DYNEX CAPITAL INC - Quarter Report: 2007 June (Form 10-Q)
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
DC 20549
FORM
10-Q
Quarterly
Report Pursuant to Section 13
or 15(d) of the
Securities
Exchange Act of
1934
For
the quarterly period June 30, 2007
Transition
Report Pursuant to Section
13 or 15(d) of the
Securities
Exchange Act of
1934
Commission
File Number: 1-9819
|
DYNEX
CAPITAL, INC.
(Exact
name of registrant as specified in its charter)
Virginia
|
52-1549373
|
(State
or other jurisdiction of
|
(I.R.S.
Employer
|
incorporation
or organization)
|
Identification
No.)
|
4551
Cox Road, Suite 300, Glen Allen, Virginia
|
23060-6740
|
(Address
of principal executive offices)
|
(Zip
Code)
|
(804)
217-5800
(Registrant’s
telephone number, including area code)
|
Indicate
by check mark whether the registrant (1) has filed all reports required to
be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements
for
the past 90 days.
Yes 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. (Check one):
Large
accelerated filer
o Accelerated
filer o Non-accelerated
filer þ
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act).
Yes o No þ
On
July
31, 2007, the registrant had 12,136,262 shares outstanding of common stock,
$.01
par value, which is the registrant’s only class of common stock.
DYNEX
CAPITAL, INC.
FORM
10-Q
Page
|
|||
PART
I.
|
FINANCIAL
INFORMATION
|
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Item
1.
|
|||
1
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2
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|||
3
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|||
4
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Item
2.
|
12
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Item
3.
|
28
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||
Item
4.
|
30
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||
PART
II.
|
OTHER
INFORMATION
|
||
Item
1.
|
31
|
||
Item
1A.
|
32
|
||
Item
2.
|
32
|
||
Item
3.
|
32
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||
Item
4.
|
33
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||
Item
5.
|
33
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||
Item
6.
|
33
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34
|
i
PART
I. FINANCIAL INFORMATION
DYNEX
CAPITAL, INC.
(amounts
in thousands except share data)
June
30,
|
December
31,
|
|||||||
2007
|
2006
|
|||||||
(Unaudited)
|
||||||||
ASSETS
|
||||||||
Cash
and cash equivalents
|
$ |
62,556
|
$ |
56,880
|
||||
Other
assets
|
4,096
|
6,111
|
||||||
66,652
|
62,991
|
|||||||
Investments:
|
||||||||
Securitized
mortgage loans:
|
||||||||
Commercial,
net
|
220,109
|
228,466
|
||||||
Single-family,
net
|
99,398
|
117,838
|
||||||
319,507
|
346,304
|
|||||||
Investment
in joint venture
|
39,296
|
37,388
|
||||||
Securities
|
13,446
|
13,143
|
||||||
Other
investments
|
2,239
|
2,802
|
||||||
Other
loans
|
3,438
|
3,929
|
||||||
377,926
|
403,566
|
|||||||
$ |
444,578
|
$ |
466,557
|
|||||
LIABILITIES
AND SHAREHOLDERS' EQUITY
|
||||||||
LIABILITIES
|
||||||||
Securitization
financing
|
$ |
201,046
|
$ |
211,564
|
||||
Repurchase
agreements secured by securitization financing
|
80,965
|
95,978
|
||||||
Obligation
under payment agreement
|
16,829
|
16,299
|
||||||
Other
liabilities
|
6,352
|
6,178
|
||||||
305,192
|
330,019
|
|||||||
Commitments
and Contingencies (Note 12)
|
||||||||
SHAREHOLDERS'
EQUITY
|
||||||||
Preferred
stock, par value $0.01 per share, 50,000,000 shares
authorized,
|
||||||||
9.5%
Cumulative Convertible Series D, 4,221,539 shares issued
|
||||||||
and
outstanding, ($43,218 aggregate liquidation preference)
|
41,749
|
41,749
|
||||||
Common
stock, par value $0.01 per share, 100,000,000 shares
authorized,
|
||||||||
12,136,262
and 12,131,262 shares issued and outstanding, respectively
|
121
|
121
|
||||||
Additional
paid-in capital
|
366,716
|
366,637
|
||||||
Accumulated
other comprehensive income
|
793
|
663
|
||||||
Accumulated
deficit
|
(269,993 | ) | (272,632 | ) | ||||
139,386
|
136,538
|
|||||||
$ |
444,578
|
$ |
466,557
|
|||||
See
notes to unaudited condensed consolidated financial
statements.
|
1
DYNEX
CAPITAL, INC.
OF
OPERATIONS AND COMPREHENSIVE
INCOME (UNAUDITED)
(amounts
in thousands except share and per share data)
Three
Months Ended
|
Six
Months Ended
|
|||||||||||||||
June
30,
|
June
30,
|
|||||||||||||||
2007
|
2006
|
2007
|
2006
|
|||||||||||||
Interest
income:
|
||||||||||||||||
Securitized
finance receivables
|
$ |
6,848
|
$ |
13,139
|
$ |
13,873
|
$ |
27,025
|
||||||||
Securities
|
284
|
426
|
608
|
973
|
||||||||||||
Other
investments
|
787
|
463
|
1,526
|
690
|
||||||||||||
Other
loans
|
104
|
164
|
231
|
270
|
||||||||||||
8,023
|
14,192
|
16,238
|
28,958
|
|||||||||||||
Interest
and related expenses:
|
||||||||||||||||
Securitization
financing
|
3,537
|
10,201
|
7,632
|
21,189
|
||||||||||||
Repurchase
agreements
|
1,162
|
1,519
|
2,420
|
3,034
|
||||||||||||
Obligation
under payment agreement
|
386
|
-
|
753
|
-
|
||||||||||||
Other
|
(25 | ) | (71 | ) |
9
|
(96 | ) | |||||||||
5,060
|
11,649
|
10,814
|
24,127
|
|||||||||||||
Net
interest income
|
2,963
|
2,543
|
5,424
|
4,831
|
||||||||||||
Recapture
of provision for loan losses
|
702
|
-
|
1,225
|
119
|
||||||||||||
Net
interest income after provision for loan losses
|
3,665
|
2,543
|
6,649
|
4,950
|
||||||||||||
Equity
in income of joint venture
|
672
|
-
|
1,302
|
-
|
||||||||||||
Gain
on sale of investments, net
|
6
|
116
|
-
|
140
|
||||||||||||
Other
(expense) income
|
(478 | ) |
121
|
(1,018 | ) |
230
|
||||||||||
General
and administrative expenses
|
(1,163 | ) | (1,165 | ) | (2,290 | ) | (2,492 | ) | ||||||||
Net
income
|
2,702
|
1,615
|
4,643
|
2,828
|
||||||||||||
Preferred
stock charge
|
(1,003 | ) | (1,003 | ) | (2,005 | ) | (2,039 | ) | ||||||||
Net
income to common shareholders
|
$ |
1,699
|
$ |
612
|
$ |
2,638
|
$ |
789
|
||||||||
Change
in net unrealized gain (loss) on :
|
||||||||||||||||
Investments
classified as available-for-sale
|
(602 | ) |
84
|
(476 | ) |
448
|
||||||||||
Investment
in joint venture
|
(223 | ) |
-
|
606
|
-
|
|||||||||||
Comprehensive
income
|
$ |
1,877
|
$ |
1,699
|
$ |
4,773
|
$ |
3,276
|
||||||||
Net
income per common share:
|
||||||||||||||||
Basic
and diluted
|
$ |
0.14
|
$ |
0.05
|
$ |
0.22
|
$ |
0.06
|
||||||||
See
notes to unaudited condensed consolidated financial
statements.
|
2
DYNEX
CAPITAL, INC.
|
|
OF
CASH FLOWS (UNAUDITED)
|
|
(amounts
in thousands)
|
|
Six
Months Ended
|
||||||||
June
30,
|
||||||||
2007
|
2006
|
|||||||
Operating
activities:
|
||||||||
Net
income
|
$ |
4,643
|
$ |
2,828
|
||||
Adjustments
to reconcile net income to cash
|
||||||||
provided
by operating activities:
|
||||||||
Equity
in earnings of joint venture
|
(1,302 | ) |
-
|
|||||
Recapture
of provision for loan loss
|
(1,225 | ) | (119 | ) | ||||
Gain
on sale of investments
|
-
|
(141 | ) | |||||
Amortization
and depreciation
|
(183 | ) |
346
|
|||||
Stock
based compensation expense
|
79
|
104
|
||||||
Net
change in other assets and other liabilities
|
2,615
|
752
|
||||||
Net
cash and cash equivalents provided by operating activities
|
4,627
|
3,770
|
||||||
Investing
activities:
|
||||||||
Principal
payments received on securitized mortgage loans
|
27,702
|
51,479
|
||||||
Purchase
of securities
|
(5,590 | ) | (16,642 | ) | ||||
Payments
received on securities, other investments and other loans
|
5,836
|
26,238
|
||||||
Proceeds
from sales of securities and other investments
|
129
|
1,136
|
||||||
Other
|
305
|
(561 | ) | |||||
Net
cash and cash equivalents provided by investing activities
|
28,382
|
61,650
|
||||||
Financing
activities:
|
||||||||
Principal
payments on securitization financing
|
(9,496 | ) | (26,555 | ) | ||||
Net
repayments on repurchase agreement
|
(15,832 | ) | (19,743 | ) | ||||
Repurchase
of common stock
|
-
|
(220 | ) | |||||
Redemption
of preferred stock
|
-
|
(14,072 | ) | |||||
Dividends
paid
|
(2,005 | ) | (2,373 | ) | ||||
Net
cash and cash equivalents used for financing activities
|
(27,333 | ) | (62,963 | ) | ||||
Net
increase in cash and cash equivalents
|
5,676
|
2,457
|
||||||
Cash
and cash equivalents at beginning of period
|
56,880
|
45,235
|
||||||
Cash
and cash equivalents at end of period
|
$ |
62,556
|
$ |
47,692
|
||||
See
notes to unaudited condensed consolidated financial
statements.
|
3
DYNEX
CAPITAL, INC.
June
30,
2007
(amounts
in thousands except share and per share data)
NOTE
1 – BASIS OF PRESENTATION
The
accompanying condensed consolidated financial statements have been prepared
in
accordance with the instructions to Form 10-Q and do not include all of the
information and notes required by accounting principles generally accepted
in
the United States of America, hereinafter referred to as “generally accepted
accounting principles,” for complete financial statements. The
condensed consolidated financial statements include the accounts of Dynex
Capital, Inc. and its qualified real estate investment trust (REIT) subsidiaries
and taxable REIT subsidiary (together, “Dynex” or the “Company”). All
intercompany balances and transactions have been eliminated in
consolidation.
The
Company consolidates entities in which it owns more than 50% of the voting
equity and control does not rest with others. The Company follows the
equity method of accounting for investments with greater than 20% and less
than
a 50% interest in partnerships and corporate joint ventures or when it is
able
to influence the financial and operating policies of the investee but owns
less
than 50% of the voting equity. For all other investments, the cost
method is applied.
The
Company believes it has complied with the requirements for qualification
as a
REIT under the Internal Revenue Code (the “Code”). To the extent the
Company qualifies as a REIT for federal income tax purposes, it generally
will
not be subject to federal income tax on the amount of its income or gain
that is
distributed as dividends to shareholders.
In
the
opinion of management, all significant adjustments, consisting of normal
recurring accruals considered necessary for a fair presentation of the condensed
consolidated financial statements have been included. The financial statements
presented are unaudited. Operating results for the three and six
months ended June 30, 2007 are not necessarily indicative of the results
that
may be expected for the year ending December 31, 2007. Certain
information and footnote disclosures normally included in the consolidated
financial statements prepared in accordance with generally accepted accounting
principles have been omitted. The unaudited financial statements
included herein should be read in conjunction with the financial statements
and
notes thereto included in the Company’s Annual Report on Form 10-K for the year
ended December 31, 2006, filed with the Securities and Exchange
Commission.
The
preparation of financial statements, in conformity with generally accepted
accounting principles, 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 revenue and expenses during the reporting
period. Actual results could differ from those
estimates. The primary estimates inherent in the accompanying
condensed consolidated financial statements are discussed below.
