<PAGE>1
- -----------------------------------------------------------------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
------------------
For the quarter ended March 31, 1999 Commission file number 1-10360
CRIIMI MAE INC.
(Exact name of registrant as specified in its charter)
Maryland 52-1622022
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
11200 Rockville Pike
Rockville, Maryland 20852
(301) 816-2300
(Address, including zip code, and telephone number,
Including area code, of registrant's principal executive offices)
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Securities Registered Pursuant to Section 12(b) of the Act:
Name of each exchange on
------------------------
Title of each class which registered
- -------------------
Common Stock New York Stock Exchange, Inc.
Series B Cumulative Convertible New York Stock Exchange, Inc.
Preferred Stock
Securities Registered Pursuant to Section 12(g) of the Act:
None
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Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding as of May 10, 1999
----- ------------------------------
Common Stock, $.01 par value 53,553,161
<PAGE>2
CRIIMI MAE INC.
Quarterly Report on Form 10-Q
Page
-----
PART I. Financial Information
Item 1. Financial Statements
Consolidated Balance Sheets - as of March 31, 1999
(unaudited) and December 31, 1998.............................3
Consolidated Statements of Income and Comprehensive Income -
for the three months ended March 31, 1999
and 1998 (unaudited)..........................................4
Consolidated Statements of Changes in Shareholders' Equity -
for the three months ended March 31, 1999
(unaudited)...................................................5
Consolidated Statements of Cash Flows - for the three months
ended March 31, 1999 and 1998 (unaudited).....................6
Notes to Consolidated Financial Statements (unaudited)..........7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations..........................52
Item 2A. Quantitative and Qualitative Disclosures about Market Risk....63
PART II. Other Information
Item 1. Legal Proceedings.............................................64
Item 2. Changes in Securities.........................................64
Item 3. Defaults Upon Senior Securities...............................64
Item 4. Submission of Matters to a Vote of
Security Holders............................................64
Item 5. Other Information.............................................64
Item 6. Exhibits and Reports on Form 8-K..............................64
Signatures ....................................................65
<PAGE>3
PART I
ITEM 1. FINANCIAL STATEMENTS
CRIIMI MAE INC.
CONSOLIDATED BALANCE SHEETS
(Unaudited)
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
-------------- --------------
<S> <C> <C>
Assets:
Mortgage Assets:
Subordinated CMBS, at fair value $1,266,823,181 $1,274,185,678
Insured Mortgage Securities, at fair value 455,476,628 488,095,221
Investment in originated loans, at
amortized cost 491,938,888 499,076,030
Equity Investments 39,343,371 42,868,469
Receivables 48,595,372 46,992,337
Other assets 65,743,801 62,520,146
Cash and cash equivalents 52,990,912 24,180,072
-------------- --------------
Total assets $2,420,912,153 $2,437,917,953
============== ==============
Liabilities:
Liabilities Not Subject to Chapter 11
proceedings:
Securitized mortgage obligations:
Collateralized bond obligations-CMBS $276,534,877 $117,831,435
Collateralized mortgage obligations -
Insured mortgage securities 422,169,564 456,101,720
Collateralized mortgage obligations -
Originated loans 380,207,529 386,752,951
Payables and accrued expenses 20,099,362 17,124,124
Liabilities Subject to Chapter 11 proceedings:
Secured:
Variable rate secured borrowings-CMBS 786,034,133 932,236,674
Other financing facilities 3,050,000 3,050,000
Unsecured:
Senior unsecured notes 100,000,000 100,000,000
Other financing facilities 89,749,522 89,749,522
Payables and accrued expenses 30,438,597 27,194,622
-------------- --------------
Total liabilities 2,108,283,584 2,130,041,048
-------------- --------------
Shareholders' equity:
Convertible preferred stock, $ .01 par;
25,000,000 shares authorized; 1,796,982
and 1,816,982 shares issued and outstanding,
respectively 17,970 18,170
Common stock, $ .01 par; 120,000,000 shares
authorized; 53,553,161 and 52,898,100
shares issued and outstanding, respectively 535,532 528,981
Accumulated Other Comprehensive Income (259,927,719) (251,255,309)
Additional paid-in capital 558,585,837 558,585,063
Shareholders' undistributed net income 13,416,949 --
-------------- --------------
Total shareholders' equity 312,628,569 307,876,905
-------------- --------------
Total liabilities and shareholders' equity $2,420,912,153 $2,437,917,953
============== ==============
The accompanying notes are an integral
part of these consolidated financial
statements.
</TABLE>
<PAGE>4
CRIIMI MAE INC.
CONSOLIDATED STATEMENTS OF INCOME
AND COMPREHENSIVE INCOME
(Unaudited)
<TABLE>
<CAPTION>
For the three months ended March 31,
1999 1998
----------- -----------
<S> <C> <C>
Interest Income:
Subordinated CMBS $38,485,145 $30,891,021
Insured Mortgage Securities 8,900,308 11,588,237
Originated Loans 8,840,827 --
----------- -----------
Total interest income 56,226,280 42,479,258
----------- -----------
Interest and related expenses:
Fixed-rate collateralized bond obligations-CMBS 3,500,520 2,814,166
Fixed-rate collateralized mortgage obligations-insured
securities 8,404,272 10,456,321
Fixed-rate collateralized mortgage obligations-originated loans 6,562,908 --
Fixed-rate senior unsecured notes 2,281,251 2,399,624
Variable-rate secured borrowings-CMBS 13,970,373 11,228,943
Other financing facilities 1,709,606 492,799
----------- -----------
Total interest expense 36,428,930 27,391,853
----------- -----------
Net interest margin 19,797,350 15,087,405
----------- -----------
Equity in (losses) earnings from investments (1,606,632) 1,302,977
Other income 636,032 1,188,057
Net gains on mortgage security dispositions 807,204 46,449
Gain on originated loan disposition 101,400 --
General and administrative expenses (2,634,114) (2,983,757)
Amortization of assets acquired in the Merger (719,394) (719,394)
Unrealized gain on warehouse obligation 3,946,475 --
Reorganization Items (5,507,838) --
----------- -----------
(4,976,867) (1,165,668)
----------- -----------
Minority interest in net income of consolidated subsidiary -- (26,309)
----------- -----------
Net Income before dividends accrued or paid on preferred shares 14,820,483 13,895,428
Dividends paid or accrued on preferred shares (1,403,534) (1,639,497)
----------- -----------
Net income available to common shareholders $13,416,949 $12,255,931
=========== ===========
Net income available to common Shareholders per common share:
Basic $ 0.25 $ 0.29
=========== ===========
Diluted $ 0.23 $ 0.28
=========== ===========
Shares used in computing basic earnings
Per share, exclusive of shares held in treasury 53,008,855 42,904,470
=========== ===========
Comprehensive Income
- --------------------
Net Income before Dividends paid or accrued on preferred shares $14,820,483 $13,895,428
Other Comprehensive Income (8,672,410) 273,240
----------- -----------
Comprehensive Income $ 6,148,073 $14,168,668
=========== ===========
The accompanying notes are an integral
part of these consolidated financial
statements.
</TABLE>
<PAGE>5
CRIIMI MAE INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
For the three months ended March 31, 1999
(Unaudited)
<TABLE>
<CAPTION>
Accumulated
Preferred Common Stock Other Additional Shareholders' Total
Stock Par Par Comprehensive Paid-in Undistributed Shareholders'
Value Value Income Capital Net Income Equity
---------- ----------- ------------- ----------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1998 $ 18,170 $528,981 $(251,255,309) $558,585,063 $ -- $307,876,905
1998
Net income -- -- -- -- 14,820,483 14,820,483
Dividends accrued on
preferred shares -- -- -- -- (1,403,534) (1,403,534)
Dividends paid on
common shares -- -- -- -- -- --
Conversion of preferred
shares into common shares (200) 6,531 -- (6,331) -- --
Shares granted -- 20 -- 7,105 -- 7,125
Adjustment to unrealized
losses on investments -- -- (8,672,410) -- -- (8,672,410)
---------- --------- -------------- ------------ ----------- -----------
Balance, March 31, 1999 $ 17,970 $ 535,532 $(259,927,719) $558,585,837 $13,416,949 $312,628,569
========== ========= ============== ============ =========== ============
</TABLE>
The accompanying notes are an integral part
of these consolidated financial statements.
<PAGE>6
CRIIMI MAE INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
For the three months ended March 31,
1999 1998
----------- -----------
<S> <C> <C>
Cash flows from operating activities:
Net Income
$14,820,483 $13,895,428
Adjustments to reconcile net income to net cash
provided by operating activities:
Amortization of discount and deferred financing
costs on debt 1,506,528 1,318,908
Amortization of assets acquired in the Merger 719,394 719,394
Depreciation and other amortization 856,990 359,521
Discount amortization on mortgage assets (64,874) (891,002)
Net gains on mortgage security dispositions (807,204) (46,449)
Gain on originated loan disposition (101,400) --
Equity in losses (earnings) from investments 3,408,138 (134,758)
Unrealized gain on warehouse obligation (3,946,475) --
Change in reorganization items accrual 1,464,221 --
Minority interests in earnings of consolidated
subsidiary -- 26,309
Changes in assets and liabilities:
Increase in receivables and other assets (2,867,706) (18,303,838)
Increase in payables and accrued expenses 3,351,458 1,073,429
----------- ------------
Net cash provided by (used in) operating activities 18,339,553 (1,983,058)
----------- ------------
Cash flows from investing activities:
Proceeds from mortgage securities dispositions 35,958,198 25,421,328
Purchase of Subordinated CMBS -- (336,975,523)
Funding of loan origination reserve -- (24,273,012)
Payment of deferred costs -- (35,907)
Receipt of principal payments 3,233,261 5,893,080
Other investing activities -- 50,000
----------- ------------
Net cash provided by (used in) investing activities 39,191,459 (329,920,034)
----------- ------------
Cash flows from financing activities:
Proceeds from debt issuances 158,509,207 301,907,350
Principal payments on debt obligations (187,236,504) (52,584,946)
Increase in deferred financing costs -- (1,542,647)
Dividends (including return of capital) accrued or
paid to shareholders, including minority interests -- (18,094,346)
Proceeds from issuance of convertible preferred stock -- 15,000,000
Proceeds from the issuance of common stock 7,125 93,409,671
------------- -------------
Net cash (used in) provided by financing activities (28,720,172) 338,095,082
------------- -------------
Net increase in cash and cash equivalents 28,810,840 6,191,990
Cash and cash equivalents, beginning of the period 24,180,072 2,108,794
------------- -------------
Cash and cash equivalents, end of the period $ 52,990,912 $ 8,300,784
============= =============
The accompanying notes are an integral part of these consolidated
financial statements.
</TABLE>
<PAGE>7
CRIIMI MAE INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION
General
CRIIMI MAE Inc. (together with its consolidated subsidiaries, unless
the context otherwise indicates, "CRIIMI MAE" or the "Company") is a fully
integrated commercial mortgage company structured as a self-administered real
estate investment trust ("REIT"). On October 5, 1998 (the "Petition Date"),
CRIIMI MAE (unconsolidated) and two of its consolidated operating subsidiaries,
CRIIMI MAE Management, Inc. ("CM Management"), and CRIIMI MAE Holdings II, L.P.
("Holdings II" and, together with CRIIMI MAE and CM Management, the "Debtors")
filed for relief under Chapter 11 of the U.S. Bankruptcy Code in the United
States Bankruptcy Court for the District of Maryland, Southern Division in
Greenbelt, Maryland (the "Bankruptcy Court"). These related cases are being
jointly administered under the caption "In re CRIIMI MAE Inc., et al.," Ch. 11
Case No. 98-2-3115-DK.
Prior to the Petition Date, CRIIMI MAE's primary activities included
(i) acquiring non-investment grade securities (rated below BBB-) or unrated
securities backed by pools of mortgage loans on multifamily, retail and other
commercial real estate ("Subordinated CMBS"), (ii) originating and underwriting
commercial mortgage loans, (iii) securitizing pools of commercial mortgage loans
and resecuritizing pools of Subordinated CMBS, and (iv) through the Company's
servicing affiliate, CRIIMI MAE Services Limited Partnership ("CMSLP"),
performing servicing functions with respect to the mortgage loans underlying the
Company's Subordinated CMBS. Since filing for Chapter 11 protection, CRIIMI MAE
has suspended its Subordinated CMBS acquisition, origination and securitization
programs. The Company continues to hold a substantial portfolio of Subordinated
CMBS and other mortgage and mortgage related assets and, through CMSLP, to act
as a servicer for its own as well as third party securitized mortgage loan
pools.
The Company's business is subject to a number of risks and
uncertainties including, but not limited to: (1) the effect of the Chapter 11
filing and substantial doubt as to the Company's ability to continue as a going
concern; (2) risk of loss of REIT status; (3) Taxable Mortgage Pool risk; (4)
substantial leverage; (5) inherent risks in owning Subordinated CMBS; (6) the
limited protection provided by hedging transactions; (7) risk of foreclosure on
CMBS assets; (8) limited liquidity of the CMBS market; (9) pending litigation;
(10) risk of being deemed an Investment Company; (11) possible adverse effects
of an economic recession on losses and defaults; and (12) information technology
risks associated with the Year 2000.
In addition to the two operating subsidiaries which filed for Chapter
11 protection with the Company, the Company owns 100% of multiple financing and
operating subsidiaries as well as various interests in other entities (including
CMSLP) which either own or service mortgage and mortgage-related assets (the
"Non-Debtor Affiliates"). See Note 3. None of the Non-Debtor Affiliates has
filed for bankruptcy protection.
The Company is working diligently toward the preparation of a plan of
reorganization. The Bankruptcy Court has granted the motion to extend the
Company's exclusive right to file a plan of reorganization through August 2,
1999 and to solicit acceptances thereof through October 3, 1999. Management
expects to file a plan of reorganization during the summer of 1999, which would
contemplate the Company's emergence from bankruptcy later in 1999. There can be
no assurance at this time, however, that a plan of reorganization will be
proposed by the Company during such time or that such plan will be confirmed and
consummated.
While in bankruptcy, the Company has been streamlining its operations
in an effort to reduce operating expenses. The Company significantly reduced the
number of employees in its originations and underwriting operations in October
1998, but has retained key employees in each of these operational areas. In
connection with these reductions, the Company closed its five regional loan
origination and underwriting offices, retaining only a core presence in
Rockville, Boston, Houston, Chicago and San Francisco.
<PAGE>8
Although the Company has significantly reduced its work force, the
Company recognizes that retention of its executive management and other
remaining employees is essential to the efficient operation of its business and
to its reorganization efforts. Accordingly, the Company has, with Bankruptcy
Court approval, adopted an employee retention plan. See Note 14.
The Company's independent public accountants have issued a report on
the Company's 1998 financial statements expressing substantial doubt about the
Company's ability to continue as a going concern. In addition, the Company has
been advised by its independent public accountants that, if the reorganization
plan is not approved by the Bankruptcy Court prior to the completion of their
audit of the Company's financial statements for the year ended December 31,
1999, the auditors' report on those financial statements will be modified due to
substantial doubt about the Company's ability to continue as a going concern.
The Company was incorporated in Delaware in 1989 under the name CRI
Insured Mortgage Association, Inc. ("CRI Insured"). In July 1993, CRI Insured
changed its name to CRIIMI MAE Inc. and reincorporated in Maryland. In June
1995, certain mortgage businesses affiliated with C.R.I., Inc. were merged into
CRIIMI MAE (the "Merger"). The Company is not a government sponsored entity or
in any way affiliated with the United States government or any United States
government agency.
Effect of Chapter 11 Filing on REIT Status and Other Tax Matters
REIT Status. CRIIMI MAE is required to meet income, asset, ownership
and distribution tests to maintain its REIT status. The Company has satisfied
the REIT requirements for all years through, and including, 1998. However, due
to the uncertainty resulting from its Chapter 11 filing, there can be no
assurance that CRIIMI MAE will retain its REIT status for 1999 or subsequent
years. If the Company fails to retain its REIT status for any taxable year, it
will be taxed as a regular domestic corporation subject to federal and state
income tax in the year of disqualification and for at least the four subsequent
years.
The Company's 1999 Taxable Income. As a REIT, CRIIMI MAE is generally
required to distribute at least 95% of its "REIT taxable income" to its
shareholders each tax year. For purposes of this requirement, REIT taxable
income excludes certain excess noncash income such as original issue discount
("OID"). In determining its federal income tax liability, CRIIMI MAE, as a
result of its REIT status, is entitled to deduct from its taxable income
dividends paid to its shareholders. Accordingly, to the extent the Company
distributes its net income to shareholders, it effectively reduces taxable
income, on a dollar-for-dollar basis, and eliminates the "double taxation" that
normally occurs when a corporation earns income and distributes that income to
shareholders in the form of dividends. The Company, however, still must pay
corporate level tax on any 1999 taxable income not distributed to shareholders.
Unlike the 95% distribution requirement, the calculation of the Company's
federal income tax liability does not exclude excess noncash income such as OID.
Should CRIIMI MAE terminate or fail to maintain its REIT status during the year
ended December 31, 1999, the tax liability on the first quarter's taxable income
of approximately $19.6 million would be approximately $7.8 million.
In determining the Company's taxable income for 1999, distributions
declared by the Company on or before September 15, 2000 and actually paid by the
Company on or before December 31, 2000 will be considered as dividends paid for
the 1999 year. The Company is currently exploring a variety of methods for
distributing the some or all of its 1999 taxable income, including the potential
distribution of securities or other noncash dividend payments. As a result of
the Chapter 11 filing, there can be no assurance that the Company will be able
to make distributions with respect to its 1999 taxable income.
1999 Excise Tax Liability. Apart from the requirement that the Company
distribute at least 95% of its REIT taxable income to maintain REIT status,
CRIIMI MAE is also required each calendar year to distribute an amount at least
equal to the sum of 85% of its "REIT ordinary income" and 95% of its "REIT
capital gain income" to avoid incurring a nondeductible excise tax. Unlike the
95% distribution requirement, the 85% distribution requirement is not reduced by
excess noncash income items such as OID. In addition, in determining the
Company's excise tax liability, only dividends actually paid in 1999 will reduce
the amount of income subject to this excise tax.
<PAGE>9
The Company's 1998 Taxable Income. For 1998, the Company could have up
to approximately $18 million in undistributed taxable income, resulting in a
potential tax liability of up to $7 million for state and federal taxes. The
Company is currently exploring a variety of methods for distributing some or
all of its 1998 taxable income, including the potential distribution of
securities or other noncash dividend payments. As a result of the Chapter 11
filing, there can be no assurance that the Company will be able to make
distributions with respect to its 1998 taxable income.
Taxable Mortgage Pool Risks. An entity that constitutes a "taxable
mortgage pool" as defined in the Tax Code ("TMP") is treated as a separate
corporate level taxpayer for federal income tax purposes. In general, for an
entity to be treated as a TMP (i) substantially all of the assets must consist
of debt obligations and a majority of those debt obligations must consist of
mortgages; (ii) the entity must have more than one class of debt securities
outstanding with separate maturities and (iii) the payments on the debt
securities must bear a relationship to the payments received from the mortgages.
The Company currently owns all of the equity interests in three trusts that
constitute TMPs (CBO-1, CBO-2 and CMO-IV, collectively the "Trusts"). See Notes
5 and 6 for descriptions of CBO-1, CBO-2 and CMO-IV. The statutory provisions
and regulations governing the tax treatment of TMPs (the "TMP Rules") provide an
exemption for TMPs that constitute "qualified REIT subsidiaries" (that is,
entities whose equity interests are wholly owned by a REIT). As a result of this
exemption and the fact that the Company owns all of the equity interests in each
Trust, the Trusts currently are not required to pay a separate corporate level
tax on income they derive from their underlying mortgage assets.
The Company also owns certain securities structured as bonds (the
"Bonds") issued by each of the Trusts. Certain of the Bonds owned by the Company
serve as collateral (the "Pledged Bonds") for short-term, variable-rate
borrowings used by the Company to finance their initial purchase. If the
creditors holding the Pledged Bonds were to seize or sell this collateral and
the Pledged Bonds were deemed to constitute equity interests (rather than debt)
in the Trusts, then the Trusts would no longer qualify for the exemption under
the TMP Rules provided for qualified REIT subsidiaries. The Trusts would then be
required to pay a corporate level federal income tax. As a result, available
funds from the underlying mortgage assets that would ordinarily be used by the
Trusts to make payments on certain securities issued by the Trust (including the
equity interests and the Pledged Bonds) would instead be applied to tax
payments. Since the equity interests and Bonds owned by the Company are the most
subordinated securities and, therefore, would absorb payment shortfalls first,
the loss of the exemption under the TMP rules could have a material adverse
effect on their value and the payments received thereon.
In addition to causing the loss of the exemption under the TMP Rules, a
seizure or sale of the Pledged Bonds and a characterization of them as equity
for tax purposes could also jeopardize the Company's REIT status if the value of
the remaining ownership interests in any Trust held by the Company (i) exceeded
5% of the total value of the Company's assets or (ii) constituted more than 10%
of the Trust's voting interests.
2. INVESTMENT COMPANY ACT OF 1940
Under the Investment Company Act of 1940, as amended (the "Investment
Company Act"), an investment company is required to register with the SEC and is
subject to extensive restrictive and potentially adverse regulation relating to,
among other things, operating methods, management, capital structure, dividends
and transactions with affiliates. However, as described below, companies that
are primarily engaged in the business of acquiring mortgages and other liens on
and interests in real estate ("Qualifying Interests") are exempted by the
Investment Company Act.
To qualify for the Investment Company Act exemption, CRIIMI MAE, among
other things, must maintain at least 55% of its assets in Qualifying Interests
(the "55% Requirement") and is also required to maintain an additional 25% in
Qualifying Interests (the "25% Requirement") or other real estate-related assets
("Other Real Estate Interests"). According to current SEC staff interpretations,
<PAGE>10
CRIIMI MAE believes that its government insured mortgage securities and
originated loans constitute Qualifying Interests. In accordance with current SEC
staff interpretations, the Company believes that all of its Subordinated CMBS
constitute Other Real Estate Interests and that certain of its Subordinated CMBS
also constitute Qualifying Interests. On certain of the Company's Subordinated
CMBS, the Company, along with other rights, has the unilateral right to direct
foreclosure with respect to the underlying mortgage loans. As a result of
obtaining such right, the Company believes that the related Subordinated CMBS
constitute Qualifying Interests. As of March 31, 1999, the Company believes that
it was in compliance with both the 55% Requirement and the 25% Requirement.
If the SEC or its staff were to take a different position with respect
to whether such Subordinated CMBS constitute Qualifying Interests, the Company
could, among other things, be required either (i) to change the manner in which
it conducts its operations to avoid being required to register as an investment
company or (ii) to register as an investment company, either of which could have
a material adverse effect on the Company. If the Company were required to change
the manner in which it conducts its business, it would likely have to dispose of
a significant portion of its Subordinated CMBS or acquire significant additional
assets that are Qualifying Interests. Alternatively, if the Company were
required to register as an investment company, it expects that its operating
expenses would significantly increase and that the Company would have to reduce
significantly its indebtedness, which could also require it to sell a
significant portion of its assets. No assurances can be given that any such
dispositions or acquisitions of assets, or deleveraging, could be accomplished
on favorable terms.
Further, if the Company were deemed an unregistered investment company,
the Company could be subject to monetary penalties and injunctive relief. The
Company would be unable to enforce contracts with third parties and third
parties could seek to obtain rescission of transactions undertaken during the
period the Company was deemed an unregistered investment company. In addition,
as a result of the Company's Chapter 11 filing, the Company is limited in
possible actions it may take in response to any need to modify its business plan
in order to register as an investment company, or avoid the need to register.
