SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
--------------
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- ----- EXCHANGE ACT OF 1934.
For the quarterly period ended May 29, 1998
OR
_____ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the transition period _____ to _____
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 Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification No.)
P.O. Box 896, Harbour Centre, North Church Street N/A
Grand Cayman, Cayman Islands, British West Indies
(Address of principal executive offices) (Zip Code)
(Registrant's Telephone Number, Including Area Code) (809) 945-1326
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
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 ____
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS
DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes ____ No ____
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date _______.
<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 Six Fiscal Months Ended May 30, 1997 and
May 29, 1998 3
Condensed Balance Sheets as of November 28, 1997 and May
29, 1998 4
Condensed Statement of Changes in Partners' Capital for
the Six Fiscal Months Ended May 29, 1998 5
Condensed Statements of Cash Flows for the Six Fiscal
Months Ended May 30, 1997 and May 29, 1998 6
Notes to the Condensed Financial Statements 7
Item 2: Management's Discussion and Analysis of Financial Condition
and Results of Operations 15
Liquidity and Capital Resources 19
Item 3: Not Applicable
PART II: OTHER INFORMATION
- --------------------------
Item 1: Legal Proceedings 26
Item 4: Submission of Matters to a Vote of Security Holders 26
Item 5: Other Information 26
Item 6: Exhibits and Reports on Form 8-K 26
Signature 27
- 2 -
<PAGE>
PART I: FINANCIAL INFORMATION
<TABLE>
<CAPTION>
GS FINANCIAL PRODUCTS U.S., L.P.
CONDENSED STATEMENTS OF INCOME
(U.S. dollars in thousands)
(Unaudited)
---------
FOR THE THREE FISCAL MONTHS FOR THE SIX FISCAL MONTHS
ENDED ENDED
----------------------------- ----------------------------
MAY 30, 1997 MAY 29, 1998 MAY 30, 1997 MAY 29, 1998
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
REVENUES:
INTERMEDIATION PROFIT $1,632 $ 13 $5,968 $ 231
------ ------ ------ ------
INTEREST 2,905 5,548 5,007 11,101
------ ------ ------ ------
EQUITY IN LOSS OF AFFILIATE (13) (10) (27) (12)
------ ------ ------ ------
TOTAL REVENUES 4,524 5,551 10,948 11,320
------ ------ ------ ------
INTEREST EXPENSE 1,601 3,280 3,203 6,592
------ ------ ------ ------
REVENUES, NET OF INTEREST EXPENSE 2,923 2,271 7,745 4,728
------ ------ ------ ------
EXPENSES:
OPERATING 137 306 316 683
------ ------ ------ ------
INCOME BEFORE TAXES 2,786 1,965 7,429 4,045
------ ------ ------ ------
INCOME TAXES 112 72 298 161
------ ------ ------ ------
NET INCOME $2,674 $1,893 $7,131 $3,884
====== ====== ====== ======
</TABLE>
The accompanying notes are an integral part of the unaudited condensed
financial statements.
- 3 -
<PAGE>
<TABLE>
<CAPTION>
GS FINANCIAL PRODUCTS U.S., L.P.
CONDENSED BALANCE SHEETS
(U.S. dollars in thousands)
(Unaudited)
---------
NOVEMBER 28, 1997 MAY 29, 1998
----------------- ---------------
<S> <C> <C>
ASSETS:
Cash and cash equivalents (Note 1) $291,375 $301,509
Securities owned, at fair value (Note 2) 95,185 112,494
Derivative Transactions, at fair value (Notes 1, 3 & 4):
Affiliate 19,561 11,215
Non-affiliate 172,956 150,843
Investment in affiliate (Note 5) 780 749
Other assets 1,826 3,772
--------- --------
Total assets $581,683 $580,582
========= ========
LIABILITIES AND PARTNERS' CAPITAL:
Derivative Transactions, at fair value (Notes 1, 3 & 4):
Non-affiliate $153,983 $129,650
Long-term borrowings (Note 6) 276,489 292,166
Other liabilities and accrued expenses 3,090 6,780
--------- ---------
Total liabilities 433,562 428,596
Commitments and contingencies (Note 5)
PARTNERS' CAPITAL:
Limited Partners 147,373 151,219
General Partner 748 767
Total partners' capital 148,121 151,986
--------- --------
Total liabilities and partners' capital $581,683 $580,582
========= =========
</TABLE>
The accompanying notes are an integral part of the unaudited
condensed financial statements.
- 4 -
<PAGE>
<TABLE>
<CAPTION>
GS FINANCIAL PRODUCTS U.S., L.P.
CONDENSED STATEMENT OF CHANGES IN PARTNERS' CAPITAL
FOR THE SIX FISCAL MONTHS ENDED MAY 29, 1998
(U.S. dollars in thousands)
(Unaudited)
---------
GENERAL LIMITED TOTAL
PARTNER'S CAPITAL PARTNERS' CAPITAL PARTNERS' CAPITAL
----------------- ----------------- -----------------
<S> <C> <C> <C>
Balance, November 28, 1997 $748 $147,373 $148,121
Net Income 19 3,865 3,884
Translation adjustment 0 (19) (19)
------- ------- --------
Balance, May 29, 1998 $ 767 $151,219 $151,986
======= ======= ========
</TABLE>
The accompanying notes are an integral part of the unaudited
condensed financial statements.
- 5 -
<PAGE>
<TABLE>
<CAPTION>
GS FINANCIAL PRODUCTS U.S., L.P.