The
Company uses estimates in establishing fair value for its financial instruments.
Securities classified as available-for-sale are carried in the accompanying
financial statements at estimated fair value. Estimates of fair value for
securities are based on market prices provided by certain dealers, when
available. When market prices are not available, fair value estimates
are determined by calculating the present value of the projected cash flows
of
the instruments using market-based assumptions such as estimated future interest
rates and estimated market spreads to applicable indices for comparable
securities, and using collateral based assumptions such as prepayment rates
and
credit loss assumptions based on the most recent performance and anticipated
performance of the underlying collateral.
4
The
Company also has credit risk on loans in its portfolio as discussed in Note
4. An allowance for loan losses has been estimated and established
for currently existing losses in the loan portfolio, which are deemed probable
as to their occurrence. The allowance for loan losses is evaluated
and adjusted periodically by management based on the actual and estimated
timing
and amount of probable credit losses. Provisions made to increase or
decrease the allowance for loan losses are presented as provision for loan
losses or recapture of provision for loan losses, respectively, in the
accompanying condensed consolidated statements of operations. The
Company’s actual credit losses may differ from those estimates used to establish
the allowance.
Certain
amounts for 2006 have been reclassified to conform to the presentation used
in
2007.
Adoption
of New Accounting Standards
Effective
January 1, 2007, the Company adopted Financial Accounting Standards Board
(FASB)
Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (FIN
48). FIN 48 prescribes a recognition threshold and measurement
attributes for the financial statement recognition and measurement of a tax
position taken or expected to be taken in a tax return. FIN 48 also
provides guidance on derecognition, classification, interest and penalties,
accounting in interim periods, disclosure and transition. The
Company’s adoption of FIN 48 did not have a material impact on the Company’s
financial statements.
Effective
January 1, 2007, the Company adopted Statement of Financial Accounting Standards
(SFAS) No. 156, “Accounting for Servicing of Financial Assets — An Amendment of
FASB Statement No. 140.” This Statement amends FASB Statement No. 140,
“Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities”, with respect to the accounting for separately recognized
servicing assets and servicing liabilities. This Statement requires an entity
to
recognize a servicing asset or servicing liability each time it undertakes
an
obligation to service a financial asset by entering into a servicing contract
in
certain situations and to initially measure those servicing assets and servicing
liabilities at fair value, if practicable. The Company elected the option
to
measure its servicing rights at fair value at each reporting date with changes
in fair value recorded in its earnings. The Company’s adoption of FAS
156 did not have a material impact on the Company’s financial
statements.
Effective
January 1, 2007, the Company adopted SFAS No. 155, “Accounting for Certain
Hybrid Instruments” (FAS 155), an amendment to FAS 133 and FAS 140. Among other
things, FAS 155: (i) permits fair value remeasurement for any hybrid financial
instrument that contains an embedded derivative that otherwise would require
bifurcation; (ii) clarified which interest-only strips and principal-only
strips
are not subject to the requirements of FAS 133; (iii) established a requirement
to evaluate interests in securitized financial assets to identify interests
that
are freestanding derivatives or that are hybrid financial instruments that
contain an embedded derivative requiring bifurcation; (iv) clarified that
concentrations of credit risk in the form of subordination are not embedded
derivatives; and (v) amended FAS 140 to eliminate the prohibition on a
qualifying special-purpose entity from holding a derivative financial instrument
that pertains to a beneficial interest other than another derivative financial
instrument.
Securitized
interests which only contain an embedded derivative that is tied to the
prepayment risk of the underlying prepayable financial assets and for which
the
investor does not control the right to accelerate the settlement of such
financial assets are excluded under a scope exception adopted by the
FASB. None of the Company’s assets were subject to FAS 155 as a
result of this scope exception. Therefore, the Company has continued to record
changes in the market value of its investment securities through other
comprehensive income, a component of stockholders’ equity. Therefore, the
adoption of FAS 155 did not have any impact on the Company’s financial position,
results of operations or cash flows. However, if future investments by the
Company in securitized financial assets do not meet the scope exception to
FAS
155, the Company’s results of operations may exhibit future volatility if such
investments are required to be bifurcated or marked to market value in their
entirety through the income statement.
5
NOTE
2 – NET INCOME PER COMMON SHARE
Net
income per common share is presented on both a basic and diluted per common
share basis. Diluted net income per common share assumes the
conversion of the convertible preferred stock into common stock, using the
if-converted method, and stock appreciation rights and options, to the extent
that they are outstanding, using the treasury stock method, but only if these
items are dilutive. The Series D preferred stock is convertible into
one share of common stock for each share of preferred stock. The
following table reconciles the numerator and denominator for both basic and
diluted net income per common share for the three and six months ended June
30,
2007 and 2006.
Three
Months Ended June 30,
|
Six
Months Ended June 30,
|
|||||||||||||||||||||||||||||||
2007
|
2006
|
2007
|
2006
|
|||||||||||||||||||||||||||||
Income
|
Weighted-
Average
Number
Of
Shares
|
Income
|
Weighted-
Average
Number
Of
Shares
|
Income
|
Weighted-
Average
Number
Of
Shares
|
Income
|
Weighted-
Average
Number
Of
Shares
|
|||||||||||||||||||||||||
Net
income
|
$ |
2,702
|
$ |
1,615
|
$ |
4,643
|
$ |
2,828
|
||||||||||||||||||||||||
Preferred
stock charge
|
(1,003 | ) | (1,003 | ) | (2,005 | ) | (2,039 | ) | ||||||||||||||||||||||||
Net
income to common shareholders
|
$ |
1,699
|
12,136,262
|
$ |
612
|
12,138,469
|
$ |
2,638
|
12,134,715
|
$ |
789
|
12,150,011
|
||||||||||||||||||||
Net
income per share:
|
||||||||||||||||||||||||||||||||
Basic
|
$ |
0.14
|
$ |
0.05
|
$ |
0.22
|
$ |
0.06
|
||||||||||||||||||||||||
Diluted
|
$ |
0.14
|
$ |
0.05
|
$ |
0.22
|
$ |
0.06
|
||||||||||||||||||||||||
Reconciliation
of shares included
in
calculation of earnings per share
due
to dilutive effect
|
||||||||||||||||||||||||||||||||
Expense
and incremental shares of stock options
|
$ |
–
|
3,173
|
$ |
–
|
–
|
$ |
–
|
1,909
|
$ |
–
|
–
|
||||||||||||||||||||
$ |
–
|
12,139,435
|
$ |
–
|
–
|
$ |
–
|
12,136,627
|
$ |
–
|
–
|
|||||||||||||||||||||
Reconciliation
of shares not
included
in calculation of earnings
per
share due to anti-dilutive effect
|
||||||||||||||||||||||||||||||||
Series
D preferred stock
|
$ |
1,003
|
4,221,539
|
$ |
1,003
|
4,221,539
|
$ |
2,005
|
4,221,539
|
$ |
2,039
|
4,291,510
|
||||||||||||||||||||
Expense
and incremental shares of stock options
|
–
|
1,417
|
–
|
16,360
|
–
|
3,061
|
–
|
18,151
|
||||||||||||||||||||||||
$ |
1,003
|
4,222,956
|
$ |
1,003
|
4,237,899
|
$ |
2,005
|
4,224,600
|
$ |
2,039
|
4,309,661
|
|||||||||||||||||||||
NOTE
3 – SECURITIZED FINANCE RECEIVABLES
The
following table summarizes the components of securitized finance receivables
at
June 30, 2007 and December 31, 2006:
June
30,
2007
|
December
31, 2006
|
|||||||
Collateral:
|
||||||||
Commercial
mortgage loans
|
$ |
209,075
|
$ |
225,463
|
||||
Single-family
mortgage loans
|
97,855
|
116,060
|
||||||
306,930
|
341,523
|
|||||||
Funds
held by trustees, including funds held for defeased loans
|
13,570
|
7,351
|
||||||
Accrued
interest receivable
|
2,216
|
2,380
|
||||||
Unamortized
discounts and premiums, net
|
(404 | ) | (455 | ) | ||||
Loans,
at amortized cost
|
332,312
|
350,799
|
||||||
Allowance
for loan losses
|
(2,805 | ) | (4,495 | ) | ||||
$ |
319,507
|
$ |
346,304
|
The
commercial securitized finance receivables are encumbered by non-recourse
securitized financing.
6
NOTE
4 – ALLOWANCE FOR LOAN LOSSES
The
following table summarizes the aggregate activity for the allowance for loan
losses for the three-month and six-month periods ended June 30, 2007 and
2006,
respectively:
Three
Months Ended
June
30,
|
Six
Months Ended
June
30,
|
|||||||||||||||
2007
|
2006
|
2007
|
2006
|
|||||||||||||
Allowance
at beginning of period
|
$ |
3,538
|
$ |
18,913
|
$ |
4,495
|
$ |
19,035
|
||||||||
Recapture
of provision for loan losses
|
(702 | ) |
–
|
(1,225 | ) | (119 | ) | |||||||||
Charge-offs,
net of recoveries
|
(31 | ) | (4,044 | ) | (465 | ) | (4,047 | ) | ||||||||
Allowance
at end of period
|
$ |
2,805
|
$ |
14,869
|
$ |
2,805
|
$ |
14,869
|
The
Company identified $14,389 of impaired commercial loans at June 30, 2007,
none
of which were delinquent, compared to $13,266 of impaired commercial loans
at
December 31, 2006, one of which was delinquent and had an unpaid principal
balance of $3,170. This delinquent commercial loan was purchased at
foreclosure by a third party in March 2007 resulting in a charge-off of
$437.
NOTE
5 — INVESTMENT IN JOINT VENTURE
The
Company holds a 49.875% interest in a joint venture, Copperhead Ventures,
LLC,
which it accounts for using the equity method, under which it recognizes
its
proportionate share of the joint venture’s earnings and comprehensive
income. The joint venture had total assets at June 30, 2007 of
$77,439, which were comprised primarily of $40,339 of cash and cash equivalents,
$36,976 of investments backed by commercial mortgage loans, and other assets
of
$124. The Company’s interest in the earnings of the joint venture
were $672 and $1,302 for the three and six months ended June 30, 2007,
respectively.
NOTE
6 – SECURITIES
The
following table summarizes the fair value of the Company’s securities classified
as available-for-sale at June 30, 2007 and December 31, 2006:
June
30, 2007
|
December
31, 2006
|
|||||||||||||||
Fair
Value
|
Effective
Interest Rate
|
Fair
Value
|
Effective
Interest Rate
|
|||||||||||||
Securities,
available-for-sale:
|
||||||||||||||||
Adjustable-rate
mortgage securities
|
$ |
2,048
|
5.44 | % | $ |
–
|
– | % | ||||||||
Fixed-rate
mortgage securities
|
9,839
|
7.16 | % |
11,362
|
7.22 | % | ||||||||||
Equity
securities
|
1,151
|
1,151
|
||||||||||||||
13,038
|
12,513
|
|||||||||||||||
Gross
unrealized gains
|
434
|
636
|
||||||||||||||
Gross
unrealized losses
|
(26 | ) | (6 | ) | ||||||||||||
$ |
13,446
|
$ |
13,143
|
7
NOTE
7 – OTHER INVESTMENTS
The
following table summarizes the Company’s other investments at June 30, 2007 and
December 31, 2006:
June
30,
2007
|
December
31,
2006
|
|||||||
Delinquent
property tax receivable securities
|
$ |
1,712
|
$ |
2,227
|
||||
Real
estate owned
|
527
|
575
|
||||||
$ |
2,239
|
$ |
2,802
|
Delinquent
property tax receivable securities includes an unrealized loss of $213 at
June
30, 2007 and an unrealized gain of $41 at December 31, 2006,
respectively. Real estate owned is acquired from foreclosures on
delinquent property tax receivables. During the six months ended June 30,
2007,
the Company collected $306 on the delinquent property tax receivable securities,
including the net proceeds from the sale of the related real estate
owned.
