ANNALY CAPITAL MANAGEMENT INC - Quarter Report: 2013 September (Form 10-Q)
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: SEPTEMBER 30, 2013
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _______________ TO _________________
COMMISSION FILE NUMBER: 1-13447
ANNALY CAPITAL MANAGEMENT, INC.
(Exact name of Registrant as specified in its Charter)
MARYLAND | 22-3479661 |
(State or other jurisdiction of incorporation or organization) | (IRS Employer Identification No.) |
1211 AVENUE OF THE AMERICAS, SUITE 2902
NEW YORK, NEW YORK
(Address of principal executive offices)
10036
(Zip Code)
(212) 696-0100
(Registrant’s telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all documents and reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days:
Yes þ No o
Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o
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.
Large accelerated filer þ | Accelerated filer o | Non-accelerated filer o | Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the last practicable date:
Class | Outstanding at November 6, 2013 |
Common Stock, $.01 par value | 947,403,794 |
ANNALY CAPITAL MANAGEMENT, INC.
FORM 10-Q
TABLE OF CONTENTS
PART I
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(dollars in thousands, except per share amounts)
ASSETS
|
September 30, 2013
(Unaudited)
|
December 31, 2012(1)
|
||||||
Cash and cash equivalents
|
$ | 1,122,722 | $ | 615,789 | ||||
Reverse repurchase agreements
|
31,074 | 1,811,095 | ||||||
Securities borrowed
|
3,439,954 | 2,160,942 | ||||||
Investments, at fair value:
|
||||||||
U.S. Treasury securities (including pledged assets of $2,239,140 and $752,076, respectively)
|
2,459,617 | 752,076 | ||||||
Agency mortgage-backed securities (including pledged assets of $70,612,725 and $107,466,084, respectively)
|
79,902,834 | 123,963,207 | ||||||
Agency debentures (including pledged assets of $3,089,158 and $981,727, respectively)
|
3,128,853 | 3,009,568 | ||||||
Investments in affiliates
|
136,748 | 234,120 | ||||||
Commercial real estate debt and preferred equity
|
1,227,182 | - | ||||||
Investments in commercial real estate
|
60,424 | - | ||||||
Corporate debt, held for investment
|
75,988 | 63,944 | ||||||
Receivable for investments sold
|
934,964 | 290,722 | ||||||
Accrued interest and dividends receivable
|
297,161 | 419,259 | ||||||
Receivable for investment advisory income (including from affiliates of $6,653 and $14,077, respectively)
|
10,055 | 17,730 | ||||||
Intangible for customer relationships (net of accumulated amortization of $2,028 and $5,779, respectively)
|
4,572 | 6,989 | ||||||
Goodwill
|
103,245 | 55,417 | ||||||
Interest rate swaps, at fair value
|
360,373 | - | ||||||
Other derivative contracts, at fair value
|
85,180 | 9,830 | ||||||
Other assets
|
52,211 | 41,607 | ||||||
Total Assets
|
$ | 93,433,157 | $ | 133,452,295 | ||||
LIABILITIES AND STOCKHOLDERS’ EQUITY
|
||||||||
Liabilities:
|
||||||||
U.S. Treasury securities sold, not yet purchased, at fair value
|
$ | 2,403,524 | $ | 495,437 | ||||
Repurchase agreements
|
69,211,309 | 102,785,697 | ||||||
Securities loaned
|
3,299,090 | 1,808,315 | ||||||
Payable for investments purchased
|
2,546,467 | 8,256,957 | ||||||
Payable for share buyback program
|
- | 141,149 | ||||||
Convertible Senior Notes
|
824,512 | 825,541 | ||||||
Mortgages payable
|
19,346 | - | ||||||
Participation sold
|
14,164 | - | ||||||
Accrued interest payable
|
162,755 | 186,896 | ||||||
Dividends payable
|
331,557 | 432,154 | ||||||
Interest rate swaps, at fair value
|
1,504,258 | 2,584,907 | ||||||
Other derivative contracts, at fair value
|
125,468 | - | ||||||
Accounts payable and other liabilities
|
44,983 | 10,798 | ||||||
Total Liabilities
|
80,487,433 | 117,527,851 | ||||||
Stockholders’ Equity:
|
||||||||
7.875% Series A Cumulative Redeemable Preferred Stock: 7,412,500 authorized, issued and outstanding
|
177,088 | 177,088 | ||||||
7.625% Series C Cumulative Redeemable Preferred Stock: 12,650,000 authorized, 12,000,000 issued and outstanding
|
290,514 | 290,514 | ||||||
7.50% Series D Cumulative Redeemable Preferred Stock: 18,400,000 authorized, issued and outstanding, respectively
|
445,457 | 445,457 | ||||||
Common stock, par value $0.01 per share, 1,956,937,500 authorized, 947,304,761 and 947,213,204, issued and outstanding, respectively
|
9,473 | 9,472 | ||||||
Additional paid-in capital
|
14,759,738 | 14,740,774 | ||||||
Accumulated other comprehensive income (loss)
|
(1,454,790 | ) | 3,053,242 | |||||
Accumulated deficit
|
(1,281,756 | ) | (2,792,103 | ) | ||||
Total Stockholders’ Equity
|
12,945,724 | 15,924,444 | ||||||
Total Liabilities and Stockholders’ Equity
|
$ | 93,433,157 | $ | 133,452,295 | ||||
(1) Derived from the audited consolidated financial statements at December 31, 2012.
|
||||||||
See notes to consolidated financial statements.
|
1
ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(dollars in thousands, except per share amounts)
(Unaudited)
For the Quarter Ended
|
For the Nine Months Ended
|
|||||||||||||||
September 30, 2013
|
September 30, 2012
|
September 30, 2013
|
September 30, 2012
|
|||||||||||||
Interest income:
|
||||||||||||||||
Investment Securities
|
$ | 659,058 | $ | 751,739 | $ | 2,070,455 | $ | 2,477,147 | ||||||||
U.S. Treasury securities
|
7,718 | 4,588 | 20,956 | 13,403 | ||||||||||||
Securities loaned
|
1,787 | 2,581 | 6,701 | 7,797 | ||||||||||||
Commercial real estate debt and preferred equity
|
26,066 | - | 39,972 | - | ||||||||||||
Reverse repurchase agreements
|
2,461 | 2,225 | 8,872 | 3,769 | ||||||||||||
Other
|
70 | 132 | 357 | 368 | ||||||||||||
Total interest income
|
697,160 | 761,265 | 2,147,313 | 2,502,484 | ||||||||||||
Interest expense:
|
||||||||||||||||
Repurchase agreements
|
120,123 | 158,150 | 419,132 | 411,643 | ||||||||||||
Convertible Senior Notes
|
17,092 | 18,026 | 49,269 | 51,718 | ||||||||||||
U.S. Treasury securities sold, not yet purchased
|
6,688 | 3,739 | 13,551 | 12,184 | ||||||||||||
Securities borrowed
|
1,405 | 1,978 | 5,067 | 6,136 | ||||||||||||
Participation sold
|
168 | - | 302 | - | ||||||||||||
Total interest expense
|
145,476 | 181,893 | 487,321 | 481,681 | ||||||||||||
Net interest income
|
551,684 | 579,372 | 1,659,992 | 2,020,803 | ||||||||||||
Other income (loss):
|
||||||||||||||||
Investment advisory income
|
9,558 | 20,915 | 35,153 | 63,365 | ||||||||||||
Net gains (losses) on disposal of investments
|
43,602 | 142,172 | 374,443 | 317,308 | ||||||||||||
Net loss on extinguishment of Convertible Senior Notes
|
- | (87,328 | ) | - | (87,328 | ) | ||||||||||
Dividend income from affiliates
|
4,048 | 7,097 | 14,527 | 21,239 | ||||||||||||
Net gains (losses) on trading assets
|
(96,022 | ) | 1,368 | (40,427 | ) | 7,729 | ||||||||||
Net unrealized gains (losses) on interest-only Agency mortgage-backed securities
|
(7,099 | ) | (33,563 | ) | 184,549 | (28,789 | ) | |||||||||
Impairment of goodwill
|
- | - | (23,987 | ) | - | |||||||||||
Loss on previously held equity interest in CreXus
|
- | - | (18,896 | ) | - | |||||||||||
Other income (loss)
|
4,212 | 119 | 11,536 | 364 | ||||||||||||
Subtotal
|
(41,701 | ) | 50,780 | 536,898 | 293,888 | |||||||||||
