SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2006
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from: ________ to ________
Commission File Number 001-13937
ANTHRACITE CAPITAL, INC.
------------------------
(Exact name of registrant as specified in its charter)
Maryland 13-3978906
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
40 East 52nd Street, New York, New York 10022
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(Address of principal executive offices) (Zip Code)
(Registrant's telephone number including area code): (212) 810-3333
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NOT APPLICABLE
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(Former name, former address, and for new 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.
(1) Yes X No__
(2) Yes X No__
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer or a non-accelerated filer. See definition of
"accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange
Act. (Check one)
Large accelerated filer__ Accelerated filer X Non-accelerated filer__
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act).
(1) Yes _ No X
As of May 10, 2006, 57,053,435 shares of common stock ($.001 par value
per share) were outstanding.
ANTHRACITE CAPITAL, INC.
FORM 10-Q
INDEX
PART I - FINANCIAL INFORMATION Page
----
Item 1. Financial Statements.................................................................4
Consolidated Statements of Financial Condition (Unaudited)
At March 31, 2006 and December 31, 2005..............................................4
Consolidated Statements of Operations (Unaudited)
For the Three Months Ended March 31, 2006 and 2005...................................5
Consolidated Statement of Changes in Stockholders' Equity (Unaudited)
For the Three Months Ended March 31, 2006............................................6
Consolidated Statements of Cash Flows (Unaudited)
For the Three Months Ended March 31, 2006 and 2005...................................7
Notes to Consolidated Financial Statements (Unaudited)...............................9
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations...............................................................25
Item 3. Quantitative and Qualitative Disclosures about Market Risk..........................53
Item 4. Controls and Procedures.............................................................58
Part II - OTHER INFORMATION
Item 1. Legal Proceedings...................................................................59
Item 1A. Risk Factors........................................................................59
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.........................59
Item 3. Defaults Upon Senior Securities.....................................................59
Item 4. Submission of Matters to a Vote of Security Holders.................................59
Item 5. Other Information...................................................................59
Item 6. Exhibits............................................................................59
SIGNATURES ....................................................................................61
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
Certain statements contained herein constitute "forward-looking statements"
within the meaning of the Private Securities Litigation Reform Act of 1995 with
respect to future financial or business performance, strategies or expectations.
Forward-looking statements are typically identified by words or phrases such as
"trend," "opportunity," "pipeline," "believe," "comfortable," "expect,"
"anticipate," "current," "intention," "estimate," "position," "assume,"
"potential," "outlook," "continue," "remain," "maintain," "sustain," "seek,"
"achieve" and similar expressions, or future or conditional verbs such as
"will," "would," "should," "could," "may" or similar expressions. Anthracite
Capital, Inc. (the "Company") cautions that forward-looking statements are
subject to numerous assumptions, risks and uncertainties, which change over
time. Forward-looking statements speak only as of the date they are made, and
the Company assumes no duty to and does not undertake to update forward-looking
statements. Actual results could differ materially from those anticipated in
forward-looking statements and future results could differ materially from
historical performance.
In addition to factors previously disclosed in the Company's Securities and
Exchange Commission (the "SEC") reports and those identified elsewhere in this
report, the following factors, among others, could cause actual results to
differ materially from forward-looking statements or historical performance:
(1) the introduction, withdrawal, success and timing of business
initiatives and strategies;
(2) changes in political, economic or industry conditions, the interest
rate environment or financial, capital and real estate markets,
which could result in changes in the value of the Company's assets;
(3) the relative and absolute investment performance and operations of
the Company's manager, BlackRock Financial Management, Inc. (the
"Manager");
(4) the impact of increased competition;
(5) the impact of capital improvement projects;
(6) the impact of future acquisitions and divestitures;
(7) the unfavorable resolution of legal proceedings;
(8) the extent and timing of any share repurchases;
(9) the impact, extent and timing of technological changes and the
adequacy of intellectual property protection;
(10) the impact of legislative and regulatory actions and reforms and
regulatory, supervisory or enforcement actions of government
agencies relating to the Company, the Manager or The PNC Financial
Services Group, Inc. ("PNC Bank");
(11) terrorist activities, which may adversely affect the general
economy, real estate, financial and capital markets, specific
industries, and the Company and the Manager;
(12) the ability of the Manager to attract and retain highly talented
professionals.
(13) fluctuations in foreign currency exchange rates; and
(14) the impact of changes to tax legislation and, generally, the tax
position of the Company.
Forward-looking statements speak only as of the date they are made. The Company
does not undertake, and specifically disclaims any obligation, to publicly
release the result of any revisions which may be made to any forward-looking
statements to reflect the occurrence of anticipated or unanticipated events or
circumstances after the date of such statements.
Part I - FINANCIAL INFORMATION
Item 1. Financial Statements
Anthracite Capital, Inc. and Subsidiaries
Consolidated Statements of Financial Condition
(in thousands, except per share data)
(unaudited)
----------------------------------------------------------------------------------------------------------------------------------
March 31, 2006 December 31, 2005
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ASSETS
Cash and cash equivalents $27,590 $40,556
Restricted cash equivalents 1,069 1,246
Securities available-for-sale, at fair value:
Subordinated commercial mortgage-backed securities ("CMBS") $829,678 $826,955
Investment grade CMBS 1,364,681 1,157,164
Residential mortgage-backed securities ("RMBS") 187,551 92,817
----------- --------------
Total securities available-for-sale 2,381,910 2,076,936
Commercial mortgage loan pools, at amortized cost 1,287,277 1,292,407
Securities held-for-trading, at estimated fair value
CMBS 21,260 21,264
RMBS 155,259 166,209
----------- --------------
Total securities held-for-trading 176,519 187,473
Commercial mortgage loans, net 361,723 365,806
Equity investments 155,063 110,650
Real estate, held-for-sale 5,435 -
Other assets 117,595 89,185
--------------- --------------
Total Assets $4,514,181 $4,164,259
=============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Borrowings:
Collateralized debt obligations ("CDOs") $1,066,574 $1,066,930
Secured by pledge of subordinated CMBS 113,899 83,213
Secured by pledge of other securities available-for-sale 860,154 606,209
Secured by pledge of commercial mortgage loan pools 1,273,796 1,278,908
Secured by pledge of securities held-for-trading 132,760 176,361
Secured by pledge of commercial mortgage loans 201,347 229,556
Junior subordinated notes to subsidiary trust issuing preferred
securities 180,477 77,380
----------- --------------
Total borrowings $3,829,007 $3,518,557
Payable for investments purchased 20,660 -
Distributions payable 16,873 16,673
Other liabilities 26,629 31,011
--------------- --------------
Total Liabilities $3,893,169 $3,566,241
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Commitments and Contingencies
Stockholders' Equity:
Common Stock, par value $0.001 per share; 400,000 shares authorized;
57,053 shares issued and outstanding in 2006;
56,339 shares issued and outstanding in 2005 57 56
9.375% Series C Preferred stock, liquidation preference $57,500 55,435 55,435
Additional paid-in capital 619,984 612,368
Distributions in excess of earnings (127,219) (130,038)
Accumulated other comprehensive income 72,755 60,197
--------------- --------------
Total Stockholders' Equity 621,012 598,018
--------------- --------------
Total Liabilities and Stockholders' Equity $4,514,181 $4,164,259
=============== ==============
The accompanying notes are an integral part of these consolidated financial statements.
Anthracite Capital, Inc. and Subsidiaries
Consolidated Statements of Operations (Unaudited)
(in thousands, except per share data)
For the Three For the Three
Months Ended Months Ended
March 31, 2006 March 31, 2005
------------------------------------
Income:
Interest from securities available-for-sale $38,897 $33,341
Interest from commercial mortgage loans 8,015 5,344
Interest from commercial mortgage loan pools 13,227 13,552
Interest from securities held-for-trading 1,925 2,170
Earnings from equity investments 9,342 2,605
Earnings from real estate joint ventures - 59
Interest from cash and cash equivalents 337 237
------------------------------------
Total income 71,743 57,308
------------------------------------
Expenses:
Interest 44,632 35,143
Interest - securities held-for-trading 1,893 1,361
Management and incentive fee 4,219 2,579
General and administrative expense 1,104 820
------------------------------------
Total expenses 51,848 39,903
------------------------------------
Other gains (losses):
Sale of securities available-for-sale 34 10
Securities held-for-trading 950 (1,372)
Foreign currency gain (loss) 44 (168)
Loss on impairment of assets (781) (159)
------------------------------------
Total other gains (losses) 247 (1,689)
------------------------------------
Net income 20,142 15,716
------------------------------------
Dividends on preferred stock 1,348 1,348
------------------------------------
Net income available to common stockholders $18,794 $14,368
====================================
Net income per common share, basic: $0.33 $0.27
====================================
Net income per common share, diluted: $0.33 $0.27
====================================
Dividend declared per share of Common Stock $0.28 $0.28
Weighted average number of shares outstanding:
Basic 56,672 53,294
Diluted 56,678 53,303
The accompanying notes are an integral part of these consolidated financial
statements.
Anthracite Capital, Inc. and Subsidiaries
Consolidated Statement of Changes in Stockholders' Equity (Unaudited)
For the Three Months Ended March 31, 2006
(in thousands)
-------------------------------------------------------------------------------------------------------------------------------
Series Accumulated
Common C Additional Distributions Other Total
Stock, Preferred Paid-In In Excess Comprehensive Comprehensive Stockholders'
Par Value Stock Capital Of Earnings Income Income Equity
-----------------------------------------------------------------------------------------
Balance at January 1, 2006 $56 $55,435 $612,368 $(130,038) $60,197 $598,018
Net income 20,142 $20,142 20,142
Unrealized gain on cash flow hedges 34,543 34,543 34,543
Reclassification of losses from cash
flow hedges included in net income 1,503 1,503 1,503
Change in net unrealized loss on
securities available-for-sale, net
of reclassification adjustment (23,488) (23,488) (23,488)
---------------
12,558
Other comprehensive income
---------------
$32,700
Comprehensive income
===============
Dividends declared-common stock (15,975) (15,975)
Dividends declared - preferred stock (1,348) (1,348)
Issuance of common stock 1 7,616 7,617
----------------------------------------------------------------------------------------
Balance at March 31, 2006 $57 $55,435 $619,984 $(127,219) $72,755 $621,012
========================================================================================
Disclosure of reclassification adjustment:
Unrealized holding loss $(23,522)
Reclassification for realized gains previously recorded as unrealized 34
---------------
$(23,488)
===============
The accompanying notes are an integral part of these consolidated financial statements.
Anthracite Capital, Inc. and Subsidiaries
Consolidated Statements of Cash Flows (Unaudited)
(in thousands)
For the Three For the Three
Months Ended Months Ended
March 31, 2006 March 31, 2005
-------------- --------------
Cash flows from operating activities:
Net income $20,142 $15,716
Adjustments to reconcile net income to net cash provided by operating
activities:
Decrease in trading securities 11,904 15,254
Net (gain) loss on sale of securities (984) 1,362
Earnings from subsidiary trust (79) -
Distributions from subsidiary trust 51 -
Earnings from equity investments and real estate joint ventures (9,342) (2,664)
Distributions of earnings from equity investments and real estate
joint ventures 6,862 355
Amortization of collateralized debt obligation issuance costs 553 524
Amortization of junior subordinated note issuance costs 30 -
Premium amortization (net) 136 888
Loss on impairment of assets 781 159
Unrealized net foreign currency gain (390) (787)
Decrease in other assets 16,329 12,892
Decrease in other liabilities (3,094) (12,136)
----------------------- ----------------------
42,899 31,563
Net cash provided by operating activities
----------------------- ----------------------
Cash flows from investing activities:
(322,642) (6,075)
Purchase of securities available-for-sale
12,538 11,034
Principal payments received on securities available-for-sale
2,115 2,208
Repayments received from commercial mortgage loan pools
(48,883) -
Funding of commercial mortgage loans
48,385 25,361
Repayments received from commercial mortgage loans
(5,435) -
Purchase of real estate held-for-sale
177 2,580
Decrease in restricted cash equivalents
Return of capital from equity investments and joint ventures 11,857 5,031
Investment in equity investments (48,216) -
----------------------- ----------------------
Net cash (used in) provided by investing activities (350,104) 40,139
----------------------- ----------------------
Cash flows from financing activities:
Net increase (decrease) in borrowings under reverse repurchase agreements 210,619 (51,401)
and credit facilities
Repayments of borrowings secured by commercial mortgage loan pools (1,908) (5,367)
Repayments of collateralized debt obligations (603) (203)
Issuance of junior subordinated notes to subsidiary trust 100,000 -
Issuance costs of junior subordinated notes (3,075) -
Dividends paid on preferred stock (1,348) (1,348)
Proceeds from issuance of common stock, net of offering costs 6,329 91
Dividends paid on common stock (15,775) (14,924)
----------------------- ----------------------
Net cash provided (used in) by financing activities 294,239 (73,152)
----------------------- ----------------------
Net decrease in cash and cash equivalents (12,966) (1,450)
Cash and cash equivalents, beginning of period 40,556 23,755
----------------------- ----------------------
Cash and cash equivalents, end of period $27,590 $22,305
======================= ======================
Supplemental disclosure of cash flow information:
Interest paid $31,509 $23,563
======================= ======================
Investments purchased not settled $20,660 $ 9,072
======================= ======================
Supplemental disclosure of non-cash investing and financing activities:
Investments in subsidiary trusts $ 3,097 $ -
======================= ======================
The accompanying notes are an integral part of these consolidated financial statements.
Anthracite Capital, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Unaudited)
(Dollar amounts in thousands, except share and per share data)
--------------------------------------------------------------
Note 1 ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
Anthracite Capital, Inc., a Maryland corporation, and its subsidiaries (the
"Company") is a real estate finance company that primarily generates income
based on the spread between the interest income on its commercial real estate
assets and the interest expense from borrowings used to finance those
investments. The Company seeks to earn high returns on a risk-adjusted basis to
support a consistent quarterly dividend. The Company has elected to be taxed as
a real estate investment trust ("REIT") under the United States Internal Revenue
Code of 1986, as amended (the "Code") and, therefore, its income is largely
exempt from corporate taxation. The Company commenced operations on March 24,
1998.
The Company's ongoing investment activities primarily encompass three core
investment activities:
1) Commercial Real Estate Securities
2) Commercial Real Estate Loans
3) Commercial Real Estate Equity
The accompanying March 31, 2006 unaudited consolidated financial statements have
been prepared in conformity with the instructions to Form 10-Q and Article 10,
Rule 10-01 of Regulation S-X for interim financial statements. Accordingly, they
do not include all of the information and footnotes required by accounting
principles generally accepted in the United States of America ("GAAP") for
complete financial statements. In the opinion of management, all adjustments
(which include only normal recurring adjustments) necessary to present fairly
the financial position, results of operations and changes in cash flows have
been made. These consolidated financial statements should be read in conjunction
with the annual audited financial statements and notes thereto included in the
Company's annual report on Form 10-K for the year ended December 31, 2005 filed
with the Securities and Exchange Commission (the "SEC").
In preparing the consolidated financial statements, management is required to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the dates of
the statements of financial condition and revenues and expenses for the periods
covered. Actual results could differ from those estimates and assumptions.
Significant estimates in the financial statements include the valuation of
certain of the Company's mortgage-backed securities and certain other
investments.
Recent Accounting Developments
Accounting Changes and Corrections
In June 2005, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards ("SFAS No. 154"). SFAS No. 154 replaces
Accounting Principles Board ("APB") Opinion No. 20, Accounting Changes, and SFAS
No. 3, Reporting Accounting Changes in Interim Financial Statements. SFAS No.
154 requires that a voluntary change in accounting principle be applied
retrospectively with all prior period financial statements presented in
accordance with the new accounting principle. SFAS No. 154 also requires that a
change in the method of depreciating or amortizing a long-lived non-financial
asset be accounted for prospectively as a change in estimate, and correction of
errors in previously issued financial statements should be termed
"restatements." SFAS No. 154 is effective for accounting changes and corrections
of errors made in fiscal years beginning after December 15, 2005. The
implementation of SFAS No. 154 had no impact on the Company's consolidated
financial statements.