CONDENSED STATEMENTS OF CASH FLOWS
(U.S. dollars in thousands)
(Unaudited)
---------
For the Six Fiscal Months Ended
-----------------------------------
MAY 30, 1997 MAY 29, 1998
-------------- --------------
<S> <C> <C>
Cash flows from operating activities:
Net Income $ 7,131 $ 3,884
Adjustments to reconcile net income to net cash
provided by operating activities:
Equity in loss of affiliate 27 12
Unrealized gain on securities owned 0 (17,309)
Increase in long-term borrowings due to 0 15,677
embedded derivative transactions, net
Decreases (Increases) in operating assets: Derivative Transactions,
at fair value:
Affiliate 5,273 8,346
Non-affiliate 52,644 22,113
Other assets 425 (1,946)
(Decreases) Increases in operating liabilities: Derivative Transactions,
at fair value:
Affiliate 2,219 0
Non-affiliate 2,521 (24,333)
Other liabilities and accrued expenses 6,581 3,690
-------- --------
Net cash provided by operating activities 76,821 10,134
-------- --------
Net increase in cash and cash equivalents 76,821 10,134
Cash and cash equivalents, beginning of period 141,550 291,375
-------- --------
Cash and cash equivalents, end of period $218,371 $301,509
======== ========
Supplemental disclosure of cash flow information:
Interest paid $ 1,994 $ 5,332
Income taxes paid 155 0
</TABLE>
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. In accordance with
market practice, the Company does this 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, physical commodities
and securities. 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 3). In addition, from
time to time, the Company issues structured notes (see Note 6).
Since October 1997, The Goldman Sachs Group, L.P. ("Group") has undertaken a
review of the operations of the Company and certain other affiliates of
Group engaged in the derivative products business in order to reassess the
scope of their activities, to evaluate the level and nature of staffing and
to review the procedures that are in place to handle the type and volume of
businesses that they may pursue. During this review, the Company and GS
Financial Products International, L.P. ("FPI") have not entered into any new
Derivative Transactions and have not issued any new debt securities. This
lack of activity by the Company has negatively affected the Company's
results of operations for the first half of fiscal 1998. In addition, this
lack of activity is expected to have a significant negative effect on the
Company's results of operations in the third fiscal quarter of 1998, and it
may affect later quarters depending upon the timing of the completion and
implementation of the findings of the review.
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 29, 1996 and November 28, 1997, included in the
Company's Annual Report on Form 10-K for the fiscal year ended November 28,
1997. Results for the six fiscal month periods presented 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 28, 1997 was derived from
audited financial statements but does not include all disclosures required
under generally accepted accounting principles.
The Company's long-term debt and counterparty credit risk have been rated
AAA by Standard & Poor's Ratings Group ("S&P") and Fitch IBCA, Inc.
("Fitch"). There can be no assurance that S&P and Fitch will continue to
rate the Company's long-term debt 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
Group.
Continued
- 7 -
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
-----------
The 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 a cumulative translation adjustment and included in
partners' capital.
The Company's Derivative Transactions and securities owned are recorded on a
trade date basis.
Securities owned are recorded at their fair value. 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 intermediation profit amounts
were $1.0 million and $4.0 million for the three fiscal months and the six
fiscal months ended May 30, 1997, respectively. The Company did not
recognize such intermediation profit for the three fiscal months and the six
fiscal months ended May 29, 1998 due to the aforementioned review.
The other intermediation profit for the three and the six fiscal months
ended May 30, 1997 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). The other intermediation profit for the three
fiscal months ended May 29, 1998 was principally attributable to the
recognition of performance guarantee fees offset by a decrease in the
present value of the expected surplus cash flows from the Company's
portfolio. The other intermediation profit for the six fiscal months ended
May 29, 1998 was principally attributable to the recognition of the residual
performance guarantee fees on transactions which were terminated prior to
original maturity due to the early termination of the underlying Derivative
Transactions at the request of the counterparties.
Intermediation profit earned on performance guarantees is deferred and
amortized over the term of the guarantee (see Notes 3 & 4). Unamortized
guarantee fees are recognized as intermediation profit upon any early
termination of the underlying Derivative Transactions, as noted above.
Fair value for all 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.
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 28, 1997, the Company had credit exposure, net of collateral,
exceeding 10% of its total assets to four counterparties, which represented
44% of total assets. Each of the counterparties had a rating of A+ or better
from at least one internationally recognized credit rating agency. At May
29, 1998, the Company had no credit exposure, net of collateral, exceeding
10% of its total assets to any counterparty.
Certain prior period amounts have been reclassified to conform with the May
29, 1998 presentation.
Continued
- 8 -
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
-----------
2. SECURITIES OWNED:
----------------
As of May 29, 1998 and November 28, 1997, securities owned consisted of
shares of common stock of Oxford Health Plans, Inc. (fair value
approximately $8.2 million and $11.4 million, respectively) and shares of
common stock of Citicorp (fair value approximately $104.3 million and $83.8
million, respectively). The Company purchased these securities to hedge
certain of the Company's exposures incurred by its issuance of two series of
debt securities, one of which is mandatorily exchangeable at maturity into
shares of common stock of Oxford Health Plans, Inc. and the other of which
is 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 an enforceable 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, subject to 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, subject to the
Company's netting policy, as liabilities in "Derivative Transactions."
Derivative Transactions reported as assets are principally obligations of
major international financial institutions, primarily banks, which are rated
single A or better by at least one internationally recognized rating agency.
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 enters into 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 entitle the Company to receive
amounts that are equal to or in excess of the amounts it owes. 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 affected by changes in
interest rates or foreign exchange rates.
The Company's principal risk in respect of Derivative Transactions entered
into 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"). 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 a Derivative Transaction in a gain position, net
of collateral posted by the counterparty and any Derivative Transactions
structured on a limited recourse basis. As of November 28, 1997 and May 29,
1998, the Company's aggregate Credit Exposure in respect of Derivative
Transactions was approximately $152 million and approximately $128 million,
respectively.
Continued
- 9 -
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
-----------
The Company limits its Credit Exposure 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 $4.8 million related to Derivative Transactions
as at May 29, 1998.
The Company also limits its Credit Exposure 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 certain 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 amount is not a measure of market
or credit risk.