Realized gains (losses) on interest rate swaps(1)
|
(227,909 | ) | (224,272 | ) | (666,112 | ) | (665,614 | ) | ||||||||
Realized gains (losses) on termination of interest rate swaps
|
(36,658 | ) | - | (88,685 | ) | (2,385 | ) | |||||||||
Unrealized gains (losses) on interest rate swaps
|
6,343 | (104,197 | ) | 1,441,099 | (373,773 | ) | ||||||||||
Subtotal
|
(258,224 | ) | (328,469 | ) | 686,302 | (1,041,772 | ) | |||||||||
Total other income (loss)
|
(299,925 | ) | (277,689 | ) | 1,223,200 | (747,884 | ) | |||||||||
General and administrative expenses:
|
||||||||||||||||
Compensation and management fee
|
41,774 | 52,310 | 123,981 | 164,860 | ||||||||||||
Other general and administrative expenses
|
16,970 | 10,694 | 51,806 | 30,615 | ||||||||||||
Total general and administrative expenses
|
58,744 | 63,004 | 175,787 | 195,475 | ||||||||||||
Income (loss) before income taxes
|
193,015 | 238,679 | 2,707,405 | 1,077,444 | ||||||||||||
Income taxes
|
557 | 13,921 | 6,456 | 42,039 | ||||||||||||
Net income (loss)
|
192,458 | 224,758 | 2,700,949 | 1,035,405 | ||||||||||||
Dividends on preferred stock
|
17,992 | 9,367 | 53,976 | 19,813 | ||||||||||||
Net income (loss) available (related) to common shareholders
|
$ | 174,466 | $ | 215,391 | $ | 2,646,973 | $ | 1,015,592 | ||||||||
Net income (loss) per share available (related) to common shareholders:
|
||||||||||||||||
Basic
|
$ | 0.18 | $ | 0.22 | $ | 2.79 | $ | 1.04 | ||||||||
Diluted
|
$ | 0.18 | $ | 0.22 | $ | 2.69 | $ | 1.00 | ||||||||
Weighted average number of common shares outstanding:
|
||||||||||||||||
Basic
|
947,303,205 | 974,729,078 | 947,321,691 | 973,674,586 | ||||||||||||
Diluted
|
955,690,471 | 997,007,829 | 995,319,670 | 1,035,365,251 | ||||||||||||
Dividends Declared Per Share of Common Stock
|
$ | 0.35 | $ | 0.50 | $ | 1.20 | $ | 1.60 |
2
Net income (loss)
|
$ | 192,458 | $ | 224,758 | $ | 2,700,949 | $ | 1,035,405 | ||||||||
Other comprehensive income (loss):
|
||||||||||||||||
Unrealized gains (losses) on available-for-sale securities
|
(121,942 | ) | 798,269 | (4,133,589 | ) | 1,377,737 | ||||||||||
Reclassification adjustment for net (gains) losses included in net income (loss)
|
(43,602 | ) | (141,982 | ) | (374,443 | ) | (317,118 | ) | ||||||||
Other comprehensive income (loss)
|
(165,544 | ) | 656,287 | (4,508,032 | ) | 1,060,619 | ||||||||||
Comprehensive income (loss)
|
$ | 26,914 | $ | 881,045 | $ | (1,807,083 | ) | $ | 2,096,024 | |||||||
(1) Interest expense related to the Company’s interest rate swaps is recorded in Realized gains (losses) on interest rate swaps on the Consolidated Statements of Operations and Comprehensive Income (Loss).
|
||||||||||||||||
See notes to consolidated financial statements.
|
3
ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(dollars in thousands, except per share amounts)
(Unaudited)
7.875%
Series A Cumulative Redeemable Preferred Stock
|
7.625%
Series C Cumulative Redeemable Preferred Stock
|
7.50%
Series D Cumulative Redeemable Preferred Stock
|
Common
Stock
Par Value
|
Additional
Paid-In
Capital
|
Accumulated Other Comprehensive Income
(Loss) |
Accumulated Deficit
|
Total
|
|||||||||||||||||||||||||
BALANCE, DECEMBER 31, 2011
|
$ | 177,088 | - | - | $ | 9,702 | $ | 15,068,870 | $ | 3,008,988 | $ | (2,504,006 | ) | $ | 15,760,642 | |||||||||||||||||
Net income (loss)
|
- | - | - | - | - | - | 1,035,405 | 1,035,405 | ||||||||||||||||||||||||
Unrealized gains (losses) on available-for-sale securities
|
- | - | - | - | - | 1,377,737 | - | 1, 377,737 | ||||||||||||||||||||||||
Reclassification adjustment for net (gains) losses included in net income (loss)
|
- | - | - | - | - | (317,118 | ) | - | (317,118 | ) | ||||||||||||||||||||||
Exercise of stock options
|
- | - | - | 5 | 6,056 | - | - | 6,061 | ||||||||||||||||||||||||
Stock compensation expense
|
- | - | - | - | 3,857 | - | - | 3,857 | ||||||||||||||||||||||||
Conversion of Series B cumulative preferred stock
|
- | - | - | 40 | 32,232 | - | - | 32,272 | ||||||||||||||||||||||||
Net proceeds from direct purchase and dividend reinvestment
|
- | - | - | 1 | 1,978 | - | - | 1,979 | ||||||||||||||||||||||||
Contingent beneficial conversion feature on 4%
Convertible Senior Notes |
- | - | - | - | 19,738 | - | - | 19,738 | ||||||||||||||||||||||||
Equity component on 5% Convertible Senior Notes
|
- | - | - | - | 11,717 | - | - | 11,717 | ||||||||||||||||||||||||
Offering expenses
|
- | - | - | - | (248 | ) | - | - | (248 | ) | ||||||||||||||||||||||
Net proceeds from 7.625% Series C Cumulative
Redeemable Preferred Stock offering |
- | 290,514 | - | - | - | - | - | 290,514 | ||||||||||||||||||||||||
Net proceeds from 7.50% Series D Cumulative
Redeemable Preferred Stock offering |
- | - | 445,457 | - | - | - | - | 445,457 | ||||||||||||||||||||||||
Preferred Series A dividends declared $1.477 per share
|
- | - | - | - | - | - | (10,945 | ) | (10,945 | ) | ||||||||||||||||||||||
Preferred Series B dividends declared $0.375 per share
|
- | - | - | - | - | - | (289 | ) | (289 | ) | ||||||||||||||||||||||
Preferred Series C dividends declared $0.715 per share
|
- | - | - | - | - | - | (8,579 | ) | (8,579 | ) | ||||||||||||||||||||||
Common dividends declared, $1.60 per share
|
- | - | - | - | - | - | (1,557,537 | ) | (1,557,537 | ) | ||||||||||||||||||||||
BALANCE, SEPTEMBER 30, 2012
|
$ | 177,088 | $ | 290,514 | $ | 445,457 | $ | 9,748 | $ | 15,144,200 | $ | 4,069,607 | $ | (3,045,951 | ) | $ | 17,090,663 | |||||||||||||||
BALANCE, DECEMBER 31, 2012
|
$ | 177,088 | $ | 290,514 | $ | 445,457 | $ | 9,472 | $ | 14,740,774 | $ | 3,053,242 | $ | (2,792,103 | ) | $ | 15,924,444 | |||||||||||||||
Net income (loss)
|
- | - | - | - | - | - | 2,700,949 | 2,700,949 | ||||||||||||||||||||||||
Unrealized gains (losses) on available-for-sale securities
|
- | - | - | - | - | (4,133,589 | ) | - | (4,133,589 | ) | ||||||||||||||||||||||
Reclassification adjustment for net (gains) losses
included in net income (loss) |
- | - | - | - | - | (374,443 | ) | - | (374,443 | ) | ||||||||||||||||||||||
Exercise of stock options
|
- | - | - | 2 | 2,202 | - | - | 2,204 | ||||||||||||||||||||||||
Stock compensation expense
|
- | - | - | (3 | ) | 1,765 | - | - | 1,762 | |||||||||||||||||||||||
Net proceeds from direct purchase and dividend reinvestment
|
- | - | - | 2 | 2,164 | - | - | 2,166 | ||||||||||||||||||||||||
Contingent beneficial conversion feature on 4%
Convertible Senior Notes |
- | - | - | - | 12,833 | - | - | 12,833 | ||||||||||||||||||||||||
Preferred Series A dividends declared $1.477 per share
|
- | - | - | - | - | - | (10,945 | ) | (10,945 | ) | ||||||||||||||||||||||
Preferred Series C dividends declared $1.430 per share
|
- | - | - | - | - | - | (17,156 | ) | (17,156 | ) | ||||||||||||||||||||||
Preferred Series D dividends declared $1.406 per share
|
- | - | - | - | - | - | (25,875 | ) | (25,875 | ) | ||||||||||||||||||||||
Common dividends declared, $1.20 per share
|
- | - | - | - | - | - | (1,136,626 | ) | (1,136,626 | ) | ||||||||||||||||||||||
BALANCE, SEPTEMBER 30, 2013
|
$ | 177,088 | $ | 290,514 | $ | 445,457 | $ | 9,473 | $ | 14,759,738 | $ | (1,454,790 | ) | $ | (1,281,756 | ) | $ | 12,945,724 |
See notes to consolidated financial statements.
