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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED: DECEMBER 31, 1993
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: 1-8896
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
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
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TITLE OF EACH CLASS NAME OF EXCHANGE ON WHICH REGISTERED
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Common Stock ($.01 par value) New York Stock Exchange
$1.60 Cumulative Preferred Stock,
Series A ($.10 par value) New York Stock Exchange
$1.26 Cumulative Convertible Preferred
Stock, Series B ($.10 par value) New York Stock Exchange
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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
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
Regulation S-K is not contained herein, and will not be contained, to the best
of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K [_]
AT FEBRUARY 18, 1994 THE AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY
NONAFFILIATES WAS $610,883,000.
NUMBER OF SHARES OF COMMON STOCK OUTSTANDING AT FEBRUARY 18, 1994: 15,210,978
DOCUMENTS INCORPORATED BY REFERENCE:
(1) PORTIONS OF THE REGISTRANT'S ANNUAL REPORT TO STOCKHOLDERS FOR THE YEAR
ENDED DECEMBER 31, 1993 ARE INCORPORATED BY REFERENCE INTO PARTS II AND IV.
(2) PORTIONS OF THE REGISTRANT'S DEFINITIVE PROXY STATEMENT DATED MARCH 14,
1994, ISSUED IN CONNECTION WITH THE ANNUAL MEETING OF STOCKHOLDERS OF THE
REGISTRANT, ARE INCORPORATED BY REFERENCE INTO PART III.
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CAPSTEAD MORTGAGE CORPORATION
1993 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
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PAGE
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PART I
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ITEM 1. BUSINESS............................................... 1
ITEM 2. PROPERTIES............................................. 9
ITEM 3. LEGAL PROCEEDINGS...................................... 9
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.... 9
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS....................... 10
ITEM 6. SELECTED FINANCIAL DATA................................ 10
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS................... 10
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA............ 10
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE................... 10
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT..... 10
ITEM 11. EXECUTIVE COMPENSATION................................. 10
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT................................. 11
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS......... 11
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND
REPORTS ON FORM 8-K.................................... 12
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PART I
ITEM 1. BUSINESS.
ORGANIZATION
Capstead Mortgage Corporation ("CMC," or together with its special-purpose
finance subsidiaries and certain other entities, the "Company") was incorporated
on April 15, 1985 in the state of Maryland and commenced operations in September
1985. The Company operates as a mortgage conduit which purchases and
securitizes various types of single-family residential mortgage loans. In
addition, the Company has formed a mortgage servicing unit to function as the
primary mortgage servicer and master servicer for loans and servicing rights
acquired by the Company. The Company offers investors the opportunity to
participate in the income generated from servicing and investing in mortgage
loans, securitization activities and other portfolio strategies.
CMC, and its qualified real estate investment trust ("REIT") subsidiaries, have
elected to be taxed as a REIT and intend to continue to do so. As a result of
this election, CMC is not taxed at the corporate level on taxable income
distributed to stockholders, provided that certain REIT qualification tests are
met. Certain other subsidiaries, which are consolidated for financial reporting
purposes, are not consolidated for federal income tax purposes because such
entities were not established as REITs or qualified REIT subsidiaries. All
taxable income of these subsidiaries is subject to federal and state income
taxes, where applicable.
CONDUIT OPERATIONS
The Company offers to buy many different types of mortgage loan products. The
products include (i) fixed-rate mortgage loans which have a fixed rate of
interest for the life of the loan, (ii) adjustable-rate mortgage ("ARM") loans
which provide for a periodic adjustment of the mortgage interest rate based on a
specified margin over a specific financial index, and (iii) 5/25 mortgage loans
which provide for an initial interest rate that adjusts one time, approximately
five years following origination ("5/25 Mortgage Loans").
The Company purchases mortgage loans from mortgage banking companies, savings
banks, commercial banks, credit unions, mortgage brokers and other financial
intermediaries ("Correspondents") throughout the United States. Correspondents
must meet certain financial and performance requirements before they are
approved to participate in the Company's Correspondent Program. A purchase and
sale agreement is executed with each Correspondent that provides for recourse
against the Correspondent in the event of fraud or misrepresentation in the
process by which a mortgage loan is originated.
The Company has developed purchase guidelines for the acquisition of mortgage
loans based on the anticipated requirements of its mortgage pool insurers, and
management's assessment of the criteria used by nationally recognized
statistical rating organizations ("Rating Agencies") to analyze the quality of
the collateral pledged to mortgage-backed securities issued by the Company. The
Company does not itself underwrite the mortgage loan, but instead relies on the
credit review and analysis of its mortgage pool insurers (primarily General
Electric Mortgage Insurance Company). Each mortgage loan purchased is required
to have a commitment for insurance from a mortgage pool insurer. Detailed
purchase guidelines are provided to all Correspondents in the Company's Sellers
Guide.
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The principal amount of mortgage loans acquired by the Company at the time of
origination generally range from $203,150 to $650,000 per loan. Substantially
all of the mortgage loans acquired by the Company comply with the underwriting
criteria of the mortgage securities programs sponsored by the Federal Home Loan
Mortgage Corporation ("FHLMC") and the Federal National Mortgage Association
("FNMA"), except that their original outstanding principal amounts generally
exceed the maximum permissible amount ($203,150, effective January 1, 1993) for
such programs ("Nonconforming Mortgage Loans"). The average loan purchased in
1993 had an original principal balance of approximately $312,000.
Commitments are issued and obligate the Company to purchase mortgage loans from
the Correspondent for a specific period of time (typically 10 to 90 days), in a
specific aggregate principal amount and bearing a specified mortgage interest
rate and price. The Company currently issues three types of commitments:
mandatory, optional and best efforts. The Company receives a fee on optional
and best effort commitments, but not on mandatory commitments. However, if a
Correspondent fails to deliver a loan subject to a mandatory commitment, the
Correspondent is obligated to pay the Company the difference between the yield
the Company would have obtained on the mortgage loan and the yield available on
similar mortgage loans subject to mandatory commitments issued at the time of
such failure to deliver, plus a penalty.
MORTGAGE LOAN PORTFOLIO
The Company purchases mortgage loans from Correspondents on a daily basis. The
loans purchased are warehoused in the mortgage loan portfolio awaiting
determination of the long-term investment strategy to which the loan will be
directed. Periodically, mortgage loans are pledged to secure the issuance of
collateralized mortgage obligations ("CMOs"), publicly-offered, multi-class
mortgage pass-through certificates ("MPCs"), or AAA-rated private mortgage pass-
through securities ("Mortgage Pass-Throughs") by the Company's special-purpose
finance subsidiaries.
The Company utilizes repurchase agreements to finance the acquisition of
mortgage loans. A repurchase agreement is a form of short-term financing
pursuant to which the Company pledges mortgage loans in consideration for the
advance of funds at short-term interest rates generally tied to LIBOR. The
Company earns the difference between the mortgage interest rate and the interest
rate it owes on the short-term borrowings for the term of the repurchase
transaction, typically 30 to 60 days.
As noted above, the Company obtains a commitment by a mortgage pool insurer to
issue a mortgage pool insurance policy that will cover losses due to mortgagor
default in amounts generally ranging from 7% to 15% of the aggregate principal
amount of the mortgage loans comprising such pool. The mortgage pool insurance
is generally not in force during the warehousing of the mortgage loan, but
instead is activated at the time the mortgage loans are pledged as collateral
for a CMO, MPC or Mortgage Pass-Through unless an investor in the former
securitizations is willing to assume the credit risk for the entire issuance (a
"senior/subordinate" structure). The Company expects to use such
senior/subordinate structures extensively in 1994. During the warehousing
period, typically a period of 30 to 90 days, the Company retains the full risk
that the mortgage loan may default. Certain other risks are also not covered
during the warehousing period. These include bankruptcy and special hazards
which are not covered by standard hazard insurance policies (e.g. earthquakes),
as well as fraud or misrepresentation in the origination of the mortgage loan.
Defaults on mortgage loans during the warehousing period, if linked to fraud or
misrepresentation, may be mitigated by the Correspondent's
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obligation to repurchase such mortgage loan. However, to the extent the
Correspondent does not perform the repurchase obligation, the Company may incur
a loss.
For a discussion of effects of interest rate changes on the Company's mortgage
loan portfolio, see the Registrant's Annual Report to Stockholders for the year
ended December 31, 1993 on page 49 and page 50 under the caption "Management's
Discussion and Analysis - Effects of Interest Rate Changes."
MORTGAGE PASS-THROUGH PORTFOLIO
The Company's long-term investment strategy includes the securitization of ARM
loans and 5/25 Mortgage Loans into Mortgage Pass-Throughs. This investment
strategy primarily makes use of ARM loans which, because of their adjustable
interest rates, are more likely to retain value in a rising interest rate
environment.
At the time mortgage loans are pledged as collateral for Mortgage Pass-Throughs,
the mortgage pool insurance policy is activated. The level of coverage under
any such mortgage pool insurance policy is determined by one or more Rating
Agencies, and is at a level necessary to allow the insured pool of mortgage
loans, or the securities such pools are pledged to secure, to be AAA-rated. At
such time, the Company also insures or reserves against bankruptcy and special
hazard risks, and reduces its exposure to losses from fraud or misrepresentation
in the origination of the mortgage loan.
The Company utilizes repurchase agreements to finance the Mortgage Pass-Through
portfolio. The formation of Mortgage Pass-Throughs greatly enhances the quality
of the underlying mortgage loans, thus enabling the Company to reduce its
borrowing costs below the level paid on non-rated loans, thereby enhancing the
interest spread.
For discussion of effects of interest rate changes on the Company's Mortgage
Pass-Through portfolio, see the Registrant's Annual Report to Stockholders for
the year ended December 31, 1993 on page 49 and 50 under the caption
"Management's Discussion and Analysis - Effects of Interest Rate Changes."
AGENCY SECURITIES PORTFOLIO
The Company also invests in fixed-rate agency securities (the "agency securities
portfolio") which consists of mortgage-backed securities guaranteed by
government sponsored entities such as FNMA, Government National Mortgage
Association or FHLMC. Because agency securities are the most widely traded
mortgage-backed securities, unique financing opportunities exist in the
marketplace that enable investors to achieve very attractive interest rate
spreads on the financing of such assets.
For discussion of effects of interest rate changes on the Company's agency
securities portfolio, see the Registrant's Annual Report to Stockholders for the
year ended December 31, 1993 on page 49 and 50 under the caption "Management's
Discussion and Analysis - Effects of Interest Rate Changes."
CMO INVESTMENT PORTFOLIO AND RELATED SECURITIZATION ACTIVITY
The Company's long-term investment strategy also includes the securitization of
fixed-rate and 5/25 Mortgage Loans, whereby such loans are pledged as collateral
for the issuance of CMOs or MPCs. Most of the Company's CMOs are structured as
financings in which the Company recognizes economic gains or losses over the
term of the collateral. MPCs and some CMOs are structured as
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sales. Such sales preserve capital by limiting the amount invested in a
securitization, but at the same time may make quarterly income more volatile
than in the past because of the recognition of transactional gains or losses.
Beginning the fall of 1992, the Company has generally elected Real Estate
Mortgage Investment Conduit ("REMIC") status for tax purposes.
Each series of CMOs consists of multiple classes of bonds, each having its own
maturity. MPCs are structured in a similar fashion except that technically,
investors do not purchase bonds subject to an indenture; rather, they purchase
certificates evidencing undivided interests in a trust that owns the underlying
mortgage loans. The segmentation of CMOs into classes of bonds with varying
maturities along with mortgage pool insurance and other credit enhancements
provided to make all or most of the CMO bonds AAA-rated enables the Company to
issue the CMO classes with shorter scheduled maturities and lower interest rates
than the underlying mortgage loans. Each of these factors contributes to a
positive difference ("Interest Spread") between the payments received on the
mortgage loans pledged to secure such CMOs and the payments made on the CMOs
issued. Because the shorter-term classes of CMO bonds typically bear lower
rates of interest than longer-term classes, the Interest Spread on a CMO is
typically greatest in the early years of the CMO. As the mortgage loans are
repaid and the shorter-term classes of CMO bonds are retired, the average
interest cost of the CMOs outstanding increases. Thus, the Interest Spread will
decline over time.
The right to receive the Interest Spread, along with the non-cash amortization
of collateral and bond premiums and discounts is referred to as the "CMO
Residual". CMO structures have evolved in recent years such that the Interest
Spread portion of CMO Residuals have been virtually eliminated by the formation
of additional CMO securities including various forms of interest-only and/or
principal-only securities. Interest-only securities represent ownership in an
undivided interest in interest payments on the underlying securities.
Principal-only securities represent ownership in an undivided interest in
principal payments on the underlying securities. Since the fall of 1992 the
Company typically has sold the CMO Residuals and retained for its CMO Investment
portfolio certain of the interest-only and/or principal-only securities formed
in connection with CMO and MPC issuances.
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. This happened during 1993. 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. This has been the Company's experience thus far in 1994. 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.
The Company may, from time-to-time, issue CMOs collateralized by ARM loans.
CMOs collateralized by ARM loans typically consist of one or more classes of
bonds having a maturity equal to the life of the underlying collateral. As the
interest rate received on the underlying collateral adjusts to changes in short-
term interest rates, the interest rate paid on the CMO adjusts by the
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corresponding amount, thus the positive Interest Spread will remain relatively
constant over time.
At the time the loans are pledged for issuance of a CMO or MPC, the mortgage
pool insurance policy generally is activated. At such time, the Company also
insures or reserves against bankruptcy and special hazard risks, and reduces its
exposure to losses from fraud or misrepresentation in the origination of the
mortgage loan. Recently, the Company has issued CMOs with the
senior/subordinate structure where investors assume the credit risk by
purchasing subordinate classes of the securitization. The Company also has the
option to retain certain of the subordinate classes for its CMO Investment
portfolio. The yield on subordinate securities reflects risk assumed and,
therefore, the Company will not need to increase its provision for losses.
The issuance of CMOs typically eliminates the Company's short-term financing
risk associated with the mortgage loans that are pledged as collateral for such
CMOs (except in the case of any class of CMOs having a variable interest rate
collateralized by fixed-rate mortgage loans), as well as the risk that the
market value of such mortgage loans will decline. This is because each series
of CMOs is structured to be fully repaid out of the principal and interest
payments on the underlying mortgage loans, including reinvestment proceeds,
regardless of fluctuations in the market value of such mortgage loans.
For a discussion of effects of interest rate changes on the Company's CMO
investment portfolio, see the Registrant's Annual Report to Stockholders for the
year ended December 31, 1993 on page 49 and page 50 under the caption
"Management's Discussion and Analysis - Effects of Interest Rate Changes."
SERVICING OPERATIONS
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The Company formed its mortgage servicing unit early in 1993, and as of December
31, 1993, serviced and master serviced mortgage loan portfolios of $2.4 billion
and $4.4 billion, respectively. This growth was accomplished primarily by
retaining servicing rights on mortgage loans purchased during the year and
master servicing rights on mortgage loans placed into securitizations during the
year. FNMA and FHLMC servicing approvals have been obtained so that the Company
can service conforming loans guaranteed by these government sponsored entities
and the Company has committed to bulk acquisitions of servicing rights for both
conforming and non-conforming mortgage loan portfolios totaling $1.6 billion to
be completed in early 1994.