NOTE
8 – OTHER LOANS
The
following table summarizes Dynex’s carrying basis for other loans at June 30,
2007 and December 31, 2006, respectively.
June
30,
2007
|
December
31, 2006
|
|||||||
Single-family
mortgage loans
|
$ |
2,819
|
$ |
3,345
|
||||
Multifamily
and commercial mortgage loan participations
|
945
|
962
|
||||||
3,764
|
4,307
|
|||||||
Unamortized
discounts
|
(326 | ) | (378 | ) | ||||
$ |
3,438
|
$ |
3,929
|
NOTE
9 –SECURITIZATION FINANCING
Dynex,
through limited-purpose finance subsidiaries, has issued bonds pursuant to
indentures in the form of non-recourse securitization financing. Each
series of securitization financing may consist of various classes of bonds,
either at fixed or variable rates of interest. Payments received on
securitized finance receivables and any reinvestment income earned thereon
are
used to make payments on the securitization financing. The
obligations under the securitization financings are payable solely from the
securitized finance receivables and are otherwise non-recourse to
Dynex. The stated maturity date for each class of bonds is generally
calculated based on the final scheduled payment date of the underlying
collateral pledged. The actual maturity of each class will be
directly affected by the rate of principal prepayments on the related
collateral. Each series is also subject to redemption at Dynex’s
option according to specific terms of the respective indentures. As a
result, the actual maturity of any class of a series of securitization financing
is likely to occur earlier than its stated maturity. If Dynex does
not exercise its option to redeem a class or classes of bonds when it first
has
the right to do so, the interest rates on the bonds not redeemed will
automatically increase by 0.30% to 0.83%.
8
The
components of non-recourse securitization financing along with certain other
information at June 30, 2007 and December 31, 2006 are summarized as
follows:
June
30, 2007
|
December
31, 2006
|
|||||||||||||||
Bonds
Outstanding
|
Range
of Interest Rates
|
Bonds
Outstanding
|
Range
of Interest Rates
|
|||||||||||||
Fixed-rate
classes
|
$ |
196,982
|
6.6%-8.8 | % | $ |
206,478
|
6.6%-8.8 | % | ||||||||
Accrued
interest payable
|
1,362
|
1,428
|
||||||||||||||
Deferred
costs
|
(2,226 | ) | (2,848 | ) | ||||||||||||
Unamortized
bond premium, net
|
4,928
|
6,506
|
||||||||||||||
$ |
201,046
|
$ |
211,564
|
|||||||||||||
Range
of stated maturities
|
2024-2027
|
2024-2027
|
||||||||||||||
Estimated
weighted average life
|
3.9
years
|
4.3
years
|
||||||||||||||
Number
of series
|
2
|
2
|
At
June
30, 2007, the weighted-average coupon on the fixed rate classes was
6.9%. The average effective rate on non-recourse securitization
financing was 7.1% and 8.1% for the six months ended June 30, 2007 and the
year
ended December 31, 2006, respectively. This decrease was due to
additional amortization of bond premium due to the prepayment of three
commercial loans in the second quarter 2007 and the derecognition of a
securitization back by commercial loans in the third quarter 2006.
NOTE
10 – REPURCHASE AGREEMENTS
The
Company uses repurchase agreements, which are recourse to the Company, to
finance certain of its investments. The Company had repurchase
agreements of $80,965 and $95,978 at June 30, 2007 and December 31, 2006,
respectively, which are collateralized by certain of the Company’s retained interests
in its
securitizatized single-family mortgage loans. The repurchase
agreements mature monthly and have a weighted average rate of 0.10% over
one-month LIBOR (5.32% at June 30, 2007). The securitization financing bonds
collateralizing these repurchase agreements had a fair value, as determined
by
the repurchase agreement counterparty, of $89,958 at June 30, 2007.
NOTE
11 – PREFERRED STOCK
At
each
of June 30, 2007 and December 31, 2006, the total liquidation preference
on the
Series D Preferred Stock was $43,218, which includes $1,003 ($0.2375 per
share)
of accrued dividends payable on the Series D Preferred Stock at each of June
30,
2007 and December 31, 2006, respectively.
NOTE
12 – COMMITMENTS AND CONTINGENCIES
As
discussed in the Company’s Annual Report on Form 10-K for the year ended
December 31, 2006, the Company and certain of its subsidiaries are defendants
in
litigation. The following discussion is the current status of the
litigation.
9
One
of
the Company’s subsidiaries, GLS Capital, Inc. (“GLS”), and the County of
Allegheny, Pennsylvania (“Allegheny County”), are defendants in a class action
lawsuit filed in 1997 in the Court of Common Pleas of Allegheny County,
Pennsylvania (the “Court of Common Pleas”). Plaintiffs allege that GLS
illegally charged the taxpayers of Allegheny County certain attorney fees,
costs
and expenses, and interest, in the collection of delinquent property tax
receivables owned by GLS. Plaintiffs were seeking class certification
status, and in October 2006, the Court of Common Pleas certified the class
action status of the litigation. In its Order certifying the class action,
the
Court of Common Pleas left open the possible decertification of the class
if the fees, costs and expenses charged by GLS are in accordance with
public policy considerations as well as Pennsylvania statute and relevant
ordinance. The Company successfully sought the stay of this action pending
the outcome of other litigation before the Pennsylvania Supreme Court in
which
GLS is not directly involved but has filed an Amicus brief in support of
the
defendants. Several of the allegations in that lawsuit are similar to
those being made against GLS in this litigation. Plaintiffs have not
enumerated its damages in this matter, and we believe that the ultimate outcome
of this litigation will not have a material impact on the Company’s financial
condition, but may have a material impact on its reported results for the
particular period presented.
Dynex
Capital, Inc. and Dynex Commercial, Inc. (“DCI”), a former affiliate and now
known as DCI Commercial, Inc., are appellees (or “respondents”) in the Court of
Appeals for the Fifth Judicial District of Texas at Dallas, related to the
matter of Basic Capital Management et al (collectively, “BCM” or “the
Plaintiffs”) versus Dynex Commercial, Inc. et al. The appeal seeks to
overturn a judgment from a lower court in the Company’s and DCI’s favor which
denied recovery to Plaintiffs and to have a judgment entered in favor of
Plaintiffs based on a jury award for damages, all of which was set aside
by the
trial court as discussed further below. In the alternative, Plaintiffs are
seeking a new trial. The appeal relates to a suit filed against the
Company and DCI in 1999, alleging, among other things, that DCI and Dynex
Capital, Inc. failed to fund tenant improvement or other advances allegedly
required on various loans made by DCI to BCM, which loans were subsequently
acquired by the Company; that DCI breached an alleged $160 million “master” loan
commitment entered into in February 1998; and that DCI breached another alleged
loan commitment of approximately $9 million. The original trial
commenced in January 2004, and, in February 2004, the jury in the case rendered
a verdict in favor of one of the Plaintiffs and against the Company on the
alleged breach of the loan agreements for tenant improvements and awarded
that
Plaintiff damages in the amount of $0.25 million. The jury entered a separate
verdict against DCI in favor of BCM under two mutually exclusive damage models,
for $2.2 million and $25.6 million, respectively. The jury found in favor
of DCI
on the alleged $9 million loan commitment, but did not find in favor of DCI
for
counterclaims made against BCM. The jury also awarded the Plaintiffs attorneys’
fees in the amount of $2.1 million. After considering post-trial
motions, the presiding judge entered judgment in favor of the Company and
DCI,
effectively overturning the verdicts of the jury and dismissing damages awarded
by the jury. DCI is a former affiliate of Dynex Capital, Inc., and
management does not believe that the Company will have any obligation for
amounts, if any, awarded to the Plaintiffs as a result of the actions of
DCI.
The Court of Appeals heard oral arguments in this matter in April 2006 but
has
not yet rendered its decision.
Dynex
Capital, Inc. and MERIT Securities Corporation, a subsidiary, are defendants
in
a putative class action complaint alleging violations of the federal securities
laws in the United States District Court for the Southern District of New
York
(“District Court”) by the Teamsters Local 445 Freight Division Pension Fund
("Teamsters"). The complaint was filed on February 11, 2005, and purports
to be
a class action on behalf of purchasers between February 2000 and May 2004
of
MERIT Series 12 and MERIT Series 13 securitization financing bonds (the
“Bonds”), which are collateralized by manufactured housing loans. The
complaint seeks unspecified damages and alleges, among other things,
misrepresentations in connection with the issuance of and subsequent reporting
on the Bonds. The complaint initially named the Company’s former president and
its current Chief Operating Officer as defendants. In February
2006, the District Court dismissed the claims against the former president
and
current Chief Operating Officer, but did not dismiss the claims against Dynex
Capital, Inc. or MERIT (“together, the Corporate Defendants”). The Corporate
Defendants moved to certify an interlocutory appeal of this order to the
United
States Court of Appeals for the Second Circuit (“Second Circuit”). On June 2,
2006, the District Court granted the Corporate Defendants’ motion. On September
14, 2006, the Second Circuit granted the Corporate Defendants’ petition to
accept the certified order for interlocutory appeal. On March 2, 2007, the
parties completed briefing in the Second Circuit and are awaiting oral
argument. The Company has evaluated the allegations made in the
complaint and believes them to be without merit and intends to vigorously
defend
itself against them.
10
Although
no assurance can be given with respect to the ultimate outcome of the above
litigation, the Company believes the resolution of these lawsuits will not
have
a material effect on our consolidated balance sheet but could materially
affect
our consolidated results of operations in a given year.
NOTE
13 – STOCK BASED COMPENSATION
Pursuant
to Dynex’s 2004 Stock Incentive Plan, as approved by the shareholders at Dynex’s
2005 annual shareholders’ meeting (the “Stock Incentive Plan”), Dynex may grant
to eligible officers, directors and employees stock options, stock appreciation
rights (“SARs”) and restricted stock awards. An aggregate of
1,500,000 shares of common stock is available for distribution pursuant to
the
Stock Incentive Plan. Dynex may also grant dividend equivalent rights
(“DERs”) in connection with the grant of options or SARs.
On
May
25, 2007, Dynex granted options to acquire an aggregate of 25,000 shares
of
common stock to its directors under the Stock Incentive Plan. The
options vested immediately, expire on May 25, 2012 and have an exercise price
of
$9.02 per share, which was 110% of the closing price of the stock on the
grant
date. The weighted average grant-date fair value of the options granted was
$1.69 on the grant date using the assumptions set forth below.
As
of
June 30, 2007, Dynex has three outstanding SARs grants and two outstanding
option grants with a total of 280,222 SARs shares and 95,000 option shares
outstanding. The portion of these shares that are fully vested are 82,399
SARs
shares and 95,00 option shares. Dynex recognized stock based
compensation expense of $135 and $78 for the three months ended June 30,
2007
and 2006, respectively, and $207 and $223 for the six months ended June 30,
2007
and 2006, respectively. The total compensation cost related to
non-vested awards not yet recognized was $518 and $352 at June 30, 2007 and
2006, respectively.
The
fair
value of SARs and options awarded is estimated on the date of grant using
the
Black-Scholes option valuation model using the assumptions in the table
below.
Options
Granted
|
SARs
Granted
|
|||
May
25, 2007
|
January
3, 2005
|
January
12, 2006
|
January
3, 2007
|
|
Expected
volatility
|
15.7%
|
16.3%–17.0%
|
16.3%–20.6%
|
19.8%–26.4%
|
Weighted-average
volatility
|
15.7%
|
16.3%
|
18.0%
|
21.6%
|
Expected
dividends
|
0%
|
0%
|
0%
|
0%
|
Expected
term (in months)
|
30
|
14
|
13
|
11
|
Risk-free
rate
|
4.80%
|
4.92%
|
4.94%
|
4.96%
|
NOTE
14 – RECENT ACCOUNTING PRONOUNCEMENTS
In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities.” SFAS 159 permits entities to choose
to measure many financial instruments, and certain other items, at fair value.
SFAS 159 applies to reporting periods beginning after November 15, 2007.
We are
currently evaluating the potential impact on adoption of SFAS 159.