Stock Based Compensation
In December 2004, the FASB issued SFAS No. 123R, Share-Based Payment. This
statement is a revision to SFAS No. 123, Accounting for Stock-Based
Compensation, and superseded APB Opinion No. 25, Accounting for Stock Issued to
Employees. This statement establishes standards for the accounting for
transactions in which an entity exchanges its equity instruments for goods or
services, primarily focusing on the accounting for transactions in which an
entity obtains employee services in share-based payment transactions. Entities
will be required to measure the cost of employee services received in exchange
for an award of equity instruments based on the grant-date fair value of the
award (with limited exceptions). That cost will be recognized over the period
during which an employee is required to provide service (usually the vesting
period) in exchange for the award. The grant-date fair value of employee share
options and similar instruments will be estimated using option-pricing models.
If an equity award is modified after the grant date, incremental compensation
cost will be recognized in an amount equal to the excess of the fair value of
the modified award over the fair value of the original award immediately before
the modification. As amended by Rule 4-01(a) of Regulation S-X promulgated by
the SEC, this statement is effective as of the beginning of the first interim or
annual reporting period of the Company's first fiscal year beginning on or after
December 15, 2005. The Company adopted SFAS No. 123R, as amended, effective
January 1, 2006 with no impact to the consolidated financial statements as there
are no unvested options as of December 31, 2005 and the Company applied the fair
value method to all options issued after January 1, 2003.
Reverse Repurchase Agreements
The FASB has placed an item on its agenda relating to the treatment of
transactions where mortgage-backed securities purchased from a particular
counterparty are financed via a repurchase agreement with the same counterparty.
Currently, the Company records such assets and the related financing gross on
the consolidated statement of financial condition, and the corresponding
interest income and interest expense gross on the consolidated statement of
operations. Any change in fair value of the security is reported through other
comprehensive income under SFAS No. 115, because the security is classified as
available-for-sale. However, in a transaction where the mortgage-backed
securities are acquired from and financed under a repurchase agreement with the
same counterparty, the acquisition may not qualify as a sale from the seller's
perspective under the provisions of SFAS No. 140, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities. In such cases,
the seller may be required to continue to consolidate the assets sold to the
Company, based on their continuing involvement with such investments. Depending
on the ultimate outcome of the FASB deliberations, the Company may be precluded
from presenting the assets gross on the Company's balance sheet and should
instead be treating the Company's net investment in such assets as a derivative.
If it is determined that these transactions should be treated as investments in
derivatives, the derivative instruments entered into by the Company to hedge the
Company's interest rate exposure with respect to the borrowings under the
associated repurchase agreements may no longer qualify for hedge accounting, and
would then, as with the underlying asset transactions, also be marked to market
through the income statement. This potential change in accounting treatment does
not affect the economics of the transactions but does affect how the
transactions would be reported in the consolidated financial statements. The
Company's cash flows, liquidity and ability to pay a dividend would be
unchanged, and the Company does not believe its REIT taxable income or REIT
status would be affected. The Company's net equity would not be materially
affected. At March 31, 2006, the Company has identified available-for-sale
securities with a fair value of $120,999 which had been purchased from and
financed with the same counterparty since their purchase. If the Company were to
change the current accounting treatment for these transactions at March 31,
2006, total assets and total liabilities would each be reduced by approximately
$120,999.
Impairment of Investments
In November 2005, the FASB issued FASB Staff Position ("FSP") FAS 115-1/124-1,
The Meaning of Other-Than-Temporary Impairment and Its Application to Certain
Investments, which provides guidance for determining when impairment charges
should be taken on certain debt and equity securities. FSP FAS 115-1/124-1
requires that debt and equity securities subject to the provisions of SFAS No.
115, Accounting for Certain Investments in Debt and Equity Securities, and
equity securities subject to the provisions of APB Opinion No. 18, The Equity
Method of Accounting for Investments in Common Stock, but which are not
accounted for under the equity method (i.e., securities accounted for under the
cost method) shall be reviewed for impairment when circumstances warrant. For
securities subject to SFAS No. 115, a review for other-than-temporary
impairments shall occur in each accounting period where the fair value of the
security is less than its cost. For securities subject to APB Opinion No. 18, a
review for other-than-temporary impairments shall occur in each accounting
period where a) circumstances indicate that impairment may exist and b) the fair
value of the security is less than its carrying value. The provisions of the FSP
were required to be applied to reporting periods beginning after December 15,
2005. The adoption of FSP FAS 115-1/124-1 on January 1, 2006 had no material
impact on the Company's condensed consolidated financial statements.
Recent Accounting Developments
In February 2006, the FASB issued SFAS No. 155, Accounting for Certain Hybrid
Financial Instruments, which amends SFAS No. 133 and SFAS No. 140, Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities. The Statement provides, among other things, that: (1) companies
that have embedded derivatives which would otherwise be required to be
bifurcated from their host contracts and accounted for at fair value in
accordance with SFAS No. 133 may make an irrevocable election, on an
instrument-by-instrument basis, to measure the hybrid financial instrument at
fair value in its entirety, with changes in fair value recognized in earnings
and (2) clarifies that concentrations of credit risk in the form of
subordination are not considered embedded derivatives. SFAS No. 155 is effective
for all financial instruments acquired, issued or subject to remeasurement after
the beginning of an entity's first fiscal year that begins after September 15,
2006. Upon adoption, differences between the total carrying amount of the
individual components of an existing bifurcated hybrid financial instrument and
the fair value of the combined hybrid financial instrument should be recognized
as a cumulative effect adjustment to beginning retained earnings. Prior periods
should not be restated. The Company is currently evaluating the potential impact
of SFAS No. 155 and intends to adopt the Statement on January 1, 2007.
Reclassifications
Certain items previously reported have been reclassified to conform to the
current presentation.
Note 2 NET INCOME PER SHARE
Net income per share is computed in accordance with SFAS No. 128, Earnings Per
Share. Basic income per share is calculated by dividing net income available to
common stockholders by the weighted average number of common shares outstanding
during the period. Diluted income per share is calculated using the weighted
average number of common shares outstanding during the period plus the
additional dilutive effect, if any, of common stock equivalents. The dilutive
effect of outstanding stock options is calculated using the treasury stock
method.
For the Three For the Three
Months Ended Months Ended
March 31, 2006 March 31, 2005
------------------ -------------------
Numerator:
Net income available to common stockholders $18,794 $14,368
------------------ -------------------
Numerator for basic and diluted earnings per share $18,794 $14,368
================== ===================
Denominator:
Denominator for basic earnings per share--weighted average common shares
Outstanding 56,671,961 53,294,024
Dilutive effect of stock options 5,718 9,195
------------------ -------------------
Denominator for diluted earnings per share--weighted average common shares 56,677,679 53,303,219
outstanding and common stock equivalents outstanding
================== ===================
Basic net income per weighted average common share: $0.33 $0.27
------------------ -------------------
Diluted net income per weighted average common share and common share equivalents: $0.33 $0.27
------------------ -------------------
Total anti-dilutive stock options excluded from the calculation of net income
per share were 1,384,151 and 1,385,151 for the three months ended March 31, 2006
and 2005, respectively.
Note 3 SECURITIES AVAILABLE-FOR-SALE
The Company's securities available-for-sale are carried at estimated fair value.
The amortized cost and estimated fair value of securities available-for-sale as
of March 31, 2006 are summarized as follows:
Gross Gross Estimated
Amortized Unrealized Gain Unrealized Fair
Security Description Cost Loss Value
------------------------------------------------------------ ---------------- ---------------- --------------- -----------------
CMBS:
CMBS interest only securities ("IOs") $98,721 $750 $(4,055) $95,416
Investment grade CMBS 647,427 39,274 (13,064) 673,637
Non-investment grade rated subordinated securities 581,452 54,925 (7,552) 628,825
Non-rated subordinated securities 41,343 3,295 (174) 44,464
Credit tenant leases 24,857 522 (677) 24,702
Investment grade REIT debt 249,297 6,130 (4,196) 251,231
Multifamily agency securities 372,092 - (11,426) 360,666
CDO investments 117,259 1,731 (3,572) 115,417
---------------- ---------------- --------------- -----------------
Total CMBS 2,132,448 106,627 (44,716) 2,194,359
---------------- ---------------- --------------- -----------------
Single-family RMBS:
Agency adjustable rate securities 73,950 16 (1,476) 72,490
Residential CMOs 102,829 59 (2,291) 100,597
Hybrid adjustable rate mortgages ("ARMs") 14,945 - (481) 14,464
---------------- ---------------- --------------- -----------------
Total RMBS 191,724 75 (4,248) 187,551
---------------- ---------------- --------------- -----------------
---------------- ---------------- --------------- -----------------
Total securities available-for-sale $2,324,172 $106,702 $(48,964) $2,381,910
================ ================ =============== =================
As of March 31, 2006, the Company's securities available-for-sale included
non-dollar denominated assets with an estimated fair value of $60,555.
As of March 31, 2006, an aggregate of $2,197,394 in estimated fair value of the
Company's securities available-for-sale was pledged to secure its collateralized
borrowings.
During the three months ended March 31, 2006 and 2005, respectively, the Company
realized gains of $34 and $10 on securities available-for-sale.
The following table shows the Company's estimated fair value and gross
unrealized losses, aggregated by investment category and length of time that
individual securities have been in a continuous unrealized loss position, at
March 31, 2006.
Less than 12 Months 12 Months or More Total
------------ ---------------- ------------ ----------------- ------------- -----------------
Estimated Gross Estimated Gross Estimated Gross
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------------ ---------------- ------------ ----------------- ------------- -----------------
CMBS IOs $52,903 $(2,869) $22,852 $(1,186) $75,755 $(4,055)
Investment grade CMBS 151,373 (3,584) 114,660 (9,480) 266,033 (13,064)
Non-investment grade rated
subordinated securities 180,242 (5,360) 23,998 (2,192) 204,240 (7,552)
Non-rated subordinated securities 2,371 (174) - - 2,371 (174)
Credit tenant leases - - 15,859 (677) 15,859 (677)
Investment grade REIT debt 38,191 (1,145) 48,858 (3,051) 87,049 (4,196)
Multifamily agency securities 338,627 (10,975) 22,039 (451) 360,666 (11,426)
CDO investments 56,862 (3,572) - - 56,862 (3,572)
Agency adjustable rate securities - - 70,436 (1,476) 70,436 (1,476)
Residential CMOs 99,984 (2,291) - - 99,984 (2,291)
Hybrid ARMs - - 14,464 (481) 14,464 (481)
------------ ---------------- ------------ ----------------- ------------- -----------------
Total temporarily impaired
securities $920,553 $(29,970) $333,166 $(18,994) $1,253,719 $(48,964)
============ ================ ============ ================= ============= =================
The temporary impairment of the available-for-sale securities results from the
estimated fair value of the securities falling below the amortized cost basis.
These unrealized losses are primarily the result of market factors other than
credit impairment and the Company believes the carrying value of the securities
are fully recoverable over their expected holding period. Management possesses
both the intent and the ability to hold the securities until maturity, allowing
for the anticipated recovery in estimated fair value of the securities held. As
such, management does not believe any of the securities held are
other-than-temporarily impaired at March 31, 2006.
As of March 31, 2006, the anticipated weighted average yield to maturity based
upon the amortized cost of the subordinated CMBS ("reported yield") was 10.6%
per annum. The anticipated reported yield of the Company's investment grade
securities available-for-sale was 5.9%. The Company's anticipated yields on its
subordinated CMBS and other securities available-for-sale are based upon a
number of assumptions that are subject to certain business and economic
uncertainties and contingencies. Examples of these include, among other things,
the rate and timing of principal payments (including prepayments, repurchases,
defaults, and liquidations and related expenses), the pass-through or coupon
rate, and interest rate fluctuations. The Company considers the CMBS securities
where it maintains the right to influence the foreclosure/workout process on the
underlying loans its controlling class CMBS ("Controlling Class"). Additional
factors that may affect the Company's anticipated yields to maturity on its
Controlling Class CMBS include interest payment shortfalls due to delinquencies
on the underlying mortgage loans, and the timing and magnitude of credit losses
on the mortgage loans underlying the Controlling Class CMBS that are a result of
the general condition of the real estate market (including competition for
tenants and their related credit quality) and changes in market rental rates. As
these uncertainties and contingencies are difficult to predict and are subject
to future events which may alter these assumptions, no assurance can be given
that the anticipated yields to maturity, discussed above and elsewhere, will be
achieved.
Note 4 IMPAIRMENTS - CMBS
The Company updates its estimated cash flows for securities subject to Emerging
Issues Task Force Issue 99-20, Recognition of Interest Income and Impairment on
Purchased and Retained Beneficial Interests in Securitized Financial Assets
("EITF 99-20") on a quarterly basis. The Company compares the yields resulting
from the updated cash flows to the current accrual yields. An impairment charge
is required under EITF 99-20 if the updated yield is lower than the current
accrual yield and the security has a market value less than its adjusted
purchase price. The Company carries all these securities at their market value
on its consolidated statement of financial condition.
As of March 31, 2006, the Company had two CMBS that required an impairment of
$781. As of March 31, 2005, the Company had one CMBS that required an impairment
of $159. The decline in the updated yields that caused the impairments is not
related to increases in losses but rather changes in the timing of credit losses
and prepayments. Based on current economic conditions, the Company believes the
impairments will be recovered over the remaining life of the bonds.
Note 5 COMMERCIAL MORTGAGE LOAN POOLS
During the second quarter of 2004, the Company acquired subordinated CMBS in a
trust establishing a Controlling Class interest. The Company negotiated for and
obtained a greater degree of influence over the disposition of the commercial
mortgage loans than is typically granted to the special servicer. As a result of
this expanded influence, the trust was not a qualifying special-purpose entity
("QSPE") and FASB Interpretation No. 46, Consolidation of Variable Interest
Entities (revised December 2003) ("FIN 46R") required the Company to consolidate
the net assets and results of operations of the trust.
Approximately 45% of the par amount of the commercial mortgage loan pool is
comprised of investment grade loans and the remaining 55% are unrated. For
income recognition purposes, the Company considers the investment grade and
unrated commercial mortgage loans in the pool as single assets reflecting the
credit assumptions made in establishing loss adjusted yields for Controlling
Class securities. The Company has taken into account the credit quality of the
underlying loans in formulating its loss assumptions. Credit losses assumed on
the entire pool are 1.40% of the principal balance, or 2.53% of the unrated
principal balance.
Over the life of the commercial mortgage loan pools, the Company reviews and
updates its loss assumptions to determine the impact on expected cash flows to
be collected. A decrease in estimated cash flows will reduce the amount of
interest income recognized in future periods and may result in a loan loss
reserve depending upon the severity of the cash flow reductions. An increase in
estimated cash flows will first reduce the loan loss reserve and any additional
cash will increase the amount of interest income recorded in future periods.
Note 6 SECURITIES HELD-FOR-TRADING
The Company's securities held-for-trading are carried at estimated fair value.
At March 31, 2006, the Company's securities held-for-trading consisted of FNMA
Mortgage Pools with an estimated fair value of $155,259 and CMBS with an
estimated fair value of $21,260. The FNMA Mortgage Pools, and the underlying
mortgages, bear interest at fixed rates for specified periods, generally three
to seven years, after which the rates are periodically reset to market.
Note 7 EQUITY INVESTMENTS
The Company has a $100,000 commitment to acquire shares of BlackRock Diamond
Property Fund ("BlackRock Diamond"). At March 31, 2006, 80.6% of the commitment
has been called and the Company owned approximately 34.6% of BlackRock Diamond.
The Company's investment in BlackRock Diamond at March 31, 2006 was $86,415.
The Company recorded $5,542 of income related to its ownership in BlackRock
Diamond for the three months ended March 31, 2006, as reported by BlackRock
Diamond. Of the $5,542 in income, $370 represented current income and $5,172
represented unrealized capital appreciation. The Company's investment represents
a 34.6% interest in a portfolio of fifteen assets with a total market value of
approximately $367,000. BlackRock Diamond carries its real estate investments at
estimated fair values based upon valuations performed internally and upon
appraisal reports prepared annually by independent real estate appraisers. The
estimated fair values of real estate may differ significantly from those that
could be realized if the real estate were actually offered for sale in the
market place.
The Company entered into a $50,000 commitment on July 20, 2001 to acquire shares
in Carbon Capital, Inc. ("Carbon I"). On July 12, 2004, the investment period
expired. The Company's investment in Carbon I at March 31, 2006 was $6,634. At
March 31, 2006, the Company owned approximately 20% of Carbon I.
The Company entered into an aggregate commitment of $100,000 to acquire shares
in Carbon Capital II, Inc. ("Carbon II"). The Company's investment in Carbon II
at March 31, 2006 was $60,364. The Company's remaining commitment at March 31,
2006 was $39,472. At March 31, 2006, the Company owned approximately 26% of
Carbon II.
