<PAGE>
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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
-----
EXCHANGE ACT OF 1934
For the quarterly period ended: June 30, 1994
OR
______ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ____________ to ______________
Commission File Number: 1-8996
CAPSTEAD MORTGAGE CORPORATION
(Exact name of Registrant as specified in its Charter)
Maryland 75-2027937
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2001 Bryan Tower, Dallas, Texas 75201
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (214) 999-2323
The Registrant meets the conditions set forth in General Instruction H(1)(a) and
(b) for Form 10-Q and is therefore filing this Form under the reduced disclosure
format.
Indicate by check mark whether the Registrant (1) has filed all documents and
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES X NO ______
-----
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the last practicable date.
Common Stock ($.01 par value) 15,256,381 as of August 10, 1994
===============================================================================
<PAGE>
CAPSTEAD MORTGAGE CORPORATION
FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 1994
INDEX
Page
----
PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements
Consolidated Balance Sheet - June 30, 1994 and December 31, 1993.... 3
Consolidated Statement of Income - Quarter and Six Months Ended
June 30, 1994 and 1993............................................. 4
Consolidated Statement of Cash Flows - Six Months Ended
June 30, 1994 and 1993............................................. 5
Notes to Consolidated Financial Statements.......................... 6
ITEM 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations................ 11
PART II. - OTHER INFORMATION
ITEM 6. Exhibits and Reports on Form 8-K............................. 18
SIGNATURES........................................................... 19
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<PAGE>
PART I. -- FINANCIAL INFORMATION
CAPSTEAD MORTGAGE CORPORATION
CONSOLIDATED BALANCE SHEET
(in thousands)
<TABLE>
<CAPTION>
ITEM 1. FINANCIAL STATEMENTS
June 30, 1994 December 31, 1993
-------------- ------------------
(Unaudited)
<S> <C> <C>
Assets
Mortgage securities collateral $4,869,488 $3,995,956
Mortgage investments 3,579,799 2,842,151
---------- ----------
8,449,287 6,838,107
Less allowance for possible losses (6,832) (6,927)
---------- ----------
8,442,455 6,831,180
Cash and cash equivalents 19,324 87,760
Prepaids, receivables and other 73,864 36,238
Purchased mortgage servicing rights 132,731 25,146
---------- ----------
$8,668,374 $6,980,324
========== ==========
Liabilities
Collateralized mortgage securities $4,722,864 $3,891,134
Repurchase arrangements 3,284,568 2,443,807
Accounts payable and accrued expenses 44,254 7,193
---------- ----------
8,051,686 6,342,134
---------- ----------
Stockholders' Equity
Preferred stock - $0.10 par value;
100,000 shares authorized:
$1.60 Cumulative Preferred Stock,
Series A, 664 and 735 shares
issued and outstanding ($11,136
aggregate liquidation preference) 9,300 10,295
$1.26 Cumulative Convertible
Preferred Stock, Series B, 30,005
and 29,797 shares issued and
outstanding ($340,228 aggregate
liquidation preference) 322,324 319,543
Common stock - $0.01 par value; 100,000
shares authorized; 15,247 and 15,154
shares issued and outstanding 152 152
Paid-in capital 309,695 308,140
Undistributed income (deficit) (1,119) 60
Unrealized loss on debt and equity
securities held available-for-sale (23,664) -
---------- ----------
616,688 638,190
---------- ----------
$8,668,374 $6,980,324
========== ==========
</TABLE>
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<PAGE>
CAPSTEAD MORTGAGE CORPORATION
CONSOLIDATED STATEMENT OF INCOME
(UNAUDITED)
(in thousands, except per share amounts)
<TABLE>
<CAPTION>
Quarter Ended Six MonthsEnded
June 30 June 30
------------------------ ------------------------
1994 1993 1994 1993
--------- -------- --------- -----------
<S> <C> <C> <C> <C>
Interest income:
Mortgage securities
collateral $ 90,667 $106,755 $172,136 $219,125
Mortgage investments 45,152 46,374 89,421 83,536
-------- -------- -------- --------
Total interest income 135,819 153,129 261,557 302,661
-------- -------- -------- --------
Interest and related
expenses:
Collateralized mortgage
securities 85,941 105,234 163,019 210,389
Short-term borrowings 28,494 19,713 49,628 36,000
Mortgage insurance and
other 3,292 5,414 7,249 10,429
Provision for possible
losses 500 500 1,000 1,800
-------- -------- -------- --------
Total interest and
related expenses 118,227 130,861 220,896 258,618
-------- -------- -------- --------
Net margin on
mortgage assets 17,592 22,268 40,661 44,043
-------- -------- -------- --------
Mortgage servicing
revenues:
Servicing fees 5,333 59 7,669 59
Other 423 - 544 -
-------- -------- -------- --------
Total mortgage servicing
revenues 5,756 59 8,213 59
-------- -------- -------- --------
Mortgage servicing
expenses:
Salaries and related costs 664 155 955 155
General and administrative 354 72 602 72
Amortization of purchased
mortgage servicing rights 423 - 1,159 -
-------- -------- -------- --------
Total mortgage servicing
expenses 1,441 227 2,716 227
-------- -------- -------- --------
Net margin on
servicing operations 4,315 (168) 5,497 (168)
-------- -------- -------- --------
Other revenues:
Gain on sales 160 6,065 2,157 15,340
Bond administration
revenues 1,193 124 2,027 183
Other 371 41 600 351
-------- -------- -------- --------
Total other revenues 1,724 6,230 4,784 15,874
-------- -------- -------- --------
Other expenses:
Salaries and related costs 1,954 1,723 4,374 3,659
General and administrative 1,647 1,826 3,069 3,289
Management fees and
termination costs - 1,526 - 6,641
-------- -------- -------- --------
Total other expenses 3,601 5,075 7,443 13,589
-------- -------- -------- --------
Net income $ 20,030 $ 23,255 $ 43,499 $ 46,160
======== ======== ======== ========a
Net income $ 20,030 $ 23,255 $ 43,499 $ 46,160
</TABLE>
See accompanying notes to consolidated financial statements.
