<PAGE>
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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, 1996
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.)
2711 NORTH HASKELL, DALLAS, TEXAS 75204
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (214) 874-2323
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
TITLE OF EACH CLASS NAME OF EXCHANGE ON WHICH REGISTERED
------------------- ------------------------------------
Common Stock ($0.01 par value) New York Stock Exchange
$1.60 Cumulative Preferred Stock, New York Stock Exchange
Series A ($0.10 par value)
$1.26 Cumulative Convertible Preferred New York Stock Exchange
Stock, Series B ($0.10 par value)
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 14, 1997 THE AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY
NONAFFILIATES WAS $1,124,930,000.
NUMBER OF SHARES OF COMMON STOCK OUTSTANDING AT FEBRUARY 14, 1997: 46,306,880
DOCUMENTS INCORPORATED BY REFERENCE:
(1) PORTIONS OF THE REGISTRANT'S ANNUAL REPORT TO STOCKHOLDERS FOR THE YEAR
ENDED DECEMBER 31, 1996 ARE INCORPORATED BY REFERENCE INTO PARTS II AND IV.
(2) PORTIONS OF THE REGISTRANT'S DEFINITIVE PROXY STATEMENT DATED MARCH 5, 1997,
ISSUED IN CONNECTION WITH THE ANNUAL MEETING OF STOCKHOLDERS OF THE
REGISTRANT, ARE INCORPORATED BY REFERENCE INTO PART III.
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<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
1996 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
PAGE
----
PART I
ITEM 1. BUSINESS................................................... 1
ITEM 2. PROPERTIES................................................. 3
ITEM 3. LEGAL PROCEEDINGS.......................................... 3
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS........ 3
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS.......................... 3
ITEM 6. SELECTED FINANCIAL DATA.................................... 3
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS...................... 3
ITEM 3. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA................ 3
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE...................... 3
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT......... 4
ITEM 11. EXECUTIVE COMPENSATION..................................... 4
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT.................................... 4
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS............. 4
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND
REPORTS ON FORM 8-K...................................... 5
<PAGE>
PART I
ITEM 1. BUSINESS.
Capstead Mortgage Corporation ("CMC" or the "Company") was incorporated on April
15, 1985 in Maryland and commenced operations in September 1985. The Company's
business plan is to build a mortgage banking operation with investments in
mortgage securities and mortgage servicing with the goal of producing reasonably
balanced operating results in a variety of interest rate environments.
Initially, the Company structured and managed mortgage investments. In late
1992 the Company entered into the mortgage servicing business. Mortgage
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. Fees are received for servicing residential mortgage
loans ranging generally from 0.25 to 0.38 percent per annum on the declining
principal balances of the loans and are collected out of monthly mortgage
payments.
For further discussion of the Company's business, see the Registrant's Annual
Report to Stockholders for the year ended December 31, 1996 on pages 38 and 39
under the caption "Management's Discussion and Analysis - Financial Condition."
EFFECTS OF INTEREST RATE CHANGES
For discussion of effects of interest rate changes on the Company's mortgage
securities and mortgage servicing portfolios, see the Registrant's Annual Report
to Stockholders for the year ended December 31, 1996 on pages 42 and 43 under
the caption "Management's Discussion and Analysis - Effects of Interest Rate
Changes."
OTHER INVESTMENT STRATEGIES
The Company may enter into other short- or long-term investment strategies as
the opportunities arise.
COMPETITION
In purchasing mortgage securities, the Company competes with savings banks,
commercial banks, mortgage and investment bankers, conduits, insurance
companies, other lenders, and mutual funds. The competition for the acquisition
of mortgage servicing rights is primarily with mortgage bankers, commercial
banks and savings banks.
REGULATION AND RELATED MATTERS
The Company's mortgage servicing unit is subject to the rules and regulations of
FNMA and FHLMC with respect to 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
-1-
<PAGE>
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
As of December 31, 1996, the Company had 178 full-time employees.
TAX STATUS
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 requirements concerning the nature and composition of its
income and assets are met and that at least 95 percent of its REIT taxable
income is distributed.
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.
As long as Capstead REIT qualifies as a REIT, it will generally be taxable only
on its undistributed taxable income. Distributions out of current or
accumulated earnings and profits will be taxed to stockholders as ordinary
income or capital gain, as the case may be. Distributions in excess of the
Company's accumulated and current earnings and profits will constitute a non-
taxable return of capital to the stockholders (except insofar as such
distributions exceed the cost basis of the shares of stock) resulting in a
corresponding reduction in the cost basis of the shares of stock. The Company
notifies its stockholders of the proportion of distributions made during the
taxable year that constitutes ordinary income, capital gain or a return of
capital. During 1996, 83.7 percent, 5.9 percent and 10.4 percent of the common
stock distributions were characterized as ordinary income, long-term capital
gain and nontaxable return of capital, respectively, while 93.4 percent and 6.6
percent of the preferred stock distributions were characterized as ordinary
income and long-term capital gain, respectively. During 1995 and 1994
distributions made were characterized as ordinary income. Distributions by the
Company will not normally be eligible for the dividends received deduction for
corporations. Should the Company incur losses, stockholders will not be
entitled to include such losses in their individual income tax returns.
All taxable income of Capstead Inc., which conducts mortgage servicing
operations, is subject to federal and state income taxes, where applicable.
Capstead REIT's taxable income will include earnings of this subsidiary only
upon payment to Capstead REIT by distribution of such earnings, and only if
these distributions are made out of current earnings and profits.
The foregoing is general in character. Reference should be made to pertinent
Internal Revenue Code sections and the Regulations issued thereunder for a
comprehensive statement of applicable federal income tax consequences.
-2-
<PAGE>
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, 1996 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.
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, 1996 on page 36 under the
caption "Note 15 - 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, 1996 on page 37 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, 1996 on pages 38 through
43 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, 1996 on pages 17 through
36, 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.
-3-
<PAGE>
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 5, 1997 on pages 3 through 6 under the captions
"Election of Directors," "Board of Directors" and "Executive Officers," which 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 5, 1997 on pages 7 through 13 under the captions
"Executive Compensation," "Compensation Committee Report on Executive
Compensation," and "Performance Graph," which is incorporated herein by
reference pursuant to General Instruction G(3).
ITEM 12. SECURITY OWNERSHIP OF MANAGEMENT AND CERTAIN BENEFICIAL OWNERS.
The information required by this item is included in the Registrant's definitive
Proxy Statement dated March 5, 1997 on pages 14 and 15 under the caption
"Security Ownership of Management and Certain Beneficial Owners," which is
incorporated herein by reference pursuant to General Instruction G(3).
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
None.
-4-
<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
1996 Annual Report to Stockholders, are incorporated herein by
reference:
PAGE
----
Consolidated Statement of Income - Years
Ended December 31, 1996, 1995 and 1994................ *
Consolidated Balance Sheet -
December 31, 1996 and 1995............................ *
Consolidated Statement of Stockholders' Equity -
Three Years Ended December 31, 1996................... *
Consolidated Statement of Cash Flows - Years
Ended December 31, 1996, 1995 and 1994................ *
Notes to Consolidated Financial Statements -
December 31, 1996..................................... *
2. Financial statement schedule:
Schedule IV - Mortgage Loans on Real Estate............ 9
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.
* Incorporated herein by reference from the Company's Annual Report
to Stockholders for the year ended December 31, 1996.
3. Exhibits:
EXHIBIT
NUMBER
-------
1.3 Sales and Agency Agreement dated as of December 6, 1995
between Capstead Mortgage Corporation and PaineWebber
Incorporated (the "Sales Agency Agreement")(6)
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(4)
3.1(b) Articles Supplementary ($1.26 Cumulative Convertible
Preferred Stock, Series B)(3)
3.2 Bylaws of the Company, as amended(4)
10.21 1990 Employee Stock Option Plan(1)
10.22 1990 Directors' Stock Option Plan(2)
10.23 Employment Agreement dated August 1, 1992 between
Capstead Mortgage Corporation and Ronn K. Lytle(3)
-5-
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
PART IV
ITEM 14. - CONTINUED
EXHIBIT
NUMBER
-------
10.24 Restricted Stock Grant Agreement dated August 1, 1992
between Capstead Mortgage Corporation and Ronn K.
Lytle(3)
10.25 1994 Flexible Long Term Incentive Plan(5)
10.26 1994 Capstead Inc. Restricted Stock Plan(5)
10.27 Capstead Mortgage Corporation Deferred Compensation
Plan(5)
10.28 Summary of Employment Agreement dated December 9, 1993
between Capstead Mortgage Corporation and Christopher T.
Gilson(5)
11 Computation of per share earnings*
12 Computation of ratio of earnings to combined fixed
charges and preferred stock dividends*
13 Portions of the Annual Report to Stockholders of the
Company for the year ended December 31, 1996*
21 List of subsidiaries of the Company*
23 Consent of Ernst & Young LLP, Independent Auditors*
27 Financial Data Schedule (electronic filing only)*
(1) Incorporated by reference to the Company's Registration Statement
on Form S-8 (No. 33-40016) dated April 29, 1991
(2) Incorporated by reference to the Company's Registration Statement
on Form S-8 (No. 33-40017) dated April 29, 1991
(3) Incorporated by reference to the Company's Annual Report on Form
10-K for the year ended December 31, 1992
(4) Incorporated by reference to the Company's Registration Statement
on Form S-3 (No. 33-62212) dated May 6, 1993
(5) Incorporated by reference to the Company's Annual Report on Form
10-K for the year ended December 31, 1994
(6) Incorporated by reference to the Company's Current Report of Form
8-K dated December 6, 1995
* 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.
-6-
<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 7, 1997 By: /s/ ANDREW F. JACOBS
----------------------------------------
Andrew F. Jacobs
Senior Vice President-Control,
Treasurer and Secretary
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 Chairman, Chief March 7, 1997
- -------------------------------
(Ronn K. Lytle) Executive Officer
and Director
/s/ ANDREW F. JACOBS Senior Vice President March 7, 1997
- -------------------------------
(Andrew F. Jacobs) Control, Treasurer
and Secretary
/s/ BEVIS LONGSTRETH Director March 7, 1997
- -------------------------------
(Bevis Longstreth)
/s/ PAUL M. LOW Director March 7, 1997
- -------------------------------
(Paul M. Low)
/s/ HARRIET E. MIERS Director March 7, 1997
- -------------------------------
(Harriet E. Miers)
/s/ WILLIAM R. SMITH Director March 10, 1997
- -------------------------------
(William R. Smith)
/s/ JOHN C. TOLLESON Director March 7, 1997
- -------------------------------
(John C. Tolleson)
-7-
<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, 1996
CAPSTEAD MORTGAGE CORPORATION
DALLAS, TEXAS
-8-
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
SCHEDULE IV - MORTGAGE LOANS ON REAL ESTATE
DECEMBER 31, 1996
<TABLE>
<CAPTION>
PART 2 - INTEREST
PART 1 - MORTGAGE LOANS ON REAL ESTATE AT CLOSE OF PERIOD//1// EARNED ON MORTGAGES
- -------------------------------------------------------------------------------------------------------- ---------------------------
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F AND COLUMN G //4//
- -------------------------- -------- --------------- ----------------------------- --------------- ---------------------------
AMOUNT OF PRINCIPAL UNPAID AT
CLOSE OF PERIOD AMOUNT OF
-----------------------------
SUBJECT TO MORTGAGE
PRIOR CARRYING AMOUNT DELINQUENT BEING WEIGHTED AVERAGE
DESCRIPTION LIENS OF MORTGAGES//2// TOTAL INTEREST//3// FORECLOSED//3// INTEREST RATE
- ------------------------------- ----- ---------------- ----------- ------------- --------------- ----------------
<S> <C> <C> <C> <C> <C> <C> <C>
$ -0- - $ 49,999( 30)..... None $ 119,000 $ 119,000 $ 45,000 $ - 9.05%
$ 50,000 - $ 99,999( 20)..... None 1,670,000 1,670,000 694,000 - 7.08%
$100,000 - $ 149,999( 33)..... None 4,136,000 4,136,000 832,000 - 7.55%
$150,000 - $ 199,999(110)..... None 19,711,000 19,711,000 2,638,000 927,000 8.15%
$200,000 - $ 249,999(550)..... None 120,479,000 120,479,000 12,302,000 4,493,000 7.70%
$250,000 - $ 299,999(325)..... None 90,158,000 90,158,000 6,316,000 1,918,000 7.60%
$300,000 - $ 349,999( 93)..... None 30,059,000 30,059,000 7,037,000 2,866,000 7.69%
$350,000 - $ 399,000( 70)..... None 22,321,000 22,321,000 2,637,000 3,336,000 7.67%
$400,000 - $ 449,999( 51)..... None 20,425,000 20,425,000 1,701,000 642,000 7.66%
$450,000 - $ 499,999( 29)..... None 12,224,000 12,224,000 1,308,000 - 7.64%
$500,000 - $1,500,000( 52)..... None 29,962,000 29,962,000 3,574,000 1,131,000 7.84%
------------ ------------ ----------- -----------
351,264,000 $351,264,000 $39,084,000 $15,313,000
============ =========== ===========
Plus premimum 884,000
Plus unrealized gain on mortgage
loans included in debt securities 1,464,000
------------
$353,612,000
</TABLE>
See accompanying notes to Schedule IV.