4
ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(dollars in thousands)
(Unaudited)
For the Quarter Ended
|
For the Nine Months Ended
|
|||||||||||||||
September 30,
2013 |
September 30,
2012 |
September 30,
2013 |
September 30,
2012 |
|||||||||||||
Cash flows from operating activities:
|
||||||||||||||||
Net income (loss)
|
$ | 192,458 | $ | 224,758 | $ | 2,700,949 | $ | 1,035,405 | ||||||||
Adjustments to reconcile net income (loss) to net cash provided by
(used in) operating activities:
|
||||||||||||||||
Amortization of Investment Securities premiums and discounts, net
|
201,912 | 455,493 | 943,094 | 1,038,598 | ||||||||||||
Amortization of commercial real estate investment premiums and discounts,
net
|
(166 | ) | - | 326 | - | |||||||||||
Amortization of intangibles
|
1,968 | 634 | 2,614 | 1,858 | ||||||||||||
Amortization of deferred expenses
|
2,038 | 2,189 | 6,114 | 4,927 | ||||||||||||
Amortization of contingent beneficial conversion feature on convertible senior notes
|
4,604 | 1,438 | 11,804 | 15,498 | ||||||||||||
Net (gains) losses on sales of Agency mortgage-backed securities
and debentures
|
(43,602 | ) | (142,172 | ) | (374,443 | ) | (317,308 | ) | ||||||||
Net loss on extinguishment of 4% Convertible Senior Notes
|
- | 87,328 | - | 87,328 | ||||||||||||
Stock compensation expense
|
- | 997 | 1,762 | 3,857 | ||||||||||||
Impairment of goodwill
|
- | - | 23,987 | - | ||||||||||||
Loss on previously held equity interest in CreXus
|
- | - | 18,896 | - | ||||||||||||
Unrealized (gains) losses on interest rate swaps
|
(6,343 | ) | 104,197 | (1,441,099 | ) | 373,773 | ||||||||||
Net unrealized (gains) losses on interest-only Agency mortgage-backed securities
|
7,099 | 33,563 | (184,549 | ) | 28,789 | |||||||||||
Net (gains) losses on trading assets
|
96,022 | (1,368 | ) | 40,427 | (5,344 | ) | ||||||||||
Proceeds from repurchase agreements of RCap
|
486,882,965 | 168,905,024 | 1,026,645,402 | 509,943,940 | ||||||||||||
Payments on repurchase agreements of RCap
|
(486,435,022 | ) | (166,150,546 | ) | (1,037,381,608 | ) | (502,959,819 | ) | ||||||||
Proceeds from reverse repurchase agreements of RCap
|
128,504,212 | 113,457,928 | 317,866,330 | 299,139,881 | ||||||||||||
Payments on reverse repurchase agreements of RCap
|
(128,379,907 | ) | (113,053,067 | ) | (316,137,921 | ) | (299,884,954 | ) | ||||||||
Proceeds from reverse repurchase agreements of Shannon
|
168,110 | 185,640 | 812,204 | 409,380 | ||||||||||||
Payments on reverse repurchase agreements of Shannon
|
(152,255 | ) | (177,414 | ) | (760,592 | ) | (415,825 | ) | ||||||||
Proceeds from securities borrowed
|
77,834,884 | 26,397,098 | 208,108,715 | 45,821,749 | ||||||||||||
Payments on securities borrowed
|
(78,849,814 | ) | (26,534,463 | ) | (209,387,727 | ) | (46,495,709 | ) | ||||||||
Proceeds from securities loaned
|
156,424,768 | 59,324,108 | 372,155,568 | 125,183,976 | ||||||||||||
Payments on securities loaned
|
(155,409,923 | ) | (59,188,247 | ) | (370,664,793 | ) | (124,739,909 | ) | ||||||||
Proceeds from U.S. Treasury securities
|
48,927,966 | 13,085,890 | 109,762,391 | 44,183,569 | ||||||||||||
Payments on U.S. Treasury securities
|
(49,195,416 | ) | (13,407,718 | ) | (109,750,041 | ) | (45,248,472 | ) | ||||||||
Net payments on derivatives
|
18,428 | (648 | ) | (26,020 | ) | (18,108 | ) | |||||||||
Net change in:
|
||||||||||||||||
Due to / from brokers
|
24 | - | 683 | - | ||||||||||||
Other assets
|
6,831 | (3,226 | ) | (11,297 | ) | (1,072 | ) | |||||||||
Accrued interest and dividends receivable
|
45,255 | (4,812 | ) | 119,211 | (16,942 | ) | ||||||||||
Receivable for investment advisory income
|
319 | 472 | 7,675 | (721 | ) | |||||||||||
Accrued interest payable
|
(1,499 | ) | 6,683 | (24,141 | ) | 42,537 | ||||||||||
Accounts payable and other liabilities
|
(35,048 | ) | (11,767 | ) | 23,837 | 75,863 | ||||||||||
Net cash provided by (used in) operating activities
|
810,868 | 3,597,992 | (6,892,242 | ) | 7,286,745 | |||||||||||
Cash flows from investing activities:
|
||||||||||||||||
Payments on purchases of Agency mortgage-backed securities and
debentures
|
(5,330,035 | ) | (21,398,098 | ) | (31,529,258 | ) | (59,518,222 | ) | ||||||||
Proceeds from sales of Agency mortgage-backed securities and
debentures
|
13,775,803 | 7,810,451 | 42,719,851 | 17,725,948 | ||||||||||||
Principal payments on Agency mortgage-backed securities
|
4,487,669 | 9,943,910 | 19,550,338 | 25,197,941 | ||||||||||||
Proceeds from Agency debentures called
|
- | 327,385 | 2,147,205 | 1,177,548 | ||||||||||||
Payments on purchase of corporate debt
|
(16,335 | ) | (23,520 | ) | (39,717 | ) | (33,420 | ) | ||||||||
Proceeds from corporate debt called
|
- | 19,165 | 24,252 | 19,165 | ||||||||||||
Principal payments on corporate debt
|
2,065 | 565 | 3,586 | 2,025 | ||||||||||||
Acquisition of CreXus
|
(465 | ) | - | (724,889 | ) | - | ||||||||||
Purchases of commercial real estate investments
|
(333,982 | ) | - | (563,982 | ) | - | ||||||||||
Proceeds from sale of commercial real estate investments
|
20,192 | - | 20,192 | - | ||||||||||||
Principal payments on commercial real estate investments
|
29,584 | - | 50,424 | - | ||||||||||||
Earn out payment
|
- | - | - | (13,387 | ) | |||||||||||
Proceeds from derivatives
|
- | - | 7,465 | - | ||||||||||||
Proceeds from sales of equity securities
|
- | - | - | 4,048 | ||||||||||||
Net cash provided by (used in) investing activities
|
12,634,496 | (3,320,142 | ) | 31,665,467 | (15,438,354 | ) |
5
Cash flows from financing activities:
|
||||||||||||||||
Proceeds from repurchase agreements
|
97,112,861 | 91,857,968 | 322,086,276 | 258,994,965 | ||||||||||||
Principal payments on repurchase agreements
|
(109,746,830 | ) | (90,340,097 | ) | (344,924,458 | ) | (249,043,825 | ) | ||||||||
Proceeds from exercise of stock options
|
- | 670 | 2,204 | 6,061 | ||||||||||||
Net proceeds from Series C Preferred offering
|
- | - | - | 290,514 | ||||||||||||
Net proceeds from Series D Preferred offering
|
- | 445,457 | - | 445,457 | ||||||||||||
Net payment from extinguishment of 4% Convertible Senior Notes
|
- | (357,220 | ) | - | (357,220 | ) | ||||||||||
Net proceeds from issuance of 5% Convertible Senior Notes offering
|
- | - | - | 727,500 | ||||||||||||
Net proceeds from direct purchases and dividend reinvestments
|
735 | 1,134 | 2,166 | 1,979 | ||||||||||||
Net (payments) proceeds from follow-on offerings
|
- | (17 | ) | - | (248 | ) | ||||||||||
Payments on participation sold
|
(65 | ) | - | (132 | ) | - | ||||||||||
Net payment on share repurchase
|
- | - | (141,149 | ) | - | |||||||||||
Dividends paid
|
(414,880 | ) | (545,265 | ) | (1,291,199 | ) | (1,642,918 | ) | ||||||||
Net cash provided by (used in) financing activities
|
(13,048,179 | ) | 1,062,630 | (24,266,292 | ) | 9,422,265 | ||||||||||
Net (decrease) increase in cash and cash equivalents