<TABLE>
<CAPTION>
NOVEMBER 28, 1997 MAY 29, 1998
----------------- ------------
<S> <C> <C>
Non-affiliates
Interest rate swap agreements $5,809 $4,681
Currency options written 1,115 812
Currency options purchased 384 321
Interest rate options written 1,471 1,117
Interest rate options purchased 1,787 1,549
Currency and other swap agreements 162 162
Foreign currency forwards 1,552 201
Equity options purchased 84 104
Affiliates
Interest rate swap agreements $8,003 $6,361
Currency options written 396 321
Currency options purchased 1,103 812
Interest rate options written 1,792 1,525
Interest rate options purchased 2,031 1,710
Currency and other swap agreements 893 789
Foreign currency forwards 1,535 186
</TABLE>
The notional amount of Derivative Transactions with affiliates differs from
that with non-affiliates generally due to a different notional amount of
affiliate versus non-affiliate transactions guaranteed, as well as to
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 Exposure.
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
Continued
- 10 -
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
-----------
Transactions as of November 28, 1997 and May 29, 1998 and the average
monthly fair values of such instruments for the fiscal year ended November
28, 1997 and the six fiscal months ended May 29, 1998 are as follows:
<TABLE>
<CAPTION>
(U.S. dollars in millions) AS OF NOVEMBER 28, 1997 AS OF MAY 29, 1998
------------------------- -------------------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
<S> <C> <C> <C> <C>
Derivative Transactions
Non-affiliates $173.0 $154.0 $150.8 $129.7
Affiliates 19.6 0.0 11.2 0.0
</TABLE>
<TABLE>
<CAPTION>
Average Monthly Fair Value
(U.S. dollars in millions)
TWELVE FISCAL MONTHS ENDED SIX FISCAL MONTHS ENDED
NOVEMBER 28, 1997 MAY 29, 1998
------------------------- -------------------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
<S> <C> <C> <C> <C>
Derivative Transactions
Non-affiliates $175.1 $131.2 $161.1 $135.8
Affiliates 14.0 0.0 11.6 0.0
</TABLE>
4. RELATED PARTY TRANSACTIONS:
--------------------------
In the ordinary course of business, the Company enters into hedging and
performance guarantee transactions with affiliates. Substantially all of the
Company's Derivative Transactions involved some degree of hedging with
affiliates.
As of May 29, 1998, the Company had $434 thousand of cash deposited in a
brokerage account with an affiliate.
During 1997, the Company paid approximately $702 thousand to an affiliate
pursuant to an origination agreement for services rendered in connection
with the issuance of certain of the Company's medium-term notes. The Company
has deferred and is amortizing this cost over the lives of the related
notes.
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. 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 at market rates. In
aggregate, for the six fiscal months ended May 30, 1997 and May 29, 1998,
approximately $84 thousand and $133 thousand, respectively, were charged for
such services.
5. INVESTMENT IN AFFILIATE:
-----------------------
The Company owns an approximate 2% general partnership interest in GS
Financial Products International, L.P. ("FPI") and an additional indirect
limited partnership interest in FPI. The Company accounts for its investment
in FPI under the equity method because it is not the managing general
partner of FPI.
Continued
- 11 -
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
-----------
FPI is engaged in a business similar to that of the Company. As of May 29,
1998, its assets consist principally of cash and cash equivalents and equity
securities of entities organized under Japanese law. 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 May 29, 1998, FPI had total liabilities of $160 million.
The Company, after analyzing the financial position, results of operations
and cash flows of FPI, believes that FPI will be able to meet its
obligations under its outstanding liabilities. Accordingly, the Company does
not believe that it is necessary to, and has not, established a reserve with
respect to FPI's obligations under its liabilities.
As of May 29, 1998, FPI's long-term debt securities were rated Aaa, AAA and
AAA by Moody's Investors Service, Inc., 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)
MAY 29, 1998
NOVEMBER 28, 1997 (UNAUDITED)
----------------- ------------
Total assets $229 $189
Total liabilities 197 160
Partners' capital 32 29
6. LONG-TERM BORROWINGS:
--------------------
The Company has issued both principal protected and non-principal protected
Medium-Term Notes ("Notes"). The payments on the Notes are determined by
reference to the performance of a single equity security or an equity index.
The Company's obligations to the holders of the Notes will fluctuate based
on the closing price of the applicable equity security or equity index.
Certain of the Notes are subject to redemption at the option of the Company
if certain conditions are met. The terms of the Company's outstanding Notes
linked to a single stock in one case allow, and in the other case require,
the holder to exchange the Notes into an amount of the underlying security.
Hedging of equity-linked Notes has utilized substantially all of the
proceeds from the issuance of such Notes.
The Company has bifurcated, where applicable, the proceeds from the Notes
into the underlying principal component and the embedded Derivative
Transactions. The amounts allocated to the principal component will accrete,
under the effective interest rate method, to the stated principal amount
over time. The embedded Derivative Transactions are recorded at estimated
fair value.
The Company has purchased equity securities and exchange traded options and
has entered into various Derivative Transactions with affiliates to
eliminate its market risk on the Notes. (See Note 3 for a discussion of
Credit Exposure on Derivative Transactions.) The fixed interest rates on
Notes linked to an equity index have been effectively converted to U.S.
dollar-based floating interest rate costs by entering into Derivative
Transactions with affiliates. The gains and losses on these Derivative
Transactions hedging the principal component are deferred and the periodic
receipts and payments are recognized as adjustments to interest expense and
are accrued over the life of the Notes. For the six fiscal months ended May
29, 1998, interest expense on Notes linked to a single stock was $3.2
million, which was primarily offset by amounts recorded in interest income.
As discussed in Note 1,
Continued
- 12 -
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
-----------
securities owned are recorded at fair value and the Derivative Transactions
hedging the embedded Derivative Transactions are recorded at estimated fair
value.
<TABLE>
<CAPTION>
NOVEMBER 28, 1997 MAY 29, 1998
----------------- ------------
<S> <C> <C>
Nikkei Indexed Notes due December 22, 2000(1) $ 52,008 $ 53,942
S&P Enhanced Stock Index Growth Notes due August 9, 94,380 105,988
2002(2)
7% Mandatorily Exchangeable Notes due July 23, 1999(3) 16,808 12,021
(Subject to Mandatory Exchange into Shares of Common Stock
of Oxford Health Plans, Inc.)