-9-
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
NOTES TO SCHEDULE IV
(1) Mortgage loans at December 31, 1996 consisted of single-family,
conventional, first mortgage loans most of which are included in AAA-rated
private mortgage pass-through securities ("Mortgage Pass-Throughs"). The
Company classifies its mortgage loans by interest rate characteristics.
Fixed-rate mortgage loans have (i) fixed rates of interest for their entire
terms or (ii) an initial fixed-rate period of 10 years after origination
and then adjust annually based on a specified margin over 1-year United
States Treasury Securities ("1-year Treasuries"). Medium-term mortgage
loans have (i) an initial fixed-rate period of 3 or 5 years after
origination and then adjust annually based on a specified margin over 1-
year Treasuries or (ii) initial interest rates then adjust one time,
approximately 5 years following origination of the mortgage loan, based on
a specified margin over the Federal National Mortgage Association ("FNMA")
yields for 30-year, fixed-rate commitments at the time of adjustment.
Adjustable-rate mortgage loans either adjust (i) semi-annually based on a
specified margin over the 6-month London Interbank Offered Rate ("LIBOR")
or (ii) annually based on a specified margin over 1-year Treasuries.
Principal amount of mortgage loans in the portfolio totaling $3,241,000, or
0.9 percent, were fixed-rate loans; $278,024,000, or 79.2 percent, were
medium-term loans; and $69,999,000, or 19.9 percent, were adjustable-rate
loans.
(2) Reconciliation of mortgage loans:
Balance at December 31, 1995........ $ 999,722,000
Additions:
Purchases and originations of
mortgage loans................. 20,529,000
--------------
1,020,251,000
Deductions:
Principal collections............ 174,816,000
Amortization of discount......... 691,000
Sales............................ 481,869,000
Change in fair value of
Mortgage Pass-Throughs......... 9,263,000 666,639,000
----------- --------------
Balance at December 31, 1996........ $ 353,612,000
==============
(3) Consists of all mortgage loans delinquent 90 days or more. Note that of the
amount of principal unpaid at the close of the period that is subject to
delinquent principal, $35.2 million is covered by mortgage pool insurance
that effectively limits the Company's loss. Similarly, $13.8 million of the
amount of mortgages being foreclosed is covered by pool insurance.
(4) Interest due and accrued at the end of the period and interest income
earned applicable to the period for each of the categories presented above
is not available without unreasonable effort or expense and therefore has
been omitted in accordance with Rule 12-23 of Regulation S-X. Total accrued
interest for the above listed mortgage loans totaled $3,150,000 at December
31, 1996.
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<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
NOTES TO SCHEDULE IV - CONTINUED
(5) The geographic distribution of the Company's portfolio at December 31, 1996
was as follows:
NUMBER PRINCIPAL
STATE OF LOANS AMOUNT
----- -------- ------------
Alabama................................. 2 $ 296,000
Arizona................................. 4 682,000
California.............................. 1,024 277,031,000
Colorado................................ 5 892,000
Connecticut............................. 3 463,000
Delaware................................ 2 455,000
District of Columbia.................... 10 1,933,000
Florida................................. 31 7,570,000
Georgia................................. 38 8,368,000
Hawaii.................................. 2 504,000
Idaho................................... 1 216,000
Illinois................................ 11 2,681,000
Indiana................................. 2 255,000
Louisiana............................... 4 788,000
Maryland................................ 27 6,035,000
Massachusetts........................... 6 1,237,000
Michigan................................ 11 2,669,000
Missouri................................ 2 476,000
Nevada.................................. 3 563,000
New Hampshire........................... 1 214,000
New Jersey.............................. 31 6,849,000
New Mexico.............................. 12 2,893,000
New York................................ 11 2,513,000
North Carolina.......................... 2 502,000
Ohio.................................... 2 525,000
Oklahoma................................ 5 978,000
Pennsylvania............................ 12 2,443,000
Rhode Island............................ 1 325,000
Texas................................... 32 5,922,000
Utah.................................... 1 275,000
Virginia................................ 46 10,338,000
Washington.............................. 17 3,826,000
Wisconsin............................... 2 547,000
----- ------------
351,264,000
Plus premium............................ 884,000
Plus unrealized gain on mortgage loans
included in debt securities............ 1,464,000
------------
Total................................ 1,363 $353,612,000
===== ============
-11-
<PAGE>
EXHIBIT 11
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
COMPUTATION OF PER SHARE EARNINGS
<TABLE>
<CAPTION>
1996 1995 1994
------------- ------------- -------------
<S> <C> <C> <C>
PRIMARY:
Average number of common shares
outstanding 38,317,000 34,631,000 34,316,000
Incremental shares calculated
using the Treasury Stock method 960,000 48,000 60,000
------------ ------------ ------------
39,277,000 34,679,000 34,376,000
============ ============ ============
Net income $127,228,000 $ 77,359,000 $ 85,579,000
Less cash dividends paid on
convertible preferred stock:
Series A ($1.60 paid per share) (804,000) (939,000) (1,042,000)
Series B ($1.26 paid per share) (35,552,000) (38,395,000) (37,834,000)
Net income available to common
stockholders $ 90,872,000 $ 38,025,000 $ 46,703,000
============ ============ ============
Primary net income per share $2.31 $1.09 $1.36
FULLY DILUTED:
Average number of common shares
outstanding 38,317,000 34,631,000 34,316,000
Assumed conversion of convertible
preferred stock:
Series A 1,048,000 1,205,000 1,344,000
Series B 21,176,000 * *
Incremental shares calculated
using the Treasury Stock method 1,272,000 394,000 60,000
------------ ------------ ------------
61,813,000 36,230,000 35,720,000
============ ============ ============
Net income $127,228,000 $ 77,359,000 $ 85,579,000
Less cash dividends paid on
Series B Preferred Stock - (38,395,000) (37,834,000)
------------ ------------ ------------
Net income $127,228,000 $ 38,964,000 $ 47,745,000
============ ============ ============
Fully diluted net income per share $2.06 $1.07 $1.34
</TABLE>
* The Series B Preferred Stock is not considered convertible for purposes of
calculating fully diluted net income per share as it was antidilutive.
<PAGE>
EXHIBIT 12
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
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
------------------------------------------------
1996 1995 1994 1993 1992
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Fixed charges $598,312 $584,137 $474,844 $491,076 $415,433
Preferred stock dividends 36,356 39,334 38,876 38,592 4,707
-------- -------- -------- -------- --------
Combined fixed charges and
preferred stock dividends 634,668 623,471 513,720 529,668 420,140
Net income 127,228 77,359 85,579 94,256 53,191
-------- -------- -------- -------- --------
Total $761,896 $700,830 $599,299 $623,924 $473,331
======== ======== ======== ======== ========
Ratio of earnings to combined
fixed charges and preferred
stock dividends 1.20:1 1.12:1 1.17:1 1.18:1 1.13:1
======== ======== ======== ======== ========
</TABLE>
(b) Computation of ratio of earnings to combined fixed charges and preferred
stock dividends (excluding CMO debt):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
------------------------------------------------
1996 1995 1994 1993 1992
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Fixed charges $283,974 $223,751 $139,188 $ 80,923 $ 62,077
Preferred stock dividends 36,356 39,334 38,876 38,592 4,707
-------- -------- -------- -------- --------
Combined fixed charges and
preferred stock dividends 320,330 263,085 178,064 119,515 66,784
Net income 127,228 77,359 85,579 94,256 53,191
-------- -------- -------- -------- --------
Total $447,558 $340,444 $263,643 $213,771 $119,975
======== ======== ======== ======== ========
Ratio of earnings to combined
fixed charges and preferred
stock dividends 1.40:1 1.29:1 1.48:1 1.79:1 1.80:1
======== ======== ======== ======== ========
</TABLE>
<PAGE>
EXHIBIT 13
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
PORTIONS OF THE
ANNUAL REPORT TO STOCKHOLDERS
FOR THE YEAR ENDED DECEMBER 31, 1996
<PAGE>
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, 1996 and 1995, and the related
consolidated statements of income, stockholders' equity, and cash flows for each
of the three years in the period ended December 31, 1996. 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 financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Capstead Mortgage
Corporation and subsidiaries at December 31, 1996 and 1995, and the consolidated
results of their operations and their cash flows for each of the three years in
the period ended December 31, 1996, in conformity with generally accepted
accounting principles.