Certain dispositions or acquisitions of assets would require Bankruptcy Court
approval. Also, any forced sale of assets that occurs after the bankruptcy stay
is lifted would change the Company's asset mix, potentially resulting in the
need to register as an investment company under the Investment Company Act or
take further steps to change the asset mix. Any such results would be likely to
have a material adverse effect on the Company.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
In management's opinion, the accompanying unaudited consolidated
financial statements of CRIIMI MAE, CM Management Holdings II, CRIIMI MAE
Financial Corporation, CRIIMI MAE Financial Corporation II, CRIIMI MAE Financial
Corporation III, CRIIMI MAE QRS 1, Inc., CRIIMI MAE CMBS Corp., CRIIMI MAE
Holding Inc., CRIIMI MAE Holding L.P., Holdings L.P. and CRIIMI, Inc., contain
all adjustments (consisting of only normal recurring adjustments and
conolidating adjustments) necessary to present fairly the consolidated balance
sheets as of March 31, 1999 and December 31, 1998, the consolidated results of
its operations for the three months ended March 31, 1999 and 1998 and its cash
flows for the three months ended March 31, 1999 and 1998.
These unaudited consolidated financial statements have been prepared
pursuant to the rules and regulations of the SEC. Certain information and note
disclosures normally included in annual financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted. While management believes that the disclosures presented are adequate
to make the information not misleading, it is recommended that these
consolidated financial statements be read in conjunction with the consolidated
financial statements and the notes included in CRIIMI MAE's Annual Report filed
on Form 10-K for the year ended December 31, 1998.
Method of Accounting
The consolidated financial statements of CRIIMI MAE are prepared on the
accrual basis of accounting in accordance with generally accepted accounting
principles ("GAAP"). The preparation of financial statements in conformity with
GAAP requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
<PAGE>11
Reclassifications
Certain amounts in the consolidated financial statements for the three
months ended March 31, 1998 have been reclassified to conform to the 1999
presentation.
Bankruptcy Accounting
Entering a reorganization, although a significant event, does not
ordinarily affect or change the application of GAAP followed by a company. The
accompanying financial statements have been prepared assuming that CRIIMI MAE
will continue as a going concern in accordance with SOP 90-7, "Financial
Reporting by Entities in Reorganization under the Bankruptcy Code" ("SOP 90-7").
As such, asset and liability carrying amounts do not purport to represent
realizable or settlement values as contemplated by the Bankruptcy Code.
Liabilities Subject to Chapter 11 Proceedings
Liabilities subject to Chapter 11 proceedings, including claims that
become known after the petition date, are reported at their expected allowed
claim amount in accordance with SFAS No. 5, "Accounting for Contingencies". To
the extent that the amounts of claims change as a result of actions in the
bankruptcy case or other factors, the recorded amount of liabilities subject to
Chapter 11 proceeding will be adjusted. The gain or loss resulting from the
entries to record the adjustment will be recorded as a reorganization item.
Reorganization Items
Reorganization items are items of income and expense that are realized
or incurred by CRIIMI MAE because it is in reorganization. These include, but
are not limited to the following:
o Short-term interest income that would not have been earned but for the
Bankruptcy.
o Professional fees and similar types of expenditures directly
relating to the Chapter 11 proceeding.
o Employee Retention Program costs and severance payments.
o Loss accruals or realized gains or losses resulting from activities of the
reorganization process.
For the three months ended March 31, 1999, reorganization items were
$5.5 million. The components of this total are as follows:
Reorganization Item Amount
------------------- ----------
Short-term interest income $ (232,400)
Professional fees 5,140,000
Employee Retention Program accrued costs 542,897
Other 57,341
----------
Total $5,507,838
==========
Condensed Financial Statements
In accordance with SOP 90-7, the three debtor entities, CRIIMI MAE, CM
Management and Holdings II, are rquired to present condensed financial
statements for the period January 1, 1999 through March 31, 1999. (See Note 18).
Cash and Cash Equivalents
Cash and cash equivalents consist of U.S. Government and agency
securities, certificates of deposit, time deposits and commercial paper with
original maturities of three months or less.
<PAGE>12
Transfer of Financial Assets
The Company transfers assets (mortgages and mortgage securities) in
securitization transactions where the transferred assets become the sole source
of repayment for newly issued debt. When both legal and control rights to a
financial asset are transferred, the transfer is treated as a sale. Transfers
are assessed on an individual component basis. In a securitization, the cost
basis of the original assets transferred is allocated to each of the new
financial components based upon the relative fair value of the new financial
components. For components where sale treatment is achieved, a gain or loss is
recognized for the difference between that component's allocated cost basis and
fair value. For components where sale treatment is not achieved, an asset is
recorded representing the allocated cost basis of the new financial components
retained and the related incurrence of debt is also recorded. In transactions
where none of the components are sold, the Company recognizes the incurrence of
debt and the character of the collateralizing assets remains unchanged.
Income Recognition and Carrying Basis
Subordinated CMBS
On May 8, 1998, CRIIMI MAE consummated a transaction which resulted in
the sale of a portion of its Subordinated CMBS portfolio (see Note 5). As a
result of the CBO-2 transaction and in accordance with GAAP, effective in the
second quarter of 1998, the Company no longer classifies CMBS securities as Held
to Maturity, but instead classifies CMBS as Available for Sale. CRIIMI MAE
carries its Subordinated CMBS at fair market value where changes in fair value
are recorded as a component of shareholders' equity (see Note 5). Prior to mid-
1998, such securities were carried at their amortized cost basis as the Company
had the ability and intent to hold these securities to maturity.
CRIIMI MAE recognizes income from Subordinated CMBS using the effective
interest method, using the anticipated yield over the projected life of the
investment. Changes in anticipated yields are generally due to revisions in
estimates of future credit losses, actual losses incurred, revisions in
estimates of future prepayments and actual prepayments received. Changes in
anticipated yield resulting from prepayments are recognized through a cumulative
catch-up adjustment at the date of the change which reflects the change in
income of the security from the date of purchase through the date of change in
anticipated yield. The new yield is then used for income recognition for the
remaining life of the investment. Changes in anticipated yield resulting from
reduced estimates of losses are recognized on a prospective basis.
Investment in Originated Loans
This portfolio consists of commercial loans originated and securitized
by CRIIMI MAE in CMO-IV. The origination fee income, application fee income and
costs associated with originating the loans were deferred ("deferred loan
costs") and the net amount was added to the basis of the loans on the balance
sheet upon acquisition. Income is recognized using the effective interest method
and consists of mortgage income from the loans and amortization of deferred loan
costs. Expenses of this portfolio consist of interest expense, discount
amortization on the bonds sold and amortization of costs incurred in connection
with the securitization. CRIIMI MAE has the intent to hold these loans for the
foreseeable future and therefore the originated loans are classified as Held for
Investment and recorded at amortized cost on the balance sheet.
Insured Mortgage Securities
CRIIMI MAE's consolidated investment in mortgage securities consists of
participation certificates evidencing a 100% undivided beneficial interest in
Government Insured Multifamily Mortgages issued or sold pursuant to programs of
the Federal Housing Administration ("FHA") ("FHA-Insured Certificates") and
mortgage-backed securities guaranteed by the Government National Mortgage
Association ("GNMA") ("GNMA Mortgage-Backed Securities"). Payment of principal
and interest on FHA-Insured Loans is insured by the U.S. Department of Housing
and Urban Development (HUD) pursuant to Title 2 of the National Housing Act.
Payment of principal and interest on GNMA Mortgage-Backed Securities is
guaranteed by GNMA pursuant to Title 3 of the National Housing Act.
<PAGE>13
As a result of the CBO-2 transaction involving the sale of a portion of
its Subordinated CMBS portfolio (see Note 5), the Company, in accordance with
GAAP, no longer classifies its insured mortgage securities as Held to Maturity.
The Company's mortgage securities are now classified as Available for Sale. As a
result, the Company now carries its mortgage securities at fair value where
changes in fair value are recorded as a component of shareholders' equity. Prior
to this time, the securities were carried at their amortized cost basis as the
Company had the ability and intent to hold these securities to maturity.
The difference between the cost and the unpaid principal balance at the
time of purchase is carried as a discount or premium and amortized over the
remaining contractual life of the mortgage using the effective interest method.
The effective interest method provides a constant yield of income over the term
of the mortgage.
Mortgage income consists of amortization of the discount plus the
stated mortgage interest payments received or accrued less amortization of the
premium.
Equity Investments
CRIIMI, Inc., a wholly owned subsidiary of CRIIMI MAE, owns all of the
general partnership interests in American Insured Mortgage Investors L.P,
American Insured Mortgage Investors L.P. - Series 85, American Insured Mortgage
Investors L.P. - Series 86 and American Insured Mortgage Investors L.P. - Series
88 (the "AIM Funds"). The AIM Funds own mortgage assets which are substantially
similar to Insured Mortgage Securities owned by CRIIMI MAE. CRIIMI, Inc.
receives the general partner's share of income, loss and distributions (which
ranges among the AIM Funds from 2.9% to 4.9%) from each of the AIM Funds. In
addition, CRIIMI MAE and CM Management each own 50% of the limited partnership
that owns a 20% limited partnership interest in the adviser to the AIM Funds.
CRIIMI MAE is utilizing the equity method of accounting for its investment in
the AIM Funds and the advisory partnership, which provides for recording CRIIMI
MAE's share of net earnings or losses in the AIM Funds and advisory partnership
reduced by distributions from the limited partnerships and adjusted for purchase
accounting amortization.
CRIIMI MAE accounts for its investment in CRIIMI MAE Services, Inc.
("Services Inc.") under the equity method because it does not own the voting
common stock of Services Inc. As of March 31, 1999, Services Inc.
holds a 27% general partner interest in CMSLP.
As of March 31, 1999, CRIIMI MAE, through CM Management, held a 73%
limited partnership interest in CMSLP. CRIIMI MAE's limited partner investment
in CMSLP is accounted for under the equity method as CRIIMI MAE does not control
CMSLP. However, because it owns 73% of the partnership and because it has
certain rights described below, it follows the equity method of accounting. As a
limited partner, CRIIMI MAE is entitled to all of the rights and benefits of
being a limited partner including the right to receive income and cash
distributions in accordance with its limited partner interest. In addition,
CRIIMI MAE has the right to approve the sale of the principal assets of CMSLP.
Services Inc. is the general partner of CMSLP and manages the day to day affairs
of CMSLP.
Impairment
Subordinated CMBS
CRIIMI MAE assesses each Subordinated CMBS for other than temporary
impairment when the fair market value of the asset declines below amortized cost
and when one of the following conditions also exists: 1) fair value has been
below amortized cost for a significant period of time and CRIIMI MAE concludes
that it no longer has the ability to hold the security for the period that fair
value is expected to be below amortized cost through the period of time CRIIMI
MAE expects the value to recover to amortized cost or 2) the credit quality of
its Subordinated CMBS is declining and the Company determines that the current
estimate of expected future credit losses exceeds credit losses as originally
projected. The amount of impairment loss is measured by comparing the fair
value, based on available market information, of a Subordinated CMBS to its
current amortized cost basis, the difference is recognized as a loss in the
income statement.
The Company assesses current economic events and conditions that impact
the value of its Subordinated CMBS and the underlying real estate in making
judgements as to whether or not other than temporary impairment has occurred.
The Company did not recognize any impairment for the three months ended March
31, 1999 and 1998.
<PAGE>14
Investment in Originated Loans
CRIIMI MAE recognizes impairment on the originated loans when it is
probable that CRIIMI MAE will not be able to collect all amounts due according
to the contractual terms of the loan agreement. CRIIMI MAE measures impairment
based on the present value of expected future cash flows discounted at the
loan's effective interest rate or the fair value of the collateral if the loan
is collateral dependent.
Insured Mortgage Securities
CRIIMI MAE assesses each Insured Mortgage Security for other than
temporary impairment when the fair market value of the asset declines below
amortized cost for a significant period of time and CRIIMI MAE concludes that it
no longer has the ability to hold the security through the market downturn. The
amount of impairment loss is measured by comparing the fair value of an Insured
Mortgage Security to its current carrying amount, the difference is recognized
as a loss in the income statement.
Equity Investments
Impairment is recognized on CRIIMI MAE's investments accounted for
under the equity method if a decline in the market value of the investment below
its carrying basis is judged to be "other than temporary". In this case an
unrealized loss is recognized as the difference between the fair value and
carrying amount.
Receivables
Receivables primarily consist of interest and principal receivables on
the Company's Subordinated CMBS, Insured Mortgage Securities and Originated Loan
portfolios. In addition, prepayments in the Insured Mortgage Securities
portfolio that have not yet been received by CRIIMI MAE are included.
Other Assets
Other Assets primarily include Merger assets and related costs,
deferred financing costs, deferred costs, investment in mezzanine loans and a
deposit account, as further discussed below. Additionally included in Other
Assets is Real Estate Owned (REO) property acquired through foreclosure that
will be held for the long-term. In June 1997, CRIIMI MAE acquired a real estate
property in a foreclosure sale from a CMBS trust. CMSLP also serves as the
special servicer and CRIIMI MAE owns a portion of the subordinated tranches in
the same trust. As of March 31, 1999, CRIIMI MAE's investment in REO property
totaled approximately $3.9 million. REO property acquired through foreclosure is
recorded at fair value on the date of foreclosure. Such assets will be evaluated
for impairment by the Company when events or changes in circumstances indicate
that the carrying amount of the asset may not be recoverable. At such time, if
the expected future undiscounted cash flows from the property are less than the
cost basis, the assets will be marked down to fair value. Costs relating to
development and improvement of property are capitalized, provided that the
resulting carrying value does not exceed fair value. Costs relating to holding
the assets are expensed.
The Merger assets acquired and costs incurred in connection with the
Merger were recorded using the purchase method of accounting. The amounts
allocated to the assets acquired were based on management's estimate of their
fair values, with the excess of purchase price over fair value allocated to
goodwill. The AIM Funds' subadvisory contracts and the mortgage servicing
contracts transferred to CMSLP are amortized using the effective interest method
over 10 years. This amortization is reflected through CRIIMI MAE's equity in
earnings from investments. The remaining assets acquired by CRIIMI MAE,
including goodwill, are amortized using the straight-line method over 10 years.
Deferred costs are costs incurred in connection with the establishment
of CRIIMI MAE's financing facilities and are amortized using the effective
interest method over the terms of the borrowings. Also included in deferred
costs are mortgage selection fees, which were paid to the Adviser or were paid
<PAGE>15
to the former general partners or adviser to the predecessor entities of CRI
Liquidating (collectively, the "CRIIMI Funds"). These deferred costs are being
amortized using the effective interest method on a specific mortgage basis from
the date of the acquisition of the related mortgage over the term of the
mortgage from CRIIMI MAE. Upon disposition of a mortgage, the related
unamortized fee is treated as part of the mortgage asset carrying value in order
to measure the gain or loss on the disposition. As a result of the Chapter 11
filing, CRIIMI MAE wrote off all deferred costs in connection with its financing
facilities that are subject to the Chapter 11 filing.
Costs incurred in connection with the loan origination programs are
netted against any origination fees received and the net amount is deferred and
will be recognized using the effective interest method over the life of the
intended securitization of the loans. These costs include a one-time fee to the
financial institution and direct costs of originating the loans for the program.
All net deferred costs are written off if the Company and the financial
institution decide to sell the loans in the warehouse program. In addition, the
Company is required to fund the estimated subordinated levels for the
securitization of the loans originated through its loan origination programs.
This subordinated level is held as a deposit at the financing institution and is
reflected in Other Assets. Due to the financial institution taking title to the
loans during the warehousing period and bearing substantive risk for the
investment portion of each loan, the originated loans are not recorded on the
Company's balance sheet during the warehouse period.
Discount on Securitized Mortgage Obligation Issuances
Discounts incurred in connection with the issuance of debt are
amortized using the effective interest method over the projected term of the
related debt, which is based on management's estimate of prepayments on the
underlying collateral and are included as a component of interest expense.
Interest Rate Protection Agreements
CRIIMI MAE acquires interest rate protection agreements to reduce its
exposure to interest rate risk. The costs of such agreements which qualify for
hedge accounting are included in other assets and are amortized over the
interest rate agreement term. To qualify for hedge accounting, the interest rate
protection agreement must meet two criteria: (i) the debt to be hedged exposes
CRIIMI MAE to interest rate risk and (ii) the interest rate protection agreement
reduces CRIIMI MAE's exposure to interest rate risk. In the event that interest
rate protection agreements are terminated, the associated gain or loss is
deferred over the remaining term of the agreement, provided that the underlying
hedged asset or liability still exists. Amounts to be paid or received under
interest rate protection agreements are accrued currently and are netted with
interest expense for financial statement presentation purposes. Additionally, in
the event that interest rate protection agreements do not qualify as hedges,
such agreements are reclassified to be investments accounted for at fair value,
with any gain or loss included as a component of income.
Per Share Amounts
Basic earnings per share amounts for the three months ended March 31,
1999 and 1998 represent net income available to common shareholders divided by
the weighted average common shares outstanding during each quarter. Diluted
earnings per share amounts for the three months ended March 31, 1999 and 1998
represent basic earnings per share adjusted for dilutive common stock
equivalents which for CRIIMI MAE include stock options and certain series of
preferred stock. See Note 13 for a reconciliation of basic earnings per share to
diluted earnings per share.
Consolidated Statements of Cash Flows
Cash payments made for interest for the three months ended March 31,
1999 and 1998, were $29,960,056, and $24,442,342, respectively.
Comprehensive Income
Comprehensive income is the change in shareholders' equity during a
period from transactions from nonowner sources. For CRIIMI MAE, this includes
net income before dividends paid or accrued on preferred shares adjusted for
unrealized gains and losses related to CRIIMI MAE's "Available for Sale"
Subordinated CMBS and mortgage securities carried at fair value. Net unrealized
gains and losses are reported in the shareholders' equity section of the balance
sheet.
<PAGE>16
New Accounting Statements
During 1998, FASB issued SFAS No. 133 "Accounting for Derivative
Instruments and for Hedging Activities" ("FAS 133"). FAS 133 establishes
accounting and reporting standards for derivative investments and for hedging
activities. It requires that an entity recognize all derivatives as either
assets or liabilities in the statement of financial position and measure those
instruments at fair value. If certain conditions are met, a derivative may be
specifically designated as a hedge. The accounting for the changes in the fair
value of a derivative depends on the intended use of the derivative and the
resulting designation. FAS 133 is effective for the Company beginning January 1,
2000. The Company is evaluating the eventual impact of FAS 133 on its financial
statements.
4. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following estimated fair values of CRIIMI MAE's consolidated
financial instruments are presented in accordance with GAAP, which define fair
value as the amount at which a financial instrument could be exchanged in a
current transaction between willing parties, in other than a forced sale or
liquidation. These values do not represent the liquidation value of the Company
or the value of the securities under a portfolio liquidation.
<TABLE>
<CAPTION>
As of March 31, 1999 As of December 31, 1998
Amortized Cost Fair Value Amortized Cost Fair Value
-------------- ----------- -------------- ----------
<S> <C> <C> <C> <C>
ASSETS:
Subordinated CMBS $1,529,980,605 $1,266,823,181 $1,529,898,540 $1,274,185,678
Insured Mortgage Securities 452,246,923 455,476,628 483,637,668 488,095,221
Originated loans 491,938,888 469,061,637 499,076,030 480,485,570
Cash and cash equivalents 52,990,912 52,990,912 24,180,072 24,180,072
Accrued interest and principal receivable 48,595,372 48,595,372 46,992,337 46,992,337
Interest rate protection agreements 2,173,510 678,958 2,531,371 992,516
LIABILITIES:
Liabilities not Subject to Chapter 11 proceedings:
Securitized mortgage obligations:
Collateralized bond obligations-CMBS $ 276,534,877 $ 262,934,196 $ 117,831,435 $ 105,799,081
Collateralized insured mortgage obligations 422,169,564 444,855,150 456,101,720 486,179,236
Collateralized mortgage obligations-
originated loans 380,207,529 371,382,098 386,752,951 381,481,150
Liabilities Subject to Chapter 11 proceedings:
Variable rate secured borrowings-CMBS 786,034,133 N/A 932,236,674 N/A
Senior unsecured notes 100,000,000 70,000,000 100,000,000 62,000,000
Other financing facilities 92,799,522 N/A 92,799,522 N/A
</TABLE>
The following methods and assumptions were used to estimate the fair
value of each class of financial instruments:
Subordinated CMBS
For periods prior to the year ended December 31, 1998, the fair market
value of the Company's portfolio of Subordinated CMBS was based upon quotes
obtained from, in most cases, the lender to which the security was pledged. The
lender also quoted the related unrated bonds even though the bonds did not serve
as collateral for CRIIMI MAE's obligations. The Company obtained "ask" quotes as
<PAGE>17
compared to "bid" quotes because it is the owner of the securities. Due to the
Chapter 11 filing, the Company's lenders were not willing to provide fair value
quotes for the CMBS portfolio as of March 31, 1999 and December 31, 1998. As a
result, the Company calculated the estimated fair market value of its
Subordinated CMBS portfolio as of March 31, 1999 and December 31, 1998. The
Company used a discounted cash flow methodology to estimate the fair value of
its Subordinated CMBS portfolio. The projected cash flows used by the Company
were the same collateral cash flows used to calculate the anticipated weighted
average unleveraged yield to maturity. See Note 5. The cash flows were then
discounted using a discount rate that, in the Company's view, was commensurate
with the market's perception of risk and value. The Company used a variety of
sources to determine its discount rate including: (i) institutionally-available
research reports, (ii) a relative comparison of dealer provided discount rates
from the previous quarter to those disclosed in recent research reports and
incorporating adjustments to reflect changes in the market as they relate to
each of the Company's CMBS from September 30, 1998 to December 31, 1998 to March
31, 1999, and (iii) communications with dealers and active Subordinated CMBS
investors regarding the year-end valuation of comparable securities. Since the
Company calculated the estimated fair market value of its Subordinated CMBS
portfolio as of March 31, 1999 and December 31, 1998, it has disclosed in Note 5
the range of discount rates by rating category used in determining these fair
market values.
During the quarter ended March 31, 1999, spreads tightened in the
market, generally, as compared to spreads at December 31, 1998. The tightening
of spreads was offset by an increase in treasury rates which caused an
aggregate $8.7 million decrease in the value of the Company's portfolio of CMBS
and the Company's portfolio of FHA's and GNMA's from December 31, 1998.
Insured Mortgage Securities
The fair value of the insured mortgage securities is based on the
quoted market price from an investment banking institution which trades these
instruments as part of its day-to-day activities.
Originated Loans
Due to the Chapter 11 filing, the Company's lenders were not willing to
provide fair value quotes for the portfolio. As a result, the Company calculated
the estimated fair market value of its Originated Loan portfolio. The Company
used the same discounted cash flow methodology used in determining the fair
value of its Subordinated CMBS portfolio and further used cash flows projected
at a prepayment speed of 0% to 14% depending upon the call protection of the
loan. These cash flows were then discounted using a weighted average discount
rate of approximately 8%, which the Company believes was commensurate with the
market's perception of risk and value.
Cash and Cash Equivalents, Accrued Interest and Principal Receivable
The carrying amount approximates fair value because of the short
maturity of these instruments.
<PAGE>18
Obligations Under Financing Facilities
The fair value of the securitized mortgage obligations are calculated
using a discounted cash flow methodology. The fair value of the unsecured notes
was calculated using a quoted market price from Bloomberg. Management has
determined that fair value of the variable-rate secured borrowings-CMBS and
other financing facilities is not practicable to measure because there is no
quoted market price available and the facilities are in default and have been
the subject of dispute as discussed in Note 9. See Note 9 for a detailed
discussion of these facilities and the terms of the facilities.