-4-
<PAGE>
<TABLE>
<S> <C> <C> <C> <C>
Less cash dividends on
preferred stock (9,706) (9,642) (19,386) (19,268)
-------- -------- -------- --------
Net income available to
common stockholders $ 10,324 $ 13,613 $ 24,113 $ 26,892
======== ======== ======== ========
Net income per share:
Primary $0.68 $ 0.90 $1.58 $ 1.78
Fully diluted 0.67 0.88 1.55 1.74
Cash dividends paid per
share:
Common $0.83 $ 0.90 $1.66 $ 1.78
Series A Preferred 0.40 0.40 0.80 0.80
Series B Preferred 0.31 0.31 0.63 0.63
</TABLE>
See accompanying notes to consolidated financial statements.
-5-
<PAGE>
CAPSTEAD MORTGAGE CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
(in thousands)
<TABLE>
<CAPTION>
Six Months Ended
June 30
------------------------------
1994 1993
----------- -----------
<S> <C> <C>
Operating activities:
Net income $ 43,499 $ 46,160
Noncash items:
Amortization of discount and premium 2,503 10,301
Amortization of purchased mortgage
servicing rights 1,159 -
Provision for possible losses 1,000 1,800
Net gain from investing activities (2,157) (15,768)
Net change in prepaids, receivables and other
assets (40,254) (9,227)
Net change in accounts payable and accrued
expenses
excluding payables for bulk purchases of
mortgage servicing rights 667 450
----------- -----------
Net cash provided by operating activities 6,417 33,716
----------- -----------
Investing activities:
Mortgage securities collateral:
Principal collections on collateral 859,829 962,604
Decrease (increase) in accrued interest
receivable (3,934) 3,089
Decrease (increase) in short-term investments 145,653 (59,786)
Purchases of mortgage loans (1,623,486) (1,645,256)
Purchases of agency securities (1,197,053) (1,244,523)
Principal collections on mortgage investments 161,962 96,400
Purchases of mortgage servicing rights (68,533) -
Proceeds from sales of mortgage investments 22,808 1,005,130
----------- -----------
Net cash used by investing activities (1,702,754) (882,342)
----------- -----------
Financing activities:
Collateralized mortgage securities:
Issuance of securities 1,846,957 722,341
Principal payments on securities (1,019,831) (904,252)
Increase (decrease) in accrued interest
payable 1,351 (3,833)
Capital stock transactions 3,341 3,469
Dividends paid (44,678) (46,047)
Increase in short-term borrowings 840,761 1,054,349
----------- -----------
Net cash provided by financing activities 1,627,901 826,027
----------- -----------
Net (decrease) increase in cash and cash
equivalents (68,436) 22,599
Cash and cash equivalents at beginning of
period 87,760 30,302
----------- -----------
Cash and cash equivalents at end of period $ 19,324 $ 7,703
=========== ===========
Noncash investing and financing activities:
Charges to allowance for losses $ 1,095 $ 736
Transfers from mortgage investments to
mortgage securities collateral $ 1,898,253
</TABLE>
See accompanying notes to consolidated financial statements.
-6-
<PAGE>
CAPSTEAD MORTGAGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1994
(UNAUDITED)
NOTE A - BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared in accordance
with generally accepted accounting principles for interim financial information
and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
In the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included.
Operating results for the quarter and six months ended June 30, 1994 are not
necessarily indicative of the results that may be expected for the calendar year
ending December 31, 1994. For further information refer to the financial
statements and footnotes thereto included in the Company's annual report on Form
10-K for the year ended December 31, 1993. Certain amounts for prior periods
have been reclassified to conform to the 1994 presentation.
NOTE B - MORTGAGE INVESTMENTS
Mortgage investments and the related average effective interest rates
(calculated excluding unrealized gains and losses) during the periods indicated
were (dollars in thousands):
<TABLE>
<CAPTION>
Quarter Six Months
Ended Ended
As of June 30 June 30 June 30
---------------------- ------------ ------------
1994 1993 1994 1993 1994 1993
---------- ---------- ----- ----- ----- -----
<S> <C> <C> <C> <C> <C> <C>
Mortgage loan portfolio:
Fixed-rate mortgage loans $ 396,311 $ 720,696 6.86% 7.71% 6.78% 7.95%
Medium-term mortgage loans 8,127 127,741 6.62 6.67 6.55 7.18
Adjustable-rate mortgage
("ARM")loans 142,864 58,374 4.57 5.47 4.53 5.78
AAA-rated mortgage pass-
through securities
portfolio:
Fixed-rate mortgage
securities 308,683 - 6.77 - 6.77 -
Medium-term mortgage
securities 477,203 363,427 6.86 7.30 6.87 7.42
ARM securities 677,834 1,115,175 5.08 5.82 5.13 5.83
Agency securities
portfolio:
Fixed-rate agency
securities 504,650 604,094 6.44 6.91 6.45 6.86
ARM agency securities 1,064,127 - 4.55 - 4.55 -
---------- ----------
$3,579,799 $2,989,507
========== ==========
</TABLE>
-7-
<PAGE>
The Company classifies its mortgage investments by term and interest rate
characteristics of the underlying mortgage loans. The Company's fixed-rate
mortgage loans (i) have fixed rates of interest for their entire terms, or (ii)
adjust annually based on a specified margin over one-year United States Treasury
Securities ("one-year Treasuries") after an initial fixed rate period of ten
years after origination. Medium-term mortgage loans (i) adjust annually based
on a specified margin over one-year Treasuries after an initial fixed rate
period of three or five years after origination, or (ii) have initial interest
rates that adjust one time, approximately five years following origination of
the mortgage loan, based on a specified margin over the Federal National
Mortgage Association ("FNMA") yields for 30-year fixed-rate commitments at the
time of adjustment. ARM loans either (i) adjust semiannually based on a
specified margin over the six-month London interbank offered rate ("LIBOR"), or
(ii) adjust annually based on a specified margin over one-year Treasuries.