Mortgage loan servicing includes collecting and accounting for payments of
principal and interest from borrowers, remitting such payments to investors,
holding escrow funds for payment of mortgage-related expenses such as taxes and
insurance, making advances to cover delinquent payments, inspecting the mortgage
premises as required, contacting delinquent mortgagors, supervising foreclosures
and property dispositions in the event of unremedied defaults, and generally
administering the loans. The Company receives fees for servicing residential
mortgage loans ranging generally from .25% to .38% per annum on the declining
principal balances of the loans. Servicing fees are collected by the Company
out of monthly mortgage payments.
For a discussion of effects of interest rate changes on the Company's servicing
operations investment portfolio, see the Registrant's Annual Report to
Stockholders for the year ended December 31, 1993 on page 49 and page 50 under
the caption "Management's Discussion and Analysis - Effects of Interest Rate
Changes."
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OTHER INVESTMENT STRATEGIES
The Company may enter into other short- or long-term investment strategies as
the opportunities arise.
COMPETITION
In purchasing and pooling mortgage loans and in purchasing other mortgage-
related assets, the Company competes with savings banks, commercial banks,
mortgage and investment bankers, conduits, insurance companies, other lenders,
FNMA and FHLMC, many of whom may have greater financial resources than the
Company. The competition for loan servicing is equally diverse. Mortgage
banking companies, savings banks and commercial banks all engage in servicing
mortgage loans, some for others and some for their own portfolio. Additionally,
in issuing CMOs or other mortgage-backed securities, the Company will face
competition from other issuers of these securities and the securities themselves
will compete with other investment opportunities available to prospective
purchasers. An increase in the purchasing of long-term mortgage loans by others
may reduce the Company's ability to compete in the purchase of such loans and
may reduce the yields available to the Company. In addition, if FHLMC and FNMA
were to increase the dollar amount limitation on loans they are permitted to
purchase (currently $203,150), they would be able to purchase a greater
percentage of mortgage loans in the secondary market than they currently are
permitted to acquire, and the Company's ability to maintain or increase its
current acquisition levels could be adversely affected.
REGULATION AND RELATED MATTERS
The Company's mortgage servicing unit is subject to the rules and regulations of
FNMA and FHLMC with respect to securitizing and servicing mortgage loans. In
addition, there are other Federal and state statutes and regulations affecting
such activities. Moreover, the Company is required annually to submit audited
financial statements to FNMA and FHLMC and each regulatory entity has its own
financial requirements. The Company's affairs are also subject to examination
by FNMA and FHLMC at all times to assure compliance with applicable regulations,
policies and procedures. Many of the aforementioned regulatory requirements are
designed to protect the interests of consumers, while others protect the owners
or insurers of mortgage loans. Failure to comply with these requirements can
lead to loss of approved status, termination of servicing contracts without
compensation to the servicer, demands for indemnification or loan repurchases,
class action lawsuits and administrative enforcement actions.
EMPLOYEES
Until becoming fully self-administered on October 1, 1993, the Company was
managed by Capstead Advisers, Inc. (the "Manager"), a wholly-owned subsidiary of
Lomas Mortgage USA, Inc. ("LMUSA"), who provided all executive and
administrative personnel required by the Company under the terms of a management
agreement. The Company only had one employee, its Chairman and Chief Executive
Officer. See the Registrant's Annual Report to Stockholders for the year ended
December 31, 1993 on page 38 under the caption "Notes to Consolidated Financial
Statements - Note K - Management and Non-Competition Agreements." As of
December 31, 1993, the Company had 83 full-time employees.
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FEDERAL INCOME TAX
As used herein, "Capstead REIT" refers to CMC and the entities that are
consolidated with CMC for federal income tax purposes. Capstead REIT has
elected to be taxed as a REIT for federal income tax purposes and intends to
continue to do so. As a result of this election, Capstead REIT will not be
taxed at the corporate level on taxable income distributed to stockholders,
provided that certain REIT qualification tests are met.
If Capstead REIT fails to qualify as a REIT in any taxable year, it would be
subject to federal income tax at regular corporate rates and would not receive a
deduction for dividends paid to stockholders. If this were the case, the amount
of after-tax earnings available for distribution to stockholders would decrease
substantially.
CMC owns all of the issued and outstanding preferred stock of certain other
subsidiaries. These subsidiaries are not included in Capstead REIT for federal
income tax purposes, but are included with CMC for financial reporting purposes.
All taxable income of these subsidiaries is subject to federal and state income
taxes, where applicable. Capstead REIT's taxable income will include earnings
of these subsidiaries only upon payment to Capstead REIT by dividend of such
earnings.
To qualify as a REIT, Capstead REIT must meet certain income, asset,
distribution, and ownership tests. The following is a summary of the
qualifications.
GROSS INCOME TESTS. There are three percentage tests relating to the sources of
a company's gross income which must be satisfied for each taxable year. First,
at least 75% of the company's gross income must be real property related income,
which includes interest on loans secured by mortgages on real property and
commitment fees earned in connection with such mortgage loans. Second, at least
95% of the company's gross income must be derived from items of income that
qualify under the 75% test or from dividends, interest or gain from the sale or
disposition of stock or other securities. Third, gains from the sale of stock
(or other securities) held for less than one year, gains from sales of property
(other than foreclosure property) held primarily for sale and gains on the sale
of real property, including interests in mortgages on real property held for
less than four years must represent less than 30% of the company's gross income.
If a company fails to satisfy one or both of the 75% or 95% gross income tests
for any taxable year, it may nevertheless qualify as a REIT for such year if it
is entitled to relief under certain provisions of the Code. These relief
provisions are available if the company can establish that its failure to meet
such tests is due to reasonable cause and not due to willful neglect. It is not
possible to state whether in all circumstances Capstead REIT would be entitled
to the benefit of these relief provisions. If these relief provisions apply, a
100% tax is imposed upon the greater of the amounts by which the company failed
the 75% test or the 95% test. If the relief provisions are inapplicable to a
particular set of circumstances involving Capstead REIT, such company will not
qualify as a REIT. There are no comparable relief provisions which could
mitigate the consequences of a failure to satisfy the 30% income test.
ASSET TESTS. At the close of each quarter of its taxable year, Capstead REIT
must satisfy certain tests regarding its assets. First, at least 75% of the
value of the respective company's total assets must be represented by interests
in real property, interests in mortgages on real property, shares in
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other real estate investment trusts, cash, cash items and government securities.
Second, of the investments in securities not included in the foregoing, the
value of any one issuer's securities owned by the company may not exceed 5% of
the value of the company's total assets and the company may not own more than
10% of any one issuer's outstanding voting securities. Certain relief provisions
apply with respect to these asset tests. If the asset tests are not met and the
relief provisions cannot be satisfied by, or are inapplicable to, Capstead REIT,
Capstead REIT will not qualify as a REIT.
REITs are permitted to hold assets in subsidiaries which are and have been 100%
owned by the REIT at all times during the period such subsidiaries existed
("qualified REIT subsidiaries"). For federal income tax purposes, all of the
assets, liabilities and items of income, deduction and credit of a qualified
REIT subsidiary are attributed to its parent.
DISTRIBUTION REQUIREMENTS. In order to qualify for certain benefits of REIT
status in any taxable year, including the deduction for dividends paid to
shareholders, a REIT is required to distribute to its stockholders dividends in
an amount at least equal to the sum of (i) 95% of its annual REIT taxable income
exclusive of net capital gain and prior to any deduction for dividends paid plus
(ii) 95% of its net after-tax income, if any, from foreclosure property minus
(iii) the amount, if any, of certain noncash income in excess of 5% of its REIT
taxable income exclusive of any net capital gain and prior to any deduction for
dividends paid. Any income not distributed is subject to tax at regular
corporate rates. Distributions declared before the time of filing of the
company's tax return for the taxable year and paid not later than the first
regular dividend payment following declaration will be deemed paid in such
taxable year for purposes of the distribution test. A nondeductible excise tax
equal to 4% will be imposed on the company for each calendar year to the extent
that dividends declared and distributed or deemed distributed before December 31
are less than the sum of (i) 85% of the company's "ordinary income" plus (ii)
95% of the company's capital gain net income plus (iii) income not distributed
in earlier years minus (iv) distributions in excess of income in earlier years
and (v) any amount of REIT taxable income for such year.
Failure to distribute 95% of REIT taxable income would disqualify a company from
certain benefits of REIT status. Under certain circumstances a company may
correct a failure to meet the distribution requirements by paying "deficiency
dividends" to stockholders in a later year. It is the present intent of
Capstead REIT to pay "deficiency dividends" if necessary to retain the benefits
of their status as REITs.
If a REIT recognizes net income from the sale or disposition of property (other
than foreclosure property) held primarily for sale rather than investment, such
income will be subject to a 100% penalty tax. This rule will not apply to real
estate assets of a REIT that have been held for four years or more if (i) the
REIT makes seven or fewer sales of such property during the taxable year or (ii)
the aggregate adjusted bases of all the property sold during the taxable year
does not exceed 10% of the adjusted bases of all the REIT's assets at the
beginning of the REIT's taxable year. Certain other requirements may also need
to be satisfied.
STOCK OWNERSHIP TESTS. In order for a company to qualify as a REIT the
Company's shares must be held by at least 100 stockholders during approximately
9/10 of the taxable year and during the last half of each taxable year not more
than 50% (in value) of the company's outstanding stock may be owned directly or
indirectly by five or fewer individuals. The company must demand written
statements each year from the record holders of designated
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percentages of its shares disclosing the actual owners of such shares. A list of
those persons failing or refusing to comply with such demand must be maintained
as a part of the company's records. Federal income tax regulations further
require that a stockholder failing or refusing to comply with the company's
written demand must submit with his or her tax returns a similar statement
disclosing the actual ownership of the company shares and certain other
information.
SPECIAL CONSIDERATIONS - TAX-EXEMPT AND CERTAIN OTHER INVESTORS
For CMOs issued after December 31, 1991, pursuant to regulations not yet
published, the portion of any dividend paid to stockholders attributable to
"excess inclusion income" on the retained residual interests in such CMOs would
be subject to certain rules. Such rules include (i) the characterization of
excess inclusion income as unrelated business income for tax-exempt stockholders
(including employee benefit plans and individual retirement accounts) and (ii)
the inability of a stockholder to offset excess inclusion income with net
operating losses (subject to certain exceptions applicable to thrift
institutions). Generally, tax-exempt entities are subject to federal income tax
on excess inclusion income and other unrelated business income in excess of
$1,000 per year. Excess inclusion income is generally taxable income with
respect to a residual interest in excess of a specified return on investment in
the residual interest. In some cases, all taxable income with respect to a
residual interest may be considered excess inclusion income. Until regulations
or other guidance is issued, Capstead REIT will use methods it believes are
appropriate for calculating the amount of excess inclusion income, if any it
recognizes from CMOs issued after December 31, 1991, and allocating any excess
inclusion income to its stockholders. Excess inclusion rules will most likely
not apply to any CMO issued by any subsidiary of CMC on or before December 31,
1991. The Company's exposure for CMOs issued subsequent to that has been
limited by the prepayment performance of these investments and the fact that
beginning in the fall of 1992 the Company generally has sold the related CMO
Residuals.
A REIT is subject to tax on the portion of any "excess inclusion income"
allocable to any shareholder which is a "disqualified organization" as defined
in the REMIC provisions of the Code. If the ownership of CMC shares by any such
organization would subject Capstead REIT to any tax on such income, such shares
shall be immediately redeemable at the option of CMC. See "Description of CMC
Capital Stock."
The foregoing is general in character. Reference should be made to the
pertinent Code Sections and the Regulations issued thereunder for a
comprehensive statement of applicable federal income tax consequences.
ITEM 2. PROPERTIES.
The Company's operations are conducted primarily in Dallas, Texas on properties
leased by the Company.
ITEM 3. LEGAL PROCEEDINGS.
At December 31, 1993 there were no material pending legal proceedings, outside
the normal course of business, to which the Company or its subsidiaries were a
party or of which any of their property was the subject.
ITEM 4. RESULTS OF SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
9
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The information required by this item is included in the Registrant's Annual
Report to Stockholders for the year ended December 31, 1993 on page 41 under the
caption "Note Q - Market and Dividend Information," and is incorporated herein
by reference, pursuant to General Instruction G(2).
ITEM 6. SELECTED FINANCIAL DATA.
The information required by this item is included in the Registrant's Annual
Report to Stockholders for the year ended December 31, 1993 on page 42 under the
caption "Selected Financial Data," and is incorporated herein by reference,
pursuant to General Instruction G(2).
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The information required by this item is included in the Registrant's Annual
Report to Stockholders for the year ended December 31, 1993 on pages 43 through
50 under the caption "Management's Discussion and Analysis of Financial
Condition and Results of Operations," and is incorporated herein by reference,
pursuant to General Instruction G(2).
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The information required by this item is included in the Registrant's Annual
Report to Stockholders for the year ended December 31, 1993 on pages 23 through
41, and is incorporated herein by reference, pursuant to General Instruction
G(2).
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this item is included in the Registrant's definitive
Proxy Statement dated March 14, 1994 on pages 3 through 6 under the captions
"Election of Directors" and "Executive Officers," and is incorporated herein by
reference, pursuant to General Instruction G(3).
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this item is included in the Registrant's definitive
Proxy Statement dated March 14, 1994 on pages 6 through 13 under the captions
"Executive Compensation," and "Report of the Compensation Committee on Executive
Compensation" and is incorporated herein by reference, pursuant to General
Instruction G(3).
10
<PAGE>
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this item is included in the Registrant's definitive
Proxy Statement dated March 14, 1994 on page 15 under the caption "Security
Ownership of Certain Beneficial Owners and Management," and is incorporated
herein by reference, pursuant to General Instruction G(3).
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this item is included in the Registrant's Annual
Report to Stockholders for the year ended December 31, 1993 on pages 38 and 39
under the caption "Notes to Consolidated Financial Statements - Note K -
Management and Non-Competition Agreements" and " - Note L - Transactions with
Affiliates of the Former Manager" and is incorporated herein by reference,
pursuant to General Instruction G(2).
11
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) Documents filed as part of this report:
1. The following financial statements of the Company, included in the
1993 Annual Report to Stockholders, are incorporated herein by
reference:
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Consolidated Statement of Income - Years
Ended December 31, 1993, 1992 and 1991........... *
Consolidated Balance Sheet -
December 31, 1993 and 1992....................... *
Consolidated Statement of Stockholders' Equity -
Three Years Ended December 31, 1993.............. *
Consolidated Statement of Cash Flows - Years
Ended December 31, 1993, 1992 and 1991........... *
Notes to Consolidated Financial Statements -
December 31, 1993................................ *
2. Financial statement schedules:
Schedule VIII-Valuation and Qualifying Accounts... 16
Schedule IX-Short-Term Borrowings................. 17
Schedule XII-Mortgage Loans on Real Estate........ 18
NOTE: All other schedules for which provision is made
in the applicable accounting regulation of the Securities
and Exchange Commission are not required under the related
instructions or are inapplicable, and therefore have been
omitted.