In
September 2006, the FASB issued SFAS No. 157, “Fair Value
Measurements”, which defines fair value, establishes a framework for measuring
fair value in generally accepted accounting principles and expands disclosures
about fair value measurements. SFAS 157 is effective for fiscal years
beginning after November 15, 2007 and all interim periods within those
fiscal years. We are currently evaluating the impact, if any, that SFAS 157
may have on our financial statements.
11
In
June
2007, the American Institute of Certified Public Accountants (“AICPA”) issued
Statement of Position (“SOP”) 07-01, “Clarification of the Scope of the Audit
and Accounting Guide Investment Companies and Accounting by Parent Companies
and
Equity Method Investors for Investments in Investment Companies” (“SOP 07-1”).
SOP 07-1 provides guidance for determining whether an entity is within the
scope
of the AICPA Audit and Accounting Guide Investment Companies. The SOP is
effective for fiscal years beginning on or after December 15, 2007. While
the
Company maintains an exemption from the Investment Company Act of 1940, as
amended and is therefore not regulated as an investment company, it is
none-the-less in the process of assessing whether SOP 07-1 is
applicable.
The
following discussion and analysis of the financial condition and results
of
operations of the Company as of and for the three-month and six-month periods
ended June 30, 2007 should be read in conjunction with the Company’s Condensed
Consolidated Financial Statements (unaudited) and the accompanying
Notes to Condensed Consolidated Financial Statements (unaudited) included
in
this report.
The
Company is a specialty finance company organized as a real estate investment
trust (REIT) that invests in loans and securities consisting principally
of
single family residential and commercial mortgage loans. The Company
finances these loans and securities through a combination of non-recourse
securitization financing, repurchase agreements, and equity. Dynex employs
financing in order to increase the overall yield on its invested
capital.
The
Company continues to focus its efforts in the near-term on managing its current
investment portfolio to maximize cash flow, while evaluating longer-term
opportunities for redeployment of its capital. Recent disruptions in
the fixed income markets, particularly the residential mortgage market, may
present investment opportunities for the Company in the near
term. These disruptions have caused volatility in asset prices,
causing such asset prices to decline, correspondingly increasing
yields. Equity prices on companies which originate or invest in these
securities have also declined. Management and the Board of Directors
remain focused on finding investments with acceptable risk-adjusted returns,
and
believe volatility in the fixed income markets will continue for the foreseeable
future.
CRITICAL
ACCOUNTING POLICIES
The
discussion and analysis of the Company’s financial condition and results of
operations are based in large part upon its consolidated financial statements,
which have been prepared in conformity with accounting principles generally
accepted in the United States of America. The preparation of the
financial statements 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 revenue and expenses during the reported
period. Actual results could differ from those
estimates.
Critical
accounting policies are defined as those that are reflective of significant
judgments or uncertainties, and which may result in materially different
results
under different assumptions and conditions, or the application of which may
have
a material impact on the Company’s financial statements. The
following are the Company’s critical accounting policies.
Consolidation
of Subsidiaries. The consolidated financial statements represent our
accounts after the elimination of intercompany transactions. We
consolidate entities in which we own more than 50% of the voting equity and
control of the entity does not rest with others. We follow the equity
method of accounting for investments in which we own greater than a 20% and
less
than a 50% interest in partnerships and corporate joint ventures or when
we are
able to influence the financial and operating policies of the investee but
own
less than 50% of the voting equity. For all other investments, the
cost method is applied.
12
Securitization.
We have securitized loans and
securities in a securitization financing transaction by transferring financial
assets to a wholly owned trust, and the trust issues non-recourse bonds pursuant
to an indenture. Generally, we retain some form of control over the
transferred assets, and/or the trust is not deemed to be a qualified special
purpose entity. In instances where the trust is deemed not to be a
qualified special purpose entity, the trust is included in our consolidated
financial statements. A transfer of financial assets in which we
surrender control over those assets is accounted for as a sale to the extent
that consideration other than beneficial interests in the transferred assets
is
received in exchange. For accounting and tax purposes, the loans and
securities financed through the issuance of bonds in a securitization financing
transaction are treated as our assets, and the associated bonds issued are
treated as our debt as securitization financing. We may retain
certain of the bonds issued by the trust, and we generally will transfer
collateral in excess of the bonds issued. This excess is typically
referred to as over-collateralization. Each securitization trust
generally provides us with the right to redeem, at our option, the remaining
outstanding bonds prior to their maturity date.
Impairments. We
evaluate all securities in our investment portfolio for other-than-temporary
impairments. A security is generally defined to be
other-than-temporarily impaired if, for a maximum period of three consecutive
quarters, the carrying value of such security exceeds its estimated fair
value
and we estimate, based on projected future cash flows or other fair value
determinants, that the fair value will remain below the carrying value for
the
foreseeable future. If an other-than-temporary impairment is deemed
to exist, we record an impairment charge to adjust the carrying value of
the
security down to its estimated fair value. In certain instances, as a
result of the other-than-temporary impairment analysis, the recognition or
accrual of interest will be discontinued and the security will be placed
on
non-accrual status.
We
consider impairments of other investments to be other-than-temporary when
the
fair value remains below the carrying value for three consecutive quarters.
If
the impairment is determined to be other-than-temporary, an impairment charge
is
recorded in order to adjust the carrying value of the investment to its
estimated value.
Allowance
for Loan Losses. We have credit risk on loans pledged in
securitization financing transactions and classified as securitized finance
receivables in its investment portfolio. An allowance for loan losses
has been estimated and established for currently existing probable
losses. Factors considered in establishing an allowance include
current loan delinquencies, historical cure rates of delinquent loans, and
historical and anticipated loss severity of the loans as they are
liquidated. The allowance for loan losses is evaluated and adjusted
periodically by management based on the actual and estimated timing and amount
of probable credit losses, using the above factors, as well as industry loss
experience. Where loans are considered homogeneous, the allowance for
loan losses is established and evaluated on a pool basis. Otherwise,
the allowance for loan losses is established and evaluated on a loan-specific
basis. Provisions made to increase the allowance are a current period
expense to operations. Single-family loans are considered impaired
when they are 60-days past due. Commercial mortgage loans are
evaluated on an individual basis for impairment. Generally, a
commercial loan with a debt service coverage ratio of less than one is
considered impaired. However, based on the attributes of the
respective loan, or the attributes of the underlying real estate
which secures the loan, commercial loans with a debt service coverage ratio
less
than one may not be considered impaired; conversely, commercial loans with
a
debt service coverage ratio greater than one may be considered
impaired. Certain of the commercial mortgage loans are covered by
loan guarantees that limit the Company’s exposure on these loans. The
level of allowance for loan losses required for these loans is reduced by
the
amount of applicable loan guarantees. The Company’s actual credit
losses may differ from the estimates used to establish the
allowance.
13
FINANCIAL
CONDITION
Below
is
a discussion of the Company's financial condition.
(amounts
in thousands except per share data)
|
June
30,
2007
|
December
31, 2006
|
||||||
Investments:
|
||||||||
Securitized
mortgage loans
|
$ |
319,507
|
$ |
346,304
|
||||
Investment
in joint venture
|
39,296
|
37,388
|
||||||
Securities
|
13,446
|
13,143
|
||||||
Other
investments
|
2,239
|
2,802
|
||||||
Other
loans
|
3,438
|
3,929
|
||||||
Securitization
financing
|
201,046
|
211,564
|
||||||
Repurchase
agreements
|
80,965
|
95,978
|
||||||
Obligation
under payment agreement
|
16,829
|
16,299
|
||||||
Shareholders’
equity
|
139,386
|
136,538
|
||||||
Common
book value per share
|
8.01
|
7.78
|
Securitized
finance receivables.Securitized finance receivables decreased to $319.5
million at June 30, 2007 compared to $346.3 million at December 31, 2006.
This
decrease of $26.8 million is primarily the result of $27.7 million of principal
payments during the period, including $16.2 million and $5.2 million of
unscheduled principal payments on single-family and commercial mortgage loans,
respectively. These decreases were partially offset by a decrease in
the allowance for loan losses of $1.0 million net of collateral
losses.
Investment
in joint venture. Investment in joint venture increased to $39.3
million at June 30, 2007 from $37.4 million at December 31,
2006. This increase of $1.9 million is primarily the result of the
Company recognizing its interest in the earnings of the joint venture of
$1.3
million and its proportionate interest in the increase in the value of the
joint
venture’s available for sale securities of $0.6 million over the six month
period ended June 30, 2007, which is included in other comprehensive
income.
Securities.Securities
increased during the six months ended June 30, 2007 by $0.3 million, to $13.4
million at June 30, 2007 from $13.1 million at December 31, 2006 due primarily
to the purchase of a $5.6 million adjustable-rate mortgage backed
security. This increase was partially offset by principal payments of
$5.1 million received on this and other securities during the
period.
Other
investments. Other investments decreased from $2.8 million at
December 31, 2006 to $2.2 million at June 30, 2007. This decrease is primarily
the result of net collections on delinquent property tax receivables, including
proceeds from the sale of real estate owned of $0.3 million during the period
and a decrease in the value of the delinquent tax lien security of $0.3 million,
which was recorded as an unrealized loss in accumulated other comprehensive
income.
Other
loans. Other loans decreased by $0.5 million from $3.9 million
at December 31, 2006 to $3.4 million at June 30, 2007 primarily as the result
of
scheduled and unscheduled principal payments during the period.
Securitization
financing. Securitization financing decreased $10.5 million,
from $211.6 million at December 31, 2006 to $201.0 million at June 30, 2007.
This decrease was primarily a result of principal payments of $9.5 million
received on the associated securitized finance receivables pledged which
were
used to pay down the securitization financing in accordance with the respective
indentures and $1.0 million of net amortization of bond premiums
and deferred costs associated with the financing.
14
Repurchase
Agreements. The balance of repurchase agreements declined to $81.0 million
at June 30, 2007 from $96.0 million at December 31, 2006. The decrease was
due
to net repayments of $15.0 million during the period as a result of principal
received on the underlying investments being financed.
Obligation
under payment agreement. The obligation under payment agreement increased
to $16.8 million at June 30, 2007 from $16.3 million at December 31,
2006. The increase was primarily a result of an increase in the
Company’s estimated future payments to be made under this agreement of $0.6
million and $0.8 million of discount amortization during the
quarter. Those increases were partially offset by payments made under
the agreement of $0.8 million during the quarter.
Shareholders’
equity. Shareholders' equity increased to $139.4 million at June
30, 2007 from $136.5 million at December 31, 2006 primarily as a result of
the
Company’s earnings of $4.6 million for the period, which was partially offset by
preferred stock dividends of $2.0 million for the same period.
Supplemental
Discussion of Investments
The
Company evaluates and manages its investment portfolio in large part based
on
its net capital invested in that particular investment. Net capital
invested is generally defined as the cost basis of the investment net of
the
associated financing for that investment. For securitized
finance receivables, unless otherwise noted, the securitization financing
is
recourse only to the finance receivables pledged and is, therefore, not a
general obligation of the Company, the risk on the Company’s investment in
securitized finance receivables from an economic point of view is limited
to its
net retained investment in the securitization trust.
Below
is
the net basis of the Company’s investments as of June 30,
2007. Included in the table is an estimate of the fair value of the
net investment. The fair value of the net investment in securitized
finance receivables is based on the present value of the projected cash flow
from the collateral, adjusted for the impact and assumed level of future
prepayments and credit losses, less the projected principal and interest
due on
the securitization financing bonds owned by third parties. The fair
value of securities is based on quotes obtained from third-party dealers,
or, as
is the case for the majority of our investments, calculated by discounting
estimated future cash flows at market rates. For securities and other
investments, the Company may employ leverage to enhance its overall returns
on
the net capital invested in these particular assets.