At June 30, 1994 the AAA-rated mortgage pass-through securities ("Mortgage Pass-
Throughs") portfolio, the agency securities portfolio, and $451 million of the
mortgage loan portfolio was pledged to secure short-term borrowings. As of June
30, 1994, the Company had outstanding commitments to purchase mortgage loans of
approximately $124 million.
During the quarter, the Company entered into forward delivery contracts for the
purpose of reducing exposure to the effect of changes in interest rates on
certain fixed-rate mortgage loans which it has purchased or has committed to
purchase. These contracts have terms of not more than 90 days. Gains and
losses on such contracts will be deferred as an adjustment of the carrying value
of the related mortgage loans and amortized into interest income using the
effective yield method over the expected remaining life of the mortgage loans.
As of June 30, 1994, the Company had outstanding for hedging purposes forward
delivery contracts with an aggregate gross contract amount of $410 million.
NOTE C - SECURITIZATION ACTIVITY
During the quarter ended June 30, 1994, the Company pledged $254 million of 15-
and 20-year fixed-rate whole loans with an average coupon interest rate of 6.55%
as collateral for the issuance of $254 million of collateralized mortgage
securities (CMO Series 1994-F). CMO Series 1994-F has a 20-year stated maturity
and an average coupon interest rate of 6.25%.
NOTE D - NET INTEREST INCOME ANALYSIS
The following tables summarize the amount of interest income and interest
expense and the average effective interest rate (dollars in thousands):
<TABLE>
<CAPTION>
Quarter Ended June 30
--------------------------------------
1994 1993
------------------ ------------------
Average Average
Amount Rate Amount Rate
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Interest income:
Mortgage securities collateral $ 90,667 7.57% $106,755 8.45%
</TABLE>
-8-
<PAGE>
<TABLE>
<S> <C> <C> <C> <C>
Mortgage investments 45,152 5.93 46,374 6.58
-------- --------
Total interest income 135,819 153,129
-------- --------
Interest expense:
Collateralized mortgage securities 85,941 7.31 105,234 8.57
Short-term borrowings 28,494 4.26 19,713 3.36
-------- --------
Total interest expense 114,435 124,947
-------- --------
Net interest $ 21,384 $ 28,182
======== ========
</TABLE>
<TABLE>
<CAPTION>
Six Months Ended June 30
---------------------------------------
1994 1993
------------------- -----------------
Average Average
Amount Rate Amount Rate
-------- ------- -------- -------
<S> <C> <C> <C> <C>
Interest income:
Mortgage securities collateral $172,136 7.71% $219,125 8.58%
Mortgage investments 89,421 6.14 83,536 6.62
-------- --------
Total interest income 261,557 302,661
-------- --------
Interest expense:
Collateralized mortgage securities 163,019 7.08 210,389 8.47
Short-term borrowings 49,628 3.96 36,000 3.49
-------- --------
Total interest expense 212,647 246,389
-------- --------
Net interest $ 48,910 $ 56,272
======== ========
</TABLE>
The following tables summarize the amount of change in interest income on
mortgage securities collateral and interest expense on collateralized mortgage
securities due to changes in effective interest rates versus changes in volume
for the quarter and six months ended June 30, 1994 compared to the same periods
in 1993 (in thousands):
<TABLE>
<CAPTION>
Quarter Ended June 30, 1994
---------------------------------
Rate Volume Total
---------- ---------- ---------
<S> <C> <C> <C>
Interest income:
Mortgage securities collateral $(10,623) $ (5,465) $(16,088)
Mortgage investments (4,790) 3,568 (1,222)
-------- -------- --------
Total interest income (15,413) (1,897) (17,310)
-------- -------- --------
Interest expense:
Collateralized mortgage securities (14,891) (4,402) (19,293)
Short-term borrowings 5,824 2,957 8,781
-------- -------- --------
Total interest expense (9,067) (1,445) (10,512)
-------- -------- --------
Net interest $ (6,346) $ (452) $ (6,798)
======== ======== ========
</TABLE>
<TABLE>
<CAPTION>
Six Months Ended June 30, 1994
-------------------------------
Rate Volume Total
-------- -------- --------
<S> <C> <C> <C>
Interest income:
Mortgage securities collateral $(20,885) $(26,104) $(46,989)
Mortgage investments (6,425) 12,310 5,885
-------- -------- --------
Total interest income (27,310) (13,794) (41,104)
-------- -------- --------
Interest expense:
Collateralized mortgage securities (32,745) (14,625) (47,370)
Short-term borrowings 5,354 8,274 13,628
-------- -------- --------
Total interest expense (27,391) (6,351) (33,742)
-------- -------- --------
Net interest $ 81 $ (7,443) $ (7,362)
======== ======== ========
</TABLE>
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<PAGE>
NOTE E - DISCLOSURES REGARDING FAIR VALUES OF CERTAIN INVESTMENTS IN DEBT AND
EQUITY SECURITIES
In May 1993 the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" (the "Statement"). The Company adopted the
provisions of the Statement as of January 1, 1994. In accordance with the
Statement, prior period financial statements have not been restated to reflect
the change in accounting principle. There was no cumulative effect as of
January 1, 1994 of adopting the Statement on net income. The opening balance of
stockholders' equity was increased by $7,512,000 to reflect net unrealized
holding gains on securities classified as available-for-sale previously carried
at amortized cost.