|
397,185 | 1,340,480 | 506,933 | 1,270,656 | ||||||||||||
Cash and cash equivalents, beginning of period
|
725,537 | 924,374 | 615,789 | 994,198 | ||||||||||||
Cash and cash equivalents, end of period
|
$ | 1,122,722 | $ | 2,264,854 | $ | 1,122,722 | $ | 2,264,854 | ||||||||
Supplemental disclosure of cash flow information:
|
||||||||||||||||
Interest received
|
$ | 942,582 | $ | 1,203,598 | $ | 3,209,456 | $ | 3,514,893 | ||||||||
Dividends received
|
$ | 4,048 | $ | 6,621 | $ | 17,576 | $ | 22,425 | ||||||||
Fees received
|
$ | 29,987 | $ | 21,506 | $ | 63,070 | $ | 63,008 | ||||||||
Interest paid (excluding interest paid on interest rate swaps)
|
$ | 163,810 | $ | 173,889 | $ | 517,134 | $ | 423,752 | ||||||||
Net interest paid on interest rate swaps
|
$ | 206,407 | $ | 224,155 | $ | 648,638 | $ | 665,508 | ||||||||
Taxes paid
|
$ | 836 | $ | 17,374 | $ | 6,763 | $ | 46,541 | ||||||||
Noncash investing activities:
|
||||||||||||||||
Receivable for investments sold
|
$ | 934,964 | $ | 470,266 | $ | 934,964 | $ | 470,266 | ||||||||
Payable for investments purchased
|
$ | 2,546,467 | $ | 16,107,038 | $ | 2,546,467 | $ | 16,107,038 | ||||||||
Net change in unrealized gains (losses) on available-for-sale securities, net of reclassification adjustment
|
$ | (165,544 | ) | $ | 656,287 | $ | (4,508,032 | ) | $ | 1,060,619 | ||||||
Noncash financing activities:
|
||||||||||||||||
Dividends declared, not yet paid
|
$ | 331,557 | $ | 487,237 | $ | 331,557 | $ | 487,237 | ||||||||
Conversion of Series B cumulative preferred stock
|
- | - | - | $ | 32,272 | |||||||||||
Contingent beneficial conversion feature on 4% Convertible Senior
Notes
|
$ | 4,320 | $ | (26,603 | ) | $ | 12,833 | $ | 19,738 | |||||||
Equity component of 5% Convertible Senior Notes
|
- | $ | 11,717 | - | $ | 11,717 | ||||||||||
See notes to consolidated financial statements.
|
6
ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
Annaly Capital Management, Inc. (the “Company” or “Annaly”) is a Maryland corporation that commenced operations on February 18, 1997. The Company owns a portfolio of real estate related investments, including mortgage pass-through certificates, collateralized mortgage obligations, agency callable debentures, other securities representing interests in or obligations backed by pools of mortgage loans and commercial real estate assets. The Company’s principal business objective is to generate net income for distribution to its stockholders from its investments.
The Company’s business operations are primarily comprised of the following:
-
|
Annaly, the parent company, which invests primarily in various types of Agency mortgage-backed securities and related derivatives to hedge these investments.
|
-
|
Fixed Income Discount Advisory Company (“FIDAC”), a subsidiary which manages an affiliated investment vehicle for which it earns fee income.
|
-
|
RCap Securities, Inc. (“RCap”), a subsidiary which operates as a broker-dealer, and is a member of the Financial Industry Regulatory Authority (“FINRA”).
|
-
|
Shannon Funding LLC (“Shannon”), a subsidiary which provides warehouse financing to residential mortgage originators in the United States.
|
-
|
Annaly Middle Market Lending LLC (formerly known as Charlesfort Capital Management LLC), a subsidiary which engages in corporate middle market lending transactions.
|
-
|
Annaly Commercial Real Estate Group, Inc. (“Annaly Commercial”, formerly known as CreXus Investment Corp. (“CreXus”)), a subsidiary that is a recently acquired business which specializes in acquiring, financing and managing commercial mortgage loans and other commercial real estate debt, commercial mortgage-backed securities and other commercial real estate-related assets.
|
The Company has elected to be taxed as a real estate investment trust (“REIT”) as defined under the Internal Revenue Code of 1986, as amended, and regulations promulgated thereunder (the “Code”). The Company is externally managed by Annaly Management Company LLC (the “Manager”).
A summary of the Company’s significant accounting policies follows:
Basis of Accounting – The accompanying consolidated financial statements and related notes of the Company have been prepared in accordance with accounting principles generally accepted in the United States ("GAAP"). In the opinion of management, the consolidated financial statements reflect all adjustments considered necessary for a fair presentation of the Company's financial position, results of operations and cash flows.
Principles of Consolidation – The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Beginning with the Company’s consolidated financial statements for the quarter and six month periods ended June 30, 2013, the Company reclassified previously presented financial information so that amounts previously presented in the Consolidated Statements of Operations and Comprehensive Income (Loss) as interest income from Investments are presented as interest income from Reverse repurchase agreements and Other. Consolidated financial statements for periods prior to June 30, 2013 have been conformed to the current presentation.
The Company has evaluated all of its investments in legal entities in order to determine if they are variable interests in Variable Interest Entities ("VIEs"). A VIE is defined as an entity in which equity investors (i) do not have the characteristics of a controlling financial interest, and/or (ii) do not have sufficient equity at risk for the entity to finance its activities without additional financial support from other parties. A variable interest is an investment or other interest that will absorb portions of a VIE's expected losses or receive portions of the entity’s expected residual returns. A VIE is required to be consolidated by its primary beneficiary, which is defined as the party that (i) has the power to control the activities that most significantly impact the VIE’s economic performance and (ii) has the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE.
7
Cash and Cash Equivalents – Cash and cash equivalents include cash on hand and cash held in money market funds on an overnight basis. RCap is a member of various clearing organizations with which it maintains cash required for the conduct of its day-to-day clearance activities. Cash and securities deposited with clearing organizations are carried at cost, which approximates fair value. The Company also maintains collateral in the form of cash on margin with counterparties to its interest rate swaps and other derivatives. Cash and securities deposited with clearing organizations and collateral held in the form of cash on margin with counterparties to its interest rate swaps and other derivatives totaled $740.2 million and $527.5 million at September 30, 2013 and December 31, 2012, respectively.