Interest Rate Protection Agreements
The fair value of interest rate protection agreements (used to hedge
CRIIMI MAE's variable-rate debt) is the estimated amount that CRIIMI MAE would
receive to terminate the agreements as of March 31, 1999 and December 31, 1998,
taking into account current interest rates and the current creditworthiness of
the counterparties. The amount was determined based on a quote received from the
counterparty to each agreement.
5. SUBORDINATED CMBS
During 1997, FAS 125 "Accounting for Transfers and Servicing of
Financial Assets" became effective. This statement significantly changed the
accounting treatment for transfers of financial assets. FAS 125 changed
accounting standards to require transfers of assets to be accounted for on a
component basis instead of as an entire unit. Accordingly, in a securitization
or resecuritization, components (securities) are treated as sales or retained
interests based upon CRIIMI MAE's ability to control the component. Components
where control is not retained are treated as sales and those where control is
retained are treated as retained interests.
In May 1998, CRIIMI MAE completed its second resecuritization of CMBS
assets ("CBO-2"), with a combined face value of approximately $1.8 billion
involving 75 individual securities collateralized by 19 mortgage pools and
three of the retained securities from CBO-1. CBO-2 involved CRIIMI MAE's
private placement of securities with a face amount of $468 million. In CBO-2,
CRIIMI MAE retained securities with a face amount of approximately $1.3
billion. Certain securities included call provisions to enable CRIIMI MAE
to 1) call bonds if market conditions warrant, and 2) call bonds when it is no
longer cost effective to service them. As a result, CBO-2 resulted in a sale of
certain securities and the retention of new securities. In accordance with
FAS 125, the assets collateralizing the resecuritization are "derecognized"
and the combined amortized cost basis of the collateralizing assets was
allocated to the new securities issued. CRIIMI MAE received $335 million for
the $345 million face amount of investment grade securities sold without call
provisions which had an allocated cost basis of $306 million, resulting in a
gain of approximately $28.8 million. CRIIMI MAE recorded retained assets
totaling $926 million representing the allocated amortized cost basis for
the $123 million face amount of investment grade securities issued with
call provisions and the $1.3 billion face amount of non-investment grade
retained securities in CBO-2. CBO-2 generated $160 million of net
borrowing capacity primarily as a result of a higher overall weighted average
credit rating for its new securities as compared to the weighted average credit
rating on the related CMBS collateral. The net excess borrowing capacity was
used to obtain short-term, variable rate secured borrowings which were used to
acquire additional Subordinated CMBS during the second quarter of 1998.
The CBO-2 transaction requires reclassification of CRIIMI MAE's entire
portfolio of mortgage securities (consisting of mortgage security collateral and
CMBS) from Held to Maturity to Available for Sale. Therefore, CRIIMI MAE's
securities, effective the second quarter of 1998, are reflected on the balance
sheet at fair market value. At March 31, 1999, the amortized cost of the
mortgage securities exceeded the fair market value by approximately $260
million (a $8.7 million decrease from December 31, 1998) and is reflected as a
decrease in shareholders' equity.
<PAGE>19
At March 31, 1999, CRIIMI MAE held the following securities with respect to its
CMBS portfolio:
<TABLE>
<CAPTION>
Original 3/31/99
Anticipated Anticipated
Unleveraged Unleveraged
Yield to Yield to
Pool (3) Maturity (1) Maturity (1)(2)
-------- ------------ ---------------
<S> <C> <C>
Retained Securities from
CRIIMI 1996 C1 (CBO-1) 19.5% 20.9%(5)
DLJ Mortgage Acceptance Corp.
Series 1997 CF2 Tranche B-30C 8.2% 8.1%
Nomura Asset Securities Corp.
Series 1998-D6 Tranche B7 12.0% 12.0%
Retained Securities from
CRIIMI 1998 C1 (CBO-2) 10.3% 10.2%(4)
Mortgage Capital Funding, Inc.
Series 1998-MC1 8.9% 8.9%
Chase Commercial Mortgage Securities
Series 1998-1 8.8% 8.8%
First Union/Lehman Brothers
Series 1998 C2 8.9% 8.9%
Morgan Stanley Commercial Inc.
Series 1998-WF2 8.5% 8.5%(4)
Mortgage Capital Funding, Inc.
Series 1998-MC2 8.7% 8.7%
Weighted Average 9.7%(3) 10.1%(3)
</TABLE>
(1) Represents the anticipated weighted average unleveraged yield over the
expected average life of the Company's Subordinated CMBS portfolio as of the
date of acquisition and March 31, 1999, respectively, based on management's
estimate of the timing and amount of future credit losses and prepayments. As
discussed in (4) below, these yields may decrease as a result of certain
adversarial actions taken by the Company's lenders.
(2) Unless otherwise noted, changes in the March 31, 1999 anticipated yield to
maturity from that originally anticipated are primarily the result of changes in
prepayment assumptions relating to mortgage collateral.
(3) CRIIMI MAE, through CMSLP, performs servicing functions on a total CMBS pool
of approximately $ 29.8 billion. Of the $29.8 billion of mortgage loans,
approximately $298.5 million are being specially serviced as of May 1999, of
which approximately $143.2 million are being specially serviced due to payment
default and the remainder are being specially serviced due to nonfinancial
covenant default. Included in the above is approximately $69 million that was
transferred into special servicing in May of 1999 due to the bankruptcy and
payment default of 25 loans secured by Service Merchandise Stores. CMSLP, to
date has resolved and transferred out of special servicing $290
million of the approximately $590 million that has been transferred into special
servicing. Actual losses on mortage loans underlying the CMBS pools are
lower than the Company's original loss estimates. In addition, the mortgage
loans underlying the Company's portfolio of CMBS, have not experienced any
losses of principal to date.
(4) On October 6, 1998, Morgan Stanley and Co. International Limited ("Morgan
Stanley") advised CRIIMI MAE that it was exercising alleged ownership rights
over certain classes of CMBS it held as collateral. In the first quarter of
1999, the Company agreed to cooperate on selling two classes of investment
grade CMBS issued by CRIIMI MAE Commercial Mortgage Trust Series 1998-C1 (CBO-2
BBB Bonds) and to suspend litigation with Morgan Stanley with respect to
<PAGE>20
these CMBS. CRIIMI MAE and Morgan Stanley also agreed to a standstill period,
now extended through May 15, 1999, regarding seven classes of subordinated
CMBS issued by Morgan Stanley Capital I Inc. Series 1998-WF2 (the "Wells
Fargo Bonds"). On March 5, 1999, the CBO-2 BBB Bonds with $205.8 million face
amount and with a coupon rate of 7% were sold in a transaction that is
accounted for as a financing by the Company rather than a sale. Of the $159
million in proceeds, $141.2 million was used to repay borrowings under the
agreement with Morgan Stanley, and $17.8 million was remitted to CRIIMI MAE.
(5) The increase in the anticipated yield resulted from the reallocation of
CBO-1 asset basis in conjunction with the CBO-2 resecuritization.
The aggregate investment by the underlying rating of the Subordinated CMBS is as
follows:
<TABLE>
<CAPTION>
Weighted Range of Discount Amortized Amortized
Face Amount Average Weighted Fair Value Rates Used to Cost as of Cost as of
as of 3/31/99 Pass- Average as of 3/31/99 Calculate Fair 3/31/99 12/31/98
Security (in millions) Through Rate Life (2) (in millions)(1) Value (1) (in millions) (in millions)
- --------- ------------- ------------ -------- ---------------- --------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
A (5) $ 62.6 7.0% 7 years $ 56.4 8.9% $ 57.1 $ 57.0
BBB (5) 150.6 7.0% 12 years 121.2 9.8% 127.1 126.9
BBB-(5) 115.2 7.0% 13 years 85.4 10.8% 93.0 92.8
BB+ 394.6 7.0% 13 years 281.1 9.5% - 11.8% 318.5 317.9
BB 276.7 6.9% 15 years 212.8 10.3% - 12.3% 259.7 259.1
BB- 89.1 6.8% 15 years 56.9 11.4% - 13.6% 72.7 72.6
B+ 128.7 6.7% 17 years 71.6 12.4% - 14.3% 93.1 93.0
B 300.2 6.6% 16 years 157.0 13.4% - 15.6% 209.4 208.9
B- 198.7 6.7% 18 years 86.2 15.4% - 19.1% 107.0 106.7
CCC 92.0 6.8% 20 years 23.7 24.0% - 29.0% 36.0 36.0
Unrated 478.1 5.9% 21 years 114.5 26.0% - 32.0% 156.4 159.0
-------- ------ -------- -------- -------- ---------
Total (3)(4) $2,286.5 6.7% 16 years $1,266.8 $1,530.0 $ 1,529.9
======== ==== ======== ======== ========= =========
</TABLE>
(1) The estimated fair values of Subordinated CMBS represent the carrying value
of these assets. Due to the Chapter 11 filing, the Company's lenders were not
willing to provide fair value quotes for the portfolio as of March 31, 1999 and
December 31, 1998. As a result, the Company calculated the estimated fair market
value of its Subordinated CMBS portfolio as of March 31, 1999 and December 31,
1998. The Company used a discounted cash flow methodology to estimate the fair
value of its Subordinated CMBS portfolio. The projected cash flows used by the
Company were the same collateral cash flows used to calculate the anticipated
weighted average unleveraged yield to maturity. The cash flows were then
discounted using a discount rate that, in the Company's view, was commensurate
with the market's perception of risk and value. The Company used a variety of
sources to determine its discount rate including: (i) institutionally-available
research reports, (ii) a relative comparison of dealer provided discount rates
from the previous quarter to those disclosed in recent research reports and
incorporating adjustments to reflect changes in the market as they relate to
each of the Company's CMBS from September 30, 1998 to December 31, 1998 to March
31, 1999, and (iii) communications with dealers and active Subordinated CMBS
investors regarding the year-end valuation of comparable securities. Since the
Company calculated the estimated fair market value of its Subordinated CMBS
portfolio as of March 31, 1999 and December 31, 1998, it has disclosed in the
table the range of discount rates by rating category used in determining these
fair market values.
<PAGE>21
The CMBS market was adversely affected by the turmoil which occurred in the
capital markets commencing in late summer of 1998 that caused spreads between
CMBS yields and the yields on U.S. Treasury securities with comparable
maturities to widen, resulting in a decrease in the value of CMBS. As a result,
the creation of new CMBS and the trading of existing CMBS came to a near
standstill. In late November 1998, buying and trading activity in the CMBS
market began to recover, increasing liquidity in the CMBS market; however, these
improvements mostly related to investment grade CMBS. New issuances of CMBS also
returned in late November 1998. The market for Subordinated CMBS has, however,
been slower to recover and trading in this market is less liquid. It is
difficult, if not impossible, to predict when or if the CMBS market and, in
particular, the Subordinated CMBS market, will fully recover. Therefore
management's estimate of the value of its securities could vary significantly
from the value that could be realized in a current transaction between a willing
buyer and a willing seller in other than a forced sale or liquidation.
(2) Weighted average life represents the weighted average expected life of the
Subordinated CMBS prior to consideration of losses, extensions or prepayments
other than those factored in the assumed prepayment rate used at the time of
acquisition.
(3) Refer to Note 8 for additional information regarding the total face amount
and purchase price of Subordinated CMBS for tax purposes.
(4) Similar to the Company's other sponsored CMOs, CMO-IV, as described in Note
6, resulted in the creation of CMBS, of which the Company sold certain tranches.
Since the Company retained call options on the sold bonds, the Company did not
surrender control of the assets for purposes of FAS 125 and thus the entire
transaction is accounted for as a financing and not a sale. Since the
transaction is recorded as a financing, the Subordinated CMBS are not reflected
in the Company's Subordinated CMBS portfolio and the mortgage assets are
reflected in Investment in Originated Loans on the balance sheet.
(5) In connection with CBO-2, $62.6 million (A rated) and $60.0 million (BBB
rated) face amount of investment grade securities were issued with call options
and $345 million (A rated) face amount were issued without call options. Since
the Company retained call options on certain sold bonds, the Company did not
surrender control of those assets pursuant to the requirements of FAS 125 and
thus these securities are accounted for as a financing and not a sale. Since the
transaction is recorded as a partial financing and a partial sale, CRIIMI MAE
has retained the securities with call options in its Subordinated CMBS portfolio
reflected on its balance sheet. In connection with CBO-2, in May 1998 the
Company retained $90.6 million (BBB rated) and $115.2 million (BBB- rated) face
amount of securities, with the intention to sell the securities at a later date.
Such sale occurred March 5, 1999. See below for further discussion.
As of March 31, 1999 and December 31, 1998, the mortgage loans
underlying CRIIMI MAE's Subordinated CMBS portfolio were secured by properties
of the types and at the locations identified below:
<TABLE>
<CAPTION>
3/31/99 12/31/98 3/31/99 12/31/98
Property Type Percentage(1) Percentage(1) Geographic Location(2) Percentage(1) Percentage(1)
- ------------- ---------- ---------- ---------------------- ------------ -------------
<S> <C> <C> <C> <C> <C>
Multifamily.............31% 31% California....................16% 16%
Retail..................28% 28% Texas.........................12% 12%
Office..................15% 15% Florida........................7% 7%
Hotel...................13% 13% New York.......................6% 6%
Other...................13% 13% Other(3)......................59% 59%
---- ----- ---- -----
Total............ .100% 100% Total.....................100% 100%
==== ===== ===== =====
</TABLE>
(1) Based on a percentage of the total unpaid principal balance of the
underlying loans.
(2) No significant concentration by region.
(3) No other individual state makes up more than 5% of the total.
<PAGE>22
The Subordinated CMBS tranches owned by CRIIMI MAE provide credit
Support to the more senior tranches of the related commercial securitization.
Cash flow from the underlying mortgages generally is allocated first to
the senior tranches, with the most senior tranche having a priority right to
cash flow. Then, any remaining cash flow is generally allocated among the other
tranches in order of their relative seniority. To the extent there
are defaults and unrecoverable losses on the underlying mortgages, resulting in
reduced cash flows, the subordinate tranche will bear this loss first. To the
extent there are losses in excess of the most subordinate tranche's stated right
to principal and interest, then the remaining tranches will bear such losses in
order of their relative subordination.
The accounting treatment under GAAP requires that the income on
Subordinated CMBS be recorded based on the effective interest method using the
anticipated yield over the expected life of these mortgage assets. This
method can result in GAAP income recognition which is greater than or less than
cash received. For the three months ended March 31, 1999 and 1998, the amount
of income recognized in excess of cash received due to the effective interest
rate method was approximately $127,000 and $1.5 million, respectively.
Since the Petition Date, CRIIMI MAE and certain secured creditors have
disagreed about the effect of the stay provisions of the Bankruptcy Code on such
secured lenders and the subject assets. A summary of material litigation, and
agreements that have been reached with certain creditors, is disclosed in Note
16 Litigation - Bankruptcy Related Litigation. In addition, the Company has
been in discussions with certain other creditors not in litigation with the
Company. See Note 16 Litigation - Arrangements with Other Creditors.
The Company has agreed to cooperate in selling the CBO-2 BBB Bonds and
suspend litigation with Morgan Stanley with respect to these CMBS. On March 5,
1999, Morgan Stanley sold the $205.8 million face amount of CMBS with a coupon
of 7%. The proceeds of $159 million were used to pay off $141.2 million of the
related short-term, variable-rate debt due Morgan Stanley and the remaining net
proceeds of $17.8 million were remitted to CRIIMI MAE. CRIIMI MAE retained the
right to call each CMBS when the outstanding principal balance amortizes to 15%
of its original face balance. The 15% call option prevents CRIIMI MAE from
surrendering control of the assets pursuant to the requirements of FAS 125 and
thus the transaction is accounted for as a secured borrowing and not a sale.
This resulted in CRIIMI MAE recognizing a fixed-rate liability for these
bonds in the amount of the gross proceeds, which was approximately $159 million.
CRIIMI MAE and Morgan Stanley also agreed to an extended standstill
period through May 15, 1999 regarding seven classes of Subordinated CMBS known
as Morgan Stanley Capital I, Inc. Series 1998-WF2. At the end of this standstill
period, Morgan Stanley has until May 25, 1999 to respond to the Company's
complaint and resume litigation with respect to such bonds, unless the
standstill period is further extended by the parties or an agreement is reached
between the parties.
The Company's CMBS portfolio currently generates monthly cash flow. As
of March 31, 1999 and December 31, 1998, certain lenders have withheld payment
to CRIIMI MAE of approximately $14.3 million and $8.3 million, respectively,
with respect to its CMBS portfolio (excluding those securities that are
match-funded). (Refer to Note 6 for payments due the Company in connection with
CMO-IV). The realizeability of these receivables is uncertain and is dependent
upon reaching successful agreements with the Company's lenders that do not
result in the loss of any collateral. A loss could occur if the lender fails to
remit interest payments to the Company. Furthermore, it is possible that CRIIMI
MAE may have to record impairment losses as a result of future adverse actions
taken against CRIIMI MAE by its lenders.
CMSLP did not file for protection under Chapter 11. However, because of
the related party nature of its relationship with CRIIMI MAE, CMSLP has been
under a high degree of scrutiny from servicing rating agencies. As a result of
CRIIMI MAE's Chapter 11 filing, CMSLP was declared in default under certain
credit agreements with First Union National Bank ("First Union"). In order to
repay all such credit agreement obligations and to increase its liquidity, CMSLP
arranged for Banc One Mortgage Capital Markets, LLC ("BOMCM") to succeed it as
<PAGE>23
master servicer on two commercial mortgage pools on October 30, 1998. In
addition, in order to allay rating agency concerns stemming from CRIIMI MAE's
Chapter 11 filing, in November 1998, CRIIMI MAE designated BOMCM as special
servicer on 33 separate CMBS securitizations totaling approximately $29 billion,
subject to certain requirements contained in the respective servicing
agreements. CMSLP will continue to perform special servicing as sub-servicer for
BOMCM on all but five of these securitizations. CRIIMI MAE remains the owner of
the lowest rated tranche of the related Subordinated CMBS and, as such, retains
all rights pertaining to ownership, including the right to replace the special
servicer. CMSLP lost the right to specially service the DLJ MAC 95 CF-2
securitization when the majority holder of the lowest rated tranches replaced
CMSLP as special servicer.
6. LOAN ORIGINATION PROGRAM
Prior to the Petition Date, the Company originated mortgage loans
principally through mortgage loan conduit programs with major financial
institutions for the primary purpose of pooling such loans for securitization.
In June 1998, the Company securitized $496 million face amount of
commercial mortgage loans (a majority of which were no lock) originated or
acquired through the a mortgage loan conduit program with Citicorp Real Estate,
Inc. , and through CRIIMI MAE CMBS Corp., issued Commercial Mortgage Loan Trust
Certificates, Series 1998-1 ("CMO-IV"). The original basis of the loans on the
balance sheet includes approximately $8 million of deferred loan and
securitization costs that are amortized over the life of the securitization and
recognized against income using the effective interest rate method.
Through this securitization, CRIIMI MAE sold $397 million face amount
of fixed-rate investment grade securities (see also Note 9). CRIIMI MAE retained
the remaining principal and interest cash flows from the mortgage loans that
collateralize the securitization. CRIIMI MAE has call rights on each of the
issued and sold securities and therefore has not surrendered control of the
collateral, thus requiring the transaction to be accounted for as a financing of
the mortgage loans collateralizing the investment grade CMBS sold in the
securitization.
On April 5, 1999, the Company finalized an agreement by which, Salomon
Smith Barney, in cooperation with CRIIMI MAE, will sell two classes of
investment grade CMBS from CMO-IV with a face amount of $45.9 million and an
average coupon rate of 6.96% constituting a portion of the collateral security
advances under financing agreements with Citicorp. CRIIMI MAE retains the right
to call each CMBS when the principal balance amortizes to 15% of its original
face balance. The 15% call option prevents CRIIMI MAE from surrendering control
of the assets pursuant to the requirements of FAS 125 and thus the transaction
will be accounted for as a secured borrowing and not a sale. A minimum sales
price was established in order to sell the bonds. Gross proceeds from the sale
will be used to pay off $39.6 million of secured debt, certain costs, and the
remainder remitted to CRIIMI MAE. This will result in CRIIMI MAE recognizing
fixed-rate debt for these bonds, when they are sold, in the amount of the gross
proceeds.
During May 1999, the Company sold approximately $15 million face amount
of investment grade CMBS from CMO-IV in accordance with the agreement noted
above. Accordingly, the proceeds from the sale of these CMBS will pay off a
portion of the secured debt owed under the Citicorp Financing agreements and the
Company will recognize fixed rate debt in the amount of gross proceeds. The
balance of the investment grade CMBS from CMO-IV will continue to be marketed
for sale.
Although CMO-IV is accounted for as a financing, economically, the
Company currently generates monthly cash flow from the subordinated CMBS
tranches created in the transaction. As of March 31, 1999 and December 31, 1998,
payments of approximately $5.3 million and $2.7 million, respectively, were
withheld by certain lenders, with respect to certain tranches of CMO-IV.
As of March 31, 1999, the originated loans were secured by properties
of the types and at the locations identified below:
<TABLE>
<CAPTION>
Property Type Percentage(1) Geographic Location(2) Percentage(1)
<S> <C> <C> <C>
Multifamily..................... 37% Michigan........................ 20%
Hotel........................... 27% Texas........................... 8%
Retail.......................... 20% Illinois........................ 7%
Office.......................... 11% California...................... 6%
Other........................... 5% Maryland........................ 6%
----- Connecticut..................... 5%
Total....................... 100% Other(3)........................ 48%
==== ------
Total........................ 100%
======
</TABLE>
(1) Based on a percentage of the total unpaid principal balance of the
underlying loans.
<PAGE>24
(2) No significant concentration by region.
(3) No other individual state makes up more than 5% of the total.
Descriptions of the originated loans categorized by unpaid principal
balances as of March 31, 1999 , are as follows:
<TABLE>
<CAPTION>
As of March 31, 1999
--------------------
Weighted
Average
Number Face Effective Weighted Average
Unpaid Principal Balance (2) of Loans Value(1)(4) Interest Rate Remaining Term
- ---------------------------- -------- ----------- ------------- --------------
<S> <C> <C> <C> <C>
$ 0 - $ 4.99 million 129 $ 271,967,897 7.43% 9.7 years
$ 5 - $ 9.99 million 18 131,580,302 7.35% 9.3 years
$10- $ 14.99 million 5 63,649,892 7.21% 9.4 years
$15- $ 20 million 1 17,197,987 7.15% 10.7 years
---- ------------ ------- ----------
153 $484,396,078 7.37% 9.6 years
=== ============ ======= ==========
</TABLE>
(1) All originated loans are collateralized by first or second liens on
multifamily, hotel, retail, office or other commercial properties. Approximately
79% of the loans in the securitization are No-Lock loans.
(2) The carrying amount of the originated loans of $491,938,888 is comprised of
$484,396,078 face amount of loans plus $7,542,810 of deferred loan costs.
(3) During the three months ended March 31, 1999, there was one prepayment in
CMO IV. This prepayment generated net proceeds of approximately $4.8 million and
resulted in a net financial statement gain of approximately $101,400, which is
included in gain on originated loan dispositions on the accompanying
consolidated statement of income for the three months ended March 31, 1999.
(4) The fair value of the originated loans at March 31 1999 is $469,061,637.