The following tables summarize available-for-sale securities and held-to-
maturity securities as of June 30, 1994 (in thousands):
<TABLE>
<CAPTION>
Available-for-Sale Securities
----------------------------------------------
Gross Gross Estimated
Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Mortgage Pass-Throughs:
Medium-term securities $ 486,491 $ - $ 9,288 $ 477,203
ARM securities 684,651 - 6,817 677,834
ARM agency securities 1,075,056 - 10,929 1,064,127
Other mortgage securities 11,792 2,327 349 13,770
---------- ------- ------- ----------
Total debt securities 2,257,990 2,327 27,383 2,232,934
Equity securities 17,808 1,392 - 19,200
---------- ------- ------- ----------
$2,275,798 $ 3,719 $27,383 $2,252,134
========== ======= ======= ==========
</TABLE>
<TABLE>
<CAPTION>
Held-to-Maturity Securities
----------------------------------------------
Gross Gross Estimated
Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Fixed-rate Mortgage Pass-
Throughs $308,683 $ - $19,863 $288,820
Fixed-rate agency securities 504,650 - 49,619 455,031
Mortgage securities
collateral, net* 132,853 10,153 23,048 119,958
-------- ------- ------- --------
$946,186 $10,153 $92,530 $863,809
======== ======= ======= ========
</TABLE>
* All mortgage securities collateral has been permanently financed through the
issuance of collateralized mortgage securities and, as a result, the Company's
exposure to changes in the fair value of the underlying assets (and
liabilities) is limited. For this reason, the table above presents the fair
value of the net cash flows of the mortgage securities collateral after
payments on the related collateralized mortgage securities (i.e., the CMO
residual). This fair value was estimated based on projected net cash flows
discounted at what management believes to be appropriate discount rates and
prepayment assumptions. Considered on a stand-alone basis, mortgage securities
collateral has a fair value of approximately
-10-
<PAGE>
$4.7 billion, with unrealized losses of approximately $180 million, offset by
unrealized gains of over $18 million.
The maturity of the Company's mortgage assets is directly affected by the rate
of principal prepayments by mortgagors and redemptions by issuers, including the
Company, of remaining debt securities outstanding (referred to as "clean-up
calls"). As a result, the actual maturity of the Company's mortgage assets
usually occurs well in advance of stated maturities. The Company anticipates
that through prepayments and exercising clean-up calls, a significant portion of
its higher cost collateralized mortgage securities will be retired within the
next several years and a residual amount of high coupon mortgage securities
collateral will be released and can be sold or continued to be held as
investments. Included in mortgage securities collateral is $34,325,000 and
$33,277,000 of collateral released from the related indentures at June 30, 1994
and December 31, 1993, respectively. During the quarter and six months ended
June 30, 1994, $3,254,000 and $20,651,000, respectively, of mortgage securities
collateral previously released from the related indentures pursuant to clean-up
calls was sold at gross realized gains of $160,000 and $2,157,000, respectively.
No available-for-sale securities were sold. Net adjustments to unrealized
holding gains (losses) on available-for-sale securities included as a separate
component of stockholders' equity totaled $(27,170,000) and $(31,176,000) during
the quarter and six months ended June 30, 1994, respectively. Since trading
securities consisted solely of overnight deposits during the quarter, no net
unrealized holding gains or losses were included in income during the quarter
and six months ended June 30, 1994.
NOTE F -- CONTINGENCY RELATED TO THE CALIFORNIA EARTHQUAKE
On January 17, 1994, the Los Angeles region of southern California suffered a
relatively severe earthquake. The Company has exposure to earthquake losses in
cases where a homeowner defaults on his mortgage and the property has structural
damage from an earthquake, exclusive of fire or water damage (the standard
homeowners policy covers fire and water damage even if such damage was the
result of an earthquake). The Company has determined, through property
inspections and discussions with homeowners, that properties underlying
approximately $18 million of mortgage loans are not insured by either the
Company or the homeowner for special hazards, such as an earthquake, and may
have significant structural damage. The Company expects some of these
homeowners may default. However, the Company believes any losses incurred as a
result of this earthquake will not be material and that its allowance for
possible losses at June 30, 1994 is adequate to absorb any such losses.
-11-
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Financial Condition
- - -------------------
During the second quarter of 1994, the Company purchased 2,008 mortgage loans
totaling $553,653,000, compared to purchases of 2,981 mortgage loans totaling
$951,771,000 during the same period in 1993. During the six months ended June
30, 1994, the Company purchased 5,640 mortgage loans totaling $1,626,765,000
compared to purchases of 5,177 mortgage loans totaling $1,639,515,000 during the
same period in 1993. Purchase and commitment volumes have fallen significantly
due to increases in mortgage interest rates. General market interest rates have
risen sharply as a result of improvement in the overall U.S. economy and the
Federal Reserve's efforts to keep inflation low. Inflation fears have caused
long-term interest rates to increase significantly. The Company's current
interest rate on fixed-rate mortgage loans is nearly two percentage points
higher than the low of October 1993. This recent rise in mortgage rates is
likely to result in low mortgage loan production through the remainder of the
year.
During 1993 the Company was able to expand its correspondent network resulting
in less reliance on the California market. During the second quarter of 1994,
41% of the Company's mortgage loan acquisitions were secured by properties
located in California, down from 44% in calendar year 1993 and 75% in calendar
year 1992. As of June 30, 1994, approximately 52% of the Company's mortgage
assets were secured by properties located in California, compared to 73% as of
June 30, 1993. Although the Company continues to expand its marketing efforts
to acquire mortgage loans from other regions of the United States, California is
the largest market for jumbo mortgage loans; therefore, no assurance can be
given that the Company's operations would not be materially affected by economic
or other events in California.
On January 17, 1994, the Los Angeles region of southern California suffered a
relatively severe earthquake. The Company has exposure to earthquake losses in
cases where a homeowner defaults on his mortgage and the property has structural
damage from an earthquake, exclusive of fire or water damage (the standard
homeowners policy covers fire and water damage even if such damage was the
result of an earthquake). The Company has determined, through property
inspections and discussions with homeowners, that properties underlying
approximately $18 million of mortgage loans are not insured by either the
Company or the homeowner for special hazards, such as an earthquake, and may
have significant structural damage. The Company expects some of these
homeowners may default. However, the Company believes any losses incurred as a
result of this earthquake will not be material and that its allowance for
possible losses at June 30, 1994 is adequate to absorb any such losses.
