SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the quarterly period ended August 29, 1997
Commission File Number: 000-25178
GS FINANCIAL PRODUCTS U.S., L.P.
(Exact name of registrant as specified in its charter)
Cayman Islands 52-1919759
(State or other (I.R.S. employer
jurisdiction of identification no.)
incorporation or
organization)
P.O. Box 896
Harbour Centre, North Church Street
Grand Cayman, Cayman Islands
British West Indies
(Address of principal executive offices)
(809) 945-1326
(Registrant's telephone number, including area code)
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 _____
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Form 10-Q
PART I: FINANCIAL INFORMATION Page No.
Item 1: Financial Statements (Unaudited):
Condensed Statements of Income for the Three Fiscal
Months and the Nine Fiscal Months ended August 30, 1996
and August 29, 1997 ........................................... 3
Condensed Balance Sheets as of November 29, 1996
and August 29, 1997 ........................................... 4
Condensed Statement of Changes in Partners' Capital
for the Nine Fiscal Months ended August 29, 1997 .............. 5
Condensed Statements of Cash Flows for the Nine Fiscal
Months ended August 30, 1996 and August 29, 1997 .............. 6
Notes to the Condensed Financial Statements ................... 7
Item 2: Management's Discussion and Analysis of Financial Condition
and Results of Operations ..................................... 14
PART II: OTHER INFORMATION
Item 1: Legal Proceedings ............................................ 23
Item 4: Submission of Matters to a Vote of Security Holders .......... 23
Item 6: Exhibits and Reports on Form 8-K ............................. 23
Signature ............................................................. 24
-2-
<PAGE>
PART I: FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
GS FINANCIAL PRODUCTS U.S., L.P.
Condensed Statements of Income
(U.S. dollars in thousands)
(Unaudited)
----------
For the Three For the Nine
Fiscal Months Ended Fiscal Months Ended
August August August August
30, 1996 29, 1997 30, 1996 29, 1997
-------- -------- -------- --------
Revenues:
Intermediation profit $2,640 $3,659 $7,017 $9,627
Interest 1,771 3,409 5,484 8,416
Equity in earnings
(loss) of affiliate 8 8 (3) (19)
------ ------ ------ ------
Total revenues 4,419 7,076 12,498 18,024
Interest expense 851 1,951 2,043 5,154
------ ------ ------ ------
Revenues, net of
interest expense 3,568 5,125 10,455 12,870
Expenses:
Operating 164 238 654 554
------ ------ ------ ------
Income before taxes 3,404 4,887 9,801 12,316
Income taxes 140 195 392 493
------ ------ ------ ------
Net Income $3,264 $4,692 $9,409 $11,823
====== ====== ====== =======
The accompanying notes are an integral part of the unaudited condensed
financial statements.
-3-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Condensed Balance Sheets
(U.S. dollars in thousands)
(Unaudited)
----------
November 29, 1996 August 29, 1997
Assets:
Cash and cash equivalents $141,550 $257,333
Securities owned, at fair value 0 130,825
Derivative transactions, at fair value:
Affiliate 5,273 48,259
Non-affiliate 222,493 161,415
Investment in affiliates 952 857
Other assets 707 1,275
-------- --------
Total assets $370,975 $599,964
======== ========
Liabilities and Partners' Capital:
Derivative transactions, at fair
value:
Affiliate $ 4,157 $ 0
Non-affiliate 107,401 153,458
Long-term borrowings 116,778 296,324
Other liabilities and accrued expenses 8,596 4,392
-------- --------
Total liabilities 236,932 454,174
Commitments and contingencies
Partners' capital:
Limited partners 133,364 145,052
General partner 679 738
-------- --------
Total partners' capital 134,043 145,790
-------- --------
Total liabilities and partners' capital $370,975 $599,964
======== ========
The accompanying notes are an integral part of the unaudited condensed
financial statements.
-4-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Condensed Statement of Changes in Partners' Capital
For the Nine Fiscal Months Ended August 29, 1997
(U.S. dollars in thousands)
(Unaudited)
----------
General Limited Total
Partner's Partners' Partners'
Capital Capital Capital
--------- --------- ---------
Balance, November 29, 1996 $679 $133,364 $134,043
Net income 59 11,764 11,823
Change in translation adjustment 0 (76) (76)
--------- --------- ---------
Balance, August 29, 1997 $738 $145,052 $145,790
========= ========= =========
The accompanying notes are an integral part of the unaudited condensed
financial statements.
-5-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Condensed Statements of Cash Flows
(U.S. dollars in thousands)
(Unaudited)
----------
For the Nine Fiscal Months Ended
August 30, 1996 August 29,1997
--------------- --------------
Cash flows from operating activities:
Net income $9,409 $11,823
Adjustments to reconcile net income
to net cash provided by operating
activities:
Equity in loss of affiliate 3 19
Unrealized depreciation of
securities owned 0 5,972
Increase in long-term borrowings
due to changes in fair value of
embedded derivative transactions 0 18,749
Decreases (Increases) in
operating assets:
Derivative transactions, at
fair value:
Affiliate 0 (42,986)
Non-affiliate 23,395 61,078
Other assets (56) (568)
(Decreases) Increases in
operating liabilities:
Derivative transactions, at
fair value:
Affiliate (95,216) (4,157)
Non-affiliate (21,081) 46,057
Other liabilities and accrued
expenses (2,120) (4,204)
-------- ---------
Net cash (used in) provided by
operating activities (85,666) 91,783
Cash flows from investing activities
Short term investments 24,690 0
Purchases of securities owned 0 (136,797)
-------- ---------
Net cash provided by (used in) investing
activities 24,690 (136,797)
Cash flows from financing activities:
Distribution to partners (1,925) 0
Proceeds from long term borrowings 73,000 160,797
-------- ---------
Net cash provided by financing activities 71,075 160,797
Net increase in cash and cash equivalents 10,099 115,783
Cash and cash equivalents, beginning
of period 168,692 141,550
Cash and cash equivalents, end of period $178,791 $257,333
========= =========
Supplemental disclosure of cash
flow information:
Interest paid $0 $3,100
Income taxes paid $657 $155
The accompanying notes are an integral part of the unaudited condensed
financial statements.
-6-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Notes to Condensed Financial Statements
(Unaudited)
----------
1. Business and Basis of Presentation:
The business of GS Financial Products U.S., L.P. (the "Company") is to
enter into, as principal or guarantor, a variety of types of transactions
involving financial instruments such as interest rate swaps, interest rate
options (e.g., interest rate caps, interest rate floors and options on
interest rate swaps), currency swaps and options, commodity swaps and
options, index swaps and forward contracts (collectively, "Derivative
Transactions"). Generally, the Company enters into or guarantees Derivative
Transactions in situations where two or more counterparties (typically
including a related party) wish to enter into one or more Derivative
Transactions between themselves but want the Company to substitute its
credit for that of one or more of the counterparties. Market practice for
such transactions is that the Company typically substitutes its own credit
for that of one or more of the counterparties by entering into each of such
transactions directly as principal. Such Derivative Transactions may also
include the use of futures, or the purchase of the underlying instruments
subject to the transactions, such as foreign currency and physical
commodities. Because it conducts its business exclusively on a matched
basis, the Company is subject to credit risk but not market risk (as
described under Derivative Transactions -- see Note 2).
The unaudited condensed financial statements should be read in conjunction
with the audited financial statements of the Company as of and for the
fiscal years ended November 24, 1995 and November 29, 1996, included in the
Company's Annual Report on Form 10-K for the fiscal year ended November 29,
1996. Results for the nine fiscal months are not necessarily indicative of
results for a full fiscal year. In the opinion of management, all
adjustments, consisting only of normal recurring adjustments, necessary for
a fair presentation have been reflected.