Fair Value Measurements – The Company carries various financial instruments at fair value. A complete discussion of the methodology utilized by the Company to estimate the fair value of certain financial instruments is included in the notes to these consolidated financial statements.
Revenue Recognition – The revenue recognition policy by asset class is discussed below.
Agency Mortgage-Backed Securities and Agency Debentures – The Company invests primarily in mortgage pass-through certificates, collateralized mortgage obligations and other mortgage-backed securities representing interests in or obligations backed by pools of mortgage loans, and certificates guaranteed by the Government National Mortgage Association (“Ginnie Mae”), the Federal Home Loan Mortgage Corporation (“Freddie Mac”) or the Federal National Mortgage Association (“Fannie Mae”) (collectively, “Agency mortgage-backed securities”). The Company also invests in Agency debentures issued by the Federal Home Loan Banks (“FHLB”), Freddie Mac and Fannie Mae.
Investment Securities – Agency mortgage-backed securities, Agency debentures and corporate debt are referred to herein as “Investment Securities.” Although the Company generally intends to hold most of its Investment Securities until maturity, it may, from time to time, sell any of its Investment Securities as part of its overall management of its portfolio. Investment Securities classified as available-for-sale are reported at fair values estimated by management that are compared to independent sources for reasonableness, with unrealized gains and losses reported as a component of other comprehensive income (loss). Investment Securities transactions are recorded on trade date. Realized gains and losses on sales of Investment Securities are determined using the average cost method. The Company’s investments in corporate debt are designated as held for investment, and are carried at their principal balance outstanding plus any premiums or discounts less allowances for loan losses. No allowance for loan losses was deemed necessary as of September 30, 2013 and December 31, 2012.
On April 1, 2011, the Company elected the fair value option for Agency interest-only mortgage-backed securities acquired on or after such date. Interest-only securities and inverse interest-only securities are collectively referred to as “interest-only securities.” These Agency interest-only mortgage-backed securities represent the Company’s right to receive a specified proportion of the contractual interest flows of specific Agency mortgage-backed securities. Agency interest-only mortgage-backed securities acquired on or after April 1, 2011 are measured at fair value as Net gains (losses) on trading assets in the Company’s Consolidated Statements of Operations and Comprehensive Income (Loss). The interest-only securities are included in Agency mortgage-backed securities at fair value on the accompanying Consolidated Statements of Financial Condition.
Interest income from coupon payments is accrued based on the outstanding principal amounts of the Investment Securities and their contractual terms. Premiums and discounts associated with the purchase of the Investment Securities are amortized or accreted into interest income over the projected lives of the securities using the interest method. The Company’s policy for estimating prepayment speeds for calculating the effective yield is to evaluate historical performance, consensus prepayment speeds and current market conditions. Adjustments are made for actual prepayment activity.
8
Equity Securities – The Company invests in equity securities that are classified as available-for-sale or trading. Equity securities classified as available-for-sale are reported at fair value, based on market quotes, with unrealized gains and losses reported as a component of other comprehensive income (loss). Equity securities classified as trading are reported at fair value, based on market quotes, with unrealized gains and losses reported in the Consolidated Statements of Operations and Comprehensive Income (Loss) as Net gains (losses) on trading assets. Dividends are recorded in earnings based on the declaration date.
Derivative Instruments – The Company may use a variety of derivative instruments to economically hedge some of its exposure to market risks, including interest rate and prepayment risk. These instruments include, but are not limited to, interest rate swaps, options to enter into interest rate swaps (“swaptions”), forward contracts for Agency mortgage-backed securities purchases or sales on a generic pool, or to-be-announced, basis (“TBA securities”) with the intent to net settle (“TBA derivatives”), options on TBA securities (“MBS options”) and U.S. Treasury futures contracts. The Company may also invest in other types of mortgage derivatives such as interest-only securities and synthetic total return swaps, such as the Markit IOS Synthetic Total Return Swap Index. The Company may also enter into TBA dollar rolls. Derivatives are accounted for in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 815, Derivatives and Hedging, which requires recognition of all derivatives as either assets or liabilities at fair value in the Consolidated Statements of Financial Condition with changes in fair value recognized in the Consolidated Statements of Operations and Comprehensive Income (Loss).
Some derivative agreements contain provisions that allow for netting or setting off by counterparty; however, beginning on September 30, 2013, the Company elected to present related assets and liabilities on a gross basis in the Consolidated Statements of Financial Condition. Prior to September 30, 2013, the Company presented in the Consolidated Statements of Financial Condition the fair value of interest rate swap contracts net, by counterparty, if the derivative agreements included netting provisions.
Interest rate swap agreements - Interest rate swaps are the primary instrument used to mitigate interest rate risk. In particular, the Company uses interest rate swaps to manage its exposure to changing interest rates on its repurchase agreements by economically hedging cash flows associated with these borrowings. Swap agreements may be over-the-counter (“OTC”) agreements which are negotiated directly with a counterparty, or centrally cleared through a registered commodities exchange. OTC swaps are fair valued using internal pricing models and compared to the counterparty market values. Centrally cleared swaps are fair valued using internal pricing models and compared to the exchange market values.
Interest rate swaptions - Interest rate swaptions are purchased to mitigate the potential impact of increases or decreases in interest rates. Interest rate swaptions provide the option to enter into an interest rate swap agreement for a predetermined notional amount, stated term and pay and receive interest rates in the future. They are not centrally cleared. The premium paid for interest rate swaptions is reported as an asset in the Consolidated Statement of Financial Position. The premium is valued at an amount equal to the fair value of the swaption. The difference between the premium and the fair value of the swaption is reported in Net gain (loss) on trading assets in the Consolidated Statements of Operations and Comprehensive Income (Loss). If a swaption expires unexercised, the realized loss on the swaption would be equal to the premium paid. If the Company sells or exercises a swaption, the realized gain or loss on the swaption would be equal to the difference between the cash received or the fair value of the underlying interest rate swap received and the premium paid.
The fair value of interest rate swaptions is estimated using internal pricing models and compared to the counterparty market value.
TBA Dollar Rolls - A TBA security is a forward contract for the purchase ("long position") or sale ("short position") of Agency mortgage-backed securities at a predetermined price, face amount, issuer, coupon and stated maturity on an agreed-upon future date. The specific Agency mortgage-backed securities delivered into the contract upon the settlement date, published each month by the Securities Industry and Financial Markets Association, are not known at the time of the transaction. TBA dollar roll transactions are accounted for as a series of derivative transactions. The fair value of TBA derivatives is based on similar methods used to value Agency mortgage-backed securities with gains and losses recorded in Net gains (losses) on trading assets in the Consolidated Statements of Operations and Comprehensive Income (Loss).
9
MBS Options – MBS options are generally options on TBA contracts, which help manage mortgage market risks and volatility while providing the potential to enhance returns. MBS options are over-the-counter traded instruments and those written on current-coupon mortgage-backed securities are typically the most liquid. MBS options are fair valued using internal pricing models and compared to the counterparty market value at the valuation date with gains and losses recorded in Net gains (losses) on trading assets in the Consolidated Statements of Operations and Comprehensive Income (Loss).
U.S. Treasury Futures - U.S. Treasury futures contracts are derivatives that track the prices of specific U.S. Treasury securities. Short sales of U.S. Treasury futures contracts help mitigate the potential impact of changes in interest rates on the portfolio performance. The Company maintains a margin account which is settled daily with Futures Commission Merchants (“FCMs”). The margin requirement varies based on the market value of the open positions and the equity retained in the account. Futures contracts are fair valued based on exchange pricing with gains and losses recorded in Net gains (losses) on trading assets in the Consolidated Statements of Operations and Comprehensive Income (Loss).
Other-Than-Temporary Impairment – Management evaluates available-for-sale securities for other-than-temporary impairment at least quarterly, and more frequently when economic or market conditions warrant such evaluation. When the fair value of an available-for-sale security is less than its amortized cost the security is considered impaired. For securities that are impaired, the Company determines if it (1) has the intent to sell the security, (2) is more likely than not that it will be required to sell the security before recovery of its amortized cost basis, or (3) does not expect to recover the entire amortized cost basis of the security. Further, the security is analyzed for credit loss (the difference between the present value of cash flows expected to be collected and the amortized cost basis). The credit loss, if any, will then be recognized in the Consolidated Statements of Operations and Comprehensive Income (Loss), while the balance of losses related to other factors will be recognized as a component of other comprehensive income (loss). There was no other-than-temporary impairment for the quarters and nine months ended September 30, 2013 and 2012.
