0.99 $1.60
LTM Dividend/FFO per share 82.7% 73.1% 71.4% 86.4% 95.5% 91.4%
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ------------------------------------------------------------------------------
PEER GROUP RATIO ANALYSIS
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------
AMBASSADOR ASSOCIATED AMLI RESIDENTIAL BERKSHIRE GROVE PROPERTY
APARTMENTS INC. ESTATES REALTY PROPERTIES REALTY CO. TRUST
------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Senior Unsecured Credit Rating
(Moody's/S&P/Fitch) NR /NR /NR Baa3/BBB-/NR NR /NR /NR NR /NR /NR NR /NR /NR
BALANCE SHEET RATIOS:
Long-Term Collateralized Debt/
Capitaliz. (Book Basis) 67.5% 0.0% 30.7% 34.6% 42.7%
Long-Term Collateralized Debt/
Capitaliz. (Market Adjusted) 57.5% 0.0% 23.9% 28.9% 33.7%
Long-Term Collateralized Debt/
Long Term Debt 100.0% 0.0% 80.3% 95.7% 79.3%
Long-Term Debt/Capitalization
(Book Basis) 67.5% 54.7% 38.2% 36.1% 53.8%
Long-Term Debt/Capitalization
(Market Adjusted) 57.5% 36.9% 29.7% 30.2% 42.5%
Long-Term Debt/Undepreciated
Real Estate 63.5% 37.6% 34.9% 27.3% 37.0%
LTD + Preferred/Capitalization
(Book Basis) 72.2% 67.8% 42.6% 48.7% 53.8%
LTD + Preferred/Capitalization
(Market Adjusted) 61.4% 45.7% 33.1% 40.8% 42.5%
Total Funded Debt & Cap. Leases/
STD + Cap. (Book) 69.5% 60.3% 42.5% 47.9% 58.4%
Total Funded Debt & Cap. Leases/
STD + Cap. (Market) 59.6% 42.4% 33.6% 41.4% 47.2%
Total Funded Debt & Cap. Leases
+ Pref./STD + Cap. (Book) 73.9% 71.8% 46.6% 58.3% 58.4%
Total Funded Debt & Cap. Leases
+ Pref./STD + Cap. (Market) 63.4% 50.4% 36.8% 50.3% 47.2%
INCOME STATEMENT RATIOS:
Operating Margin (1) 49.3% 53.7% 57.7% 45.2% 52.0%
Net Margin (2) 1.9% 14.7% 27.0% -14.8% 19.1%
Return on Permanent Capital (3) 4.6% 7.8% 6.5% 1.3% 3.7%
Return on Common Equity (4) -0.2% 11.2% 7.7% -6.2% 6.4%
FIXED CHARGE COVERAGE RATIOS:
EBIT/Interest Expense (5) 1.2x 2.2x 3.3x 0.4x 2.3x
CFO/Total Funded Debt & Capital
Leases (6) 6.1% 13.1% 16.2% 7.3% 6.9%
CFO/Total Funded Debt & Capital
Leases + Pref. Stock 5.7% 11.0% 14.8% 6.0% 6.9%
CFO + Interest Expense/Total
Debt Service 2.1x 3.2x 2.1x 2.0x 3.5x
CFO + Interest Expense/Total
Debt Service + Pref. Divs. 1.9x 2.5x 1.9x 2.0x 3.5x
Free Cash Flow/Total Funded
Debt & Cap. Leases (6) 10.6% 17.6% 19.5% 13.6% 8.9%
Free Cash Flow/TFD & Cap.
Leases + Pref. Stock 10.0% 14.8% 17.8% 11.2% 8.9%
Free Cash Flow/Total Debt
Service 1.9x 3.0x 1.9x 1.8x 3.2x
Free Cash Flow/Total Debt
Service + Preferred Divs. 1.7x 2.3x 1.8x 1.8x 3.2x
</TABLE>
- ----------------------------------
(1) Operating Margin is defined as Income from Operations plus Depreciation
and Amortization plus Interest Expense divided by Revenues.
(2) Net Margin is defined as Income from Operations less Preferred Dividends
divided by Revenues.
(3) Return on Permanent Capital is defined as Income from Operations plus
Interest Expense Divided by Short-Term Debt plus Capitalization (Book
Basis).
(4) Return on Common Equity is defined as Net Income before Extraordinary
Items and Sales divided by Common Shareholders Equity (Book Basis).
(5) EBIT is defined as Income from Operations plus Interest Expense.
(6) See "Cash Flow Statements" page for derivation of Cash Flow from
Operations and Free Cash Flow.
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P. - A
- ------------------------------------------------------------------------------
PEER GROUP RATIO ANAYLSIS
<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------------------
HOME PROPERTIES INVESTORS REAL OASIS SUMMIT CORNERSTONE REALTY TOWN & COUNTRY
OF NEW YORK ESTATE TRUST RESIDENTIAL INC. PROPERTIES INC. INCOME TRST TRUST
-------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Senior Unsecured Credit
Rating (Moody's/S&P/Fitch) NR /NR /NR NR /NR /NR Baa3/BBB-/NR Baa3/BBB-/NR NR /NR /NR Aa2/CCC/AA
BALANCE SHEET RATIOS:
Long-Term Collateralized
Debt/Capitaliz. (Book Basis) 36.6% 60.8% 3.8% 58.3% 0.0% 82.7%
Long-Term Collateralized
Debt/Capitaliz. (Market
Adjusted) 27.3% 48.7% 3.3% 47.8% 0.0% 49.4%
Long-Term Collateralized
Debt/Long Term Debt 79.9% 90.5% 8.2% 100.0% 0.0% 100.0%
Long-Term Debt/
Capitalization (Book
Basis) 45.8% 67.2% 45.8% 58.3% 1.7% 82.7%
Long-Term Debt/
Capitalization (Market
Adjusted) 34.1% 53.8% 40.7% 47.8% 1.2% 49.4%
Long-Term Debt/
Undepreciated Real
Estate 41.7% 63.5% 36.4% 50.6% 1.2% 52.7%
LTD + Preferred/
Capitalization (Book
Basis) 45.8% 67.2% 60.6% 58.3% 1.7% 82.7%
LTD + Preferred/
Capitalization (Market
Adjusted) 34.1% 53.8% 53.9% 47.8% 1.2% 49.4%
Total Funded Debt & Cap.