The condensed balance sheet data as of November 29, 1996 was derived from
audited financial statements but does not include all disclosures required
under generally accepted accounting principles.
The Company's financial programs and counterparty credit risk have been
rated AAA by Standard & Poor's Ratings Group ("S&P") and Fitch Investors
Service, Inc. ("Fitch"). There can be no assurance that S&P and Fitch will
continue to rate the Company's financial programs and counterparty credit
risk, respectively, in their highest category and any decrease in such
ratings may adversely affect the Company's ability to compete successfully.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts.
The Company is organized as a Cayman Islands exempted limited partnership.
All the partnership interests in the Company are owned by subsidiaries of
The Goldman Sachs Group, L.P. ("Group").
The Company's financial statements are reported in U.S. dollars, the
functional currency of the Company. Assets and liabilities denominated in
currencies other than the U.S. dollar are measured using exchange rates
prevailing as of the balance sheet dates. Revenues and expenses are
measured at weighted average rates of exchange for the periods. The
Company's equity in gains or losses resulting from translating the
financial statements of affiliates in which it has invested, whose
functional currency is other than the U.S. dollar, is recorded as
cumulative translation adjustments and included in partners' capital.
The Company's Securities owned and Derivative Transactions are recorded on
a trade date basis.
Securities owned are recorded at their fair value and Derivative
Transactions are recorded at their estimated fair value. As a result, due
to the nature of the Company's activities, a substantial portion of the
intermediation profit from credit enhancing new Derivative Transactions may
be recognized upon entering into such transactions. Such amounts were $1.6
million and $4.5 million for the three fiscal months ended and the nine
Continued
-7-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Notes to Condensed Financial Statements, continued
(Unaudited)
----------
fiscal months ended August 30, 1996, respectively, and $3.0 million and
$7.0 million for the three fiscal months ended and the nine fiscal months
ended August 29, 1997, respectively.
The remainder of intermediation profit for these periods resulted
principally from an increase in the present value of the expected surplus
cash flows from the Company's portfolio due to a reduction in time
remaining until those cash flows are realized (including the impact of all
hedges). Intermediation profit earned on performance guarantees is deferred
and amortized over the term of the guarantee.
Fair value for Securities owned is based on quoted market prices. Fair
value for all Derivative Transactions is estimated by using financial
models developed by affiliates, which incorporate market data for the
relevant instruments or for instruments with similar characteristics. Fair
value is estimated at a specified point in time. The nature, size, and
timing of transactions and the liquidity of the markets may not ultimately
allow for the realization of these values.
No provisions for credit losses have been established for Derivative
Transactions reported as assets, since counterparty credit quality is taken
into account in determining fair value. Certain transactions entered into
under master agreements and other arrangements that provide the Company, in
its opinion, with the right of setoff in the event of a bankruptcy or
default by the counterparty are presented net in the balance sheets.
Cash equivalents are short-term, highly liquid investments including time
deposits at banks with original maturities of three months or less.
At November 29, 1996, the Company had credit exposure exceeding 10% of its
total assets to two banks, which represented 26% of total assets. At August
29, 1997, the Company had credit exposure exceeding 10% of its total assets
to three banks, which represented 33% of total assets. Each of the
counterparties had a rating of double A or better from at least one
internationally recognized credit rating agency.
Certain prior period amounts have been reclassified to conform with the
August 29, 1997 presentation.
2. Securities Owned:
As of August 29, 1997 Securities owned consisted of shares of common stock
of Oxford Health Plans, Inc. (market value approximately $35 million) and
shares of common stock of Citicorp (market value approximately $96
million). The Company purchased these securities to hedge certain of the
Company's exposures incurred by its issuance of long term notes which are
mandatorily exchangeable into shares of common stock of Oxford Health
Plans, Inc. and are exchangeable, at the option of the holder, into shares
of Citicorp common stock. (See Note 6.)
3. Derivative Transactions:
The fair values of Derivative Transactions entered into under master
agreements and other arrangements that provide the Company, in its opinion,
with a right of setoff in the event of bankruptcy and default by the
counterparty are presented on a net basis in the balance sheets. Derivative
Transactions are principally interest rate swaps, interest rate options,
index swaps, currency options, currency forwards and currency swaps which
are denominated in various currencies. The fair values of swap and forward
agreements in a gain position, as well as options purchased are reported,
in accordance with the Company's netting policy, as assets in "Derivative
Transactions". Similarly, the fair value of swap and forward agreements in
a loss position, as well as options written are reported as liabilities in
"Derivative Transactions". Derivative Transactions reported, in
Continued
-8-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Notes to Condensed Financial Statements, continued
(Unaudited)
----------
accordance with the Company's netting policy, as assets are principally
obligations of major international financial institutions, primarily banks,
which are rated single A or better by major internationally recognized
rating agencies.
Futures contracts are exchange-traded standardized contractual commitments
to buy or sell a specified quantity of a financial instrument, currency or
commodity at a specified price and future date. Forward contracts are
over-the-counter ("OTC") contracts between two parties who agree to
exchange a specified quantity of a financial instrument, currency or
commodity at a specified price and future date. Option contracts convey the
right to buy (call option) or sell (put option) a financial instrument,
currency or commodity at a pre-determined price. For written option
contracts, the writer receives a premium in exchange for bearing the risk
of unfavorable changes in the financial instrument, currency or commodity.
Swaps are OTC contracts between two parties who agree to exchange periodic
cash flow streams calculated on a pre-determined contractual (notional)
amount.
In the normal course of its business the Company issues or guarantees
various Derivative Transactions whereby the Company agrees to pay amounts
that may increase in the event of changes in the level of an underlying
index. The Company enters into such transactions with counterparties only
if it is able to enter into offsetting transactions that, in the aggregate,
entitle the Company to receive amounts that are equal to or in excess of
the amounts it owes. It is important to note in this regard that the
Company hedges its cash flow on a portfolio basis, not on a transaction by
transaction basis. As a result, so long as none of its counterparties
defaults, the Company believes that it bears no market risk (i.e., its
ability to satisfy its obligations will not be affected by market
conditions).
While the ultimate excess cash flows on these offsetting transactions will
be positive or zero, the reported revenues in any period (based on the
discounted value of these excess cash flows) will be impacted by changes in
interest rates or foreign exchange rates.
The Company's principal risk in respect of Derivative Transactions owned or
guaranteed is the credit risk associated with potential failure by
counterparties to perform under the terms of their obligations to the
Company. Credit exposure is measured by the loss the Company would record
in such a circumstance and equals, at any point in time, the cost of
replacing such Derivative Transactions, net of collateral. As of November
29, 1996 and August 29, 1997, the Company's aggregate credit exposure in
respect of Derivative Transactions was approximately $226 million and
approximately $140.3 million, respectively.
The Company limits its credit risk by doing business principally with
highly-rated counterparties. In certain circumstances, the Company may also
require a counterparty to post marketable securities, principally U.S.
government agency and U.S. treasury securities, as collateral in order to
reduce the amount of the Company's credit exposure. The Company has
obtained collateral of approximately $5 million related to Derivative
Transactions at August 29, 1997.
The Company also limits its credit risk by observing certain limitations on
new Derivative Transactions. If such limits exceed management's criteria,
the Company will not enter into any transaction which increases that risk.
The calculation of these limitations incorporates the net assets of the
Company's general partner which is ultimately liable for the Company's
obligations (see Note 7).
A summary of the notional or contractual amounts (U.S. dollars in millions)
of the Company's Derivative Transactions by principal characteristic
follows. It should be noted that notional principal amount is not a measure
of market or credit risk.