</TABLE>
- ----------------
* Incorporated herein by reference from the Company's Annual Report
to Stockholders for the year ended December 31, 1993.
3. Exhibits:
<TABLE>
<CAPTION>
Exhibit
Number
-------
<C> <S>
3.1(a) Charter of the Company, which includes Articles of
Incorporation, Articles Supplementary for each outstanding
Series of Preferred Stock and all other amendments to such
Articles of Incorporation.(9)
3.1(b) Articles Supplementary ($1.26 Cumulative Convertible Preferred
Stock, Series B).(7)
3.2 Bylaws of the Company, as amended.(9)
10.16 Management Agreement between Capstead Mortgage Corporation and
Capstead Advisers, Inc. dated July 31, 1992.(8)
10.17 Amendment to Management Agreement dated March 31, 1993, between
the Registrant and Capstead Advisers, Inc.(9)
10.18 Second Amendment to Management Agreement dated September 3,
1993, between the Registrant and Capstead Advisers, Inc.*
10.19 Stock Option Agreement, dated June 16, 1992, between the Company
and Lomas Financial Corporation.(9)
10.20 Form of Loan Sale Agreement.(6)
10.21 1990 Employee Stock Option Plan(4)
10.22 1990 Directors' Stock Option Plan(5)
10.23 Employment Agreement dated August 1, 1992 between Capstead
Mortgage Corporation and Ronn K. Lytle.(7)
</TABLE>
12
<PAGE>
<TABLE>
<CAPTION>
<C> <S>
10.24 Restricted Stock Grant Agreement dated August 1, 1992 between
Capstead Mortgage Corporation and Ronn K. Lytle.(7)
11 Computation of earnings per share.*
12.1 Statement regarding computation of ratios of earnings to fixed
charges and preferred stock dividends.*
13 Portions of the Annual Report to Stockholders of the Company for
the year ended December 31, 1993.*
22.1 List of subsidiaries of the Company.*
24 Consent of Ernst & Young, Independent Auditors.*
</TABLE>
- ------------------
(1) Incorporated by reference to the Company's Registration Statement on
Form S-11 (No. 2-97182) dated September 5, 1985.
(2) Incorporated by reference to the Company's Annual Report on Form 10-K for
the year ended December 31, 1989.
(3) Incorporated by reference to the Company's Annual Report on Form 10-K for
the year ended December 31, 1991.
(4) Incorporated by reference to the Company's Registration Statement on
Form S-8 (No. 33-40016) dated April 29, 1991.
(5) Incorporated by reference to the Company's Registration Statement on
Form S-8 (No. 33-40017) dated April 29, 1991.
(6) Incorporated by reference to Amendment No. 1 on Form 8 to the Company's
Annual Report on Form 10-K for the year ended December 31, 1991.
(7) Incorporated by reference to the Company's Annual Report on Form 10-K for
the year ended December 31, 1992.
(8) Incorporated by reference to Amendment No. 1 of the Company's Registration
Statement on Form S-4 (No. 33-31260) dated October 27, 1992.
(9) Incorporated by reference to the Company's Registration Statement on
Form S-3 (No. 33-62212) dated May 6, 1993.
* Filed herewith.
(b) Reports on Form 8-K: None.
(c) Exhibits - The response to this section of ITEM 14 is submitted as a
separate section of this report.
(d) Financial Statement Schedules - The response to this section of ITEM 14
is submitted as a separate section of this report.
13
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Company has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.
CAPSTEAD MORTGAGE CORPORATION
REGISTRANT
Date: March 29, 1994 By /s/ ANDREW F. JACOBS
-----------------------------------
Andrew F. Jacobs
Senior Vice President and Treasurer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities indicated below and on the dates indicated.
/s/ RONN K. LYTLE Principal Executive March 29, 1994
- ------------------------------- Officer and Director
(Ronn K. Lytle)
/s/ ANDREW F. JACOBS Principal Financial March 29, 1994
- ------------------------------- and Accounting Officer
(Andrew F. Jacobs)
/s/ J. MICHAEL CORNWALL Director March 29, 1994
- -------------------------------
(J. Michael Cornwall)
/s/ DAVID G. FOX Director March 29, 1994
- -------------------------------
(David G. Fox)
/s/ BEVIS LONGSTRETH Director March 29, 1994
- ------------------------------
(Bevis Longstreth)
/s/ PAUL M. LOW Director March 29, 1994
- -------------------------------
(Paul M. Low)
/s/ HARRIET E. MIERS Director March 29, 1994
- -------------------------------
(Harriet E. Miers)
/s/ CHARLES B. MULLINS, M.D. Director March 29, 1994
- -------------------------------
(Charles B. Mullins, M.D.)
/s/ WILLIAM R. SMITH Director March 29, 1994
- -------------------------------
(William R. Smith)
/s/ LEWIS T. SWEET, JR. Director March 29, 1994
- -------------------------------
(Lewis T. Sweet, Jr.)
/s/ MARTIN TYCHER Director March 29, 1994
- -------------------------------
(Martin Tycher)
14
<PAGE>
PORTIONS OF THE
ANNUAL REPORT ON FORM 10-K
ITEMS 14(A)(1), (2) AND (3)
FINANCIAL STATEMENT SCHEDULES AND EXHIBITS
YEAR ENDED DECEMBER 31, 1993
CAPSTEAD MORTGAGE CORPORATION
DALLAS, TEXAS
15
<PAGE>
SCHEDULE VIII - VALUATION AND QUALIFYING ACCOUNTS
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
- ----------------------------------- ---------- ------------------------- ----------- --------------
ADDITIONS
-------------------------
CHARGED TO
BALANCE AT CHARGED TO OTHER
BEGINNING COSTS ACCOUNTS- DEDUCTIONS- BALANCE AT END
DESCRIPTION OF PERIOD AND EXPENSES DESCRIBE DESCRIBE * OF PERIOD
- ----------------------------------- ---------- ------------ ----------- ----------- --------------
<S> <C> <C> <C> <C> <C>
Reserves and Allowances Deducted
From Mortgage Investments:
Year ended December 31, 1993
Allowance for losses............ $8,228,000 $2,800,000 - $4,101,000 $6,927,000
Year ended December 31, 1992
Allowance for losses............ $3,505,000 $7,750,000 - $3,027,000 $8,228,000
Year ended December 31, 1991
Allowance for losses............ $2,943,000 $1,707,000 - $1,145,000 $3,505,000
</TABLE>
* Loss on sale of foreclosed properties and charge-offs of other mortgage
securities.
16
<PAGE>
SCHEDULE IX - SHORT-TERM BORROWINGS
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F
- ------------------------------------- -------------- ------------ -------------- -------------- ----------
WEIGHTED
MAXIMUM AVERAGE AVERAGE
WEIGHTED AMOUNT AMOUNT INTEREST
BALANCE AVERAGE OUTSTANDING OUTSTANDING RATE
CATEGORY OF AGGREGATE AT END INTEREST DURING THE DURING THE DURING THE
SHORT-TERM BORROWINGS OF PERIOD RATE PERIOD PERIOD(4) PERIOD(5)
- ------------------------------------- -------------- ----------- -------------- -------------- ----------
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1993:
Repurchase agreements(2).......... $2,044,776,000 3.89% $2,300,478,000 $2,033,598,000 3.61%
Dollar repurchase agreements(3)... $ 399,031,000 3.38% $ 604,094,000 $ 305,198,000 2.07%
Year ended December 31, 1992:
Notes payable(1).................. - - $ 25,000,000 $ 10,364,000 5.61%
Repurchase agreements(2).......... $1,449,209,000 4.09% $1,451,944,000 $1,367,986,000 4.33%
Year ended December 31, 1991
Notes payable(1).................. $ 25,000,000 6.75% $ 86,600,000 $ 19,708,000 7.01%
Repurchase agreements(2).......... $ 830,572,000 5.82% $1,071,816,000 $ 431,692,000 6.29%
Dollar repurchase agreements(3)... - - $ 48,666,000 $ 27,976,000 9.50%
</TABLE>
(1) Notes payable consisted of borrowings under the Company's revolving lines of
credit with commercial banks.
(2) Repurchase agreements consisted of borrowings from investment banks with
terms typically not longer than 160 days with no provisions for extension of
maturity.
(3) Dollar repurchase agreements consisted of borrowings from investment banks
with mortgage-backed securities as collateral and terms typically not longer
than 60 days.
(4) The average amount outstanding during the period was computed by dividing
the total of the monthly weighted average outstanding principal balances by
12 months.
(5) The weighted average interest rate during the period was computed by
dividing the total of the monthly weighted average interest rates by 12
months.
17
<PAGE>
SCHEDULE XII - MORTGAGE LOANS ON REAL ESTATE
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
DECEMBER 31, 1993
<TABLE>
<CAPTION>
COLUMN
COLUMN A COLUMN B COLUMN C COLUMN D E COLUMN F COLUMN G COLUMN H
- ----------------------------- ----------- -------- -------- ------- -------------- ----------------- ---------------
PRINCIPAL
AMOUNT
OF LOANS
CARRYING SUBJECT TO
FINAL PERIODIC FACE AMOUNT AMOUNT DELINQUENT
INTEREST MATURITY PAYMENT PRIOR OF OF PRINCIPAL
DESCRIPTION(1) RATE DATE TERMS LIENS MORTGAGES MORTGAGES OR INTEREST(4)
- ----------------------------- ----------- -------- -------- ------- -------------- ----------------- ---------------
<S> <C> <C> <C> <C> <C> <C> <C>
$ -0- - $ 49,999( 77) 5.125% - Varies Monthly None $ 113,000 $ 113,000 $ -
13.500%
$ 50,000 - $ 99,999( 17) 3.875% - Varies Monthly None 1,463,000 1,463,000 84,000
12.250%
$100,000 - $ 149,999( 49) 4.250% - Varies Monthly None 6,355,000 6,355,000 248,000
10.750%
$150,000 - $ 199,999( 120) 4.125% - Varies Monthly None 21,147,000 21,147,000 178,000
11.250%
$200,000 - $ 249,999(2,695) 3.875% - Varies Monthly None 607,259,000 607,259,000 10,307,000
12.375%
$250,000 - $ 299,999(2,031) 3.625% - Varies Monthly None 555,505,000 555,505,000 8,948,000
11.375%
$300,000 - $ 349,999(1,103) 4.125% - Varies Monthly None 357,036,000 357,036,000 7,122,000
11.250%
$350,000 - $ 399,999( 720) 3.625% - Varies Monthly None 269,649,000 269,649,000 3,711,000
9.375%
$400,000 - $ 449,999( 392) 3.875% - Varies Monthly None 166,380,000 166,380,000 5,440,000
10.750%
$450,000 - $ 499,999( 279) 4.250% - Varies Monthly None 133,375,000 133,375,000 3,844,000
9.000%
$500,000 - $1,500,000( 576) 4.000% - Varies Monthly None 352,802,0000 352,802,000 7,600,000
10.000%
-------------- ---------------- -----------
$2,471,084,000 2,471,084,000 47,482,000
==============
Plus premium 1,562,000 -
---------------- -----------
$2,472,646,000(2) $47,482,000
================ ===========
</TABLE>
See accompanying Notes to Schedule XII on the following page.
18
<PAGE>
NOTES TO SCHEDULE XII
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
(1) The portfolio at December 31, 1993 consisted of single-family, conventional,
first mortgage loans. Principal amount of mortgage loans in the portfolio
totaling $900,936,000, or 36%, are adjustable-rate loans; and $318,319,000,
or 13%, are 30 year mortgage loans with one rate or payment change five
years from origination. The remaining $1,251,829,000, or 51%, are fixed-
rate level payment loans.
(2) The basis for valuing the mortgage loan portfolio for tax purposes is the
same as that used for financial reporting.
(3) Reconciliation of mortgage loans:
<TABLE>
<CAPTION>
<S> <C> <C>
Balance at January 1, 1991.......... $ 209,528,000
Additions:
Purchases of mortgage loans....... 2,173,148,000
Amortization of discount.......... 700,000 2,173,848,000
------------- --------------
2,383,376,000
Deductions:
Principal collections............. 32,192,000
Sale of mortgage loans............ 6,515,000
Mortgage loans transferred to
mortgage securities collateral.... 1,484,947,000 1,523,654,000
------------- --------------
Balance at December 31, 1991........ 859,722,000
Additions:
Purchases of mortgage loans....... 5,488,051,000
Amortization of discount.......... 391,000 5,488,442,000
------------- --------------
6,348,164,000
Deductions:
Principal collections............. 90,011,000
Mortgage loans transferred to
mortgage securities collateral... 3,603,844,000
Sale of mortgage loans............ 965,217,000 4,659,072,000
------------- --------------
Balance at December 31, 1992........ 1,689,092,000
Additions:
Purchases of mortgage loans....... 4,410,950,000
Released CMO collateral........... 83,955,000
Amortization of discount.......... 73,000 4,494,978,000
------------- --------------
6,184,070,000
Deductions:
Principal collections............. 271,511,000
Mortgage loans transferred to
mortgage securities collateral... 995,513,000
Sale of mortgage loans............ 2,444,400,000 3,711,424,000
------------- --------------
Balance at December 31, 1993........ $2,472,646,000
==============
</TABLE>
(4) Consists of all mortgage loans delinquent 60 days or more. Note that of
this total, $46,527,000 is covered by mortgage pool insurance which
effectively limits the Company's exposure to loss.