Descriptions of the originated loans categorized by unpaid principal
balances as of December 31, 1998 , are as follows:
<TABLE>
<CAPTION>
As of December 31, 1998
-----------------------
Weighted
Average
Number Face Effective Weighted Average
Unpaid Principal Balance (2) of Loans Value(1)(4) Interest Rate Remaining Term
- ---------------------------- -------- ----------- ------------- --------------
<S> <C> <C> <C> <C>
$ 0 - $ 4.99 million 130 $ 278,252,990 7.45% 9.9 years
$ 5 - $ 9.99 million 18 131,974,592 7.35% 9.6 years
$10 - $ 14.99 million 5 63,821,315 7.21% 9.6 years
$15 - $ 20 million 1 17,242,738 7.15% 10.9 years
---- ------------ ----- ----------
154 $491,291,635 7.38% 9.8 years
==== ============ ===== ==========
</TABLE>
(1) The fair value of the originated loans at December 31, 1998 is
$480,485,570.
At the time it filed for bankruptcy, the Company had a second mortgage
loan conduit program with Citicorp Real Estate, Inc. (the "Citibank Program")
and a loan conduit program with Prudential Securities Incorporated and
Prudential Securities Credit Corporation (the "Prudential Program") (together
the "Programs").
The agreements for both Programs provided that during the warehouse
period, the respective financial institution will fund and originate in its name
all mortgage loans under the Program, and CRIIMI MAE is required to deposit a
portion of each loan amount in a reserve account. In both facilities, the
respective financial institution is responsible for executing an interest rate
hedging strategy.
<PAGE>25
The Citibank Program provided for CRIIMI MAE to pay to Citibank the
face value of the loans originated through the Program, which were funded by
Citibank and not otherwise securitized, plus or minus any hedging loss or gain
on December 31, 1998. To secure this obligation CRIIMI MAE was required to
deposit a portion of the principal amount of each originated loan in a reserve
account. At March 31, 1999, this reserve account was approximately $31.8
million.
Under the Prudential Program, the Company has an option to pay to
Prudential the face value plus or minus any hedging loss or gain, at the earlier
of June 30, 1999, or the date by which a stated quantity of loans for
securitization has been made. Under the Prudential Program, the Company was
required to fund a reserve account, which was approximately $2 million at March
31, 1999. If CRIIMI MAE is unable to exercise its option, the Company will
forfeit the amount of the reserve account.
On October 5, 1998, Citibank sent the Company a letter alleging that
the Company was in default under the Citibank Program and that it was
terminating the Citibank Program. The Company and Citibank negotiated a
Stipulation and Consent Order (the "Order"), entered by the Bankruptcy Court on
April 5, 1999, regarding the Citibank Program. The Order provides that Citibank
will, with CRIIMI MAE's cooperation, sell the loans originated under the
Citibank Program provided that the sale results in CRIIMI MAE receiving minimum
net proceeds of not less than $3.5 million, after satisfying certain amounts due
to Citibank under the Citibank Program from the amount held in the reserve
account. The minimum net proceeds provision may be waived by written agreement
of the Company, the Official Committee of Unsecured Creditors in the Company's
Chapter 11 case (the "Unsecured Committee") and the Official Committee of Equity
Security Holders in the Company's Chapter 11 case (the "Equity Committee").
CRIIMI MAE is in discussion with Prudential to sell the loan originated under
the Prudential Program. There can be no assurance that an agreement will be
reached with Prudential or, if reached, that such agreement would be approved by
the Bankruptcy Court.
As of September 30, 1998, the Company's obligation under the Citibank
Program was $14.8 million in excess of the fair value of the loans and the
Company's option under the Prudential Program was $2.8 million in excess of fair
value of the loan principally because of the turmoil in the capital markets. As
a result CRIIMI MAE recorded a $17.6 million unrealized loss related to the
Programs as of September 30, 1998. The Company calculated the unrealized losses
based upon an estimated value of the loans (based on proceeds that could be
raised in a securitization of the loans using market spreads for bonds that
would be issued if such a transaction occurred on September 30, 1998) as well as
hedging losses as of that date.
Subsequent to the Chapter 11 filing, CRIIMI MAE decided to sell the
loans originated in conjunction with the Programs. As a result of the Company's
decision to sell the loans and because a sale of the loans will result in less
proceeds than would ordinarily be realized in a securitization (which was the
Company's original intent), the Company recorded, during the fourth quarter of
1998, additional unrealized losses of $ 12.7 million.
The Company's potential loss amount for the Citibank Program decreased
by $3.9 million in the first quarter of 1999. This is primarily the result of an
improvement in the related hedging position. The $3.9 million was recognized as
an unrealized gain on warehouse obligation in the first quarter of 1999.
7. INSURED MORTGAGE SECURITIES
CRIIMI MAE's consolidated portfolio of mortgage securities is comprised
of FHA-Insured Certificates and GNMA Mortgage-Backed Securities. Additionally,
mortgage securities include Federal Home Loan Mortgage Corporation (Freddie Mac)
participation certificates which are collateralized by GNMA Mortgage-Backed
Securities, as discussed below. As of March 31, 1999, approximately 17% of
CRIIMI MAE's investment in mortgage securities were FHA-Insured Certificates and
83% were GNMA Mortgage-Backed Securities (including certificates which
collateralize Freddie Mac participation certificates). FHA-Insured Certificates
and GNMA Mortgage-Backed Securities are collectively referred to herein as
"mortgage securities."
<PAGE>26
CRIIMI MAE owns the following mortgages directly or indirectly through its
wholly-owned subsidiaries:
<TABLE>
<CAPTION>
As of March 31, 1999
--------------------
Weighted
Number of Average
Mortgage Fair Amortized Effective Weighted Average
Securities Value(1) Cost Interest Rate Remaining Term
---------- ---------- --------- ------------- ---------------
<S> <C> <C> <C> <C> <C>
CRIIMI MAE 1 $5,505,539 $ 5,448,966 8.00% 36 years
CRIIMI MAE Financial Corporation 39 148,368,509 146,713,141 8.33% 30 years
CRIIMI MAE Financial Corporation II 53 227,966,605 227,456,045 7.21% 28 years
CRIIMI MAE Financial Corporation III 25 73,635,975 72,628,771 8.01% 30 years
------- ------------ ------------- ---------- ----------------
118 $455,476,628 $ 452,246,923 7.71%(3) 29 years(3)
======= ============ ============= ============= ===================
As of December 31, 1998
-----------------------
Weighted
Number of Average
Mortgage Fair Amortized Effective Weighted Average
Securities Value(1) Cost Interest Rate Remaining Term
---------- ---------- --------- ------------- ---------------
<S> <C> <C> <C> <C> <C>
CRIIMI MAE 1 $ 5,511,707 $ 5,455,114 8.00% 36 years
CRIIMI MAE Financial Corporation(2) 40 161,382,142 158,832,182 8.26% 30 years
CRIIMI MAE Financial Corporation II(2) 55 232,560,966 231,973,794 7.18% 28 years
CRIIMI MAE Financial Corporation III(2) 27 88,640,406 87,376,578 8.00% 30 years
------ ------------ ------------ ---------- ----------------
123 $488,095,221 $483,637,668 7.69%(3) 29 years(3)
====== ============ ============ ============= ===================
</TABLE>
(1) See Note 4 for discussion of fair value methodology.
(2) During the three months ended March 31, 1999, there were five prepayments of
mortgage securities held by CRIIMI MAE's financing subsidiaries. These
prepayments generated net proceeds of approximately $31.1 million and resulted
in net financial statement gains of $807,204, which are included in gains on
mortgage securities dispositions on the accompanying consolidated statement of
income for the three months ended March 31, 1999.
(3) Weighted Average was computed using total amortized cost of the mortgage
securities.
As a result of the CBO-2 transaction (see Note 5), the Company, in
accordance with GAAP, no longer classifies its mortgage securities as Held to
Maturity. The Company's mortgage securities are now classified as Available for
Sale. As a result, the Company now carries its mortgage securities at fair
value. The difference between the amortized cost and the fair value of mortgage
assets recorded at fair value represents the net unrealized gains on those
mortgage securities, which is reported as a separate component of shareholders'
equity as of March 31, 1999 and December 31, 1998.
<PAGE>27
8. RECONCILIATION OF FINANCIAL STATEMENT NET INCOME TO TAX
BASIS INCOME
Reconciliations of the financial statement net income to the tax basis
income for the three months ended March 31, 1999 and 1998, are as follows:
<TABLE>
<CAPTION>
For the three months ended March 31,
1999 1998
---- ----
<S> <C> <C>
Consolidated financial statement
net income $14,820,483 $13,895,428
Reamortization of Subordinated CMBS 14,235,861 2,263,025
Interest expense adjustments for collateralized bond obligation (8,767,735) --
Amortization and other interest expense adjustments (1,185,677) (476,412)
Equity in earnings from investments 1,296,418 87,818
Net gains on mortgage security dispositions 203,230 163,012
Gain on originated loan disposition 72,535 --
Amortization of assets acquired in the Merger 719,394 719,394
Unrealized gain on warehouse obligation (3,946,475) --
Reorganization items 3,544,020 --
Other (15,451) (9,448)
------------ -----------
Tax basis income $ 20,976,603 $16,642,817
============ ===========
Dividends accrued or paid on preferred shares (1,403,534) (1,639,497)
------------ -----------
Tax basis income available to common
shareholders $ 19,573,069 $15,003,320
============ ===========
Tax basis income per share $ 0.37 $ 0.34
============ ===========
Tax basis shares outstanding 53,553,161 44,413,164
============ ===========
</TABLE>
Differences between financial statement net income and the tax basis
income available to common shareholders principally relate to differences in the
methods of accounting for Subordinated CMBS (see also Note 5), a portion of
reorganization costs not deductible for tax purposes, unrealized gain on
warehouse position, amortization of certain deferred costs and merger of the CRI
Mortgage Businesses.
The entire CBO-2 transaction was accounted for as a financing for tax
purposes. As such, the Company will recognize income for tax purposes from the
entire group of mortgage securitization pools (35 total) with an aggregate face
amount of $2.8 billion and purchase price of $2.0 billion and receive a
deduction for the interest expense on the outstanding debt.
9. OBLIGATIONS UNDER FINANCING FACILITIES
Default Declarations
As a result of the bankruptcy petition filed on October 5, 1998,
certain lenders have declared defaults or otherwise taken action against the
Company with respect to a number of CRIIMI MAE's financing facilities. See Note
16 for a discussion of material litigation between the Company and various
creditors and agreements the Company has reached with certain of these
creditors.
<PAGE>28
The following table summarizes CRIIMI MAE's debt outstanding as of
March 31, 1999 and December 31, 1998:
<TABLE>
<CAPTION>
Three months ended March 31, 1999 Year ended December 31, 1998
--------------------------------- ----------------------------
Stated
Balance Eff. Rate Avg Average Maturity Balance Eff. Rate Avg Avg
Type of Debt at Qtr End at Qtr. End Balance Eff. Rate Date (9) at Year End at Yr End Bal. Eff. Rate
- ------------ ------------ ----------- -------- --------- ----------- ----------- --------- ---- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Securitized Mortgage
obligations:
FHLMC Funding Note(1) $216,421,621 7.4% $218,622,001 7.4% Sept 2031 $220,822,380 7.4% $229,137,117 7.4%
FNMA Funding Note(2) 70,230,093 7.3% 77,490,429 7.3% March 2035 84,750,764 7.3% 119,316,182 7.3%
CMO (3) 135,517,850 7.4% 143,023,213 7.4% Jan 2033 150,528,576 7.4% 166,408,357 7.4%
CMO-Loan Originations(6) 380,207,529 6.5% 383,480,240 6.5% Oct 2001-
May 2008 386,752,951 6.5% 222,114,163 6.5%
Subordinated CMBS (7) 276,534,877 9.0% 177,326,758 8.3% Nov 2006-
Nov 2012 117,831,435(4) 7.7% 122,861,289 7.6%
Variable-Rate Secured borrowings -
Subordinated CMBS (8) 786,034,133 6.1% 894,525,177 6.2% April 1999-
Sept 2000 932,236,674 7.2% 802,562,377 6.8%
Bank term loans 3,050,000 6.4% 3,050,000 6.4% Dec 1998 3,050,000(5) 1.8% 3,000,238 3.9%
Working capital line of
credit 40,000,000 6.7% 40,000,000 6.8% Dec 1998 40,000,000 7.2% 21,918,727 7.3%
Bridge Loan 49,749,522 7.2% 49,749,522 7.2% Feb 1999 49,749,522 7.8% 19,765,489 7.7%
Senior unsecured notes 100,000,000 9.1% 100,000,000 9.1% Dec 2002 100,000,000 9.1% 99,902,312 9.1%
-------------- --------------
Total $2,057,745,625 $2,085,722,302
============== ==============
</TABLE>
<PAGE>29
(1) As of March 31, 1999 and December 31, 1998, the face amount of the note was
$224,513,971 and $229,005,558, respectively, with unamortized discount of
$8,092,350 and $8,183,178, respectively. During the three months ended March 31,
1999 and 1998, discount amortization of $90,828 and $89,082, respectively, was
recorded as interest expense.
(2) As of March 31, 1999 and December 31, 1998, the face amount of the note was
$72,055,236 and $86,620,792, respectively, with unamortized discount of
$1,825,143 and $1,870,028, respectively. During the three months ended March 31,
1999 and 1998, discount amortization of $44,885 and $8,221, respectively, was
recorded as interest expense.
(3) As of March 31, 1999 and December 31, 1998, the face amount of the note was
$139,755,459 and $154,840,829, respectively, with unamortized discount of
$4,237,609 and $4,312,253, respectively. During the three months ended March 31,
1999 and 1998, discount amortization of $74,664 and $163,230, respectively, was
recorded as interest expense.
(4) Balance represents face amount of notes, as the issuance did not include any
bond discount.
(5) The effective interest rate as of December 31, 1998 includes the impact of a
rate reduction agreement which was in place from July 1995 through December 31,
1998, providing for a reduction in the rate on a portion of the loans based on
balances maintained at the bank. The effective interest rate as of March 31,
1999 does not include the impact of the rate reduction agreement due to the
Company's Chapter 11 filing.
(6) As of March 31, 1999 and December 31, 1998, the face amount of the debt was
$385,861,457 and $392,752,908 with unamortized discount of $5,653,928 and
$5,999,957, respectively. During the three months ended March 31, 1999 and 1998,
discount amortization of $346,029 and $0, respectively, was recorded in interest
expense.
(7) As of March 31, 1999 and December 31, 1998, the face amount of the debt was
$328,446,000 and $122,612,000 with an unamortized discount of $51,499,522 and
$4,780,565, respectively . During the three months ended March 31, 1999 and
1998, discount amortization of $194,235 and $0, respectively, was recorded in
interest expense.
Collaterized Bond Obligations - CMBS
In May 1998, CRIIMI MAE, through its wholly-owned subsidiary CRIIMI MAE
CMBS Corp., issued an aggregate of $468 million of longer-term, fixed-rate
investment grade debt securities to reduce an equivalent amount of short-term,
variable rate secured borrowings used to initially fund CMBS acquisitions. The
transaction was structured with a total of $468 million in investment grade
securities of which $345 million were non-callable securities and $123 million
were callable securities.
FAS 125 provides guidance as to whether a transfer of financial assets,
such as in a securitization, will qualify for sales treatment or secured
borrowing treatment. This distinction is made by concluding as to whether a
transferor relinquishes control over the transferred assets. If the transferor
is considered to no longer control the assets, the securities receive sales
treatment which calls for the de-recognition of all assets surrendered and
liabilities settled, the recognition of all assets received and liabilities
incurred and the recognition of a gain or loss through earnings. If the
transferor maintains control over the transferred assets, the assets remain on
the balance sheet and a corresponding amount of debt is recognized for all
securities not held by the transferor. The determination of control is made on a
security by security basis.
As a result of this transaction, control was retained over $123 million
of the securities because CRIIMI MAE has the right to call the securities. The
$345 million of non-callable investment grade securities were treated as a sale,
the corresponding assets and debt were de-recognized from the balance sheet and
a gain of $28.8 million was recognized through earnings. The $123 million of
callable investment grade securities and the corresponding amount of debt are
recorded on the balance sheet.
On March 5, 1999, the CBO-2 BBB Bonds with $205.8 million face amount
and a coupon rate of 7% were sold in a transaction accounted for as a financing
by the Company rather than a sale. Of the $159 million of net sale proceeds,
$141.2 million was used to repay variable-rate secured borrowings under the
agreement with Morgan Stanley and $17.8 million was remitted to CRIIMI MAE. This
resulted in CRIIMI MAE recognizing a fixed-rate liability for these bonds in the
amount of gross proceeds.
<PAGE>30
Collateralized Mortgage Obligations - Originated Loans
In the June 1998 CMO-IV transaction, through the securitization of $496
million of originated or acquired commercial mortgage loans, CRIIMI MAE sold
$397 million face amount of fixed-rate investment grade debt securities. CRIIMI
MAE retained call options on all of the securities such that control was not
relinquished. Therefore, the mortgage loans remain on CRIIMI MAE's balance sheet
as assets for accounting purposes, along with the related debt for all
securities sold by CRIIMI MAE.
The securities were issued at a discount of approximately $6.6 million.
Such discount, as well as approximately $6.7 million of deferred costs and
securitization transaction costs are amortized on a level yield basis over the
expected life of the related security. The securities not sold to third parties
were partially financed with secured borrowings. The lending agreements are
secured by certain of the CMO-IV securities retained by CRIIMI MAE with an
aggregate fair value of approximately $91.9 million as of March 31, 1999.
On April 5, 1999, the Company finalized an agreement by which, Salomon
Smith Barney, in cooperation with CRIIMI MAE, will sell two classes of
investment grade CMBS from CMO-IV (face amount of $45.9 million) constituting a
portion of the collateral security advances under the Citicorp Financing
agreements. This transaction will be accounted for as a financing and not a
sale. This will result in the Company recognizing a fixed-rate liability for
these bonds, when they are sold, in the amount of gross proceeds.
Variable Rate Secured Borrowings-CMBS
As previously discussed, when CRIIMI MAE purchased Subordinated CMBS,
it initially financed (generally through secured borrowings) a portion of the
purchase price of the Subordinated CMBS. These secured borrowings were either
provided by the issuer of the CMBS pool or through master secured borrowing
agreements, as discussed below. As of March 31, 1999, the secured borrowings on
Subordinated CMBS have interest rates that are generally based on the one-month
London Interbank Offered Rate (LIBOR), plus a spread ranging from 0.5% to 1.5%.
Due to the Chapter 11 filing and the automatic stay provisions granted under the
Bankruptcy Code, the actual maturity date is undeterminable for facilities that
have expired or will expire in 1999 per the stated maturities.
As discussed above, on March 5, 1999, the CBO-2 BBB Bonds were sold in
a transaction that was accounted for a financing rather than a sale. Of the
$159.0 million of net sale proceeds, $141.2 million was used to repay variable
rate secured borrowings.
The secured borrowing agreements are secured by certain rated CMBS
security tranches with an aggregate fair value of approximately $859.6 million
as of March 31, 1999 and $1.1 billion as of December 31, 1998. CRIIMI
MAE's short-term variable rate financing facilities require that the value
of the collateral securing the facilities meet a minimum loan-to-value ratio.
If the value of the collateral is perceived such that the minimum loan-to-value
ratio is not met, then the lender may require the Company to post cash or
additional collateral with sufficient value to cure the perceived value
deficiency. At March 31, 1999, CRIIMI MAE had secured borrowing agreements with
German American Capital Corporation, Lehman ALI, Inc. First Union National
Bank of North Carolina, Morgan Stanley, Merrill Lynch and Citicorp
Securities, Inc. ("Citicorp"). These secured borrowing agreements qualify as
financings under FAS 125 because CRIIMI MAE is required to purchase
the same securities collateralizing the borrowing before their maturity.
Citicorp and Morgan Stanley have each taken the position that CMBS that were
pledged to them by the Company were instead sold to them by the Company because
the transactions between the parties were documented using Bond Market
Association Master Repurchase Agreement forms. The Company disputes the
positions of both Citicorp and Morgan Stanley and has filed two complaints
contesting their claims of ownership. If, however, Citicorp and Morgan
Stanley prevail, the portfolio value of the Company's owned securities would
decrease by the amount of bonds that are deemed to have been sold to
Citicorp or Morgan Stanley and the corresponding obligations would also
decrease. (See Note 16 ).
Senior Unsecured Notes
In November 1997, CRIIMI MAE issued senior unsecured notes ("Notes")
due on December 1, 2002 in an aggregate principal amount of $100 million. The
Notes are effectively subordinated to the claims of any secured lender to the
extent of the value of the collateral securing such indebtedness. Interest on
the Notes is payable semi-annually in arrears on June 1 and December 1,
commencing June 1, 1998 at a fixed annual rate of 9.125%. The Notes are
redeemable at any time, in whole or in part, at the option of CRIIMI MAE.
<PAGE>31
The Indenture contains certain covenants which, among other things,
restricted the ability of the Company and its subsidiaries to incur additional
indebtedness, pay dividends, or make distributions in respect of the Company's
or such subsidiaries' capital stock, make other restricted payments, enter into
transactions with affiliates or related persons, or consolidate, merge or sell
all or substantially all of their assets. These covenants were subject to
exceptions and qualifications.
Under the terms of the Indenture, the Company could not incur
additional indebtedness (except for Permitted Debt, which included secured
borrowings, working capital lines of credit, borrowings under facilities in
place as of November 21, 1997), unless at the time of such incurrence either (a)
the ratio of Adjusted Earnings Available for Fixed Charges to Adjusted Fixed
Charges giving proforma effect for the new borrowings is greater than 1.75 to
1.0 or (b) the Adjusted Debt to Capital Ratio on a proforma basis after giving
effect to the incurrence of the new debt is less than 2.0 to 1.0.
Bank Term Loans
In connection with the Merger, CM Management assumed certain debt of
certain mortgage businesses affiliated with C.R.I., Inc. in the principal amount
of $9.1 million (the "Bank Term Loan"). The Bank Term Loan is secured by certain
cash flows generated by CRIIMI MAE's direct and indirect interests in the AIM
Funds and is guaranteed by CRIIMI MAE. The loan required quarterly principal
payments of $650,000 and matured on December 31, 1998. The amount outstanding as
of March 31, 1999 and December 31, 1998 was $1.3 million. Interest on the loan
is based on CRIIMI MAE's choice of one, two or three-month LIBOR, plus a spread
of 1.25%.
In addition, in connection with a Real Estate Owned Property, CRIIMI
MAE has a loan secured by the Real Estate Owned Property and guaranteed by
CRIIMI MAE. The loan requires monthly interest payments and a balloon principal
payment at maturity. The loan was made January 22, 1998 and matures August 1,
1999. The amount outstanding as of March 31, 1999 and December 31, 1998 was
$1.75 million. Interest on the loan is based on LIBOR, plus a spread of 1.5%.
Working Capital Line of Credit
In late 1996, CRIIMI MAE entered into an unsecured working capital line
of credit provided by two lenders with a termination date of December 31, 1998,
which provides for up to $40 million in borrowings. Outstanding borrowings under
this line of credit are based on interest at one-month LIBOR, plus a spread of
1.75%. As of March 31, 1999 and December 31, 1998, $40 million in borrowings
were outstanding under this facility.
Bridge Loan
In August 1998, CRIIMI MAE entered into a bridge loan for $50 million
provided by a lender. The total unpaid principal balance and accrued interest
was due in February 1999. Outstanding borrowings under this facility based on
interest at one-month LIBOR, plus a spread of 2.25%. As of March 31, 1999 and
December 31, 1998, approximately $50 million in borrowings was outstanding under
this loan.
Other Debt Related Information
Changes in interest rates will have no impact on the cost of funds or
the collateral requirements on CRIIMI MAE's fixed-rate debt, which approximates
57% of CRIIMI MAE's consolidated debt as of March 31, 1999. Fluctuations in
interest rates will continue to impact the value of that portion of CRIIMI MAE's
mortgage assets which are not match-funded and could impact potential returns to
shareholders through increased cost of funds on the variable-rate debt in place.