Continued
-9-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Notes to Condensed Financial Statements, continued
(Unaudited)
----------
November 29, 1996 August 29, 1997
----------------- ---------------
Non-affiliates
Interest rate swap agreements $6,869 $6,590
Currency options written 1,034 1,252
Currency options purchased 594 446
Interest rate options written 1,800 992
Interest rate options purchased 1,481 2,383
Currency and other swap agreements 502 162
Foreign currency forwards 393 1,525
Affiliates
Interest rate swap agreements $9,879 $8,716
Currency options written 594 509
Currency options purchased 1,034 1,189
Interest rate options written 1,481 2,043
Interest rate options purchased 2,458 2,047
Currency and other swap agreements 1,974 1,443
Foreign currency forwards 393 1,525
The notional amount of Derivative Transactions with affiliates differs from that
with non-affiliates generally due to transactions guaranteed and transactions
between the Company and affiliates which hedge the Company's interest rate or
currency exposure on surplus cash flow from its portfolio, or which are intended
to mitigate total credit risk.
As described in Note 1, Derivative Transactions are carried at estimated fair
value, with the resulting gains and losses recognized currently as
intermediation profit. The fair values of Derivative Transactions as of November
29, 1996 and August 29, 1997 and the average monthly fair values of such
instruments for the fiscal year ended November 29, 1996 and the nine fiscal
months ended August 29, 1997, computed in accordance with the Company's netting
policy, are as follows:
(U.S. dollars in millions) As of November 29, 1996 As of August 29, 1997
- -------------------------- ----------------------- ---------------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
Derivative Transactions
-----------------------
Non-affiliates $222.5 $107.4 $161.4 $153.5
Affiliates 5.3 4.2 48.3 0.0
Average Monthly Fair Value
--------------------------
(U.S. dollars in millions)
Twelve fiscal months ended Nine fiscal months ended
November 29, 1996 August 29, 1997
-------------------------- ------------------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
Derivative Transactions
-----------------------
Non-Affiliates $214.3 $96.1 $185.0 $129.0
Affiliates 4.0 69.8 9.3 0.0
Continued
-10-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Notes to Condensed Financial Statements, continued
(Unaudited)
----------
4. Related Party Transactions:
In the ordinary course of business, the Company enters into hedging
transactions with affiliates. Through August 29, 1997, substantially all of
the Company's Derivative Transactions involved some degree of hedging with
affiliates.
In accordance with agreements with certain affiliates, technical and
administrative services may be provided to the Company for an amount
representing 105% of the cost incurred. The Company paid approximately $700
thousand to an affiliate related to the issuance of certain medium-term
notes. The Company has deferred and will amortize these costs over the
lives of the related notes. In addition, the Company has entered into a
custodian and space sharing agreement with another affiliate for which an
agreed upon fee per annum is charged. The Company also obtains brokerage
and custodial services from affiliates. For each of the nine fiscal months
ended August 30, 1996 and August 29, 1997, approximately $129 thousand and
$116 thousand, respectively, were charged for such services.
5. Investment in Affiliates:
The Company owns an approximate 2% general and limited partnership interest
in GS Financial Products International, L.P. ("FPI"). The Company accounts
for its investment in FPI under the equity method because of its
non-managing general partner interest in FPI.
FPI is engaged in a business similar to that of the Company. As of August
29, 1997, its assets consisted principally of Japanese equity and equity
linked securities. Under Cayman Islands law, as a general partner, the
Company would be liable for all of the liabilities of FPI if the assets of
FPI were inadequate to meet its obligations. As of August 29, 1997, FPI's
long-term debt securities were rated Aaa, AAA and AAA by Moody's Investors
Service, Inc. ("Moody's"), S&P and Fitch, respectively.
FPI's functional currency is the Japanese yen, and the amounts presented
below were translated at the appropriate yen/dollar exchange rate.
Selected financial data for FPI (U.S. dollars in millions):
November 29, 1996 August 29, 1997
----------------- ---------------
Total assets $400 $234
Total liabilities 304 200
Partners' capital 96 34
The decrease in capital is a result of a Yen 6 billion distribution of
capital made by FPI to GS Financial Products, L.P., one of the Company's
limited partners. As a result of this distribution, the Company's general
and limited partnership interest in FPI increased from 1% to 2%.
Continued
-11-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Notes to Condensed Financial Statements, continued
(Unaudited)
----------
6. Long-term Borrowings:
November 29, 1996 August 29, 1997
----------------- ---------------
Nikkei Indexed Notes due December 22,
2000(1) $40,449 $48,663
S&P Enhanced Stock Index Growth Notes
due August 9, 2002(2) 76,329 90,088
7% Mandatorily Exchangeable Notes due
July 23, 1999(3) (Subject to
Mandatory Exchange into Shares of
Common Stock of Oxford Health Plans,
Inc.) N/A 37,573
3% Citicorp Exchangeable Notes due
August 28, 2002(4) N/A 120,000
================= ===============
$116,778 $296,324
================= ===============
(1) Inclusive of embedded written option to the note holders of $11.6 million
as at November 29, 1996 and $16.2 million as at August 29, 1997.
(2) Inclusive of embedded written option to the note holders of $25.3 million
as at November 29, 1996 and $36.7 million as at August 29, 1997.
(3) Inclusive of embedded purchased option from the note holders of $2.8
million as at August 29, 1997.
(4) Inclusive of embedded purchased option from the note holders of $22.0
million as at August 29, 1997. The Notes are redeemable through September
13, 1999 at the option of the Company, if the Company determines it will no
longer maintain its public registrant status, and callable thereafter.
The face amounts of the Nikkei Indexed Notes, the S&P Enhanced Stock Index
Growth Notes and the Citicorp Exchangeable Notes are $40 million, $73
million and $120 million, respectively. The Oxford Health Plans Mandatorily
Exchangeable Notes do not have a face amount, but had an initial principal
amount of $40,797,724 which represented 477,865 notes at the prevailing
market price of Oxford Health Plans, Inc. common stock on the date of
issue. The Company's obligations to the note holders under each note could
increase based upon the closing equity index levels of the Nikkei 225 and
the S&P 500, the closing price of Oxford Health Plans, Inc. common stock
and the closing price of Citicorp common stock, respectively. The ability
of the holders of the Oxford Health Plans Mandatorily Exchangeable Notes to
participate in the appreciation of the Oxford Health Plans, Inc. common
stock is limited and cannot exceed a closing price of $129.77 per note at
maturity. There is no stated coupon on the Nikkei Indexed Notes or the S&P
Enhanced Stock Index Growth Notes.
The Company has ascribed the proceeds from the notes to the underlying
principal component and the embedded written equity index option. Except
for the Oxford Health Plans note, the amounts ascribed to the principal
component will accrete, under the effective interest method, to the stated
principal amount over time. For the Oxford Health Plans notes, the
principal repayment amount will be determined by the closing price of the
Oxford Health Plans, Inc. common stock at maturity and accordingly, the
carrying value will fluctuate based upon the prevailing market price of the
common stock. The embedded purchased and written options are recorded at
fair value.
The Company has entered into Derivative Transactions with an affiliate to
effectively convert its obligations under the notes into U.S. dollar-based
floating interest rate costs. The periodic receipts and payments on the
interest rate component of these Derivative Transactions are recognized as
adjustments to interest expense and are accrued over the life of the notes.
The Derivative Transactions hedging the embedded equity options are
recorded at fair value. Including the impact of the Derivative
Transactions, the weighted average interest rate for the notes was 5.41% as
of November 29, 1996 and 5.58% as of August 29, 1997.
Continued
-12-
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
Notes to Condensed Financial Statements, continued
(Unaudited)
----------
7. Liability of General Partner:
The Company's sole general partner is GS Financial Products U.S. Co. (the
"Corporate General Partner"). Under Cayman Islands law, the Corporate
General Partner, but not its shareholders, would be liable for all of the
obligations of the Company if the assets of the Company were inadequate to
meet its obligations. The sole business of the Corporate General Partner is
to manage the Company.