19
<PAGE>
NOTES TO SCHEDULE XII - CONTINUED
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
(5) The geographic distribution of the Company's portfolio at December 31, 1993
was as follows:
<TABLE>
<CAPTION>
NUMBER PRINCIPAL
STATE OF LOANS AMOUNT
----- --------- --------------
<S> <C> <C>
Alabama................ 24 $ 6,958,000
Arizona................ 36 12,586,000
Arkansas............... 8 2,973,000
California............. 3,775 1,157,448,000
Colorado............... 151 43,872,000
Connecticut............ 49 17,194,000
Delaware............... 13 3,274,000
District of Columbia... 104 32,439,000
Florida................ 275 84,437,000
Georgia................ 327 98,781,000
Hawaii................. 19 7,953,000
Illinois............... 71 22,098,000
Indiana................ 5 1,808,000
Iowa................... 2 505,000
Kansas................. 11 3,003,000
Kentucky............... 8 2,694,000
Louisiana.............. 74 21,412,000
Maryland............... 549 176,495,000
Massachusetts.......... 115 32,850,000
Michigan............... 130 40,181,000
Minnesota.............. 2 464,000
Mississippi............ 3 689,000
Missouri............... 84 28,017,000
Nebraska............... 10 3,493,000
Nevada................. 21 6,269,000
New Hampshire.......... 3 687,000
New Jersey............. 284 85,095,000
New Mexico............. 55 17,227,000
New York............... 100 32,314,000
North Carolina......... 26 7,508,000
Ohio................... 47 13,703,000
Oklahoma............... 65 18,509,000
Oregon................. 1 643,000
Pennsylvania........... 194 59,940,000
Rhode Island........... 6 1,327,000
South Carolina......... 16 4,435,000
Tennessee.............. 14 4,037,000
Texas.................. 485 149,494,000
Utah................... 19 6,153,000
Vermont................ 5 1,666,000
Virginia............... 683 204,439,000
Washington............. 184 53,807,000
Wisconsin.............. 6 2,207,000
--------- --------------
2,471,084,000
Plus premium........... 1,562,000
--------------
Total........ 8,059 $2,472,646,000
========= ==============
</TABLE>
20
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER PAGE
- -------- ------------
<S> <C> <C>
3.1(a) Charter of the Company, which includes Articles of
Incorporation, Articles Supplementary for each outstanding
Series of Preferred Stock and all other amendments to such
Articles of Incorporation.(9)
3.1(b) Articles Supplementary ($1.26 Cumulative Convertible
Preferred Stock, Series B).(7)
3.2 Bylaws of the Company, as amended.(9)
10.16 Management Agreement between Capstead Mortgage Corporation
and Capstead Advisers, Inc. dated July 31, 1992.(8)
10.17 Amendment to Management Agreement dated March 31, 1993,
between the Registrant and Capstead Advisers, Inc.(9)
10.18 Second Amendment to Management Agreement dated September 3,
1993, between the Registrant and Capstead Advisers, Inc.*
10.19 Stock Option Agreement, dated June 16, 1992, between the
Company and Lomas Financial Corporation.(9)
10.20 Form of Loan Sale Agreement.(6)
10.21 1990 Employee Stock Option Plan(4)
10.22 1990 Directors' Stock Option Plan(5)
10.23 Employment Agreement dated August 1, 1992 between Capstead
Mortgage Corporation and Ronn K. Lytle.(7)
10.24 Restricted Stock Grant Agreement dated August 1, 1992
between Capstead Mortgage Corporation and Ronn K. Lytle.(7)
11 Computation of earnings per share.*
12.1 Statement regarding computation of ratios of earnings to
fixed charges and preferred stock dividends.*
13 Excerpts of the Annual Report to Stockholders of the
Company for the year ended December 31, 1993.*
22.1 List of subsidiaries of the Company.*
24 Consent of Ernst & Young, Independent Auditors.*
</TABLE>
- ------------------
(1) Incorporated by reference to the Company's Registration Statement on Form
S-11 (No. 2-97182) dated September 5, 1985.
(2) Incorporated by reference to the Company's Annual Report on Form 10-K for
the year ended December 31, 1989.
(3) Incorporated by reference to the Company's Annual Report on Form 10-K for
the year ended December 31, 1991.
(4) Incorporated by reference to the Company's Registration Statement on Form
S-8 (No. 33-40016) dated April 29, 1991.
(5) Incorporated by reference to the Company's Registration Statement on Form
S-8 (No. 33-40017) dated April 29, 1991.
(6) Incorporated by reference to Amendment No. 1 on Form 8 to the Company's
Annual Report on Form 10-K for the year ended December 31, 1991.
(7) Incorporated by reference to the Company's Annual Report on Form 10-K for
the year ended December 31, 1992.
(8) Incorporated by reference to Amendment No. 1 of the Company's Registration
Statement on Form S-4 (No. 33-31260) dated October 27, 1992.
(9) Incorporated by reference to the Company's Registration Statement on Form
S-3 (No. 33-62212) dated May 6, 1993.
* Filed herewith.
21
<PAGE>
EXHIBIT 10.18
SECOND AMENDMENT TO MANAGEMENT AGREEMENT
DATED SEPTEMBER 3, 1993
<PAGE>
EXHIBIT 10.18
SECOND AMENDMENT TO MANAGEMENT AGREEMENT
This SECOND AMENDMENT TO MANAGEMENT AGREEMENT (this "Amendment") is entered
into as of September 3, 1993 between Capstead Mortgage Corporation, a Maryland
corporation (the "Company") and Capstead Advisers, Inc., a Nevada corporation
(the "Manager").
R E C I T A L S:
---------------
A. The Company and the Manager have previously entered into that certain
Management Agreement effective as of August 1, 1992, as amended by that certain
Amendment to Management Agreement entered into as of March 31, 1993 (such
Management Agreement as so amended being referred to herein as the "Agreement").
B. The Company and the Manager desire to amend the Agreement as set forth in
this Amendment.
In consideration of the recitals and the mutual agreements hereinafter set
forth, the Company and the Manager hereby agree as follows:
A M E N D M E N T:
-----------------
1. Amendment to Agreement.
-----------------------
(a) Paragraph 9(c) of the Agreement is amended in its entirety to read as
follows:
"(c) Subject to paragraphs (d) and (e) below, the Company shall make
payments on the dates and in the amounts as follows:
<TABLE>
<CAPTION>
DUE DATE AMOUNT OF PAYMENT
------------------ -----------------
<S> <C>
September 30, 1992 $1,000,000
December 31, 1992 1,500,000
March 31, 1993 4,900,000
June 30, 1993 1,000,000
September 30, 1993 4,628,000
</TABLE>
If a due date is not a Business Day, the related payment shall be made on
the Business Day immediately following such due date."
(b) Paragraph 15(a) of the Agreement is amended in its entirety to read
as follows:
"(a) This Agreement shall terminate on September 30, 1993."
(c) Paragraphs 15(b) and (c) are deleted in their entirety and are
reserved.
2. Full Force and Effect. Except as amended hereby, the Agreement is and
---------------------
shall remain in full force and effect.
IN WITNESS WHEREOF, this Amendment has been executed and shall be effective as
of September 3, 1993.
CAPSTEAD MORTGAGE CORPORATION
By: /s/ RONN K. LYTLE
---------------------------------------
Ronn K. Lytle,
Chairman of the Board
CAPSTEAD ADVISERS, INC.
By: /s/ JAMES L. CROWSON
---------------------------------------
James L. Crowson,
Senior Vice President & General Counsel
<PAGE>
EXHIBIT 11
CAPSTEAD MORTGAGE CORPORATION
COMPUTATION OF NET INCOME PER SHARE
<PAGE>
EXHIBIT 11
COMPUTATION OF NET INCOME PER SHARE
CAPSTEAD MORTGAGE CORPORATION
<TABLE>
<CAPTION>
1993 1992 1991
------------ ----------- -----------
<S> <C> <C> <C>
Primary:
Average number of common shares
outstanding 15,053,000 14,333,000 8,964,000
Incremental shares calculated
using the Treasury Stock method 93,000 61,000 -
------------ ----------- -----------
15,146,000 14,394,000 8,964,000
============ =========== ===========
Net income $ 94,256,000 $53,191,000 $33,717,000
Less cash dividends
paid on convertible preferred
stock:
Series A ($1.60 paid per share) (1,274,000) (1,823,000) (7,499,000)
Series B ($0.10 paid per share) (37,318,000) (2,884,000) -
------------ ----------- -----------
Net income available to common
stockholders $ 55,664,000 $48,484,000 $26,218,000
============ =========== ===========
Primary net income per share* $3.68 $3.37 $2.92
Fully diluted:
Average number of common shares
outstanding 15,053,000 14,333,000 8,964,000
Assumed conversion of convertible
preferred stock:
Series A 741,000 1,157,000 4,670,000
Series B ** ** -
Incremental shares calculated
using the Treasury Stock method 136,000 101,000 49,000
------------ ----------- -----------
15,930,000 15,591,000 13,683,000
============ =========== ===========
Net income $ 94,256,000 $53,191,000 $33,717,000
Less cash dividends paid on
Series B Preferred Stock (37,318,000) (2,884,000) -
------------ ----------- -----------
Net income $ 56,938,000 $50,307,000 $33,717,000
============ =========== ===========
Fully diluted net income per share $ 3.57 $ 3.23 $ 2.46
</TABLE>
* During the years ended December 31, 1992 and 1991, 1,382,551 and 3,140,304
shares of the Series A Preferred Stock had been converted into 1,244,261 and
2,826,256 shares of common stock, respectively. If these conversions had
occurred at the beginning of the respective years, primary net income per
share would have been $3.32 and $2.60 per share for the year ended December
31, 1992 and 1991, respectively.
** The Series B Preferred Stock is not considered convertible for purposes of
calculating fully diluted net income per share as it is currently
antidilutive.
<PAGE>
EXHIBIT 12.1
COMPUTATION OF RATIOS OF EARNINGS
TO FIXED CHARGES AND PREFERRED STOCK DIVIDENDS
<PAGE>
EXHIBIT 12.1
CAPSTEAD MORTGAGE CORPORATION
COMPUTATION OF RATIO OF EARNINGS TO COMBINED
FIXED CHARGES AND PREFERRED STOCK DIVIDENDS
(IN THOUSANDS, EXCEPT RATIOS)
(UNAUDITED)
(a) Computation of ratio of earnings to combined fixed charges and preferred
stock dividends (including CMO debt):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------------------------------------
1993 1992 1991 1990 1989
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Fixed charges $491,076 $415,433 $189,840 $144,478 $109,801
Preferred stock dividends 38,592 4,707 7,499 8,746 1,312
-------- -------- -------- -------- --------
Combined fixed charges and
preferred stock dividends 529,668 420,140 197,339 153,224 111,113
Net income 94,256 53,191 33,717 29,082 16,375
-------- -------- -------- -------- --------
Total $623,924 $473,331 $231,056 $182,306 $127,488
======== ======== ======== ======== ========
Ratio of earnings to combined
fixed charges and preferred
stock dividends 1.18:1 1.13:1 1.17:1 1.19:1 1.15:1
======== ======== ======== ======== ========
</TABLE>
(b) Computation of ratio of earnings to combined fixed charges and preferred
stock dividends (excluding CMO debt):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------------------------------------
1993 1992 1991 1990 1989
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Fixed charges $ 80,923 $ 62,077 $31,474 $ 8,519 $13,645
Preferred stock dividends 38,592 4,707 7,499 8,746 1,312
-------- -------- ------- ------- -------
Combined fixed charges and
preferred stock dividends 119,515 66,784 38,973 17,265 14,957
Net income 94,256 53,191 33,717 29,082 16,375
-------- -------- ------- ------- -------
Total $213,771 $119,975 $72,690 $46,347 $31,332
======== ======== ======= ======= =======
Ratio of earnings to combined
fixed charges and preferred
stock dividends 1.79:1 1.80:1 1.87:1 2.68:1 2.09:1
======== ======== ======= ======= =======
</TABLE>
<PAGE>
EXHIBIT 13
PORTIONS OF THE
ANNUAL REPORT TO STOCKHOLDERS
FOR THE YEAR ENDED DECEMBER 31, 1993
<PAGE>
EXHIBIT 13
REPORT OF ERNST & YOUNG, INDEPENDENT AUDITORS
Stockholders and Board of Directors
Capstead Mortgage Corporation
We have audited the accompanying consolidated balance sheet of Capstead Mortgage
Corporation and subsidiaries as of December 31, 1993 and 1992, and the related
consolidated statements of income, stockholders' equity, and cash flows for each
of the three years in the period ended December 31, 1993. These financial
statements are the responsibility of the Company'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 consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Capstead Mortgage Corporation and subsidiaries at December 31, 1993 and 1992,
and the consolidated results of their operations and their cash flows for each
of the three years in the period ended December 31, 1993, in conformity with
generally accepted accounting principles.
ERNST & YOUNG
Dallas, Texas
January 24, 1994
23
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Year Ended December 31
--------------------------------
1993 1992 1991
-------- -------- --------
<S> <C> <C> <C>
Interest income:
Mortgage securities collateral $390,690 $383,060 $176,578
Mortgage investments 184,136 117,527 58,989
-------- -------- --------
Total interest income 574,826 500,587 235,567
-------- -------- --------
Interest and related expenses:
Collateralized mortgage securities:
Interest 382,065 353,356 158,366
Additional amortization of
discount 28,088 -- --
Short-term borrowings 80,923 62,077 31,474
Mortgage insurance and other 20,084 13,821 3,118
Provision for possible losses 2,800 7,750 1,707
-------- -------- --------
Total interest and related expenses 513,960 437,004 194,665
-------- -------- --------
Net margin on mortgage assets 60,866 63,583 40,902
-------- -------- --------
Other revenues:
Gain on sales 61,216 2,910 1,379
Mortgage servicing revenues 2,574 -- --
Other 2,887 952 1,303
-------- -------- --------
66,677 3,862 2,682
-------- -------- --------
Other expenses:
Management fees 4,275 5,909 4,363
Manager termination costs 11,891 -- --
Salaries and related costs 8,295 4,124 2,694
General and administrative 7,343 4,221 2,810
Amortization of purchased mortgage
servicing rights 1,483 -- --
-------- -------- --------
Total other expenses 33,287 14,254 9,867
-------- -------- --------
Net income $ 94,256 $ 53,191 $ 33,717
======== ======== ========
Net income $ 94,256 $ 53,191 $ 33,717
Less cash dividends on preferred stock (38,592) (4,707) (7,499)
-------- -------- --------
Net income available to common
stockholders $ 55,664 $ 48,484 $ 26,218
======== ======== ========
Net income per share:
Primary $ 3.68 $ 3.37 $ 2.92
Fully diluted 3.57 3.23 2.46
Average number of shares outstanding:
Primary 15,146 14,394 8,964
Fully diluted 15,930 15,591 13,683
Cash dividends paid per share:
Common $ 3.66 $ 3.26 $ 2.56
Series A Preferred 1.60 1.60 1.60
Series B Preferred 1.26 0.10 --
</TABLE>
See notes to accompanying consolidated financial statements.
24
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(IN THOUSANDS)
<TABLE>
<CAPTION>
December 31
-----------------------
1993 1992
---------- ----------
<S> <C> <C>
ASSETS
Mortgage securities collateral $3,962,680 $5,269,600
Mortgage investments 2,875,427 1,904,600
---------- ----------
6,838,107 7,174,200
Less allowance for possible losses (6,927) (8,228)
---------- ----------
6,831,180 7,165,972
Cash and cash equivalents 87,760 30,302
Prepaids, receivables and other 32,421 33,334
Purchased mortgage servicing rights 28,963 --
---------- ----------
$6,980,324 $7,229,608
========== ==========
LIABILITIES
Collateralized mortgage securities $3,891,134 $5,143,157
Repurchase arrangements 2,443,807 1,449,209
Accounts payable and accrued expenses 7,193 5,743
---------- ----------
6,342,134 6,598,109
---------- ----------
STOCKHOLDERS' EQUITY
Preferred stock - $0.10 par value;
100,000 shares authorized:
$1.60 Cumulative Preferred Stock,
Series A, 735 and 942 shares
issued and outstanding ($12,054
aggregate liquidation preference) 10,295 13,205
$1.26 Cumulative Convertible Preferred
Stock, Series B, 29,797 shares and
29,430 shares issued and outstanding
($339,090 aggregate liquidation
preference) 319,543 315,025
Common stock - $0.01 par value; 100,000 shares
authorized; 15,154 and 14,894 shares issued
and outstanding 152 149
Paid-in capital 308,140 303,503
Undistributed income (deficit) 60 (383)
---------- ----------
638,190 631,499
---------- ----------
$6,980,324 $7,229,608
========== ==========
</TABLE>
See notes to accompanying consolidated financial statements.