CRIIMI MAE has a series of interest rate cap agreements in place in order to
partially limit the adverse effects of rising interest rates on the remaining
variable-rate debt. When CRIIMI MAE's cap agreements expire, CRIIMI MAE will
have interest rate risk to the extent interest rates increase on any
variable-rate borrowings unless the caps are replaced or other steps are taken
to mitigate this risk. Furthermore, CRIIMI MAE has interest rate risk to the
extent that the LIBOR interest rate increases between the current rate, as of
March 31, 1999, of 5.06% and the cap rate. However, CRIIMI MAE's investment
policy requires that at least 75% of variable-rate debt be hedged. As of March
31, 1999, 88% of CRIIMI MAE's variable-rate debt is hedged.
<PAGE>32
For the quarter ended March 31, 1999, CRIIMI MAE's weighted average
cost of borrowing, including amortization of discounts and deferred financing
fees of approximately $1.5 million, was approximately 7.2%. This does not
include the write-off of costs and discounts related to liabilities subject to
Chapter 11. As of March 31, 1999 , CRIIMI MAE's debt-to-equity ratio was
approximately 6.6 to 1.0 and CRIIMI MAE's non-match-funded debt-to-equity ratio
was approximately 3.1 to 1.0. Under certain of CRIIMI MAE's existing debt
facilities, CRIIMI MAE's debt-to-equity ratio, as defined, may not exceed 5.0 to
1.0, among other requirements.
10. INTEREST RATE PROTECTION AGREEMENTS
CRIIMI MAE has entered into interest rate protection agreements to
partially limit the adverse effects of rising interest rates on its
variable-rate borrowings. Interest rate caps ("caps"), as shown below, provide
protection to CRIIMI MAE to the extent interest rates, based on a readily
determinable interest rate index, increase above the stated interest rate cap,
in which case, CRIIMI MAE will receive payments based on the difference between
the index and the cap. All of the caps qualify for hedge accounting treatment.
Therefore the related cost, as well as gains or losses on terminated positions,
have been deferred as a component of the related debt. At March 31, 1999, CRIIMI
MAE held caps with a notional amount of $775 million and the caps are used to
hedge $775 million of the Company's variable rate debt.
<TABLE>
<CAPTION>
Notional
Amount Effective Date Maturity Date (2) Cap (2) Index
- ----------- --------------- ---------------- ------- ----------
<S> <C> <C> <C>
$ 100,000,000 April 8, 1997 April 10, 2000 6.6875% 1M LIBOR
100,000,000 September 22, 1997 September 22, 2000 6.6563% 1M LIBOR
100,000,000 December 7, 1997 November 7, 2000 6.6563% 1M LIBOR
50,000,000 December 23, 1997 December 23, 2000 6.9688% 1M LIBOR
100,000,000 March 11, 1998 March 10, 2001 6.6875% 1M LIBOR
100,000,000 March 31, 1998 March 31, 2001 6.6875% 1M LIBOR
100,000,000 June 4, 1998 June 4, 2001 6.6563% 1M LIBOR
100,000,000 June 26, 1998 June 26, 2001 6.6563% 1M LIBOR
25,000,000 September 6, 1998 August 6, 2001 6.6523% 1M LIBOR
- ------------
$775,000,000 (1)
============
</TABLE>
(1) CRIIMI MAE's designated interest rate protection agreements hedge CRIIMI
MAE's variable-rate borrowing costs.
(2) The weighted average strike price is approximately 6.7% and the weighted
average remaining term for these interest rate cap agreements is approximately
1.7 years.
CRIIMI MAE is exposed to credit loss in the event of non-performance by
the counterparties to the interest rate protection agreements should interest
rates exceed the caps. However, management does not anticipate non-performance
by any of the counterparties. All of the counterparties have long-term debt
ratings of A+ or above by Standard and Poor's and A1 or above by Moody's.
Although none of CRIIMI MAE's caps are exchange-traded, there are a number of
financial institutions which enter into these types of transactions as part of
their day-to-day activities.
<PAGE>33
11. COMMON STOCK
Shelf Registration Statement
The Company has on file with the Securities and Exchange Commission a
Shelf Registration Statement on Form S-3 registering for sale of Debt
Securities, Preferred Shares, Warrants, and Common Shares. CRIIMI MAE may, from
time to time, offer in one or more series the securities in amounts, at prices
and on terms set forth in supplements to the Registration Statement. As of March
31, 1999, a total amount of approximately $340 million remains available under
the Shelf Registration Statement.
Stock Purchase Plan
In December 1997, CRIIMI MAE registered with the Securities and
Exchange Commission up to 3 million shares of CRIIMI MAE common stock ("Common
Shares") in connection with a new Dividend Reinvestment and Stock Purchase Plan
(the "Plan"). Subsequently, in May 1998, the shareholders approved the issuance
of up to 4.7 million common shares in connection with the Plan. The Plan allows
investors the opportunity to purchase additional CRIIMI MAE Common Shares
through the reinvestment of CRIIMI MAE's dividends, optional cash payments and
initial cash investments.
In October 1998, due to the filing under Chapter 11, the Company
suspended the initial cash investment and optional cash payment portion of the
Plan until further notice.
Dividends
During the pendency of the bankruptcy proceedings, the Company is
prohibited from paying dividends without first obtaining Bankruptcy Court
approval. (See Note 1-Effect of Chapter 11 Filing on REIT Status and other Tax
Matters).
12. PREFERRED STOCK
CRIIMI MAE's charter authorizes the issuance of up to 25,000,000 shares
of preferred stock, of which 150,000 shares have been designated as Series A
Cumulative Convertible Preferred Shares, 3,000,000 shares have been designated
as Series B Cumulative Convertible Preferred Shares, 300,000 shares have been
designated as Series C Cumulative Convertible Preferred Shares and 300,000
shares have been designated as Series D Cumulative Convertible Preferred Shares
as of March 31, 1999.
Series B Cumulative Convertible Preferred Stock
In August 1996, CRIIMI MAE completed a public offering of 2,415,000
shares of Series B Cumulative Convertible Preferred Shares, with a par value of
$0.01 per share (the "Series B Preferred Shares"), at an aggregate offering
price of $60,375,000. The Series B Preferred Shares pay a dividend in an amount
equal to the sum of (i) $0.68 per share per quarter plus (ii) the product of the
excess over $0.30, if any, of the quarterly cash dividend declared and paid with
respect to each share of common stock times a conversion ratio of 2.2844 times
one plus a conversion premium of 3%, subject to adjustment upon the occurrence
of certain events. The Series B Preferred Shares are (i) convertible at the
option of the holders and (ii) subject to redemption at CRIIMI MAE's sole
discretion after the tenth anniversary of issuance. Each Series B Preferred
Share is convertible into 2.2844 shares of common stock, subject to adjustment
upon the occurrence of certain events. The liquidation preference and the
redemption price on the Series B Preferred Shares equals $25 per share, together
with accrued but unpaid dividends. There were 1,593,982 Series B Preferred
Shares outstanding as of March 31, 1999. Dividends accrued on Series B Preferred
Shares totaled $2,167,816 as of March 31, 1999 (of which, $1,083,908 was accrued
for the first quarter of 1999 and $1,083,908 was accrued for the fourth quarter
of 1998, but not paid to date as a result of the Chapter 11 filing).
Series C Cumulative Convertible Preferred Stock
In March 1997, CRIIMI MAE entered into an agreement with an
institutional investor pursuant to which the Company has the right to sell, and
such investor is obligated to purchase, up to 300,000 shares of Series C
Cumulative Convertible Preferred Stock, par value $.01 per share, through June
1998 at a price of $100 per share. The Series C Cumulative Convertible Preferred
<PAGE>34
stock pays a dividend at an annual rate equal to the sum of (i) 75 basis points
plus (ii) LIBOR as of the second LIBOR Market Day preceding the commencement of
the calendar quarter which includes such quarterly dividend payment. The
preferred stock will be convertible into shares of common stock at the option of
the holders and is subject to redemption by CRIIMI MAE. Each Series C Preferred
Share is convertible into common shares based on the following formula: the
numerator is $100 and the denominator is a closing trade price within the
conversion period on the average of the closing trade price or the applicable
twenty-one day period immediately preceding the date of delivery, whichever is
mutually acceptable. The liquidation preference and redemption price on the
Series C Preferred Shares equals $100 and $106, respectively, per share plus an
amount equal to all dividends accrued and unpaid thereon. On September 23, 1997,
150,000 shares were issued under this agreement, resulting in net proceeds of
approximately $15 million. On February 23, 1998, 150,000 Series C Preferred
Shares were issued under this agreement, resulting in net proceeds of
approximately $15 million. These proceeds were used to fund purchases of
Subordinated CMBS. During the three months ended March 31, 1999, 20,000 Series C
Preferred Shares were converted into 653,061 common shares, resulting in 103,000
Series C Preferred Shares outstanding at March 31, 1999. Dividends accrued on
Series C Preferred Shares as of March 31, 1999 totaled $433,113 as of March 31,
1999 (of which $173,974 was accrued for the first quarter of 1999 and $259,139
for the fourth quarter of 1998, but not paid to date as a result of the Chapter
11 filing).
Series D Cumulative Convertible Preferred Stock
In July 1998, CRIIMI MAE entered into an agreement with an
institutional investor pursuant to which the Company had the right to sell, and
such investor was obligated to purchase, up to 300,000 shares of Cumulative
Convertible Preferred Stock par value $.01 per share at price of $100 per share.
The Series D Cumulative Convertible Preferred Stock pays a dividend at an annual
rate equal to the sum of (i) 75 basis points plus (ii) LIBOR as of the second
LIBOR Market Day preceding the commencement of the calendar quarter which
includes such quarterly dividend payment. The preferred stock will be
convertible into shares of common stock at the option of the holders and is
subject to redemption by CRIIMI MAE. Each Series D Preferred Share is
convertible into common shares based on the following formula: the numerator is
$100 and the denominator is a closing trade price within the conversion period
on the average of the closing trade price or the applicable twenty-one day
period immediately preceding the date of delivery, whichever is mutually
acceptable. The liquidation preference and redemption price on the Series D
Preferred Shares equals $100 and $106, respectively, per share plus an amount
equal to all dividends accrued and unpaid thereon. On July 31, 1998, 100,000
Series D Preferred Shares were issued under this agreement, resulting in net
proceeds of approximately $10 million. There were no shares converted to common
shares during the quarter, resulting in 100,000 shares outstanding at March 31,
1999. Dividends accrued on Series D Preferred Shares totaled $300,583 as of
March 31, 1999 (of which, $145,652 was accrued for the first quarter of 1999 and
$154,931 for the fourth quarter of 1998, but not paid to date as a result of the
Chapter 11 filing).
<PAGE>35
13. EARNINGS PER SHARE
The following table reconciles basic and diluted earnings per share
under FAS 128 for the three months ended March 31, 1999 and 1998.
<TABLE>
<CAPTION>
For the three months ended March 31, 1999 For the three months ended March 31, 1998
--------------------------------------------- ---------------------------------------------
Income Income
Per Share Per Share
Income Shares Amount Income Shares Amount
------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C>
Basic EPS
- ---------
Net Income
Available to
Common
Shareholders 13,416,949 53,008,855 $ 0.25 $12,255,931 42,904,470 $ 0.29
Effect of
Dilutive
Securities
Net effect of
assumed
exercise of
stock options -- -- -- 943,732
Convertible
Preferred
Stock (1) 319,626 6,697,322 262,500 1,110,825
---------- ----------- ---------- -----------
Diluted EPS
- -----------
Income
available to
Common
Shareholders
and assumed
conversions $13,736,575 59,706,177 $ 0.23 $12,518,431 44,959,027 $ 0.28
=========== =========== ======== =========== ========== ========
</TABLE>
- ---------------------------
(1) 1,593,982 and 1,629,582 shares of Series B Preferred Shares were outstanding
at March 31, 1999 and 1998, respectively. The common stock equivalents for these
shares were not included in the calculation of diluted EPS because the effect
would be anti-dilutive.
(2) Common stock equivalents are computed using the average common stock price
for the quarter of $3.28 per share.
<PAGE>35
14. EMPLOYEE RETENTION PLAN
On December 18, 1998, the Company obtained Bankruptcy Court approval to
adopt and implement an employee retention program ("the Employee Retention
Plan") with respect to all employees of the Company other than certain key
executives. On February 28, 1999, the Company received Bankruptcy Court approval
authorizing it to extend the Employee Retention Plan to the key executives
initially excluded, including modifying existing employment agreements and
entering into new employment agreements with such key executives. The Employee
Retention Plan provides for retention payments aggregating approximately $4.6
million, including payments to certain executives. Retention payments are
payable semiannually over a two-year period. The first retention payment vested
on April 5, 1999 and was paid on April 15, 1999. The entire unpaid portion of
the retention payments will become immediately due and payable (i) upon the
effective date of a plan of reorganization and, with respect to certain key
executives, court approval or (ii) upon termination without cause. William B.
Dockser, Chairman of the Board of the Company, and H. William Willoughby,
President, are not currently entitled to receive any retention payments. Subject
to the terms of their respective employment agreements, certain key executives
will be entitled to severance benefits if they resign or their employment is
terminated following a change of control. The other employees will be entitled
to severance benefits if they are terminated without cause subsequent to a
change of control of the Company and CM Management. In addition, options granted
by the Company after October 5, 1998 shall immediately become exercisable upon a
change of control.
15. TRANSACTIONS WITH RELATED PARTIES
Below is a summary of the related party transactions which occurred
during the three months ended March 31, 1999 and 1998. These items are described
further in the text which follows:
<TABLE>
<CAPTION>
For the three months ended
March 31,
1999 1998
-------- --------
<S> <C> <C>
Amounts received or accrued from related parties:
- -------------------------------------------------
CRIIMI Inc.
Income(2) $ 277,037 $ 353,448
Return of Capital(6) 1,509,618 814,771
----------- -----------
Total $ 1,786,655 $ 1,168,219
=========== ===========
CRI/AIM Investment Limited Partnership (2) $ 131,811 $ 159,172
=========== ===========
Expense reimbursements to CRIIMI Management:
- -------------------------------------------
AIM Funds and CRI Liquidating (1)(4) $ 31,068 $ 67,827
CMSLP (1) 293,459 --
----------- ----------
Total $ 324,527 $ 67,827
=========== ==========
Payments to CRI:
- ---------------
Expense reimbursement - CRIIMI MAE(1)(3) $ 48,776 $ 67,710
=========== ==========
Capital Hotel Group(5) $ 11,692 $ 9,841
========== ==========
Other(7) $ -- $ --
========== ==========
</TABLE>
<PAGE>36
(1) Included in general and administrative expenses on the accompanying
consolidated statements of income.
(2) Included as equity in earnings from investments on the accompanying
consolidated statements of income.
(3) Prior to CRIIMI MAE becoming a self-administered REIT, amounts were paid to
C.R.I., Inc. as reimbursement for expenses incurred by the Adviser on behalf of
CRIIMI MAE. In connection with the Merger, on June 30, 1995, CRIIMI MAE was no
longer required to reimburse the Adviser, as these expenses are now directly
incurred by CRIIMI MAE. However, pursuant to an agreement between CRIIMI MAE and
C.R.I., Inc. (the "CRI Administrative Services Agreement"), C.R.I., Inc.
provides CRIIMI MAE with certain administrative and office facility services and
other services, at cost, with respect to certain aspects of CRIIMI MAE's
business. CRIIMI MAE uses the services provided under the C.R.I., Inc.
Administrative Services Agreement to the extent such services are not performed
by CM Management or provided by another service provider. The CRI Administrative
Services Agreement is terminable on 30 days notice at any time by CRIIMI MAE.
(4) Prior to CRIIMI MAE becoming a self-administered REIT, amounts were paid to
C.R.I., Inc. as reimbursement for expenses incurred by the Adviser on behalf of
CRI Liquidating and the AIM Funds. The transaction in which CRIIMI MAE became a
self-administered REIT had no impact on CRI Liquidating's or the AIM Funds'
financial statements except that the expense reimbursements previously paid to
C.R.I., Inc. are, effective June 30, 1995, paid to CM Management.
(5) Included as a reduction of net income earned from Real Estate Owned property
which is included in other investment income on the accompanying consolidated
statements of income.
(6) Included as a reduction of equity investments on the accompanying
consolidated balance sheets.
(7) The Principals have certain management interests and equity investments in
two borrowers whose mortgage loans have an aggregate balance of approximately
$22 million which were included in CMO-IV. These two mortgage loans were
originated and underwritten by Citicorp Real Estate, Inc. and were made to CRI
Hotel Income Partners, L.P. (the "CRI Hotel Loan") and Arboretum Village, L.P.
(the "Arboretum Village Loan"). The Principals are the Chairman and President,
respectively, of, and holders of a 100% equity interest in C.R.I., Inc., which
is the general partner of CRICO Hotel Associates I, L.P., the general partner of
CRI Hotel Income Partners, L.P. C.R.I., Inc. is also the managing general
partner of Capital Realty Investors III Limited Partnership which is a limited
partner in Arboretum Villages, L.P. The Principals are also the Chairman and
President, respectively and holders of a 100% equity interest in C.R.H.C.
Incorporated which is the general partner of Arboretum Villages, L.P.
16. LITIGATION
Bankruptcy Proceedings
On the Petition Date, the Debtors each filed voluntary petitions for
relief under Chapter 11 of the Bankruptcy Code in the Bankruptcy Court. These
cases are being jointly administered for procedural purposes. None of the cases
has been substantively consolidated. Under the Bankruptcy Code, the Debtors are
authorized to manage their respective affairs and operate their businesses as
debtors-in-possession while they attempt to develop a reorganization plan that
will restructure their financial affairs and allow them to emerge from
bankruptcy. As a debtor-in-possession under the Bankruptcy Code, no Debtor may
engage in any transaction outside the ordinary course of business without the
approval of the Bankruptcy Court. The following discussion describes certain
aspects of the Chapter 11 cases of the Debtors (the "Chapter 11 Cases"), but it
is not intended to be a complete summary.
Pursuant to the Bankruptcy Code, the commencement of the Chapter 11
Cases created an automatic stay, applicable generally to creditors and other
parties in interest, but subject to certain limited exceptions, of: (i) the
commencement or continuation of judicial, administrative or other actions or
proceedings against the Debtors that were or could have been commenced prior to
the commencement of the Chapter 11 Cases; (ii) the enforcement against the
Debtors or their property of any judgments obtained prior to the commencement of
the Chapter 11 Cases; (iii) the taking of any action to obtain possession of
property of the Debtors or to exercise control over such property; (iv) the
creation, perfection or enforcement of any lien against the property of the
bankruptcy estates of the Debtors; (v) any act to create, perfect or enforce
against the property of the Debtors any lien that secures a claim that arose
prior to the commencement of the Chapter 11 Cases; (vi) the taking of any action
to collect, assess or recover claims against the Debtors that arose before the
commencement of the Chapter 11 Cases; (vii) the set-off of any debt owing to the
Debtors that arose prior to the commencement of the Chapter 11 Cases against any
claim against the Debtors; or (viii) the commencement or continuation of a
proceeding before the United States Tax Court concerning the Debtors. Any entity
may apply to the Bankruptcy Court, upon appropriate showing of cause, for relief
from the automatic stay.
<PAGE>37
As noted above, the Debtors are authorized to manage their respective
properties and operate their respective businesses pursuant to the Bankruptcy
Code. During the course of the Chapter 11 Cases, the Debtors will be subject to
the jurisdiction and supervision of the Bankruptcy Court. The United States
Trustee has appointed (i) an official committee of Unsecured Creditors in the
CRIIMI MAE Chapter 11 case, (ii) an official committee of Unsecured Creditors in
the Management Chapter 11 case and (iii) an official committee of Equity
Security Holders in the CRIIMI MAE Chapter 11 case (collectively, the
"Committees"). The Committees are expected to participate in the formulation of
the plans of reorganization for the respective Debtors. The Debtors are required
to pay certain expenses of the Committees, including professional fees, to the
extent allowed by the Bankruptcy Court.
Under the Bankruptcy Code, for 120 days following the Petition Date,
only the debtor-in-possession has the right to propose and file a plan of
reorganization with the Bankruptcy Court. If a debtor-in-possession files a plan
of reorganization during this exclusivity period, no other party may file a plan
of reorganization until 180 days following the Petition Date, during which
period the debtor-in-possession has the exclusive right to solicit acceptances
of the plan. If a debtor-in-possession fails to file a plan during the
exclusivity period or such additional exclusivity period as may be ordered by
the Bankruptcy Court or, after such plan has been filed, fails to obtain
acceptance of such plan from impaired classes of creditors and equity security
holders during the exclusive solicitation period, any party in interest,
including a creditors' committee, an equity security holders' committee, a
creditor or an equity security holder may file a plan of reorganization for such
debtor. Additionally, if the Bankruptcy Court were to appoint a trustee, the
exclusivity period, if not previously terminated, would terminate.
The Debtors did not file a plan of reorganization during the initial
exclusivity period. However, the Bankruptcy Court has granted the motion to
extend the Company's exclusive right to file a plan of reorganization through
August 2, 1999 and to solicit acceptances thereof through October 3, 1999.
After a plan of reorganization has been filed with the Bankruptcy
Court, it will be sent, together with a disclosure statement approved by the
Bankruptcy Court after notice and a hearing, to members of all classes of
impaired creditors and equity security holders for acceptance or rejection.
Following acceptance or rejection of any plan by impaired classes of creditors
and equity security holders, the Bankruptcy Court, after notice and a hearing,
will consider whether to confirm the plan. To confirm a plan, the Bankruptcy
Court is required to find among other things: (i) with respect to each class of
impaired creditors and equity security holders, that each holder of a claim or
interest of such class either (A) will, pursuant to the plan, receive or retain
property of a value as of the effective date of the plan, that is at least as
much as such holder would have received in a liquidation on such date of the
Debtors or (B) has accepted the plan, (ii) with respect to each class of claims
or equity security holders, that such class has accepted the plan or is not
impaired under the plan, and (iii) confirmation of the plan is not likely to be
followed by the liquidation or need for further financial reorganization of the
Debtors or any successor unless such liquidation or reorganization is proposed
in the plan.
If any impaired class of creditors or equity security holders does not
accept a plan, the proponent of the plan may invoke the so-called "cramdown"
provisions of the Bankruptcy Code. Under these provisions, the Bankruptcy Court
may confirm a plan, notwithstanding the non-acceptance of the plan by an
impaired class of creditors or equity security holders, if certain requirements
of the Bankruptcy Code are met. These requirements include: (i) the plan does
not discriminate unfairly and (ii) the plan is fair and equitable, with respect
to each class of claims or interests that is impaired under, and has not
accepted, the plan. As used in the Bankruptcy Code, the phrases "discriminate"
and "fair and equitable" have narrow and specific meanings and their use herein
is qualified in its entirety by reference to the Bankruptcy Code.
Bankruptcy Related Litigation
The following is a summary of material litigation matters between the
Company and certain of its secured creditors that was commenced since the
Petition Date. The Company has reached agreement with certain of these
creditors, as set forth in greater specificity below.
<PAGE>38
Merrill Lynch
As of the Petition Date, the Company owed Merrill Lynch approximately
$274.8 million with respect to advances to the Company under an assignment
agreement pursuant to which the Company pledged Subordinated CMBS. Borrowings
under this assignment agreement are secured by a first priority security
interest in certain CMBS issued by CMO-IV, together with all proceeds,
distributions and amounts realized therefrom (the "Distributions") (the CMBS
pledged to Merrill Lynch and the Distributions are hereafter referred to
collectively as the "Merrill Collateral").