Loan Loss Reserves –To determine if loan loss allowances are required on investments in corporate debt, the Company reviews the monthly and/or quarterly financial statements of the borrowers to verify they meet the covenants of the loan documents. If based on the financial review it is deemed probable that the Company will be unable to collect contractual principal and interest amounts (e.g. financial performance and delinquencies), a loan loss provision would be recorded. No allowance for loan losses was deemed necessary as of September 30, 2013 and December 31, 2012.
Repurchase Agreements – The Company finances the acquisition of a significant portion of its Agency mortgage-backed securities with repurchase agreements. The Company examines each of the specified criteria in ASC 860, Transfers and Servicing, at the inception of each transaction and has determined that each of the financings meet the specified criteria in this guidance. None of the Company’s repurchase agreements are accounted for as components of linked transactions. As a result, the Company separately accounts for the financial assets and related repurchase financings in the accompanying consolidated financial statements.
Reverse repurchase agreements and repurchase agreements with the same counterparty and the same maturity are presented net in the Consolidated Statements of Financial Condition when the terms of the agreements permit netting. The Company reports cash flows on repurchase agreements as financing activities in the Consolidated Statements of Cash Flows. The Company reports cash flows on reverse repurchase and repurchase agreements entered into by RCap and Shannon as operating activities in the Consolidated Statements of Cash Flows.
Goodwill and Intangible Assets – The Company’s acquisitions of FIDAC, Merganser Capital Management, Inc. (“Merganser”) and CreXus were accounted for using the acquisition method. Under the acquisition method, net assets and results of operations of acquired companies are included in the consolidated financial statements from the date of acquisition. The costs of FIDAC, Merganser and CreXus were allocated to the assets acquired, including identifiable intangible assets, and the liabilities assumed based on their estimated fair values at the date of acquisition. The excess of purchase price over the fair value of the net assets acquired was recognized as goodwill.
10
The Company tests goodwill for impairment on an annual basis and at interim periods when events or circumstances may make it more likely than not that an impairment has occurred. If a qualitative analysis indicates that there may be an impairment, a quantitative analysis is performed. The quantitative impairment test for goodwill utilizes a two-step approach, whereby the Company compares the carrying value of each identified reporting unit to its fair value. If the carrying value of the reporting unit is greater than its fair value, the second step is performed, where the implied fair value of goodwill is compared to its carrying value. The Company recognizes an impairment charge for the amount by which the carrying amount of goodwill exceeds its fair value.
Intangible assets with an estimated useful life are amortized over the expected life.
Convertible Senior Notes – The Company records the 4% Convertible Senior Notes and 5% Convertible Senior Notes (collectively, the “Convertible Senior Notes”) at their contractual amounts, adjusted by the effects of a beneficial conversion feature and a contingent beneficial conversion feature (collectively, the “Conversion Features”). The Conversion Features’ intrinsic value is included in “Additional paid-in capital” on the Company’s Consolidated Statements of Financial Condition and reduces the recorded liability amount associated with the Convertible Senior Notes. A Conversion Feature may be recognized as a result of adjustments to the conversion price for dividends declared to common shareholders.
Stock Based Compensation – The Company is required to measure and recognize in the consolidated financial statements the compensation cost relating to share-based payment transactions. The Company recognizes compensation expense on a straight-line basis over the requisite service period for the entire award.
Income Taxes – The Company has elected to be taxed as a REIT and intends to comply with the provisions of the Code, with respect thereto. Accordingly, the Company will not be subjected to federal income tax to the extent of its distributions to shareholders and as long as certain asset, income and stock ownership tests are met. The Company and certain of its direct and indirect subsidiaries, including FIDAC, Merganser, RCap and certain subsidiaries of Annaly Commercial, have made separate joint elections to treat these subsidiaries as taxable REIT subsidiaries. As such, each of these taxable REIT subsidiaries is taxable as a domestic C corporation and subject to federal, state and local income taxes based upon their taxable income.
The provisions of ASC 740, Income Taxes, (“ASC 740”) clarify the accounting for uncertainty in income taxes recognized in financial statements and prescribe a recognition threshold and measurement attribute for tax positions taken or expected to be taken on a tax return. ASC 740 also requires that interest and penalties related to unrecognized tax benefits be recognized in the financial statements. The Company does not have any unrecognized tax benefits that would affect its financial position. Thus, no accruals for penalties and interest were necessary as of September 30, 2013 or December 31, 2012.
Use of Estimates – The preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Commercial Real Estate Investments
Commercial Real Estate Loans – The Company's commercial real estate mortgages and loans are comprised of fixed-rate and adjustable-rate loans. Commercial real estate mortgages and loans are designated as held for investment and are carried at their outstanding principal balance, net of an unamortized origination fee, premium or discount, less a reserve for estimated losses if necessary. Origination fees, premiums and discounts are amortized or accreted over the estimated life of the loan. The difference between the principal amount of a loan and proceeds at acquisition is recorded as either a discount or premium.
Preferred Equity Interests Held for Investment – Preferred equity interests are designated as held for investment and are carried at their outstanding principal balance, net of an unamortized origination fee, premium or discount, less a reserve for estimated losses if necessary. Origination fees, premiums and discounts are amortized or accreted into interest income over the estimated life of the investment.
11
Investments in Commercial Real Estate – Investments in commercial real estate are carried at historical cost less accumulated depreciation. Costs directly related to acquisitions deemed to be business combinations are expensed. Ordinary repairs and maintenance which are not reimbursed by the tenants are expensed as incurred. Major replacements and improvements that extend the useful life of the asset are capitalized and depreciated over their useful life.
Allowance for Losses – The Company evaluates the need for a loss reserve on its commercial real estate mortgages, loans and preferred equity interests held for investment (collectively referred to as “CRE Debt and Preferred Equity Investments”). A provision is established when the Company believes CRE Debt and Preferred Equity Investments are impaired, which is when it is deemed probable that the Company will be unable to collect contractual principal and interest amounts. A provision for losses related to CRE Debt and Preferred Equity Investments, including those accounted for under ASC 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality, may be established when it is probable the Company will not collect amounts contractually due or all amounts previously estimated to be collectable. Management assesses the credit quality of the portfolio and adequacy of loan loss reserves on a quarterly basis, or more frequently as necessary. Significant judgment is required in this analysis. Depending on the expected recovery of its investment, the Company considers the estimated net recoverable value of the CRE Debt and Preferred Equity Investments as well as other factors, including but not limited to the fair value of any collateral, the amount and the status of any senior debt, the prospects for the borrower and the competitive landscape where the borrower conducts business. Because this determination is based upon projections of future economic events, which are inherently subjective, the amounts ultimately realized may differ materially from the carrying value as of the reporting date.
Revenue Recognition – Commercial Real Estate Investments - Interest income is accrued based on the outstanding principal amount of the CRE Debt and Preferred Equity Investments and their contractual terms. Premiums and discounts associated with the purchase of the CRE Debt and Preferred Equity Investments are amortized or accreted into interest income over the projected lives of the CRE Debt and Preferred Equity Investments using the interest method based on the estimated recovery value.
Broker Dealer Activities
Reverse Repurchase Agreements – RCap enters into reverse repurchase agreements as part of its matched book trading activity. Reverse repurchase agreements are recorded on trade date at the contract amount and are collateralized by mortgage-backed or other securities. Margin calls are made by RCap as necessary based on the daily valuation of the underlying collateral as compared to the contract price. RCap generates income from the spread between what is earned on the reverse repurchase agreements and what is paid on the matched repurchase agreements. RCap’s policy is to obtain possession of collateral with a market value in excess of the principal amount loaned under reverse repurchase agreements. To ensure that the market value of the underlying collateral remains sufficient, collateral is valued daily, and RCap will require counterparties to deposit additional collateral, when necessary. All reverse repurchase activities are transacted under master repurchase agreements that give RCap the right, in the event of default, to liquidate collateral held and in some instances, to offset receivables and payables with the same counterparty.