On December 22, 2005, the Company entered into an $11,000 commitment to acquire
shares of Dynamic India Fund IV. On March 13, 2006, the Company funded a capital
call for 16.5% of its commitment. The Company's investment in Dynamic India Fund
IV at March 31, 2006 was $1,650.
Note 8 REAL ESTATE, HELD-FOR-SALE
SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets
specifies that long-lives assets to be disposed by sale, which meet certain
criteria, should be classified as real estate held-for-sale and measured at the
lower of its carrying amount or fair value less costs of sale. In addition,
depreciation is not recorded for real estate held-for-sale.
During the quarter, the Company purchased a defaulted loan from a Controlling
Class CMBS trust. The loan was secured by a first mortgage on a multi-family
property in Texas. Subsequent to the loan purchase, the property was acquired by
the Company at foreclosure. The Company's plan is to enhance leasing activity
and increase occupancy rates. Subsequently, the performance of the asset has
improved and the Company has entered into a contract to sell the property for an
amount in excess of the Company's basis. The sale is contingent on due diligence
and other closing matters. The multi-family property acquired during the quarter
meets the requirement of SFAS No. 144 and is carried at its acquisition cost of
$5,435 and no depreciation was recorded during the quarter.
Note 9 BORROWINGS
The Company's borrowings consist of credit facilities, reverse repurchase
agreements, CDOs, trust preferred securities, and commercial mortgage loan
pools.
Reverse Repurchase Agreements and Credit Facilities
On February 16, 2006, the Company entered into a $200,000 committed non-dollar
credit facility with Morgan Stanley Mortgage Servicing, Inc. which matures in
February 2008. Outstanding borrowings under this credit facility bear interest
at a LIBOR based variable rate. As of March 31, 2006, there were no borrowings
under this facility.
On March 17, 2006, the Company entered into a $100,000 committed non-dollar
credit facility with Bank of America, N.A. which matures in September 2008.
Outstanding borrowings under this credit facility bear interest at a LIBOR based
variable rate. As of March 31, 2006, there were no borrowings under this
facility.
Under the credit facilities and the reverse repurchase agreements, the
respective lender retains the right to mark the underlying collateral to
estimated fair value. A reduction in the estimated fair value of its pledged
assets will require the Company to provide additional collateral or fund margin
calls. From time to time, the Company expects that it will be required to
provide such additional collateral or fund margin calls.
CDOs
On May 2, 2006, the Company announced the pricing of its sixth CDO issuance
("CDO HY3") resulting in the issuance of $417,000 of non-recourse debt. The debt
will be secured by a portfolio of CMBS and subordinated commercial real estate
loans. This debt, rated AAA through BBB-, will be privately placed, and the
Company will receive additional CDO debt rated BB and 100% of the preferred
shares issued by the CDO. The transaction is expected to close on May 23, 2006.
The terms of the offering permit the Company to contribute to the CDO up to
$50,000 of additional CMBS during a ramp-up period. These CMBS assets will be
contributed at par value. The debt issuance is intended to match fund existing
Company assets to be contributed to the CDO at closing, and the assets to be
purchased during the ramp-up period, with long-term liabilities. The Company
intends to account for this transaction on its balance sheet as a financing. All
debt placed will either carry a fixed rate or will be hedged to create a current
cost of funds of approximately 6.3% after issuance expenses and will have a
weighted average life of 8.1 years. The Company will use the net proceeds of the
offering to pay down existing debt on the CDO collateral. Since the CDO
collateral was not fully levered, the Company expects excess cash of $93,000
after the pay down of existing debt in addition to the $50,000 ramp facility.
Following the closing of CDO HY3, approximately 93% of the Company's
subordinated CMBS will be match funded in CDOs.
Certain information with respect to the Company's collateralized borrowings at
March 31, 2006 is summarized as follows:
Reverse Credit Commercial Collateralized Total
Repurchase Mortgage Loan Collateralized
Agreements Facilities Pools Debt Obligations Borrowings
--------------- -------------- ----------------- -------------------- -----------------
Outstanding borrowings $1,060,329 $254,016 $1,267,611 $1,066,574 $3,648,530
Weighted average
borrowing rate 4.89% 5.75% 3.97% 6.01% 4.96%
Weighted average
remaining maturity 25 days 1.15 years 6.57 years 6.53 years 4.29 years
Estimated fair value of
assets pledged $1,099,519 $397,002 $1,287,277 $1,236,602 $4,020,400
As of March 31, 2006, the Company's collateralized borrowings had the following
remaining maturities:
Reverse Commercial Mortgage Total
Repurchase Credit Loan Pools Collateralized Collateralized
Agreements Facilities Debt Obligations* Borrowings
---------------- ----------------- --------------------- -------------------- ----------------------
Within 30 days $1,027,784 $- $- $- $1,027,784
31 to 59 days 4,244 12,698 - - 16,942
60 days to less than 1
year 28,301 86,445 - - 114,746
1 year to 3 years - 154,873 - - 154,873
3 years to 5 years - - - - -
Over 5 years - - 1,267,611 1,066,574 2,334,185
---------------- ----------------- --------------------- -------------------- ----------------------
$1,060,329 $254,016 $1,267,611 $1,066,574 $3,648,530
================ ================= ===================== ==================== ======================
* As of March 31, 2006, collateralized debt obligations are comprised of
$418,834 of CDO debt with a weighted average remaining maturity of 6.04 years,
$292,585 of CDO debt with a weighted average remaining maturity of 6.42 years,
and $367,440 of CDO debt with a weighted average remaining maturity of 7.14
years.
Trust Preferred
On January 31, 2006, the Company issued $50,000 of trust preferred securities
through its wholly owned subsidiary, Anthracite Capital Trust II, a Delaware
statutory trust ("Trust II"). The trust preferred securities have a thirty-year
term ending April 30, 2036 with interest at a fixed rate of 7.73% for the first
ten years and at a floating rate of three-month LIBOR plus 2.7% thereafter. The
trust preferred securities can be redeemed at par by the Company beginning in
April 2011. Trust II issued $1,550 aggregate liquidation amount of common
securities, representing 100% of the voting common stock of Trust II to the
Company for a purchase price of $1,550. The Company realized net proceeds from
this offering of approximately $48,491.
On March 16, 2006, the Company issued $50,000 of trust preferred securities
through its wholly owned subsidiary, Anthracite Capital Trust III, a Delaware
statutory trust ("Trust III" and collectively with Trust II, the "Trusts"). The
trust preferred securities have a thirty-year term ending March 15, 2036 with
interest at a fixed rate of 7.77% for the first ten years and at a floating rate
of three-month LIBOR plus 2.7% thereafter. The trust preferred securities can be
redeemed at par by the Company beginning in March 2011. Trust III issued $1,547
aggregate liquidation amount of common securities, representing 100% of the
voting common stock of Trust III to the Company for a purchase price of $1,547.
The Company realized net proceeds from this offering of approximately $48,435.
The Trusts used the proceeds from the sale of the trust preferred securities and
the common securities to purchase the Company's junior subordinated notes. The
terms of the junior subordinated notes match the terms of the trust preferred
securities. The notes are subordinate and junior in right of payment to all
present and future senior indebtedness and certain other of our financial
obligations.
The Company's interests in the Trusts are accounted for using the equity method
and the assets and liabilities of the Trusts are not consolidated into the
Company's financial statements. Interest on the junior subordinated notes is
included in interest expense on the consolidated statement of operations while
the common securities are included as a component of other assets on the
Company's consolidated statement of financial condition.
Note 10 COMMON STOCK
Pursuant to its 2006 Management Agreement (defined below), 30% of the incentive
fees earned in 2005 or after may be paid in shares of the Company's Common
Stock. On March 20, 2006 the Company issued 117,679 shares of Common Stock
related to $1,287 of fourth quarter 2005 incentive fees. See Note 11 of the
consolidated financial statements, Transactions with Affiliates, for further
discussion of the Company's Management Agreement.
For the three months ended March 31, 2006, the Company issued 590,216 shares of
Common Stock under its Dividend Reinvestment and Stock Purchase Plan (the
"Dividend Reinvestment Plan"). Net proceeds to the Company were approximately
$6,270. For the three months ended March 31, 2005, the Company issued 7,706
shares of Common Stock under its Dividend Reinvestment Plan. Net proceeds to the
Company were approximately $91. As of February 24, 2006, the Company suspended
the Dividend Reinvestment Plan for all future investments dates.
During the three months ended March 31, 2006, 7,000 stock options with an
exercise price of $8.44 per share were exercised pursuant to the Company's stock
option plan (the "1998 Stock Option Plan"). Net proceeds to the Company were
$59.
On February 24, 2006, the Company declared dividends to its common stockholders
of $0.28 per share, payable on May 1, 2006 to stockholders of record on March
31, 2006. For U.S. federal income tax purposes, the dividends are expected to be
ordinary income to the Company's stockholders.
Note 11 TRANSACTIONS WITH AFFILIATES
The Company has a Management Agreement with the Manager, a majority owned
indirect subsidiary of The PNC Financial Services Group, Inc. and the employer
of certain directors and all of the officers of the Company, under which the
Manager manages the Company's day-to-day operations, subject to the direction
and oversight of the Company's Board of Directors. Pursuant to the Management
Agreement, the Manager formulates investment strategies, arranges for the
acquisition of assets, arranges for financing, monitors the performance of the
Company's assets and provides certain other advisory and managerial services in
connection with the operations of the Company. For performing these services,
the Company pays the Manager a base management fee equal to 2.0% of the
quarterly average total stockholders' equity for the applicable quarter.
To provide an incentive, the Manager is entitled to receive an incentive fee
equal to 25% of the amount by which the rolling four-quarter GAAP net income
before the incentive fee exceeds the greater of 8.5% or 400 basis points over
the ten-year Treasury note multiplied by the adjusted per share issue price of
the common stock ($11.36 per common share at March 31, 2006).
The Company's unaffiliated directors approved an extension of the Management
Agreement to March 31, 2007 at the Board of Directors' February 2006 meeting.
Additionally, pursuant to a resolution of the Company's Board of Directors
adopted at the February 2006 meeting, up to 30% of the incentive fees earned in
2005 or after may be paid in shares of the Company's Common Stock subject to
certain provisions. The Board of Directors also authorized the Company to seek
stockholder approval of a compensatory deferred stock plan. Pending stockholder
approval, the Company would establish a stock based incentive plan where one
half of one percent of common shares outstanding will be paid to the Manager in
2006.
The Company incurred $3,050 and $2,579 in base management fees in accordance
with the terms of the Management Agreement for the three months ended March 31,
2006 and 2005, respectively. The Company incurred $1,169 in incentive fees for
the three months ended March 31, 2006. The Company did not incur incentive fees
for the three months ended March 31, 2005. As of March 31, 2006 and 2005,
respectively, management and incentive fees of $4,095 and $2,438 are payable to
the Manager. In accordance with the provisions of the Management Agreement, the
Company recorded reimbursements to the Manager of $100 and $40 for certain
expenses incurred on behalf of the Company for the three months ended March 31,
2006 and 2005, respectively, which are included in general and administrative
expense on the accompanying consolidated statements of operations.
The Company has an administration and investment accounting agreement with the
Manager. Under the terms of the administration agreement, the Manager provides
financial reporting, audit coordination and accounting oversight services to the
Company. Under the terms of the investment accounting agreement, the Manager
provides investment accounting services to the Company. For the three months
ended March 31, 2006 and 2005, the Company recorded administration and
investment accounting fees of $182 and $51, respectively, which are included in
general and administrative expense on the accompanying consolidated statements
of operations.
The special servicer on 20 of the Company's 24 Controlling Class trusts is
Midland Loan Services, Inc. ("Midland"), a wholly owned indirect subsidiary of
PNC Bank, and therefore an affiliate of the Manager. The Company's fees for
Midland's services are at market rates.
The Company has a $100,000 commitment to acquire shares of BlackRock Diamond.
BlackRock Diamond is a private REIT managed by BlackRock Realty Advisors, Inc.,
a subsidiary of the Manager. At March 31, 2006, 80.6% of the commitment has been
called and the Company owned approximately 34.6% of BlackRock Diamond. The
Company does not incur any additional management or incentive fees to the
Manager as a result of its investment in BlackRock Diamond. The Company's
investment in BlackRock Diamond at March 31, 2006 was $86,116. The Company's
unaffiliated directors approved this transaction in September 2005.
During 2001, the Company entered into a $50,000 commitment to acquire shares in
Carbon Capital, Inc. ("Carbon I"), a private commercial real estate income
opportunity fund managed by the Manager. The Carbon I investment period ended on
July 12, 2004 and the Company's investment in Carbon I as of March 31, 2006 was
$6,634. The Company does not incur any additional management or incentive fees
to the Manager as a result of its investment in Carbon I. On March 31, 2006, the
Company owned approximately 20% of the outstanding shares in Carbon I. The
Company's unaffiliated directors approved this transaction in July 2001.
The Company entered into an aggregate commitment of $100,000 to acquire shares
in Carbon II, a private commercial real estate income opportunity fund managed
by the Manager. At March 31, 2006, the Company's investment in Carbon II was
$60,364 and the Company's remaining commitment to Carbon II is $39,472. The
Company does not incur any additional management or incentive fees to the
Manager as a result of its investment in Carbon II. The Company's unaffiliated
directors approved this transaction in September 2004.
During 2000, the Company completed the acquisition of CORE Cap, Inc. At the time
of the CORE Cap, Inc. acquisition, the Manager agreed to pay GMAC (CORE Cap,
Inc.'s external advisor) $12,500 over a ten-year period ("Installment Payment")
to purchase the right to manage the CORE Cap, Inc. assets under the existing
management contract ("GMAC Contract"). The GMAC Contract had to be terminated in
order to allow the Company to complete the merger, as the Company's management
agreement with the Manager did not provide for multiple managers. As a result
the Manager offered to buy-out the GMAC Contract as the Manager estimated it
would receive incremental fees above and beyond the Installment Payment, and
thus was willing to pay for, and separately negotiate, the termination of the
GMAC Contract. Accordingly, the value of the Installment Payment was not
considered in the Company's allocation of its purchase price to the net assets
acquired in the acquisition of CORE Cap, Inc. The Company agreed that should the
Management Agreement with its Manager be terminated, not renewed or not extended
for any reason other than for cause, the Company would pay to the Manager an
amount equal to the Installment Payment less the sum of all payments made by the
Manager to GMAC. As of March 31, 2006, the Installment Payment would be $5,000
payable over five years. The Company does not accrue for this contingent
liability.
Note 12 DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The Company accounts for its derivative investments under SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities, as amended, which
establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts and for
hedging activities. All derivatives, whether designated in hedging relationships
or not, are required to be recorded on the consolidated statement of financial
condition at estimated fair value. If the derivative is designated as a cash
flow hedge, the effective portions of change in the estimated fair value of the
derivative are recorded in other comprehensive income ("OCI") and are recognized
in the income statement when the hedged item affects earnings. Ineffective
portions of changes in the estimated fair value of cash flow hedges are
recognized in earnings. If the derivative is designated as a fair value hedge,
the changes in the estimated fair value of the derivative and of the hedged item
attributable to the hedged risk are recognized in earnings.
The Company uses interest rate swaps to manage exposure to variable cash flows
on portions of its borrowings under reverse repurchase agreements and the
floating rate debt of its CDOs and as trading derivatives intended to offset
changes in estimated fair value related to securities held as trading assets. On
the date in which the derivative contract is entered, the Company designates the
derivative as either a cash flow hedge or a trading derivative.
Occasionally, counterparties will require the Company or the Company will
require counterparties to provide collateral for the interest rate swap
agreements in the form of margin deposits. Net deposits are recorded as a
component of either other assets or other liabilities. Should the counterparty
fail to return deposits paid, the Company would be at risk for the estimated
fair value of that asset. At March 31, 2006 and December 31, 2005, respectively,
the balance of such net margin deposits held by the Company as collateral under
these agreements totaled $1,069 and $1,246.