15
June
30, 2007
|
||||||||||||||||
(amounts
in thousands)
|
Amortized
cost
basis
|
Financing
|
Net
basis
|
Fair
value
of
net basis
|
||||||||||||
Securitized
finance receivables: (1)
|
||||||||||||||||
Single
family mortgage loans (2)
|
$ |
99,683
|
$ |
80,965
|
$ |
18,718
|
$ |
19,097
|
||||||||
Commercial
mortgage loans
|
222,629
|
201,046
|
21,583
|
20,553
|
||||||||||||
Allowance
for loan losses
|
(2,805 | ) |
–
|
(2,805 | ) |
–
|
||||||||||
319,507
|
282,011
|
37,496
|
39,650
|
|||||||||||||
Securities:
(3)
|
||||||||||||||||
Investment
grade single-family
|
11,478
|
–
|
11,478
|
11,608
|
||||||||||||
Non-investment
grade single-family
|
324
|
–
|
324
|
510
|
||||||||||||
Equity
and other
|
1,237
|
–
|
1,237
|
1,328
|
||||||||||||
13,039
|
–
|
13,039
|
13,446
|
|||||||||||||
Investment
in joint venture(4)
|
39,296
|
–
|
39,296
|
38,628
|
||||||||||||
Obligation
under payment agreement(1)
|
–
|
16,829
|
(16,829 | ) | (16,729 | ) | ||||||||||
Other
loans and investments(3)
|
5,889
|
–
|
5,889
|
6,360
|
||||||||||||
Net
unrealized gain
|
195
|
–
|
195
|
–
|
||||||||||||
Total
|
$ |
377,926
|
$ |
298,840
|
$ |
79,086
|
$ |
81,355
|
||||||||
|
(1)
|
Fair
values for securitized finance receivables and the obligation under
payment agreement are based on discounted cash flows using assumptions
set
forth in the table below, inclusive of amounts invested in redeemed
securitization financing bonds.
|
|
(2)
|
Financing
for single-family mortgage loans consists of repurchase
agreements.
|
|
(3)
|
Fair
values of securities are based on dealer quotes, if
available. Where dealer quotes are not available, fair values
are calculated as the net present value of expected future cash
flows,
discounted at 16%. Expected cash flows for both securitized
finance receivables and securities were based on the forward LIBOR
curve
as of June 30, 2007, and incorporate the resetting of the interest
rates
on the adjustable rate assets to a level consistent with projected
prevailing rates. Increases or decreases in interest rates and
index
levels from those used would impact the calculation of fair value,
as
would differences in actual prepayment speeds and credit losses
versus the
assumptions set forth above.
|
|
(4)
|
Fair
value for investment in joint venture represents Dynex’s share of the
joint assets valued using methodologies and assumptions consistent
with
Note 1 and 3 above.
|
16
The
following table summarizes the assumptions used in estimating fair value
for our
net investment in securitized finance receivables and the cash flow related
to
those net investments during 2007.
Fair
Value Assumptions
|
|||||
Loan
type
|
Weighted-average
prepayment speeds
|
Losses
|
Weighted-average
discount
rate(1)
|
Weighted
average
maturity
(months)
|
(amounts
in thousands)
2007
Cash Flow (2)
|
Single-family
mortgage loans
|
30%
CPR
|
0.2%
annually
|
16%
|
195
|
$ 5,078
|
Commercial
mortgage loans(3)
|
(4)
|
0.8%
annually
|
16%
|
(5)
|
$ 1,222
|
(1)
|
Represents
management’s estimate of the market discount rate that would be used in a
transaction between a willing buyer and a willing
seller.
|
(2)
|
Represents
the excess of the cash flows received on the collateral pledged
over the
cash flow required to service the related securitization
financing.
|
(3)
|
Includes
loans pledged to two different securitization
trusts.
|
(4)
|
Assumed
CPR speeds generally are governed by underlying pool characteristics,
prepayment lock-out provisions, and yield maintenance
provisions. Loans currently delinquent in excess of 30 days are
assumed liquidated in six months at a loss amount that is calculated
for
each loan based on its specific
facts.
|
(5)
|
Cash
flow termination dates are modeled based on the repayment dates
of the
loans or optional redemption dates of the underlying securitization
financing bonds. The assumed weighted average maturity for MCA1
and CCA2 is 133 months and 83 months,
respectively.
|
The
following table presents the Net Basis of Investments included in the “Estimated
Fair Value of Net Investment” table above by their rating
classification. Investments in the unrated and non-investment grade
classification primarily include other loans that have not been given a rating
but that are substantially seasoned and performing
loans. Securitization over-collateralization generally includes the
excess of the securitized finance receivable collateral pledged over the
outstanding bonds issued by the securitization trust.
(amounts
in thousands)
|
June
30, 2007
|
|||
Investments:
|
||||
AAA
rated and agency MBS fixed income securities
|
19,764
|
|||
AA
and A rated fixed income securities
|
1,246
|
|||
Unrated
and non-investment grade
|
7,704
|
|||
Securitization
over-collateralization
|
11,076
|
|||
Investment
in joint venture
|
39,296
|
|||
$ |
79,086
|
|||
Supplemental
Discussion of Common Equity Book Value
We
believe that our shareholders, as well as shareholders of other companies
in the
mortgage REIT industry, consider book value per common share an important
measure. Our reported book value per common share is based on the
carrying value our assets and liabilities as recorded in the consolidated
financial statements in accordance with generally accepted accounting
principles. A substantial portion of our assets are carried on a
historical, or amortized, cost basis and not at estimated fair
value. The table included in the “Supplemental Discussion of
Investments” section above compares the amortized cost basis of our investments
to their estimated fair value based on assumptions set forth in the
table.
17
We
believe that book value per common share, adjusted to reflect the carrying
value
of investments at their fair value (hereinafter referred to as “Adjusted Common
Equity Book Value”), is also a meaningful measure for our shareholders,
representing effectively our estimated going-concern value. The
following table calculates Adjusted Common Equity Book Value and Adjusted
Common
Equity Book Value per share using the estimated fair value information contained
in the “Estimated Fair Value of Net Investment” table above. The
amounts set forth in the table in the Adjusted Common Equity Book Value column
include all of our assets and liabilities at their estimated fair values,
and
exclude any value attributable to our tax net operating loss carryforwards
and
other matters that might impact our value. Amounts included in this
table are not meant to represent the liquidation value of the
Company.
June
30, 2007
|
||||||||
(amounts
in thousands)
|
Book
Value
|
Adjusted
Common Equity Book Value
|
||||||
Total
investment assets (per table above)
|
$ |
79,086
|
$ |
81,355
|
||||
Cash
and cash equivalents
|
62,556
|
62,556
|
||||||
Other
assets and liabilities, net
|
(2,256 | ) | (2,256 | ) | ||||
139,386
|
141,656
|
|||||||
Less: Preferred
stock redemption value
|
(42,215 | ) | (42,215 | ) | ||||
Common
equity book value and adjusted book value
|
$ |
97,171
|
$ |
99,441
|
||||
Common
equity book value per share and adjusted book value per
share
|
$ |
8.01
|
$ |
8.19
|
RESULTS
OF OPERATIONS
(amounts
in thousands except per share information)
|
Three
Months Ended
June
30,
|
Six
Months Ended
June
30,
|
||||||||||||||
2007
|
2006
|
2007
|
2006
|
|||||||||||||
Net
interest income
|
$ |
2,963
|
$ |
2,543
|
$ |
5,424
|
$ |
4,831
|
||||||||
Recapture
of provision for loan losses
|
702
|
–
|
1,225
|
119
|
||||||||||||
Net
interest income after provision for loan losses
|
3,665
|
2,543
|
6,649
|
4,950
|
||||||||||||
Equity
in earnings of joint venture
|
672
|
–
|
1,302
|
–
|
||||||||||||
Other
(expense) income
|
(478 | ) |
121
|
(1,018 | ) |
230
|
||||||||||
General
and administrative expenses
|
(1,163 | ) | (1,165 | ) | (2,290 | ) | (2,492 | ) | ||||||||
Net
income
|
2,702
|
1,615
|
4,643
|
2,828
|
||||||||||||
Preferred
stock charge
|
(1,003 | ) | (1,003 | ) | (2,005 | ) | (2,039 | ) | ||||||||
Net
income to common shareholders
|
1,699
|
612
|
2,638
|
789
|
||||||||||||
Net
income per common share:
|
||||||||||||||||
Basic and
diluted
|
$ |
0.14
|
$ |
0.05
|
$ |
0.22
|
$ |
0.06
|
||||||||
18
Three
Months Ended June 30, 2007 Compared to Three Months Ended June 30,
2006.
Net
interest income increased from $2.5 million to $3.0 million for the quarter
ended June 30, 2007 from the same period in 2006 primarily as a result of
the
derecognition of a pool of securitized commercial mortgage loans in the third
quarter of 2006 that contributed $0.4 million of net interest expense for
second
quarter of 2006, an increase in the net amortization of asset discounts and
liability premiums of $0.2 million related to increased commercial loan
prepayments, and a $0.3 million increase in interest income on cash and cash
equivalents related to an increase in both the average balance and rate on
cash
equivalents. These increases were partially offset by $0.4 million of interest
expense recognized on the obligation under payment agreement during the second
quarter of 2007, which was not outstanding during the second quarter of
2006.
Net
interest income after recapture of provision for loan losses for the three
months ended June 30, 2007 increased to $3.7 million from $2.5 million for
the
same period for 2006. Recapture of provision for loan losses
increased $0.7 million for the second quarter of 2006 primarily due to
improvement in the performance of our commercial mortgage loan portfolio
and
decreased single-family mortgage loan delinquencies compared to the second
quarter of 2006.
The
Company recognized $0.7 million of equity in the earnings of a joint venture,
which it formed in the third quarter of 2006. The joint venture’s
earnings are primarily derived from interest income earned on commercial
mortgage backed securities and cash equivalents.
Other
income decreased $0.6 million from other income of $0.1 million for the second
quarter of 2006 to other expense of $0.5 million for the second quarter of
2007. The decrease is primarily due to a $0.4 million charge taken to
adjust mortgage servicing rights and obligations to estimated fair value,
which
resulted from a decrease in estimated loss rate on the underlying
loans. In addition, included in the second quarter 2006 was $0.2
million of other income received on certain of its securitized commercial
mortgage loans that did not recur in 2007.
Six
Months Ended June 30, 2007 Compared to Six Months Ended June 30,
2006.
Net
interest income increased from $4.8 million for the six months ended June
30,
2006 to $5.4 million for the same period in 2007 primarily as a result of
the
derecognition of a pool of securitized commercial mortgage loans in the third
quarter of 2006 that contributed $1.0 million of net interest expense for
six
months ended June 30, 2006 compared to the same period in 2007, an increase
in
the net amortization of asset discounts and liability premiums of $0.6 million
related to increased commercial loan prepayments, and a $0.8 million increase
in
interest income on cash and cash equivalents related to an increase in both
the
average balance and rate on cash equivalents. These increases
were partially offset by $0.8 million of interest expense recognized on the
obligation under payment agreement during the six months ended June 30, 2007,
which was not outstanding during the same period in 2006 and a $1.0 million
decrease in net interest income related to decreases in our non-cash investment
portfolio as those investments have paid down.
Net
interest income after recapture of provision for loan losses for the six
months
ended June 30, 2007 increased to $6.6 million from $4.9 million for the same
period for 2006. Recapture of provision for loan losses increased $1.1 million
to $1.2 million for the six months ended June 30, 2007 primarily due to
improvement in the performance of our commercial mortgage loan portfolio
and
decreased single-family mortgage loan delinquencies compared to
2006.
The
Company recognized $1.3 million of equity in the earnings of its joint
venture.
Other
income decreased $1.2 million from other income of $0.2 million for the six
months ended June 30, 2006 to other expense of $1.0 million for the same
period
in 2007. The decrease is primarily related to a $0.6 million charge
taken during the period to increase the obligation under payment agreement
for
an increase in the estimated future payment to be made under the agreement;
and
a $0.3 million charge taken to adjust our mortgage servicing rights and
obligations to estimated fair value, which resulted from a decrease in estimated
loss rate on the underlying loans. In addition, included in the
second quarter 2006 was $0.3 million of other income received on certain
of its
securitized commercial mortgage loans that did not recur in 2007.
19
General
and administrative expense decreased to $2.3 million for the six months ended
June 30, 2007 from $2.5 million for the same period in 2006. This decrease
was primarily the result of the reductions in expenses associated with the
Company's tax lien servicing operations and a decline in litigation related
expenses.