On October 16, 1998, Merrill Lynch filed a motion with the Bankruptcy
Court for relief from the automatic stay or, in the alternative, for entry of an
order directing the Company to provide adequate protection for its interest in
the Merrill Collateral. On October 21, 1998, the Company filed a complaint
against Merrill Lynch for turnover of Distributions remitted to Merrill Lynch on
October 2, 1998 by LaSalle National Bank, as well as other relief.
On December 4, 1998, the Bankruptcy Court approved a consent order
entered into between the Company and Merrill Lynch. Among other things, pursuant
to the consent order, the pending litigation with Merrill Lynch was dismissed
without prejudice. The consent order also preserved the portfolio of CMBS
pledged as collateral to Merrill Lynch and provided for the Company to receive
distributions of 50 percent of the monthly cash flow from those CMBS net of
interest payable to Merrill Lynch. The 50 percent of distributions received by
Merrill Lynch is to be applied to reduce principal. Such arrangement will remain
in effect until the earlier of a further order of the Bankruptcy Court affecting
the arrangement or the effective date of a plan of reorganization of the
Company.
Morgan Stanley
As of the Petition Date, the Company owed Morgan Stanley approximately
$182.4 million with respect to advances to the Company under an agreement
pursuant to which the Company pledged CMBS. The borrowings under this agreement
are secured by certain CMBS, including (i) CRIIMI MAE Commercial Mortgage Trust,
Series 1998-C1, Class B and C Certificates (collectively or any portion thereof,
the "CBO-2 BBB Bonds") and (ii) Morgan Stanley Capital I Inc., Series 1998-W2,
Class F, G, H, J, K, L and M Certificates (collectively or any portion thereof,
the "Wells Fargo Bonds" and, together with the CBO-2 BBB Bonds, the "Morgan
Collateral").
On October 6, 1998, Morgan Stanley advised the Company that it was
exercising alleged ownership rights over the Morgan Collateral. On October 20,
1998, the Company filed an adversary proceeding against Morgan Stanley alleging,
among other things, that Morgan Stanley violated the automatic stay and seeking
turnover of the Morgan Collateral.
On January 12, 1999, the Company and Morgan Stanley agreed upon and
filed with the Bankruptcy Court a stipulation and consent order, which was
approved by the Bankruptcy Court and entered on January 26, 1999. The consent
order provided, among other things, for the following: (i) an agreed sale
procedure for the CBO-2 BBB Bonds during a specified sale period; (ii) the
payment of a portion of the sale proceeds of the CBO-2 BBB Bonds to the Company;
(iii) a standstill period relating to the Wells Fargo Bonds through March 31,
1999 unless otherwise extended by the Company and Morgan Stanley, during which
time Morgan Stanley may not sell, pledge, encumber or otherwise transfer the
Wells Fargo Bonds and (iv) the postponement of the litigation with Morgan
Stanley while the parties seek a permanent resolution of their disputes. On
March 5, 1999, the CBO-2 BBB Bonds were sold. Of the $159 million in net sale
proceeds, $141.2 million was used to repay the Company's borrowings under the
agreement with Morgan Stanley, and $17.8 million was remitted to CRIIMI MAE. As
a result of the transaction, CRIIMI MAE's litigation against Morgan Stanley has
been resolved with respect to the CBO-2 BBB Bonds to the satisfaction of both
parties. The Company and Morgan Stanley have agreed to extend the standstill
period with respect to the Wells Fargo Bonds through May 15, 1999. At the end of
this standstill period, Morgan Stanley has until May 25, 1999 to respond to the
Company's complaint and resume litigation with respect to the Wells Fargo Bonds,
unless the standstill period is further extended by the parties or an agreement
between the parties is reached.
Citicorp and Citibank
In addition to the Citibank Program pursuant to which the Company
originated loans, as previously discussed, the Company also has a financing
arrangement with Citicorp pursuant to which the Company pledged CMBS.
<PAGE>39
On October 13, 1998, Citicorp demanded from Norwest Bank Minnesota,
N.A. ("Norwest") the immediate transfer of certain CMBS (the "Retained Bonds")
issued pursuant to CMO-IV. Norwest served as indenture trustee. The Retained
Bonds are collateral for amounts advanced to the Company by Citicorp under the
financing arrangement. As of the Petition Date, the Company owed Citicorp $79.1
million under the facility.
On October 15, 1998, the Company filed an emergency motion to enforce
the automatic stay against Norwest and Citicorp. Pursuant to an Order dated
October 23, 1998, the Bankruptcy Court prohibited Citicorp from selling the
Retained Bonds without further order of the Bankruptcy Court. On October 23,
1998, Citicorp requested an emergency hearing regarding the October 23 Order,
and on November 2, 1998, the Company filed a complaint against Citicorp seeking,
among other things, a declaratory judgment as to whether the automatic stay
applies to actions taken by Citicorp with respect to the Retained Bonds.
On March 11, 1999, the Company finalized agreements with Citicorp and
Citibank, pursuant to which the parties agreed to adjourn the pending litigation
for a four month period. One of the agreements also provides that Salomon Smith
Barney, in cooperation with CRIIMI MAE, will sell two classes of investment
grade CMBS from CMO-IV constituting a portion of the collateral securing
advances under the Citicorp financing arrangements. In addition, Citibank, in
cooperation with CRIIMI MAE, will sell commercial mortgages originated last year
under the Citibank Program, provided that the sale results in CRIIMI MAE
receiving minimum net proceeds of not less than $3.5 million, after satisfying
certain amounts due to Citibank, from the amount held in the reserve account.
The minimum net proceeds provision may be waived by agreement of the Company,
the Unsecured Committee and the Equity Committee. The agreements with Citicorp
and Citibank were approved by the Bankruptcy Court by stipulations and consent
orders entered on April 5, 1999.
A related interpleader action between Norwest, the Company and
Citicorp, which was initiated on October 20, 1998 by Norwest to determine
whether the Company or Citicorp is the rightful owner of funds that were to have
been paid by Norwest, as indenture trustee, remains pending before the
Bankruptcy Court. During the pendency of this matter, certain payments on the
related bonds are held in an account controlled by the Bankruptcy Court. No
trial date has been set for this matter.
First Union
The Company has also had discussions with First Union National Bank
("First Union"). First Union, a creditor of both the Company and CM Management,
is asserting substantial secured and unsecured claims. On or about March 23,
1999, First Union filed in each of the Company's and CM Management's Chapter 11
cases a motion for relief from the automatic stay pursuant to section 362(d) of
the United States Bankruptcy Code. On or about March 26, 1999, First Union
requested that the Court dismiss without prejudice both motions. On April 20,
1999, First Union refiled its motions for relief from the Automatic Stay. The
hearing was originally scheduled for May 14, 1999, but has been adjourned by
consent until July 2, 1999. The Company believes that First Union's asserted
interest in certain collateral is adequately protected and it intends to oppose
First Union's motion. The Company and First Union, however, continue to have
discussions aimed at resolving the open issues between the parties, including,
but not limited to, the validity of First Union's liens, adequate protection of
First Union's interests and an appropriate sharing of what First Union asserts
is its cash collateral. There can, however, be no assurance that the Company and
First Union will reach an agreement.
Arrangements with Other Creditors
In addition to the foregoing, the Company has had discussions with
other secured creditors against whom the Company was not engaged in litigation.
One such creditor is German American Capital Corporation ("GACC"). On February
3, 1999, the Bankruptcy Court approved an Amended Consent Order between the
Company and GACC that provides for the following: (a) acknowledgement that GACC
has a valid perfected security interest in its collateral; (b) authority for
GACC to hedge its loan, subject to a hedge cost cap; and (c) as adequate
protection, sharing of cash collateral on a 50/50 basis, after payment of
interest expense, with the percentage received by GACC to be applied to reduce
principal and pay certain hedge costs, if any. In addition, the Company is
prohibited from using GACC's cash collateral for certain purposes, including
loan originations and Subordinated CMBS acquisitions. The Amended Consent Order
expired April 28, 1999. The Company and GACC have agreed to extend the Amended
Consent Order until August 2, 1999, and a stipulation to that effect has been
signed by the Company and GACC and submitted to the Court for approval.
<PAGE>40
Shareholder Litigation
The Company is aware that certain plaintiffs filed 20 separate class
action civil lawsuits (the "Complaints") in the United States District Court for
the District of Maryland (the "District Court") against certain officers and
directors of the Company between October 7, 1998 and November 30, 1998. On March
9, 1999, the District Court ordered the consolidation of the Complaints into a
single action entitled "In Re CRIIMI MAE, Inc. Securities Litigation." On April
23, 1999, a group of thirteen putative members of the class of individuals who
allegedly suffered damages during the class period between February 20, 1998 and
October 5, 1998 (collectively, the "Plaintiffs") filed an Amended and
Consolidated class action Complaint alleging violations of federal securities
laws (the "Consolidated Amended Complaint"). The Consolidated Amended Complaint
names as defendants William B. Dockser, as Chairman of the Board of Directors of
CRIIMI MAE, H. William Willoughby as a member of the Board of Directors and/or
an officer of CRIIMI MAE, and Cynthia O. Azzara as an officer of CRIIMI MAE
(collectively, the "Defendants"). Although CRIIMI MAE and CM Management have not
been named as defendants, both companies are subject to indemnity obligations to
the Defendants under the provisions of their respective constituent documents,
the Defendants' employment contracts and applicable state law. CRIIMI MAE has
directors and officers liability insurance policies that have a combined
coverage limit of $20 million.
The Consolidated Amended Complaint alleges generally that the
Defendants violated Section 10(b) of the Securities and Exchange Act of 1934 as
amended (the "Exchange Act") by, among other things, making false statements of
material fact and failing to disclose certain material facts concerning, among
other things, CRIIMI MAE's business stratey and its ability to meet collateral
calls from lenders. The Consolidated Amended Complaint also generally alleges
that the Defendants violated Section 20(a) of the Exchange Act because each
Defendant was allegedly a "controlling person" as that term is defined under
Section 20(a).
The relief sought in the Consolidated Amended Complaint includes all or
substantially all of the following: (i) certification of a class under Rule 23
of the Federal Rules of Civil Procedure; (ii) certification of the Plaintiffs as
class representatives and as lead plaintiffs and their counsel as lead counsel;
(iii) award of monetary damages, including compensatory and rescissionary
damages and interest thereon; (iv) a judgment awarding the Plaintiffs and the
Class their counsel fees, experts' fee and other costs of suit; (v) award to the
Plaintiffs such other relief as the District Court deems just and proper or as
the District Court otherwise requires; and (vi) trial by jury.
The motion by the Plaintiffs requesting the District Court to appoint
the Plaintiffs as lead plaintiffs under the Private Securities Litigation Reform
Act of 1995 and to approve, among other things, certain law firms as counsel to
the lead plaintiffs (the "Motion") remains pending. Defendants Dockser,
Willoughby and Azzara have opposed the Motion. The District Court has deferred a
decision on the Motion until a later date.
CRIIMI MAE and the Defendants are continuing to investigate the
allegations in the Complaints. The Defendants intend to defend vigorously the
claims asserted in the Complaint. CRIIMI MAE cannot predict with any degree of
certainty the ultimate outcome of such litigation.
17. Segment Reporting
During 1997, FASB issued SFAS 131 "Disclosures about Segments of an
Enterprise and Related Information" ("FAS 131"). FAS 131 establishes standards
for the way that public business enterprises report information about operating
segments and related disclosures about products and services, geographical areas
and major customers.
<PAGE>41
Management assesses Company performance and allocates capital
principally on the basis of two lines of business: portfolio investment and
mortgage servicing. These two lines of business are managed separately as they
provide different sources and types of revenues for the Company.
Portfolio investment primarily includes (i) acquiring non-investment
grade subordinated securities (rated below BBB-) or unrated securities backed by
pools of mortgage loans on multifamily, retail and other commercial real estate
("Subordinated CMBS"), (ii) originating and underwriting commercial mortgage
loans, (iii) securitizing pools of commercial mortgage loans and resecuritizing
pools of Subordinated CMBS. The Company's income is primarily generated from
these investments.
Mortgage servicing, which consists of all the operations of CMSLP,
includes performing servicing functions with respect to the Company's mortgage
loans and the mortgage loans underlying the Company's Subordinated CMBS. CMSLP
performs a variety of servicing including special, master, direct and loan
management as well as advisory services. For these services, CMSLP earns a
servicing fee which is calculated as a percentage of the principal amount of the
servicing portfolio typically paid when the related service is rendered. These
services may include either routine monthly services, non-monthly periodic
services or event-triggered services. In acting as a servicer, CMSLP also earns
interest income on the investment of escrows held on behalf of borrowers and
other income which includes, among other things, assumption fees and
modification fees. CMSLP is an unconsolidated affiliate of CRIIMI MAE. The
results of its operations are reported in the Company's income statement in
equity in earnings from investments.
Revenues, expenses and assets are accounted for in accordance with the
accounting policies set forth in Note 3, "Summary of Significant Accounting
Policies." Overhead expenses, such as administrative expenses, are allocated
either directly to each business line or through estimates based on factors such
as number of personnel or square footage of office space.
The following table details the Company's financial performance by
these two lines of business for the quarter ended March 31, 1999, and 1998. The
basis of accounting used in the table is GAAP.
<PAGE>42
<TABLE>
<CAPTION>
For the three months ended March 31,
1999
------
Portfolio Mortgage
Investment Servicing Elimination(1) Consolidated
----------- --------- ------------- -------------
<S> <C> <C> <C> <C>
Interest Income - Subordinated CMBS $ 38,485,145 $ -- $ -- $ 38,485,145
Interest Income-Insured Mortgage
Securities 8,900,308 -- -- 8,900,308
Interest Income-Originated Loans 8,840,827 -- -- 8,840,827
Interest Income-Other -- 572,755 (572,755) --
Servicing Income -- 1,613,945 (1,613,945) --
Gain on mortgage security dispositions 908,604 -- -- 908,604
Unrealized gain on warehouse obligation 3,946,475 -- -- 3,946,475
Other income 944,235 1,286,280 (3,201,115) (970,600)
---------- ---------- ----------- ------------
Total Revenue 62,025,594 3,472,980 (5,387,815) 60,110,759
---------- ---------- ----------- ------------
General and Administrative (2,634,114) (4,482,283) 4,482,283 (2,634,114)
Interest Expense (36,428,930) (14,448) 14,448 (36,428,930)
Other expenses (719,394) (1,002,962) 1,002,962 (719,394)
Reorganization Items (5,507,838) -- -- (5,507,838)
----------- ---------- ---------- ------------
Total Expenses (45,290,276) (5,499,693) 5,499,693 (45,290,276)
----------- ------------ ---------- ------------
Net Income 16,735,318 (2,026,713) 111,878 14,820,483
----------- ------------ ----------- -----------
Preferred dividends accrued (1,403,534) -- -- (1,403,534)
=========== ============ ========== ===========
Net Income Available to common
shareholders $15,331,784 $ (2,026,713) $ 111,878 $ 13,416,949
----------- ------------ ---------- ------------
Total Assets $2,399,008,962 $24,820,676 $(2,917,485) $2,420,912,153
============== =========== =========== ==============
(1) The Company performs the mortgage servicing function through CMSLP which is
accounted for under the equity method. The elimination column reclassifies CMSLP
under the equity method as it is accounted for in the Company's consolidated
financial statements.
For the three months ended March 31,
1998
----
Portfolio Mortgage
Investment Servicing Elimination(1) Consolidated
----------- --------- ------------- -------------
<S> <C> <C> <C> <C>
Interest Income - Subordinated CMBS $ 30,891,021 $ -- $ -- $ 30,891,021
Interest Income-Insured Mortgage
Securities 11,588,237 -- -- 11,588,237
Interest Income-Other -- 737,074 (737,074) --
Servicing Income -- 1,453,903 (1,453,903) --
Gain on mortgage security dispositions 46,449 -- -- 46,449
Other income 1,584,185 935,287 ( 28,438) 2,491,034
------------- ---------- ----------- ------------
Total Revenue 44,109,892 3,126,264 (2,219,415) 45,016,741
------------- ----------- ------------ ------------
General and Administrative (2,983,757) (1,654,755) 1,654,755 (2,983,757)
Interest Expense (27,391,853) (125,627) 125,627 (27,391,853)
Other expenses (745,703) (407,883) 407,883 (745,703)
------------- ----------- ----------- ------------
Total Expenses (31,121,313) (2,188,265) 2,188,265 (31,121,313)
------------- ----------- ----------- ------------
Net Income 12,988,579 937,999 (31,150) 13,895,428
Preferred dividends accrued or paid (1,639,497) -- -- (1,639,497)
------------- ----------- ----------- ------------
Net Income Available to common
shareholders $ 11,349,082 $ 937,999 $ (31,150) $ 12,255,931
============= =========== =========== ============
Total Assets $2,204,679,941 $30,945,041 $(7,146,606) $2,228,478,376
============== =========== ============ ==============
</TABLE>
<PAGE>43
(1) The Company performs the mortgage servicing function through CMSLP which is
accounted for under the equity method. The elimination column reclassifies CMSLP
under the equity method as it is accounted for in the Company's consolidated
financial statements.
18. Financial Statements for the Debtor Entities
The following are unconsolidated financial statements for CRIIMI MAE,
CM Management and Holdings II:
CRIIMI MAE Inc.
BALANCE SHEET
(Unconsolidated)
<TABLE>
<CAPTION>
March 31, 1999 December 31, 1998
-------------- -----------------
<S> <C> <C>
Assets
Subordinated CMBS, at fair value $ 903,037,209 $1,071,872,143
Insured Mortgage security, at fair value 5,505,540 5,511,707
Receivables and Other Assets 78,649,465 74,226,682
Cash and Cash Equivalents 51,603,944 22,714,828
Investment in Subsidiaries 244,632,099 246,817,957
-------------- --------------
Total Assets $1,283,428,257 $1,421,143,317
============== ==============
Liabilities
Accounts Payable and other Accrued Expenses $ 9,174,805 $ 7,374,281
Liabilities Subject to Chapter 11 Proceedings 961,624,883 1,105,892,131
-------------- -------------
Total Liabilities 970,799,688 1,113,266,412
============== =============
Shareholders' Equity
Convertible Preferred Stock 17,970 18,170
Common Stock 535,532 528,981
Additional paid-in capital 531,953,248 525,621,510
Accumulated Other Comprehensive Income (219,878,181) (218,291,756)
------------- --------------
Shareholders' Equity 312,628,569 307,876,905
-------------- --------------
Total Liabilities and Shareholders' Equity $1,283,428,257 $1,421,143,317
============== ==============
</TABLE>
<PAGE>44
CRIIMI MAE Inc.
STATEMENT OF NET INCOME
AND COMPREHENSIVE INCOME
(Unconsolidated)
<TABLE>
<CAPTION>
For the three months ended
March 31, 1999*
--------------------------
<S> <C>
Interest Income $ 30,250,850
Interest Expense (16,803,626)
---------------
Net Interest Margin 13,447,224
---------------
Equity in Earnings from Subsidiaries 2,335,106
Other Income 387,245
General and Administrative Expenses (141,443)
Amortization of Assets Acquired in Merger (719,394)
Unrealized gain (loss) on warehouse obligation 3,946,475
Reorganization Items (4,434,730)
---------------
Subtotal 1,373,259
---------------
Net Income $ 14,820,483
===============
Other Comprehensive Income (1,586,425)
--------------
Comprehensive Income $ 13,234,058
==============
</TABLE>
* The Debtor filed a petition for relief under Chapter 11 on October 5, 1998.
Therefore, comparable information for the three months ended March 31, 1998 is
not presented.
<PAGE>45
CRIIMI MAE Inc.
Notes to Financial Statements
March 31, 1999
(Unconsolidated)
1. BASIS OF PRESENTATION
GAAP requires that certain entities that meet specific criteria be
consolidated with CRIIMI MAE including: CM Management and Holdings II (Debtors)
and CRIIMI MAE Financial Corporation III, CRIIMI MAE QRS 1, Inc., CRIIMI MAE
Holdings Inc. (currently inactive), CRIIMI MAE Holdings L.P. (currently
inactive), CRIIMI, Inc., and CRIIMI MAE CMBS Corporation (Non-Debtors). For
purposes of this presentation CRIIMI MAE accounts for all subsidiaries (those
consolidated under GAAP and those accounted for under the equity method under
GAAP) using the equity method of accounting.
All entities that CRIIMI MAE would normally consolidate for GAAP
purposes are being accounted for under the equity method of accounting. The
equity method of accounting consists of recording an original investment in an
investee as the amount originally contributed. Subsequently this investment is
increased/(decreased) for CRIIMI MAE's share of the investee's income/(losses)
and increased for additional contributions and decreased for distributions
received from the investee. CRIIMI MAE's share of the investee's income is
recognized as "Equity in earnings from subsidiaries" on the income statement.
In management's opinion, with the exception of the matter discussed
above, the financial statements of CRIIMI MAE contain all adjustments
(consisting of only normal recurring adjustments) necessary to present fairly
the financial position of CRIIMI MAE as of March 31, 1999 and December 31, 1998,
and the unconsolidated results of its operations for the period January 1, 1999
through March 31, 1999.
<PAGE>46
CRIIMI MAE Management, Inc.
BALANCE SHEET
<TABLE>
<CAPTION>
Assets March 31, 1999 December 31, 1998
-------------- -----------------
<S> <C> <C>
Note Receivable $ 3,376,468 $ 3,376,468
Cash and Cash Equivalents 894,340 958,175
Other Assets 3,371,878 3,332,116
Investment in Subsidiaries 17,607,415 19,209,778
------------ -----------
Total Assets $ 25,250,101 $26,876,537
============ ===========
Liabilities
Accounts Payable and other Accrued Expenses $ 2,717,967 $ 2,367,277
Liabilities Subject to Chapter 11 Proceedings 6,286,835 6,150,787
------------ -----------
Total Liabilities 9,004,802 8,518,064
============ ===========
Shareholders' Equity 16,245,299 18,358,473
------------ -----------
Total Liabilities and Shareholders' Equity $ 25,250,101 $26,876,537
============ ===========
</TABLE>
<PAGE>47
CRIIMI MAE Management, Inc.
STATEMENT OF NET LOSS
<TABLE>
<CAPTION>
For the three months ended
March 31, 1999*
--------------------------
Income
- ------
<S> <C>
Interest Income - Note Receivable and short term interest income $ 91,446
-------------
Expenses
- --------
Equity in Loss from subsidiaries 1,463,918
Interest Expense 111,864
Depreciation and Amortization 134,340
General and Administrative Expenses 2,122,848
Reorganization Items 879,777
-------------
Total Expenses 4,712,747
-------------
Net Loss $ (4,621,301)
=============
</TABLE>
* CRIIMI MAE Management, Inc. filed a petition for relief under Chapter 11 on
October 5, 1998. Therefore, comparable information for the three months ended
March 31, 1998 is not presented.
<PAGE>48
CRIIMI MAE Management, Inc.
Notes to Financial Statements
March 31, 1999
1. BASIS OF PRESENTATION
In management's opinion, the accompanying unaudited financial
statements of CM Management contain all adjustments (consisting of only normal
recurring adjustments) necessary to present fairly the financial position of CM
Management on a stand-alone basis as of March 31, 1999 and December 31, 1998 and
the results of its operations for the period January 1, 1999 to March 31, 1999,
in accordance with GAAP.
<PAGE>49
Holdings II, L.P.