As of March 31, 2006, the Company had interest rate swaps with notional amounts
aggregating $1,446,091 designated as cash flow hedges of borrowings under
reverse repurchase agreements and the floating rate debt of its CDOs. Cash flow
hedges with an estimated fair value of $53,096 are included in other assets on
the consolidated statement of financial condition and cash flow hedges with an
estimated fair value of $2,914 are included in other liabilities on the
consolidated statement of financial condition. For the three months ended March
31, 2006, the net change in the estimated fair value of the interest rate swaps
was an increase of $35,158, of which $615 was deemed ineffective and is included
as a decrease of interest expense and $34,543 was recorded as an addition to
OCI. As of March 31, 2006, the $1,446,091 notional of swaps designated as cash
flow hedges had a weighted average remaining term of 7.65 years.
During the quarter ended March 31, 2006, the Company terminated one of its
interest rate swaps with a notional amount of $36,000 that was designated as a
cash flow hedge of borrowings under reverse repurchase agreements. The Company
will reclassify the $1,733 gain in value incurred from OCI to interest expense
over 7.19 years, which was the remaining term of the swap at the time it was
closed out. For the quarter ended March 31, 2006, $20 was reclassified as a
decrease to interest expense and $241 will be reclassified as a decrease to
interest expense for the next 12 months. As of March 31, 2006 the Company has,
in aggregate, $31,962 of losses related to terminated swaps in OCI. For the
quarter ended March 31, 2006, $1,503 was reclassified as an increase to interest
expense and $5,693 will be reclassified as an increase to interest expense for
the next twelve months.
As of March 31, 2006, the Company had interest rate swaps with notional amounts
aggregating $323,445 designated as trading derivatives. Trading derivatives with
an estimated fair value of $4,994 are included in other assets on the
consolidated statement of financial condition and trading derivatives with an
estimated fair value of $105 are included in other liabilities on the
consolidated statement of financial condition. For the three months ended March
31, 2006, the change in estimated fair value for these trading derivatives was
an increase of $2,304 and is included as a reduction of loss on securities
held-for-trading in the consolidated statements of operations. As of March 31,
2006, the $323,445 notional of swaps designated as trading derivatives had a
weighted average remaining term of 6.49 years.
At March 31, 2006, the Company had a forward LIBOR cap with a notional amount of
$85,000 and an estimated fair value at March 31, 2006 of $370 which is included
in other assets, and the change in estimated fair value related to this
derivative is included as a component of gain (loss) on securities
held-for-trading in the consolidated statements of operations.
Foreign Currency
The U.S. dollar is considered the functional currency for the Company's
international subsidiaries. Foreign currency transaction gains or losses related
to the Company's non-dollar denominated assets and liabilities are recognized in
the period incurred and are included in other gain (loss) in the consolidated
statement of operations. The Company uses foreign currency forward commitments
to hedge the Company's net foreign investments. Gains and losses on foreign
currency forward commitments are included in other gain (loss) in the
consolidated statement of operations. The Company recorded net foreign currency
transaction gain (loss) of $44 and $(168) for the three months ended March 31,
2006 and 2005, respectively. At March 31, 2006 and December 31, 2005, the
Company also had foreign currency forward commitments with an estimated fair
value of $(84,495) and $(55,390) included in other liabilities on the
consolidated statement of financial condition.
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
All dollar figures expressed herein are expressed in thousands, except share or
per share amounts or as otherwise noted.
I. General
Anthracite Capital, Inc., a Maryland corporation, and subsidiaries (the
"Company") is a commercial real estate company that invests in commercial real
estate opportunities in the United States and Europe. The company seeks to
generate income from the spread between the interest income, gains and net
operating income on its commercial real estate assets and the interest expense
from borrowings to finance its investments. The Company's primary activity is
investing in high yielding commercial real estate debt. The Company combines
traditional real estate underwriting and capital markets expertise to maximize
the opportunities arising from the continuing integration of these two
disciplines. The Company focuses on acquiring pools of performing loans in the
form of commercial mortgage-backed securities ("CMBS"), issuing secured debt
backed by CMBS and providing strategic capital for the commercial real estate
industry in the form of mezzanine loan financing. The Company also recently
began investing in diversified portfolios of commercial real estate in the
United States. The Company commenced operations on March 24, 1998.
The Company's common stock is traded on the New York Stock Exchange under the
symbol "AHR". The Company's primary long-term objective is to distribute
consistent dividends supported by earnings. The Company establishes its dividend
by analyzing the long-term sustainability of earnings given existing market
conditions and the current composition of its portfolio. This includes an
analysis of the Company's credit loss assumptions, general level of interest
rates, projected hedging costs and the estimated return potential of its real
estate investments.
The Company is managed by BlackRock Financial Management, Inc. (the "Manager"),
a subsidiary of BlackRock, Inc., a publicly traded (NYSE:BLK) asset management
company with approximately $463 billion of assets under management, including
more than $10 billion in real estate equity and debt as of March 31, 2006. The
Manager provides an operating platform that incorporates significant asset
origination, risk management, operational and property management capabilities.
The Company's ongoing investment activities primarily encompass three core
investment activities:
1) Commercial Real Estate Securities
2) Commercial Real Estate Loans
3) Commercial Real Estate Equity
The commercial real estate securities portfolio provides diversification and
high yields that are adjusted for anticipated losses over a period of time
(typically, a ten-year weighted average life) and can be financed through the
issuance of secured debt that matches the life of the investment. Commercial
real estate loans provide attractive risk adjusted returns over shorter periods
of time through strategic investments in specific property types or regions. The
Company's equity strategy is to invest in a diverse portfolio of commercial real
estate with the objective of repositioning the property to maximize its value.
The return objective is to provide strong returns over a medium term period of 4
to 7 years through a combination of real estate operating income and capital
gains. It is expected that, over the short term, current returns will fluctuate
as gains and losses are reported based on a valuation process each quarter. The
Company believes that the combination of these activities will result in a
strong, sustainable dividend stream for our shareholders.
The Company's fixed income investment activity continues to be managed to
maintain a positive, though controlled, exposure to both long- and short-term
interest rates through its active hedging strategies. See "Item 3 - Quantitative
and Qualitative Disclosures About Market Risk" for a discussion of interest
rates and their effect on earnings and book value.
The following table illustrates the mix of the Company's asset types as of March
31, 2006 and December 31, 2005:
Carrying Value as of
March 31, 2006 December 31, 2005
Amount % Amount %
-------------------------------------------------
Commercial real estate securities $2,215,620 50.8% $2,005,383 49.7%
Commercial mortgage loan pools(1) 1,287,277 29.5 1,292,407 32.0
Commercial real estate loans((2)) 428,720 9.8 425,453 10.6
Commercial real estate equity 88,065 2.0 51,003 1.3
Residential mortgage-backed securities 342,810 7.9 259,026 6.4
-------------------------------------------------
Total $4,362,492 100.0% $4,033,272 100.0%
-------------------------------------------------
(1) Represents a Controlling Class CMBS that is consolidated for accounting
purposes. See Note 5 of the consolidated financial statements.
(2) Includes the Company's investments in the Carbon Capital Funds at March
31, 2006 and December 31, 2005.
During the first quarter of 2006, the Company purchased a total of $313,142 of
commercial real estate assets. Included in this amount is $40,317 of non-dollar
denominated assets as the Company continues to expand its non-U.S. investment
activities. Commercial real estate assets purchased were comprised of: $128,032
of CMBS, $105,092 of multifamily agency securities, $48,637 of commercial real
estate loans and $31,381 of real estate equity. In addition, the Company
purchased $98,225 of investment grade residential mortgage-backed securities.
Commercial Real Estate Securities Portfolio Activity
The following table details the par, estimated fair value, adjusted purchase
price, and loss adjusted yield of the Company's commercial real estate
securities included in as well as outside the CDOs as of March 31, 2006:
Adjusted Loss
Estimated Dollar Purchase Dollar Adjusted
Par Fair Value Price Price Price Yield
------------------------------------------------------------------------------
Investment grade CMBS $182,474 $180,421 98.87 $190,926 104.63 4.42%
Investment grade real estate
investment trust ("REIT") debt 23,000 21,516 93.55 22,834 99.28 5.49%
CMBS rated BB+ to B 198,689 164,771 82.93 169,373 85.25 7.99%
CMBS rated B- or lower 188,359 65,683 34.87 61,934 32.88 8.53%
CDO Investments 423,349 115,418 27.26 117,259 27.70 17.62%
CMBS Interest Only securities ("IOs") 3,461,113 95,415 2.76 98,721 2.85 6.56%
Multifamily agency securities 361,931 360,666 99.65 372,092 102.81 4.87%
--------------------------------------------------------------------------------
Total commercial real estate
securities outside CDOs 4,838,915 1,003,890 20.75 1,033,139 21.35 7.14%
--------------------------------------------------------------------------------
Investment grade CMBS 515,555 512,565 99.42 476,849 92.49 7.69%
Investment grade REIT debt 223,445 229,715 102.81 226,463 101.35 6.15%
CMBS rated BB+ to B 510,302 440,602 86.34 389,022 76.23 10.11%
CMBS rated B- or lower 5,439 4,145 76.21 4,292 78.91 12.84%
Credit tenant lease 24,187 24,703 102.13 24,857 102.77 5.68%
--------------------------------------------------------------------------------
Total commercial real estate
securities included in CDOs 1,278,928 1,211,730 94.75 1,121,483 87.69 8.20%
--------------------------------------------------------------------------------
Total commercial real estate
securities $6,117,843 $2,215,620 36.22 $2,154,622 35.22 7.69%
================================================================================
The following table details the par, estimated fair value, adjusted purchase
price and loss adjusted yield of the Company's commercial real estate securities
included in as well as outside the CDOs as of December 31, 2005:
Adjusted Loss
Estimated Dollar Purchase Dollar Adjusted
Par Fair Value Price Price Price Yield
------------------------------------------------------------------------------
Investment grade CMBS $150,128 $151,889 101.17 $161,314 107.45 4.00%
Investment grade real estate
investment trust ("REIT") debt 23,000 21,828 94.90 22,828 99.25 5.49%
CMBS rated BB+ to B 104,784 90,289 86.17 92,931 88.69 7.77%
CMBS rated B- or lower 132,242 47,854 36.19 45,070 34.08 9.17%
CDO Investments 423,349 124,549 29.42 112,577 26.59 17.29%
CMBS Interest Only securities("IOs") 3,505,646 103,363 2.95 103,120 2.94 6.58%
Multifamily agency securities 256,398 263,362 102.72 268,319 104.65 4.77%
------------------------------------------------------------------------------
Total commercial real estate 4,595,547 803,134 17.48 806,159 17.54 7.21%
securities outside CDOs
------------------------------------------------------------------------------
Investment grade CMBS 375,502 377,291 100.48 354,561 94.42 7.37%
Investment grade REIT debt 223,445 233,939 104.70 226,583 101.40 6.15%
CMBS rated BB+ to B 656,207 566,181 86.28 513,446 78.24 9.16%
Credit tenant lease 24,317 24,837 102.14 24,995 102.79 5.68%
------------------------------------------------------------------------------
Total commercial real estate 1,279,472 1,202,248 93.96 1,119,585 87.50 7.91%
securities included in CDOs
------------------------------------------------------------------------------
Total commercial real estate
securities $5,875,019 $2,005,383 34.13 $1,925,744 32.78 7.61%
==============================================================================
During the three months ended March 31, 2006, the Company's commercial real
estate securities portfolio increased by approximately 10.5% from an estimated
fair value of $2,005,383 at December 31, 2005, compared with $2,215,620 at March
31, 2006.
The Company's CDO offerings allow the Company to match fund its commercial real
estate portfolio by issuing long-term debt to finance long-term assets. The CDO
debt is non-recourse to the Company; therefore, the Company's losses are limited
to its equity investment in the CDO. The CDO debt is also hedged to protect the
Company from an increase in short-term interest rates. At March 31, 2006, over
65% of the estimated fair value of the Company's subordinated CMBS is match
funded in the Company's CDOs in this manner. Following the closing of CDO HY3,
approximately 93% of the Company's subordinated CMBS will be match funded in
CDOs.
The Company retained 100% of the equity of CDOs I, II and III (as defined below)
and recorded the transactions on its consolidated financial statements as
secured financing. The table below summarizes the Company's CDO debt and
collateral at March 31, 2006.
Collateral as of March 31, 2006 Debt as of March 31, 2006
-------------------------------------------------------------------------------
Adjusted Purchase Loss Adjusted Yield Adjusted Issue Weighted Average
Price Price Cost of Funds * Net Spread
------------------------------------------------------------------------------- -----------
CDO I $442,181 9.19% $406,429 7.05% 2.14%
CDO II 326,861 7.96% 292,708** 5.80% 2.16%
CDO III 377,881 7.22% 367,437** 5.03% 2.19%
----------------------------------------------------------------------------------------------------------
Total ** $1,146,923 8.19% $1,066,575 6.01% 2.18%
* Weighted Average Cost of Funds is the current cost of funds plus hedging
expenses.
** The Company chose not to sell $10,000 of par of CDO II debt rated BB and
$13,069 of par of CDO III debt rated BB.
Securitizations
On July 26, 2005, the Company closed its fifth CDO ("CDO HY2") and issued
non-recourse liabilities with a face amount of $365,010. Senior investment grade
notes with a face amount of $240,134 were issued and sold in a private
placement. The Company retained the floating rate BBB- note, the below
investment grade notes and the preferred shares. The Company recorded CDO HY2 as
a secured financing for accounting purposes and consolidated the assets,
liabilities, income and expenses of CDO HY2 until the sale of the floating rate
BBB- note in December 2005, at which point CDO HY2 qualified as a sale under
SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities ("SFAS 140").
The Company received cash proceeds of $244,212 as well as all of the retained
interests that had an estimated fair value of $105,025 at December 31, 2005. The
transaction raised investable proceeds of $56,226. The following table
summarizes the impact of this transaction on 2005 results:
Net realized gain related to sale of CDO HY2 $16,523
Increase in accumulated other comprehensive income 9,611
--------------
Total stockholders' equity impact $26,134
==============
On November 9, 2004, the Company closed its fourth collateralized debt
obligation ("CDO HY1") secured by a portfolio of below investment grade CMBS
with an average rating of CCC. The CMBS portfolio was carried at its estimated
fair value of $109,933 on the Company's consolidated statement of financial
condition based on price quotes received from third parties. The transaction was
accounted for as a sale under SFAS No. 140. The Company received cash proceeds
of $140,425 as well as all of the CDO HY1 preferred shares that had an estimated
fair value of $15,885 at December 31, 2004. The transaction raised investable
proceeds of $95,799. The following table summarizes the impact of this
transaction on 2004 results:
Realized gain at closing of CDO HY1 $14,769
Realized gain from subsequent sale of A- tranche 1,825
Increase in accumulated other comprehensive income 29,782
------------------
Total stockholders' equity impact $46,376
==================
Real Estate Credit Profile of Below Investment Grade CMBS
The Company divides its below investment grade CMBS investment activity into two
portfolios; Controlling Class CMBS and other below investment grade CMBS. The
Company considers the CMBS securities where it maintains the right to influence
the foreclosure/workout process on the underlying loans its controlling class
CMBS ("Controlling Class"). The distinction between the two is in the rights the
Company obtains with its investment in Controlling Class CMBS. Controlling Class
rights allow the Company to influence the workout and/or disposition of defaults
that occur in the underlying loans. These securities absorb the first losses
realized in the underlying loan pools. The coupon payment on the non-rated
security also can be reduced for special servicer fees charged to the trust. The
next highest rated security in the structure then generally will be downgraded
to non-rated and become the first to absorb losses and expenses from that point
on. At March 31, 2006, the Company owns 24 different trusts where it is in the
first loss position and is designated as the controlling class representative by
owning the lowest rated or non-rated CMBS class. The total par of the loans
underlying these securities was $33,598,059. At March 31, 2006, subordinated
Controlling Class CMBS with a par of $708,070 were included on the Company's
consolidated statement of financial condition. Subordinated Controlling Class
CMBS with a par of $711,644 were held as collateral for CDOs HY1 and HY2.
The Company's other below investment grade CMBS have more limited rights
associated with its ownership to influence the workout and/or disposition of
underlying loan defaults. The total par of the Company's other below investment
grade CMBS at March 31, 2006, was $194,718; the average credit protection, or
subordination level, of this portfolio is 3.92%.