25
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(IN THOUSANDS)
<TABLE>
<CAPTION>
Three Years Ended December 31, 1993
---------------------------------------------------------------------------------------------------
Shares Outstanding Stated Value
----------------------------- --------------------------------
Preferred Preferred Undistributed
-------------------- ----------------------- Paid-in Income
Series A Series B Common Series A Series B Common Capital (Deficit) Total
-------- -------- ------ -------- -------- ------ ------- --------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at
January 1, 1991 5,465 -- 8,700 $ 76,706 $ -- $ 87 $177,076 $ (2,846) $251,023
Net income -- -- -- -- -- -- -- 33,717 33,717
Cash dividends:
Common -- -- -- -- -- -- -- (24,287) (24,287)
Preferred -- -- -- -- -- -- -- (7,499) (7,499)
Conversion of
preferred stock (3,140) -- 2,827 (44,090) -- 28 44,062 -- --
Other -- -- 27 -- -- 1 384 -- 385
-------- -------- ------ -------- -------- ------ ------- -------- -----
Balance at
Dec. 31, 1991 2,325 -- 11,554 32,616 -- 116 221,522 (915) 253,339
Stock issuance -- 29,430 2,046 -- 315,025 20 61,623 -- 376,668
Net income -- -- -- -- -- -- -- 53,191 53,191
Cash dividends:
Common -- -- -- -- -- -- -- (47,952) (47,952)
Preferred:
Series A -- -- -- -- -- -- -- (1,823) (1,823)
Series B -- -- -- -- -- -- -- (2,884) (2,884)
Conversion of
preferred stock (1,383) -- 1,244 (19,411) -- 12 19,399 -- --
Other -- -- 50 -- -- 1 959 -- 960
-------- -------- ------ -------- -------- ------ ------- -------- -----
Balance at
Dec. 31, 1992 942 29,430 14,894 13,205 315,025 149 303,503 (383) 631,499
Net income -- -- -- -- -- -- -- 94,256 94,256
Cash dividends:
Common -- -- -- -- -- -- -- (55,221) (55,221)
Preferred:
Series A -- -- -- -- -- -- -- (1,274) (1,274)
Series B -- -- -- -- -- -- -- (37,318) (37,318)
Conversion of
preferred stock (207) (14) 191 (2,910) (144) 2 3,052 -- --
Other -- 381 69 -- 4,662 1 1,585 -- 6,248
-------- -------- ------ -------- -------- ------ ------- -------- -----
Balance at
Dec. 31, 1993 735 29,797 15,154 $ 10,295 $319,543 $152 $308,140 $ 60 $638,190
======== ======== ====== ======== ======== ====== ======= ======== =====
</TABLE>
See notes to accompanying consolidated financial statements.
26
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
Year Ended December 31
-----------------------------------------
1993 1992 1991
----------- ----------- -----------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net income $ 94,256 $ 53,191 $ 33,717
Noncash items:
Amortization of
discount and premium 47,988 7,398 1,405
Amortization of purchased
mortgage servicing rights 1,483 -- --
Provision for possible losses 2,800 7,750 1,707
Net change in prepaids,
receivables, other assets
and payables 2,363 (19,681) (6,113)
Net gain from investing
activities (61,216) (2,910) (1,379)
----------- ----------- -----------
Net cash provided by
operating activities 87,674 45,748 29,337
----------- ----------- -----------
INVESTING ACTIVITIES:
Mortgage securities collateral:
Principal collections
on collateral 2,437,768 1,270,681 297,147
Decrease (increase) in
accrued interest receivable 11,302 (13,947) (8,957)
Increase in short-term
investments (25,361) (98,242) (37,484)
Purchases of mortgage loans (4,410,950) (5,489,456) (2,173,149)
Purchases of agency securities (1,747,931) -- (157,214)
Purchases of mortgage
servicing rights (30,446) -- --
Principal collections on
mortgage loans 266,347 99,447 49,752
Proceeds from sales of mortgage
assets 3,859,993 1,160,920 71,720
Net cash from acquisition -- 8,236 --
----------- ----------- -----------
Net cash provided (used)
by investing activities 360,722 (3,062,361) (1,958,185)
----------- ----------- -----------
FINANCING ACTIVITIES:
Collateralized mortgage
securities:
Issuance of securities 1,185,482 3,564,780 1,485,031
Principal payments on
securities (2,469,026) (1,168,581) (259,517)
Increase (decrease)
in accrued interest payable (14,427) 21,396 11,863
Capital stock transactions 6,248 62,603 385
Dividends paid (93,813) (52,659) (31,786)
Increase in short-term
borrowings 994,598 593,637 747,406
----------- ----------- -----------
Net cash provided (used) by
financing activities (390,938) 3,021,176 1,953,382
----------- ----------- -----------
Net increase in cash and cash
equivalents 57,458 4,563 24,534
Cash and cash equivalents at
beginning of year 30,302 25,739 1,205
----------- ----------- -----------
Cash and cash equivalents at end
of year $ 87,760 $ 30,302 $ 25,739
=========== =========== ===========
</TABLE>
See notes to accompanying consolidated financial statements.
27
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1993
NOTE A -- BUSINESS
Capstead Mortgage Corporation, together with certain affiliated entities,
operates as a mortgage conduit which purchases and securitizes various types of
single-family residential mortgage loans. In addition, the Company has formed a
mortgage servicing unit to function as the primary mortgage servicer and master
servicer for loans and servicing rights acquired by the Company. The Company
offers investors the opportunity to participate in the income generated from
servicing and investing in mortgage loans, securitization activities and other
portfolio strategies.
NOTE B -- ACCOUNTING POLICIES
Principles of Consolidation
The consolidated financial statements include the accounts of Capstead Mortgage
Corporation ("Capstead"), its special-purpose finance subsidiaries and certain
other entities (collectively, the "Company"). Intercompany balances and
transactions have been eliminated. Substantially all of the assets of the
special-purpose finance subsidiaries are pledged to secure the issuance of
mortgage pass-through securities and collateralized mortgage securities and are
not available for the satisfaction of general claims of Capstead. Capstead has
no obligation for the mortgage pass-through securities and collateralized
mortgage securities beyond the assets pledged as collateral.
Mortgage Assets
Substantially all mortgage securities collateral and mortgage investments are
carried at their unpaid principal balances, net of unamortized discount or
premium and adjusted for deferred hedging gains or losses, if any. The Company
may, from time to time, hold loans for sale. Loans held for sale are carried at
the lower of cost or market on an aggregate basis. The cost of these mortgage
loans is adjusted for gains or losses generated from corresponding hedging
transactions prior to the lower of cost or market valuation. Transfers from
loans held for sale to loans held for investment are recorded at the lower of
cost or market. Interest income, net of servicing fees, is recorded as income
when earned. Any discount or premium is recognized as an adjustment to interest
income by the interest method over the life of the related mortgage loan.
Included in mortgage securities collateral are other mortgage securities
consisting primarily of interest-only and principal-only securities. Interest-
only securities represent ownership of an undivided interest in interest
payments on the underlying securities. Principal-only securities represent
ownership of an undivided interest in principal payments on the underlying
securities. Other mortgage securities are carried at the present value of the
future cash flows expected to be received during the remaining term of the
investment, discounted at a constant effective yield. Income (loss) recognized
on other mortgage securities is the difference between the actual cash received
and the reduction in the carrying value.
28
<PAGE>
Mortgage assets may be subject to changes in value because of changes in
interest rates and/or rates of prepayment, as well as the risk that the
mortgagor may fail to perform under the mortgage agreement. The Company manages
its exposure to these risks by the issuance of mortgage pass-through securities
or collateralized mortgage securities, the acquisition of mortgage pool
insurance, forward sale agreements and other appropriate strategies.
The fair value of mortgage assets at December 31, 1993 was estimated using
either (i) quoted market prices when available including quotes made by the
Company's lenders in connection with designating collateral for repurchase
arrangements, (ii) offer prices by the Company for similar mortgage assets, or
(iii) expected securitization results. The fair value for other mortgage
securities was estimated using discounted cash flow analyses based on current
interest rates and prepayment expectations.
Hedging Activities
The Company may enter into forward sale agreements for the purpose of reducing
exposure to the effect of changes in interest rates primarily on fixed-rate
mortgage loans which it has purchased or has committed to purchase. These
agreements generally have terms of not more than 90 days. Gains and losses on
such contracts are deferred as an adjustment of the carrying value of the
related mortgage loans.
Allowance for Possible Losses
The Company provides for possible losses at a level believed adequate by
management to absorb possible losses due to (i) mortgagor default on uninsured
mortgage loans, (ii) fraud in the origination of loans, (iii) special hazards on
pools of loans not covered by a special hazard insurance policy, and (iv) higher
than anticipated prepayments on other mortgage securities. The Company
continues to provide for losses in amounts it believes are commensurate with
purchases of mortgage loans and mortgage securities; the level of delinquencies,
foreclosures, fraud and special hazards expected to be experienced by the
Company; and expected prepayment performance of its investments in other
mortgage securities. The Company does not provide for losses resulting from
defaults on investments with guarantees from government sponsored entities or
with mortgage pool insurance (see Note G).
Purchased Mortgage Servicing Rights
In connection with the acquisition of mortgage loans, the Company may also
acquire the related servicing rights. The portion of the purchase price that
represents the cost of acquiring the servicing rights is capitalized as
purchased mortgage servicing rights. In addition, in connection with
securitization activities, the Company generally creates an excess servicing fee
receivable, the discounted present value of which is capitalized as master
servicing rights and is included in purchased mortgage servicing rights.
Amortization of purchased mortgage servicing rights and master servicing rights
is recorded in proportion to, and over the period of, estimated future net
servicing income or the excess servicing income stream.
29
<PAGE>
Cash and Cash Equivalents
Cash and cash equivalents include cash on hand and highly liquid investments
with original maturities of three months or less. The carrying amount of cash
and cash equivalents approximates their fair value.
Borrowings
Collateralized mortgage securities and repurchase arrangements are carried at
their unpaid principal balances, net of unamortized discount or premium. Any
discount or premium is recognized as an adjustment to interest expense by the
interest method over the expected term of the related borrowings.
The fair value of collateralized mortgage securities is dependent upon the
characteristics of the mortgage securities collateral pledged to secure the
issuance. Therefore, fair value is based on the same method used for
determining fair value for the underlying mortgage securities collateral,
adjusted for credit enhancements. The carrying amount of borrowings under
repurchase arrangements approximates fair value.
Mortgage Servicing Revenues
Mortgage servicing revenues represent fees received for servicing and master
servicing loans. Servicing fees are calculated on the basis of the outstanding
monthly principal balance of loans serviced and are recognized as income when
collected. Master servicing fees are calculated in the same fashion and are
recognized as income when earned.
Income Taxes
Capstead and its qualified real estate investment trust ("REIT") subsidiaries
have elected to be taxed as a REIT and intend to continue to do so. As a result
of this election, Capstead is not taxed on taxable income distributed to
stockholders, provided that certain REIT qualification tests are met.
Currently, it is Capstead's policy to distribute 100 percent of taxable income
within the time limits prescribed by the Internal Revenue Code (the "Code"),
which may extend into the subsequent taxable year. Accordingly, no provision
has been made for income taxes for Capstead and its qualified REIT subsidiaries.
Net income for financial reporting purposes of Capstead and its qualified REIT
subsidiaries is lower than taxable income for the years presented. This
difference primarily results from the timing of the recognition of
collateralized mortgage security discounts, the provision for losses and the
write-down of certain investments. These items will reverse in future years
resulting in higher net income for financial reporting purposes than for federal
income tax purposes.
30
<PAGE>
Certain of the Capstead's subsidiaries (the "non-REIT" subsidiaries) are
consolidated for financial reporting purposes, but are not consolidated for
federal and state income tax purposes. Because the non-REIT subsidiaries were
only recently incorporated, the January 1, 1993 adoption of the liability method
of accounting for income taxes as prescribed by Statement of Financial
Accounting Standards ("SFAS") No. 109 "Accounting for Income Taxes" had no
cumulative effect on the Company's consolidated financial statements. As of
December 31, 1993, the non-REIT subsidiaries had deferred tax liabilities of
approximately $300,000 that were offset by deferred tax assets totaling
approximately $675,000. A valuation allowance has been recorded against the
remaining deferred tax assets.
Net Income per Share
Primary net income per share is computed by dividing net income, after deduction
of preferred stock dividends, by the weighted average number of common shares
and common stock equivalents outstanding during the year.
Fully diluted net income per share is computed by dividing net income, after
deducting dividends on the $1.26 Cumulative Convertible Preferred Stock, Series
B ("Series B Preferred Stock"), by the weighted average number of common shares
and common stock equivalents outstanding during the year, assuming conversion of
the $1.60 Cumulative Preferred Stock, Series A ("Series A Preferred Stock").
The Series B Preferred Stock is not considered convertible for purposes of
calculating fully diluted net income per share as it is currently antidilutive.
Reclassification
Upon becoming fully self-administered on October 1, 1993, personnel of the
former manager became employees of the Company (see Note K). For comparison
purposes, amounts paid to the manager during the past three years for
reimbursement of salaries and related costs, as well as general and
administrative expenses, have been reclassified with similar expenses incurred
directly by the Company. These amounts totaled $5,196,000, $5,077,000 and
$3,482,000 for the periods ended September 30, 1993, December 31, 1992 and
December 31, 1991, respectively. Certain other amounts for prior years have
also been reclassified to conform to the 1993 presentation.
Recent Accounting Pronouncements
In May 1993 the Financial Accounting Standards Board issued SFAS No. 115
"Accounting for Certain Investments in Debt and Equity Securities." The Company
will adopt SFAS No. 115 on a prospective basis effective January 1, 1994. The
adoption will not have a material impact on the Company.