Dallas, Texas
January 22, 1997
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
--------------------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
INTEREST INCOME:
Mortgage investments $299,597 $240,735 $202,398
CMO collateral and investments 363,367 382,425 354,603
-------- -------- --------
Total interest income 662,964 623,160 557,001
-------- -------- --------
INTEREST AND RELATED EXPENSES:
Short-term borrowings:
Mortgage investments 253,292 214,702 139,092
CMO investments 14,233 1,948 -
Collateralized mortgage obligations 314,338 360,386 335,656
Mortgage insurance and other 7,743 11,385 13,476
-------- -------- --------
Total interest and related expenses 589,606 588,421 488,224
-------- -------- --------
Net margin on mortgage assets 73,358 34,739 68,777
-------- -------- --------
MORTGAGE SERVICING REVENUES:
Servicing fees 101,815 68,510 28,973
Other 28,738 19,662 3,913
-------- -------- --------
Total mortgage servicing revenues 130,553 88,172 32,886
-------- -------- --------
MORTGAGE SERVICING EXPENSES:
Direct servicing expenses 13,626 10,781 5,481
Indirect servicing expenses 6,561 2,461 292
Amortization of mortgage servicing 44,795 26,576 5,998
rights
Interest 16,449 7,101 96
-------- -------- --------
Total mortgage servicing expenses 81,431 46,919 11,867
-------- -------- --------
Net margin on mortgage servicing 49,122 41,253 21,019
-------- -------- --------
OTHER REVENUES:
Gain on sales and other 16,316 12,823 10,111
CMO administration 3,405 3,645 4,067
-------- -------- --------
Total other revenues 19,721 16,468 14,178
-------- -------- --------
OTHER OPERATING EXPENSES 14,973 15,101 18,395
-------- -------- --------
NET INCOME $127,228 $ 77,359 $ 85,579
======== ======== ========
Net income $127,228 $ 77,359 $ 85,579
Less cash dividends on preferred stock (36,356) (39,334) (38,876)
-------- -------- --------
Net income available to common stockholders $ 90,872 $ 38,025 $ 46,703
======== ======== ========
NET INCOME PER SHARE:
Primary $2.31 $1.09 $1.36
Fully diluted 2.06 1.07 1.34
AVERAGE NUMBER OF SHARES OUTSTANDING:
Primary 39,277 34,679 34,376
Fully diluted 61,813 36,230 35,720
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
DECEMBER 31
-------------------------------
1996 1995
----------- ----------
ASSETS
<S> <C> <C>
Mortgage investments $ 4,700,326 $4,522,954
CMO collateral and investments 4,641,737 4,830,020
----------- ----------
9,342,063 9,352,974
Mortgage servicing rights 637,979 423,360
Prepaids, receivables and other 156,293 108,570
Cash and cash equivalents 21,003 18,702
----------- ----------
$10,157,338 $9,903,606
=========== ==========
LIABILITIES
Short-term borrowings $ 5,462,856 $4,628,782
Collateralized mortgage obligations 3,861,892 4,538,863
Accounts payable and accrued expenses 33,924 23,339
Mortgage servicing rights
acquisitions payable 71,797 47,898
----------- ----------
9,430,469 9,238,882
----------- ----------
STOCKHOLDERS' EQUITY
Preferred stock - $0.10 par value;
100,000 shares authorized:
$1.60 Cumulative Preferred Stock,
Series A, 470 and 550 shares
issued and outstanding ($7,708
aggregate liquidation preference) 6,567 7,685
$1.26 Cumulative Convertible
Preferred Stock, Series B, 23,932
and 30,686 shares issued and
outstanding ($272,346 aggregate
liquidation preference) 259,829 330,065
Common stock - $0.01 par value; 100,000
shares authorized; 44,743 and 35,282
shares issued and outstanding 447 353
Paid-in capital 461,045 321,222
Undistributed income (accumulated deficit 4,582 (2,503)
Unrealized gain (loss) on debt securities (5,601) 7,902
----------- ----------
726,869 664,724
----------- ----------
$10,157,338 $9,903,606
=========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
THREE YEARS ENDED DECEMBER 31, 1996
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
UNDISTRIBUTED UNREALIZED
PREFERRED STOCK INCOME GAIN (LOSS)
--------------------- COMMON PAID-IN (ACCUMULATED ON DEBT
SERIES A SERIES B STOCK CAPITAL DEFICIT) SECURITIES TOTAL
-------- -------- ------ -------- -------------- ---------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1, 1994 $10,295 $319,543 $341 $308,158 $ (147) $ - $638,190
Adjustment for change in
accounting method - - - - - 7,512 7,512
Net income - - - - 85,579 - 85,579
Cash dividends:
Common ($1.42\\2/3 per share) - - - - (48,991) - (48,991)
Preferred:
Series A ($1.60 per share) - - - - (1,042) - (1,042)
Series B ($1.26 per share) - - - - (37,834) - (37,834)
Conversion of preferred stock (1,575) (18) 2 1,591 - - -
Additions to capital - 5,254 1 1,033 - - 6,288
Change in unrealized gain
(loss) on debt securities - - - - - (86,027) (86,027)
------- -------- ----- -------- -------- --------- --------
Balance at December 31, 1994 8,720 324,779 344 310,782 (2,435) (78,515) 563,675
Net income - - - - 77,359 - 77,359
Cash dividends:
Common ($1.09//1/3// per share) - - - - (38,093) - (38,093)
Preferred:
Series A ($1.60 per share) - - - - (939) - (939)
Series B ($1.26 per share) - - - - (38,395) - (38,395)
Conversion of preferred stock (1,035) (26) 1 1,060 - - -
Additions to capital - 5,312 8 9,380 - - 14,700
Change in unrealized gain
(loss) on debt securities - - - - - 86,417 86,417
------- -------- ---- -------- -------- --------- --------
Balance at December 31, 1995 7,685 330,065 353 321,222 (2,503) 7,902 664,724
Net income - - - - 127,228 - 127,228
Cash dividends:
Common ($2.11//1/2// per share) - - - - (83,787) - (83,787)
Preferred:
Series A ($1.60 per share) - - - - (804) - (804)
Series B ($1.26 per share) - - - - (35,552) - (35,552)
Conversion of preferred stock (1,118) (79,372) 54 80,412 - - (24)
Additions to capital - 9,162 40 65,413 - - 74,615
Other - (26) - (6,002) - - (6,028)
Change in unrealized gain
(loss) on debt securities - - - - - (13,503) (13,503)
------- -------- ---- -------- -------- --------- --------
Balance at December 31, 1996 $ 6,567 $259,829 $447 $461,045 $ 4,582 $ (5,601) $726,869
======= ======== ==== ======== ======== ========= ========
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
---------------------------------------------
1996 1995 1994
------------ ------------ ------------
OPERATING ACTIVITIES:
<S> <C> <C> <C>
Net income $ 127,228 $ 77,359 $ 85,579
Noncash items:
Amortization of discount and premium 61,520 25,829 6,265
Amortization of mortgage servicing 44,795 26,576 5,998
rights
Depreciation and other amortization 3,670 3,260 1,932
Net change in prepaids, receivables,
other assets, accounts payable and
accrued expenses 8,364 (17,130) (42,830)
Net gain from investing activities (15,991) (11,144) (9,161)
----------- ----------- -----------
Net cash provided by operating 229,586 104,750 47,783
activities ----------- ----------- -----------
INVESTING ACTIVITIES:
Purchases of mortgage investments (1,813,735) (2,914,774) (3,566,430)
Purchases of CMO investments (521,539) (131,531) -
Purchases of mortgage servicing rights (251,505) (184,082) (263,821)
Purchases of derivative financial (49,301) (27,381) -
instruments
Purchases of equity securities - - (17,808)
Principal collections on mortgage 967,107 549,458 349,806
investments
Proceeds from sales and redemptions of
mortgage assets 730,807 1,281,057 105,288
Proceeds from sales of derivative
financial instruments 6,782 32,480 -
CMO collateral:
Principal collections 560,963 501,110 1,157,248
Decrease in accrued interest receivable 5,119 4,092 9,065
Decrease in short-term investments 13,650 4,603 166,150
----------- ----------- -----------
Net cash used by investing activities (351,652) (884,968) (2,060,502)
----------- ----------- -----------
FINANCING ACTIVITIES:
Increase in short-term borrowings 834,074 1,438,200 746,775
Increase (decrease) in mortgage
servicing acquisitions payable 23,899 (27,990) 75,888
Collateralized mortgage obligations:
Issuance of securities 41,323 - 2,565,540
Principal payments on securities (723,881) (572,191) (1,352,288)
Increase (decrease) in accrued 1,383 1,887 (7,636)
interest payable
Capital stock transactions 67,712 14,700 6,288
Dividends paid (120,143) (77,427) (87,867)
----------- ----------- -----------
Net cash provided by financing 124,367 777,179 1,946,700
activities ----------- ----------- -----------
Net increase (decrease) in cash and cash
equivalents 2,301 (3,039) (66,019)
Cash and cash equivalents at beginning 18,702 21,741 87,760
of year ----------- ----------- -----------
Cash and cash equivalents at end of year $ 21,003 $ 18,702 $ 21,741
=========== =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUB SIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
NOTE 1 - BUSINESS
Capstead Mortgage Corporation, a national mortgage banking firm, earns income
from investing in mortgage-backed securities, servicing mortgage loans and other
investment strategies. The Company's business plan is to build a mortgage
banking operation with investments in mortgage securities and mortgage servicing
with the goal of producing reasonably balanced operating results in a variety of
interest rate environments.
NOTE 2 - ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
- ---------------------------
The consolidated financial statements include the accounts of Capstead Mortgage
Corporation ("Capstead"), its mortgage servicing subsidiary ("Capstead Inc."),
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 collateralized mortgage obligations ("CMOs")
and are not available for the satisfaction of general claims of Capstead.
Capstead has no responsibility for CMOs beyond the assets pledged as collateral.
USE OF ESTIMATES
- ----------------
The use of estimates is inherent in the preparation of financial statements in
conformity with generally accepted accounting principles. The amortization of
premiums and discounts on mortgage assets and CMOs, as well as the amortization
of mortgage servicing rights is based on expectations of future movements in
interest rates and how resulting rates will impact prepayments on underlying
mortgage loans. It is possible that prepayments could rise to levels that would
adversely affect profitability if such levels are sustained for more than a
brief period of time. The Company attempts to mitigate this risk by achieving a
balance of investments that perform well in a rising interest rate environment,
such as mortgage servicing rights and CMO investments, and in a falling interest
rate environment, such as mortgage investments, as supplemented from time to
time by hedging activities.
MORTGAGE ASSETS
- ---------------
Mortgage assets held in the form of mortgage-backed securities are debt
securities. Management determines the appropriate classification of debt
securities at the time of purchase and reevaluates such designation as of each
balance sheet date. Debt securities are classified as held-to-maturity when the
Company has the positive intent and ability to hold the securities to maturity.
Held-to-maturity securities are stated at amortized cost. Debt securities not
classified as held-to-maturity are classified as available-for-sale. Available-
for-sale securities are stated at fair value with unrealized gains and losses,
net of tax, reported as a separate component of stockholders' equity.
<PAGE>
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 asset. Realized gains and
losses are included in other revenues. The cost of assets sold is based on the
specific identification method.
CASH AND CASH EQUIVALENTS
- -------------------------
Cash and cash equivalents include cash on hand and highly liquid investments
with original maturities of 3 months or less.
MORTGAGE SERVICING RIGHTS
- -------------------------
The cost of acquiring mortgage servicing rights is capitalized and then
amortized in proportion to and over the period of estimated net servicing
income. Estimated net servicing income is evaluated periodically and
adjustments are made to the rate of amortization.
On January 1, 1996 the Company adopted Statement of Financial Accounting
Standards No. 122, "Accounting for Mortgage Servicing Rights" ("SFAS 122").
SFAS 122 requires that mortgage servicing rights be evaluated for impairment on
a disaggregated basis by predominant risk characteristics. A valuation
allowance is established through a charge to income to the extent that the
recorded amount for servicing rights within an individual stratum exceeds fair
value. Any such valuation allowance may be adjusted in the future, again
through a charge or benefit to income, as the fair value of the servicing rights
changes. Fair values are established through use of a discounted cash flow
valuation model that incorporates assumptions the Company believes market
participants would use in estimating the fair value of future net servicing
income including assumptions regarding prepayment speeds, discount rates and
servicing costs. For impairment evaluation purposes, the Company stratifies its
servicing portfolio on the basis of term, interest rate and loan type (fixed-
rate versus adjustable-rate).
Because the fair value of the mortgage servicing rights for each stratum of the
servicing portfolio exceeded recorded amounts throughout 1996, no impairment
charges or direct writedowns of mortgage servicing rights have been recorded.
Consequently, the adoption of SFAS 122 has had an immaterial impact on the
accounting results for the year ended December 31, 1996 and would not have had a
material impact on previous periods.
DERIVATIVE FINANCIAL INSTRUMENTS
- --------------------------------
The Company has acquired derivative financial instruments, specifically interest
rate floors, for trading purposes and as hedges against increased prepayments on
investments in mortgage servicing rights and CMO investments. Interest rate
floors increase in value when interest rates decline. Interest rate floors held
for trading purposes partially protect current income against the impact of
increased prepayments because they are marked to market to income each period.
Interest rate floors designated as hedges partially protect the value of the
assets hedged from the impact of increased prepayments by increasing in value
when interest rates decline.
Realized and unrealized gains (losses) from hedge transactions reduce (increase)
the carrying amount of the assets hedged. Ongoing correlation and effectiveness
of the hedges is measured by comparing the change in value of the hedges with
the change in value of the assets hedged. Should a hedge prove ineffective,
results in excess of a corresponding change in value of the assets hedged would
be taken to income or expense and hedge accounting would
<PAGE>
cease. The Company has acquired other derivative financial instruments,
specifically interest rate caps, as a hedge against rising interest rates on a
portion of its short-term borrowings. Because interest rate floors and caps are
one-sided options, the Company's exposure to losses on these instruments is
limited to the current basis in the instruments.