The
following table summarizes the average balances of interest-earning assets
and
their average effective yields, along with the average interest-bearing
liabilities and the related average effective interest rates, for each of
the
periods presented. Assets that are on non-accrual status are excluded from
the table below for each period presented.
Average
Balances and Effective Interest Rates
Three
Months Ended June 30,
|
||||||||||||||||
2007
|
2006
|
|||||||||||||||
(amounts
in thousands)
|
Average
Balance
|
Effective
Rate
|
Average
Balance
|
Effective
Rate
|
||||||||||||
Interest-earning
assets(1):
|
||||||||||||||||
Securitized
finance receivables(2)
(3)
|
$ |
326,560
|
8.38 | % | $ |
691,725
|
7.59 | % | ||||||||
Securities
|
13,360
|
8.28 | % |
16,366
|
9.68 | % | ||||||||||
Other
loans
|
3,516
|
11.86 | % |
4,909
|
13.33 | % | ||||||||||
Total
interest-earning assets
|
$ |
343,436
|
8.41 | % | $ |
713,000
|
7.68 | % | ||||||||
Interest-bearing
liabilities:
|
||||||||||||||||
Securitization
financing(3)
|
$ |
202,470
|
6.59 | % | $ |
491,666
|
8.13 | % | ||||||||
Repurchase
agreements
|
84,793
|
5.42 | % |
118,147
|
5.09 | % | ||||||||||
Total
interest-bearing liabilities
|
$ |
287,263
|
6.24 | % | $ |
609,813
|
7.54 | % | ||||||||
Net
interest spread (3)
|
2.17 | % | 0.14 | % | ||||||||||||
Net
yield on average interest-earning investments (3)
(4)
|
3.19 | % | 1.22 | % | ||||||||||||
Cash
and cash equivalents
|
$ |
59,640
|
5.28 | % | $ |
40,905
|
4.54 | % | ||||||||
Net
yield on average interest-earning assets,
including
cash and cash equivalents
|
3.50 | % | 1.40 | % | ||||||||||||
(1)
|
Average
balances exclude adjustments made in accordance with Statement
of
Financial Accounting Standards No. 115, “Accounting for Certain
Investments in Debt and Equity Securities,” to record available-for-sale
securities at fair value.
|
(2)
|
Average
balances exclude funds held by trustees and bond issuance costs
for the
three months ended June 30, 2007 and 2006,
respectively.
|
(3)
|
Effective
rates are calculated excluding non-interest related securitization
financing expenses.
|
(4)
|
Net
yield on average interest-earning assets reflects net interest
income
excluding non-interest related securitization financing expenses
divided
by average interest earning assets for the period,
annualized.
|
20
Six
Months Ended June 30,
|
||||||||||||||||
2007
|
2006
|
|||||||||||||||
(amounts
in thousands)
|
Average
Balance
|
Effective
Rate
|
Average
Balance
|
Effective
Rate
|
||||||||||||
Interest-earning
assets(1):
|
||||||||||||||||
Securitized
finance receivables(2)
(3)
|
$ |
334,356
|
8.29 | % | $ |
707,712
|
7.63 | % | ||||||||
Securities
|
13,252
|
9.07 | % |
25,938
|
7.23 | % | ||||||||||
Other
loans
|
3,627
|
12.74 | % |
5,046
|
10.71 | % | ||||||||||
Total
interest-earning assets
|
$ |
351,235
|
8.37 | % | $ |
738,696
|
7.63 | % | ||||||||
Interest-bearing
liabilities:
|
||||||||||||||||
Securitization
financing(3)
|
$ |
205,435
|
7.13 | % | $ |
499,530
|
8.31 | % | ||||||||
Repurchase
agreements
|
88,652
|
5.43 | % |
123,243
|
4.90 | % | ||||||||||
Total
interest-bearing liabilities
|
$ |
294,087
|
6.62 | % | $ |
622,773
|
7.63 | % | ||||||||
Net
interest spread (3)
|
1.75 | % | 0.00 | % | ||||||||||||
Net
yield on average interest-earning investments (3)
(4)
|
2.82 | % | 1.20 | % | ||||||||||||
Cash
and cash equivalents
|
$ |
27,703
|
5.25 | % | $ |
30,408
|
4.53 | % | ||||||||
Net
yield on average interest-earning assets,
including
cash and cash equivalents
|
3.17 | % | 1.33 | % | ||||||||||||
(1)
|
Average
balances exclude adjustments made in accordance with Statement
of
Financial Accounting Standards No. 115, “Accounting for Certain
Investments in Debt and Equity Securities,” to record available-for-sale
securities at fair value.
|
(2)
|
Average
balances exclude funds held by trustees and bond issuance costs
for the
six months ended June 30, 2007 and 2006,
respectively.
|
(3)
|
Effective
rates are calculated excluding non-interest related securitization
financing expenses.
|
(4)
|
Net
yield on average interest-earning assets reflects net interest
income
excluding non-interest related securitization financing expenses
divided
by average interest earning assets for the period,
annualized.
|
The
net
interest spread increased 203 basis points to 2.17% for the three months
ended
June 30, 2007 from 0.14% for the same period in 2006. The net yield on average
interest earning assets for the three months ended June 30, 2007 increased
to
3.19% from 1.22% for the same period in 2006. The net interest spread
increased 175 basis points to 1.75% for the six months ended June 30, 2007
from
0.00% for the same period in 2006. The net yield on average interest earning
assets for the six months ended June 30, 2007 increased relative to the same
period in 2006, to 2.82% from 1.20%. The increase in the Company's net interest
spread for the three months ended June 30, 2007 compared to the same period
in
2006 can be attributed primarily to an increase of 72 basis points (80 basis
points for the six months ended June 30) as a result of the derecognition
of
$279.0 million of commercial mortgage loans contributed to a joint venture
in
2006, and an increase of 94 basis points (51 basis points for the six months
ended June 30) resulting from increase in amortization of premiums on
securitization financing due to the prepayment of three commercial mortgage
loans in June 2007. In addition, net interest spread on the Company’s
variable-rate single-family loan portfolio increased by 26 basis points (28
basis points for the six months ended June 30) as LIBOR-based securitization
financing rates flattened beginning in June 2006 while adjustable-rate
securitized receivables continued to reset.
21
The
following table summarizes the amount of change in interest income and interest
expense due to changes in interest rates versus changes in volume:
Three
Months Ended June 30, 2007 vs. 2006
|
||||||||||||
(amounts
in thousands)
|
Rate
|
Volume
|
Total
|
|||||||||
|
|
|
||||||||||
Securitized
finance receivables
|
$ |
1,241
|
$ | (7,529 | ) | $ | (6,288 | ) | ||||
Securities
|
(54 | ) | (65 | ) | (119 | ) | ||||||
Other
loans
|
(16 | ) | (43 | ) | (59 | ) | ||||||
Total
interest income
|
1,171
|
(7,637 | ) | (6,466 | ) | |||||||
Securitization
financing
|
(1,620 | ) | (5,035 | ) | (6,655 | ) | ||||||
Repurchase
agreements
|
94
|
(451 | ) | (357 | ) | |||||||
Total
interest expense
|
(1,526 | ) | (5,486 | ) | (7,012 | ) | ||||||
Net
interest income
|
$ |
2,697
|
$ | (2,151 | ) | $ |
546
|
|||||
Six
Months Ended June 30, 2007 vs. 2006
|
||||||||||||
(amounts
in thousands)
|
Rate
|
Volume
|
Total
|
|||||||||
|
|
|
||||||||||
Securitized
finance receivables
|
$ |
2,154
|
$ | (15,299 | ) | $ | (13,145 | ) | ||||
Securities
|
198
|
(535 | ) | (337 | ) | |||||||
Other
loans
|
46
|
(85 | ) | (39 | ) | |||||||
Total
interest income
|
2,398
|
(15,919 | ) | (13,521 | ) | |||||||
Securitization
financing
|
(2,611 | ) | (10,820 | ) | (13,431 | ) | ||||||
Repurchase
agreements
|
300
|
(914 | ) | (614 | ) | |||||||
Total
interest expense
|
(2,311 | ) | (11,734 | ) | (14,045 | ) | ||||||
Net
interest income
|
$ |
4,709
|
$ | (4,185 | ) | $ |
524
|
|||||
Note:
|
The
change in interest income and interest expense due to changes in
both
volume and rate, which cannot be segregated, has been allocated
proportionately to the change due to volume and the change due
to rate.
This table excludes non-interest related, securitization financing
expense, other interest expense, provision for credit losses
and dividends on equity
securities.
|
For
the
six months ended June 30, 2006 compared to the same period for 2007, average
interest-earning assets declined $387 million, or approximately 52%.
Approximately 67% of that decline resulted from the contribution of a commercial
loan securitization to a joint venture, previously discussed. Another large
portion of such reduction relates to paydowns on the Company's adjustable-rate
single-family mortgages.
22
Credit
Exposures. The Company’s predominate securitization structure is
non-recourse securitization financing, whereby loans and securities are pledged
to a trust, and the trust issues bonds pursuant to an indenture. Generally
these
securitization structures use over-collateralization, subordination, third-party
guarantees, reserve funds, bond insurance, mortgage pool insurance or any
combination of the foregoing as a form of credit enhancement. From an economic
point of view, the Company generally has retained a limited portion of the
direct credit risk in these securities. In many instances, we retained the
“first-loss” credit risk on pools of loans that we have
securitized.
The
following table summarizes the aggregate principal amount of certain of our
investments; the direct credit exposure we have retained (represented by
the
amount of over-collateralization pledged and subordinated securities owned
by
the Company), net of credit reserves and discounts; and the actual credit
losses
incurred for each quarter presented. Credit Exposure, Net of Credit Reserves
is
based on the credit risk retained by the Company, from an economic point
of
view, for the loans and securities pledged to the securitization trust plus
the
principal balance of any subordinated security owned by the
Company. Credit Exposure, Net of Credit Reserves decreased from the
second quarter 2006 by $10.4 million and increased from the fourth quarter
of
2006 by $0.2 million due to the derecognition of $279.0 million of receivables
and $254.5 million of related financing, in which the Company’s interests were
contributed to a joint venture. Actual credit losses continue to be
low based on the seasoning of the loans and securities owned by the
Company.
The
table
excludes other forms of credit enhancement from which the Company benefits
and,
based upon the performance of the underlying loans, may provide additional
protection against losses. These additional protections include loss
reimbursement guarantees with a remaining balance of $12.8 million and a
remaining deductible aggregating $0.5 million on $13.6 million of securitized
single-family mortgage loans which are subject to such reimbursement agreements;
guarantees aggregating $6.9 million on $72.3 million of securitized commercial
mortgage loans, whereby losses on such loans would need to exceed the respective
guarantee amount before the Company would incur credit losses; and $28.6
million
of securitized single-family mortgage loans which are subject to various
mortgage pool insurance policies whereby losses would need to exceed the
remaining stop loss of at least 100% on such policies before the Company
would
incur losses.
Credit
Reserves and Actual Credit Losses
(amounts
in millions)
|
Outstanding
Loan Principal Balance
|
Credit
Exposure, Net
of
Credit Reserves
|
Actual
Credit
Losses
|
Credit
Exposure, Net to Outstanding Loan Balance
|
||||||||||||
2006,
Quarter 2
|
$ |
693.8
|
$ |
33.1
|
$ |
6.6
|
4.77 | % | ||||||||
2006,
Quarter 3
|
378.2
|
21.5
|
0.1
|
5.68 | % | |||||||||||
2006,
Quarter 4
|
361.3
|
22.4
|
0.0
|
6.20 | % | |||||||||||
2007,
Quarter 1
|
344.6
|
22.3
|
0.4
|
6.47 | % | |||||||||||
2007,
Quarter 2
|
331.6
|
22.7
|
0.0
|
6.85 | % |
The
following tables summarize single-family mortgage loan and commercial mortgage
loan delinquencies as a percentage of the outstanding securitized finance
receivables balance for those securities in which we have retained a portion
of
the direct credit risk. The delinquencies as a percentage of all outstanding
securitized finance receivables balance have decreased to 2.5% at June 30,
2007
from 6.7% at June 30, 2006 primarily as a result of the liquidation or
prepayment of several delinquent commercial loans since the first quarter
2006.