The Company formed $354 million and $438 million of AAA-rated private mortgage
pass-through securities ("Mortgage Pass-Throughs") during the quarter and six
months ended June 30, 1994, respectively. In addition to reducing the Company's
exposure to fraud and credit risk, a primary benefit of pooling mortgage loans
into Mortgage Pass-Throughs is the liquidity of AAA-rated securities over that
of individual loans. As a result, when securing short-term borrowings, the
Company is able to negotiate more favorable terms. The
-12-
<PAGE>
Company plans to continue to retain a large portfolio of primarily adjustable-
rate mortgage loan ("ARM") Mortgage Pass-Throughs.
In order to expedite growth of the Company's adjustable-rate mortgage
investments, the Company began purchasing ARM agency securities during the first
quarter. Approximately $978 million of ARM agency securities were acquired
during the second quarter of 1994. The Company also has a portfolio of fixed-
rate agency securities that it intends to continue to finance using dollar
repurchase agreements or repurchase agreements and eventually place into a
collateralized mortgage obligation ("CMO").
During the quarter the Company issued one CMO totaling $254 million through a
special-purpose finance subsidiary secured by 15- and 20-year fixed-rate
mortgage loans. The Company's net investment in this financing at issuance
totaled $14,886,000. Year to date, the Company has issued approximately $1.9
billion in CMOs retaining net investments in these financings of approximately
$57 million. The Company's 1994 CMO executions were negatively impacted by the
general rise in interest rates causing the Company to secure higher rate bonds
with lower rate collateral which the Company had committed to purchase in late
1993 to early 1994 when long-term interest rates were lower. The Company's CMO
investment portfolio, (excluding collateral of $34,325,000 released from related
indentures through redemption or pay off of the related bonds) declined from
$115,349,000 at June 30, 1993 to $110,321,000 this quarter-end, as record levels
of prepayments on mortgage securities collateral seen in 1993 continued through
January 1994, dramatically reducing outstanding balances of existing CMOs during
the intervening period.
Recently, the Company began issuing CMOs with a senior/subordinate structure in
lieu of purchasing pool insurance where bond investors or the Company assumes
credit and special hazard risks by purchasing/retaining subordinate classes of
securitization. During the current quarter the Company retained $763,000 of
these subordinate classes for its CMO investment portfolio at a cost of
$267,000. Year-to-date, the Company has retained $3,321,000 of subordinated
securities at a cost of $1,162,000. The cost and yield characteristics of
subordinate securities reflects the market's and the Company's expectation of
the risks assumed and, therefore, the Company does not anticipate a need to
increase its provision for losses for this added exposure.
The Company formed its mortgage servicing unit early in 1993, and has obtained
Federal National Mortgage Association and Federal Home Loan Mortgage Corporation
servicing approvals so that the Company could begin servicing conforming loans
guaranteed by these government-sponsored entities. The Company's mortgage
servicing portfolio (excluding pending transfers) increased substantially during
the quarter to $6.7 billion with a weighted average interest rate of only 7.03%.
The current balance of purchased mortgage servicing rights related to this
portfolio was approximately $83 million (124 basis points) at June 30, 1994. In
addition, pending transfers as of quarter-end, together with contracts to
acquire servicing rights entered into after quarter-end, totaled another $6.8
billion of servicing with a weighted average interest rate of 7.10% at an
average cost of 151 basis points. These pending transfers, together with normal
jumbo servicing acquisitions, should allow the Company to end the year with a
servicing portfolio of more than $15.0 billion. Portfolio run-off, consisting of
prepayments and scheduled payments on
-13-
<PAGE>
mortgage loans serviced, was at an annual rate of only 6.20% during the quarter,
owing to the very low weighted average interest rate of the servicing portfolio
compared to today's mortgage interest rates.
-14-
<PAGE>
The following table summarizes the Company's utilization of capital as of June
30, 1994 (in thousands):
<TABLE>
<CAPTION>
Funded Through
--------------------
Assets Borrowings Equity
---------- ---------- --------
<S> <C> <C> <C>
Mortgage loan portfolio:
Fixed-rate mortgage loans $ 396,311 $ 333,630 $ 62,681
Medium-term mortgage loans 8,127 3,026 5,101
Adjustable-rate mortgage loans 142,864 71,810 71,054
AAA-rated mortgage pass-through
securities portfolio:
Fixed-rate mortgage securities 308,683 273,227 35,456
Medium-term mortgage securities 477,203 454,833 22,370
Adjustable-rate mortgage securities 677,834 645,500 32,334
Agency securities portfolio:
Fixed-rate agency securities 504,650 467,281 37,369
Adjustable-rate agency securities 1,064,127 1,035,261 28,866
CMO investment portfolio 4,869,488 4,722,864 146,624
Purchased mortgage servicing rights 132,731 - 132,731
---------- ---------- --------
$8,582,018 $8,007,432 574,586
========== ========== --------
Other assets, net of other liabilities
including $36 million owed under
contracts for bulk purchases of
mortgage servicing rights 42,102
--------
Total stockholders' equity $616,688
========
</TABLE>
A significant impact of the recent rise in mortgage interest rates has been a
corresponding decline in value of most of the Company's mortgage investments, as
evidenced by a $23.7 million unrealized loss on certain of the Company's debt
and equity securities classified as available-for-sale at June 30, 1994. This
unrealized loss has been reflected as a separate component of stockholders'
equity in accordance with Statement of Financial Accounting Standards No. 115
"Accounting for certain Investments in Debt and Equity Securities" which was
adopted by the Company this year. These losses will only be realized by the
Company if the related assets are sold. The Company does not intend to sell
these assets under current market conditions.