31
<PAGE>
NOTE C -- MORTGAGE INVESTMENTS
The components of the Company's mortgage investment portfolios and the related
weighted average effective interest rates during the years indicated, were as
follows (dollars in thousands):
<TABLE>
<CAPTION>
As of Year Ended
December 31 December 31
----------------------- ----------------------
1993 1992 1993 1992
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Mortgage loan portfolio:
Fixed-rate mortgage loans $1,249,575 $ 293,883 7.42% 8.86%
Adjustable-rate mortgage
loans 331,758 221,467 6.21 6.03
5/25 mortgage loans 43,484 73,410 7.17 8.43
AAA-rated mortgage pass-through
securities portfolio:
Adjustable-rate mortgage
securities 571,651 964,028 5.76 6.47
5/25 mortgage securities 276,178 136,303 7.58 8.36
Agency securities portfolio 402,781 215,509 6.80 7.33
---------- ----------
$2,875,427 $1,904,600
========== ==========
</TABLE>
A portion of the Company's mortgage investments consist of adjustable-rate
mortgage loans and 5/25 mortgage loans. Adjustable-rate mortgage loans have
rates of interest which 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 United States Treasury
Securities, after an initial fixed rate period of one, three, five, or ten years
after origination. The 5/25 mortgage loans have initial interest rates that
adjust one time, approximately five years following the 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
the adjustment. Mortgage loans typically have original maturities ranging from
15 to 30 years and are fully amortizing over their terms. The AAA-rated
mortgage pass-through securities ("Mortgage Pass-Throughs") portfolio consists
of adjustable-rate and 5/25 mortgage loans from the Company's mortgage loan
portfolio, which have been securitized and rated AAA by a nationally recognized
statistical rating organization ("Rating Agency"). Agency securities consist of
mortgage-backed securities issued by government-sponsored entities, either
Federal Home Loan Mortgage Corporation ("FHLMC"), FNMA or Government National
Mortgage Association ("GNMA").
As of December 31, 1993, the Company had outstanding for hedging purposes
forward sale agreements with an aggregate gross contract amount of $450 million
and had commitments for the purchase of mortgage loans of approximately
$472,662,000. All loans were held for investment at December 31, 1993. As of
December 31, 1993, the fair value of the Company's mortgage investments,
including forward sale agreements for hedging purposes and commitments for the
purchase of mortgage loans, was estimated at $3.3 billion.
32
<PAGE>
NOTE D -- MORTGAGE SECURITIES COLLATERAL
Mortgage securities collateral consists of collateral pledged to secure
repayment of borrowings through collateralized mortgage securities and other
mortgage securities. All principal and interest on the collateral is remitted
directly to a collection account maintained by a trustee. The trustee is
responsible for reinvesting those funds in short-term investments. All
collections on the collateral and the reinvestment income earned thereon are
available for the payment of principal and interest on the collateralized
mortgage securities.
The components of mortgage securities collateral are summarized as follows (in
thousands):
<TABLE>
<CAPTION>
December 31
-------------------------
1993 1992
---------- ----------
<S> <C> <C>
Mortgage collateral $3,721,257 $5,056,007
Short-term investments 195,458 170,097
Accrued interest receivable 26,953 38,255
---------- ----------
Total collateral 3,943,668 5,264,359
Unamortized premium (discount) 6,341 (4,620)
---------- ----------
Net collateral 3,950,009 5,259,739
Other mortgage securities 12,671 9,861
---------- ----------
$3,962,680 $5,269,600
========== ==========
</TABLE>
Mortgage collateral consists of adjustable-rate, fixed-rate, and 5/25 mortgage
loans and agency securities. The weighted average effective interest rate for
all mortgage securities collateral was 8.38 percent and 9.32 percent during the
years ended December 31, 1993 and 1992, respectively. As of December 31, 1993,
the fair value of mortgage securities collateral was estimated at $4.1 billion.
NOTE E -- COLLATERALIZED MORTGAGE SECURITIES
Each collateralized mortgage securities issuance, (a "series"), consists of
various classes, of which substantially all are at a fixed rate of interest.
Interest is payable quarterly or monthly at specified rates for all classes.
Typically, principal payments on each series are made to each class in the order
of their stated maturities so that no payment of principal will be made on any
class until all classes having an earlier stated maturity have been paid in
full.
The components of collateralized mortgage securities and certain other
information are summarized as follows (dollars in thousands):
<TABLE>
<CAPTION>
December 31
---------------------------
1993 1992
---------- ----------
<S> <C> <C>
Collateralized mortgage securities $3,857,303 $5,150,941
Accrued interest payable 45,362 59,789
---------- ----------
Total obligation 3,902,665 5,210,730
Less unamortized discount (11,531) (67,573)
---------- ----------
Net obligation $3,891,134 $5,143,157
========== ==========
Range of average interest rates 4.78% to 10.00% 5.04% to 10.00%
Range of stated maturities 2007 to 2023 2007 to 2023
Number of series 43 44
</TABLE>
33
<PAGE>
The maturity of each series of securities is directly affected by the rate of
principal prepayments on the related mortgage securities collateral. Each
series of securities is also subject to redemption at the Company's option
provided that certain requirements specified in the related indenture have been
met. As a result, the actual maturity of any series of securities is likely to
occur earlier than its stated maturity. Because of continued high prepayments
on mortgage securities collateral, the Company accelerated amortization of bond
discount on existing collateralized mortgage securities resulting in the
recognition of additional interest expense. The average effective interest rate
for all collateralized mortgage securities was 9.05 percent and 8.80 percent
during the years ended December 31, 1993 and 1992, respectively. As of December
31, 1993, the fair value of collateralized mortgage securities was estimated at
$4.0 billion.
NOTE F -- SHORT-TERM BORROWINGS
Short-term borrowings are primarily made under repurchase arrangements. At
December 31, 1993, the Company had approved credit limits of $2 billion with
investment banking firms to finance the mortgage loan portfolio. Interest rates
on borrowings under these facilities are based on overnight LIBOR rates.
The Company currently uses other repurchase arrangements as needed. As the
Company commits to the issuance of collateralized mortgage securities or
publicly offered, multi-class mortgage pass-through certificates ("MPCs"), the
Company may pledge 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 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.
Repurchase arrangements outstanding, which had maturities of less than 31 days,
were as follows (dollars in thousands):
<TABLE>
<CAPTION>
December 31, 1993
------------------------------------------------
Collateral Borrowings
---------------------- -----------------------
Weighted
Carrying Market Amount Average
Value Value Outstanding Rate
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Mortgage loans $1,282,814 $1,284,780 $1,220,094 4.07%
Mortgage Pass-Throughs 847,829 856,841 824,682 3.62
Agency securities 402,781 396,390 399,031 3.38
---------- ---------- ----------
$2,533,424 $2,538,011 $2,443,807
========== ========== ==========
</TABLE>
34
<PAGE>
<TABLE>
<CAPTION>
December 31, 1992
-----------------------------------------------
Collateral Borrowings
---------------------- -----------------------
Weighted
Carrying Market Amount Average
Value Value Outstanding Rate
---------- ---------- ----------- ---------
<S> <C> <C> <C> <C>
Mortgage loans $ 201,449 $ 199,199 $ 184,374 4.33%
Mortgage Pass-Throughs 1,100,331 1,115,072 1,050,795 4.14
Agency securities 215,509 217,711 214,040 3.75
---------- ---------- ----------
$1,517,289 $1,531,982 $1,449,209
========== ========== ==========
</TABLE>
Accrued interest on short-term borrowings totaled $2,285,000 at December 31,
1993. The weighted average effective interest rate on all short-term borrowings
was 3.40 percent and 4.43 percent during 1993 and 1992, respectively.
NOTE G -- ALLOWANCE FOR POSSIBLE LOSSES
The Company has limited exposure to losses on mortgage loans. Losses due to
typical mortgagor default are substantially reduced by the acquisition of
mortgage pool insurance from AAA-rated mortgage pool insurers, which supplements
primary mortgage insurance, if any, and homeowner down payments. The amount of
coverage under any such mortgage pool insurance policy is the amount (typically
7 to 15 percent of the aggregate amount in such pool of mortgage loans)
determined by one or more Rating Agencies necessary to allow the related
securities to be rated AAA, when combined with homeowner down payments or other
insurance coverage. At December 31, 1993, the Company had default risk on
approximately $5,939,000 of its mortgage loans of which approximately $1,822,000
were delinquent 60 days or more. The remainder of mortgage assets were
considered to have no default risk because of guarantees from government
sponsored entities on agency securities or the acquisition of or commitment for
the issuance of mortgage pool insurance.
Certain other risks, however, are not covered by mortgage pool insurance and may
subject the Company to loss. These risks include fraud or misrepresentation
during origination of a mortgage loan and special hazards which are not covered
by standard hazard insurance policies (e.g. earthquakes). In cases of fraud the
Company generally will not be able to recover its losses from the mortgage
insurance company, but will generally have recourse to the prior owner of a loan
based on representations and warranties made at the time the loan was purchased.
However, to the extent the prior owner does not perform its repurchase
obligation, the Company may incur a loss. Special hazards are typically
catastrophic events that are unable to be predicted. In September 1991 the
Company began to limit its exposure to special hazard losses by acquiring
special hazard insurance coverage from a AAA-rated insurer. As of December 31,
1993, 69 percent of the Company's mortgage assets (excluding agency securities)
were covered by a special hazard insurance policy. Management does not believe
that fraud or special hazard risks pose a material threat to the operations of
the Company; however, the Company continually monitors its underwriting
guidelines and correspondents from which it purchases mortgage loans, as well as
the geographic concentration of the its mortgage assets, for possible changes in
the level of risk.
35
<PAGE>
As of December 31, 1993, approximately 60 percent of the Company's mortgage
assets (excluding agency securities) were secured by properties located in
California. The Company's exposure arising from this geographic concentration
is reduced by the acquisition of mortgage pool insurance and special hazard
insurance (see Note M).
During 1993 and 1992 a portion of the Company's investment in other mortgage
securities was charged off due to diminishing cash flows resulting from
increased prepayments on the underlying collateral. Declines in mortgage
interest rates have made it increasingly advantageous for mortgagors whose
loans secure these investments to refinance. Management does not believe that
the risk of further impairment of these investments, which total $12,671,000 at
December 31, 1993, pose a material threat to the operations of the Company.
Activity in the allowance for possible losses was as follows (in thousands):
<TABLE>
<CAPTION>
Year Ended December 31
----------------------
1993 1992
------- -------
<S> <C> <C>
Beginning balance $ 8,228 $ 3,505
Provision for possible losses 2,800 7,750
Charge-offs due to:
Mortgagor default (433) (515)
Fraud/misrepresentation (1,567) (616)
Special hazard losses (33) --
Impairment of other mortgage securities (2,068) (1,896)
------- -------
$ 6,927 $ 8,228
======= =======
</TABLE>
NOTE H -- ACQUISITION
On December 2, 1992, the Company acquired the net assets of Tyler Cabot Mortgage
Securities Fund, Inc. ("Tyler Cabot"), a diversified closed-end management
investment company, in exchange for 29,429,815 shares of the Company's Series B
Preferred Stock. The acquisition has been accounted for as a purchase and,
accordingly, the assets and liabilities have been recorded based on their fair
value at the date of acquisition. The net income earned on the assets and
liabilities acquired have been included in the consolidated statement of income
from the date of the acquisition.
NOTE I -- STOCKHOLDERS' EQUITY
The Series A Preferred Stock issued in connection with a 1989 acquisition is
non-voting. Each share is entitled to a cumulative fixed dividend at an annual
rate of $1.60 and is eligible for conversion into 9/10 of 1 share of common
stock. The Series A Preferred Stock has a liquidation preference of $16.40 per
share and is redeemable at the Company's option, in whole or in part, at a
redemption price equal to the liquidation preference after November 6, 1994. At
December 31, 1993, 4,730,076 shares of the Series A Preferred Stock had been
converted to 4,257,005 shares of common stock.
The Series B Preferred Stock issued in connection with the acquisition of Tyler
Cabot is non-voting. Each share is entitled to a cumulative fixed dividend at
an annual rate of $1.26 and is eligible for conversion into 0.3196 of 1 share of
common stock. The Series B Preferred
36
<PAGE>
Stock has a liquidation preference of $11.38 per share and is redeemable at the
Company's option, in whole or in part, at a redemption price of $12.50 after
December 2, 1997. At December 31, 1993, 13,580 shares of the Series B Preferred
Stock had been converted to 4,337 shares of common stock.
In February 1992 the Company received $61,643,000 in net proceeds from the
offering of 2,046,000 shares of common stock. Proceeds from the offering were
used to acquire mortgage assets.
During 1993 and 1992 the Company issued 10,362 and 17,408 shares of common stock
through its dividend reinvestment plan on which net proceeds of $395,000 and
$526,000 were received, respectively. During 1993 the Company also issued
381,473 shares of Series B Preferred Stock through its dividend reinvestment
plan for Series B stockholders on which net proceeds of $4,662,000 were
received.
On July 31, 1992, the Company issued a six-year option to Lomas Financial
Corporation ("LFC"), an affiliate of the former manager, for the purchase of
750,000 shares of common stock at a price of $32.63 per share. The option
becomes exercisable in 250,000 share increments through August 1, 1994.
The Company's Charter provides that if the Board of Directors determines in good
faith that the direct or indirect ownership of stock of Capstead has become
concentrated to an extent which would cause Capstead to fail to qualify as a
REIT, the Company may redeem or repurchase, at fair market value, any number of
shares of common stock and/or preferred stock sufficient to maintain or bring
such ownership into conformity with the Code and may refuse to transfer or issue
shares of common stock and/or preferred stock to any person whose acquisition
would result in Capstead being unable to comply with the requirements of the
Code. In addition, the Charter provides that the Company may redeem or refuse
to transfer any shares of capital stock of Capstead necessary to prevent the
imposition of a penalty tax as a result of ownership of such shares by certain
disqualified organizations, including governmental bodies and tax-exempt
entities that are not subject to tax on unrelated business taxable income.
NOTE J -- STOCK OPTION PLAN
The 1990 Directors' Stock Option Plan (the "Directors' Plan") and 1990 Employee
Stock Option Plan (the "Employee Plan") (together, the "Plans") provide for the
issuance of up to 160,000 and 240,000 shares, respectively, of common stock at a
price not less than the fair market value of the common stock at the time the
option is granted. The Plans also provide for dividend equivalent rights which
permit the option holder to obtain additional shares of common stock based upon
formulas set forth in the Plans.
37
<PAGE>
Activity in the Plans is summarized as follows:
<TABLE>
<CAPTION>
Directors' Plan Employee Plan
------------------------ ------------------------
Number Number
of Price of Price
Shares Range Shares Range
------- -------------- ------- --------------
<S> <C> <C> <C> <C>
Balance at inception of
Plan and
at January 1, 1991 60,000 $ 13.00 53,000 $ 13.00
Options granted -- -- 39,000 25.50
Options exercised (25,000) 13.00 (500) 13.00
------- -------
Balance at December 31, 1991 35,000 13.00 91,500 13.00 - 25.50
Options granted 6,000 29.38 39,000 34.50
Options exercised (5,114) 13.00 (27,619) 13.00
Dividend equivalent
rights earned 802 -- 1,205 --
------- -------
Balance at December 31, 1992 36,688 13.00 - 29.38 104,086 13.00 - 34.50
Options granted 22,000 39.13 - 39.25 44,000 38.88
Options exercised (11,663) 13.00 - 29.38 (46,637) 13.00 - 34.50
Dividend equivalent
rights earned 1,494 -- 2,646 --
------- -------
Balance at December 31, 1993 48,519 $13.00-$39.25 104,095 $13.00-$38.88
======= =======
</TABLE>
In accordance with the terms of the Plans, on January 1, 1994 the Company
granted options to acquire 8,000 shares at an exercise price of $41 per share
under the Directors' Plan, and granted dividend equivalent rights for the
issuance of an additional 2,314 and 2,857 shares under the Directors' Plan and
Employee Plan, respectively. In addition, on January 24, 1994 the Company
granted options to a new member of the Board of Directors to acquire 5,000
shares at an exercise price of $40.63 per share.