The Company's investment in its subordinated Controlling Class CMBS by credit
rating category at March 31, 2006 is as follows:
Adjusted Adjusted
Estimated Dollar Purchase Dollar Subordination
Par Fair Value Price Price Price Level
------------------------------------------------------------------------------------
BB+ $119,110 $105,829 88.85 $101,434 85.16 4.08%
BB 130,902 111,688 85.32 95,089 72.64 3.14%
BB- 122,786 94,939 77.32 88,471 72.05 3.40%
B+ 84,788 60,281 71.10 56,696 66.87 2.60%
B 62,125 41,768 67.23 35,658 57.40 2.07%
B- 36,771 19,848 53.98 19,359 52.65 1.27%
NR 151,588 45,833 30.24 14,574 28.09 n/a
------------------------------------------------------------------------------------
Total $708,070 $480,186 67.82 $439,281 62.04
The Company's investment in its subordinated Controlling Class CMBS by credit
rating category at December 31, 2005 is as follows:
Weighted
Adjusted Average
Estimated Dollar Purchase Dollar Subordination
Par Fair Value Price Price Price Level
------------------------------------------------------------------------------------
BB+ $139,541 $131,676 94.36 $120,541 86.38 5.64%
BB 92,583 81,469 88.00 76,527 82.66 4.43%
BB- 110,514 92,116 83.35 85,829 77.66 4.15%
B+ 79,564 56,651 71.20 52,828 66.40 2.60%
B 132,247 84,201 63.37 77,784 58.82 2.81%
B- 23,775 13,216 55.59 12,303 51.75 1.24%
NR 96,626 27,777 28.75 25,727 26.63 n/a
------------------------------------------------------------------------------------
Total $674,850 $487,106 72.18 $451,539 66.91
Future delinquencies and losses may cause par reductions and cause the Company
to conclude that a change in loss adjusted yield is required along with a write
down of the adjusted purchase price through the income statement according to
Emerging Issue Task Force ("EITF") 99-20. During the three months ended March
31, 2006, the loan pools were paid down by $153,842. Pay down proceeds are
distributed to the highest rated CMBS class first and reduce the percent of
total underlying collateral represented by each rating category.
For all of the Company's Controlling Class securities, the Company follows a
policy of assigning estimated losses to specific loans as well as adding a
general loss assumption that is not loan specific. In performing continuing
credit reviews on the 24 Controlling Class trusts, the Company estimates that
specific losses totaling $497,635 related to principal of the underlying loans
will not be recoverable, of which $186,335 is expected to occur over the next
five years. The total loss estimate of $497,638 represents 1.48% of the total
current underlying loan pools at March 31, 2006. Additionally, the Company
assumes a constant default rate of approximately ten to forty basis points with
a 35% loss severity and a one year recovery period. These estimates were
developed based on an analysis of individual loan characteristics and prevailing
market conditions at the time of origination. All estimated workout expenses
including special servicer fees are included in these assumptions. These loss
assumptions are then used to compute a loss adjusted yield, which is then used
to record income on the Company's consolidated financial statements. If the loss
assumptions prove to be consistent with actual loss experience, the Company will
maintain that level of income for the life of the security. As actual losses
differ from the original loss assumptions, yields are adjusted to reflect the
updated assumptions. In addition, a write down of the adjusted purchase price or
write up of loss adjusted yields of the security may be required. (See Item 3
-"Quantitative and Qualitative Disclosures About Market Risk" for more
information on the sensitivity of the Company's income and adjusted purchase
price to changes in credit experience.)
The Company considers delinquency information from the Lehman Brothers Conduit
Guide to be the most relevant benchmark to measure credit performance and market
conditions applicable to its Controlling Class CMBS holdings. The year of
issuance, or vintage year, is important, as older loan pools will tend to have
more delinquencies than newly underwritten loans. Comparable delinquency
statistics referenced by vintage year as a percentage of par outstanding as of
March 31, 2006 are shown in the table below:
Underlying Delinquencies Lehman Brothers
Vintage Year Collateral Outstanding Conduit Guide
---------------------------------------------------------------------
1998 $5,804,361 1.42% 1.49%
1999 629,114 1.51% 1.73%
2001 869,555 2.99% 1.29%
2002 1,144,715 0.32% 0.53%
2003 2,112,823 0.67% 0.47%
2004 6,699,032 0.56% 0.24%
2005 12,160,658 0.00% 0.16%
2006 4,177,801 0.00% 0.00%
---------------------------------------------------------
Total $33,598,059 0.51% 0.48%*
* Weighted average based on current principal balance.
Delinquencies on the Company's CMBS collateral as a percent of principal are in
line with expectations and are consistent with comparable data provided in the
Lehman Brothers Conduit Guide. Morgan Stanley also tracks CMBS loan
delinquencies for the specific CMBS transactions with more than $200,000 of
collateral and that have been seasoned for at least one year. These seasoning
criteria generally will adjust for the lower delinquencies that occur in newly
originated collateral. At March 31, 2006, the Morgan Stanley index indicated
that delinquencies on 350 securitizations were 0.92%, and at December 31, 2005,
this same index indicated that delinquencies on 338 securitizations were 1.21%.
The following table sets forth certain information relating to the aggregate
principal balance and payment status of delinquent mortgage loans underlying the
Controlling Class CMBS held by the Company as of March 31, 2006.
-------------------------------------------------------- ---------------------------------------
March 31, 2006
-------------------------------------------------------- ---------------------------------------
% of
Principal Number of Loans Collateral
-------------------------------- ----------------------- ------------------- -------------------
Past due 30 days to 60 days $39,532 5 0.12%
-------------------------------- ----------------------- ------------------- -------------------
Past due 61 days to 90 days 10,240 4 0.03%
-------------------------------- ----------------------- ------------------- -------------------
Past due 91 days or more 60,096 16 0.18%
-------------------------------- ----------------------- ------------------- -------------------
Real estate owned ("REO") 59,514 7 0.18%
-------------------------------- ----------------------- ------------------- -------------------
Foreclosure 3,617 1 0.01%
-------------------------------- ----------------------- ------------------- -------------------
Total delinquent $172,999 33 0.51%
-------------------------------- ----------------------- ------------------- -------------------
Total principal balance $33,598,059
-------------------------------- ----------------------- ------------------- -------------------
Of the 33 delinquent loans at March 31, 2006, 7 loans were real estate owned and
being marketed for sale, 1 loan was in foreclosure and the remaining 25 loans
were in some form of workout negotiations. The Controlling Class CMBS owned by
the Company have a delinquency rate of 0.51%, which is consistent with industry
averages. During the three months ended March 31, 2006, the underlying
collateral experienced early payoffs of $153,842 representing 0.46% of the
quarter-end pool balance. These loans were paid off at par with no loss.
Aggregate losses related to the underlying collateral of $3,398 were realized
during the three months ended March 31, 2006. This brings cumulative realized
losses to $93,568, which is 18.8% of total estimated losses. These losses
include special servicer and other workout expenses. This experience to date is
in line with the Company's loss expectations. Realized losses and special
servicer expenses are expected to increase on the underlying loans as the
portfolio matures. Special servicer expenses are also expected to increase as
portfolios mature.
To the extent that realized losses differ from the Company's original loss
estimates, it may be necessary to reduce or increase the projected yield on the
applicable CMBS investment to better reflect such investment's expected earnings
net of expected losses, from the date of purchase. While realized losses on
individual assets may be higher or lower than original estimates, the Company
currently believes its aggregate loss estimates and yields remain appropriate.
The Company manages its credit risk through disciplined underwriting,
diversification, active monitoring of loan performance and exercise of its right
to control the workout process for delinquent loans as early as possible. The
Company maintains diversification of credit exposures through its underwriting
process and can shift its focus in future investments by adjusting the mix of
loans in subsequent acquisitions. The comparative profiles of the loans
underlying the Company's CMBS by property type as of March 31, 2006 and December
31, 2005 are as follows:
March 31, 2006 Exposure December 31, 2005 Exposure
-------------------------------------------------------------------------
% of % of
Property Type Loan Balance Total Loan Balance Total
-------------------------------------------------------------------------
Retail $10,577,237 31.5% $9,195,747 31.0%
Office 10,359,572 30.8 9,406,148 31.7
Multifamily 7,391,306 22.0 6,874,450 23.2
Industrial 2,510,225 7.5 2,060,953 7.0
Lodging 2,119,098 6.3 1,670,436 5.6
Healthcare 297,530 0.9 299,692 1.0
Other 343,092 1.0 160,923 0.5
-------------------------------------------------------
Total $33,598,059 100% $29,668,349 100%
=======================================================
As of March 31, 2006, the estimated fair value of the Company's holdings of
subordinated Controlling Class CMBS is $40,904 higher than the adjusted cost for
these securities which consists of a gross unrealized gain of $48,153 and a
gross unrealized loss of $7,249. The adjusted purchase price of the Company's
subordinated Controlling Class CMBS portfolio as of March 31, 2006 represents
approximately 62% of its par amount. The estimated fair value of the Company's
subordinated Controlling Class CMBS portfolio as of March 31, 2006 represents
approximately 68% of its par amount. As the portfolio matures, the Company
expects to recoup the $7,249 of unrealized loss, provided that the credit losses
experienced are not greater than the credit losses assumed in the projected cash
flow analysis. As of March 31, 2006, the Company believes there has been no
material deterioration in the credit quality of its portfolio below current
expectations.
As the portfolio matures and expected losses occur, subordination levels of the
lower rated classes of a CMBS investment will be reduced. This may cause the
lower rated classes to be downgraded, which would negatively effect their
estimated fair value and therefore the Company's net asset value. Reduced
estimated fair value would negatively effect the Company's ability to finance
any such securities that are not financed through a CDO or similar matched
funding vehicle. In some cases, securities held by the Company may be upgraded
to reflect seasoning of the underlying collateral and thus would increase the
estimated fair value of the securities. During the three months ended March 31,
2006, there were eight credit upgrades on four of the Company's Controlling
Class CMBS and no credit downgrades. Additionally, the Company experienced 23
upgrades and no downgrades related to non-Controlling Class commercial real
estate securities during the three months ended March 31, 2006.
The Company's interest income calculated in accordance with EITF 99-20 for its
CMBS is computed based upon a yield, which assumes credit losses will occur. The
yield to compute the Company's taxable income does not assume there would be
credit losses, as a loss can only be deducted for tax purposes when it has
occurred. As a result, for the years 1998 through March 31, 2006, the Company's
GAAP income accrued on its CMBS assets was approximately $33,626 lower than the
taxable income accrued on the CMBS assets.
Effect of Hurricanes on Below Investment Grade CMBS
During 2005, four properties which are security for mortgages in four separate
Controlling Class CMBS transactions were damaged by Hurricane Katrina. The
Company believes that two properties have adequate insurance coverage and the
cash flows related to those Controlling Class CMBS transactions should not be
adversely affected. As a result, the Company has not adjusted the loss assumed
for these properties. However, two properties with aggregate outstanding loan
balances of $14,640 have suffered significant damage. Based on the Company's
on-site review of the damage incurred and information available to date, the
anticipated loss for these properties has been adjusted and reflected in the
Company's EITF 99-20 calculations. As more information is received, losses may
be adjusted further.
In addition, the Company has concluded that no properties in its Controlling
Class CMBS transactions were substantially affected by Hurricane Wilma.
Commercial Real Estate Loan Activity
The Company's commercial real estate loan portfolio generally emphasizes larger
transactions located in metropolitan markets, as compared to the typical loan in
the CMBS portfolio.
The following table summarizes the Company's commercial real estate loan
portfolio by property type as of March 31, 2006 and December 31, 2005:
Carrying Value
-------------------------------------------- Weighted Average
March 31, 2006 December 31, 2005 Yield
---------------------------- --------------------- ---------------------- --------------------
Property Type Amount % Amount % 2006 2005
---------------------------- ----------- --------- ----------- ---------- --------- ----------
Office $94,087 26.0% $94,432 25.8% 8.9% 8.9%
Residential 49,481 13.7 57,466 15.7 8.9 8.6
Retail 113,152 31.3 76,502 20.9 7.8 7.3
Hotel 54,541 15.1 79,840 21.8 9.1 8.6
Storage 32,833 9.1 32,913 9.0 9.1 9.1
Communication Tower - - 20,000 5.5 - 9.4
Industrial 15,462 4.2 2,423 0.7 8.8 8.1
Other Mixed Use 2,167 .6 2,230 0.6 8.1 8.1
----------- --------- ----------- ---------- --------- ----------
Total $361,723 100.0% $365,806 100.0% 8.6% 8.5%
----------- --------- ----------- ---------- --------- ----------
During the quarter ended March 31, 2006, the Company purchased $35,600 U.S.
dollar denominated commercial real estate loans with a total principal balance
of $40,000 and a British Pound denominated commercial real estate loan with a
cost of (pound)7,474 ($13,283) and a principal balance of (pound)7,500. During
the quarter ended March 31, 2006, the Company experienced repayments in the
aggregate amount of $48,385 related to its U.S. dollar denominated commercial
real estate loan portfolio. The Company finances its non-dollar denominated
loans by borrowing in the applicable local currency and hedging the un-financed
portion.
The carrying value and average yields on the Company's commercial real estate
loans as of March 31, 2006 were as follows:
Carrying Average Spread Average Spread Average Spread
Carrying Value (Local Average to 1-month USD to 3-month GBP to 3-month
Value Currency) Yield LIBOR LIBOR EURIBOR
----------------- --------------- ------------- ----------------- -------------------- -------------------
Fixed Rate $177,346 8.88%
Floating Rate 48,905 5.85%
Floating Rate 69,189 (pound)39,777 4.34%
Floating Rate 66,283 (euro)54,588 3.45%
================
$361,723
================
Critical Accounting Estimates
Management's discussion and analysis of financial condition and results of
operations are based on the amounts reported in the Company's consolidated
financial statements. These financial statements are prepared in accordance with
GAAP. In preparing the financial statements, management is required to make
various judgments, estimates and assumptions that affect the reported amounts.
Changes in these estimates and assumptions could have a material effect on the
Company's consolidated financial statements. The following is a summary of the
Company's accounting policies that are the most affected by management
judgments, estimates and assumptions:
Securities Available-for-sale
The Company has designated certain investments in mortgage-backed securities,
mortgage-related securities and certain other securities as available-for-sale.
Securities available-for-sale are carried at estimated fair value with the net
unrealized gains or losses reported as a component of accumulated other
comprehensive income (loss) in stockholders' equity. Many of these investments
are relatively illiquid, and management must estimate their values. In making
these estimates, management generally utilizes market prices provided by dealers
who make markets in these securities, but may, under certain circumstances,
adjust these valuations based on management's judgment. Changes in the
valuations do not affect the Company's reported net income or cash flows, but
impact stockholders' equity and, accordingly, book value per share.
Management must also assess whether unrealized losses on securities reflect a
decline in value that is other than temporary, and, accordingly, write the
impaired security down to its fair value, through earnings. Significant judgment
by management is required in this analysis, which includes, but is not limited
to, making assumptions regarding the collectability of the principal and
interest, net of related expenses, on the underlying loans.
Income on these securities is recognized based upon a number of assumptions that
are subject to uncertainties and contingencies. Examples of these assumptions
include, among other things, the rate and timing of principal payments
(including prepayments, repurchases, defaults and liquidations), the
pass-through or coupon rate and interest rate fluctuations. Additional factors
that may affect the Company's reported interest income on its mortgage
securities include interest payment shortfalls due to delinquencies on the
underlying mortgage loans, the timing and magnitude of credit losses on the
mortgage loans underlying the securities that are a result of the general
condition of the real estate market (including competition for tenants and their
related credit quality) and changes in market rental rates. These uncertainties
and contingencies are difficult to predict and are subject to future events that
may alter the assumptions.
The Company recognizes interest income from its purchased beneficial interests
in securitized financial interests ("beneficial interests") (other than
beneficial interests of high credit quality, sufficiently collateralized to
ensure that the possibility of credit loss is remote, or that cannot
contractually be prepaid or otherwise settled in such a way that the Company
would not recover substantially all of its recorded investment) in accordance
with EITF 99-20. Accordingly, on a quarterly basis, when changes in estimated
cash flows from the cash flows previously estimated occur due to actual
prepayment and credit loss experience, the Company calculates a revised yield
based on the current amortized cost of the investment (including any
other-than-temporary impairments recognized to date) and the revised cash flows.
The revised yield is then applied prospectively to recognize interest income.
For other mortgage-backed and related mortgage securities, the Company accounts
for interest income under SFAS No. 91, Accounting for Nonrefundable Fees and
Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of
Leases ("SFAS No. 91"), using the effective yield method which includes the
amortization of discount or premium arising at the time of purchase and the
stated or coupon interest payments.