BALANCE SHEET
<TABLE>
<CAPTION>
Assets March 31, 1999 December 31, 1998
-------------- -----------------
<S> <C> <C>
Subordinated CMBS, at fair value $42,388,014 $43,001,454
Interest Receivable 1,875,381 1,064,071
Cash 100 100
------------ -----------
Total Assets $ 44,263,495 $44,065,625
============ ===========
Liabilities
Other Accrued Expenses $ 249,966 $ 209,213
Liabilities Subject to Chapter 11 Proceedings 40,692,607 40,132,693
------------ ----------
Total Liabilities 40,942,573 40,341,906
============ ==========
Partners' Equity
Contributed Capital 6,136,492 5,927,429
Accumulated Other Comprehensive Income (2,815,570) (2,203,710)
------------- -----------
Partners' Equity 3,320,922 3,723,719
------------ -----------
Total Liabilities and Partners' Equity $ 44,263,495 $44,065,625
============ ===========
</TABLE>
<PAGE>50
Holdings II, L.P.
STATEMENT OF NET INCOME (LOSS) AND COMPREHENSIVE INCOME
<TABLE>
<CAPTION>
For the three months ended
March 31, 1999*
--------------------------
<S> <C>
Interest Income:
Subordinated CMBS $ 796,669
Interest Expense:
Variable rate secured borrowings - CMBS (559,913)
-------------
Net Interest Margin 236,756
-------------
Reorganization Expense (193,328)
-------------
Net Income (Loss) $ 43,428
=============
Other Comprehensive Income (611,860)
-------------
Comprehensive Income $ (568,432)
=============
</TABLE>
* Holdings II L.P. filed a petition for relief under Chapter 11 on October 5,
1998. Therefore, comparable information for the three months ended March
31, 1998 is not presented.
<PAGE>51
Holdings II, L.P.
Notes to Financial Statements
March 31, 1999
1. BASIS OF PRESENTATION
Holdings II's CMBS (2 tranches from CMO-IV) are carried as investments
in loans at amortized cost basis in CRIIMI MAE's March 31, 1999 10-Q's
consolidated financial statements. (See Notes 3 and 6 for discussion of this
accounting.) On a stand-alone basis, GAAP requires that Holdings II's investment
in CMBS be carried as securities (as opposed to loans) at fair value.
In management's opinion, the accompanying unaudited financial
statements of Holdings II contain all adjustments (consisting of only normal
recurring adjustments) necessary to present fairly the financial position of
Holdings II on a stand-alone basis as of March 31, 1999 and December 31, 1998
and the results of its operations for the period January 1, 1999 to March 31,
1999.
<PAGE>52
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS. When used in this Quarterly Report on Form 10-Q, the
words "believes," "anticipates," "expects" and similar expressions are intended
to identify forward-looking statements. Statements looking forward in time are
included in this Quarterly Report on Form 10-Q pursuant to the "safe harbor"
provision of the Private Securities Litigation Reform Act of 1995. Such
statements are subject to certain risks and uncertainties, which could cause
actual results to differ materially, including, but not limited to, the risk
factors contained below and in the Company's reports filed with the Securities
and Exchange Commission pursuant to the Securities Exchange Act of 1934,
including its Annual Report on Form 10-K for the year ended December 31, 1998.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of the date hereof. The Company undertakes no
obligation to publicly revise these forward-looking statements to reflect events
or circumstances occurring after the date hereof or to reflect the occurrence of
unanticipated events.
General
CRIIMI MAE Inc. (together with its consolidated subsidiaries, unless
the context otherwise indicates, "CRIIMI MAE" or the "Company") is a fully
integrated commercial mortgage company structured as a self-administered real
estate investment trust ("REIT"). Prior to the filing by CRIIMI MAE Inc.
(unconsolidated) and two of its operating subsidiaries for relief under Chapter
11 of the U.S. Bankruptcy Code on October 5, 1998 (the "Petition Date") as
described below, CRIIMI MAE's primary activities included (i) acquiring
non-investment grade securities (rated below BBB-) or unrated securities backed
by pools of mortgage loans on multifamily, retail and other commercial real
estate ("Subordinated CMBS"), (ii) originating and underwriting commercial
mortgage loans, (iii) securitizing pools of commercial mortgage loans and
resecuritizing pools of Subordinated CMBS, and (iv) through the Company's
servicing affiliate, CRIIMI MAE Services Limited Partnership ("CMSLP"),
performing servicing functions with respect to the mortgage loans underlying the
Company's Subordinated CMBS.
Since filing for Chapter 11 protection, CRIIMI MAE has suspended its
Subordinated CMBS acquisition, origination and securitization programs. The
Company continues to hold a substantial portfolio of Subordinated CMBS,
originated loans and mortgage securities and, through CMSLP, acts as a servicer
for its own as well as third party securitized mortgage loan pools. Despite the
turmoil in the capital markets commencing in late summer of 1998, the mortgage
loans underlying CRIIMI MAE's portfolio of Subordinated CMBS have experienced no
losses of principal from defaults.
In addition to the two operating subsidiaries which filed for Chapter
11 protection with the Company, the Company owns 100% of multiple financing and
operating subsidiaries as well as various interests in other entities (including
CMSLP) which either own or service mortgage and mortgage-related assets (the
"Non-Debtor Affiliates"). See Note 3 to Notes to Consolidated Financial
Statements. None of the Non-Debtor Affiliates has filed for bankruptcy
protection.
The Company was incorporated in Delaware in 1989 under the name CRI
Insured Mortgage Association, Inc. ("CRI Insured"). In July 1993, CRI Insured
changed its name to CRIIMI MAE Inc. and reincorporated in Maryland. In June
1995, certain mortgage businesses affiliated with C.R.I., Inc. were merged into
CRIIMI MAE (the "Merger"). The Company is not a government sponsored entity or
in any way affiliated with the United States government or any United States
government agency.
Chapter 11 Filing
Prior to the Petition Date, CRIIMI MAE financed a substantial portion
of its Subordinated CMBS acquisitions with short-term, variable-rate financing
facilities secured by the Company's CMBS. The agreements governing these
financing arrangements typically required the Company to maintain collateral
with a market value not less than a specified percentage of the outstanding
indebtedness ("loan-to-value ratio"). The agreements further provided that the
creditors could require the Company to provide cash or additional collateral if
the market value of the existing collateral fell below this minimum amount.
<PAGE>53
As a result of the turmoil in the capital markets commencing in late
summer of 1998, the spreads between CMBS yields and yields on Treasury
securities with comparable maturities began to widen substantially and rapidly.
Due to this widening of CMBS spreads, the market value of the CMBS securing the
Company's short-term, variable-rate financing facilities declined. CRIIMI MAE's
short-term secured creditors perceived that the value of the CMBS securing their
facilities with the Company had fallen below the minimum loan-to-value ratio
described above and, consequently, made demand upon the Company to provide cash
or additional collateral with sufficient value to cure the perceived value
deficiency. In August and September of 1998, the Company received and met
collateral calls from its secured creditors. At the same time, CRIIMI MAE was in
negotiations with various third parties in an effort to obtain additional debt
and equity financing that would provide the Company with additional liquidity.
On Friday afternoon, October 2, 1998, the Company was in the closing
negotiations of a refinancing with one of its unsecured creditors that would
have provided the Company with additional borrowings when it received a
significant collateral call from Merrill Lynch Mortgage Capital Inc. ("Merrill
Lynch"). The basis for this collateral call, in the Company's view, was
unreasonable. After giving consideration to, among other things, this collateral
call and the Company's concern that its failure to satisfy this collateral call
would cause the Company to be in default under a substantial portion of its
financing arrangements, the Company reluctantly concluded on Sunday, October 4,
1998 that it was in the best interests of creditors, equity holders and other
parties in interest to seek Chapter 11 protection.
On October 5, 1998, CRIIMI MAE (unconsolidated) and two of its
consolidated operating subsidiaries, CRIIMI MAE Management, Inc. ("CM
Management"), and CRIIMI MAE Holdings II, L.P. ("Holdings II" and, together with
CRIIMI MAE and CM Management, the "Debtors") filed for relief under Chapter 11
of the U.S. Bankruptcy Code in the United States Bankruptcy Court for the
District of Maryland, Southern Division, in Greenbelt, Maryland (the "Bankruptcy
Court"). These related cases are being jointly administered under the caption
"In re CRIIMI MAE Inc., et al.," Ch. 11 Case No. 98-2-3115-DK.
While in bankruptcy, CRIIMI MAE has been streamlining its operations in
an effort to reduce operating expenses. The Company significantly reduced the
number of employees in its origination and underwriting operations in October
1998, but has retained key employees in each of these operational areas. In
connection with these reductions, the Company closed its five regional loan
origination offices, retaining only a core presence in Rockville, Boston,
Houston, Chicago and San Francisco.
Although the Company has significantly reduced its work force, the
Company recognizes that retention of its executives and other remaining
employees is essential to the efficient operation of its business and to its
reorganization efforts. Accordingly, the Company has, with Bankruptcy Court
approval, adopted an employee retention plan. See Note 14 to Notes to
Consolidated Financial Statements.
The Company is working diligently toward the preparation of a plan of
reorganization. The Bankruptcy Court has granted the motion to extend the
Company's exclusive right to file a plan of reorganization through August 2,
1999 and to solicit acceptances thereof through October 3, 1999. Management
expects to file a plan of reorganization during the summer of 1999, which would
contemplate the Company's emergence from bankruptcy later in 1999. There can be
no assurance at this time, however, that a plan of reorganization will be
proposed by the Company during such time or that such plan will be confirmed and
consummated. See Note 16 to Notes to Consolidated Financial Statements for a
general discussion of the bankruptcy process.
The Company presently contemplates attempting to fund its
reorganization primarily through recapitalization financing aggregating
approximately $1.02 billion ( the "Exit Financing"). The Exit Financing is
expected to consist of approximately $300 million of new bank term debt, an
aggregate of approximately $520 million of senior and senior subordinated
notes to be sold in a Rule 144A private placement, and approximately $200
million of equity capital to be sold in private placement. The Company
has received several preliminary proposals from major financial institutions
concerning the equity component of the Exit Financing. These financial
institutions have been invited to perform due diligence during May 1999 with
respect to the Company in contemplation of the submission of final equity
proposals by the end of May. If the Company is able to successfully
conclude negotiations with respect to equity capital, the Company will then seek
to solidify the bank and high yield debt elements of the Exit Financing. The
Company has contacted numerous potential bank lenders and expects to receive
proposals with respect to the bank debt within the next several weeks. There can
be no assurance that the Company will be able to finalize any such financing
within the timetable contemplated by the Company or that the recapitalization,
if successful, will take the form described above.
<PAGE>54
Effect of Chapter 11 Filing on REIT Status and Other Tax Matters
REIT Status. CRIIMI MAE is required to meet income, asset, ownership
and distribution tests to maintain its REIT status. The Company has satisfied
the REIT requirements for all years through, and including, 1998. However, due
to the uncertainty resulting from its Chapter 11 filing, there can be no
assurance that CRIIMI MAE will retain its REIT status for 1999 or subsequent
years. If the Company fails to retain its REIT status for any taxable year, it
will be taxed as a regular domestic corporation subject to federal and state
income tax in the year of disqualification and for at least the four subsequent
years.
The Company's 1999 Taxable Income. As a REIT, CRIIMI MAE is generally
required to distribute at least 95% of its "REIT taxable income" to its
shareholders each tax year. For purposes of this requirement, REIT taxable
income excludes certain excess noncash income such as original issue discount
("OID"). In determining its federal income tax liability, CRIIMI MAE, as a
result of its REIT status, is entitled to deduct from its taxable income
dividends paid to its shareholders. Accordingly, to the extent the Company
distributes its net income to shareholders, it effectively reduces taxable
income, on a dollar-for-dollar basis, and eliminates the "double taxation" that
normally occurs when a corporation earns income and distributes that income to
shareholders in the form of dividends. The Company, however, still must pay
corporate level tax on any 1999 taxable income not distributed to shareholders.
Unlike the 95% distribution requirement, the calculation of the Company's
federal income tax liability does not exclude excess noncash income such as OID.
Should CRIIMI MAE terminate or fail to maintain its REIT status during the year
ended December 31, 1999, the tax liability on the first quarter's taxable income
of approximately $19.6 million would be approximately $7.8 million.
In determining the Company's taxable income for 1999, distributions
declared by the Company on or before September 15, 2000 and actually paid by the
Company on or before December 31, 2000 will be considered as dividends paid for
the 1999 year. The Company is currently exploring a variety of methods for
distributing some or all of its 1999 taxable income, including the potential
distribution of securities or other noncash dividend payments. As a result of
the Chapter 11 filing, there can be no assurance that the Company will be able
to make distributions with respect to its 1999 taxable income.
1999 Excise Tax Liability. Apart from the requirement that the Company
distribute at least 95% of its REIT taxable income to maintain REIT status,
CRIIMI MAE is also required each calendar year to distribute an amount at least
equal to the sum of 85% of its "REIT ordinary income" and 95% of its "REIT
capital gain income" to avoid incurring a nondeductible excise tax. Unlike the
95% distribution requirement, the 85% distribution requirement is not reduced by
excess noncash income items such as OID. In addition, in determining the
Company's excise tax liability, only dividends actually paid in 1999 will reduce
the amount of income subject to this excise tax.
The Company's 1998 Taxable Income. For 1998, the Company could have up
to approximately $18 million in undistributed taxable income, resulting in a
potential tax liability of up to $7 million for state and federal taxes. The
Company is currently exploring a variety of methods for distributing some or
all of its 1998 taxable income, including the potential distribution of
securities or other noncash dividend payments. As a result of the Chapter 11
filing, there can be no assurance that the Company will be able to make
distributions with respect to its 1998 taxable income.
Taxable Mortgage Pool Risks. An entity that constitutes a "taxable
mortgage pool" as defined in the Tax Code ("TMP") is treated as a separate
corporate level taxpayer for federal income tax purposes. In general, for an
entity to be treated as a TMP (i) substantially all of the assets must consist
of debt obligations and a majority of those debt obligations must consist of
mortgages; (ii) the entity must have more than one class of debt securities
outstanding with separate maturities and (iii) the payments on the debt
securities must bear a relationship to the payments received from the mortgages.
<PAGE>55
The Company currently owns all of the equity interests in three trusts that
constitute TMPs (CBO-1, CBO-2 and CMO-IV, collectively the "Trusts"). See Notes
5 and 6 for descriptions of CBO-1, CBO-2 and CMO-IV. The statutory provisions
and regulations governing the tax treatment of TMPs (the "TMP Rules") provide an
exemption for TMPs that constitute "qualified REIT subsidiaries" (that is,
entities whose equity interests are wholly owned by a REIT). As a result of this
exemption and the fact that the Company owns all of the equity interests in each
Trust, the Trusts currently are not required to pay a separate corporate level
tax on income they derive from their underlying mortgage assets.
The Company also owns certain securities structured as bonds (the
"Bonds") issued by each of the Trusts. Certain of the Bonds owned by the Company
serve as collateral (the "Pledged Bonds") for short-term, variable-rate
borrowings used by the Company to finance their initial purchase. If the
creditors holding the Pledged Bonds were to seize or sell this collateral and
the Pledged Bonds were deemed to constitute equity interests (rather than debt)
in the Trusts, then the Trusts would no longer qualify for the exemption under
the TMP Rules provided for qualified REIT subsidiaries. The Trusts would then be
required to pay a corporate level federal income tax. As a result, available
funds from the underlying mortgage assets that would ordinarily be used by the
Trusts to make payments on certain securities issued by the Trust (including the
equity interests and the Pledged Bonds) would instead be applied to tax
payments. Since the equity interests and Bonds owned by the Company are the most
subordinated securities and, therefore, would absorb payment shortfalls first,
the loss of the exemption under the TMP rules could have a material adverse
effect on their value and the payments received thereon.
In addition to causing the loss of the exemption under the TMP Rules, a
seizure or sale of the Pledged Bonds and a characterization of them as equity
for tax purposes could also jeopardize the Company's REIT status if the value of
the remaining ownership interests in any Trust held by the Company (i) exceeded
5% of the total value of the Company's assets or (ii) constituted more than 10%
of the Trust's voting interests.
Investment Company Act Risk
Under the Investment Company Act of 1940, as amended (the "Investment
Company Act"), an investment company is required to register with the SEC and is
subject to extensive restrictive and potentially adverse regulation relating to,
among other things, operating methods, management, capital structure, dividends
and transactions with affiliates. However, as described below, companies that
are primarily engaged in the business of acquiring mortgages and other liens on
and interests in real estate ("Qualifying Interests") are exempted by the
Investment Company Act.
To qualify for the Investment Company Act exemption, CRIIMI MAE, among
other things, must maintain at least 55% of its assets in Qualifying Interests
(the "55% Requirement") and is also required to maintain an additional 25% in
Qualifying Interests (the "25% Requirement") or other real estate-related assets
("Other Real Estate Interests"). According to current SEC staff interpretations,
CRIIMI MAE believes that its government insured mortgage securities and
originated loans constitute Qualifying Interests. In accordance with current SEC
staff interpretations, the Company believes that all of its Subordinated CMBS
constitute Other Real Estate Interests and that certain of its Subordinated CMBS
also constitute Qualifying Interests. On certain of the Company's Subordinated
CMBS, the Company, along with other rights, has the unilateral right to direct
foreclosure with respect to the underlying mortgage loans. As a result of
obtaining such right, the Company believes that the related Subordinated CMBS
constitute Qualifying Interests. As of March 31, 1999, the Company believes that
it was in compliance with both the 55% Requirement and the 25% Requirement.
If the SEC or its staff were to take a different position with respect
to whether such Subordinated CMBS constitute Qualifying Interests, the Company
could, among other things, be required either (i) to change the manner in which
it conducts its operations to avoid being required to register as an investment
company or (ii) to register as an investment company, either of which could have
a material adverse effect on the Company. If the Company were required to change
the manner in which it conducts its business, it would likely have to dispose of
<PAGE>56
a significant portion of its Subordinated CMBS or acquire significant additional
assets that are Qualifying Interests. Alternatively, if the Company were
required to register as an investment company, it expects that its operating
expenses would significantly increase and that the Company would have to reduce
significantly its indebtedness, which could also require it to sell a
significant portion of its assets. No assurances can be given that any such
dispositions or acquisitions of assets, or deleveraging, could be accomplished
on favorable terms.
Further, if the Company were deemed an unregistered investment company,
the Company could be subject to monetary penalties and injunctive relief. The
Company would be unable to enforce contracts with third parties and third
parties could seek to obtain rescission of transactions undertaken during the
period the Company was deemed an unregistered investment company. In addition,
as a result of the Company's Chapter 11 filing, the Company is limited in
possible actions it may take in response to any need to modify its business plan
in order to register as an investment company, or avoid the need to register.
Certain dispositions or acquisitions of assets would require Bankruptcy Court
approval. Also, any forced sale of assets that occurs after the bankruptcy stay
is lifted would change the Company's asset mix, potentially resulting in the
need to register as an investment company under the Investment Company Act or
take further steps to change the asset mix. Any such results would be likely to
have a material adverse effect on the Company.
Year 2000
The Year 2000 issue is a computer programming issue that may affect
many electronic processing systems. Until relatively recently, in order to
minimize the length of data fields, most date-sensitive programs eliminated the
first two digits of the year. This issue could affect information technology
("IT") systems and date sensitive embedded technology that controls certain
systems (such as telecommunications systems, security systems, etc.) leaving
them unable to properly recognize or distinguish dates in the twentieth and
twenty-first centuries. This treatment could result in significant
miscalculations when processing critical date-sensitive information relating to
dates after December 31, 1999.
CRIIMI MAE is currently in the process of assessing and testing Year
2000 compliance of its IT systems, which include software systems to service
mortgage loans, administer securitizations and manage mortgage assets, as well
as software systems used for internal accounting purposes. A majority of the IT
systems used by the Company are licensed from third parties. These third parties
have either provided upgrades to existing systems or have indicated that their
systems are Year 2000 compliant. CRIIMI MAE has applied upgrades and has
completed a substantial amount of compliance testing as of May 10, 1999. The
Company anticipates that all material year 2000 testing will be completed in
mid-1999. There can be no assurance, however, that the Company's IT systems will
be Year 2000 compliant by December 31, 1999.
The Year 2000 issue may also affect CRIIMI MAE's date-sensitive
embedded technology, which controls systems such as the telecommunications
systems, security systems, etc. The failure of any such systems to be Year 2000
compliant could be material to the Company. The Company does not currently
anticipate that any material expenditure will be necessary to remediate the
Company's embedded technology systems.
The potential impact of the Year 2000 issue depends not only on the
corrective measures CRIIMI MAE has undertaken and will undertake, but also on
the ways in which the Year 2000 issue is addressed by third parties with whom
CRIIMI MAE directly interfaces or whose financial condition or operations are
important to CRIIMI MAE, including government agencies, financial institutions,
creditors, borrowers and others involved in the CMBS industry. CRIIMI MAE has
initiated communications with third parties with which it directly interfaces to
evaluate the risk of their failure to be Year 2000 compliant and the extent to
which CRIIMI MAE may be vulnerable to such failure. Although the Company has
received positive responses from those third parties that have been contacted,
there can be no assurance that the systems of these third parties or those who
have not yet been contacted will be Year 2000 compliant by December 31, 1999.
The failure of these third parties to be Year 2000 compliant could have a
material adverse effect on the operations of CRIIMI MAE.
The Company believes that its greatest risk with respect to the Year
2000 issue relates to failures by third parties to be Year 2000 compliant. In
addition to risks posed by third parties with which the Company interfaces
directly, risks are created by third parties (i.e., tenants in mortgage
<PAGE>57
collateral, borrowers, building service providers to mortgage collateral, banks
and other financial institutions, etc.) providing services to large segments of
society. The failure of third parties to be Year 2000 compliant could, among
other things, cause disruptions in the capital and real estate markets and
borrower defaults on real estate loans underlying mortgage-backed securities.
With respect to the systems used directly by the Company, the Company
believes that its greatest internal exposure to the Year 2000 issue involves the
Company's loan servicing operations, which rely on computers to process and
manage loans. The Company has applied a vendor upgrade and has completed
compliance testing on the upgrade. However, any failure of these systems to be
Year 2000 compliant could have a material adverse effect on the Company's loan
servicing operations.
The cost of IT and embedded technology systems testing and upgrades is
not expected to be material to CRIIMI MAE's consolidated operating results. The
Company estimates incurring total costs of approximately $300,000 for the Year
2000 assessment and compliance testing, which will be recorded as noninterest
expense. Currently, the Company also estimates the cost of system upgrades
purely in relation to the Year 2000 issue will be immaterial.
Although CRIIMI MAE has substantially completed its organizational
compliance testing and remediation, it is also in the process of developing
contingency plans for the risks of the failure of the Company or third parties
to be Year 2000 compliant. Management intends to complete contingency plans for
the Year 2000 issue by mid-1999. Due to the inability to predict all of the
potential problems that may arise from the Year 2000 issue, there can be no
assurance that all contingencies will be adequately addressed by such plans.
Results of Operations
1999 versus 1998
Interest Income - Subordinated CMBS
Income from Subordinated CMBS increased by approximately $7.6 million,
or 25%, to $38.5 million during the first quarter of 1999 as compared to $30.9
million during the first quarter of 1998. During the first three quarters of
1998, the Company increased its CMBS portfolio by acquiring Subordinated CMBS
at purchase prices aggregating approximately $853 million, of which $516
million was purchased after the first quarter of 1998. This overall increase
in income from Subordinated CMBS was partially offset by a reduction in
income from Subordinated CMBS due to the de-recognition of $132 million face
amount of CMBS from CBO-1 in connection with CBO-2 and also the de-recognition
of $345 million face amount of CMBS in connection with CBO-2. See Note 5 to
Notes to Consolidated Financial Statements.