The Company may receive cash payments from the counterparties to these
instruments should certain specified interest rates fall below (interest rate
floors) or rise above (interest rate caps) a specified level. Any such payments
will be accrued and taken to income as other revenue or, for hedges, as a
component of interest income on CMO investments, amortization expense of
mortgage servicing rights or interest expense on short-term borrowings, as
applicable. The cost of acquiring interest rate floors and interest rate caps
designated as hedges is taken as a charge to income as a component of the
applicable hedged item over the contractual lives of the instruments. The fair
value of the interest rate floors and the unamortized cost of the interest rate
caps are included in prepaids, receivables and other on the balance sheet. The
Company has credit risk associated with the counterparties to derivative
financial instruments. The Company manages credit risk by dealing only with
large, financially sound investment banking firms.
BORROWINGS
- ----------
CMOs and short-term borrowings 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.
MORTGAGE SERVICING REVENUES
- ---------------------------
Mortgage servicing revenues represent fees received for servicing mortgage
loans. Servicing fees are calculated based on a contractual percentage of the
outstanding monthly principal balance of mortgage loans serviced and are
recognized as income when collected.
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. It is
Capstead's policy to distribute 100 percent of taxable income of the REIT 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.
Capstead's non-REIT subsidiaries, principally Capstead Inc., file a separate
federal income tax return.
STOCK-BASED COMPENSATION
- ------------------------
Compensation cost for stock-based awards is measured as the excess, if any, of
the quoted market price of the Company's stock at the date of the grant over the
amount an employee must pay to acquire the stock.
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 after retroactively
<PAGE>
giving effect to stock splits. Fully diluted net income per share is computed by
dividing net income by the weighted average number of common shares and common
stock equivalents outstanding, after retroactively giving effect to stock
splits, and assuming conversion of the $1.60 Cumulative Preferred Stock, Series
A ("Series A Preferred Stock") and the $1.26 Cumulative Convertible Preferred
Stock, Series B ("Series B Preferred Stock"). The Series B Preferred Stock was
not considered convertible for purposes of calculating fully diluted net income
per share prior to 1996 as it was antidilutive.
RECLASSIFICATION AND STOCK SPLITS
- ---------------------------------
Certain amounts for prior years have been reclassified to conform to the 1996
presentation. On October 30, 1995 and July 31, 1996, the Company completed 3-
for-2 common stock splits. The affected capital accounts as well as all
references to the number of common shares and share amounts in the accompanying
consolidated financial statements and related notes have been restated to
reflect the stock splits.
RECENT ACCOUNTING PRONOUNCEMENT
- -------------------------------
In June 1996 the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 125, "Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities" ("SFAS 125"). SFAS 125
provides accounting and reporting standards for all types of securitization
transactions involving the transfer of financial assets including repurchase
agreements and collateralized borrowing arrangements. Most securitizations of
financial assets other than repurchase agreements that occur after the adoption
of SFAS 125 will be recorded as sales. The Company will adopt this
pronouncement effective January 1, 1997. The adoption of SFAS 125 is not
expected to have a material impact on the results of operations or financial
position of the Company.
NOTE 3 - MORTGAGE SERVICING
The following table provides information regarding the primary mortgage
servicing portfolio (which excludes subservicing) and the related investment in
mortgage servicing rights (dollars in thousands):
<TABLE>
<CAPTION>
UNPAID MORTGAGE
PRINCIPAL NUMBER SERVICING
BALANCE OF LOANS RIGHTS
----------- -------- ---------
<S> <C> <C> <C>
Loans serviced at January 1, 1995 $14,392,182 115,609 $189,416
Additions 13,090,200 143,153 223,836
Results of hedging activity - - (17,745)
Run-off/amortization* (1,924,753) (11,877) (25,907)
----------- ------- --------
Loans serviced at December 31, 1995 25,557,629 246,885 369,600
Additions 13,663,775 146,527 227,143
Results of hedging activity - - 5,774
Run-off/amortization* (3,658,807) (27,039) (42,660)
----------- ------- --------
Loans serviced at December 31, 1996 35,562,597 366,373 559,857
Purchases pending transfer 4,170,630 42,970 78,122
----------- ------- --------
Total portfolio at December 31, 1996 $39,733,227 409,343 $637,979
=========== ======= ========
</TABLE>
* EXCLUDES HEDGE INSTRUMENT AMORTIZATION.
In addition, as of December 31, 1996 the Company subserviced $2.2 billion of
single-family mortgage loans under a subservicing arrangement entered into
during 1996 with a large national mortgage originator.
<PAGE>
The Company services mortgage loans in all 50 states and the District of
Columbia. As of December 31, 1996, 15. 3 percent of loans serviced and loans
pending transfer were located in California (based on the unpaid principal
balances).
In connection with mortgage servicing a ctivities, the Company maintains
segregated escrow deposits that are held in bank trust accounts. At December
31, 1996 and 1995, escrow and fiduciary funds for loans serviced approximated
$484 million and $316 million, respectively, and are excluded from the
accompanying balance sheet.
NOTE 4 - MORTGAGE INVESTMENTS
Mortgage investments and the related average effective interest rates
(calculated excluding unrealized gains and losses) were as follows (dollars in
thousands):
<TABLE>
<CAPTION>
YEAR ENDED
AS OF DECEMBER 31 DECEMBER 31
---------------------- -----------
1996 1995 1996 1995
---------- ---------- ---- ----
Agency securities:
<S> <C> <C> <C> <C>
Fixed-rate $ 467,887 $ 489,689 6.37% 6.32%
Adjustable-rate 3,878,827 2,984,451 6.22 6.13
Callable notes - 49,092 7.05 6.98
AAA-rated private mortgage pass-
through securities:
Fixed-rate 1,160 1,771 9.27 8.76
Medium-term 278,187 424,329 7.07 6.96
Adjustable-rate 71,237 563,203 7.59 6.90
Mortgage loans 3,028 10,419 7.59 7.09
---------- ----------
$4,700,326 $4,522,954
========== ==========
</TABLE>
The Company classifies its mortgage investments by interest rate characteristics
of the underlying mortgage loans. Fixed-rate mortgage investments have (i)
fixed rates of interest for their entire terms or (ii) an initial fixed-rate
period of 10 years after origination and then adjust annually based on a
specified margin over 1-year U.S. Treasury Securities ("1-year Treasuries").
Medium-term mortgage investments have (i) an initial fixed-rate period of 3 or 5
years after origination and then adjust annually based on a specified margin
over 1-year Treasuries or (ii) initial interest rates that adjust one time,
approximately 5 years following origination of the mortgage loan, based on a
specified margin over Federal National Mortgage Association ("FNMA") yields for
30-year, fixed-rate commitments at the time of adjustment. Adjustable-rate
mortgage investments either adjust (i) semiannually based on a specified margin
over the 6-month London Interbank Offered Rate ("LIBOR") or (ii) annually based
on a specified margin over 1-year Treasuries. Fixed- and adjustable-rate
mortgage agency securities consist of mortgage-backed securities issued by
government-sponsored entities, either the Federal Home Loan Mortgage
Corporation, FNMA or the Government National Mortgage Association (collectively
"Agency Securities"). The maturity of mortgage-backed securities is directly
affected by the rate of principal prepayments on the underlying mortgage loans.
At December 31, 1996 the Agency Securities and AAA-rated private mortgage pass-
through securities ("Mortgage Pass-Throughs") were pledged to secure short-term
borrowings.
<PAGE>
NOTE 5 - CMO COLLATERAL AND INVESTMENTS
CMO collateral includes mortgage securities and related investments pledged to
secure CMO borrowings ("Pledged CMO Collateral"). CMO investments include (i)
mortgage collateral released from the related indentures pursuant to clean-up
calls ("Released CMO Collateral"), (ii) investments in FNMA Trust interest-only
mortgage securities, and (iii) investments in other CMO securities such as other
agency and private-issue interest-only and principal-only mortgage securities.
The components of CMO collateral and investments are summarized as follows (in
thousands):
<TABLE>
<CAPTION>
DECEMBER 31
------------------------------
1996 1995
----------- -----------
<S> <C> <C>
Pledged mortgage securities $3,908,623 $4,627,409
Short-term investments 11,055 24,705
Accrued interest receivable 24,012 29,130
---------- ----------
Total Pledged CMO Collateral 3,943,690 4,681,244
Unamortized discount (7,166) (7,147)
---------- ----------
Net Pledged CMO Collateral 3,936,524 4,674,097
Released CMO Collateral 140,091 33,095
FNMA Trust interest-only mortgage securities 546,539 107,554
Other CMO investments 18,583 15,274
---------- ----------
$4,641,737 $4,830,020
========== ==========
</TABLE>
Pledged mortgage securities consist primarily of fixed-rate, medium-term and
adjustable-rate mortgage-backed securities. All principal and interest on these
pledged mortgage securities 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 pledged mortgage securities
and the reinvestment income earned thereon are available for the payment of
principal and interest on CMOs issued by the Company. The weighted average
effective interest rate for total Pledged CMO Collateral was 7.40percent and
7.55 percent during 1996 and 1995, respectively.
FNMA Trust interest-only mortgage securities are entitled to receive 100 percent
of coupon interest stripped from pools of FNMA mortgage-backed securities. At
December 31, 1996 the Company's investment in FNMA Trust interest-only mortgage
securities yielded 11.38 percent with related notional amounts aggregating $1.7
billion. These and certain other CMO investments were pledged to secure short-
term borrowings as of December 31, 1996.
<PAGE>
NOTE 6 - SHORT-TERM BORROWINGS
Short-term borrowings are primarily made under repurchase arrangements with
investment banking firms pursuant to which the Company pledges mortgage assets
as collateral. The terms and conditions of these arrangements, including
interest rates, are negotiated on a transaction-by-transaction basis.
Repurchase arrangements, all of which had maturities of less than 31 days, and
the related average effective interest rates are classified by type of
collateral as follows (dollars in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, 1996 DECEMBER 31, 1995
---------------------- ----------------------
WEIGHTED WEIGHTED
BORROWINGS AVERAGE BORROWINGS AVERAGE
OUTSTANDING RATE OUTSTANDING RATE
----------- --------- ----------- ---------
<S> <C> <C> <C> <C>
Agency Securities $4,275,701 5.67% $3,454,802 5.75%
Mortgage Pass-Throughs 340,363 5.78 962,455 5.99
Mortgage loans 2,252 6.01 - -
CMO investments 664,540 5.87 168,025 6.10
---------- ----------
$5,282,856 $4,585,282
========== ==========
</TABLE>
In 1996 Capstead Inc. increased its revolving line of credit agreement with an
investment banking firm from $300 million to $450 million and extended the
maturity one year to September 30, 1998. A fee was paid on the $200 million
committed portion of this facility. The line is used primarily to finance
acquisitions of mortgage servicing rights. Interest rates on borrowings under
this facility are based on LIBOR with interest due monthly. Borrowings under
this facility totaled $180,000,000 at 8.60 percent and $43,500,000 at 8.19
percent at December 31, 1996 and 1995, respectively.
The weighted average effective interest rate on short-term borrowings secured by
mortgage assets was 5.53 percent and 6.04 percent during 1996 and 1995,
respectively. Interest paid on short-term borrowings totaled $279,160,000,
$217,028,000 and $136,442,000 during 1996, 1995 and 1994, respectively.