The assets of the Corporate General Partner consist principally of cash and
short-term investments. Short-term investments include U.S. Treasuries and
government agency securities with maturities of less than one year and are
carried at cost plus accrued interest, which approximates fair value. The
Corporate General Partner had assets of $12.3 million and equity of
approximately $12.2 million as of November 29, 1996 and assets of
approximately $2.4 million and equity of approximately $2.1 million as of
August 29, 1997. The decrease in total assets and equity is the result of a
$10 million dividend paid by the Corporate General Partner to GS Financial
Products, L.P., one of the Company's limited partners.
8. Income Taxes:
The Company is not subject to U.S. federal income taxes. Prior to January
1, 1997, the Company was required by U.S. federal tax regulations to
withhold income tax on behalf of its partners. These payments were made on
behalf of the Company by a related party. For the fiscal year ended
November 29, 1996, the related party remitted $4.53 million to tax
authorities, the entire amount of which the Company repaid to the related
party. As of January 1, 1997, the Company is no longer required to withhold
taxes on behalf of its partners under U.S. federal tax regulations.
Certain of the Company's income is subject to a 4% New York City
unincorporated business tax. The statements of income for the fiscal
quarters ended August 30, 1996 and August 29, 1997, include a provision for
unincorporated business tax on income earned by the Company related to
doing business in New York City.
-13-
<PAGE>
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
The Company is a derivative products company engaged in the business of
entering into, as principal or guarantor, a variety of types of Derivative
Transactions, principally interest rate swaps, interest rate options (e.g.,
interest rate caps, interest rate floors and options on interest rate swaps),
currency swaps and options, index swaps, commodity swaps and options, and
forward contracts. Generally, the Company enters into or guarantees Derivative
Transactions in situations where two or more counterparties wish to enter into
one or more Derivative Transactions between themselves but want the Company to
substitute its credit for that of one or more of the counterparties. Market
practice for such transactions is that the Company typically substitutes its own
credit for that of one or more of the counterparties by entering into each of
such transactions directly as principal. Such Derivative Transactions may also
include the use of futures contracts, or the purchase of the underlying
instruments subject to the transactions, such as foreign currency and physical
commodities. The Company's owned or guaranteed Derivative Transactions consist
principally of interest rate swaps, interest rate options, index swaps, currency
options, currency forwards and currency swaps denominated in a variety of
currencies.
At August 29, 1997, the Company had entered into or guaranteed $23 billion
notional amount of interest rate swaps and options, $8 billion notional amount
of currency options, forwards and swaps and $0.05 billion notional amount of
other swaps and options with a total of 77 counterparties.
In general, the Company refers to transactions where all of the payment
obligations or delivery obligations can be met from cash flow or delivery
obligations from one or more transactions in its portfolio as being "hedged". It
is important to note in this regard that the Company hedges its cash flow on a
portfolio basis, not on a transaction by transaction basis. Accordingly, any
particular payment or delivery obligation under a transaction may not be offset
with a single corresponding transaction.
Through August 29, 1997, substantially all of the Company's Derivative
Transactions involved some degree of hedging with affiliates. The Company has
entered into or guaranteed $17.5 billion notional amount of Derivative
Transactions with affiliates principally to hedge exposures on third party
transactions. In general, the notional amount of Derivative Transactions with
affiliates exceeds that with non-affiliates due to the greater notional amount
of affiliate versus non-affiliate transactions guaranteed, as well as Derivative
Transactions between the Company and affiliates which hedge the Company's
interest rate or currency exposure on surplus cash flow from its portfolio, or
which are intended to mitigate total credit risk.
As of August 29, 1997, the Company has equity-linked Medium Term Notes
outstanding with a carrying value of $296 million. The Company expects to
continue to issue equity-linked Medium Term Notes in the future. The Company
intends to utilize the majority of the proceeds received from such issuances to
acquire shares of common stock, purchase or write exchange traded and
over-the-counter options and enter into interest rate and equity-linked swaps to
hedge its obligations under the Notes. The remainder of the net proceeds from
each issuance will be added to the Company's working capital to support its
Derivative Transaction activities.
Results of Operations
Changes in the Company's revenues are highly dependent on the volume of new
transactions originated. Derivative Transactions are recorded at their estimated
fair value. As a result, a substantial portion of the intermediation profit from
new Derivative Transactions may be recognized upon entering into such
transactions. Hence, the Company's profitability may be extremely variable from
quarter to quarter, depending on the volume of new origination.
Although certain of the interest rate swaps in the Company's current
portfolio require payments in currencies other than U.S. dollars, the Company
has entered into Derivative Transactions with affiliates of Group which entitle
it to receive equal or greater amounts of the same currencies. To the extent
that the Company has or is entitled to receive amounts of currencies other than
the U.S. dollar which amounts are not needed to service the Company's
obligations, the Company's reported earnings will be affected by changes in the
value (expressed in U.S. dollars) of such currencies. However, as of August 29,
1997, the Company does not consider its exposure to currencies other than the
U.S. dollar to be material to its financial condition since, even if the Company
were to realize no value
-14-
<PAGE>
from any currencies other than the U.S. dollar, its net worth would be reduced
by less than 1%. As the Company is unable to predict the movement of foreign
currencies, the Company is unable to predict whether its net worth would be
reduced as a result of such exposure.
Changes in interest rates will change the present value of any cash flows
which the Company is entitled to receive in the future. The Company, therefore,
may experience fluctuations in reported earnings as a result of changes in
interest rates. However, the sensitivity as of August 29, 1997 of the Company's
portfolio at that date to interest rates is such that a one percentage point
adverse change in interest rates would reduce the Company's net worth by less
than 1%. As the Company is unable to predict the movement of interest rates, the
Company is unable to predict whether its net worth would be reduced as a result
of such exposure.
Neither the Company nor its partners is subject to any income or profits
tax, capital gains tax, capital transfer tax, estate duty or inheritance tax
under the laws of the Cayman Islands. Further, the Company has obtained a Tax
Exemption Certificate from the Governor of the Cayman Islands, which is
effective for 50 years from March 3, 1992, which provides that no law thereafter
enacted in the Cayman Islands imposing any tax on profits, income, capital gains
or appreciation may apply to the Company or any partner thereof.
For United States federal income tax purposes, the Company is treated as a
partnership. Accordingly, the Company is not subject to United States federal
income tax on its profits. Instead, any profits or losses of the Company are
attributed to its partners. Prior to January 1, 1997, the Company was required
by United States federal tax regulations to withhold income tax on behalf of its
partners with respect to their share of the Company's profits from the active
conduct of business in the United States. As of January 1, 1997, the Company is
no longer required to withhold taxes on behalf of its partners under US federal
tax regulations. As a result of the development of its business, the Company
determined that certain of its income was subject to a 4% New York City
unincorporated business tax. Depending upon the manner in which the business of
the Company will be operated in other jurisdictions, there is a possibility that
one or more such jurisdictions would impose a tax on the profits of the Company.
Three Fiscal Months Ended August 29, 1997 Versus Three Fiscal Months Ended
August 30, 1996
For the three fiscal months ended August 29, 1997, the Company reported
revenues net of interest expense of $5.1 million, consisting principally of
intermediation profits of $3.7 million and net interest income of $1.5 million.
During the period, the Company entered into or guaranteed 241 Derivative
Transactions with non-affiliates, and 260 hedging Derivative Transactions with
affiliates. The aggregate notional principal amount of Derivative Transactions
entered into or guaranteed by the Company during the period was $6.8 billion,
which resulted in initial intermediation profits of $3.0 million. The remainder
of intermediation profit for this period principally resulted from an increase
in the present value of the expected surplus cash flows from the Company's
portfolio due to a reduction in the time remaining until those cash flows are
realized (including the impact of all hedges). The Company incurred interest
expense of $2.0 million during the three fiscal months ended August 29, 1997.