3% Citicorp Exchangeable Notes due August 28, 2002(4) 113,293 120,215
------- -------
$276,489 $292,166
======= =======
<FN>
(1) The $40 million face amount of Nikkei Indexed Notes are principal protected
and have no stated coupon. The carrying value includes an embedded written
option to the note holders of $19.0 million as at November 28, 1997 and
$19.9 million as at May 29, 1998.
(2) The $73 million face amount of S&P Enhanced Stock Index Growth Notes are
principal protected and have no stated coupon. The carrying value includes
an embedded written option to the note holders of $40.1 million as at
November 28, 1997 and $49.9 million as at May 29, 1998.
(3) The 7% Mandatorily Exchangeable Notes due July 23, 1999 do not have a face
amount, but had an initial principal amount of $40.8 million, which
represented 477,865 notes at the prevailing market price of Oxford Health
Plans, Inc. common stock on the date of issue. 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
ability of the note holders 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. The carrying value includes the embedded
Derivative Transactions of ($29.4) million as at November 28, 1997 and
($32.6) million as at May 29, 1998.
(4) The $120 million face amount of Citicorp Exchangeable Notes are principal
protected and are exchangeable in $250,000 increments by the note holders at
the rate of 1,455 shares of Citicorp common stock per increment. In
addition, the Notes are redeemable by the Company at various times after
September 14, 1999 at the face amount, plus accrued interest, if the note
holders have not exercised their exchange option. The carrying value
includes of the embedded Derivative Transactions, net of $8.6 million as at
November 28, 1997 and $16.4 million as at May 29, 1998.
</FN>
</TABLE>
Including the impact of the Derivative Transactions, the weighted average
interest rate for the Notes was 5.49% as of May 30, 1997 and 4.82% as of May
29, 1998.
7. LIABILITY OF GENERAL PARTNER:
----------------------------
The Company's sole general partner is GS Financial Products US 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. The
Corporate General Partner had assets of approximately $2.8 million and
equity of approximately $2.2 million as of November 28, 1997 and May 29,
1998.
Continued
- 13 -
<PAGE>
GS FINANCIAL PRODUCTS U.S., L.P.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
-----------
8. INCOME TAXES:
------------
The Company, as a partnership, 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. 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 three fiscal
months and the six fiscal months ended May 30, 1997 and May 29, 1998,
include a provision for unincorporated business tax on income earned by the
Company related to doing business in New York City.
Continued
- 14 -
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
GS Financial Products U.S., L.P. (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 (collectively,
"Derivative Transactions"). 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. In accordance with market practice, the Company does this 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, physical commodities and securities. Derivative
Transactions entered into or guaranteed by the Company consist principally
of interest rate swaps, interest rate options, index swaps, currency
options, currency forwards and currency swaps denominated in a variety of
currencies. In addition, from time to time the Company issues structured
notes.
At May 29, 1998, the Company had entered into or guaranteed $16.9 billion
notional amount of interest rate swaps and options, $3.6 billion notional
amount of currency options, forwards and swaps and $0.1 billion notional
amount of equity options with a total of 60 counterparties.
In general, the Company refers to transactions where all of its 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.
Substantially all of the Company's Derivative Transactions involved some
degree of hedging with affiliates. The Company has entered into or
guaranteed $11.7 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 May 29, 1998, the Company had equity-linked Medium-Term Notes
outstanding with a carrying value of $292 million. The Company expects to
continue to issue equity-linked Medium-Term Notes in the future. The Company
intends to utilize most of the proceeds received from such issuances to
acquire shares of common stock, purchase exchange-traded and
over-the-counter options and enter into interest rate and equity-linked
swaps with affiliates to hedge its obligations under the Notes. The
remainder of the proceeds from each issuance will be added to the Company's
working capital to support its operating activities.
Since October 1997, The Goldman Sachs Group, L.P. ("Group") has undertaken a
review of the operations of the Company and certain other affiliates of
Group engaged in the derivative products business in order to reassess the
scope of their activities, to evaluate the level and nature of staffing and
to review the procedures that are in place to handle the type and volume of
businesses that they may pursue. During this review, the Company and GS
Financial Products International, L.P. ("FPI") have not entered into any new
Derivative Transactions and have not issued any new debt securities. This
lack of activity by the Company has negatively affected the Company's
results of operations for the first two fiscal quarters of 1998. In
addition, this lack of activity is expected to have a significant
- 15 -
<PAGE>
negative effect on the Company's results of operations in the third quarter
of Fiscal 1998, and it may affect later quarters depending upon the timing
of the completion and implementation of the review.
As the year 2000 approaches, an issue has emerged regarding how existing
application software programs and operating systems can distinguish between
the year 2000 and the year 1900. Systems that do not recognize the year 2000
could generate erroneous data or fail.
The Company recognizes the need to ensure that its operations will not be
adversely affected by Year 2000 software failures. As discussed under
Footnote 4 to the condensed financial statements included in this Form 10-Q
(Related Party Transactions), the Company's administrative services are
provided through a custodian agreement. As a result, the Company is relying
on Group and its affiliates to address the Year 2000 issue properly. The
Company has been advised by Group that Group and its affiliates have
assessed the computer systems on which the Company relies and have
established a process for evaluating and managing the risks associated with
this problem. Based on this advice, the Company currently does not expect
that the Year 2000 issue will have a material adverse effect on its
financial position, results of operations or cash flows.
RESULTS OF OPERATIONS
Changes in the Company's revenues are highly dependent on the volume, term
and type 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, term and type of 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 May 29, 1998, 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 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 May 29, 1998 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.
The Company, as a partnership, is not subject to U.S. federal income taxes.
Prior to January 1, 1997, the Company was required by United States federal
tax regulations to withhold income tax on behalf of its partners. 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.
- 16 -
<PAGE>
Certain of the Company's income is subject to a 4% New York City
unincorporated business tax. The statements of income for the three fiscal
months and the six fiscal months ended May 29, 1998 and May 30, 1997 include
a provision for unincorporated business tax on income earned by the Company
related to doing business in New York City. 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 tax
on the profits of the Company.