Impairment - Securities
In accordance with SFAS No. 115, Accounting for Certain Investments in Debt and
Equity Securities ("SFAS No. 115"), when the estimated fair value of the
security classified as available-for-sale has been below amortized cost for a
significant period of time and the Company concludes that it no longer has the
ability or intent to hold the security for the period of time over which the
Company expects the values to recover to amortized cost, the investment is
written down to its fair value. The resulting charge is included in income, and
a new cost basis is established. Additionally, under EITF 99-20, when changes in
estimated cash flows from the cash flows previously estimated occur due to
actual prepayment and credit loss experience, and the present value of the
revised cash flows using the current expected yield is less than the present
value of the previously estimated remaining cash flows (adjusted for cash
receipts during the intervening period), an other-than-temporary impairment is
deemed to have occurred. Accordingly, the security is written down to fair value
with the resulting change being included in income, and a new cost basis
established. In both instances, the original discount or premium is written off
when the new cost basis is established.
After taking into account the effect of an impairment charge, income is
recognized under EITF 99-20 or SFAS No. 91, as applicable, using the market
yield for the security used in establishing the write-down.
Variable interest entities
The consolidated financial statements include the financial statements of the
Company and its subsidiaries, which are wholly-owned or controlled by the
Company or entities which are variable interest entities ("VIEs") in which the
Company is the primary beneficiary under FASB Interpretation No. 46,
Consolidation of Variable Interest Entities (revised December 2003) ("FIN 46R").
FIN 46R requires a VIE to be consolidated by its primary beneficiary. The
primary beneficiary is the party that absorbs the majority of the VIE's
anticipated losses and/or the majority of the expected returns. The Company has
evaluated its investments for potential variable interests by evaluating the
sufficiency of the entities equity investment at risk to absorb losses. All
significant inter-company balances and transactions have been eliminated in
consolidation.
The Company has analyzed the governing pooling and servicing agreements for each
of its Controlling Class CMBS and believes that the terms are industry standard
and are consistent with the qualifying special-purpose entity ("QSPE") criteria.
However, there is uncertainty with respect to QSPE treatment due to ongoing
review by accounting standard setters, potential actions by various parties
involved with the QSPE, as well as varying and evolving interpretations of the
QSPE criteria under SFAS No. 140, Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities ("SFAS No. 140").
Additionally, the standard setters continue to review the FIN 46R provisions
related to the computations used to determine the primary beneficiary of a VIE.
Future guidance from the standard setters may require the Company to consolidate
CMBS trusts in which the Company has invested.
Mortgage Loans
The Company purchases and originates commercial mortgage loans to be held as
long-term investments. The Company also has investments in private opportunity
funds that invest in commercial mortgage loans and are managed by the Manager.
Management periodically evaluates each loan for possible impairment. Impairment
is indicated when it is deemed probable that the Company will not be able to
collect all amounts due according to the contractual terms of the loan. If a
loan was determined to be impaired, the Company will establish a reserve for
probable losses and a corresponding charge to earnings. Given the nature of the
Company's loan portfolio and the underlying commercial real estate collateral,
significant judgment of management is required in determining impairment and the
resulting loan loss allowance, which includes but is not limited to making
assumptions regarding the value of the real estate that secures the mortgage
loan. To date, the Company has determined that no loan loss allowances have been
necessary on the loans in its portfolio or held by the Carbon Capital Funds (as
defined under Transactions with Affiliates, below).
Derivative Instruments
The Company utilizes various hedging instruments (derivatives) to hedge interest
rate and foreign currency exposures or to modify the interest rate or foreign
currency characteristics of related Company investments. All derivatives are
carried at fair value, generally estimated by management based on valuations
provided by the counterparty to the derivative contract. For accounting
purposes, the Company's management must decide whether to designate these
derivatives as either a hedge of an asset or liability, securities
available-for-sale, securities held-for-trading, or foreign currency exposure.
This designation decision affects the manner in which the changes in the fair
value of the derivatives are reported.
Securitizations
When the Company sells assets in securitizations, it can retain certain tranches
which are considered retained interests in the securitization. Gain or loss on
the sale of assets depends in part on the previous carrying amount of the
financial assets securitized, allocated between the assets sold and the retained
interests based on their relative fair value at the date of securitization. To
obtain fair values, quoted market prices are used. Gain or loss on
securitizations of financial assets is reported as a component of sale of
securities available-for-sale on the consolidated statement of operations.
Retained interests are carried at estimated fair value on the consolidated
statement of financial condition. Adjustments to estimated fair value for
retained interests classified as securities available-for-sale are included in
accumulated other comprehensive income on the consolidated statement of
financial condition.
II. Results of Operations
Net income available to common stockholders for the three months ended March 31,
2006 was $18,794 or $0.33 per share (basic and diluted). Net income available to
common stockholders for the three months ended March 31, 2005 was $14,368 or
$0.27 per share (basic and diluted). Net income available to common stockholders
increased to $0.33 per share for the three months ended March 31, 2006 as
compared to $0.27 per share for the three months ended March 31, 2005.
Interest Income: The following tables set forth information regarding the total
amount of income from certain of the Company's interest-earning assets.
For the Three Months Ended Variance
March 31,
2006 2005 Amount %
------------------- ----------------------------------- ------------
Commercial real estate securities $37,791 $32,631 $5,160 15.8%
Commercial mortgage loan pools 13,227 13,552 (325) (2.4)
Commercial real estate loans 8,015 5,344 2,671 49.9
Residential mortgage-backed securities ("RMBS") 3,030 2,880 150 5.2
Cash and cash equivalents 337 237 100 42.8
------------------- ----------------- --- ------------- ------------
Total interest income $62,400 $54,644 $7,756 14.2%
=================== ================= === ============= ============
The following table reconciles interest income and total income for the three
months ended March 31, 2006 and 2005.
For the Three Months Ended March 31,
2006 2005
------------------------------------------------
Interest Income $62,400 $54,644
Earnings from BlackRock Diamond Property Fund
("BlackRock Diamond") 5,542 -
Earnings from the Carbon Capital Funds 3,801 2,605
Earnings from real estate joint ventures - 59
------------------------------------------------
Total Income $71,743 $57,308
================================================
For the three months ended March 31, 2006, interest income increased $7,756, or
14.2%, from the same three month period in 2005. The Company continued to
increase its investments in commercial real estate securities and loans,
resulting in an increase of $5,160, or 15.8%, and $2,671, or 49.9%,
respectively. Income from BlackRock Diamond was $5,542 for the quarter ended
March 31, 2006. The Company began investing in BlackRock Diamond in the fourth
quarter of 2005, as a result, there was no income related to BlackRock Diamond
during the quarter ended March 31, 2005. The $5,542 of income consists of $370
of income and $5,172 of unrealized gains on the underlying portfolio assets.
Interest Expense: The following table sets forth information regarding the total
amount of interest expense from certain of the Company's borrowings and cash
flow hedges.
For the Three Months Ended Variance
March 31,
2006 2005 Amount %
--------------- --------------- ------------- ---------------
Collateralized debt obligations $16,134 $15,747 $387 2.5%%
Commercial real estate securities 8,077 2,586 5,491 212.3%
Commercial mortgage loan pools* 12,666 12,780 (114) (0.9)%
Commercial real estate loans 2,964 1,335 1,629 122.0%
RMBS 3,596 2,129 1,467 68.9%
Junior subordinated notes - net 2,220 - 2,220 n/a
Cash flow hedges 1,483 2,300 (817) (35.5)%
Hedge ineffectiveness** (615) (261) (354) (135.6)%
--------------- --------------- ------------- ---------------
Total Interest Expense $46,525 $36,616 $9,909 27.1%
=============== =============== ============= ===============
* Includes $44 and $3 of interest expense for the three months ended March 31,
2006 and 2005 from short-term financings of securities related to the
consolidation of commercial mortgage loan pools. **See Note 12 of the
consolidated financial statements, Derivative Instruments and Hedging
Activities, for a further description of the Company's hedge ineffectiveness.
For the three months ended March 31, 2006, interest expense increased $9,909, or
27.1%, from the same three month period in 2005. The financing of additional
commercial real estate securities and commercial real estate loans along with
higher short-term borrowing rates increased interest expense $5,491 and $1,629,
respectively, for the same three month period of 2005. The issuance of $175,000
of trust preferred securities increased interest expense $2,220 for the three
months ended March 31, 2006. Hedging expenses not related to the CDOs decreased
$816, or 35.5%, from 2005 levels. This decrease is due to the cash flow hedges
offsetting higher short-term interest rates.
Net Interest Margin and Net Interest Spread from the Portfolio: The Company
considers its portfolio to consist of securities available-for-sale, securities
held-for-trading, commercial mortgage loans, and cash and cash equivalents
because these assets relate to its core strategy of acquiring and originating
high yield loans and securities backed by commercial real estate, while at the
same time maintaining a portfolio of investment grade securities to enhance the
Company's liquidity.
Net interest margin from the portfolio is annualized net interest income divided
by the average estimated fair value of interest-earning assets. Net interest
income is total interest income less interest expense relating to collateralized
borrowings. Net interest spread equals the yield on average assets for the
period less the average cost of funds for the period. The yield on average
assets is interest income divided by average amortized cost of interest earning
assets. The average cost of funds is interest expense from the portfolio divided
by average outstanding collateralized borrowings.
The following chart describes the interest income, interest expense, net
interest margin and net interest spread for the Company's portfolio. The
following interest income and interest expense amounts exclude income and
expense related to hedge ineffectiveness, and the gross-up effect of the
consolidation of a VIE that includes commercial mortgage loan pools. The Company
believes interest income and expense excluding the effects of these items better
reflects the Company's net interest margin and net interest spread from the
portfolio.
For the Three Months Ended March 31,
2006 2005
------------------------------------------------
Interest income $49,781 $42,096
Interest expense $34,521 $24,101
Net interest margin 2.2% 3.2%
Average yield 7.2% 7.5%
Cost of funds 6.1% 5.2%
Net interest spread 1.1% 2.3%
Other Expenses: Expenses other than interest expense consist primarily of
management fees and general and administrative expenses. The table below
summarizes those expenses for the three months ended March 31, 2006 and 2005.
For the Three Months Ended
March 31, Variance
2006 2005 Amount %
--------------------------------------------------
Management fee $3,050 $2,579 $471 18.3%
Incentive fee 1,169 - 1,169 -
General and administrative
expense 1,104 820 284 34.6
--------------------------------------------------
Total other expenses $5,323 $3,399 $1,924 56.6%
==================================================
Management fees are based on 2% of average quarterly stockholders' equity. The
increase of $471, 18.3%, is due to the increase in the Company's stockholders'
equity. The Manager earned an incentive fee of $1,169 for the quarter ended
March 31, 2006 as the Company achieved the necessary performance goals specified
in the Management Agreement.
General and administrative expense is comprised of accounting agent fees,
custodial agent fees, directors' fees, fees for professional services, insurance
premiums, broken deal expenses, and due diligence costs. The increase in general
and administrative expense for the quarter ended March 31, 2006 is primarily
attributable to the Company's new investment accounting system and cost
associated and increased professional fees.
Other Gains (Losses): Gains on securities available-for-sale were $34 and $10
for the three months ended March 31, 2006 and 2005, respectively. Gains (losses)
on securities held-for-trading were $950 and $(1,372) for the three months ended
March 31, 2006 and 2005, respectively. Foreign currency gains (losses) were $44
and $(168) for the three months ended March 31, 2006 and 2005, respectively,
which represent the net impact of the Company's foreign currency exposure for
the applicable quarters. The losses on impairment of assets of $781 and $159 for
the three months ended March 31, 2006 and 2005, respectively, were related to
the Company's write down of certain CMBS as required by EITF 99-20.
Dividends Declared: On March 24, 2006, the Company declared distributions to its
stockholders of $0.28 per share, payable on May 1, 2006 to stockholders of
record on March 31, 2006.
Changes in Financial Condition
Securities Available-for-sale: The Company's securities available-for-sale,
which are carried at estimated fair value, included the following at March 31,
2006 and December 31, 2005:
March 31, 2006 December 31,
Estimated 2005 Estimated
Fair Fair
Security Description Value Percentage Value Percentage
-------------------------------------------------- ---------------- --------------- ----------------- ----------------
Commercial mortgage-backed securities:
CMBS IOs $95,416 4.0% $103,363 5.0%
Investment grade CMBS 673,637 28.3 509,835 24.5
Non-investment grade rated subordinated
securities 628,825 26.4 675,995 32.5
Non-rated subordinated securities 44,464 1.9 26,411 1.3
Credit tenant leases 24,702 1.0 24,837 1.2
Investment grade REIT debt 251,231 10.6 255,767 12.3
Multifamily agency securities 360,666 15.2 263,362 12.7
CDO investments 115,417 4.8 124,549 6.0
---------------- --------------- ----------------- ----------------
Total CMBS 2,194,359 92.2 1,984,119 95.5
---------------- --------------- ----------------- ----------------
Single-family RMBS:
Agency adjustable rate securities 72,490 3.0 76,491 3.7
Residential CMOs 100,597 4.2 725 0.1
Hybrid adjustable rate mortgages 14,464 .6 15,601 0.7
---------------- --------------- ----------------- ----------------
Total RMBS 187,551 7.8 92,817 4.5
---------------- --------------- ----------------- ----------------
---------------- --------------- ----------------- ----------------
Total securities available-for-sale $2,381,910 100.0% $2,076,936 100.0%
================ =============== ================= ================
During the quarter ended March 31, 2006, the Company purchased $322,642 of
securities available-for-sale. In addition, the Company received principal
payments of $12,538 related to securities available-for-sale.
Borrowings: As of March 31, 2006 and December 31, 2005, the Company's debt
consisted of line-of-credit borrowings, CDO debt, junior subordinated notes,
term loans and reverse repurchase agreements, collateralized by a pledge of most
of the Company's securities available-for-sale, securities held-for-trading, and
its commercial mortgage loans. The Company's financial flexibility is affected
by its ability to renew or replace on a continuous basis its maturing short-term
borrowings. As of March 31, 2006 and December 31, 2005, the Company has obtained
financing in amounts and at interest rates consistent with the Company's
short-term financing objectives.
Under the credit facilities, and the reverse repurchase agreements, the lender
retains the right to mark the underlying collateral to estimated fair value. A
reduction in the estimated fair value of its pledged assets would require the
Company to provide additional collateral or fund margin calls. From time to
time, the Company expects that it will be required to provide such additional
collateral or fund margin calls.
The following table sets forth information regarding the Company's borrowings:
For the Three Months Ended
March 31, 2006
-------------------------------------------------------------
March 31,
2006 Maximum Range of
Balance Balance Maturities
--------------------- ---------------- ----------------------
CDO debt* $1,066,574 $1,066,930 5.7 to 7.8 years
Commercial mortgage loan pools 1,267,611 1,272,931 2.8 to 12.7 years
Reverse repurchase agreements 1,060,329 1,060,329 2 to 274 days
Credit facilities 254,015 301,923 40 days to 1.7 years
Junior subordinated notes 180,477 180,477 29.9 years**
--------------------- ---------------- ----------------------
* Disclosed as adjusted issue price. Total par of the Company's CDO debt as of
March 31, 2006 was $1,078,860.
** $77,380 of the Company's junior subordinated notes can be redeemed at par
beginning in October 2010, $51,550 can be redeemed at par beginning in March
2011 and $51,547 can be redeemed at par beginning in April 2011.
Hedging Instruments: From time to time, the Company may reduce its exposure to
market interest rates by entering into various financial instruments that adjust
portfolio duration. These financial instruments are intended to mitigate the
effect of changes in interest rates on the estimated fair value of the Company's
assets and the cost of borrowing.
Interest rate hedging instruments as of March 31, 2006 and December 31, 2005
consisted of the following:
As of March 31, 2006
-----------------------------------------------------------------------------------
Notional Value Estimated Fair Unamortized Average Remaining Term
Value Cost (years)
-----------------------------------------------------------------------------------
Cash flow hedges $751,050 $25,254 $- 8.00
CDO cash flow hedges 695,041 24,929 - 7.27
Trading swaps 100,000 4,865 - 5.71
CDO timing swaps 223,445 24 - 6.83
CDO LIBOR cap 85,000 370 1,407 7.15
As of December 31, 2005
-----------------------------------------------------------------------------------
Notional Value Estimated Fair Unamortized Average Remaining Term
Value Cost (years)
-----------------------------------------------------------------------------------
Cash flow hedges $500,350 $6,234 $- 8.42
CDO cash flow hedges 701,603 10,616 - 7.51
Trading swaps 133,000 4,032 - 6.83
CDO timing swaps 223,445 (37) - 7.08
CDO LIBOR cap 85,000 1,419 1,407 7.40
Capital Resources and Liquidity
The Company requires capital to fund its investment activities and operating
expenses. The Company has sufficient access to capital resources to fund its
existing business plan. The Company's capital sources include cash flow from
operations, borrowings under reverse repurchase agreements, credit facilities,
CDOs, junior subordinated notes and the issuance of preferred and common equity
securities.