Securities Borrowed and Loaned Transactions – RCap records securities borrowed and loaned transactions as collateralized financings. Securities borrowed transactions require RCap to provide the counterparty with collateral in the form of cash, or other securities. RCap receives collateral in the form of cash or other securities for securities loaned transactions. RCap monitors the fair value of the securities borrowed and loaned on a daily basis, with additional collateral obtained or refunded as necessary. Securities borrowed and securities loaned transactions are recorded at contract value. For these transactions, the rebates accrued by RCap are recorded as interest income or expense.
U.S. Treasury Securities – RCap trades in U.S. Treasury securities for its proprietary portfolio, which consists of long and short positions on U.S Treasury notes and bonds. U.S. Treasury securities are classified as trading investments and are recorded on the trade date at cost. Changes in fair value are reflected in Net gains (losses) on trading assets in the Company’s Consolidated Statement of Operations and Comprehensive Income (Loss). Interest income or expense on U.S. Treasury notes and bonds is accrued based on the outstanding principal amount of those investments and their stated terms.
12
Derivatives - RCap enters primarily into U.S. Treasury, Eurodollar, federal funds, U.S. equity index and currency futures and options contracts. RCap maintains a margin account which is settled daily with FCMs. Changes in the unrealized gains or losses on the futures and options contracts as well as any foreign exchange gains and losses are reflected in Net gains (losses) on trading assets in the Company’s Consolidated Statements of Operations and Comprehensive Income (Loss). Unrealized gains (losses) are excluded from net income (loss) in arriving at cash flows from operating activities in the Consolidated Statements of Cash Flows.
A Summary of Recent Accounting Pronouncements Follows:
Presentation
Balance Sheet (ASC 210)
On December 23, 2011, FASB released ASU 2011-11 Balance Sheet: Disclosures about Offsetting Assets and Liabilities. Under this update, the Company is required to disclose both gross information and net information about both instruments and transactions eligible for offset in the Company’s Consolidated Statements of Financial Condition and transactions subject to an agreement similar to a master netting arrangement. The scope includes derivatives, sale and repurchase agreements and reverse sale and repurchase agreements and securities borrowing and securities lending arrangements. This disclosure is intended to enable financial statement users to understand the effect of such arrangements on the Company’s financial position. In January 2013, FASB released ASU 2013-01 Balance Sheet: Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities, which served solely to clarify the scope of financial instruments included in ASU 2011-11 as there was concern about diversity in practice. The objective of these updates is to support further convergence of GAAP and IFRS requirements. The updates are effective for annual reporting periods beginning on or after January 1, 2013 and did not have a significant impact on the consolidated financial statements.
Comprehensive Income (ASC 220)
On December 23, 2011, the FASB issued ASU 2011-12, Comprehensive Income: Deferral of Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income In ASU No. 2011-05, which defers those changes in ASU 2011-05 that relate to the presentation of reclassification adjustments out of accumulated other comprehensive income. This was done to allow the FASB time to re-deliberate the presentation on the face of the financial statements the effects of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income. No other requirements under ASU 2011-05 are affected by ASU 2011-12. FASB tentatively decided not to require presentation of reclassification adjustments out of accumulated other comprehensive income on the face of the financial statements and to propose new disclosures instead.
In February 2013, the FASB issued ASU 2013-02 Comprehensive Income: Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income. This update addresses the disclosure issue left open at the deferral under ASU 2011-12. This update requires the provision of information about the amounts reclassified out of accumulated other comprehensive income by component. In addition, it requires presentation, either on the face of the statement where net income is presented or in the notes, significant amounts reclassified out of accumulated other comprehensive income by the respective line items of net income but only if the amount reclassified is required under GAAP to be reclassified to net income in its entirety in the same reporting period. For other amounts that are not required under GAAP to be reclassified in their entirety to net income, a cross-reference must be provided to other disclosures required under GAAP that provide additional detail about those amounts. This update is effective for reporting periods beginning after December 15, 2012. Adoption of ASU 2013-02 did not have a significant impact on the consolidated financial statements.
13
Broad Transactions
Financial Services – Investment Companies (ASC 946)
In June 2013, the FASB finalized ASU 2013-08 amending the scope, measurement and disclosure requirements under Topic 946 – Financial Services-Investment Companies. The FASB decided not to address issues related to the applicability of investment company accounting for real estate entities and the measurement of real estate investments at this time. Further, as stated in ASC 946-10-15-3, the guidance in Topic 946 does not apply to REITs, and thus has no effect on the Company’s consolidated financial statements.
2. AGENCY MORTGAGE-BACKED SECURITIES
The following tables present the Company’s available-for-sale Agency mortgage-backed securities portfolio as of September 30, 2013 and December 31, 2012 which were carried at their fair value:
September 30, 2013
|
Freddie Mac
|
Fannie Mae
|
Ginnie Mae
|
Total Mortgage-
Backed Securities |
||||||||||||
(dollars in thousands)
|
||||||||||||||||
Agency mortgage-backed securities, par value
|
$ | 26,837,473 | $ | 49,364,721 | $ | 184,594 | $ | 76,386,788 | ||||||||
Unamortized discount
|
(8,245 | ) | (11,415 | ) | (379 | ) | (20,039 | ) | ||||||||
Unamortized premium
|
1,635,431 | 3,077,589 | 31,064 | 4,744,084 | ||||||||||||
Amortized cost
|
28,464,659 | 52,430,895 | 215,279 | 81,110,833 | ||||||||||||
Gross unrealized gains
|
285,508 | 638,337 | 11,075 | 934,920 | ||||||||||||
Gross unrealized losses
|
(862,484 | ) | (1,277,246 | ) | (3,189 | ) | (2,142,919 | ) | ||||||||
Estimated fair value
|
$ | 27,887,683 | $ | 51,791,986 | $ | 223,165 | $ | 79,902,834 | ||||||||
Fixed Rate
|
Adjustable Rate
|
Total
|
||||||||||
(dollars in thousands)
|
||||||||||||
Amortized cost
|
$ | 76,844,755 | $ | 4,266,078 | $ | 81,110,833 | ||||||
Gross unrealized gains
|
780,365 | 154,555 | 934,920 | |||||||||
Gross unrealized losses
|
(2,122,255 | ) | (20,664 | ) | (2,142,919 | ) | ||||||
Estimated fair value
|
$ | 75,502,865 | $ | 4,399,969 | $ | 79,902,834 |
December 31, 2012
|
Freddie Mac
|
Fannie Mae
|
Ginnie Mae
|
Total Mortgage-
Backed Securities |
||||||||||||
(dollars in thousands)
|
||||||||||||||||
Agency mortgage-backed securities, par value
|
$ | 44,296,234 | $ | 70,649,782 | $ | 273,988 | $ | 115,220,004 | ||||||||
Unamortized discount
|
(9,515 | ) | (12,315 | ) | (389 | ) | (22,219 | ) | ||||||||
Unamortized premium
|
2,121,478 | 3,695,381 | 39,348 | 5,856,207 | ||||||||||||
Amortized cost
|
46,408,197 | 74,332,848 | 312,947 | 121,053,992 | ||||||||||||
Gross unrealized gains
|
1,166,299 | 1,913,334 | 17,583 | 3,097,216 | ||||||||||||
Gross unrealized losses
|
(36,890 | ) | (146,533 | ) | (4,578 | ) | (188,001 | ) | ||||||||
Estimated fair value
|
$ | 47,537,606 | $ | 76,099,649 | $ | 325,952 | $ | 123,963,207 |
14
Fixed Rate
|
Adjustable Rate
|
Total
|
||||||||||
(dollars in thousands)
|
||||||||||||
Amortized cost
|
$ | 115,267,274 | $ | 5,786,718 | $ | 121,053,992 | ||||||
Gross unrealized gains
|
2,838,203 | 259,013 | 3,097,216 | |||||||||
Gross unrealized losses
|
(183,388 | ) | (4,613 | ) | (188,001 | ) | ||||||
Estimated fair value
|
$ | 117,922,089 | $ | 6,041,118 | $ | 123,963,207 |
Actual maturities of Agency mortgage-backed securities are generally shorter than stated contractual maturities because actual maturities of Agency mortgage-backed securities are affected by periodic payments and prepayments of principal on the underlying mortgages. The following table summarizes the Company’s Agency mortgage-backed securities as of September 30, 2013 and December 31, 2012, according to their estimated weighted average life classifications:
September 30, 2013
|
December 31, 2012
|
|||||||||||||||
Weighted Average Life
|
Fair Value
|
Amortized
Cost |
Fair Value
|
Amortized
Cost |
||||||||||||
(dollars in thousands)
|
||||||||||||||||
Less than one year
|
$ | 295,075 | $ | 291,250 | $ | 1,264,094 | $ | 1,250,405 | ||||||||
Greater than one year through five years
|
66,618,558 | 67,357,639 | 119,288,168 | 116,510,310 | ||||||||||||
Greater than five years through ten years
|
12,510,264 | 12,929,637 | 3,104,073 | 2,992,054 | ||||||||||||
Greater than 10 years
|
478,937 | 532,307 | 306,872 | 301,223 | ||||||||||||
Total
|
$ | 79,902,834 | $ | 81,110,833 | $ | 123,963,207 | $ | 121,053,992 |
The weighted average lives of the Agency mortgage-backed securities at September 30, 2013 and December 31, 2012 in the table above are based upon principal prepayment rates for each security provided through subscription-based financial information services. The prepayment model considers current yield, forward yield, steepness of the yield curve, current mortgage rates, mortgage rate of the outstanding loans, loan age, margin, volatility and other factors. The actual weighted average lives of the Agency mortgage-backed securities could be longer or shorter than estimated.