THREE FISCAL MONTHS ENDED MAY 29, 1998 VERSUS THREE FISCAL MONTHS ENDED
MAY 30, 1997
As described in "Management's Discussion and Analysis of Financial Condition
and Results of Operations--Overview" above, Group has undertaken a review of
the operations of the Company and certain other affiliates of Group engaged
in the derivative products business. Since the commencement of this review,
the Company has not entered into nor guaranteed any new Derivative
Transactions. This lack of activity by the Company has negatively affected
the Company's results of operations in the first two fiscal quarters of 1998
relative to the same fiscal quarters of the prior year.
For the fiscal quarter ended May 29, 1998, the Company reported revenues net
of interest expense of $2.3 million, consisting principally of net interest
income. This represented a decrease in reported revenues net of interest
expense of 22% compared to the fiscal quarter ended May 30, 1997. During the
period, the Company did not enter into or guarantee any new Derivative
Transactions due to the aforementioned review by Group. The Company incurred
interest expense of $3.3 million during the fiscal quarter ended May 29,
1998.
For the three fiscal months ended May 30, 1997, the Company reported
revenues net of interest expense of $2.9 million, which consisted
principally of intermediation profits of $1.6 million and net interest
income of $1.3 million. During the three fiscal months ended May 30, 1997,
the Company entered into or guaranteed 144 Derivative Transactions with
non-affiliates and 147 hedging Derivative Transactions with affiliates. The
aggregate notional principal amount of Derivative Transactions entered into
or guaranteed by the Company during the period was $4.2 billion, which
resulted in initial intermediation profit of $1.0 million. The remainder of
intermediation profit for the three fiscal month period ended May 30, 1997
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 the
time remaining until those cash flows are realized. The Company incurred
interest expense of $1.6 million during the three fiscal months ended May
30, 1997.
Interest income for the fiscal quarter ended May 29, 1998 was $5.5 million
or 91% more than the same fiscal period of the previous year, primarily as a
result of a larger cash and cash equivalents balance. As a result of the
aforementioned review by Group, the Company did not earn any initial
intermediation profit during the fiscal quarter ended May 29, 1998. Other
intermediation profit was $13 thousand for the fiscal quarter ended May 29,
1998 compared to other intermediation profit of $0.6 million in the fiscal
quarter ended May 30, 1997. Other intermediation profit of $13 thousand for
the three fiscal months ended May 29, 1998 principally reflected the
recognition of performance fees offset, to a large extent, by a decrease in
the present value of the expected cash flows from the Company's portfolio.
The decrease in other intermediation profit from the three fiscal months
ended May 30, 1997 to the three fiscal months ended May 29, 1998 of
approximately $.6 million was due to a reduction in the Company's net
investment in Derivative Transactions as well as the lack of new business
due to the review indicated above. Interest expense of $3.3 million for the
fiscal quarter ended May 29, 1998 increased significantly from the $1.6
million incurred in the same fiscal period in 1997. This increase was the
result of the increase in the long-term debt outstanding. The effective
weighted average interest rate for long-term borrowings was 4.79% for the
fiscal quarter ended May 29, 1998, as compared to 5.58% for the fiscal
quarter ended May 30, 1997.
Operating expenses for the three fiscal months ended May 29, 1998 were $306
thousand, compared to $137 thousand in the fiscal quarter ended May 30,
1997. Fees and expense reimbursement to Group affiliates included within
operating expenses were $95 thousand and $42 thousand for the fiscal
quarters ended May 29, 1998 and May 30, 1997, respectively. Other operating
expenses were $211 thousand and $95 thousand for the three fiscal month
periods ended May 29, 1998 and May 30, 1997, respectively. The increase in
operating expenses was primarily due to an increase in the level of legal
and accounting expenses incurred by the Company relating to the
aforementioned review and amortization of debt issuance costs.
- 17 -
<PAGE>
Net income of $1.9 million for the fiscal quarter ended May 29, 1998
decreased by 30% or $0.8 million from the fiscal quarter ended May 30, 1997
net income of $2.7 million. This decrease was primarily due to the lack of
activity described above. Total assets as of May 29, 1998 were $581 million,
consisting principally of Derivative Transactions, cash and cash
equivalents, and securities owned.
SIX FISCAL MONTHS ENDED MAY 29, 1998 VERSES SIX FISCAL MONTHS ENDED MAY 30,
1997
For the six fiscal months ended May 29, 1998, the Company reported revenues
net of interest expense of $4.7 million, consisting principally of net
interest income of $4.5 million. This represented a decrease in reported
revenues net of interest expense of 39% compared to the six fiscal months
ended May 30, 1997. During the period, the Company did not enter into or
guarantee any new Derivative Transactions due to the review by Group
described above. The other intermediation profit for this period principally
resulted from the recognition of the residual performance guarantee fees on
transactions which were terminated prior to original maturity due to the
early termination of the underlying Derivative Transactions at the request
of the counterparties. The Company incurred interest expense of $6.6 million
during the six fiscal months ended May 29, 1998.
For the six fiscal months ended May 30, 1997, the Company reported revenues
net of interest expense of $7.8 million, which consisted principally of
intermediation profits of $6.0 million and net interest income of $1.8
million. During the six fiscal months ended May 30, 1997, the Company
entered into or guaranteed 277 Derivative Transactions with non-affiliates,
and 282 hedging Derivative Transactions with affiliates. The aggregate
notional principal amount of Derivative Transactions entered into or
guaranteed by the Company during the period was $7.8 billion, which resulted
in initial intermediation profit of $4.0 million. The remainder of
intermediation profits for this period 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 $3.2 million during
the six fiscal months ended May 30, 1997.