The distribution requirements under the REIT provisions of the United States
Internal Revenue Code of 1986, as amended (the "Code") limit the Company's
ability to retain earnings and thereby replenish or increase capital committed
to its operations. However, the Company believes that its access to significant
capital resources and financing will enable the Company to meet current and
anticipated capital requirements.
The Company believes that its existing sources of funds will be adequate for
purposes of meeting its short- and long-term liquidity needs. The Company's
ability to meet its long-term (i.e., beyond one year) liquidity requirements is
subject to obtaining additional debt and equity financing. Any decision by the
Company's lenders and investors to provide the Company with financing will
depend upon a number of factors, such as the Company's compliance with the terms
of its existing credit arrangements, the Company's financial performance,
industry or market trends, the general availability of and rates applicable to
financing transactions, such lenders' and investors' resources and policies
concerning the terms under which they make capital commitments and the relative
attractiveness of alternative investment or lending opportunities.
Reverse Repurchase Agreements and Credit Facilities
As of March 31, 2006, $26,716 of the Company's $200,000 committed multicurrency
credit facility with Deutsche Bank, AG was available for future borrowings and
$6,966 of the Company's $75,000 committed credit facility with Greenwich
Capital, Inc. was available. The Company had outstanding borrowings of $12,697
under a committed credit facility with Morgan Stanley Mortgage Capital, Inc.
On February 16, 2006, the Company entered into a $200,000 committed non-dollar
credit facility with Morgan Stanley Mortgage Servicing, Inc. which matures in
February 2008. Outstanding borrowings under this credit facility bear interest
at a LIBOR based variable rate. As of March 31, 2006, there were no borrowings
under this facility.
On March 17, 2006, the Company entered into a $100,000 committed non-dollar
credit facility with Bank of America, N.A. which matures in September 2008.
Outstanding borrowings under this credit facility bear interest at a LIBOR based
variable rate. As of March 31, 2006, there were no borrowings under this
facility.
The Company is subject to various covenants in its credit facilities, including
maintaining a minimum net worth measured on GAAP of $400,000, a recourse
debt-to-equity of 3.0 to 1, a minimum cash requirement based upon certain
debt-to-equity ratios, a minimum recourse debt service coverage ratio of 1.75
and a minimum liquidity reserve of $10,000. As of March 31, 2006, the Company
was in compliance with all covenants in its credit facilities.
CDOs
Issuance of secured term debt is generally done through a CDO offering. This
entails creating a special purpose entity that holds assets used to secure the
payments required of the debt issued. Asset cash flows generally are matched
with the debt service requirements over their respective lives and an interest
rate swap is used to match the fixed or floating rate nature of the coupon
payments where necessary. This type of transaction is usually referred to as
"match funding" or "term financing" the assets. There is no mark to market
requirement in this structure and the debt cannot be called or terminated by the
bondholders. Furthermore, the debt issued is non-recourse to the issuer; and
therefore permanent reductions in value do not affect the liquidity of the
Company. However, since the Company expects to earn a positive spread between
the income generated by the assets and the expense of the debt issued, a
permanent impairment of any of the assets would negatively affect the spread
over time.
On May 2, 2006, the Company announced the pricing of its sixth CDO issuance
("CDO HY3") resulting in the issuance of $417,000 of non-recourse debt. The debt
will be secured by a portfolio of CMBS and subordinated commercial real estate
loans. This debt, rated AAA through BBB-, will be privately placed, and the
Company will receive additional CDO debt rated BB and 100% of the preferred
shares issued by the CDO. The transaction is expected to close on May 23, 2006.
The terms of the offering permit the Company to contribute to the CDO up to
$50,000 of additional CMBS during a ramp-up period. These CMBS assets will be
contributed at par value. The debt issuance is intended to match fund existing
Company assets to be contributed to the CDO at closing, and the assets to be
purchased during the ramp-up period, with long-term liabilities. The Company
intends to account for this transaction on its balance sheet as a financing. All
debt placed will either carry a fixed rate or will be hedged to create a current
cost of funds of approximately 6.3% after issuance expenses and will have a
weighted average life of 8.1 years. The Company will use the net proceeds of the
offering to pay down existing debt on the CDO collateral. Since the CDO
collateral was not fully levered, the Company expects excess cash of $93,000
after the pay down of existing debt in addition to the $50,000 ramp facility.
Following the closing of CDO HY3, approximately 93% of the Company's
subordinated CMBS will be match funded in CDOs.
At March 31, 2006, the Company's collateralized borrowings had the following
remaining maturities:
Reverse Commercial
Repurchase Credit Mortgage Loan Collateralized Total Collateralized
Agreements Facilities Pools Debt Obligations* Borrowings
---------------- ----------------- ------------------ ------------------ --------------------------
Within 30 days $1,027,784 $- $- $- $1,027,784
31 to 59 days 4,244 12,698 - - 16,942
60 days to less than 1
year 28,301 86,445 - - 114,746
1 year to 3 years - 154,873 - - 154,873
3 years to 5 years - - - - -
Over 5 years - - 1,267,611 1,066,574 2,334,185
---------------- ----------------- ------------------ ------------------ --------------------------
$1,060,329 $254,016 $1,267,611 $1,066,574 $3,648,530
================ ================= ================== ================== ==========================
* As of March 31, 2006, collateralized debt obligations are comprised of
$418,834 of CDO debt with a weighted average remaining maturity of 6.04 years,
$292,585 of CDO debt with a weighted average remaining maturity of 6.42 years,
and $367,440 of CDO debt with a weighted average remaining maturity of 7.14
years.
Trust Preferred
On January 31, 2006, the Company issued $50,000 of trust preferred securities
through its wholly owned subsidiary, Anthracite Capital Trust II, a Delaware
statutory trust ("Trust II"). The trust preferred securities have a thirty-year
term ending April 30, 2036 with interest at a fixed rate of 7.73% for the first
ten years and at a floating rate of three-month LIBOR plus 2.7% thereafter. The
trust preferred securities can be redeemed at par by the Company beginning in
April 2011. Trust II issued $1,550 aggregate liquidation amount of common
securities, representing 100% of the voting common stock of Trust II to the
Company for a purchase price of $1,550. The Company realized net proceeds from
this offering of approximately $48,491.
On March 16, 2006, the Company issued $50,000 of trust preferred securities
through its wholly owned subsidiary, Anthracite Capital Trust III, a Delaware
statutory trust ("Trust III"). The trust preferred securities have a thirty-year
term ending March 15, 2036 with interest at a fixed rate of 7.77% for the first
ten years and at a floating rate of three-month LIBOR plus 2.7% thereafter. The
trust preferred securities can be redeemed at par by the Company beginning in
March 2011. Trust III issued $1,547 aggregate liquidation amount of common
securities, representing 100% of the voting common stock of Trust III to the
Company for a purchase price of $1,547. The Company realized net proceeds from
this offering of approximately $48,435.
Equity Issuances
For the three months ended March 31, 2006, the Company issued 590,216 shares of
its Common Stock, par value $0.001 per share (the "Common Stock"), under its
Dividend Reinvestment and Stock Purchase Plan (the "Dividend Reinvestment
Plan"). Net proceeds to the Company were approximately $6,270. For the three
months ended March 31, 2005, the Company issued 7,706 shares of its Common Stock
under its Dividend Reinvestment Plan. Net proceeds to the Company were
approximately $91.
Off Balance Sheet Arrangements
The Company's ownership of the subordinated classes of CMBS from a single issuer
gives it the right to influence the foreclosure/workout process on the
underlying loans ("Controlling Class CMBS"). FIN 46(R)-5 has certain scope
exceptions, one of which provides that an enterprise that holds a variable
interest in a qualifying special-purpose entity ("QSPE") does not consolidate
that entity unless that enterprise has the unilateral ability to cause the
entity to liquidate. SFAS No. 140 provides the requirements for an entity to be
considered a QSPE. To maintain the QSPE exception, the trust must continue to
meet the QSPE criteria both initially and in subsequent periods. A trust's QSPE
status can be impacted in future periods by activities by its transferors or
other involved parties, including the manner in which certain servicing
activities are performed. To the extent its CMBS investments were issued by a
trust that meets the requirements to be considered a QSPE, the Company records
the investments at the purchase price paid. To the extent the underlying trusts
are not QSPEs the Company follows the guidance set forth in FIN 46(R)-5 as the
trusts would be considered VIEs.
The Company has analyzed the governing pooling and servicing agreements for each
of its Controlling Class CMBS and believes that the terms are industry standard
and are consistent with the QSPE criteria. However, there is uncertainty with
respect to QSPE treatment due to ongoing review by accounting standard setters,
potential actions by various parties involved with the QSPE, as discussed above,
as well as varying and evolving interpretations of the QSPE criteria under SFAS
No. 140. Additionally, the standard setters continue to review the FIN 46(R)-5
provisions related to the computations used to determine the primary beneficiary
of a VIE. Future guidance from the standard setters may require the Company to
consolidate CMBS trusts in which the Company has invested.
At March 31, 2006, the Company owned securities of 24 Controlling Class CMBS
trusts with a par of $965,275. The total current par amount of CMBS issued by
the 24 trusts was $33,598,059. One of the Company's 24 Controlling Class trusts
does not qualify as a QSPE and has been consolidated by the Company.
The Company's maximum exposure to loss as a result of its investment in these
VIEs totaled $656,509 and $565,231 at March 31, 2006 and December 31, 2005,
respectively.
In addition, the Company has completed two securizations that qualify as QSPE's
under SFAS No. 140. Through CDO HY1 and HY2 the Company issued non-recourse
liabilities secured by commercial related assets including portions of 17
Controlling Class CMBS. Should future guidance from the standard setters
determine that Controlling Class CMBS are not QSPE's, the Company would be
required to consolidate the assets, liabilities, income and expense of CDO HY1
and CDO HY2.
The Company's total maximum exposure to loss as a result of its investment in
CDOs HY1 and HY2 at March 31, 2006 and December 31, 2005, respectively, is
$113,655 and 109,003.
At March 31, 2006, the Company also owns non-investment debt and preferred
securities in LEAFs CMBS I Ltd ("Leaf"), a QSPE under SFAS No. 140. Leaf issued
non-recourse liabilities secured by investment grade commercial real estate
securities.
At March 31, 2006 and December 31, 2005, the Company's total maximum exposure to
loss as a result of its investment in Leaf is $3,603 and $3,573, respectively.
Cash Flows
Cash provided by operating activities is net income adjusted for certain
non-cash items and changes in assets and liabilities including the Company's
trading securities. Operating activities provided cash flows of $42,899 and
$31,563 during the three months ended March 31, 2006 and 2005, respectively.
The Company's investing cash flow consists primarily of the purchase, sale, and
repayments on securities activities available for sale, commercial loan pools,
commercial mortgage loans and equity investments. The Company's investing
activities (used) provided cash flows of $(350,104) and $40,139 during the three
months ended March 31, 2006 and 2005, respectively. The variance in investing
cash flows is primarily attributable to significant purchases of securities and
commercial mortgage loans.
Financing cash flows consist primarily of borrowings, CDO and junior
subordinated note issuances, common and preferred stock offerings offset by
dividends on common and preferred stock and repayments of borrowings. The
Company's financing activities provided (used) cash flows $294,239 and $(73,152)
during the three months ended March 31, 2006 and 2005, respectively. The
increase in financing cash flows in 2006 was primarily attributable to increases
in borrowings under reverse repurchase agreements and credit facilities as well
as the issuance of junior subordinated notes.
The Company's ability to execute its business strategy depends to a significant
degree on its ability to obtain additional capital. Factors which could affect
the Company's access to the capital markets, or the costs of such capital,
include changes in interest rates, general economic conditions and perception in
the capital markets of the Company's business, covenants under the Company's
current and future credit facilities, results of operations, leverage, financial
conditions and business prospects. Consequently, there can be no assurance that
the Company will be able to effectively fund future growth. Except as discussed
herein, management is not aware of any other trends, events, commitments or
uncertainties that may have a significant effect on liquidity.
Contingent Liability
During 2000, the Company completed the acquisition of CORE Cap, Inc. At the time
of the CORE Cap, Inc. acquisition, the Manager agreed to pay GMAC (CORE Cap,
Inc.'s external advisor) $12,500 over a ten-year period ("Installment Payment")
to purchase the right to manage the Core Cap, Inc. assets under the existing
management contract ("GMAC Contract"). The GMAC Contract had to be terminated in
order to allow the Company to complete the merger, as the Company's management
agreement with the Manager did not provide for multiple managers. As a result
the Manager offered to buy-out the GMAC Contract as the Manager estimated it
would receive incremental fees above and beyond the Installment Payment, and
thus was willing to pay for, and separately negotiate, the termination of the
GMAC Contract. Accordingly, the value of the Installment Payment was not
considered in the Company's allocation of its purchase price to the net assets
acquired in the acquisition of CORE Cap, Inc. The Company agreed that should the
Management Agreement with its Manager be terminated, not renewed or not extended
for any reason other than for cause, the Company would pay to the Manager an
amount equal to the Installment Payment less the sum of all payments made by the
Manager to GMAC. As of March 31, 2006, the Installment Payment would be $5,000
payable over five years. The Company does not accrue for this contingent
liability.
Transactions with Affiliates
The Company has a Management Agreement with the Manager, a majority owned
indirect subsidiary of The PNC Financial Services Group, Inc. and the employer
of certain directors and all of the officers of the Company, under which the
Manager manages the Company's day-to-day operations, subject to the direction
and oversight of the Company's Board of Directors. Pursuant to the Management
Agreement, the Manager formulates investment strategies, arranges for the
acquisition of assets, arranges for financing, monitors the performance of the
Company's assets and provides certain other advisory and managerial services in
connection with the operations of the Company. For performing these services,
the Company pays the Manager a base management fee equal to 2.0% of the
quarterly average total stockholders' equity for the applicable quarter.
To provide an incentive, the Manager is entitled to receive an incentive fee
equal to 25% of the amount by which the rolling four-quarter GAAP net income
before the incentive fee exceeds the greater of 8.5% or 400 basis points over
the ten-year Treasury note multiplied by the adjusted per share issue price of
the common stock ($11.36 per common share at March 31, 2006).
The Company's unaffiliated directors approved an extension of the Management
Agreement to March 31, 2007 at the Board of Directors' February 2006 meeting.
Additionally, pursuant to a resolution of the Company's Board of Directors
adopted at the February 2006 meeting, up to 30% of the incentive fees earned in
2005 or after may be paid in shares of the Company's Common Stock subject to
certain provisions. The Board of Directors also authorized the Company to seek
stockholders' approval of a compensatory deferred stock plan. Pending
stockholder approval, the Company would establish a stock based incentive plan
where one half of one percent of common shares outstanding will be paid to the
Manager in 2006.
The Company incurred $3,050 and $2,579 in base management fees in accordance
with the terms of the Management Agreement for the three months ended March 31,
2006 and 2005, respectively. The Company incurred $1,169 in incentive fees for
the three months ended March 31, 2006. The Company did not incur incentive fees
for the three months ended March 31, 2005. As of March 31, 2006 and 2005,
respectively, management and incentive fees of $4,095 and $2,438 are payable to
the Manager. In accordance with the provisions of the Management Agreement, the
Company recorded reimbursements to the Manager of $100 and $40 for certain
expenses incurred on behalf of the Company for the three months ended March 31,
2006 and 2005, respectively, which are included in general and administrative
expense on the accompanying consolidated statements of operations.
The Company has an administration and investment accounting agreement with the
Manager. Under the terms of the administration agreement, the Manager provides
financial reporting, audit coordination and accounting oversight services to the
Company. Under the terms of the investment accounting agreement, the Manager
provides investment accounting services to the Company. For the three months
ended March 31, 2006 and 2005, the Company recorded administration and
investment accounting fees of $182 and $51, respectively, which are included in
general and administrative expense on the accompanying consolidated statements
of operations.