In comparison, the Company reported revenues net of interest expense of
$3.6 million for the three fiscal months ended August 30, 1996, which consisted
principally of intermediation profits of $2.6 million and net interest income of
$0.9 million. During the period, the Company entered into or guaranteed 101
Derivative Transactions with non-affiliates and hedged these transactions with
105 Derivative Transactions with affiliates. The aggregate notional principal
amount of Derivative Transactions entered into or guaranteed by the Company
during the period was $4.0 billion, which resulted in initial intermediation
profits of $1.6 million. The remainder of intermediation profit for this period
principally resulted from an increase in the present value of the expected
surplus cash flows from the Company's portfolio due to a reduction in the time
remaining until those cash flows are realized (including the impact of all
hedges). Interest expense for the three fiscal months ended August 30, 1996 was
$851 thousand.
Interest income for the fiscal quarter ended August 29, 1997 was $3.4
million or 92% more than the same fiscal period of the previous year, due
primarily to increased cash balances. Total intermediation profit for the three
month fiscal period ending August 29, 1997 was approximately $3.7 million, or
39% more than the same fiscal period of the previous year. Initial
intermediation profit for the three fiscal months ended August 29, 1997 was $3.0
million, or 88% more than the three fiscal months ended August 30, 1996,
reflecting an increase in the number and a lengthening of the maturity of
certain Derivative Transactions entered into with non-affiliates during this
period. Interest expense of $2.0 million for the three fiscal months ended
August 29, 1997 increased significantly from the $851 thousand incurred in the
same fiscal period in 1996. This increase is primarily due to the increase in
long-term
-15-
<PAGE>
borrowings. In August 1996, the Company issued $73 million of S&P Enhanced Stock
Index Growth Notes due August 9, 2002. In July 1997, the Company issued $41
million of 7% Mandatorily Exchangeable Notes due July 23, 1999 (Subject to
Mandatory Exchange into Shares of Common Stock of Oxford Health Plans, Inc.),
and in August 1997 the Company issued $120 million of 3% Citicorp Exchangeable
Notes due August 28, 2002. (See Note 6 to the Consolidated Financial Statements
in Item 1.)
Operating expenses for the three fiscal months ended August 29, 1997 were
$238 thousand, compared to $164 thousand in the fiscal quarter ended August 30,
1996. This was primarily due to an increase in consulting fees. Fees and expense
reimbursement to Group affiliates included within operating expenses were $32
thousand and $45 thousand for the fiscal quarters ended August 29, 1997 and
August 30, 1996, respectively. Other operating expenses were $206 thousand and
$119 thousand for the three fiscal month periods ended August 29, 1997 and
August 30, 1996, respectively, and consisted principally of legal, accounting
and rating agency fees.
Net income of $4.7 million for the fiscal quarter ended August 29, 1997
showed an increase of $1.4 million from the $3.3 million net income for the
fiscal quarter ended August 30, 1996. Total assets as of August 29, 1997 were
$600 million, compared with total assets of $371 million as of November 29,
1996. This increase in total assets is primarily related to the purchasing of
shares of common stock to hedge the medium-term note issuances of July and
August 1997. (See Notes 2 and 6 to the Consolidated Financial Statements in Item
1.)
Nine Fiscal Months Ended August 29, 1997 Versus Nine Fiscal Months Ended
August 30, 1996
For the nine fiscal months ended August 29, 1997, the Company reported
revenues net of interest expense of $12.9 million, consisting principally of
intermediation profits of $9.6 million and net interest income of $3.3 million.
This represented an increase in reported revenues net of interest expense of 23%
compared to the nine fiscal months ended August 30, 1996. During the period, the
Company entered into or guaranteed 518 Derivative Transactions with
non-affiliates and 542 hedging Derivative Transactions with affiliates. The
aggregate notional principal amount of Derivative Transactions entered into or
guaranteed by the Company during the period was $14.8 billion, which resulted in
initial intermediation profits of $7 million. The remainder of intermediation
profit for this period principally resulted from an increase in the present
value of the expected surplus cash flows from the Company's portfolio due to a
reduction in the time remaining until those cash flows are realized. The Company
incurred interest expense of $5.2 million during the nine fiscal months ended
August 29, 1997.
For the nine fiscal months ended August 30, 1996, the Company reported
revenues net of interest expense of $10.5 million, which consisted principally
of intermediation profits of $7.0 million and net interest income of $3.4
million. During the nine fiscal months ended August 30, 1996, the Company
entered into or guaranteed 164 Derivative Transactions with non-affiliates,
including 8 transactions which the Company purchased from an affiliate at their
market value and 187 hedging Derivative Transactions with affiliates. The
aggregate notional principal amount of Derivative Transactions entered into or
guaranteed by the Company during the period was $11.8 billion, which resulted in
initial intermediation profit of $4.5 million. The remainder of intermediation
profits for the nine fiscal month period ended August 30, 1996 resulted from an
increase in the present value of the expected surplus cash flows from the
Company's portfolio due to a reduction in the time remaining until those cash
flows are realized. The Company incurred interest expense of $2.0 million during
the nine fiscal months ended August 30, 1996.
Interest income of $8.4 million for the nine fiscal months ended August 29,
1997 increased by $2.9 million or 53% over the nine fiscal months ended August
30, 1996 due to higher cash balances. Initial intermediation profit for the nine
fiscal months ended August 29, 1997 increased to $7 million compared to $4.5
million during the nine fiscal months ended August 30, 1996, reflecting an
increase in the number and a lengthening of the maturity of certain Derivative
Transactions entered into with non-affiliates. Other intermediation profit
increased $0.1 million to $2.6 million for the nine fiscal months ended August
29, 1997 compared to other intermediation profit of $2.5 million in the nine
fiscal months of 1996. Interest expense of $5.2 million for the nine fiscal
months ended August 29, 1997 increased significantly from the $2.0 million
incurred in the same fiscal period in 1996 as a result of the increase in long
term debt discussed above. The effective weighted average interest rate for long
term borrowings was 5.58% for the nine months ended August 29, 1997.
Operating expenses for the nine fiscal months ended August 29, 1997 were
$554 thousand, compared to $654 thousand in the nine fiscal months ended August
30, 1996. Fees and expense reimbursement to Group affiliates included within
operating expenses were $116 and $129 thousand for the nine fiscal months ended
August 29, 1997 and August 30, 1996. Other operating expenses were $438 thousand
and $525 thousand for the
-16-
<PAGE>
nine fiscal month periods ended August 29, 1997 and August 30, 1996,
respectively, and consisted principally of legal, accounting and rating agency
fees. The reduction in other operating expenses was primarily due to a reduction
in the level of legal expenses incurred by the Company.
Net income of $11.8 million for the nine fiscal months ended August 29,
1997 increased by 26% or $2.4 million from the nine fiscal months ended August
30, 1996 net income of $9.4 million. Total assets as of August 29, 1997 were
$600 million, consisting principally of Derivative Transactions, cash and cash
equivalents and equity securities.
Net cash provided by operating activities during the nine months ended
August 29, 1997 was $92 million, which primarily reflected receipts exceeding
payments on Derivative Transactions. In comparison, for the nine fiscal months
ended August 30, 1996, cash used in operating activities was $86 million and
principally reflected payments exceeding receipts on Derivative transactions,
partially offset by net income. Net cash used in investing activities during the
nine months ended August 29, 1997, totalled $136.8 million and reflected the
purchase of shares of common stock of Oxford Health Plans, Inc. and Citicorp to
hedge the Company's exposure under the 7% Mandatorily Exchangeable Notes due
July 23, 1999 (Subject to Mandatory Exchange into Shares of Common Stock of
Oxford Health Plans, Inc.) (the "Oxford Notes") and 3% Citicorp Exchangeable
Notes due August 28, 2002 (the "Citicorp Notes"). The increase in cash flows
from financing activities reflected the issuance of the Oxford and Citicorp
Notes.