The following table presents the gross unrealized losses and estimated fair value of the Company’s Agency mortgage-backed securities by length of time that such securities have been in a continuous unrealized loss position at September 30, 2013 and December 31, 2012.
Unrealized Loss Position For:
|
|||||||||||||||||||||||||||||||||||||
Less than 12 Months
|
12 Months or More
|
Total
|
|||||||||||||||||||||||||||||||||||
Estimated
Fair Value
|
Unrealized
Losses |
Number of
Securities |
Estimated
Fair Value |
Unrealized Losses
|
Number of Securities
|
Estimated
Fair Value |
Unrealized Losses
|
Number of Securities
|
|||||||||||||||||||||||||||||
(dollars in thousands)
|
|||||||||||||||||||||||||||||||||||||
September 30, 2013
|
$ | 52,628,291 | $ | (2,124,602 | ) | 557 | $ | 276,471 | $ | (18,317 | ) | 31 | $ | 52,904,762 | $ | (2,142,919 | ) | 588 | |||||||||||||||||||
December 31, 2012
|
$ | 11,220,514 | $ | (82,721 | ) | 187 | $ | 147,775 | $ | (105,280 | ) | 39 | $ | 11,368,289 | $ | (188,001 | ) | 226 |
The decline in value of these securities is solely due to market conditions and not the quality of the assets. Substantially all of the Agency mortgage-backed securities are “AAA” rated or carry an implied “AAA” rating. The investments are not considered to be other-than-temporarily impaired because the Company currently has the ability and intent to hold the investments to maturity or for a period of time sufficient for a forecasted market price recovery up to or beyond the cost of the investments, and it is not more likely than not that the Company will be required to sell the investments before recovery of the amortized cost bases, which may be maturity. Also, the Company is guaranteed payment of the principal amount of the securities by the respective issuing government agency.
15
During the quarter and nine months ended September 30, 2013, the Company sold $12.8 billion and $42.6 billion of Agency mortgage-backed securities, respectively, resulting in a net realized gain of $43.6 million and $374.4 million, respectively. During the quarter and nine months ended September 30, 2012, the Company sold $7.0 billion and $17.9 billion of Agency mortgage-backed securities, respectively, resulting in a net realized gain of $142.0 million and $317.1 million, respectively. Average cost is used as the basis on which the realized gain or loss on sale is determined.
Agency interest-only mortgage-backed securities represent the right to receive a specified portion of the contractual interest flows of the underlying outstanding principal balance of specific Agency mortgage-backed securities. Agency interest-only mortgage-backed securities in the Company’s portfolio as of September 30, 2013 had net unrealized gains of $18.0 million and an amortized cost of $980.8 million.
3. ACQUISITION OF CREXUS
On April 17, 2013, the Company, through its wholly-owned subsidiary CXS Acquisition Corporation obtained control of CreXus pursuant to the merger agreement dated January 30, 2013. CreXus owned a portfolio of commercial real estate assets which are now owned by the Company. Following the acquisition, CXS Acquisition Corporation was renamed Annaly Commercial Real Estate Group, Inc.
The business combination was accounted for under the acquisition method of accounting in accordance with ASC 805, Business Combinations, (“ASC 805”). Accordingly, goodwill was measured as the excess of the aggregate of the acquisition-date fair value of the consideration transferred and the acquisition-date fair value of the Company’s previously held equity interest in CreXus over the fair value, at acquisition date, of the identifiable assets acquired net of assumed liabilities. The following table summarizes the aggregate consideration and preliminary fair value of the assets acquired and liabilities assumed recognized at the acquisition date:
April 17, 2013
|
||||
(dollars in thousands)
|
||||
Cash consideration transferred
|
$ | 876,267 | ||
Fair value of equity interest in CreXus held before the business combination
|
106,521 | |||
|
$ | 982,788 | ||
Recognized amounts of identifiable assets acquired and liabilities assumed
|
||||
Cash and cash equivalents
|
$ | 151,843 | ||
Commercial real estate investments
|
796,950 | |||
Accrued interest receivable
|
3,485 | |||
Other assets
|
5,617 | |||
Mortgages payable
|
(19,376 | ) | ||
Participation sold
|
(14,352 | ) | ||
Accounts payable and accrued expenses
|
(12,729 | ) | ||
Total identifiable net assets
|
911,438 | |||
Goodwill
|
71,350 | |||
|
$ | 982,788 |
16
The Company recorded $71.4 million of goodwill during the second quarter of 2013 associated with the acquisition of CreXus in the Consolidated Statements of Financial Condition. The final goodwill recorded on the Consolidated Statements of Financial Condition may differ from that reflected herein as a result of future measurement period adjustments. In management’s opinion, the goodwill represents the synergies that will result from integrating CreXus’ commercial real estate platform into the Company, which the Company believes is complementary to its existing business and return profile.
The acquisition-date fair value of the previously held equity interest in CreXus excluded the estimated fair value of the control premium that resulted from the merger transaction. The Company recognized a loss of $18.9 million during the second quarter of 2013 as a result of remeasuring the fair value of its equity interest in CreXus held before the business combination.
Under ASC 805, merger-related transaction costs (such as advisory, legal, valuation and other professional fees) are not included as components of consideration transferred but are accounted for as expenses in the periods in which the costs are incurred. Transaction costs of $7.3 million were incurred during the first six months in 2013 and were included in other general and administrative expenses in the Consolidated Statements of Operations and Comprehensive Income (Loss).
4. COMMERCIAL REAL ESTATE INVESTMENTS
At September 30, 2013, commercial real estate investments were composed of the following:
CRE Debt and Preferred Equity Investments
September 30, 2013
|
||||||||||||
Outstanding
Principal |
Carrying
Value |
Percentage of
Loan Portfolio(1) |
||||||||||
(dollars in thousands)
|
||||||||||||
Senior mortgages
|
$ | 431,000 | $ | 431,472 | 35.1 | % | ||||||
Subordinate notes
|
41,149 | 41,571 | 3.3 | % | ||||||||
Mezzanine loans
|
567,379 | 569,045 | 46.2 | % | ||||||||
Preferred equity
|
189,769 | 189,115 | 15.4 | % | ||||||||
Subtotal
|
$ | 1,229,297 | $ | 1,231,203 | 100.0 | % | ||||||
Net origination fees
|
n/a | (4,021 | ) | n/a | ||||||||
Net investment in commercial mortgage loans and preferred equity
|
n/a | $ | 1,227,182 | n/a | ||||||||