NOTE K -- MANAGEMENT AND NON-COMPETITION AGREEMENTS
Since its inception and through September 30, 1993, the Company operated under a
management agreement with a subsidiary (the "Manager") of Lomas Mortgage USA,
Inc. ("LMUSA"). The agreement provided that the Manager advise the Company with
respect to all facets of its business and administer its day-to-day operations
under the supervision of the Board of Directors. The Manager paid, among other
things, salaries and benefits of its personnel, accounting fees and expenses,
other office expenses and expenses incurred in supervising and monitoring the
Company's investments. During the period from inception through July 31, 1992,
the Manager received management fees equal to specified percentages of the
Company's average invested assets and incentive fees equal to specified
percentages of amounts by which the return on common stockholders' equity
exceeded a specified return based on the average ten-year treasury yield.
On July 31, 1992, the Company entered into a 65-month management agreement with
the Manager with an effective date of August 1, 1992. Under the agreement, the
management fee was limited to an amount equal to the Manager's cost plus a fixed
profit aggregating $14,500,000 over the term of the agreement. Also on July 31,
1992, Capstead entered into a 65-month non-competition agreement with LFC, the
parent company of LMUSA, whereby LFC and its subsidiaries agreed to refrain from
engaging in the promotion, organization, operation or management of REITs, other
than Capstead, that invest primarily in jumbo mortgage loans in return for
payments aggregating $7 million.
38
<PAGE>
In March and again in September 1993, the Company negotiated amendments to these
agreements to shorten their terms and lower the required payments by $1,972,000.
Consequently, on October 1, 1993 the Company became fully self-administered.
Termination costs under the terms of the amended management agreement totaled
$7,528,000. Also included in manager termination costs is $4,363,000 which
represents unamortized amounts paid under the non-competition agreement.
NOTE L -- TRANSACTIONS WITH AFFILIATES OF THE FORMER MANAGER
In connection with the acquisition of mortgage loans, the Company acquires
most of its loans on a servicing-released basis. On September 7, 1993, the
Company ceased its practice of simultaneously selling servicing rights
associated with these loans to LMUSA. Such sales were at a price comparable to
that which would be paid by unaffiliated third parties. Servicing rights
purchased by LMUSA totaled $16,512,000, $39,446,000 and $17,020,000 during
1993, 1992 and 1991, respectively. At December 31, 1993, LMUSA serviced
approximately 42 percent of the Company's mortgage assets excluding agency
securities. The mortgage loans are serviced in accordance with the terms of a
servicing agreement typical for the industry. Servicing fees of $19,029,000,
$12,978,000 and $3,834,000 were retained by LMUSA for the years ended December
31, 1993, 1992 and 1991, respectively.
Capstead purchased approximately $6,016,000, $20,195,000 and $4,440,000 of
mortgage loans from LMUSA in 1993, 1992 and 1991, respectively, at prices and
terms prevailing at the time of purchase.
NOTE M -- SUBSEQUENT EVENTS
Prior to December 31, 1993, the Company committed to issue three series of
collateralized mortgage securities and on January 11, 1994, committed to issue
one additional series. The series are scheduled to close in January or February
1994 with an aggregate issue balance of approximately $1.15 billion. These
issuances will be collateralized by mortgage loans from the Company's mortgage
loan portfolio. The Company will elect Real Estate Mortgage Investment Conduit
("REMIC") status for tax purposes on these issuances.
In addition, the Company has committed to bulk acquisitions of servicing rights
to service approximately $1.6 billion of mortgage loans. The Company will begin
servicing these loans between January and April of 1994.
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). Although approximately $460 million of the Company's
mortgage assets are located in the affected areas (as determined by reference to
affected zip codes as reported by a rating agency), all but approximately $67
million of these assets are insured against such losses. At this point in time,
it is unclear how many of the underlying properties may have sustained damage
and, ultimately, if any loss will be incurred by the Company. The Company,
however, does not believe any such losses will be material.
39
<PAGE>
NOTE N -- SUPPLEMENTAL CASH FLOW INFORMATION
The following table provides supplemental cash and noncash information (in
thousands):
<TABLE>
<CAPTION>
Year Ended December 31
----------------------------------
1993 1992 1991
---------- ---------- ----------
<S> <C> <C> <C>
Interest paid:
Short-term borrowings $ 81,722 $ 62,247 $ 29,479
Collateralized mortgage securities 375,948 323,346 139,584
Noncash investing and financing activities:
Transfers from mortgage investments to
mortgage securities collateral 1,197,947 3,603,844 1,484,947
Charges to allowance for possible losses 4,101 3,027 1,145
Acquisition of Tyler Cabot:
Net assets acquired -- 307,077 --
Net liabilities assumed -- 288 --
Preferred stock issued -- 315,025 --
</TABLE>
NOTE O -- NET INTEREST INCOME ANALYSIS
The following table summarizes the amount of interest income and interest
expense and the average effective interest rate (dollars in thousands):
<TABLE>
<CAPTION>
1993 1992 1991
------------------ ------------------- ------------------
Average Average Average
Amount Rate Amount Rate Amount Rate
-------- ------- -------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
Interest income:
Mortgage securities collateral $390,690 8.38% $383,060 9.32% $176,578 10.29%
Mortgage investments 184,136 6.56 117,527 7.49 58,989 9.38
-------- -------- --------
Total interest income 574,826 500,587 235,567
-------- -------- --------
Interest expense:
Collateralized mortgage securities 410,153 9.05 353,356 8.80 158,366 9.70
Short-term borrowings 80,923 3.40 62,077 4.43 31,474 6.38
-------- -------- --------
Total interest expense 491,076 415,433 189,840
-------- -------- --------
Net interest $ 83,750 $ 85,154 $ 45,727
======== ======== ========
</TABLE>
The following table summarizes the amount of changes in interest income and
interest expense due to changes in interest rates versus changes in volume (in
thousands):
<TABLE>
<CAPTION>
1993/1992* 1992/1991*
------------------------------- -------------------------------
Rate Volume Total Rate Volume Total
-------- --------- ------- -------- --------- --------
<S> <C> <C> <C> <C> <C> <C>
Interest income:
Mortgage securities collateral $(40,878) $ 48,508 $ 7,630 $(18,194) $ 224,676 $206,482
Mortgage investments (16,008) 82,617 66,609 (14,061) 72,599 58,538
-------- --------- ------- -------- --------- --------
(56,886) 131,125 74,239 (32,255) 297,275 265,020
-------- --------- ------- -------- --------- --------
Interest expense:
Collateralized mortgage securities 10,057 46,740 56,797 (13,140) 208,130 194,990
Short-term borrowings (16,887) 35,733 18,846 (12,091) 42,694 30,603
-------- --------- ------- -------- --------- --------
(6,830) 82,473 75,643 (25,231) 250,824 225,593
-------- --------- ------- -------- --------- --------
$(50,056) $ 48,652 $(1,404) $ (7,024) $ 46,451 $ 39,427
======== ========= ======= ======== ========= ========
</TABLE>
*The change in interest due to both volume and rate has been allocated to volume
and rate changes in proportion to the relationship of the absolute dollar
amounts of the change in each.
40
<PAGE>
NOTE P - QUARTERLY RESULTS (UNAUDITED)
The following is a summary of the unaudited quarterly results of operations (in
thousands, except per share amounts):
<TABLE>
<CAPTION>
Year Ended December 31, 1993
---------------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Interest income $149,566 $153,129 $149,683 $122,448
Interest and related expenses 127,756 130,861 125,466 129,877*
Net margin on mortgage assets 21,810 22,268 24,217 (7,429)
Other revenues 9,692 6,528 13,208 37,249
Net income 22,904 23,255 23,640 24,457
Net income per share:
Primary $ .88 $ .90 $ .92 $ .97
Fully diluted .86 .88 .90 .95
<CAPTION>
Year Ended December 31, 1992
---------------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter
-------- -------- -------- --------
Interest income $100,791 $123,976 $133,329 $142,491
Interest and related expenses 87,433 107,485 117,081 125,005
Net margin on mortgage assets 13,358 16,491 16,248 17,486
Other revenues 1,112 (100) 1,095 1,755
Net income 11,207 12,553 13,234 16,197
Net income per share:
Primary $ .81 $ .83 $ .87 $ .87
Fully diluted .76 .80 .84 .84
</TABLE>
* Because of high prepayments on mortgage securities collateral during the
fourth quarter, the Company accelerated amortization of bond discount on
existing collateralized mortgage securities resulting in the recognition of an
additional $28 million in interest expense.
NOTE Q -- MARKET AND DIVIDEND INFORMATION (UNAUDITED)
The New York Stock Exchange trading symbol for the Company's common stock is
CMO. There were approximately 2,600 holders of record of the Company's common
stock at December 20, 1993. In addition, depository companies held stock for
approximately 22,000 beneficial owners. During the last two years, the high and
low stock sales prices and dividends declared on common stock were as follows:
<TABLE>
<CAPTION>
Year Ended December 31, 1993 Year Ended December 31, 1992
---------------------------- ----------------------------
Stock Prices Stock Prices
----------------- Dividends ----------------- Dividends
High Low Declared High Low Declared
------- ------- ---------- ------- ------- ---------
<S> <C> <C> <C> <C> <C> <C>
First quarter $42 7/8 $36 1/2 $.88 $35 1/4 $27 1/2 $.76
Second quarter 42 7/8 35 3/4 .90 34 1/4 28 3/4 .80
Third quarter 40 37 1/2 .92 36 7/8 31 7/8 .84
Fourth quarter 42 3/8 35 7/8 .96 39 3/8 33 1/8 .86
</TABLE>
41
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
SELECTED FINANCIAL DATA
(IN THOUSANDS, EXCEPT PERCENTAGES AND PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Year Ended December 31
------------------------------------------------------------
1993 1992 1991 1990 1989
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Selected consolidated statement of income data (1):
Interest income $ 574,826 $ 500,587 $ 235,567 $ 179,702 $ 131,965
Interest and related expenses 513,960 437,004 194,665 147,658 111,558
Net margin on mortgage assets 60,866 63,583 40,902 32,044 20,407
Other revenues 66,677 3,862 2,682 2,213 1,882
Net income 94,256 53,191 33,717 29,082 16,375
Net income per share:
Primary (2) $ 3.68 $ 3.37 $ 2.92 $ 2.34 $ 1.73
Fully diluted 3.57 3.23 2.46 2.14 1.73
Return on average total stockholders' equity 14.65% 16.08% 13.25% 11.50% 8.72%
Cash dividends paid per share:
Common $ 3.66 $ 3.26 $ 2.56 $ 2.27 $ 2.10
Series A Preferred 1.60 1.60 1.60 1.60 0.24
Series B Preferred 1.26 0.10 -- -- --
Average number of shares outstanding:
Primary 15,146 14,394 8,964 8,700 8,700
Fully diluted 15,930 15,591 13,683 13,619 9,451
Selected consolidated balance sheet data (at year end):
Mortgage investments $2,875,427 $1,904,600 $ 983,024 $ 257,537 $ 196,186
Mortgage securities collateral 3,962,680 5,269,600 2,806,616 1,570,427 1,526,036
Total assets 6,980,324 7,229,608 3,824,546 1,829,376 1,735,912
Short-term borrowings 2,443,807 1,449,209 855,572 108,248 64,826
Collateralized mortgage securities 3,891,134 5,143,157 2,708,630 1,466,508 1,416,614
Stockholders' equity 638,190 631,499 253,339 251,023 250,436
Other data:
Mortgage loans acquired during the year $4,393,273 $5,483,602 $2,171,362 $ 279,724 $ 334,439
Outstanding commitments to acquire mortgage
investments (at year end) 472,662 573,831 478,909 111,400 44,700
</TABLE>
(1) On December 2, 1992 the Company acquired the common stock of Tyler Cabot
Mortgage Securities Fund, Inc. in exchange for 29,429,815 shares of the
Company's Series B Preferred Stock. The acquisition has been accounted for as a
purchase and the net income earned on the assets and liabilities acquired have
been included in the Consolidated Statement of Income from the date of the
acquisition. Additionally, on November 6, 1989 the Company acquired the common
stock of Strategic Mortgage Investments, Inc. in exchange for 5,465,000 shares
of the Company's Series A Preferred Stock. The acquisition was accounted for as
a purchase and the operating results of Strategic have been included in the
Consolidated Statement of Income from the date of acquisition.
(2) During the years ended December 31, 1992 and 1991, 1,382,551 and 3,140,304
shares of the Series A Preferred Stock were converted into 1,244,261 and
2,826,256 shares of common stock, respectively. If these conversions had
occurred at the beginning of the respective years, primary net income per share
would have been $3.32 and $2.60 per share for the years ended December 31,
1992 and 1991, respectively.
42
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
FINANCIAL CONDITION
During the year ended December 31, 1993, the Company purchased 14,089 mortgage
loans totaling $4,393,273,000, compared to purchases of 17,063 mortgage loans
totaling $5,483,602,000 during 1992. Purchase and commitment volumes remained
high during 1993 compared to historical levels primarily due to a generally
favorable interest rate environment.
During 1993 the Company was able to expand its correspondent network resulting
in less reliance on the economically depressed California market. During 1993,
44 percent of the Company's mortgage loan acquisitions were secured by
properties located in California, down from 75 percent in 1992. As of December
31, 1993, approximately 60 percent of the Company's mortgage assets were secured
by properties located in California, compared to 77 percent as of December 31,
1992. 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). Although approximately $460 million of the Company's
mortgage assets are located in the affected areas (as determined by reference to
affected zip codes as reported by a rating agency), all but approximately $67
million of these assets are insured against such losses. At this point in time,
it is unclear how many of the underlying properties may have sustained damage
and, ultimately, if any loss will be incurred by the Company. The Company,
however, does not believe any such losses will be material. Indications are that
like the 1989 San Francisco earthquake, most of the damage was sustained by
infrastructure (i.e., water and gas mains, roads and bridges). Additionally,
according to an industry source, an estimated 25 percent of homeowners in
California carry earthquake insurance. Other considerations include homeowner
equity and the availability of low-cost loans from the government for repairs.
Finally, and perhaps most significantly, in costly areas such as southern
California, land can represent over 50 percent of the value of a home.
The Company formed $1 billion of AAA-rated private mortgage pass-through
securities ("Mortgage Pass-Throughs") during the year ended December 31, 1993,
the majority of which were backed by adjustable-rate mortgage loans ("ARM"
loans). The primary benefit
43
<PAGE>
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.
Over the past several years the Company has followed a strategy of building a
large portfolio of Mortgage Pass-Throughs. During 1993 an industry-wide
reduction in the number of ARM loan originations resulted in a shortage of ARM
loans in the market, thereby enabling the Company to realize substantial gains
from the sale of $1.1 billion of this portfolio. The Company plans to continue
to retain a large portfolio of Mortgage Pass-Throughs.