As of June 30, 1994, the Company's mortgage investments and its commitments to
acquire mortgage loans ("Pipeline") totaled approximately $3.6 billion. Market
value risk associated with holding or acquiring these assets was reduced by
entering into forward sale agreements for hedging purposes totaling $410
million. In addition, approximately $1.9 billion was invested or committed for
investment in ARM loans, which generally tend to hold their market value in a
rising interest rate environment. Remaining mortgage assets and Pipeline
(adjusted for expected Pipeline fallout of 20% on "best efforts" commitments and
35% on "optional" commitments) that was subject to market value risk as of June
30, 1994 was approximately $1.3 billion. As the Company continues to acquire
mortgage loans, it may pool such loans into CMOs or other securitizations,
thereby periodically reducing the amount of mortgage loans subject to market
value risk (see "Effects of Interest Rate Changes").
-15-
<PAGE>
Results of Operations
- - ---------------------
Comparative net operating results (interest income or fee revenues, net of
related interest expense or direct operating costs), by source, are as follows
(in thousands, except per share amounts):
<TABLE>
<CAPTION>
Quarter Ended Six Months Ended
June 30 June 30
------------------ -------------------
1994 1993 1994 1993
-------- -------- -------- ---------
<S> <C> <C> <C> <C>
Mortgage loan portfolio $ 6,904 $11,004 $20,474 $ 21,479
Mortgage Pass-Through portfolio 4,270 9,178 9,048 16,568
Agency securities portfolio 4,440 4,964 8,329 6,867
CMO investment portfolio 2,478 (2,378) 3,810 929
Mortgage servicing 4,315 (168) 5,497 (168)
Gains from sales 160 6,065 2,157 15,340
Bond administration 1,193 124 2,027 183
Other income 371 41 600 351
------- ------- ------- --------
Contribution to income 24,131 28,830 51,942 61,549
Provision for losses (500) (500) (1,000) (1,800)
General and administrative expenses (3,601) (5,075) (7,443) (13,589)
------- ------- ------- --------
Net income $20,030 $23,255 $43,499 $ 46,160
======= ======= ======= ========
Net income per share:
Primary $ 0.68 $ 0.90 $ 1.58 $ 1.78
Fully diluted 0.67 0.88 1.55 1.74
Return on average total
stockholders' equity 12.45% 14.60% 13.51% 14.49%
</TABLE>
The mortgage loan portfolio contributed significantly less to the current
quarter net operating results than in the second quarter of the prior year due
to (i) lower yields on mortgage loans: 6.56% in the current quarter compared to
7.28% in the second quarter of the prior year, (ii) higher short-term borrowing
costs: 4.65% in the current quarter compared to 4.23% in the second quarter of
the prior year, and (iii) greater use of leverage: the average ratio of short-
term debt to capital employed increased to 1.2:1 in the current quarter compared
to 1:1 in the second quarter of the prior year. Average portfolio outstanding
in the current quarter of $820 million remained comparable to the $846 million
outstanding during the same period of the prior year. A higher average
portfolio outstanding and lower borrowing costs in the first quarter of 1994 are
the primary reasons that year-to-date results for 1994 are not significantly
lower than those achieved year-to-date in 1993. Borrowing costs on the mortgage
loan portfolio have risen 104 basis points since January 1994. The Company has
increased its leverage of this portfolio as it has employed more of its
available capital into its servicing portfolio.
The Mortgage Pass-Through portfolio contributed less to net operating results
for the quarter and six months ended June 30, 1994 compared to the same periods
in 1993 due to a decline in the average portfolio outstanding as a result of
sales of ARM Mortgage Pass-Throughs in the latter half of 1993. The average
portfolio outstanding declined to $1.1 billion and $1.0 billion for the quarter
and six months ended June 30, 1994, respectively, compared to $1.6 billion and
$1.4 billion for the same periods in 1993. Additionally, borrowing costs have
risen 106 basis points since February 1994, averaging 4.33% and 3.98% for the
quarter and six months ended June 30, 1994,
-16-
<PAGE>
respectively, compared to 3.44% and 3.48% for the same periods in 1993. Mortgage
Pass-Through yields have declined to 5.94% and 5.97% for the quarter and six
months ended June 30, 1994, respectively, compared to 6.10% and 6.13% for the
same periods in 1993, primarily because of a portfolio mix containing less
seasoned ARM securities.
Despite a sizable increase in average portfolio outstanding to $1.1 billion in
the current quarter compared to $417 million in the second quarter of the prior
year, the agency securities portfolio contributed less to the current quarter
net operating results due to lower agency security yields (5.42% in the current
quarter compared to 6.91% in the second quarter of the prior year) and higher
short-term borrowing costs (3.98% in the current quarter compared to 2.18% in
the second quarter of the prior year). The lower yields reflect the Company's
decision to invest in recently issued ARM securities that have not yet reset to
a fully-indexed rate (either the one-year treasury rate or 6-month
LIBOR)("teaser-rate ARM securities"). These teaser-rate ARM securities produced
a yield of 4.55% during the quarter, only 43 basis points more than related
borrowing costs. Additionally, borrowing rates in the dollar repurchase
agreement market have risen considerably over those achieved in 1993. Year-to-
date results were higher in 1994 due primarily to the higher average portfolio
outstanding compared to the same period in 1993.
Operating results produced by the CMO investment portfolio are represented by
interest income on mortgage securities collateral (including interest earned on
collateral released from the related indenture due to redemption or payoff of
the related bonds), less interest expense and professional fees on
collateralized mortgage securities, and mortgage pool insurance expense on
mortgage securities collateral, and includes net investment income or loss on
other mortgage securities held by the Company. Operating results produced by the
CMO investment portfolio during the quarter and six months ended June 30, 1994
were higher than those achieved in the same periods in 1993 due primarily to the
impact of the rise in mortgage interest rates experienced in 1994 on current and
expected future prepayments. During the year ended December 31, 1993 the Company
received principal collections on mortgage securities collateral totaling $2.4
billion, nearly double the $1.3 billion of runoff in 1992. In the first quarter
of 1994, prepayments began to slow considerably. As a result, the Company has
revised its estimates of expected future prepayments, which has had the effect
of lowering required amortization of collateral and bond premiums and discounts
and improving operating results.