Interest income of $11.1 million for the first six fiscal months ended May
29, 1998 increased by $6.1 million or 122% over the six fiscal months ended
May 30, 1997 due to higher cash and cash equivalent balances. Initial
intermediation profit decreased from $4.0 million for the six months ended
May 30, 1997 to zero for the six months ended May 29, 1998 due to the lack
of new transactions entered into during such period as a result of the
aforementioned review by Group. Other intermediation profit decreased $1.8
million to $231 thousand for the six fiscal months ended May 29,1998
compared to other intermediation profit of $2.0 million in the six fiscal
months of 1997. Other intermediation profit of $231 thousand for the six
fiscal months ended May 29, 1998 reflected the recognition of performance
guarantees offset by a decrease in the present value of the expected surplus
cash flows from the Company's portfolio. The decrease in other
intermediation profit from the six fiscal months ended May 30, 1997 to the
six fiscal months ended May 29, 1998 principally reflects a decrease in the
average net investment in Derivative Transactions. Interest expense of $6.6
million for the six fiscal months ended May 29, 1998 increased significantly
from the $3.2 million incurred in the same fiscal period in 1997 as a result
of the increase in long term debt outstanding. The effective weighted
average interest rate for long term borrowings was 4.82% for the six months
ended May 29 1998.
Operating expenses for the six fiscal months ended May 29 ,1998 were $683
thousand, compared to $316 thousand in the six fiscal months ended May 30,
1997. Fees and expense reimbursement to Group affiliates within operating
expenses were $133 thousand and $84 thousand for each of the six fiscal
month periods ended May 29 ,1998 and May 30, 1997. Other operating expenses
were $550 thousand and $232 thousand for the six fiscal months periods ended
May 29, 1998 and May 30, 1997, respectively, and consisted principally of
legal, accounting and rating agency fees. The increase in operating expenses
was primarily due to an increase in the level of legal and accounting
expenses incurred by the Company relating to aforementioned review and
amortization of debt issuance costs.
Net income of $3.9 million for the six fiscal months ended May 29, 1998
decreased by 45% or $3.2 million from the six fiscal months ended May 30,
1997 net income of $7.1 million. Total assets as of May 29, 1998 were $581
million, consisting principally of Derivative Transactions, cash and cash
equivalents and securities owned.
- 18 -
<PAGE>
Net cash provided by operating activities during the six months ended May
29, 1998 was $10.1 million, which primarily reflected receipts of cash which
reduced the Company's net investment in Derivative Transactions. In
comparison, for the six fiscal months ended May 30, 1997 net cash provided
by operating activities was $76.8 million which primarily reflected receipts
exceeding payments on Derivative Transactions, including the receipt of
certain payments under Derivative Transaction with affiliates, prior to
their original maturity.
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 values; 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 and any
Derivative Transactions structured on a limited recourse basis. 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 only 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 29, 1996, November 28, 1997 and May 29, 1998,
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 rating and by the industry
and location of the obligors. (Totals do not equal Derivative Transactions
reported as assets principally because credit exposures include cash and
cash equivalents and exclude certain Derivative Transactions where the
Company believes that it does not have credit risk -- e.g., any
collateralized portion of Derivative Transactions reported as assets and any
Derivative Transactions structured on a limited recourse basis.) At November
29, 1996, November 28, 1997 and May 29, 1998, the Company's counterparties
consisted largely of banks located in Europe, North America and Japan, as
well as affiliates of Group. 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
- 19 -
<PAGE>
transactions are linked, supply and demand for particular transactions and
the time remaining until maturity of the transactions.
<TABLE>
<CAPTION>
Current Credit Exposure - By S&P Rating of Obligor:
(U.S. dollars in millions)
NOVEMBER 29, 1996 NOVEMBER 28, 1997 MAY 29, 1998
----------------------- --------------------- -----------------------
S&P Rating: $ Percent $ Percent $ Percent
- ------------------- ------ ------- ------ ------- ------ -------
<S> <C> <C> <C> <C> <C> <C>
AAA $125.3 34.0 % $127.8 28.8 % $124.9 29.1 %
AA+ 10.0 2.7 77.1 17.4 63.1 14.7
AA 31.9 8.7 70.4 15.9 31.5 7.3
AA- 23.6 6.4 33.2 7.5 121.4 28.2
A+ 84.1 22.8 86.1 19.4 54.0 12.6
A 48.8 13.2 11.0 2.5 8.1 1.9
A- 45.1 12.2 37.1 8.4 18.2 4.2
Below A- 0.0 0.0 0.3 0.1 8.6 2.0
------ ------ ------ ----- ------ -----
Total $368.8 100.0 % $443.0 100.0 % $429.8 100.0 %
===== ====== ===== ===== ====== =====
</TABLE>
<TABLE>
<CAPTION>
Current Credit Exposure - By Country of Obligor's Headquarters:
(U.S. dollars in millions)
NOVEMBER 29, 1996 NOVEMBER 28, 1997 MAY 29, 1998
---------------------- ---------------------- ---------------------
Country: $ Percent $ Percent $ Percent
- ------------------- ------ ------- ------ ------- ------ -------
<S> <C> <C> <C> <C> <C> <C>
U.S. $178.7 48.4 % $253.2 57.2 % $230.8 53.7%
Switzerland 28.3 7.7 70.3 15.9 51.3 11.9
France 65.5 17.7 58.6 13.2 36.6 8.5
Germany 6.9 1.9 36.9 8.3 60.3 14.0
Japan 69.7 18.9 24.0 5.4 12.1 2.8
Netherlands 17.6 4.8 0.0 0.0 38.1 8.9
Other 2.1 0.6 0.0 0.0 0.6 0.2
----- ----- ----- ----- ----- -----
Total $368.8 100.0 % $443.0 100.0 % $429.8 100.0 %
===== ===== ===== ===== ===== =====
</TABLE>
<TABLE>
<CAPTION>
Current Credit Exposure - By Obligor Industry:
(U.S. dollars in millions)
NOVEMBER 29, 1996 NOVEMBER 28, 1997 MAY 29, 1998
---------------------- ---------------------- ----------------------
Industry: $ Percent $ Percent $ Percent
------ ------- ------ ------- ------ -------
<S> <C> <C> <C> <C> <C> <C>
Banks $257.7 69.9 % $336.5 76.0 % $323.7 75.3%
Financials 43.3 11.7 60.2 13.5 36.0 8.4
Industrials 48.4 13.1 28.7 6.5 28.4 6.6
Government Agencies 19.4 5.3 17.6 4.0 41.7 9.7
----- ----- ----- ----- ------ -----
Total $368.8 100.0 % $443.0 100.0 % $429.8 100.0 %
===== ===== ===== ===== ====== ======
</TABLE>
The Company has entered into and expects to continue to enter into
transactions with 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. At May 29, 1998, the Company had
$13.5 million of credit exposure to FPI and GSCM, collectively, as a result
of hedging and guaranteeing transactions. Due to the level of credit
exposure to Group or its affiliates at May 29, 1998, the
- 20 -
<PAGE>
Company does not believe that financial information with respect to Group is
material to investors in the Company's debt securities.