The special servicer on 20 of the Company's 24 Controlling Class trusts is
Midland Loan Services, Inc. ("Midland"), a wholly owned indirect subsidiary of
PNC Bank, and therefore an affiliate of the Manager. The Company's fees for
Midland's services are at market rates.
The Company has a $100,000 commitment to acquire shares of BlackRock Diamond.
BlackRock Diamond is a private REIT managed by BlackRock Realty Advisors, Inc.,
a subsidiary of the Manager. At March 31, 2006, 80.6% of the commitment has been
called and the Company owned approximately 34.6% of BlackRock Diamond. The
Company does not incur any additional management or incentive fees to the
Manager as a result of its investment in BlackRock Diamond. The Company's
investment in BlackRock Diamond at March 31, 2006 was $86,116. The Company's
unaffiliated directors approved this transaction in September 2005.
During 2001, the Company entered into a $50,000 commitment to acquire shares in
Carbon Capital, Inc. ("Carbon I"), a private commercial real estate income
opportunity fund managed by the Manager. The Carbon I investment period ended on
July 12, 2004 and the Company's investment in Carbon I as of March 31, 2006 was
$6,634. The Company does not incur any additional management or incentive fees
to the Manager as a result of its investment in Carbon I. On March 31, 2006, the
Company owned approximately 20% of the outstanding shares in Carbon I. The
Company's unaffiliated directors approved this transaction in July 2001.
The Company entered into an aggregate commitment of $100,000 to acquire shares
in Carbon Capital II, Inc., a private commercial real estate income opportunity
fund managed by the Manager. At March 31, 2006, the Company's investment in
Carbon II was $60,364 and the Company's remaining commitment to Carbon II is
$39,472. The Company does not incur any additional management or incentive fees
to the Manager as a result of its investment in Carbon II. The Company's
unaffiliated directors approved this transaction in September 2004.
REIT Status: The Company has elected to be taxed as a REIT and therefore must
comply with the provisions of the Code with respect thereto. Accordingly, the
Company generally will not be subject to U.S. federal income tax to the extent
of its distributions to stockholders and as long as certain asset, income and
stock ownership tests are met. The Company may, however, be subject to tax at
corporate rates or at excise tax rates on net income or capital gains not
distributed.
During the first quarter, Anthracite and certain subsidiaries have elected to
have the subsidiaries treated as taxable REIT subsidiaries. This election
permits the subsidiaries to enter into activities that may not have constituted
qualifying assets generating qualifying income for the REIT tests.
ITEM 3. Quantitative and Qualitative Disclosures about Market Risk
Market Risk: Market risk includes the exposure to loss resulting from changes in
interest rates, credit curve spreads, foreign currency exchange rates, commodity
prices and equity prices. The primary market risks to which the Company is
exposed are interest rate risk and credit curve risk. Interest rate risk is
highly sensitive to many factors, including governmental, monetary and tax
policies, domestic and international economic and political considerations and
other factors beyond the control of the Company. Credit curve risk is highly
sensitive to the dynamics of the markets for commercial mortgage securities and
other loans and securities held by the Company. Excessive supply of these assets
combined with reduced demand will cause the market to require a higher yield.
This demand for higher yield will cause the market to use a higher spread over
the U.S. Treasury securities yield curve, or other benchmark interest rates, to
value these assets. Changes in the general level of the U.S. Treasury yield
curve can have significant effects on the estimated fair value of the Company's
portfolio.
The majority of the Company's assets are fixed-rate securities valued based on a
market credit spread to U.S. Treasuries. As U.S. Treasury securities are priced
to a higher yield and/or the spread to U.S. Treasuries used to price the
Company's assets is increased, the estimated fair value of the Company's
portfolio may decline. Conversely, as U.S. Treasury securities are priced to a
lower yield and/or the spread to U.S. Treasuries used to price the Company's
assets is decreased, the estimated fair value of the Company's portfolio may
increase. Changes in the estimated fair value of the Company's portfolio may
affect the Company's net income or cash flow directly through their impact on
unrealized gains or losses on securities held-for-trading or indirectly through
their impact on the Company's ability to borrow. Changes in the level of the
U.S. Treasury yield curve can also affect, among other things, the prepayment
assumptions used to value certain of the Company's securities and the Company's
ability to realize gains from the sale of such assets. In addition, changes in
the general level of the LIBOR money market rates can affect the Company's net
interest income. At March 31, 2006, all of the Company's liabilities outside of
the CDOs are floating rate based on a market spread to LIBOR. As the level of
LIBOR increases or decreases, the Company's interest expense will move in the
same direction.
The Company may utilize a variety of financial instruments, including interest
rate swaps, caps, floors and other interest rate exchange contracts, in order to
limit the effects of fluctuations in interest rates on its operations. The use
of these types of derivatives to hedge interest-earning assets and/or
interest-bearing liabilities carries certain risks, including the risk that
losses on a hedge position will reduce the funds available for payments to
holders of securities and that such losses may exceed the amount invested in
such instruments. A hedge may not perform its intended purpose of offsetting
losses or rising interest rates. Moreover, with respect to certain of the
instruments used as hedges, the Company is exposed to the risk that the
counterparties with which the Company trades may cease making markets and
quoting prices in such instruments, which may render the Company unable to enter
into an offsetting transaction with respect to an open position. If the Company
anticipates that the income from any such hedging transaction will not be
qualifying income for REIT income purposes, the Company may conduct part or all
of its hedging activities through a to-be-formed corporate subsidiary that is
fully subject to federal corporate income taxation. The profitability of the
Company may be adversely affected during any period as a result of changing
interest rates.
The Company monitors and manages interest rate risk based on a method that takes
into consideration the interest rate sensitivity of the Company's assets and
liabilities, including its preferred stock. The Company's objective is to
acquire assets and match fund the purchase so that interest rate risk associated
with financing these assets is reduced or eliminated. The primary risks
associated with acquiring and financing these assets under 30-day repurchase
agreements and committed borrowing facilities are mark-to-market risk and
short-term rate risk. Certain secured financing arrangements provide for an
advance rate based upon a percentage of the estimated fair value of the asset
being financed. Market movements that cause asset values to decline would
require a margin call or a cash payment to maintain the relationship between
asset value and amount borrowed. A cash flow based CDO is an example of a
secured financing vehicle that does not require a mark-to-market to establish or
maintain a level of financing. When financed assets are subject to a
mark-to-market margin call, the Company carefully monitors the interest rate
sensitivity of those assets. The duration of the assets financed which are
subject to a mark-to-market margin call was 2.01 years based on net asset value
at March 31, 2006. This means that a 100 basis point increase in interest rates
would cause a margin call of approximately $12,000.
Earnings per share sensitivity to changes in interest rates is analyzed using
the assumptions that interest rates, as defined by the LIBOR curve, increase or
decrease and that the yield curves of the LIBOR rate shocks will be parallel to
each other. Estimated fair value in this scenario is calculated using the
assumption that the U.S. Treasury yield curve remains constant even though
changes in both long- and short-term interest rates can occur simultaneously.
Regarding the table below, all changes in income and value are measured as
percentage changes from the respective values calculated in the scenario labeled
as "Base Case." The base interest rate scenario assumes interest rates at March
31, 2006. Actual results could differ significantly from these estimates.
Projected Percentage Change In
Earnings Per Share
Given LIBOR Movements
Change in LIBOR, Projected Change in
+/- Basis Points Earnings per Share
-----------------------------------------------------------
-200 $0.04
-100 $0.02
-50 $0.01
Base Case
+50 $(0.01)
+100 $(0.02)
+200 $(0.04)
The Company's GAAP book value incorporates the estimated fair value of the
Company's interest bearing assets but it does not incorporate the estimated fair
value of the Company's interest bearing fixed rate liabilities and preferred
stock. The fixed-rate liabilities and preferred stock generally will reduce the
actual interest rate risk of the Company from an economic perspective even
though changes in the estimated fair value of these liabilities are not
reflected in the Company's reported book value. The Company focuses on economic
risk in managing its sensitivity to interest rates and maintains an economic
duration within a band of 2.0 to 5.0 years. At March 31, 2006, economic duration
for the Company's entire portfolio was 2.6 years. This implies that for each 100
basis points of change in interest rates the Company's economic value will
change by approximately 2.6%. At March 31, 2006, the Company estimates its
economic value, or net asset value of its common stock to be $545,361.
A reconciliation of the economic duration of the Company to the duration of the
reported book value of the Company's common stock is as follows:
Duration - GAAP book value at March 31, 2006 7.3
Less:
Duration contribution of CDO I liabilities (1.2)
Duration contribution of CDO II liabilities (1.1)
Duration contribution of CDO III liabilities (1.1)
Duration contribution of Series C Preferred Stock (0.2)
Duration contribution of Junior subordinated notes (1.1)
Economic duration at March 31, 2006 2.6
The GAAP book value of the Company's common stock is $9.88 per share. As
indicated in the table above a 100 basis point change in interest rates will
change reported book value by approximately 7.3%, or $45,000. As indicated
above, approximately $12,000 of that change would be required to meet margin
calls in the event rates rise by 100 basis points.
Credit Risk: The Company's portfolios of commercial real estate assets are
subject to a high degree of credit risk. Credit risk is the exposure to loss
from loan defaults. Default rates are subject to a wide variety of factors,
including, but not limited to, property performance, property management,
supply/demand factors, construction trends, consumer behavior, regional
economics, interest rates, the strength of the global economies, and other
factors beyond the control of the Company.
All loans are subject to a certain probability of default. Before acquiring a
Controlling Class security, the Company will perform an analysis of the quality
of all of the loans proposed. As a result of this analysis, loans with
unacceptable risk profiles are either removed from the proposed pool or the
Company receives a price adjustment. The Company underwrites its Controlling
Class CMBS investments assuming the underlying loans will suffer a certain
dollar amount of defaults and these defaults will lead to some level of realized
losses. Loss adjusted yields are computed based on these assumptions and applied
to each class of security supported by the cash flow on the underlying loans.
The most significant variables affecting loss adjusted yields include, but are
not limited to, the number of defaults, the severity of loss that occurs
subsequent to a default and the timing of the actual loss. The different rating
levels of CMBS will react differently to changes in these assumptions. The
lowest rated securities (B- or lower) are generally more sensitive to changes in
timing of actual losses. The higher rated securities (B or higher) are more
sensitive to the severity of losses and timing of cashflows.
The Company generally assumes that all of the principal of a non-rated security
and a significant portion, if not all, of CCC and a portion of B- rated
securities will not be recoverable over time. The loss adjusted yields of these
classes reflect that assumption; therefore, the timing of when the total loss of
principal occurs is the most important assumption in determining value. The
interest coupon generated by a security will cease when there is a total loss of
its principal regardless of whether that principal is paid. Therefore, timing is
of paramount importance because the longer the principal balance remains
outstanding, the more interest coupon the holder receives; which results in a
larger economic return. Alternatively, if principal is lost faster than
originally assumed, there is less opportunity to receive interest coupon; which
results in a lower or possibly negative return.
If actual principal losses on the underlying loans exceed assumptions, the
higher rated securities will be affected more significantly as a loss of
principal may not have been assumed. The Company generally assumes that all
principal will be recovered by classes rated B or higher. The Company manages
credit risk through the underwriting process, establishing loss assumptions and
careful monitoring of loan performance. After the securities have been acquired,
the Company monitors the performance of the loans, as well as external factors
that may affect their value.
Factors that indicate a higher loss severity or acceleration of the timing of an
expected loss will cause a reduction in the expected yield and therefore reduce
the earnings of the Company. Furthermore, the Company may be required to write
down a portion of the adjusted purchase price of the affected assets through its
consolidated statements of operations.
For purposes of illustration, a doubling of the losses in the Company's
Controlling Class CMBS, without a significant acceleration of those losses,
would reduce GAAP income going forward by approximately $0.19 per share of
Common Stock per year and cause a significant write down at the time the loss
assumption is changed. The amount of the write down depends on several factors,
including which securities are most affected at the time of the write down, but
is estimated to be in the range of $0.31 to $0.51 per share based on a doubling
of expected losses. A significant acceleration of the timing of these losses
would cause the Company's net income to decrease. The Company's exposure to a
write down is mitigated by the fact that most of these assets are financed on a
non-recourse basis in the Company's CDOs, where a significant portion of the
risk of loss is transferred to the CDO bondholders. At March 31, 2006,
securities with a total estimated fair value of $1,261,925 are collateralizing
the CDO borrowings of $1,082,078; therefore, the Company's preferred equity
interest in the three CDOs is $179,847 ($3.15 per share). The CDO borrowings are
not marked-to-market in accordance with GAAP even though their economic value
will change in response to changes in interest rates and/or credit spreads.
Asset and Liability Management: Asset and liability management is concerned with
the timing and magnitude of the re-pricing and/or maturing of assets and
liabilities. It is the Company's objective to attempt to control risks
associated with interest rate movements. In general, management's strategy is to
match the term of the Company's liabilities as closely as possible with the
expected holding period of the Company's assets. This is less important for
those assets in the Company's portfolio considered liquid, as there is a very
stable market for the financing of these securities.
Other methods for evaluating interest rate risk, such as interest rate
sensitivity "gap" (defined as the difference between interest-earning assets and
interest-bearing liabilities maturing or re-pricing within a given time period),
are used but are considered of lesser significance in the daily management of
the Company's portfolio. Management considers this relationship when reviewing
the Company's hedging strategies. Because different types of assets and
liabilities with the same or similar maturities react differently to changes in
overall market rates or conditions, changes in interest rates may affect the
Company's net interest income positively or negatively even if the Company were
to be perfectly matched in each maturity category.
Currency Risk: The Company has foreign currency rate exposures related to
certain CMBS and commercial real estate loans. The Company's principal currency
exposures are to the Euro and British pound. Changes in currency rates can
adversely impact the fair values and earnings of the Company's non-U.S.
holdings. The Company mitigates this impact by utilizing local
currency-denominated financing on its foreign investments and foreign currency
forward commitments to hedge the net exposure.
ITEM 4. Controls and Procedures
Under the direction of the Company's Chief Executive Officer and
Chief Financial Officer, the Company's management evaluated the
effectiveness of its disclosure controls and procedures as of March
31, 2006. Based on this evaluation, the Company's Chief Executive
Officer and Chief Financial Officer have concluded that the Company's
disclosure controls and procedures were effective as of March 31,
2006.
No change in internal control over financial reporting occurred
during the quarter ended March 31, 2006 that has materially affected,
or is reasonably likely to materially affect, such internal control
over financial reporting.
Part II - OTHER INFORMATION
Item 1. Legal Proceedings
At March 31, 2006 there were no pending legal proceedings of which the Company
was a defendant or of which any of its properties were subject.
Item 1A. Risk Factors
Certain factors may have a material adverse effect on our business, financial
condition and results of operations and you should carefully consider them. For
discussion of our potential risks our uncertainties, refer to Part I, "Item 1A.,
Risk Factors", included in our Annual Report on Form 10-K for the year ended
December 31, 2005 as filed with the U.S. Securities Exchange Commission on March
16, 2006.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission of Matters to a Vote of Security Holders
None.
Item 5. Other Information
None.
Item 6. Exhibits
Exhibit No. Description
4.1 Junior Subordinated Indenture, dated as of March 16, 2006,
between the Registrant and Wilmington Trust Company, as
Trustee
4.2 Amended and Restated Trust Agreement, dated as of March 16,
2006, among the Registrant, as depositor, Wilmington Trust
Company, as property trustee, Wilmington Trust Company, as
Delaware trustee and the three administrative trustees, each
of whom is an officer of the Company.
10.1 Multicurrency Revolving Facility Agreement, dated as of March
17, 2006, among AHR Capital BofA Limited, as Borrower,
Anthracite Capital, Inc. as Borrower Agent and Bank of
America, N.A. as Lender.
24.1 Power of Attorney (included on signature page hereto)
31.1 Certification of Chief Executive Officer
31.2 Certification of Chief Financial Officer
32.1 Section 1350 Certification of Chief Executive Officer and
Chief Financial Officer
SIGNATURES
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.
ANTHRACITE CAPITAL, INC.
Dated: May 10, 2006 By: /s/ Christopher A. Milner
----------------------------------------
Name: Christopher A. Milner
Title: Chief Executive Officer
(duly authorized representative)
Dated: May 10, 2006 By: /s/ James J. Lillis
---------------------------------------
Name: James J. Lillis
Title: Chief Financial Officer