We monitor and evaluate our exposure to credit losses and have established
reserves based upon anticipated losses, general economic conditions and trends
in the investment portfolio. At June 30, 2007, management believes the level
of
credit reserves is appropriate for currently existing losses within these
loan
pools.
Single
family mortgage loan delinquencies as a percentage of the outstanding loan
balance decreased by approximately 0.76% to 7.52% at June 30, 2007 from 8.28%
at
June 30, 2006 and decreased by 2.35% from 9.84% at December 31, 2006, reflecting
unusually high 30 to 90 day delinquencies at year-end 2006. The following
table
provides the percentage of delinquent single family loans.
23
Single-Family
Loan Delinquency Statistics
30
to 59 days
delinquent
|
60
to 89 days
delinquent
|
90
days and over
delinquent
(1)
|
Total
|
|
2006,
Quarter 2
|
4.51%
|
1.09%
|
2.68%
|
8.28%
|
2006,
Quarter 3
|
4.56%
|
1.28%
|
2.83%
|
8.67%
|
2006,
Quarter 4
|
4.90%
|
1.89%
|
3.05%
|
9.84%
|
2007,
Quarter 1
|
4.60%
|
0.08%
|
3.64%
|
9.04%
|
2007,
Quarter 2
|
3.83%
|
0.80%
|
2.89%
|
7.52%
|
For
commercial mortgage loans, there were no delinquencies at June 30, 2007,
down
from 1.36% percent of the outstanding securitized finance receivables at
December 31, 2006, as a previously delinquent commercial loan liquidated
in
March 2007. The improvement in commercial loan delinquencies over the
last four quarters is the result of continued seasoning of the loans, improving
economic conditions nationwide, the contribution of and resultant risk sharing
of a commercial loan securitization with a joint-venture arrangement and
the
prepayment or liquidation of previously delinquent loans. The joint
venture, in which the Company has a 49.875% interest, currently has a single
delinquent commercial mortgage loan with an unpaid principal balance of $1.4
million.
Commercial
Loan Delinquency Statistics (1)
30
to 59 days
delinquent
|
60
to 89 days
delinquent
|
90
days and over
delinquent(1)
|
Total
|
|
2006,
Quarter 2
|
1.09%
|
–%
|
5.15%
|
6.24%
|
2006,
Quarter 3
|
–%
|
–%
|
1.33%
|
1.33%
|
2006,
Quarter 4
|
–%
|
–%
|
1.36%
|
1.36%
|
2007,
Quarter 1
|
–%
|
–%
|
–%
|
–%
|
2007,
Quarter 2
|
–%
|
–%
|
–%
|
–%
|
(1)
|
Includes
foreclosures and real estate
owned.
|
RECENT
ACCOUNTING PRONOUNCEMENTS
In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities.” SFAS 159 permits entities to choose
to measure many financial instruments, and certain other items, at fair value.
SFAS 159 applies to reporting periods beginning after November 15, 2007.
We are
currently evaluating the potential impact on adoption of SFAS 159.
In
September 2006, the Financial Accounting Standards Board (“FASB”) issued
Statement of Financial Accounting Standards (“SFAS”) No. 157, “Fair Value
Measurements”, which defines fair value, establishes a framework for measuring
fair value in generally accepted accounting principles and expands disclosures
about fair value measurements. SFAS 157 is effective for fiscal years
beginning after November 15, 2007 and all interim periods within those
fiscal years. Earlier application is permitted provided that the reporting
entity has not yet issued interim or annual financial statements for that
fiscal
year. We are currently evaluating the impact, if any, that SFAS 157 may
have on our financial statements.
24
In
June
2007, the American Institute of Certified Public Accountants (“AICPA”) issued
Statement of Position (“SOP”) 07-01 “Clarification of the Scope of the Audit and
Accounting Guide Investment Companies and Accounting by Parent Companies
and
Equity Method Investors for Investments in Investment Companies” (“SOP 07-1”).
SOP 07-1 provides guidance for determining whether an entity is within the
scope
of the AICPA Audit and Accounting Guide Investment Companies (the “Guide”). The
SOP is effective for fiscal years beginning on or after December 15, 2007.
While
the Company maintains an exemption from the Investment Company Act of 1940,
as
amended (“Investment Company Act”) and is therefore not regulated as an
investment company, it is none-the-less in the process of assessing whether
SOP
07-1 is applicable.
LIQUIDITY
AND CAPITAL RESOURCES
The
Company has historically financed its operations from a variety of
sources. The Company’s primary source of funding its operations today
is the cash flow generated from the investment portfolio, which includes
net
interest income and principal payments and prepayments on these investments.
From the cash flow on our investment portfolio, the Company funds its operating
overhead costs, pays the dividend on the Series D Preferred Stock and services
any outstanding debt. The Company’s investment portfolio continues to
provide positive cash flow, which can be utilized for reinvestment
purposes.
Cash
flows from the investment portfolio for the three and six months ended June
30,
2007 were approximately $3.6 million and $8.2 million, respectively, which
includes approximately $2.8 million and $5.3 million, respectively, in principal
payments on securities. These cash flows are after payment of principal and
interest on the securitization financing and repurchase agreements financing
those investments.
Assuming
that short-term interest rates remain stable, the Company anticipates that
the
cash flow from its investment portfolio will sequentially decline in 2007
as the
investment portfolio continues to pay down, absent meaningful reinvestment
of
capital. The Company anticipates, however, that it will have sufficient cash
flow from the investment portfolio to meet all of its current obligations
on
both a short-term and long-term basis.
At
June
30, 2007, the Company had cash and equivalents of $62.6 million and unused
capacity on uncommitted repurchase agreement lines of $9.5
million. The Company has ample liquidity and capital resources to
fund its business.
The
Company views that investment opportunities for its capital may be more readily
available in the foreseeable future as disruptions in the fixed income markets,
particularly in the residential mortgage market, has caused a decline in
prices
on most residential mortgage securities. These disruptions have
caused volatility in asset prices, causing such asset prices to decline,
correspondingly increasing yields. Equity prices on companies which
originate or invest in these securities have also declined. As a
result, the Company has evaluated several potential investment opportunities
for
residential mortgage securities, but to date, have not made meaningful
investments on its capital. The timing of any reinvestment will depend on
the
investment opportunity available and whether in the opinion of management
and
the Board of Directors, such investment represents an acceptable risk-adjusted
return opportunity for the Company’s capital.
The
Company currently utilizes a combination of equity, securitization financing
and
repurchase agreement financing to finance its investment portfolio.
Securitization financing is recourse only to the assets pledged as collateral
to
support the financing and is not otherwise recourse to the Company. At June
30,
2007, the Company had $206.6 million of non-recourse securitization financing
outstanding, all of which carries a fixed rate of interest. The
maturity of each class of securitization financing is directly affected by
the
rate of principal prepayments on the related collateral and is not subject
to
margin call risk. Each series is also subject to redemption according to
specific terms of the respective indentures, generally on the earlier of
a
specified date or when the remaining balance of the bonds equals 35% or less
of
the original principal balance of the bonds.
25
Repurchase
agreement financing is recourse to the assets pledged, and to the Company
and
requires the Company to post margin (ie., collateral deposits in excess of
the
repurchase agreement financing). The repurchase agreement
counterparty at any time can request that the Company post additional
margin. Repurchase agreement financing is not committed financing to
the Company, and it generally renews or rolls every 30-days. The amounts
advanced to the Company by the repurchase agreement counterparty are determined
largely based on the fair value of the asset pledged to the
counterparty.
FORWARD-LOOKING
STATEMENTS
Certain
written statements in this Form 10-Q made by the Company that are not historical
fact constitute “forward-looking statements” within the meaning of Section 27A
of the Securities Act of 1933, as amended, and Section 21E of the Securities
Exchange Act of 1934, as amended. All statements contained in this Item as
well
as those discussed elsewhere in this Report addressing the results of
operations, our operating performance, events, or developments that we expect
or
anticipate will occur in the future, including statements relating to investment
strategies, net interest income growth, and earnings or earnings per share
growth, as well as statements expressing optimism or pessimism about future
operating results, are forward-looking statements. The forward-looking
statements are based upon management’s views and assumptions as of the date of
this report, regarding future events and operating performance and are
applicable only as of the dates of such statements. Such
forward-looking statements may involve factors that could cause the actual
results of the Company to differ materially from historical results or from
any
results expressed or implied by such forward-looking statements. The
Company cautions the public not to place undue reliance on forward-looking
statements, which may be based on assumptions and anticipated events that
do not
materialize.
Factors
that may cause actual results to differ from historical results or from any
results expressed or implied by forward-looking statements include the
following:
Reinvestment. Asset
yields today are generally lower than those assets sold or repaid, due to
lower
overall interest rates and more competition for these assets. Recently, we
have
generally been unable to find investments which have acceptable risk adjusted
yields. As a result, our net interest income has been declining, and may
continue to decline in the future, resulting in lower earnings per share
over
time. In order to maintain our investment portfolio size and our earnings,
we
need to reinvest a portion of the cash flows we receive into new interesting
earning assets. If we are unable to find suitable reinvestment opportunities,
the net interest income on our investment portfolio,investment cash flows
and
net income, all could be negatively impacted.
Economic
Conditions. We are affected by general economic
conditions. An increase in the risk of defaults and credit risk
resulting from an economic slowdown or recession could result in a decrease
in
the value of our investments and the over-collateralization associated with
our
securitization transactions. As a result of our being heavily invested in
cash
and cash equivalents and short-term high quality investments, a worsening
economy, however, could benefit the Company by creating opportunities for
us to
invest in assets that become distressed as a result of these worsening
conditions. These changes could have an effect on our financial
performance and the performance on our securitized loan pools.
Investment
Portfolio Cash Flow. Cash flows from the investment portfolio fund our
operations, the preferred stock dividend, and repayments of outstanding debt,
and are subject to fluctuation due to changes in interest rates, repayment
rates
and default rates and related losses, particularly given the high degree
of
internal structural leverage inherent in our securitized
investments. Cash flows from the investment portfolio are likely to
sequentially decline until we meaningfully begin to reinvest our
capital. There can be no assurances that we will be able to find
suitable investment alternatives for our capital, nor can there be assurances
that we will meet our reinvestment and return hurdles.
26
Defaults. Defaults
by borrowers on loans we securitized may have an adverse impact on our financial
performance, if actual credit losses differ materially from our estimates
or
exceed reserves for losses recorded in the financial statements. The
allowance for loan losses is calculated on the basis of historical experience
and management’s best estimates. Actual default rates or loss
severity may differ from our estimate as a result of economic
conditions. In addition, commercial mortgage loans are generally
large dollar balance loans, and a significant loan default may have an adverse
impact on the Company’s financial results. Such impact may include
higher provisions for loan losses and reduced interest income if the loan
is
placed on non-accrual.
Interest
Rate Fluctuations. Our income and cash flow depends on our ability to earn
greater interest on our investments than the interest cost to finance these
investments. Interest rates in the markets served by us generally rise or
fall
with interest rates as a whole. Approximately $246 million of our investments,
including loans and securities currently pledged as securitized finance
receivables and securities, are fixed-rate and $85 million of our investments
are variable rate. We currently finance these fixed-rate assets through $201
million of fixed rate securitization financing and $81 million of variable
rate
repurchase agreements. The net interest spread for these investments could
decrease during a period of rapidly rising short-term interest rates, since
the
investments generally have interest rates which reset on a delayed basis
and
have periodic interest rate caps; the related borrowing has no delayed resets
or
such interest rate caps.
Third-party
Servicers.Our loans and loans underlying securities are serviced by
third-party service providers. As with any external service provider, we
are
subject to the risks associated with inadequate or untimely services. Many
borrowers require notices and reminders to keep their loans current and to
prevent delinquencies and foreclosures. A substantial increase in our
delinquency rate that results from improper servicing or loan performance
in
general could harm our ability to securitize our real estate loans in the
future
and may have an adverse effect on our earnings.