The Company anticipates that its credit exposures may be highly concentrated
since financial instruments reported as assets may be transacted with a
limited number of counterparties. At May 29, 1998, the Company had no credit
exposure net of collateral exceeding 10% of its total assets to any
counterparty. The Company's largest credit exposure to any one counterparty
was $51 million, or 8.8% of total assets, to Union Bank of Switzerland which
was rated AA+ by S&P at May 29, 1998. The Company currently does not
anticipate any loss as a result of its credit exposures. 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 exposures
excessive.
As of May 29, 1998, the Company was a party to Derivative Transactions with
a notional amount of $20.7 billion. Of these, $5.2 billion notional amount
represented Derivative Transactions which could not expose the Company to
credit risk (e.g., options written and Derivative Transactions structured on
a limited recourse basis). 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 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 29, 1996 November 28, 1997 May 29, 1998
------------------------ ---------------------- ----------------------
$ Percent $ Percent $ Percent
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
1995-1996 $ 850 3.6 % $ 0 0.0 % $ 0 0.0 %
1997-1999 12,918 54.0 8,374 40.1 5,765 37.2
2000-2002 3,000 19.5 4,278 21.5 3,129 20.2
2003-2005 4,220 10.7 3,621 17.4 2,476 16.0
2006-2021 2,895 12.2 4,580 22.0 4,122 26.6
------ ------ ------ ----- ------ -----
Total $23,883 100.0 % $20,853 100.0 % $15,492 100.0 %
====== ====== ====== ====== ====== =====
</TABLE>
<TABLE>
<CAPTION>
Notional Amount of Derivative Transactions With
Potential Credit Exposure - By Credit Quality of Obligor:
(U.S. dollars in millions)
November 29, 1996 November 28, 1997 May 29, 1998
------------------------- ------------------------- ------------------------
S&P Rating: $ Percent $ Percent $ Percent
-------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
AAA $ 2,727 11.4 % $ 3,415 16.4 % $ 1,989 12.8 %
AA+ 472 2.0 239 1.1 445 2.9
AA 696 (a) 2.9 303 1.5 300 1.9
AA- 1,133 4.7 438 2.1 50 0.3
A+ 274 1.1 66 0.3 685 4.4
A 1,465 6.1 1,112 5.3 637 4.1
A- 1,088 4.6 1,552 7.4 815 5.3
Below A- 290 (a) 1.2 114 (a) 0.6 712 (a) 4.6
Affiliates 15,738 66.0 13,614 65.3 9,859 63.7
------ ----- ------ ----- ------ -----
Total $23,883 100.0 % $20,853 100.0 % $15,492 100.0 %
====== ===== ====== ===== ====== =====
<FN>
(a) Includes Derivative Transactions which are collateralized in part and
therefore reflect reduced credit exposure.
</FN>
</TABLE>
- 21 -
<PAGE>
<TABLE>
<CAPTION>
Notional Amount of Derivative Transactions With Potential
Credit Exposure - By Principal Underlying Index Type:
(U.S. dollars in millions)
November 29, 1996 November 28, 1997 May 29, 1998
----------------------- ---------------------- ----------------------
$ Percent $ Percent $ Percent
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
Interest rate $19,910 83.4 % $16,498 79.1 % $13,361 86.2 %
Currency 3,923 16.4 4,271 20.5 2,027 13.1
Other 50 0.2 84 0.4 104 0.7
------ ----- ------ ----- ------ -----
Total $23,883 100.0 % $20,853 100.0 % $15,492 100.0 %
======= ====== ====== ====== ====== =====
</TABLE>
The various currencies and their respective notional amounts, expressed in
U.S. dollars, to be exchanged under currency options and currency swaps
outstanding at May 29, 1998 were U.S. dollars ($628 million), Japanese yen
(approximately $219 million), British pounds (approximately $123 million),
Dutch guilders (approximately $251 million), European currency units
(approximately $326 million), German marks (approximately $240 million),
Italian lire (approximately $145 million), French francs (approximately $65
million), and Argentine pesos (approximately $30 million).
The fair values of Derivative Transactions as of November 28, 1997 and May
29, 1998 and the average monthly fair values of such instruments for the
fiscal year ended November 28, 1997 and the fiscal six months ended May 29,
1998, are as follows:
<TABLE>
<CAPTION>
As of November 28, 1997 As of May 29, 1998
-------------------------- -------------------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
<S> <C> <C> <C> <C>
(U.S. DOLLARS IN MILLIONS)
Derivative Transactions
Non-affiliates $173.0 $154.0 $150.8 $129.7
Affiliates 19.6 0.0 11.2 0.0
</TABLE>
<TABLE>
<CAPTION>
Average Monthly Fair Value
(U.S. dollars in millions)
Twelve fiscal months ended Six fiscal months ended
November 28, 1997 May 29, 1998
---------------------------- -----------------------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
<S> <C> <C> <C> <C>
Derivative Transactions
Non-affiliates $175.1 $131.2 $161.1 $135.8
Affiliates 14.0 0.0 11.6 0.0
</TABLE>
The Company is also a general partner of FPI and, as such, would ultimately
be liable for all the obligations of FPI if FPI were insolvent. At May 29,
1998, FPI had total liabilities of $160 million. The Company, after
analyzing the financial position, results of operations and cash flows of
FPI, believes that FPI will be able to meet the obligations under its
outstanding liabilities. Accordingly, the Company does not believe that it
is necessary to, and has not, established a reserve with respect to FPI's
obligations under its liabilities.