Net income from mortgage servicing for the quarter and six months ended June 30,
1994 totaled $4,315,000 and $5,497,000, respectively. Net income from servicing
is represented by mortgage servicing fees, net of subservicing fees paid to the
sellers of bulk servicing prior to the transfers of purchased portfolios to the
Company, interest on escrows, late charges and ancillary revenues earned, less
amortization of purchased mortgage servicing rights and other direct expenses
(including employee and system costs, and general and administrative expenses).
During the quarter ended June 30, 1994, the servicing portfolio (excluding
pending transfers) averaged $5.2 billion.
During the second quarter of 1994 the Company sold $3.3 million of mortgage
securities collateral previously released from CMOs pursuant to "clean-up calls"
recognizing a gain of $160,000. This compares to mortgage asset sales of $643
million for gains of $6,493,000 during the same period in 1993. For
-17-
<PAGE>
the six months ended June 30, 1994, the Company sold $20.7 million of released
mortgage securities collateral recognizing gains of $2,157,000. This compares to
mortgage asset sales of $989 million for gains of $15,768,000 during the same
period in 1993. Rising interest rates have limited the Company's opportunities
to recognize gains on the sale of mortgage assets in 1994.
Bond administration revenues were higher for the quarter and six months ended
June 30, 1994 than in the same periods of 1993 due to increased fees for master
servicing the collateral placed into securitizations issued by the Company and
administrating the related bonds or pass-throughs. The Company began master
servicing securitized collateral in February 1993 and receiving fees for
administering its securitizations in October 1993.
The Company provided $500,000 and $1,000,000 for possible losses during the
quarter and six months ended June 30, 1994, compared to $500,000 and $1,800,000
for the same periods in 1993. Management believes that the Company's allowance
for possible losses is adequate to cover any exposure to the January 17, 1994
earthquake in California.
After excluding $1,526,000 and $6,641,000 incurred in the quarter and six months
ended June 30, 1993, respectively, of non-competition and management agreement
expenses and termination costs, general and administrative expenses for the
periods presented were comparable.
Liquidity and Capital Resources
- - -------------------------------
The Company's primary sources of funds include monthly mortgage loan principal
and interest payments, servicing revenues, short-term financing arrangements,
excess cash flows on issued CMOs, proceeds from securitizations, and equity
offerings when available. The Company currently believes that these funds are
sufficient for the acquisition of additional mortgage loans and other mortgage
assets, repayments on short-term borrowings, growth of its servicing unit and
the payment of cash dividends as required for Capstead's continued qualification
as a Real Estate Investment Trust ("REIT"). It is the Company's policy to
remain strongly capitalized and conservatively leveraged.
The Company may, from time to time, sell a portion of its fixed-rate mortgage
loans and its investments in other mortgage loans, by issuing publicly-offered,
multi-class pass-through certificates ("MPCs") and electing Real Estate Mortgage
Investment Conduit ("REMIC") status for tax purposes on these transactions.
Such sales may make quarterly income more volatile than in the past because of
the recognition of transactional gains or losses.
Short-term borrowings are primarily made under repurchase arrangements. At June
30, 1994, the Company had uncommitted repurchase facilities with investment
banking firms with approved credit limits of $2 billion, subject to certain
conditions, to finance the mortgage loan portfolio. Interest rates on
borrowings under these facilities are based on overnight London interbank
offered rate ("LIBOR") rates. The Company currently uses other repurchase
arrangements as needed. As the Company commits to the issuance of CMOs or MPCs,
the Company may deliver the mortgage loans that are expected to secure the
issuance as collateral for a repurchase transaction with the managing
underwriter of the related issuance. The Company also enters into repurchase
and dollar repurchase arrangements with investment banking firms pursuant to
-18-
<PAGE>
which the Company pledges Mortgage Pass-Throughs and agency securities. The
terms and conditions of these arrangements, including interest rates, are
negotiated on a transaction-by-transaction basis.
Effects of Interest Rate Changes
- - --------------------------------
Changes in interest rates may impact the Company's earnings in various ways.
The Company's earnings depend, in part, on the difference between the interest
received on mortgage investments and the interest paid on related short-term
borrowings (primarily repurchase arrangements). The resulting spread may be
reduced in a rising interest rate environment. For ARM loans the risk of rising
short-term interest rates is offset to some extent by increases in the rates of
interest earned on these loans. Since ARM loans generally limit the amount of
such increase during any single interest rate adjustment period and over the
life of the loan, it is possible that the interest rates on the repurchase
arrangements could rise to levels that may exceed the interest rates on the
underlying ARM loans which may cause the Company to realize a negative interest
spread.
In addition, the Company's earnings are impacted if long-term interest rates
change during the period after the Company has committed to purchase fixed-rate
mortgage loans, but before these loans have been pledged to secure CMOs or MPCs.
If long-term interest rates increase during this period, the interest payable on
the CMOs issued will increase, while the yield on the underlying mortgage loans
pledged to collateralize the CMOs will not change; as a consequence, the
interest spread on the CMO will be lower. Conversely, if long-term interest
rates decrease during this period, the interest payable on the CMO issued will
decrease, while the yield on the underlying mortgage loans pledged to
collateralize the CMO will not change; as a consequence, the interest spread on
the CMO will be higher. Similarly, proceeds received on the issuance of MPCs,
and related gains or losses, will be negatively impacted by an increase in long-
term interest rates during this period due to the resulting decline in market
value of the related collateral. Conversely, these transactional gains or
losses will be favorably impacted by a decrease in long-term interest rates
during this period. The Company attempts to manage its exposure to long-term
interest rate changes in part by pricing CMOs and MPCs prior to the purchase of,
but subsequent to the commitment to purchase, all of the mortgages that will
collateralize the issuance, and may from time to time elect to enter into
forward sale agreements for hedging purposes.