NOTE 7 - COLLATERALIZED MORTGAGE OBLIGATIONS
Each series of CMOs issued consists of various classes of bonds, most of which
have fixed rates of interest. Interest is payable monthly or quarterly 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 of bonds until all classes having
an earlier stated maturity have been paid in full. The components of CMOs along
with selected other information are summarized as follows (dollars in
thousands):
<TABLE>
<CAPTION>
DECEMBER 31
------------------------------------
1996 1995
-------------- --------------
<S> <C> <C>
CMOs $3,905,048 $4,606,668
Accrued interest payable 54,548 53,164
---------- ----------
Total obligation 3,959,596 4,659,832
Less unamortized discount (97,704) (120,969)
---------- ----------
$3,861,892 $4,538,863
========== ==========
Range of average interest rates 5.70% to 9.88% 5.80% to 9.70%
Range of stated maturities 2007 to 2025 2007 to 2025
Number of series 34 41
</TABLE>
<PAGE>
The maturity of each CMO series is directly affected by the rate of principal
prepayments on the related CMO collateral. Each series is also subject to
redemption at the Company's option provided that certain requirements specified
in the related indenture have been met (referred to as "clean-up calls"). As a
result, the actual maturity of any series is likely to occur earlier than its
stated maturity. The average effective interest rate for all CMOs was 7.53
percent and 7.57 percent during 1996 and 1995, respectively. Interest paid on
CMOs totaled $304,670,000, $351,477,000 and $324,229,000 during 1996, 1995 and
1994, respectively.
NOTE 8 - DISCLOSURES REGARDING FAIR VALUES OF FINANCIAL INSTRUMENTS
The estimated fair values of mortgage assets have been determined using
available market information and appropriate valuation methodologies; however,
considerable judgment is required in interpreting market data to develop these
estimates. In addition, fair values fluctuate on a daily basis. Accordingly,
estimates presented herein are not necessarily indicative of the amounts that
could be realized in a current market exchange. The use of different market
assumptions and/or estimation methodologies may have a material effect on the
estimated fair values.
The carrying amounts of cash and cash equivalents, receivables, payables and
short-term borrowings approximate fair value. The fair value of derivative
financial instruments is based on quoted market prices. The fair value of
mortgage assets was estimated using either (i) quoted market prices when
available, including quotes made by lenders in connection with designating
collateral for repurchase arrangements or (ii) offer prices for similar mortgage
assets. The fair value of CMOs is dependent upon the characteristics of the CMO
collateral pledged to secure the issuance. Therefore, fair value was based on
the same method used for determining fair value for the underlying CMO
collateral adjusted for credit enhancements. The following table summarizes
fair value disclosures for financial instruments (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, 1996 DECEMBER 31, 1995
------------------------ -------------------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
---------- ---------- ---------- ----------
ASSETS:
<S> <C> <C> <C> <C>
Cash and cash equivalents $ 21,003 $ 21,003 $ 18,702 $ 18,702
Receivables 74,719 74,719 79,710 79,858
Mortgage investments 4,700,326 4,700,326 4,522,954 4,522,954
CMO collateral and
investments 4,641,737 4,602,808 4,830,020 4,791,722
Derivative financial
instruments:
Interest rate floors 49,423 49,423 22,911 22,911
Interest rate caps 6,626 2,887 4,422 463
LIABILITIES:
Payables 105,721 105,721 71,237 71,237
Short-term borrowings 5,462,856 5,462,856 4,628,782 4,628,782
CMOs 3,861,892 3,872,482 4,538,863 4,553,184
</TABLE>
As a result of adopting the provisions of Statement of Financial Accounting
Standards No. 115, "Accounting for Certain Investments in Debt and Equity
Securities" ("SFAS 115"), the January 1, 1994 opening balance of stockholders'
equity was increased by $7,512,000 to reflect net unrealized gains on securities
classified as available-for-sale that were previously carried at amortized cost.
In response to transition rules for adopting SFAS 115
<PAGE>
released in November 1995, $393,478,000 of medium-term Mortgage Pass-Throughs,
$546,759,000 of Agency Securities, and $195,474,000 of CMO collateral and
investments were transferred from held-to-maturity to available-for-sale. These
securities had a net unrealized gain of $7,701,000 on the December 31, 1995
transfer date.
The following table summarizes fair value disclosures for available-for-sale
debt securities (in thousands):
<TABLE>
<CAPTION>
GROSS GROSS
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
December 31, 1996
- ------------------
Mortgage investments:
Agency Securities:
Fixed-rate $ 490,893 $ - $23,006 $ 467,887
Adjustable-rate 3,858,339 20,977 489 3,878,827
Mortgage Pass-Throughs:
Fixed-rate 1,116 44 - 1,160
Medium-term 278,473 283 569 278,187
Adjustable-rate 69,531 1,706 - 71,237
CMO collateral and investments 712,327 3,104 7,651 707,780
---------- ------- ------- ----------
$5,410,679 $26,114 $31,715 $5,405,078
========== ======= ======= ==========
December 31, 1995
- -----------------
Mortgage investments:
Agency Securities:
Fixed-rate $ 497,785 $ - $ 8,096 $ 489,689
Adjustable-rate 2,977,794 6,657 - 2,984,451
Callable notes 48,974 118 - 49,092
Mortgage Pass-Throughs:
Fixed-rate 1,723 48 - 1,771
Medium-term 420,910 3,455 36 424,329
Adjustable-rate 555,944 7,259 - 563,203
CMO collateral and investments 356,159 9,063 10,566 354,656
---------- ------- ------- ----------
$4,859,289 $26,600 $18,698 $4,867,191
========== ======= ======= ==========
</TABLE>
CMO collateral and investments classified as held-to-maturity consist of Pledged
CMO Collateral and Released CMO Collateral. Pledged CMO Collateral has been
permanently financed through the issuance of CMOs. Gross unrealized gains and
losses are based on projected net cash flows of the Pledged CMO Collateral after
payment on the related CMOs determined using market discount rates and
prepayment assumptions. The maturity of Pledged CMO Collateral is directly
affected by the rate of principal prepayments by mortgagors and clean-up calls
of remaining CMOs outstanding. The following table summarizes fair value
disclosures for CMO collateral and investments held-to-maturity (in thousands):
<TABLE>
<CAPTION>
GROSS GROSS
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
As of December 31, 1996 $3,933,957 $5,464 $54,983 $3,884,438
As of December 31, 1995 4,475,364 5,042 60,920 4,419,486
</TABLE>
Sales of Released CMO Collateral occasionally occur provided the collateral has
paid down to within 15 percent of its original issuance amounts. The following
table summarizes disclosures related to the disposition of debt securities held
available-for-sale and held-to-maturity (in thousands):
<PAGE>
<TABLE>
<CAPTION>
1996 1995 1994
-------- -------- -------
<S> <C> <C> <C>
Sale of securities held
available-for-sale:
Cost basis $624,151 $784,600 $16,695
Gains 13,936 9,511 6,223
Redemption of callable agency notes and
sale
of Released CMO Collateral
held-to-maturity:
Cost basis 64,753 320,843 77,087
Gains 1,098 966 2,938
</TABLE>
NOTE 9 - INCOME TAXES
Capstead and its qualified REIT subsidiaries file a separate federal income tax
return that does not include the operations of the non-REIT subsidiaries.
Provided all taxable income of Capstead and its qualified REIT subsidiaries is
distributed to stockholders within time limits prescribed by the Code, no income
taxes are due on this income. Taxable income of the non-REIT subsidiaries is
fully taxable. Income taxes paid by the non-REIT subsidiaries during 1995
totaled $481,000. No income taxes were paid in 1996 and 1994. Effective tax
rates will differ substantially from statutory federal income tax rates because
of the effect of the following items (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
--------------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Income taxes computed at the federal
statutory rate $ 44,530 $ 27,241 $ 29,097
Income not subject to tax due to
REIT status (35,384) (21,712) (27,289)
-------- -------- --------
Net income of non-REIT subsidiaries
at the statutory rate 9,146 5,529 1,808
Alternative minimum tax - 456 -
Benefit of previously unrecognized
deferred income tax asset (8,308) (5,859) (1,261)
Other (838) 346 (547)
-------- -------- --------
$ - $ 472 $ -
======== ======== ========
</TABLE>
<PAGE>
Significant components of deferred income tax assets and liabilities are as
follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31
--------------------
1996 1995
------- -------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards $25,947 $19,065
Hedging transactions 4,432 5,967
Other 2,834 1,158
------- -------
33,213 26,190
------- -------
Deferred tax liabilities:
Mortgage servicing rights 18,684 2,765
Mark-to-market 551 1,139
------- -------
19,235 3,904
------- -------
Net deferred tax assets $13,978 $22,286
======= =======
Valuation allowance $13,978 $22,286
======= =======
</TABLE>
At December 31, 1996 the non-REIT subsidiaries had net operating loss
carryforwards for tax purposes of approximately $77 million, which expire
beginning in the year 2007.
NOTE 10 - STOCKHOLDERS' EQUITY
The Series A Preferred Stock is entitled to a cumulative fixed dividend at an
annual rate of $1.60, is eligible for conversion into 2.0421 shares of common
stock and is nonvoting. The Series A Preferred Stock is currently redeemable at
the Company's option. During 1996, 79,980 shares of the Series A Preferred
Stock were converted into 162,264 shares of common stock.
The Series B Preferred Stock is entitled to a cumulative fixed dividend at an
annual rate of $1.26, is eligible for conversion into 0.7246 of 1 share of
common stock and is nonvoting. The Series B Preferred Stock is redeemable at
the Company's option at a redemption price of $12.50 after December 2, 1997.
During 1996, 7,373,698 shares of the Series B Preferred Stock were converted
into 5,341,583 shares of common stock. If these conversions had occurred at the
beginning of the year, primary net income per share would have been $2.23 for
the year ended December 31, 1996.
During 1996, 1995 and 1994, the Company issued 413,030; 156,227 and 46,679
shares of common stock through its dividend reinvestment plan for net proceeds
of $8,326,000, $2,044,000, and $534,000, respectively. During 1996, 1995 and
1994, the Company also issued 310,434; 411,142 and 481,384 shares of Series B
Preferred Stock through its dividend reinvestment plan for Series B stockholders
on which net proceeds were received of $4,259,000, $5,312,000 and $5,254,000,
respectively.
The Company modified its dividend reinvestment plan for common stock during 1995
to allow investors to purchase additional shares directly from the Company.
During 1996 and 1995 the Company issued 647,289 and 458,654 shares for net
proceeds of $12,091,000 and $6,223,000, respectively, pursuant to this
modification. Also during 1995 the Company began a program whereby the Company
may issue new shares of common stock on a daily basis, subject to certain
limitations. During 1996 and 1995 the Company issued 1,954,550 and 64,200
shares for net proceeds of $37,792,000 and $974,000, respectively, pursuant to
this program. During 1996 the Company began a similar program for the Series B
Preferred Stock whereby the Company may issue new shares of the Series B
Preferred Stock on a daily basis. During 1996 the Company issued 309,200 shares
of Series B Preferred Stock for net proceeds of $4,903,000 pursuant to this
program.
<PAGE>
During 1996 a 6-year option issued July 31, 1992 to acquire 1,687,500 shares of
common stock at $14.50 per share was reacquired from a non-affiliated holder at
a cost of $6,506,000. Option exercises by employees during 1996 resulted in net
proceeds of $7,246,000.