Liquidity and Capital Resources
The Company conducts its business in a manner designed to require that cash
payments to the Company from its portfolio, taking into account market
fluctuations and the possibility of default, will be sufficient to make when due
all required payments on all the Company's liabilities, including payments of
principal and interest on borrowings. The Company needs capital principally to
absorb potential losses due to counterparty defaults. If counterparties were to
default on their obligations to the Company, these losses could be substantial.
However, based on the credit quality of its counterparties (including
affiliates), the Company does not currently anticipate any default losses and
has not recorded any provisions for credit losses.
The Company believes that the best measure, at any point in time, of its
credit exposure to a particular counterparty is the cost it would incur to
replace the obligations of that counterparty if it defaulted, net of any high
quality marketable securities posted as collateral by the counterparty. The
Company believes that under current market conditions it could enter into
replacement contracts for all of its contracts if the counterparties were to
default. However, there can be no assurance that the Company could enter into
such replacement contracts due to factors beyond the control of the Company,
such as the limited liquidity of many of the Company's assets and the potential
unavailability of suitable replacement contracts. Where several transactions
with one counterparty are subject to a master agreement which provides for
netting and which the Company believes is legally enforceable under relevant
law, the Company calculates the exposure resulting from those transactions on a
net basis, i.e., adding the positive and negative value, and where the
transactions are not subject to such a netting agreement, the Company calculates
its exposure on a gross basis, i.e., adding only positive values. This method is
identical to that used for calculating the amount of Derivative Transactions
recorded on the Company's balance sheet. As a result, at any point in time, the
Company's aggregate credit exposure in respect of an asset equals the cost of
replacing such asset less the value of any collateral posted by the
counterparty. The Company has applied Financial Accounting Standards Board
Interpretation No. 39, "Offsetting of Amounts Relating to Certain Contracts",
for financial reporting purposes for all periods presented.
In certain circumstances, the Company may reduce its credit exposure to a
counterparty by requiring that the counterparty deposit margin or collateral.
When accepting margin or collateral, the Company generally accepts high quality
marketable securities (e.g., U.S. Treasury bonds or notes and securities issued
or backed by U.S. governmental agencies). The Company calculates credit exposure
net of collateral when it believes that it has a perfected security interest in
such collateral under an enforceable agreement.
The composition, at November 24, 1995, November 29, 1996 and August 29,
1997, of the Company's credit exposures is shown in the tables below according
to the long-term debt ratings of the obligors by S&P and by the industry and
location of the obligors. (Totals do not equal Derivative Transactions reported
as assets principally because credit exposures include short-term investments,
cash and cash equivalents and exclude certain Derivative Transactions where the
Company believes that it does not have credit risk -- e.g., Derivative
Transactions reported as assets where collateral has been received, to the
extent of the value of the collateral received.) At November 24,
-17-
<PAGE>
1995, November 29, 1996 and August 29, 1997, the Company's counterparties
consisted largely of banks located in Europe, North America and the Far East, as
well as affiliates. It is important to note that the Company's credit exposures
will fluctuate as a result of new transactions, as well as changes in the
replacement cost of existing transactions due to changes in, among other things,
the level of indices to which transactions are linked, supply and demand for
particular transactions and the time remaining until maturity of the
transactions.
Current Credit Exposure - By S&P Rating of Obligor:
---------------------------------------------------
(U.S. dollars in millions)
<TABLE>
<CAPTION>
November 24, 1995 November 29, 1996 August 29, 1997
----------------- ----------------- ---------------
S&P Rating: $ Percent $ Percent $ Percent
-------- ------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
AAA $ 119.3 29.3% $ 125.3 34.0% $ 91.3 23.0%
AA+ 9.4 2.3 10.0 2.7 79.2 20.0
AA 37.3 9.2 31.9 8.7 69.1 17.4
AA- 89.7 22.0 23.6 6.4 2.9 0.7
A+ 117.1 28.8 84.1 22.8 110.8 28.0
A 32.3 7.9 48.8 13.2 23.7 6.0
A- 2.1 0.5 45.1 12.2 19.5 4.9
-------- -------- ------- ------- -------- -------
Total $ 407.2 100.0% $ 368.8 100.0% $ 396.5 100.0%
======== ======== ======= ======= ======== =======
</TABLE>
Current Credit Exposure - By Country of Obligor's Headquarters:
---------------------------------------------------------------
(U.S. dollars in millions)
<TABLE>
<CAPTION>
November 24, 1995 November 29, 1996 August 29, 1997
----------------- ----------------- ---------------
Country: $ Percent $ Percent $ Percent
-------- ------- ------- -------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
U.S. $ 117.5 28.8% $ 178.7 48.4% $ 219.3 55.2%
Switzerland 43.0 10.6 28.3 7.7 70.2 17.7
France 65.6 16.1 65.5 17.7 58.6 14.8
Japan 102.2 25.1 69.7 18.9 33.3 8.4
Germany 34.1 8.4 6.9 1.9 7.8 2.0
Netherlands 34.2 8.4 17.6 4.8 0.0 0.0
Other 10.6 2.6 2.1 0.6 7.3 1.9
-------- -------- ------- -------- -------- -------
Total $ 407.2 100.0% $ 368.8 100.0% $ 396.5 100.0%
======== ======== ======= ======== ======== =======
</TABLE>
Current Credit Exposure - By Obligor Industry
---------------------------------------------
(U.S. dollars in millions)
<TABLE>
<CAPTION>
November 24, 1995 November 29, 1996 August 29, 1997
----------------- ----------------- ---------------
Industry: $ Percent $ Percent $ Percent
-------- ------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
Banks $ 349.7 85.8% $ 257.7 69.9% $ 295.4 74.5%
Industrials 29.6 7.3 48.4 13.1 11.9 3.0
Financials 20.3 5.0 43.3 11.7 67.8 17.1
Governmental Agencies 7.6 1.9 19.4 5.3 21.4 5.4
-------- ------- ------- ------- -------- -------
Total $ 407.2 100.0% $ 368.8 100.0% $ 396.5 100.0%
======== ======= ======= ======= ======== =======
</TABLE>
The Company has entered into and may continue to enter into transactions
frequently with GS Financial Products International, L.P. ("FPI") or Goldman
Sachs Capital Markets, L.P. ("GSCM", obligations of GSCM being unconditionally
guaranteed by Group) in order to hedge transactions with third parties. (The
notional amount of Derivative Transactions with affiliates exceeds that with
non-affiliates due to a greater notional amount of affiliate versus
non-affiliate transactions guaranteed, as well as Derivative Transactions
between the Company and affiliates which hedge the Company's interest rate or
currency exposure on surplus cash flow from its portfolio, or which are intended
to mitigate total credit risk.) At August 29, 1997, the Company had $42.7
million and $5.6 million of credit exposure to GSCM and GSFPI, respectively, as
a result of these transactions. Due to the level of credit exposure
-18-
<PAGE>
to Group or its affiliates at August 29, 1997, the Company does not believe that
financial information with respect to Group is material to investors in the
Company's securities.
The Company anticipates that its credit exposures may be highly
concentrated since financial instruments reported as assets may be issued by a
limited number of counterparties. At August 29, 1997, the Company had credit
exposure net of collateral exceeding 10% of its total assets to Republic
National Bank, Union Bank of Switzerland and Morgan Guaranty Trust Company.