<PAGE>58
Generally accepted accounting principles ("GAAP") require that interest
income generated by Subordinated CMBS be recorded based on the effective
interest method using the anticipated yield over the expected life of the
Subordinated CMBS. This currently results in income which is lower for financial
statement purposes than for tax purposes. Based upon the timing and amount of
future credit losses and certain other assumptions estimated by management, as
discussed below, the estimated weighted average anticipated unleveraged yield
for CRIIMI MAE's Subordinated CMBS for financial statement purposes as of March
31, 1999 was approximately 10.1% . These returns were determined based on the
anticipated yield over the expected weighted average life of the Subordinated
CMBS, which considers, among other things, anticipated losses.
Interest Income-Insured Mortgage Securities
Interest income from Insured Mortgage Securities decreased by
approximately $2.7 million or 23% to $8.9 million for the first quarter of 1999
from $11.6 million for the first quarter of 1998. This decrease was principally
due to the prepayment of five mortgage securities during the first quarter of
1999, and due to the sale or prepayment of 27 mortgage securities held by CRIIMI
MAE and certain of its wholly owned subsidiaries during the the year ended 1998.
The prepayments aggregated approximately $31.1 million and $117.4 million in net
proceeds for the three months ended March 31, 1999 and the year ended December
31, 1998, respectively.
Interest Income-Originated Loans
Interest income from originated loans of approximately $8.8 million for
1999 was derived from originated loans included in the CMO-IV securitization
which closed in June 1998. The CMO-IV securitization, where loans were
simultaneously acquired and securitized, totaled $496 million face value of
conduit loans, a majority of which were no-lock loans.
Interest Expense
Total interest expense increased by approximately $9.0 million or 33%
to approximately $36.4 million for the first quarter of 1999 from approximately
$27.4 million for the first quarter of 1998. This increase was principally a
result of increased borrowings in connection with the acquisition of
Subordinated CMBS during 1998. Additionally, CRIIMI MAE incurred interest
expense in connection with the issuance of collateralized mortgage obligations
in connection with CMO-IV. These increases were partially offset by the impact
of $477 million face amount of debt de-recognized from the financial statements
in conjunction with CBO-2 in May 1998 and the decrease in the Company's weighted
average cost of borrowing in the first quarter to 7.2% in 1999 from 7.7% in
1998, primarily due to a decrease in one-month LIBOR, based on the average, for
the quarter ended 1999 as compared to the year 1998. Due to the Chapter 11
filing, certain lenders declared defaults or otherwise took action against the
Company with respect to a number of CRIIMI MAE's financing facilities. See Note
16 to Notes to Consolidated Financial Statements for a discussion of material
litigation between the Company and various creditors and agreements the Company
has reached with certain of these creditors.
Net Interest Margin
Net interest margin increased by approximately $4.7 million or 31% for
the first quarter of 1999 to approximately $19.8 million from approximately
$15.1 million for the first quarter of 1998. The net interest margin increase
was due primarily to the increase in Subordinated CMBS and, to a lesser extent,
income from originated loans, as previously discussed.
Equity in Earnings from Investments
Equity in earnings from investments decreased by approximately $2.9
million due to a net loss of $1.6 million during the first quarter of 1999
as compared to a net income of $1.3 million during the first quarter of 1998.
This decrease included an $800,000 expense for a prepayment penalty shortfall
during the first quarter of 1999 and an increase in general and administrative
expenses due to the growth of CMSLP during 1998 and personnel costs related to a
retention program. In addition, as stated in the Company's 1998 Annual Report on
Form 10-K, during the fourth quarter of 1998, due to CRIIMI MAE's Chapter 11
filing and its relationship with CRIIMI MAE, CMSLP arranged for BOMCM to
succeed CMSLP as master servicer on two commercial mortgage pools. The
remaining servicing portfolio was approximately $30.8 billion as of March 31,
1999 as compared to approximately $23.0 billion as of March 31, 1998.
Other Income
Other income decreased by approximately $552,000 or 46% to $636,000
during 1999 as compared to $1.2 million during 1998. This decrease was primarily
attributable to a decrease in short-term interest and other income earned during
the first quarter of 1998 on the amounts deposited in the loan origination
reserve account, which had an average balance of $42 million during the first
quarter of 1998. Approximately $705,000 of short-term interest income and
net-carry income were earned on these deposits for the quarter ended March 31,
1998. This decrease was partially offset by interest income earned on cash
deposits in the first quarter of 1999 as compared to the first quarter of 1998.
<PAGE>60
Net Gains on Mortgage Securities Dispositions
During the first quarter of 1999, net gains on mortgage dispositions
were approximately $807,000 which was a result of five prepayments of mortgage
securities held by CRIIMI MAE's subsidiaries, or approximately 6.7% its
portfolio. During the first quarter of 1998, net gains on mortgage dispositions
were approximately $46,000 which was a result of seven prepayments of mortgage
securities held by CRIIMI MAE's subsidiaries. For any quarter, gains or losses
on mortgage dispositions are based on the number, carrying amounts and proceeds
of mortgages disposed of during the period. The proceeds realized from the
disposition of mortgage assets are based on the net coupon rates of the specific
mortgages disposed of in relation to prevailing long-term interest rates at the
date of disposition.
Gains on Originated Loan Mortgage Disposition
During the first quarter of 1999, net gain on originated loan
disposition was approximately $101,000, which was a result of one prepayment of
a mortgage in the originated loan portfolio.
General and Administrative Expenses
General and administrative expenses decreased by approximately
$350,000, or 12%, to $2.6 million for the first quarter of 1999 as compared to
$3.0 million for the first quarter of 1998. The decrease in general and
administrative expenses in 1999 was primarily the result of the the suspension
of certain business activities and the dismissal of employees involved in
suspended activities following the Chapter 11 filing in the fourth quarter of
1998.
Unrealized Gain on Warehouse Obligation
During the first quarter of 1999, the Company recorded an unrealized
gain of approximately $3.9 million primarily due to an improvement in the
hedging position related to the Company's warehouse purchase obligation.
The parties who fund the Company's loan originations are required under
the relevant agreements to hedge the related loans and to provide timely written
hedge positions reporting. As of March 31, 1999, the Company's obligation under
the Citibank Program was $24.5 million (based primarily on information provided
by Citibank) in excess of the fair value of the loans. At December 31, 1998, the
Company's obligation under the Citibank program was $28.4 million (based
primarily on information provided by Citibank) in excess of the fair value of
the loans. The decrease in the obligation was primarily a result of gains in the
related hedge positions utilized by Citibank due to the increase in Treasury
rates during the quarter ended March 31, 1999. The aggregate unrealized losses
of $24.5 million and $28.4 million relating to the Citibank Program as of March
31, 1999 and December 31, 1998, respectively, were based on the estimated fair
value of the loans offset by the unpaid principal balance of the loans at March
31, 1999 and December 31, 1998, hedge losses and certain estimated fees and
other costs. Depending on market conditions, including interest rate movements,
these losses could materially increase or decrease in subsequent reporting
periods.
Reorganization Items
During the first quarter of 1999, the Company recorded approximately
$5.5 million in reorganization items due to the Chapter 11 filings of CRIIMI
MAE, CM Management and Holdings II.
Reorganization Item Amount
------------------- ------
Short-term interest income $ (232,400)
Professional fees 5,140,000
Employee Retention Program accrued costs 542,897
Other 57,341
-----------
Total $ 5,507,838
===========
Financial Statement Net Income
As a result of the foregoing, net income available to common
shareholders for financial statement purposes was approximately $13.4 million as
of March 31, 1999, a 9.5% increase from approximately $12.3 million as of
March 31, 1998. On a per basic share basis, financial statement net income
decreased to $0.25 per basic share for the first quarter of 1999 from $0.29
per basic share for the first quarter of 1998.
<PAGE>61
Tax Basis Income
CRIIMI MAE earned approximately $19.6 million in tax basis income
available to common shareholders during the first quarter of 1999 or $0.37 per
share, compared to approximately $15.0 million or $0.34 per share for the first
quarter of 1998.
The primary factors resulting in the $4.6 million increase in tax basis
income from March 31, 1998 to March 31, 1999 were the growth of CRIIMI
MAE's portfolio of Subordinated CMBS and, to a lesser extent, earnings from
CMO-IV. Partially offsetting the increases in the foregoing were increases in
interest expense, general and administrative expenses and reorganization items.
Cash Flow
1999 versus 1998
Net cash provided by operating activities increased for the three
months ended March 31, 1999 as compared to the three months ended March 31,
1998. The increase was primarily due to the decrease in receivables and other
assets resulting primarily from the timing of certain mortgage security
prepayments in the first quarter of 1998 and an increase in the net interest
margin resulting from the Company's acquisitions of Subordinated CMBS.
Net cash used in investing activities decreased for the three months
ended March 31, 1999 as compared to the three months ended March 31, 1998. The
decrease was primarily due to the suspension of the Company's Subordinated CMBS
acquisition and origination programs as a result of the Chapter 11 filing in
October 1998.
Net cash provided by financing activities decreased for the three
months ended March 31, 1999 as compared to the three months ended March 31,
1998. The decrease was primarily due to the suspension of the Company's
Subordinated CMBS acquisition activities, suspension of equity offerings and, to
a lesser extent, the suspension of dividends paid as a result of the Chapter 11
filing in October 1998.
Liquidity and Capital Resources
Prior to the Petition Date, CRIIMI MAE used proceeds from long-term,
fixed-rate match-funded debt refinancings, short-term, variable-rate, secured
borrowings, securitizations, other borrowings, issuances of common and preferred
shares and unsecured borrowings to meet the capital requirements of its business
plan. Since the Chapter 11 filing, the Company has suspended its Subordinated
CMBS acquisition, origination and securitization operations, but continues to
service mortgage loans through CMSLP.
Prior to the Petition Date, CRIIMI MAE financed a substantial portion
of its Subordinated CMBS acquisitions with short-term, variable rate borrowings
secured by the Company's Subordinated CMBS. The agreements governing these
financing arrangements typically required the Company to maintain loan-to-value
ratios. The agreements further provided that the lenders could require the
Company to post cash or additional collateral if the value of the existing
collateral fell below this minimum amount.
In order to refinance a portion of its short-term, variable rate
secured borrowings with long-term, fixed rate debt, the Company entered into
resecuritization transactions. In May 1998, CRIIMI MAE completed CBO-2, its
second resecuritization of its Subordinated CMBS portfolio, which under FAS 125,
qualified for both sale and financing accounting. Through CBO-2, CRIIMI MAE
refinanced $468 million of its variable rate debt with fixed-rate, match-funded
debt. The debt is considered match-funded because the maturities and principal
requirements of the debt match those of the related collateral. The transaction
also generated additional borrowing capacity of approximately $160 million,
which was used primarily to fund additional Subordinated CMBS purchases. In June
1998, CRIIMI MAE securitized $496 million of originated or acquired commercial
mortgage loans by selling $397 million face amount of fixed-rate investment
grade securities. The tranches not sold to the public were partially financed
with variable-rate, secured financing agreements.
<PAGE>62
After the above structured finance transactions, the Company continued
to have a substantial amount of short-term, variable rate, secured financing
facilities which were subject to the previously discussed collateral
requirements based on CMBS security prices. As a result of the turmoil in the
capital markets commencing in late summer of 1998, the spreads between CMBS
yields and the yields on Treasury securities with comparable maturities began to
increase substantially and rapidly. CRIIMI MAE's short-term secured creditors
perceived that the value of the Subordinated CMBS securing their facilities with
the Company had fallen below the minimum loan-to-value ratio and, consequently,
made demand upon the Company to provide cash or additional collateral with
sufficient value to cure the perceived value deficiency. In August and September
of 1998, the Company received and met collateral calls from its secured
creditors. At the same time, CRIIMI MAE was in negotiations with various third
parties in an effort to obtain additional debt and equity financing that would
provide the Company with additional liquidity.
On Friday afternoon, October 2, 1998, the Company was in the closing
negotiations of a refinancing with one of its unsecured creditors that would
have provided the Company with additional borrowings, when it received a
significant collateral call from Merrill Lynch. The basis for this collateral
call, in the Company's view, was unreasonable. After giving consideration to,
among other things, this collateral call and the Company's concern that its
failure to satisfy this collateral call would cause the Company to be in default
under a substantial portion of its financing arrangements, the Company
reluctantly concluded on Sunday, October 4, 1998 that it was in the best
interests of creditors, equity holders and other parties in interest to seek
Chapter 11 protection. Accordingly, the Company filed for relief under Chapter
11 on Monday, October 5, 1998.
As of March 31, 1999, CRIIMI MAE had secured financing agreements with
GACC, Lehman ALI, Inc., First Union, Morgan Stanley, Merrill Lynch, and
Citicorp. Certain of these lenders have registered the pledged securities in
their own names. As a result, the trustee makes payments on such securities to
the registered holder. During the fourth quarter, certain registered holders
withheld payments related to securities not registered to CRIIMI MAE. The
Company has negotiated and finalized agreements with four of its lenders. CRIIMI
MAE Inc.'s cash position has increased from approximately $7 million on October
5, 1998 to approximately $56 million as of May 10, 1999. Based on present
information, the Company believes that it will have sufficient cash flow to fund
its current operations while in bankruptcy during 1999. However, due to the
uncertainty of the effects of the Chapter 11 filing on the business of the
Company, pending litigation, material reorganization items to be incurred during
the pendency of the bankruptcy and numerous other factors beyond the Company's
control, no assurance can be given that the Company's cash flow will be
sufficient to fund operations while the Company is in bankruptcy during 1999.
In addition, on March 5, 1999, Morgan Stanley sold the CBO-2 BBB Bonds
which have a face amount of $205.8 million and a coupon of 7%. The proceeds of
$159 million were used to pay off $141.2 million of the related short-term,
variable-rate debt due Morgan Stanley and the remaining net proceeds of $17.8
million were remitted to CRIIMI MAE. CRIIMI MAE retained the right to call each
CMBS when the outstanding principal balance amortizes to 15% of its original
face balance. The 15% call option prevents CRIIMI MAE from surrendering control
of the assets pursuant to the requirements of FAS 125 and thus the transaction
is accounted for as a secured borrowing and not a sale. This resulted in CRIIMI
MAE recognizing a fixed-rate liability for these bonds in the amount of the
gross proceeds, which was approximately $159 million.
On April 5, 1999, the Company finalized an agreement by which, Salomon
Smith Barney, in cooperation with CRIIMI MAE, will sell two classes of
investment grade CMBS from CMO-IV with a face amount of $45.9 million and an
average coupon rate of 6.96% constituting a portion of the collateral security
advances under financing agreements with Citicorp. CRIIMI MAE retains the right
to call each CMBS when the principal balance amortizes to 15% of its original
face balance. The 15% call option prevents CRIIMI MAE from surrendering control
of the assets pursuant to the requirements of FAS 125 and thus the transaction
will be accounted for as a secured borrowing and not a sale. A minimum sales
price was established in order to sell the bonds. Proceeds from the sale will be
used to pay off $39.6 million of secured debt, certain costs, and the remainder
remitted to CRIIMI MAE. This will result in CRIIMI MAE recognizing a fixed-rate
liability for these bonds, when they are sold, in the amount of the gross
proceeds.
<PAGE>63
During May 1999, the Company sold approximately $15 million face amount
of investment grade CMBS from CMO-IV in accordance with the agreement noted
above. Accordingly, the proceeds from the sale of these CMBS will pay off a
portion of the secured debt owed under the Citicorp Financing agreements and the
Company will recognize fixed rate debt in the amount of gross proceeds. The
balance of the investment grade CMBS from CMO-IV will continue to be marketed
for sale.
The Company's ability to resume the acquisition of Subordinated CMBS,
as well as its loan origination and securitization programs, depends on its
ability to obtain additional capital and emerge from bankruptcy as a
successfully reorganized company. Factors which could affect the Company's
access to the capital markets, or the costs of such capital, include changes in
interest rates, general economic conditions and perception in the capital
markets of the Company's business, covenants under the Company's current and
future debt securities and credit facilities, results of operations, leverage,
financial conditions and business prospects. The Company can give no assurances
as to whether it will obtain capital or the terms upon which capital can be
obtained.
Dividends
During the pendency of the Chapter 11 proceedings, the Company is
prohibited from paying dividends without first obtaining Bankruptcy Court
approval. Among the other factors which impact CRIIMI MAE's dividends are (i)
the level of income earned on uninsured mortgage assets, such as Subordinated
CMBS (including, but not limited to, the amount of OID income and losses, if
any, on Subordinated CMBS), and, to the extent applicable, originated loans,
which varies depending on prepayments, defaults, etc., (ii) the level of income
earned on CRIIMI MAE's or its subsidiaries' insured mortgage security collateral
depending on prepayments, defaults, etc., (iii) the fluctuating yields on
short-term, variable rate, debt and the rate at which CRIIMI MAE's LIBOR-based
debt is priced, as well as the rate CRIIMI MAE pays on its other borrowings,
(iv) the rate at which cash flows from mortgage assets, mortgage dispositions,
and, to the extent applicable, loan origination reserves, escrow deposits and
distributions from its subsidiaries can be reinvested, (v) changes in operating
expenses (including those related to the Chapter 11 filing), (vi) to the extent
applicable, dividends paid on preferred shares, (vii) to the extent applicable,
whether the Company's taxable mortgage pools continue to be exempt from
corporate level taxes, (viii) the timing and amounts of cash flows attributable
to its other lines of business - mortgage servicing, advisory, to the extent
applicable, origination services and, (ix) to the extent applicable, realized
losses on certain transactions.
Due to the Chapter 11 filing on October 5, 1998, dividends were not
paid in the first quarter of 1999 on common or preferred shares. However, since
dividends on the Company's Series B, C and D Preferred Shares are cumulative,
the dividends payable at March 31, 1999 were accrued in the financial
statements. Dividends paid on Series B and Series C Preferred Shares were
approximately $1.4 million or $0.845 per share and $262,500 for the quarter
ended March 31, 1998, respectively. There were no Series D Preferred Shares
outstanding during the quarter ended March 31, 1998.
REIT Status
CRIIMI MAE has elected to qualify as a REIT for tax purposes under
Sections 856-860 of the Internal Revenue Code for the 1998 tax year. To qualify
for tax treatment as a REIT under the Internal Revenue Code, CRIIMI MAE must
satisfy certain criteria, including certain requirements regarding the nature of
its ownership, assets, income and distributions of taxable income. For a
discussion of the effect of the Chapter 11 filing on REIT status and related
risks. See "Management's Discussion and Analysis- Effect of Chapter 11 Filing on
REIT Status and Certain Tax Matters".
<PAGE>64
ITEM 2A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's principal market risk is exposure to changes in interest
rates related to the US Treasury market as well as the LIBOR market. The Company
will experience fluctuations in the market value of its assets related to
changes in the interest rates of US Treasury bonds as well as increases in the
spread between US Treasury bonds and CMBS. The Company will also have an
increase in the amount of interest expense paid on its variable rate obligations
primarily due to increases in One-Month LIBOR.
CRIIMI MAE has entered into interest rate protection agreements to
mitigate the adverse effects of rising interest rates on its variable-rate
borrowings. The caps provide protection to CRIIMI MAE to the extent interest
rates, based on a readily determinable interest rate index (typically One-Month
LIBOR), increase above the stated interest rate cap, in which case, CRIIMI MAE
will receive payments based on the difference between the index and the cap. The
term of the cap as well as the stated interest rate of the cap, which in most
cases is currently above the current rate of the index, will limit to some
degree the amount of protection that the caps offer.
Prior to the Petition Date, CRIIMI MAE financed a substantial portion
of its Subordinated CMBS acquisitions with short-term, variable rate borrowings
secured by the Company's CMBS. The agreements governing these financing
arrangements typically required the Company to maintain collateral at all times
with a market value not less than a specified percentage of the outstanding
indebtedness. The agreements further provided that the lenders could require the
Company to post cash or additional collateral if the value of the existing
collateral fell below this threshold amount. These financing arrangements were
used by CRIIMI MAE to provide financing during the period of time from the
acquisition or creation of the Subordinated CMBS to the date when CRIIMI MAE
would resecuritize the portfolio in order to match-fund a significant portion of
the portfolio with fixed rate debt, thereby eliminating interest rate risk on
this portion of the CMBS. CRIIMI MAE, in limited cases, entered into
transactions to hedge the value of securities it intended to sell by selling
short Treasury or government insured securities the Company did not own. These
transactions are marked to market with unrealized gains or losses reflected in
the Company's income statement.
Management has determined that there has not been a material change as
of March 31, 1999 in market risk from December 31, 1998 as reported in the
Company's Annual Report on Form 10-K as of December 31, 1998. During the
quarter ended March 31, 1999, spreads tightened in the market, generally, as
compared to spreads at December 31, 1998. The tightening of spreads was offset
by an increase in treasury rates which caused an $8.7 million decrease in the
value of the Company's portfolio of CMBS and the Company's portfolio of FHA's
and GNMA's from December 31, 1998.
<PAGE>65
PART II
ITEM 1. LEGAL PROCEEDINGS
Reference is made to Note 16 of Notes to Consolidated Financial
Statements of CRIIMI MAE Inc. which is incorporated herein by reference.
ITEM 2. CHANGES IN SECURITIES
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Reference is made to Notes 1, 9, 12 and 16 to Notes to Consolidated
Financial Statements of CRIIMI MAE which are incorporated herein by reference.
Such Notes contain a description of alleged defaults asserted by certain of the
Company's secured lenders.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
Exhibit No. Description
----------- -----------
27 Financial Data Schedule (filed herewith)
(b) Reports on Form 8-K
<TABLE>
<CAPTION>
Date Purpose
---- -------
<S> <C>
January 21, 1999 To report agreement between CRIIMI MAE and Morgan Stanley
to sell two classes of investment grade CMBS and suspend
litigation.
February 2, 1999 To report a message to the shareholders of CRIIMI MAE Inc.
March 23, 1999 To report (i) the accord between CRIIMI MAE and Citigroup
to adjourn litigation for four months and to cooperate on
selling two classes of investment grade CMBS and
commercial mortgages, (ii) sale of $205 face amount of
investment grade CMBS from CRIIMI MAE Commercial Trust,
Series 1998-C1 and (iii) an order of the U.S. Bankruptcy
Court entered February 24, 1999, extending the Company's
exclusive period to file a plan of organization through
May 11, 1999, on which date a hearing has been set to
consider the Company's motion for a six-month extension
of exclusivity through August 2, 1999.
May 3, 1999 To report the receipt of bid proposals for equity
investment.
</TABLE>
<PAGE>66
Signature
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Registrant has duly caused this Report to be signed on its
behalf by the undersigned, thereunto duly authorized.
CRIIMI MAE INC.
/s/ May 14, 1999 /s/ Cynthia O. Azzara
- --------------------------- ----------------------
DATE Cynthia O. Azzara
Senior Vice President,
Principal Accounting Officer
and Chief Financial Officer
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY INFORMATION EXTRACTED FROM THE QUARTERLY REPORT
ON FORM 10-Q FOR THE QUARTER ENDED MARCH 31, 1999 AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH QUARTERLY REPORT ON FORM 10-Q.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> MAR-31-1999
<CASH> 52,991
<SECURITIES> 1,722,300
<RECEIVABLES> 114,339
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 2,420,912
<CURRENT-LIABILITIES> 50,538
<BONDS> 2,057,746
0
18
<COMMON> 536
<OTHER-SE> 312,075
<TOTAL-LIABILITY-AND-EQUITY> 2,420,912
<SALES> 0
<TOTAL-REVENUES> 61,717
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 10,468
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 36,429
<INCOME-PRETAX> 14,820
<INCOME-TAX> 0
<INCOME-CONTINUING> 14,820
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 14,820
<EPS-PRIMARY> .25
<EPS-DILUTED> .23
</TABLE>