- 22 -
<PAGE>
As of May 29, 1998, FPI's long-term debt securities were rated Aaa, AAA and
AAA by Moody's Investors Service, Inc., Standard & Poor's Ratings Group
("S&P") and Fitch IBCA, Inc. ("Fitch"), respectively.
At May 29, 1998, the Company had $301.5 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 has made, in the past, and
anticipates that, in the future, it will make distributions to its partners.
However, such distributions will be limited to ensure 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 "shelf" registration statement that initially covered $500 million
of Medium-Term Notes. As of May 29, 1998, 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.) ("Oxford"); and $120 million principal amount of 3% Citicorp
Exchangeable Notes due August 28, 2002 ("Citicorp"). The single stock
related Note issuances (i.e., Oxford and Citicorp) are an integral part of
individually structured Derivative Transactions. Payments on the above Notes
are determined by reference to the performance of a single equity security
or an equity index. The terms of the Company's outstanding Notes linked to a
single stock in one case allow, and in the other case require, the holder to
exchange the Notes into an amount of the underlying security. The Company
has purchased equity securities and has entered into Derivative Transactions
with affiliates of Group and purchased exchange-traded options to eliminate
its market risk on the Notes. Hedging of equity-linked Notes has utilized
substantially all of the proceeds from the issuance of such Notes. The
Company intends to continue to issue 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.
As of May 29, 1998, securities owned consisted of shares of common stock of
Oxford Health Plans, Inc. (fair value approximately $8.2 million) and shares
of common stock of Citicorp (fair value approximately $104.3 million). The
Company purchased these securities to hedge certain of the Company's
exposures incurred by its issuance of the Oxford and Citicorp Notes, one of
which is mandatorily exchangeable at maturity into shares of common stock of
Oxford Health Plans, Inc. and the other of which is exchangeable, at the
option of the holder, into shares of Citicorp common stock.
Partners' capital is not subject to withdrawal or redemption on demand by
the partners. All net income during the six month periods ending May 30,
1997 and May 29, 1998, respectively, was retained in partners' capital. At
May 29, 1998, the Company had $152 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
- 23 -
<PAGE>
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,
financial condition and cash flows.
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. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Overview" for a discussion of the recent review by
Group of the Company's operations.
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 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 entering into new business. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Overview" for a
discussion of the Company's reliance upon Group and its affiliates with
respect to the Year 2000 issue.
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 that it has in place an enforceable netting agreement or an
enforceable security interest, no assurance can be given that a court under
all circumstances would 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 affected by competitive or other economic conditions.
The Company's long-term debt 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 adversely affect its ability to
compete successfully. The Company's ratings may be changed or
- 24 -
<PAGE>
withdrawn at any time by either of the Rating Agencies, based upon factors
selected solely by the Rating Agencies.
- 25 -
<PAGE>
PART II: OTHER INFORMATION
- --------------------------
ITEM 1: LEGAL PROCEEDINGS
No litigation was commenced against the Company through May 29, 1998.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5: OTHER INFORMATION
On June 15, 1998, Group announced that its Executive Committee had unanimously
decided to propose an initial public offering of the firm, that certain limited
partners had expressed overwhelming support for such a proposal and that the
firm expected to submit a detailed plan for the partnership's consideration in
the summer of 1998. If approved, such an offering would likely occur in the fall
of 1998. While the details of the offering plan have not been determined, such a
plan is likely to involve a reorganization of Group into corporate form with the
corporate successor assuming the liabilities and obligations of Group. It is not
certain whether an initial public offering and reorganization will occur, what
the timing or terms of any such transactions would be or whether any such
offering and reorganization will have any effect on any debt securities of the
Company.
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
None filed during the fiscal quarter ended May 29, 1998.
- 26 -
<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 US Co.
Date: July 13, 1998 By: /s/ Greg Swart
--------------------------------------
Greg Swart
President, Principal Financial Officer
and Principal Accounting Officer
For and on behalf of GS Financial
Products US Co., managing general
partner of GS Financial Products U.S.,
L.P.
- 27-
GS FINANCIAL PRODUCTS U.S., L.P.
EXHIBIT 12.1
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
<TABLE>
<CAPTION>
FOR THE THREE FISCAL MONTHS FOR THE SIX FISCAL MONTHS
ENDED ENDED
------------------------------- -------------------------------
(Unaudited U.S. dollars in
thousands) May 30, 1997 May 29, 1998 May 30, 1997 May 29, 1998
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Earnings:
Income from continuing operations
before income taxes $2,786 $1,965 $ 7,429 $ 4,045
Add: Fixed charges 1,616 3,338 3,233 6,703
-------- ------- ------- -------
Earnings as adjusted $4,402 $5,303 $10,662 $10,748
Fixed charges:
Interest expense $1,601 $3,280 $ 3,203 $ 6,592
Debt amortization expense 15 58 30 111
Interest portion of rent expense 0 0 0 0
-------- ------- ------- -------
Total fixed charges $1,616 $3,338 $ 3,233 $ 6,703
Ratio of earnings to fixed charges 2.7 x 1.6 x 3.3 x 1.6 x
</TABLE>
For purposes of computing the ratio of earnings to fixed charges, earnings as
adjusted consist of net income plus income taxes and fixed charges. Fixed
charges consist of interest expense and amortization of debt issuance costs.
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
unaudited quarterly condensed 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 six fiscal months ended
May 29, 1998.
</LEGEND>
<CIK> 0000914720
<NAME> GS Financial Products U.S., L.P.
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> NOV-27-1998
<PERIOD-END> MAY-29-1998
<CASH> 301,509
<SECURITIES> 112,494
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 580,582
<CURRENT-LIABILITIES> 6,780
<BONDS> 292,166
0
0
<COMMON> 0
<OTHER-SE> 151,986
<TOTAL-LIABILITY-AND-EQUITY> 580,582
<SALES> 0
<TOTAL-REVENUES> 11,320
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 683
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 6,592
<INCOME-PRETAX> 4,045
<INCOME-TAX> 161
<INCOME-CONTINUING> 3,884
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3,884
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
<FN>
Notes
- ----------
Balances relating to derivative transactions are not reflected in the
above figures.
</FN>
</TABLE>