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 11 - EMPLOYEE BENEFIT PLANS
The Company sponsors stock plans for directors and employees to provide for the
issuance of stock options and other incentive-based stock awards (collectively,
the "Plans"). The Plans provide for the issuance of up to an aggregate of
5,513,000 shares of common stock. Most of the outstanding stock options provide
for the annual granting of dividend equivalent rights ("DERs") that permit the
option holder to obtain additional shares of common stock based upon formulas
set forth in the Plans and all options granted have terms and vesting
requirements at the grant date of up to ten years. The following table provides
information regarding stock option activity for the periods indicated:
<TABLE>
<CAPTION>
NUMBER OF WEIGHTED AVERAGE
SHARES EXERCISE PRICE
---------- ----------------
<S> <C> <C>
Balance at December 31, 1993
(343,380 exercisable) 343,380 $13.75
Granted 1,316,250 $12.94
Exercised (62,156) $ 7.16
Canceled (39,832) $16.23
DERs earned 11,636 $ -
---------
Balance at December 31, 1994
(646,243 exercisable) 1,569,278 $13.16
Granted 487,125 $11.20
Exercised (17,944) $ 6.69
Canceled (34,508) 12.80
DERs earned 55,472 $ -
---------
Balance at December 31, 1995
(1,293,221 exercisable) 2,059,423 $12.41
Granted 821,250 $15.42
Exercised (563,230) $12.23
Canceled (17,559) $12.01
DERs earned 70,686 $ -
---------
Balance at December 31, 1996
(1,716,334 exercisable) 2,370,570 $13.12
=========
</TABLE>
<PAGE>
Weighted average price and life information for significant vested option grants
as well as all other vested option grants outstanding at December 31, 1996 were
as follows:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
OPTIONS OPTIONS EXERCISE REMAINING
OUTSTANDING EXERCISABLE PRICE LIFE (YEARS)
----------- ----------- -------- ------------
<S> <C> <C> <C> <C>
January 1996 768,000 192,000 $15.42 9
April 1994 1,059,412 1,059,412 $12.83 7
Related DERs 70,455 70,455 $ - 7
All other 472,703 394,467 $12.40 7
--------- ---------
2,370,570 1,716,334 $12.50 8
========= =========
</TABLE>
In 1996 the Company issued restricted stock grants for 262,500 shares of common
stock to key officers at a grant date fair value of $15.42 per share and 144,000
shares to all employees at a grant date fair value of $21.50 per share, subject
to restrictions as to continuous employment. Restrictions generally expire over
a period of from four to ten years from the date of grant. Compensation expense
is recognized over the restricted period. At December 31, 1996 a total of
382,000 shares were outstanding under these grants.
The Company applies Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees," and related Interpretations in accounting for stock
awards. Accordingly, no compensation expense has been recognized for stock
awards other than for DERs and restricted stock grants. Related compensation
costs totaled $6,032,000, $798,000 and $877,000 in 1996, 1995 and 1994,
respectively. The effect of determining compensation cost for stock options
granted in 1996 and 1995, including the accrual for DERs granted in January
1997, based upon the fair value at the grant date consistent with the
methodology prescribed under Statement of Financial Accounting Standard No. 123,
"Accounting for Stock-Based Compensation," would not have been material to net
income for 1996 or 1995. This effect may not be representative of the pro forma
effect on net income in future years because it does not take into consideration
pro forma compensation expense related to grants made prior to 1995.
The Company also sponsors a qualified defined contribution retirement plan for
all employees. The Company matches up to 50 percent of a participant's
voluntary contribution up to a maximum of 6 percent of a participant's
compensation. The Company also may make additional contributions of up to
another 3 percent of a participant's compensation. All Company contributions
are subject to certain vesting requirements. Contribution expenses were
$677,000, $759,000, and $370,000 in 1996, 1995 and 1994, respectively.
<PAGE>
NOTE 12 - NET INTEREST INCOME ANALYSIS (UNAUDITED)
The following table summarizes interest income and interest expense on mortgage
assets and average effective interest rates for the periods indicated (dollars
in thousands):
<TABLE>
<CAPTION>
1996 1995 1994
------------------ ------------------ ------------------
AVERAGE AVERAGE AVERAGE
AMOUNT RATE AMOUNT RATE AMOUNT RATE
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Interest income:
Mortgage investments $299,597 6.39% $240,735 6.50% $202,398 6.07%
CMO collateral and investments 363,367 7.74 382,425 7.59 354,603 7.63
-------- -------- --------
Total interest income 662,964 623,160 557,001
-------- -------- --------
Interest expense:
Short-term borrowings 267,525 5.53 216,650 6.04 139,092 4.64
CMOs 314,338 7.53 360,386 7.57 335,656 7.49
-------- -------- --------
Total interest expense 581,863 577,036 474,748
-------- -------- --------
Net interest $ 81,101 $ 46,124 $ 82,253
======== ======== ========
</TABLE>
The following table summarizes the changes in interest income and interest
expense due to changes in interest rates versus changes in volume for the
periods indicated (in thousands):
<TABLE>
<CAPTION>
1996/1995* 1995/1994*
----------------------------------- -----------------------------------
RATE VOLUME TOTAL RATE VOLUME TOTAL
-------- -------- -------- -------- --------- --------
<S> <C> <C> <C> <C> <C> <C>
Interest income:
Mortgage investments $ (4,141) $ 63,003 $ 58,862 $ 14,813 $ 23,524 $ 38,337
CMO collateral and investments 7,291 (26,349) (19,058) (1,587) 29,409 27,822
-------- -------- -------- -------- --------- --------
Total interest income 3,150 36,654 39,804 13,226 52,933 66,159
-------- -------- -------- -------- --------- --------
Interest expense:
Short-term borrowings (19,609) 70,484 50,875 47,140 30,418 77,558
CMOs (2,035) (44,013) (46,048) 3,708 21,022 24,730
-------- -------- -------- -------- --------- --------
Total interest expense (21,644) 26,471 4,827 50,848 51,440 102,288
-------- -------- -------- -------- --------- --------
Net interest $ 24,794 $ 10,183 $ 34,977 $(37,622) $ 1,493 $(36,129)
======== ======== ======== ======== ========= ========
</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.
<PAGE>
NOTE 13 - QUARTERLY RESULTS (UNAUDITED)
The following is a summary of quarterly results of operations (in thousands,
except percentages and per share amounts):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1996
------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Interest income $166,384 $166,259 $165,104 $165,217
Interest and related expenses 151,006 149,322 145,467 143,816
Net margin on mortgage assets 15,378 16,937 19,637 21,401
Net margin on mortgage servicing
operations 9,955 11,164 13,310 14,694
Other revenues 4,754 7,270 2,734 4,965
Net income 26,828 32,173 32,428 35,798
Net income per share:
Primary 0.47 0.60 0.60 0.64
Fully diluted 0.45 0.53 0.53 0.56
Return on average stockholders'
equity 16.12% 19.01% 18.72% 19.82%
YEAR ENDED DECEMBER 31, 1995
-----------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
Interest income $152,099 $152,980 $156,543 $161,538
Interest and related expenses 145,327 145,092 148,091 149,911
Net margin on mortgage assets 6,772 7,888 8,452 11,627
Net margin on mortgage servicing
operations 9,470 10,105 9,729 11,948
Other revenues 2,602 3,448 6,371 4,049
Net income 15,366 17,739 21,297 22,958
Net income per share:
Primary 0.16 0.23 0.33 0.37
Fully diluted * 0.23 0.32 0.36
Return on average stockholders' equity 9.54% 10.98% 13.11% 14.01%
</TABLE>
* FULLY DILUTED EARNINGS PER SHARE IS NOT PRESENTED FOR THE QUARTER ENDED MARCH
31, 1995 BECAUSE THE EFFECT OF CONVERTING POTENTIALLY DILUTIVE SECURITIES WAS
ANTIDILUTIVE.
NOTE 14 - MARKET AND DIVIDEND INFORMATION (UNAUDITED)
The New York Stock Exchange trading symbol for the Company's common stock is
CMO. There were 2,865 holders of record of the Company's common stock at
December 31, 1996. In addition, depository companies held stock for 33,343
beneficial owners. During the last two years, the high and low stock sales
prices and dividends declared on common stock were:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1996 YEAR ENDED DECEMBER 31, 1995
---------------------------- -----------------------------
STOCK PRICES DIVIDENDS STOCK PRICES DIVIDENDS
-------------- --------------
HIGH LOW DECLARED HIGH LOW DECLARED
------ ------ ------------ ------ ------ -------------
<S> <C> <C> <C> <C> <C> <C>
First quarter $17.25 $14.42 $0.46//2/3// $11.06 $ 7.44 $0.16
Second quarter 19.50 14.33 0.53//1/3// 13.50 9.11 0.23//1/10//
Third quarter 22.50 17.42 0.55 15.44 11.56 0.32//9/10//
Fourth quarter 24.63 20.75 0.56//1/2// 16.33 13.94 0.37//1/3//
</TABLE>
<PAGE>
CAPSTEAD MORTGAGE CORPORATION AND SUBSIDIARIES
SELECTED FINANCIAL DATA
(IN THOUSANDS, EXCEPT PERCENTAGES AND PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
------------------------------------------------------------------------------
1996 1995 1994 1993 1992
-------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C>
SELECTED CONSOLIDATED
STATEMENT OF INCOME
DATA:
Interest income $ 662,964 $ 623,160 $ 557,001 $ 574,826 $ 500,587
Interest and related
expenses 589,606 588,421 488,224 511,160 429,254
Net margin on mortgage
assets 73,358 34,739 68,777 63,666 71,333
Net margin on mortgage
servicing 49,122 41,253 21,019 (1,056) -
Other revenues 19,721 16,468 14,178 64,573 3,862
Net income 127,228 77,359 85,579 94,256 53,191
Net income per share:(1)
Primary(2) $ 2.31 $ 1.09 $ 1.36 $ 1.63 $ 1.50
Fully diluted 2.06 1.07 1.34 1.59 1.43
Return on average total
stockholders' equity 18.41% 11.91% 13.27% 14.65% 16.08%
Cash dividends paid per
share(1)
Common $2.11//1/2// $1.09//1/3// $1.42//2/3// $1.62//2/3// $1.44//2/3//
Series A Preferred 1.60 1.60 1.60 1.60 1.60
Series B Preferred 1.26 1.26 1.26 1.26 0.10
AVERAGE NUMBER OF SHARES
OUTSTANDING:(1)
Primary 39,277 34,679 34,376 34,079 32,387
Fully diluted 61,813 36,230 35,720 35,843 35,081
SELECTED CONSOLIDATED
BALANCE SHEET DATA:
Mortgage investments $ 4,700,326 $ 4,522,954 $ 3,305,984 $ 2,842,151 $ 1,904,600
CMO collateral
and investments 4,641,737 4,830,020 5,270,103 3,995,956 5,269,600
Mortgage servicing rights 637,979 423,360 282,969 25,146 -
Total assets 10,157,338 9,903,606 8,943,858 6,980,324 7,229,608
Short-term borrowings 5,462,856 4,628,782 3,190,582 2,443,807 1,449,209
Collateralized mortgage
obligations 3,861,892 4,538,863 5,102,145 3,891,134 5,143,157
Stockholders' equity 726,869 664,724 563,675 638,190 631,499
MORTGAGE SERVICING DATA:
Primary servicing
portfolio(3) $ 35,562,597 $ 25,557,629 $ 14,392,182 $ 2,393,267 $ -
Subservicing portfolio 2,155,873 - - - -
</TABLE>
(1) ADJUSTED FOR 3-FOR-2 COMMON STOCK SPLITS EFFECTIVE OCTOBER 30, 1995 AND JULY
31, 1996.
(2) DURING 1996, 7,373,698 SHARES OF THE SERIES B PREFERRED STOCK WERE CONVERTED
INTO 5,341,583 SHARES OF COMMON STOCK. IF THESE CONVERSIONS HAD OCCURRED AT
THE BEGINNING OF 1996, PRIMARY NET INCOME PER SHARE WOULD HAVE BEEN $2.23
FOR 1996.
(3) EXCLUDES $4.2 BILLION OF MORTGAGE SERVICING RIGHTS ACQUIRED IN 1996 THAT
WILL BE TRANSFERRED INTO THE PRIMARY MORTGAGE SERVICING PORTFOLIO BY THE END
OF FEBRUARY 1997. INCLUDING THESE PENDING ACQUISITIONS, THE PRIMARY MORTGAGE
SERVICING PORTFOLIO IS EXPECTED TO EXCEED $39 BILLION BY THE END OF FEBRUARY
1997.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
FINANCIAL CONDITION
- -------------------
The Company's business plan is to build a mortgage banking operation with
investments in mortgage securities and mortgage servicing with the goal of
producing reasonably balanced operating results in a variety of interest rate
environments.