Collectively, such exposures represented 33% of total assets. The Company would
incur a large loss if any of these counterparties were to default. The Company's
largest credit exposure to any one counterparty was $70 million or 12% of total
assets. However, Republic National Bank, Union Bank of Switzerland and Morgan
Guaranty Trust Company were rated AA, AA+ and AAA, respectively, by S&P at
August 29, 1997, and the Company currently does not anticipate any loss as a
result of this exposure. Additionally, since the Company's credit exposure to
any one counterparty does not exceed the Company's net worth, the Company does
not consider its credit exposure excessive.
As of August 29, 1997, the Company was a party to Derivative Transactions
with a notional amount of $30.8 billion. Of these, $8.7 billion notional amount
represented Derivative Transactions which could not expose the Company to credit
risk (e.g., options written). The composition of the remainder of the Company's
Derivative Transactions by maturity and counterparty S&P rating is illustrated
below. It should be noted that notional principal amount is not a measure of
market or credit risk.
<TABLE>
<CAPTION>
Notional Amount of Derivative Transactions with Potential Credit Exposure - By Maturity:
----------------------------------------------------------------------------------------
(U.S. dollars in millions)
November 24, 1995 November 29, 1996 August 29, 1997
----------------- ----------------- ---------------
$ Percent $ Percent $ Percent
-------- ------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
1995-1996 $ 3,402 15.2% $ 850 3.6% $ 0 0.0%
1997-1999 10,544 47.2 12,918 54.0 10,059 45.5
2000-2003 4,469 20.0 4,671 19.5 5,478 24.8
2004-2005 3,283 14.7 2,549 10.7 2,258 10.2
2006-2021 637 2.9 2,895 12.2 4,294 19.5
-------- ------- ------- ------- -------- -------
Total $ 22,335 100.0% $23,883 100.0% $ 22,089 100.0%
======== ======= ======= ======= ======== =======
</TABLE>
<TABLE>
<CAPTION>
Notional Amount of Derivative Transactions with Potential Credit Exposure - By Credit Quality of Obigor:
--------------------------------------------------------------------------------------------------------
(U.S. dollars in millions)
November 24, 1995 November 29, 1996 August 29, 1997
----------------- ----------------- ---------------
S&P Rating: $ Percent $ Percent $ Percent
- ----------- -------- ------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
AAA $ 2,571 11.5% $ 2,727 11.4% $ 3,488 15.8%
AA+ 500 2.2 472 2.0 536 2.4
AA 685a 3.1 696a 2.9 0 0.0
AA- 1,254 5.6 1,133 4.7 478 2.2
A+ 1,482 6.6 274 1.1 166 0.8
A 1,301 5.8 1,465 6.1 1,808 8.2
A- 99 0.4 1,088 4.6 620 2.8
Below A- 200a 0.9 290a 1.2 74a 0.3
Affiliates 14,243 63.9 15,738 66.0 14,919 67.5
-------- ------- -------- ------- -------- ------
Total $ 22,335 100.0% $23,883 100.0% $ 22,089 100.0%
======== ====== ======== ======= ======== =======
<FN>
(a) Includes Derivative Transactions which are collateralized in part.
</FN>
</TABLE>
-19-
<PAGE>
Notional Amount of Derivative Transactions with Potential Credit Exposure -
---------------------------------------------------------------------------
By Principal Underlying Index Type:
-----------------------------------
(U.S. dollars in millions)
<TABLE>
<CAPTION>
November 24, 1995 November 29, 1996 August 29, 1997
----------------- ----------------- ---------------
$ Percent $ Percent $ Percent
-------- ------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
Interest rate $ 19,792 88.6% $ 19,910 83.4% $ 17,044 77.2%
Currency 1,826 8.2 3,923 16.4 4,996 22.6
Other 717 3.2 50 0.2 50 0.2
--------- ------- -------- -------- -------- -------
Total $ 22,335 100.0% $ 23,883 100.0% $ 22,089 100.0%
========= ======= ======== ======== ======== =======
</TABLE>
The notional amount of currencies, expressed in U.S. dollars at August 29,
1997, to be exchanged under currency options and currency swaps outstanding at
August 29, 1997 were U.S. dollars ($1,517 million), Japanese yen (approximately
$641 million), British pounds (approximately $606 million), Netherlands guilder
(approximately $601 million), German marks (approximately $443 million), Italian
lire (approximately $426 million), European currency units (approximately $306
million), French francs (approximately $163 million), Australian dollars
(approximately $99 million), Hong Kong dollars (approximately $79 million),
Argentine peso (approximately $30 million), Mexican pesos (approximately $24
million), Swiss francs (approximately $19 million), Brazilian reals
(approximately $15 million), Canadian dollars (approximately $5 million), Danish
krone (approximately $5 million), Belgium francs (approximately $3 million),
Spanish pesetas (approximately $3 million), Swedish krona (approximately $3
million), New Zealand dollars (approximately $2 million), Finnish markka
(approximately $1 million), Malaysian ringgit (approximately $1 million), and
Singapore dollars (approximately $1 million).
The fair values of Derivative Transactions as of November 29, 1996 and
August 29, 1997 and the average monthly fair values of such instruments for the
fiscal year ended November 29, 1996 and the fiscal nine months ended August 29,
1997, computed in accordance with the Company's netting policy, are as follows:
(U.S. dollars in millions) November 29, 1996 August 29, 1997
- -------------------------- ----------------- ---------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
Derivative Transactions
- -----------------------
Non-affiliates $222.5 $107.4 $161.4 $153.5
Affiliates 5.3 4.2 48.3 0.0
Average Monthly Fair Value
--------------------------
(dollar amounts in millions)
Twelve fiscal months ended Nine fiscal months ended
November 29, 1996 August 29, 1997
----------------- ---------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
Derivative Transactions
- -----------------------
Non-affiliates $214.3 $96.1 $185.0 $129.0
Affiliates 4.0 69.8 9.3 0.0
The Company is also a general partner of FPI and, as such, would ultimately
be liable for all the obligations of FPI if it were insolvent. At August 29,
1997, FPI had total liabilities of $200 million. At August 29, 1997, the
long-term debt securities of FPI were rated Aaa, AAA and AAA by Moody's, S&P and
Fitch, respectively.
At August 29, 1997, the Company had $257 million of cash and cash
equivalents available to meet its payment obligations. The Company believes that
such level of cash and cash equivalents is sufficient to enable it to meet all
of its current payment obligations. The Company anticipates that it will make
distributions to partners in
-20-
<PAGE>
the future. However, such distributions will be limited to ensure that the
Company's ability to meet its obligations is not adversely affected.
The Company may expand its portfolio by purchasing new Derivative
Transactions, principally from affiliates of Group. The Company has an effective
registration statement covering $500 million of Medium-Term Notes that may be
offered on a continuous basis. As of August 29, 1997, the Company had $266
million available for future issuance under such registration statement. The
Company has issued and outstanding $40 million face amount of Nikkei 225 Indexed
Notes due December 22, 2000, $73 million face amount of S&P Enhanced Stock Index
Growth Notes due August 9, 2002, approximately $41 million initial principal
amount of 7% Mandatorily Exchangeable Notes due July 23, 1999 (Subject to
Mandatory Exchange into Shares of Common Stock of Oxford Health Plans, Inc.),
and $120 million principal amount of 3% Citicorp Exchangeable Notes due August
28, 2002. The Company intends to issue additional equity-linked Medium-Term
Notes in the future. As a result, the Company's leverage will increase. The
Company's activities also may include purchasing new instruments, primarily
interest rate and currency swaps, and entering into hedges which convert the
return on such Derivative Transactions into a fixed or floating rate of return
on the Company's investment.