During the year ended December 31, 1993, the Company's collateralized mortgage
obligation ("CMO") investment portfolio declined from $126,443,000 to
$71,546,000, as record levels of prepayments on mortgage securities collateral
dramatically reduced outstanding balances of existing CMOs. Additionally, in a
modification of its previous investment strategy, the Company sold a portion of
its fixed-rate mortgage loans in 1993, primarily by issuing publicly-offered,
multi-class mortgage pass-through certificates ("MPCs"). During 1993 the Company
issued nine MPCs through special-purpose finance subsidiaries totaling $2.2
billion (including the sales of Mortgage Pass-Throughs mentioned above) and sold
$211 million of whole loans, retaining investments totaling $11,045,000
(primarily interest-only and principal-only bonds). The Company also issued
seven CMOs totaling $1.2 billion through special-purpose finance subsidiaries
secured by mortgage loans or agency securities. The Company's net investment in
these financings at issuance totaled $7,661,000.
The following table summarizes the Company's utilization of capital as of
December 31, 1993 (in thousands):
<TABLE>
<CAPTION>
Funded Through
-------------------------
Assets Borrowings Equity
---------- ---------- --------
<S> <C> <C> <C>
Mortgage loan portfolio:
Fixed-rate mortgage loans $1,249,575 $ 965,102 $284,473
Adjustable-rate mortgage loans 331,758 222,619 109,139
5/25 mortgage loans 43,484 32,373 11,111
Mortgage Pass-Through portfolio:
Adjustable-rate mortgage securities 571,651 554,834 16,817
5/25 mortgage securities 276,178 269,848 6,330
Agency securities portfolio 402,781 399,031 3,750
CMO investment portfolio 3,962,680 3,891,134 71,546
---------- ---------- --------
$6,838,107 $6,334,941 503,166
========== ========== ========
Other assets, net of other liabilities
(and including $29 million of
purchased mortgage servicing rights
and master servicing rights) 135,024
--------
Total stockholders' equity $638,190
========
</TABLE>
As of December 31, 1993, the Company's mortgage investments and its commitments
to acquire mortgage loans ("Pipeline") totaled approximately $3.35 billion.
Market value risk associated with holding or acquiring these assets was reduced
by pricing three CMOs totaling approximately $950 million prior to year-end and
entering into forward sale agreements for
44
<PAGE>
hedging purposes totaling $450 million. In addition, approximately $1.0 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 historical Pipeline fallout of 30
percent on "best efforts" commitments) that was subject to market value risk as
of December 31, 1993 was approximately $800 million. As the Company continues to
acquire mortgage loans, it may pool such loans into CMOs or MPCs, thereby
periodically reducing the amount of mortgage loans subject to market value risk
(see "Effects of Interest Rate Changes").
The Company formed its mortgage servicing unit early in 1993, and as of December
31, 1993, serviced and master serviced mortgage loan portfolios of $2.4 billion
and $4.4 billion, respectively. This growth was accomplished primarily by
retaining servicing rights on mortgage loans purchased during the year and
master servicing rights on mortgage loans placed into securitizations during the
year. Federal National Mortgage Association and Federal Home Loan Mortgage
Corporation servicing approvals have been obtained so that the Company can
service conforming loans guaranteed by these government sponsored entities and
the Company has committed to bulk acquisitions of servicing rights for both
conforming and non-conforming mortgage loan portfolios totaling $1.6 billion to
be completed in early 1994.
In February 1992 the Company received $61.6 million in net proceeds from an
offering of 2,046,000 shares of common stock. In December 1992 the Company
issued 29,429,815 shares of $1.26 Cumulative Convertible Preferred Stock, Series
B, ("Series B Preferred Stock") valued at $315 million, in connection with the
acquisition of Tyler Cabot Mortgage Securities Fund, Inc. During 1993 the
Company received $6,248,000 of additional capital through its common stock and
Series B Preferred Stock dividend reinvestment plans, and through stock option
exercises. After payment of a record $93.8 million in common and preferred stock
dividends, stockholders' equity stood at over $638 million at December 31, 1993,
making Capstead one of the most strongly capitalized mortgage banking companies
in America.
RESULTS OF OPERATIONS
1993 Compared to 1992
Net income for the year ended December 31, 1993 was $94,256,000, or $3.68 per
primary share ($3.57 per fully diluted share), which represents a return on
average total stockholders' equity of 14.65 percent. This compares to 1992 net
income of $53,191,000, or $3.37 per primary share ($3.23 per fully diluted
share), which represents a return on average total stockholders' equity of 16.08
percent.
An important factor in producing higher operating results in 1993 was the
issuance of $315 million of Series B Preferred Stock in December 1992, which
doubled the Company's capital and earnings potential. Throughout most of 1993,
the Company maintained larger mortgage investment portfolios as the Company
sought to deploy this additional capital in a favorable interest rate
environment. Lower short-term borrowing rates further increased these
portfolios' contributions to net income. Finally, gains from securitizations and
other asset sales contributed to the increase in net income. Because of higher
contributions to
45
<PAGE>
income from these sources, losses sustained by the CMO investment portfolio
and costs associated with terminating the Company's relationship with the former
manager did not disrupt the Company's trend of continued earnings growth.
The following table presents the components and weighted average yields of the
Company's mortgage investment portfolios, and related short-term borrowings:
<TABLE>
<CAPTION>
Year Ended December 31
----------------------
1993 1992
------ ------
<S> <C> <C>
Mortgage loans 7.07% 8.06%
Mortgage Pass-Throughs 6.07 6.93
Agency securities 6.80 7.33
Short-term borrowings 3.40 4.43
</TABLE>
Interest income earned on the Company's mortgage investments increased for the
year ended December 31, 1993 because of an increase in the average portfolios
outstanding, net of the effects of decreases in mortgage interest rates. The
combined average mortgage investment portfolio increased to $2,805,709,000 for
the year ended December 31, 1993, from $1,569,131,000 in 1992. The increase
reflects the continued growth in the underlying mortgage loan and Mortgage Pass-
Through portfolios because of continued high volume of loan purchases during the
year and the timing of securitizations. The Company also maintained a larger
position in agency securities due primarily to opportunities to earn superior
interest rate spreads with dollar repurchase agreements. The lower yields on
these portfolios reflects the general reduction in interest rates on all types
of mortgage products.
Short-term borrowing costs for the year ended December 31, 1993 were higher than
those experienced during 1992 because of a $1 billion increase in the average
debt outstanding to $2,338,796,000, primarily due to growth of the related
portfolios, net of the effect of decreases in short-term interest rates. The
weighted average interest rate on short-term borrowings declined 103 basis
points for the year ended December 31, 1993, due to declines in short-term
interest rates over the last two years and use of dollar repurchase agreements
to finance the agency securities portfolio.
The following table presents the weighted average yields of the mortgage
securities collateral and collateralized mortgage securities components of the
CMO investment portfolio :
<TABLE>
<CAPTION>
Year Ended December 31
----------------------
1993 1992
------- ------
<S> <C> <C>
Mortgage securities collateral 8.38% 9.32%
Collateralized mortgage securities 9.05 8.80
------- -----
Net interest spread (0.67)% 0.52%
======= =====
</TABLE>
The CMO investment portfolio experienced a net loss of $34,560,000 during the
year ended December 31, 1993, compared to net income of $18,420,000 in 1992.
Operating results produced by the CMO investment portfolio is represented by
interest income on mortgage securities collateral less interest expense and
professional fees on collateralized mortgage
46
<PAGE>
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 decreased primarily
because of high levels of prepayments on mortgage securities collateral. During
1993 the Company received principal collections on mortgage securities
collateral totaling $2.4 billion, nearly double the $1.3 billion of runoff in
1992. Due to these high levels of prepayments, and the expectation that high
prepayments may continue, it became apparent late in the year that it was
unlikely that remaining mortgage securities collateral would be outstanding long
enough to recover unamortized bond discounts as previously expected.
Consequently, an additional $28 million in discount was amortized to bring total
amortization to $48,631,000 in 1993, up from $16,933,000 in 1992.
During 1993 the Company sold mortgage assets totaling $3.9 billion recognizing a
net gain of $61.2 million. Included in the sales were $1.1 billion of ARM loans
from the Mortgage Pass-Through portfolio on which gains of $35 million were
recognized.
Mortgage insurance expense increased during the year due primarily to a $1.0
billion increase in the average balance of insured mortgage loans from 1992 to
1993.
In March and again in September 1993, the Company negotiated amendments to its
management agreement and a related non-competition agreement, principally to
shorten the agreements' terms and lower the required payments by $1,972,000.
Consequently, on October 1, 1993 the Company became fully self-administered.
Termination costs under the terms of the amended management agreement totaled
$7,528,000. Also included in manager termination costs is $4,363,000, which
represents unamortized amounts paid under the non-competition agreement.
The Company provided $2,800,000 for possible losses during the year ended
December 31, 1993, compared to $7,750,000 in 1992. Lower purchase volume and
more stringent underwriting guidelines contributed to lower provision
requirements.
1992 Compared to 1991
Net income for the year ended December 31, 1992 was $53,191,000, or $3.37 per
primary share ($3.23 per fully diluted share), which represents a return on
average total stockholders' equity of 16.08 percent. This compares to 1991 net
income of $33,717,000, or $2.92 per primary share ($2.46 per fully diluted
share), which represents a return on average total stockholders' equity of 13.25
percent.
The increase in net income in 1992 resulted primarily from increased mortgage
loan acquisitions, lower short-term borrowing rates and additions to capital of
$62 million in February and $315 million in December. Mortgage loan acquisitions
were $5.5 billion in 1992, compared to $2.2 billion in 1991 primarily due to a
favorable interest rate environment, which in addition to stimulating demand for
mortgage loan originations, contributed to lower short-term borrowing rates.
Borrowing rates were also favorably impacted by
47
<PAGE>
utilization of less expensive short-term financing vehicles, namely, repurchase
arrangements secured by mortgage loans and Mortgage Pass-Throughs.
Interest income on the Company's mortgage investments increased for the year
ended December 31, 1992 because of a $941 million increase in the combined
average portfolios outstanding, as a result of increased mortgage loan
acquisitions and the Company's decision to increase the size of the Mortgage
Pass-Through portfolio. Yields on the Company's mortgage investments declined
190 basis points to 7.49 percent during 1992. Lower yields reflect a general
reduction in interest rates on all types of mortgage products and an increase in
the amount of adjustable-rate mortgage loans held in the Mortgage Pass-Through
portfolio. Short-term borrowing costs for the year ended December 31, 1992 were
higher than those experienced during 1991 primarily because of an $890 million
increase in the average debt outstanding, net of the effects of 195 basis point
decrease in short-term interest rates to 4.43 percent during 1992.
Net income produced from the CMO Investment portfolio increased $2,754,000 to
$18,420,000 for the year ended December 31, 1992. The increase is due primarily
to a $22,362,000 increase in the average CMO investment portfolio to
$115,046,000 for the year ended December 31, 1992, as a result of issuing 20
CMOs offset by a seven basis point decline in the net interest spread between
the mortgage securities collateral and related bonds due primarily to increased
prepayments on several previously issued CMOs.
On July 31, 1992, the Company entered into a 65-month management agreement with
an effective date of August 1, 1992. Under this agreement, the management fee
was limited to an amount equal to the manager's cost plus a fixed profit
aggregating $14,500,000 over the term of the agreement.
Mortgage insurance expense increased during the year due primarily to a $3.0
billion increase in the average balance of insured mortgage loans from 1991 to
1992.
The Company provided $7,750,000 for possible losses during the year ended
December 31, 1992, compared to $1,707,000 in 1991. The substantial increase in
purchase volume and a rise in delinquencies and foreclosures attributed to a
general slowdown in the California economy contributed to higher provision
requirements.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary sources of funds include monthly mortgage loan principal
and interest payments, 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.
48
<PAGE>
In a modification to its previous investment strategy, 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 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
December 31, 1993, 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 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
49
<PAGE>
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, has reduced its remaining bond discounts accordingly.
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 and master servicing
rights. If interest rates rise, our servicing and master 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 we 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.
RECENT ACCOUNTING PRONOUNCEMENTS
In May 1993 the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("SFAS") No. 115 "Accounting for Certain
Investments in Debt and Equity Securities." The Company will adopt SFAS No. 115
on a prospective basis effective January 1, 1994. The adoption will not have a
material impact on the Company.
50
<PAGE>
EXHIBIT 22.1
LIST OF SUBSIDIARIES
CAPSTEAD MORTGAGE CORPORATION
<PAGE>
EXHIBIT 22.1
At December 31, 1993 the subsidiaries of Capstead Mortgage Corporation were as
follows:
STATE OF
DOMICILE
--------
PARENT COMPANY
SUBSIDIARY
Capstead Mortgage Corporation ("CMC")...................... Maryland
Capstead Securities Corporation I.......................... Delaware
Capstead Securities Corporation II......................... Delaware
Capstead Securities Corporation III........................ Delaware
Capstead Securities Corporation IV......................... Delaware
Capstead Securities Corporation V.......................... Delaware
Capstead, Inc.............................................. Delaware
CMF Mortgage Funding Corporation("CMF")(1)................. Delaware
CMC Securities Corporation I(2)........................... Nevada
CMC Securities Corporation II(2).......................... Delaware
CMC Securities Corporation III(2)......................... Delaware
CMC Investment Partnership(3).............................. Texas
(1) CMC owns all of the issued and outstanding preferred stock.
(2) CMF owns all common stock.
(3) CMC Investment Partnership is a general partnership owned by CMC and CMF.
<PAGE>
EXHIBIT 24
CONSENT OF ERNST & YOUNG,
INDEPENDENT AUDITORS
<PAGE>
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in this Annual Report (Form 10-K)
of Capstead Mortgage Corporation of our report dated January 24, 1994, included
in the 1993 Annual Report to Stockholders of Capstead Mortgage Corporation.
Our audit also included the financial statement schedules of Capstead Mortgage
Corporation listed in Item 14(a). These schedules are the responsibility of the
Company's management. Our responsibility is to express an opinion based on our
audits. In our opinion, the financial statement schedules referred to above,
when considered in relation to the basic financial statements taken as a whole,
present fairly in all material respects the information set forth therein.
We also consent to the incorporation by reference in the Registration Statement
(Form S-8 No. 33-40116) pertaining to the 1990 Employee Stock Option Plan, the
Registration Statement (Form S-8 No. 33-40117) pertaining to the 1990 Directors'
Stock Option Plan, the Registration Statement (Form S-3 No. 33-62212) pertaining
to the Universal Shelf, the Registration Statement (Form S-8 No. 33-52415)
pertaining to the registration of 1,000,000 shares of common stock and in the
related prospectuses of our report dated January 24, 1994, with respect to the
consolidated financial statements incorporated herein by reference and our
report included in the preceding paragraph with respect to the financial
statement schedules included in the Annual Report (Form 10-K) of Capstead
Mortgage Corporation.
ERNST & YOUNG
Dallas, Texas
March 30, 1994