The Company commenced mortgage servicing operations in 1993 and through steady
growth has become one of the 20 largest mortgage servicers in the country. The
primary mortgage servicing portfolio (which excludes pending transfers and
subservicing) increased a net $10.0 billion during 1996 to $35.6 billion with a
weighted average interest rate of 7.39 percent and earning an average annual
service fee, excluding ancillary revenue and earnings on escrows, (the "Average
Service Fee"), of 30.1 basis points. The December 31, 1996 balance of mortgage
servicing rights related to this portfolio was $560 million (157 basis points,
or a 5.2 multiple of the Average Service Fee). An additional $4.2 billion of
mortgage servicing acquired in 1996 is pending transfer into the portfolio and
is being subserviced by the sellers. This portfolio has a weighted average
interest rate of 7.67 percent earning an Average Service Fee of 32.3 basis
points. At an average cost of 187 basis points, this portfolio is being
acquired at a 5.8 multiple.
Primary mortgage servicing portfolio run-off, consisting of prepayments and
scheduled payments on mortgage loans serviced, was 12.12 percent in 1996, up
from 9.44 percent in 1995 primarily due to lower prevailing mortgage interest
rates in 1996. During the fourth quarter of 1996, portfolio run-off dropped to
10.87 percent reflecting the recent rise in mortgage interest rates. Derivative
financial instruments, specifically interest rate floors, are held from time to
time as partial hedges against prepayment risk (see "Effects of Interest Rate
Changes"). Outstanding hedge positions, with a $6.95 billion notional amount,
carried a $5.7 million unrealized gain at December 31, 1996.
During the second quarter of 1996, the Company entered into a subservicing
arrangement with a large national mortgage originator. As of December 31, 1996
the subservicing portfolio totaled $2.2 billion. An advantage of subservicing
arrangements is that further growth and enhanced efficiencies can be achieved
without the cost of acquiring additional mortgage servicing rights. This
arrangement is viewed by the Company as a confirmation of the quality and cost
effectiveness of the mortgage servicing operation and could lead to other such
relationships in the future.
After growing substantially in 1995, holdings of mortgage investments peaked at
$5.0 billion by the end of the first quarter of 1996 and consisted primarily of
adjustable-rate mortgage ("ARM") mortgage-backed securities. In light of market
conditions, the Company modestly reduced holdings of ARM securities during the
second half of 1996 making additional purchases primarily to replace run-off
such that at December 31, 1996 mortgage investments totaled $4.7 billion with
ARM securities representing nearly $4.0 billion of the total.
During 1996 the Company acquired $1.8 billion of ARM securities issued by
government-sponsored entities, either the Federal Home Loan Mortgage Corporation
("FHLMC"), Federal National Mortgage Association ("FNMA") or the Government
National Mortgage Association ("GNMA") (collectively, "Agency Securities").
Sales of ARM Agency Securities and AAA-rated private mortgage
<PAGE>
pass-through securities ("Mortgage Pass-Throughs") totaled $563 million in 1996.
In addition, $49 million of callable agency-issued notes were redeemed by the
issuer early in the year.
Prior to 1995 the Company had been an active issuer of collateralized mortgage
obligations ("CMOs") and other CMO securities backed by jumbo mortgage loans.
The Company retained residual interests in these securitizations consisting
primarily of interest-only and principal-only mortgage securities. Other than
modest issuances of previously held residual interests, the Company has not
issued any CMOs since 1994. In lieu of issuing CMOs, the Company increased its
net CMO investments (defined as CMO collateral, net of related bonds, plus other
CMO investments) by acquiring interest-only mortgage securities. During 1996
the Company acquired $522 million of interest-only mortgage securities. Most of
these securities have been FNMA Trust interest-only mortgage securities, which
represent the right to receive 100 percent of coupon interest stripped from
pools of FNMA mortgage-backed securities. After considering these acquisitions,
run-off, modest sales and CMO issuances, as well as changes in market value, net
CMO investments increased $489 million during 1996 to $780 million. Derivative
financial instruments, specifically interest rate floors, are held from time to
time as partial hedges against prepayment risk on interest-only mortgage
securities (see "Effects of Interest Rate Changes"). Outstanding hedge
positions, with a $3.275 billion notional amount, carried a $7.6 million
unrealized gain at December 31, 1996.
The following table summarizes the Company's utilization of capital at December
31, 1996 (in thousands):
<TABLE>
<CAPTION>
CAPITAL
ASSETS BORROWINGS EMPLOYED
---------- ----------- ---------
<S> <C> <C> <C>
Agency Securities:
Fixed-rate $ 467,887 $ 473,282 $ (5,395)
Adjustable-rate 3,878,827 3,802,419 76,408
Mortgage Pass-Throughs:
Fixed-rate 1,160 1,123 37
Medium-term 278,187 270,409 7,778
Adjustable-rate 71,237 68,831 2,406
Mortgage loans 3,028 2,252 776
CMO collateral and investments 4,641,737 4,526,432* 115,305
Mortgage servicing rights 637,979 251,797** 386,182
---------- ----------- --------
$9,980,042 $ 9,396,545 583,497
========== ===========
Other assets, net of other liabilities 143,372
--------
Total stockholders' equity $726,869
========
</TABLE>
* INCLUDES APPROXIMATELY $665 MILLION OF RELATED SHORT-TERM BORROWINGS.
** REPRESENTS AMOUNTS OWED UNDER CONTRACTS FOR BULK PURCHASES OF MORTGAGE
SERVICING RIGHTS AND $180 MILLION DRAWN ON A $450 MILLION LINE OF CREDIT
SECURED BY EXISTING MORTGAGE SERVICING RIGHTS.
Securities held available-for-sale were carried at a net unrealized loss of $5.6
million at December 31, 1996. Higher prevailing interest rates and selected
sales of mortgage assets resulted in a $13.5 million net decline in value of
securities held available-for-sale during 1996 from a net unrealized gain of
$7.9 million at December 31, 1995. The Company has the ability to hold these
securities for the foreseeable future and therefore does not expect to realize
losses on security sales.
<PAGE>
RESULTS OF OPERATIONS
- ---------------------
Comparative net operating results (interest income or fee revenues, net of
related interest expense or direct operating costs), by source, were as follows
(in thousands, except percentages and per share amounts):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-----------------------------------
1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
Agency Securities $ 35,082 $ 12,589 $ 15,933
Mortgage Pass-Throughs 8,074 6,880 17,341
Mortgage loans 368 1,399 26,467
Net CMO investments 29,834 13,871 9,036
Mortgage servicing 49,122 41,253 21,019
CMO administration 3,405 3,645 4,067
Gain on sales and other 16,316 12,823 10,111
-------- -------- --------
Contribution to income 142,201 92,460 103,974
Other operating expenses (14,973) (15,101) (18,395)
-------- -------- --------
Net income $127,228 $ 77,359 $ 85,579
======== ======== ========
Net income per share:*
Primary $ 2.31 $ 1.09 $ 1.36
Fully diluted 2.06 1.07 1.34
Return on average stockholders' equity 18.41% 11.91% 13.27%
</TABLE>
* PRIOR PERIOD PER SHARE INFORMATION HAS BEEN ADJUSTED FOR THE 3-F OR-2 COMMON
STOCK SPLITS EFFECTIVE OCTOBER 30, 1995 AND JULY 31, 1996.
1996 COMPARED TO 1995
- ---------------------
Operating results for 1996 improved substantially over those achieved in 1995.
Improved interest spreads on a larger mortgage investment portfolio, together
with improved mortgage servicing results, contributed to significantly higher
net income compared to 1995. Modest 1/4 of 1 percent reductions in short-term
interest rates by the Federal Reserve in July and December 1995 and again in
January 1996 contributed to improved interest spreads. An investment decision
during the second quarter of 1996 to modestly reduce the Company's commitment to
ARM securities and increase investments in interest-only mortgage securities
also contributed to the Company's improved profitability.
Agency Securities contributed significantly more to income in 1996 than in 1995
due to a $1.6 billion increase in average holdings of these securities and a 39
basis point increase in net interest spreads. Acquisitions during the last two
years of over $4.6 billion of Agency Securities increased average outstanding
portfolios to $4.0 billion during 1996 compared to $2.4 billion during 1995.
Spreads improved despite marginally lower yields due to a more favorable short-
term interest rate environment. Agency Security yields averaged 6.24 percent
during 1996 compared to 6.26 percent in 1995 while borrowing costs were 5.43
percent compared to 5.84 percent in 1995. Yields were marginally lower in 1996
primarily due to sales and redemptions by March 31, 1996 of all the Company's
investments in relatively high yielding callable agency notes. In addition,
improvements in pass-through rates resulting from the periodic resetting of
coupon interest rates on underlying ARM loans were largely offset by continued
high purchase premium amortization on investments in ARM securities due to high
run-off (see "Effects of Interest Rate Changes").
Mortgage Pass-Throughs contributed more to income in 1996 than in 1995 despite a
$628 million reduction in portfolio outstanding due to a 90 basis point increase
in net interest spreads (before mortgage insurance costs). As a result of asset
sales and run-off, the average outstanding portfolio was
<PAGE>
$637 million in 1996 compared to nearly $1.3 billion in 1995. Average yields for
this portfolio were higher at 7.32 percent during 1996 compared to 6.92 percent
in 1995 while average borrowing rates were lower at 5.67 percent during 1996
compared to 6.17 percent in 1995. The rise in yields is primarily due to sales
of ARM Mortgage Pass-Throughs and the periodic resetting of coupon interest
rates on underlying ARM and medium-term loans (see "Effects of Interest Rate
Changes"). Lower borrowing rates reflect lower prevailing short-term interest
rates.
The net interest spread earned from mortgage loans contributed less to income in
1996 than in 1995 due to lower average holdings of mortgage loans. This
reflects the November 1995 decision to exit the jumbo mortgage loan conduit
business and the decision early in 1996 to discontinue soliciting originations
by telephone.
Net CMO investments contributed substantially more to income in 1996 than in
1995 due primarily to substantial investments made during the past year in
interest-only mortgage securities (see above, "Financial Condition").
Higher mortgage servicing results reflect continued growth in this operation.
Revenues increased to $131 million in 1996, compared to $88 million in 1995.
Servicing expenses also increased, but not to the same extent as revenues, which
reflects efficiencies gained in the servicing process as the servicing portfolio
continues to grow. Amortization of mortgage servicing rights of $45 million
during 1996 was higher than the $27 million recorded in 1995 due to portfolio
growth and higher levels of prepayments caused by lower prevailing mortgage
interest rates. Greater use of external borrowings secured by the mortgage
servicing portfolio to finance portfolio growth contributed to higher borrowing
costs in 1996 compared to 1995. Because the fair value of the mortgage
servicing portfolio has exceeded recorded amounts throughout 1996, the adoption
of Statement of Financial Accounting Standards No. 122, "Accounting for Mortgage
Servicing Rights" ("SFAS 122") has had an immaterial impact on servicing results
for 1996.
Operating expenses in 1996 were marginally lower than in 1995 despite higher
compensation related accruals because of the November 1995 closure of the
mortgage conduit unit and, to a lesser extent, the second quarter closure of the
telephone origination unit. These two decisions have also reduced requirements
for loan loss provisions. In addition, with the growth of the mortgage
servicing operation, more indirect operating costs have been identified with
that unit than in the prior year.
During 1996 the Company sold $667 million of mortgage assets consisting of
mortgage loans, Mortgage Pass-Throughs, Agency Securities and CMO investments.