Prior to January 1, 1997 under U.S. federal tax regulation, the Company was
required to withhold income tax on behalf of its partners. Such withholding
amounted to $4.53 million for the fiscal year ended November 29, 1996, and was
accrued as a distribution to partners and included in Other liabilities and
accrued expenses in the balance sheet. For the fiscal quarter ended August 29,
1997 no such taxes were required to be remitted in accordance with U.S. Federal
law. Other than such withholding, if any, all net income during the nine month
periods ending August 30, 1996 and August 29, 1997, respectively, was retained
in partners' capital. At August 29, 1997, the Company had $146 million of
partners' capital. The Company believes that this level of partners' capital is
sufficient for it to continue to expand both the type and the volume of its
Derivative Transactions.
Important Factors Regarding Forward-Looking Statements
The Company has made in this Quarterly Report on Form 10-Q and anticipates
that it will make in future filings with the Securities and Exchange Commission,
in press releases and otherwise, written and oral forward-looking statements.
Any statement concerning the Company's expectations, beliefs, or intentions
about future conditions or events should be considered to be forward-looking and
should be understood to be subject to the factors discussed below, among others,
which may cause actual results for the Company to differ materially from those
anticipated by such forward-looking statements.
The Company's expectation that it will not be subject to market risk, that
it will receive an equal or greater payment or delivery with respect to any
payment or delivery obligation it incurs, and that it will have scheduled cash
sources that are available on or before the required payment of an obligation is
dependent upon the absence of counterparty default. While the Company has
procedures in place to monitor the credit quality of its counterparties, the
credit quality of a counterparty may be affected by economic, political and
other events beyond the Company's control. Defaults by counterparties with large
obligations to the Company could materially and adversely affect the Company's
results of operations and financial condition.
Group indirectly controls the Company and all of its business activities.
Group has several affiliates that compete with the Company for Derivative
Transactions and has its own credit policies for counterparties. No assurance
can be given that Group will not allocate transactions to its other affiliates
or will permit the business of the Company to continue to expand.
The Company expects routinely to enter into transactions with GSCM and
other affiliates of Group. The obligations of GSCM will be guaranteed by Group
and the obligations of other Group affiliates may also be guaranteed by Group.
The Company may, therefore, have a significant credit exposure to Group in the
future. If the Company has a material exposure to Group, a default by Group
would have a material and adverse effect on the Company.
In certain circumstances, the Company anticipates that it would attempt to
enter into Derivative Transactions to replace a defaulted transaction or to
reduce the risk of default. Failure to replace a defaulted Derivative
Transaction or the inability to enter into a Derivative Transaction to reduce
the risk of default could prevent the Company from eliminating the market or
credit risk with respect to one or more other Derivative Transactions. The
Company's ability to enter into replacement Derivative Transactions or other
risk reducing Derivative Transactions
-21-
<PAGE>
will be limited by the availability of appropriate counterparties willing to
enter into suitable Derivative Transactions. No assurance can be given that the
Company will be able to enter into replacement or risk reducing Derivative
Transactions.
The Company anticipates that it will continue to depend upon affiliates of
Group for the performance of essential management, operational, and
administrative functions and the solicitation of new business. The failure of
the relevant Group affiliate to perform those functions could prevent the
Company from continuing to expand its business.
The Company limits the types of instruments that it enters into as
principal or guarantees in order to avoid becoming subject to regulation. The
enactment of new legislation or new interpretations of existing statutes and
regulations may cause the Company to become subject to regulation in one or more
countries. If the Company were to become subject to regulation, no assurance can
be given that the Company would be able to comply with the applicable regulatory
requirements.
While the Company believes that in the case of credit exposures calculated
on a "net basis" (i.e., adding the positive and negative values) or net of
collateral it has in place an enforceable netting agreement or an enforceable
security interest, no assurance can be given that a court would, under all
circumstances, enforce the netting agreement or recognize the validity of the
security interest.
The Company expects to make profits, if any, principally from the spread
between hedge transactions, which spread is expected to be a small percentage of
the notional amount of such transactions. The size of the spread between
transactions is subject to market forces and may be materially adversely
impacted by competitive or other economic conditions.
The Company's financial programs and counterparty credit risk have been
rated in the highest categories by S&P and Fitch (the "Rating Agencies"). A
change in the Company's ratings would materially and adversely impact its
ability to compete successfully. The Company's ratings may be changed or
withdrawn at any time by either of the Rating Agencies, based upon factors
selected solely by the Rating Agencies.
-22-
<PAGE>
PART II: OTHER INFORMATION
Item 1: LEGAL PROCEEDINGS
No litigation was commenced against the Company through August 29, 1997.
Item 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
Item 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
12.1 Statement re computation of ratios of earnings to fixed charges
27.1 Financial Data Schedule
(b) Reports on Form 8-K:
1. Form 8-K, dated July 23, 1997; Items 5 and 7 relating to the
issuance of the 7% Mandatorily Exchangeable Notes due July 23, 1999
(Subject to Mandatory Exchange into Shares of Common Stock of Oxford
Health Plans, Inc.).
2. Form 8-K, dated September 4, 1997; Items 5 and 7 relating to the
issuance of the 3% Citicorp Exchangeable Notes due August 28, 2002.
-23-
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
GS FINANCIAL PRODUCTS U.S., L.P.
acting by its general partner, GS
Financial Products U.S. Co.
Date: October 9, 1997 By: /s/ Greg Swart
Greg Swart
President, Principal Financial
Officer and Principal Accounting
Officer
For and on behalf of GS Financial
Products U.S., Co., general partner
of GS Financial Products U.S., L.P.
-24-
<PAGE>
EXHIBIT INDEX
-------------
EXHIBIT NUMBER DESCRIPTION
- -------------- ------------------------------------------------------------
12.1 Computation of Ration of Earnings to Fixed Charges
27.1 Financial Data Schedule
GS Financial Products U.S., L.P.
Exhibit 12.1
Computation of Ratio of Earnings to Fixed Charges
<TABLE>
<CAPTION>
FOR THE THREE FOR THE NINE
FISCAL MONTHS ENDED FISCAL MONTHS ENDED
-------------------------------------- --------------------------------------
(Unaudited U.S. dollars in
thousands) August 30, 1996 August 29, 1997 August 30, 1996 August 29, 1997
--------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Earnings:
Income before income taxes $3,404 $4,887 $9,801 $12,316
Add: Fixed charges 851 1,961 2,043 5,174
------ ------ ------- -------
Earnings as adjusted $4,255 $6,848 $11,844 $17,490
Fixed charges:
Interest expense $851 $1,951 $2,043 $5,154
Debt amortization expense 0 10 0 20
Interest portion of rent
expense 0 0 0 0
------ ------ ------- -------
Total fixed charges $851 $1,961 $2,043 $5,174
Ratio of earnings to fixed
charges 5x 3x 6x 3x
</TABLE>
-25-
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
unaudited quarterly condensed financial statements of GS Financial Products
U.S., L.P. and is qualified in its entirety by reference to such financial
statements contained in GS Financial Products U.S., L.P.'s Form 10-Q for the
nine fiscal months ended August 29, 1997.
</LEGEND>
<CIK> 0000914720
<NAME> GS Financial Products U.S., L.P.
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> NOV-28-1997
<PERIOD-END> AUG-29-1997
<CASH> 257,333
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 602,461
<CURRENT-LIABILITIES> 0
<BONDS> 298,821
0
0
<COMMON> 0
<OTHER-SE> 145,790
<TOTAL-LIABILITY-AND-EQUITY> 602,461
<SALES> 0
<TOTAL-REVENUES> 18,024
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 554
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 5,154
<INCOME-PRETAX> 12,316
<INCOME-TAX> 493
<INCOME-CONTINUING> 11,828
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 11,823
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
<FN>
<F1>
Notes
Balances relating to derivative transactions are not reflected in the above
figures.
</FN>
</TABLE>