Leases/STD + Cap. (Book) 50.3% 67.2% 54.7% 58.3% 28.1% 82.7%
Total Funded Debt & Cap.
Leases/STD + Cap. (Market) 38.3% 53.8% 49.6% 47.8% 21.5% 49.4%
Total Funded Debt & Cap.
Leases + Pref./STD + Cap.
(Book) 50.3% 67.2% 67.1% 58.3% 28.1% 82.7%
Total Funded Debt & Cap.
Leases + Pref./STD + Cap.
(Market) 38.3% 53.8% 60.7% 47.8% 21.5% 49.4%
INCOME STATEMENT RATIOS:
Operating Margin (1) 51.0% 62.0% 63.4% 61.7% 32.0% 56.0%
Net Margin (2) 16.3% 12.5% 16.5% 23.6% 2.3% 8.1%
Return on Permanent
Capital (3) 5.2% 6.5% 6.3% 6.6% 1.6% 7.0%
Return on Common Equity (4) 6.6% 5.5% 6.9% 8.5% 0.5% 12.0%
FIXED CHARGE COVERAGE RATIOS:
EBIT/Interest Expense (5) 1.9x 1.4x 2.2x 2.3x 1.3x 1.4x
CFO/Total Funded Debt &
Capital Leases (6) 9.9% 6.0% 10.7% 11.5% 12.4% 11.3%
CFO/Total Funded Debt &
Capital Leases + Pref.
Stock 9.9% 6.0% 8.7% 11.5% 12.4% 11.3%
CFO + Interest Expense/Total
Debt Service 2.6x 1.9x 3.0x 3.3x 0.2x 2.9x
CFO + Interest Expense/Total
Debt Service + Pref. Divs. 2.6x 1.9x 2.1x 3.3x 0.2x 2.9x
Free Cash Flow/Total Funded
Debt & Cap. Leases (6) 14.1% 12.3% 15.0% 15.4% 14.9% 16.0%
Free Cash Flow/TFD & Cap.
Leases + Pref. Stock 14.1% 12.3% 12.2% 15.4% 14.9% 16.0%
Free Cash Flow/Total Debt
Service 2.4x 1.7x 2.8x 3.1x 0.1x 2.7x
Free Cash Flow/Total Debt
Service + Preferred Divs. 2.4x 1.7x 2.0x 3.1x 0.1x 2.7x
</TABLE>
- ----------------------------------
(1) Operating Margin is defined as Income from Operations plus Depreciation
and Amortization plus Interest Expense divided by Revenues.
(2) Net Margin is defined as Income from Operations less Preferred Dividends
divided by Revenues.
(3) Return on Permanent Capital is defined as Income from Operations plus
Interest Expense Divided by Short-Term Debt plus Capitalization (Book
Basis).
(4) Return on Common Equity is defined as Net Income before Extraordinary
Items and Sales divided by Common Shareholders Equity (Book Basis).
(5) EBIT is defined as Income from Operations plus Interest Expense.
(6) See "Cash Flow Statements" page for derivation of Cash Flow from
Operations and Free Cash Flow.
<PAGE>
ANALYSIS OF PROPOSED MANAGEMENT
CONTRACT
<PAGE>
CAPITAL SOURCE L.P. AND CAPITAL SOURCE II L.P.-A
- ------------------------------------------------------------------------------
PROPOSED MANAGEMENT FEE EXPENSE COMPARISON (FOR EXISTING ASSETS)
SEPTEMBER 30, 1997 QUARTER DATA ANNUALIZED
<TABLE>
<CAPTION>
Cap Source I Cap Source II Total
------------ ------------- -----
<S> <C> <C> <C>
G&A Expenses $488,356 $431,112 $919,468
Management Fees 0 166,000 166,000
-------- -------- ----------
Total $488,356 $597,112 $1,085,468
<CAPTION>
PROPOSED ASSET MANAGEMENT FEES PROJECTED FOR 1998
<S> <C>
0.475% Fee $406,800
Third Party Reimbursable
Expenses 406,500
--------
Total $813,300
</TABLE>
PROPOSED ASSET MANAGEMENT FEES PROJECTED FOR 1999-2003
<TABLE>
<CAPTION>
Start Up Years Years where Development Projects are Sold
--------------------------- -----------------------------------------
1999 2000 2001 2002 2003
------------- ------------ ------------ ------------ -------------
<S> <C> <C> <C> <C> <C>
All Fees 1,457,987 1,415,307 3,182,220 4,593,320 3,075,852
Total Assets 247,195,811 318,936,432 344,118,512 470,669,698 530,528,920
All Fees as a % of
Total Assets 0.59% 0.44% 0.92% 0.98% 0.58%
</TABLE>