This compares to similar sales in 1995 totaling $1.0 billion. Higher gains on
sales reflect lower interest rates experienced during 1996 as the Company's
mortgage investments and derivative financial instruments held for trading
purposes tend to increase in value under these conditions (see "Effects of
Interest Rate Changes").
1995 COMPARED TO 1994
- ---------------------
Operating results improved steadily throughout 1995 although for the year
results were 10 percent below those achieved in 1994. Results were
significantly affected by a series of moves by the Federal Reserve beginning in
February 1994 raising short-term interest rates a total of three percentage
points by February of 1995. These increases resulted in corresponding increases
in the Company's borrowing costs that had the effect of substantially reducing
net interest spreads on mortgage investments. Although
<PAGE>
beginning in February 1995 intermediate- and long-term interest rates declined
considerably, this decline had little effect on borrowing costs, with the
Federal Reserve waiting until July and December 1995 to modestly reduce short-
term interest rates by 1/4 of 1 percent increments. The decline in intermediate-
and long-term interest rates during 1995 made asset sales attractive as values
on mortgage assets improved. Offsetting these increases in value to some extent
were higher prepayment rates on mortgage loans, which were also due to declining
interest rates. These higher prepayments resulted in increased amortization
costs associated with the mortgage servicing portfolio and interest-only
mortgage securities as well as increased amortization of premiums paid on ARM
investments.
Net CMO investments contributed more to income in 1995 than in 1994 due
primarily to investments made during 1995 in interest-only mortgage securities.
Additionally, prepayments on CMO collateral were still relatively high in the
first quarter of 1994, the end of the last major refinancing boom. Principal
collections on CMO collateral totaled $501 million during 1995 compared to $1.2
billion in 1994. Lower levels of prepayments have the effect of lowering
amortization of bond discounts and improving operating results (see "Effects of
Interest Rate Changes").
Higher mortgage servicing results reflect growth in this operation. Revenues
increased to $88 million during 1995 compared to $33 million during 1994.
Operating costs also increased, but not to the same extent as revenues, which
reflects efficiencies gained in the servicing process through outsourcing and
portfolio growth. Amortization of mortgage servicing rights totaled $27 million
during 1995, significantly higher than the $6 million recorded in 1994 due to
portfolio growth and higher levels of prepayments caused by lower interest
rates.
Other operating expenses were lower in 1995 due primarily to higher absorption
of costs by the mortgage servicing operation given this operation's growth
relative to that of the rest of the Company. Included in other operating
expenses in 1995 is a charge of $750,000 consisting primarily of personnel costs
associated with exiting the jumbo mortgage loan conduit business. Loan loss
provisions declined in 1995 due primarily to reductions in fraud exposure
resulting from reduced mortgage purchase activity.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
The Company's primary sources of funds include monthly principal and interest
payments on mortgage investments, short-term borrowings, excess cash flows on
CMO investments, servicing fees and other revenue from mortgage servicing,
proceeds from sales of mortgage assets and equity offerings (see below). The
Company currently believes that these funds are sufficient for growth of the
mortgage servicing portfolio, the acquisition of mortgage assets, repayments on
short-term borrowings, the payment of cash dividends as required for Capstead's
continued qualification as a Real Estate Investment Trust ("REIT") and common
stock repurchases, if any, as described below. It is the Company's policy to
remain strongly capitalized and conservatively leveraged.
Short-term borrowings are primarily made under repurchase arrangements. The
Company has uncommitted repurchase facilities with investment banking firms to
finance mortgage assets, subject to certain conditions. Interest rates on
borrowings under these facilities are based on overnight to 30-day London
Interbank Offered Rate ("LIBOR") rates. The terms and conditions of these
arrangements, including interest rates, are negotiated on a transaction-by-
transaction basis.
<PAGE>
At December 31, 1996 the mortgage servicing operation had available $270 million
of a $450 million revolving line of credit agreement with an investment banking
firm that matures September 30, 1998. The line is to be used primarily to
finance acquisitions of mortgage servicing rights on a collateralized basis.
The agreement requires, among other things, that the mortgage servicing
operation maintain certain financial ratios and specified levels of unencumbered
servicing rights. The mortgage servicing operation is in compliance with all
requirements. Interest rates on borrowings under this facility are based on
LIBOR.
During 1996 the Company raised $74.6 million through its dividend reinvestment
and stock purchase plans, stock option exercises and open market sales. The
Company anticipates continuing to raise equity through these channels as market
conditions allow. On July 22, 1996 the Company announced that the board of
directors had approved the repurchase of up to 1 million shares of common stock
to fund employee stock option and stock grant programs. As of December 31, 1996
no such share repurchases had occurred.
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. The resulting spread may be reduced in a rising interest rate
environment. Because most of the Company's mortgage investments are ARM
mortgage securities, the risk of rising short-term interest rates is offset to
some extent by increases in the rates of interest earned on underlying ARM
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, interest
rates on borrowings can rise to levels that may exceed the interest rates on the
underlying ARM loans resulting in a negative interest spread. The Company may
invest in derivative financial instruments from time to time, specifically
interest rate caps, as a hedge against rising interest rates on a portion of its
short-term borrowings. Interest rate caps increase in value as interest rates
rise and decline in value when rates fall.
Another effect of changes in interest rates is that as interest rates decrease,
the rate of prepayment of mortgage loans underlying mortgage investments
generally increases. To the extent the proceeds of prepayments on mortgage
investments cannot be reinvested at a rate of interest at least equal to the
rate previously earned on such investments, earnings may be adversely affected.
Because prolonged periods of high prepayments can significantly reduce the
expected life of mortgage investments, the actual yields realized can be lower
due to faster amortization of purchase premiums. In addition, the rates of
interest earned on ARM investments generally will decline during periods of
falling interest rates as the underlying ARM loans reset at lower rates. The
Company may, from time to time, sell mortgage assets. This may increase income
volatility because of the recognition of transactional gains or losses. Such
sales may become attractive as values of mortgage assets fluctuate with changes
in interest rates.
Changes in interest rates also impact earnings recognized from net CMO
investments, which consist primarily of fixed-rate CMO residuals and interest-
only mortgage securities. 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 collateral. If mortgage interest rates fall significantly
below interest rates on the collateral, 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
<PAGE>
the amortization of bond discounts, a noncash item, as bond classes are repaid
more rapidly than originally anticipated. Conversely, if mortgage interest rates
rise significantly above interest rates on the collateral, principal prepayments
will typically diminish, resulting in a greater overall return on an investment
in a fixed-rate CMO residual because of an increase in time over which the
Company receives the larger positive interest spread.
Interest-only mortgage securities behave similarly to CMO residuals. In a
falling interest rate environment, prepayments on the underlying mortgage loans
generally will be higher thereby reducing or even eliminating overall returns on
these securities. Sustained periods of high prepayments can result in losses.
Conversely, in periods of rising interest rates, interest-only mortgage
securities tend to perform favorably because underlying mortgage loans will
generally prepay at slower rates thereby increasing overall returns.
The above discussion regarding how changes in interest rates impact mortgage
assets also applies to the Company's investment in mortgage servicing rights.
When interest rates rise, periodic amortization of amounts paid for mortgage
servicing rights is less since the average lives of the related mortgage loans
tend to be longer and earnings from large, temporarily held cash balances will
be greater. Additionally, mortgage servicing rights become more valuable under
these conditions. Conversely, lower interest rates will spur prepayments thus
reducing the time the Company can service the related loans. Sustained periods
of high prepayments can result in losses on the Company's investment in mortgage
servicing rights, particularly now that the Company has adopted SFAS 122 and
must evaluate this investment for impairment on a disaggregated basis and record
impairment charges if the recorded amount for an individual servicing stratum
exceeds its fair value.
The Company's business plan is to build a mortgage banking operation with
investments in mortgage securities and mortgage servicing with the goal of
producing reasonably balanced operating results in a variety of interest rate
environments. The Company supplements its business plan from time to time with
derivative financial instruments, specifically interest rate floors, which may
be used to hedge certain assets, such as mortgage servicing rights or interest-
only mortgage securities or may be held for trading purposes. Interest rate
floors decrease in value when interest rates rise and increase in value when
rates decline. In instances where floors are designated as hedges, any changes
in value will adjust the basis of the assets hedged. In instances where floors
are held for trading purposes, changes in value will be recorded in income as
they occur, which could increase income volatility.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1996 the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 125, "Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities" ("SFAS 125"). SFAS 125
provides accounting and reporting standards for all types of securitization
transactions involving the transfer of financial assets including repurchase
agreements and collateralized borrowing arrangements. Under SFAS 125 most
securitizations of financial assets other than repurchase agreements would be
recorded as sales. The Company will adopt this pronouncement effective January
1, 1997. Since the Company is no longer an active issuer of CMOs, this adoption
is not expected to have a material impact on the results of operations or
financial position of the Company.
<PAGE>
EXHIBIT 21
LIST OF SUBSIDIARIES OF
CAPSTEAD MORTGAGE CORPORATION
At December 31, 1996 the subsidiaries of Capstead Mortgage Corporation were as
follows:
STATE OF
DOMICILE
--------
PARENT COMPANY
SUBSIDIARY
Capstead Mortgage Corporation ("CMC") Maryland
Capstead Advisers, Inc. Nevada
Capstead Capital Corporation Delaware
Capstead Select Corporation Delaware
Capstead Securities Corporation I Delaware
Capstead Securities Corporation II Delaware
Capstead Securities Corporation III Delaware
Capstead Securities Corporation IV Delaware
CMC Securities Corporation I Nevada
CMC Securities Corporation III Delaware
CMC Securities Corporation IV Delaware
CMC ARM Securities Corporation Delaware
Capstead Inc./(1)/ Delaware
CMC Securities Corporation II/(2)/ Delaware
CMC Investment Partnership/(3)/ Texas
(1) CMC owns all of the issued and outstanding preferred stock.
(2) Capstead Inc. owns all the issued and outstanding common stock.
(3) CMC Investment Partnership is a general partnership owned by CMC and
Capstead Inc.
<PAGE>
EXHIBIT 23
CONSENT OF ERNST & YOUNG LLP
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 22, 1997, included
in the 1996 Annual Report to Stockholders of Capstead Mortgage Corporation.
Our audit also included the financial statement schedule of Capstead Mortgage
Corporation listed in Item 14(a). This schedule is the responsibility of the
Company's management. Our responsibility is to express an opinion based on our
audit. In our opinion, the financial statement schedule referred to above, when
considered in relation to the basic financial statements taken as a whole,
presents 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-3 No. 33-52415)
pertaining to the registration of 1,000,000 shares of common stock for the
Company's Stockholder Investment Program, the Registration Statement (Form S-8
No. 33-53555) pertaining to the 1994 Flexible Long Term Incentive Plan, the
Registration Statement (Form S-3 No. 33-57164) pertaining to the Series B
Preferred Stock Dividend Reinvestment Plan, and in the related prospectuses of
our report dated January 22, 1997, 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 schedule included in
the Annual Report (Form 10-K) of Capstead Mortgage Corporation.
ERNST & YOUNG LLP
Dallas, Texas
March 14, 1997
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from Capstead
Mortgage Corporation Annual Report on Form 10-K for the period ended
December 31, 1996 and is qualified in its entirety by reference to such
financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 21,003
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 10,157,338
<CURRENT-LIABILITIES> 5,568,577
<BONDS> 3,861,892
0
266,396
<COMMON> 447
<OTHER-SE> 460,026
<TOTAL-LIABILITY-AND-EQUITY> 10,157,338
<SALES> 0
<TOTAL-REVENUES> 813,238
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 87,298
<LOSS-PROVISION> 400
<INTEREST-EXPENSE> 598,312
<INCOME-PRETAX> 127,228
<INCOME-TAX> 0
<INCOME-CONTINUING> 127,228
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 127,228
<EPS-PRIMARY> 2.31
<EPS-DILUTED> 2.06
</TABLE>