A change in interest rates also impacts earnings recognized from the Company's
CMO investment portfolio, which consists primarily of fixed-rate CMO residuals.
The amount of income that may be generated from the typical CMO residual is
dependent upon the rate of principal prepayments on the underlying mortgage
loans. If mortgage interest rates fall significantly below the interest rate on
the collateral pledged to secure the CMO, principal prepayments will increase,
reducing or even eliminating the overall return on the investment in the CMO
residual. This is due primarily to the acceleration of the amortization of bond
discounts, a noncash item, as bond classes are repaid more rapidly than
originally anticipated. During 1993 the Company experienced such a period of
declining rates and high prepayments and having concluded that high levels of
prepayments may continue, accelerated the amortization of remaining bond
discounts accordingly.
-19-
<PAGE>
Interest-only and principal-only securities that are held by the Company in the
CMO Investment portfolio are carried at the present value of the future cash
flows expected to be received during the remaining terms of the investments,
discounted at a constant effective yield. Income recognized is the excess of
cash received over the reduction of the carrying value. In a falling interest
rate environment, prepayments on the underlying mortgage collateral generally
will be high and the Company could incur losses on investments in interest-only
securities. Conversely, in periods of rising interest rates, interest-only
securities will tend to perform very favorably because the underlying mortgage
collateral will generally prepay at slower rates. Principal-only securities
react differently to changes in interest rates. Lower interest rates result in
the recovery of this investment more rapidly thus increasing yields. During
periods of rising rates, it takes longer for the Company to recover its
investments thus lowering yields. Principal-only securities retained by the
Company generally represent a much smaller investment than interest-only
investments.
-20-
<PAGE>
Another effect of changes in interest rates is that if interest rates decrease,
the rate of prepayment of mortgage loans may increase. To the extent the
proceeds of prepayments of mortgage loans or agency securities in the Company's
mortgage investment portfolios cannot be reinvested at a rate of interest at
least equal to the rate previously earned on such mortgage loans or agency
securities, the Company's earnings may be adversely affected. In addition, the
rates of interest earned on the Company's ARM loans generally will decline
during periods of falling interest rates.
The above discussion regarding how changes in interest rates impact our
investments in mortgage loans and other mortgage assets also applies to our
growing investment in purchased mortgage servicing rights. If interest rates
rise, our servicing assets become more valuable since the average lives of the
related mortgage loans will tend to be longer and earnings from large,
temporarily-held cash balances will be greater. Conversely, lower interest
rates will spur prepayments thus reducing the period of time the Company can
service the related loans. Because the Company began servicing in 1993,
exposure to lower interest rates is less than for other servicers that acquired
servicing portfolios in previous years when interest rates were substantially
higher.
PART II. - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K:
(a) Exhibits:
--------
The following Exhibit is presented herewith:
Exhibit 11 - Computation of Earnings Per Share for the quarter and six
months ended June 30, 1994 and 1993.
(b) Reports on Form 8-K: None.
-------------------
-21-
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CAPSTEAD MORTGAGE CORPORATION
Date: August 10, 1994 By
------------------------------------
Ronn K. Lytle
Chairman and Chief Executive Officer
Date: August 10, 1994 By
------------------------------------
Andrew F. Jacobs
Senior Vice President - Control
and Treasurer
-22-
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CAPSTEAD MORTGAGE CORPORATION
Date: August 10, 1994 By /s/ RONN K. LYTLE
------------------------------------
Ronn K. Lytle
Chairman and Chief Executive Officer
Date: August 10, 1994 By /s/ ANDREW F. JACOBS
------------------------------------
Andrew F. Jacobs
Senior Vice President - Control
and Treasurer
-23-
<PAGE>
EXHIBIT 11
CAPSTEAD MORTGAGE CORPORATION
COMPUTATION OF NET INCOME PER SHARE
(in thousands, except per share amounts)
<TABLE>
<CAPTION>
Quarter Ended Six Months Ended
-------------------- --------------------
1994 1993 1994 1993
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Primary:
Average number of common
shares outstanding 15,238 15,046 15,220 14,995
Incremental shares calculated
using the Treasury Stock
method 9 70 46 81
------- ------- -------- --------
15,247 15,116 15,266 15,076
======= ======= ======== ========
Net income $20,030 $23,255 $ 43,499 $ 46,160
Less cash dividends paid on
convertible preferred stock:
Series A paid ($0.40 paid
per share) (266) (328) (538) (672)
Series B paid ($0.315 paid
per share) (9,440) (9,314) (18,848) (18,596)
------- ------- -------- --------
Net income available to
common stockholders $10,324 $13,613 $ 24,113 $ 26,892
======= ======= ======== ========
Primary net income per share $0.68 $0.90 $1.58 $1.78
Fully diluted:
Average number of common
shares outstanding 15,238 15,046 15,220 14,995
Assumed conversion of
convertible preferred stock:
Series A 606 755 619 787
Series B * * * *
Incremental shares calculated
using the Treasury Stock
method 9 72 45 90
------- ------- -------- --------
15,853 15,873 15,884 15,872
======= ======= ======== ========
Net income $20,030 $23,255 $ 43,499 $ 46,160
Less cash dividends paid on
the Series B Preferred Stock (9,440) (9,314) (18,848) (18,596)
------- ------- -------- --------
Net income $10,590 $13,941 $ 24,651 $ 27,564
======= ======= ======== ========
Fully diluted net income per
share $0.67 $0.88 $1.55 $1.74
</TABLE>
<PAGE>
* The Series B Preferred Stock is not considered convertible for purposes of
calculating fully diluted net income per share as it is currently
antidilutive.