Prepayments. Prepayments
by borrowers on loans securitized by the Company may have an adverse impact
on
our financial performance. Prepayments are expected to increase
during a declining interest rate or flat yield curve environment. Our
exposure to rapid prepayments is primarily (i) the faster amortization of
premium on the investments and, to the extent applicable, amortization of
bond
discount, and (ii) the replacement of investments in our portfolio with lower
yielding investments.
Competition. The
financial services industry is a highly competitive market in which we compete
with a number of institutions with greater financial resources. In
purchasing portfolio investments and in issuing securities, we compete with
other mortgage REITs, investment banking firms, savings and loan associations,
commercial banks, mortgage bankers, insurance companies, federal agencies
and
other entities, many of which have greater financial resources and a lower
cost
of capital than we do. Increased competition in the market and our
competitors greater financial resources have adversely affected the Company,
and
may continue to do so. Competition may also continue to keep pressure
on spreads resulting in the Company being unable to reinvest its capital
at
satisfactory risk-adjusted returns.
Regulatory
Changes. Our businesses as of and for the six months ended June
30, 2007 were not subject to any material federal or state regulation or
licensing requirements. However, changes in existing laws and
regulations or in the interpretation thereof, or the introduction of new
laws
and regulations, could adversely affect us and the performance of our
securitized loan pools or its ability to collect on its delinquent property
tax
receivables. We are a REIT and are required to meet certain tests in
order to maintain our REIT status as described in the discussion of “Federal
Income Tax Considerations”. If we should fail to maintain our REIT
status, we would not be able to hold certain investments and would be subject
to
income taxes.
Section
404 of the Sarbanes-Oxley Act of 2002. Based on our current
market capitalization, we are required to be compliant with the provisions
of
Section 404 of the Sarbanes-Oxley Act of 2002 in 2007. Failure to be
compliant may result in doubt in the capital markets about the quality and
adequacy of our internal disclosure controls. This could result in
our having difficulty in or being unable to raise additional capital in these
markets in order to finance our operations and future investments.
27
Other. The
following risks, which are discussed in more detail in the Company’s Annual
Report on Form 10-K for the period ended December 31, 2006, could also affect
our results of operations, financial condition and cash flows:
·
|
We
may be unable to invest in new assets with attractive yields, and
yields
on new assets in which we do invest may not generate attractive
yields,
resulting in a decline in our earnings per share over
time.
|
·
|
Our
ownership of certain subordinate interests in securitization trusts
subjects us to credit risk on the underlying loans, and we provide
for
loss reserves on these loans as required under
GAAP.
|
·
|
Certain
investments employ internal structural leverage as a result of
the
securitization process, and are in the most subordinate position
in the
capital structure, which magnifies the potential impact of adverse
events
on our cash flows and reported
results.
|
·
|
Our
efforts to manage credit risk may not be successful in limiting
delinquencies and defaults in underlying loans or losses on our
investments.
|
·
|
Prepayments
of principal on our investments, and the timing of prepayments,
may impact
our reported earnings and our cash
flows.
|
·
|
We
finance a portion of our investment portfolio with short-term recourse
repurchase agreements which subjects us to margin calls if the
assets
pledged subsequently decline in
value.
|
·
|
We
may be subject to the risks associated with inadequate or untimely
services from third-party service providers, which may harm our
results of
operations.
|
·
|
Interest
rate fluctuations can have various negative effects on us, and
could lead
to reduced earnings and/or increased earnings
volatility.
|
·
|
Our
reported income depends on accounting conventions and assumptions
about
the future that may change.
|
·
|
Failure
to qualify as a REIT would adversely affect our dividend distributions
and
could adversely affect the value of our
securities.
|
·
|
Maintaining
REIT status may reduce our flexibility to manage our
operations.
|
·
|
We
may fail to properly conduct our operations so as to avoid falling
under
the definition of an investment company pursuant to the Investment
Company
Act of 1940.
|
·
|
We
are dependent on certain key
personnel.
|
Market
risk generally represents the risk of loss that may result from the potential
change in the value of a financial instrument due to fluctuations in interest
and foreign exchange rates and in equity and commodity prices. Market risk
is
inherent to both derivative and non-derivative financial instruments, and
accordingly, the scope of our market risk management extends beyond derivatives
to include all market risk sensitive financial instruments. As a
financial services company, net interest margin comprises the primary component
of Dynex’s earnings and cash flows. Dynex is subject to risk
resulting from interest rate fluctuations to the extent that there is a gap
between the amount of the our interest-earning assets and the amount of
interest-bearing liabilities that are prepaid, mature or re-price within
specified periods.
28
The
Company monitors the aggregate cash flow, projected net yield and estimated
market value of its investment portfolio under various interest rate and
prepayment assumptions. While certain investments may perform poorly in an
increasing or decreasing interest rate environment, other investments may
perform well, and others may not be impacted at all.
The
Company focuses on the sensitivity of its investment portfolio cash flow,
and
measures such sensitivity to changes in interest rates. Changes in
interest rates are defined as instantaneous, parallel, and sustained interest
rate movements in 100 basis point increments. The Company estimates
its interest income cash flow for the next twenty-four months assuming interest
rates over such time period follow the forward LIBOR curve (based on 90-day
Eurodollar futures contracts) as of June 30, 2007. Once the base case
has been estimated, cash flows are projected for each of the defined interest
rate scenarios. Those scenario results are then compared against the
base case to determine the estimated change to cash flow. Cash flow
changes from interest rate swaps, caps, floors or any other derivative
instrument are included in this analysis.
The
following table summarizes the Company’s net interest income cash flow and
market value sensitivity analyses as of June 30, 2007. These analyses represent
management’s estimate of the percentage change in net interest margin cash flow
and value expressed as a percentage change of shareholders' equity, given
a
shift in interest rates, as discussed above. Certain investments,
with a carrying value of $2.2 million at June 30, 2007 are not considered
to be
interest rate sensitive and are excluded from the analysis below. The
“Base” case represents the interest rate environment as it existed as of June
30, 2007, at which time one-month LIBOR was 5.32% and six-month LIBOR was
5.39%. The base case net interest margin cash flow over the
twenty-four month projection period is $10.6 million, excluding net interest
margin on cash and cash equivalents, and $19.0 million, including net interest
margin on cash and cash equivalents.
The
analysis is heavily dependent upon the assumptions used in the
model. The effect of changes in future interest rates, the shape of
the yield curve or the mix of assets and liabilities may cause actual results
to
differ significantly from the modeled results. In addition, certain financial
instruments provide a degree of “optionality.” The most significant option
affecting our portfolio is the borrowers’ option to prepay the
loans. The model applies prepayment rate assumptions representing
management’s estimate of prepayment activity on a projected basis for each
collateral pool in the investment portfolio. The model applies the
same prepayment rate assumptions for all five cases indicated
below. The extent to which borrowers utilize the ability to exercise
their option may cause actual results to significantly differ from the
analysis. Furthermore, the projected results assume no additions or
subtractions to our portfolio, and no change to Dynex’s liability
structure. Historically, there have been significant changes in the
Company’s investment portfolio and the liabilities incurred by the Company. As a
result of anticipated prepayments on assets in the investment portfolio,
there
are likely to be such changes in the future.
Projected
Change in Net Interest Margin Cash Flow From Base
Case
|
||||||
Basis
Point Increase (Decrease) in Interest Rates
|
Excluding
Cash and Cash Equivalents
|
Including
Cash and Cash Equivalents
|
Projected
Change in Value, Expressed as a Percentage of Shareholders’ Equity (1)
|
|||
+200
|
(3.9)%
|
14.4%
|
(0.2)%
|
|||
+100
|
(0.7)%
|
7.9%
|
(0.0)%
|
|||
Base
|
–
|
–
|
–
|
|||
-100
|
0.7%
|
(7.9)%
|
0.0%
|
|||
-200
|
3.8%
|
(14.4)%
|
0.2%
|
(1)
|
Reflects
projected change in value based on change in net interest margin
cash flow
excluding cash and cash
equivalents.
|
29
The
Company’s interest rate rise is related both to the rate of change in short-term
interest rates and to the level of short-term interest
rates. Approximately $246 million of Dynex’s investment portfolio as
of June 30, 2007 is comprised of loans or securities that have coupon rates
that
are fixed. Approximately $85 million of its investment portfolio was
comprised of loans or securities that have coupon rates which adjust over
time
(subject to certain periodic and lifetime limitations) in conjunction with
changes in short-term interest rates. Approximately 69%, 11% and 9% of the
adjustable-rate loans underlying our securitized finance receivables are
indexed
to and reset based upon the level of six-month LIBOR, one-year constant maturity
treasury rate (CMT) and prime rate, respectively.
Generally,
during a period of rising short-term interest rates, our net interest income
earned and the corresponding cash flow on our investment portfolio will
decrease. The decrease of the net interest spread results from (i)
fixed-rate loans and investments financed with variable-rate debt, (ii) the
lag
in resets of the adjustable rate loans underlying the securitized finance
receivables relative to the rate resets on the associated borrowings and
(iii)
rate resets on the adjustable rate loans which are generally limited to 1%
every
six months or 2% every twelve months and subject to lifetime caps, while
the
associated borrowings have no such limitation. As to item (i), the Company
has
substantially limited its interest rate risk by match funding fixed rate
assets
and variable rate assets. As to item (ii) and (iii), as short-term interest
rates stabilize and the adjustable-rate loans reset, the net interest margin
may
be partially restored as the yields on the adjustable-rate loans adjust to
market conditions.
Net
interest income may increase following a fall in short-term interest rates.
This
increase may be temporary as the yields on the adjustable-rate loans adjust
to
the new market conditions after a lag period. The net interest spread may
also
be increased or decreased by the proceeds or costs of interest rate swap,
cap or
floor agreements, to the extent that Dynex has entered into such
agreements.
Item
4. Controls
and Procedures
(a)
|
Evaluation
of disclosure controls and
procedures.
|
Disclosure
controls and procedures are controls and other procedures that are designed
to
ensure that information required to be disclosed in the Company’s reports filed
or submitted under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the SEC’s rules and forms.
Disclosure controls and procedures include, without limitation, controls
and
procedures designed to ensure that information required to be disclosed in
the
Company’s reports filed under the Exchange Act is accumulated and communicated
to management, including the Company’s management, as appropriate, to allow
timely decisions regarding required disclosures.
As
of the
end of the period covered by this report, the Company carried out an evaluation
of the effectiveness of the design and operation of the Company’s disclosure
controls and procedures pursuant to Rule 13a-15 under the Exchange
Act. This evaluation was carried out under the supervision and with
the participation of the Company’s management, including the Company’s Principal
Executive Officer and Principal Financial Officer. Based upon that
evaluation, the Company’s management concluded that the Company’s disclosure
controls and procedures were effective.
In
conducting its review of disclosure controls, management concluded that
sufficient disclosure controls and procedures did exist to ensure that
information required to be disclosed in the Company’s reports filed or submitted
under the Exchange Act is recorded, processed, summarized and reported within
the time periods specified in the SEC’s rules and forms.
30
(b)
|
Changes
in internal controls.
|
The
Company’s management is also responsible for establishing and maintaining
adequate internal control over financial reporting. There were no
changes in the Company’s internal control over financial reporting during the
quarter covered by this report that materially affected, or are reasonably
likely to materially affect, the Company’s internal control over financial
reporting. There were also no significant deficiencies or material
weaknesses in such internal controls requiring corrective actions.
PART
II. OTHER INFORMATION
As
discussed in the Company’s Annual Report on Form 10-K for the year ended
December 31, 2006, the Company and certain of its subsidiaries are defendants
in
litigation. The following discussion is the current status of the
litigation.
One
of
the Company’s subsidiaries, GLS Capital, Inc. (“GLS”), and the County of
Allegheny, Pennsylvania (“Allegheny County”), are defendants in a class action
lawsuit filed in 1997 in the Court of Common Pleas of Allegheny County,
Pennsylvania (the “Court of Common Pleas”). Plaintiffs allege that GLS
illegally charged the taxpayers of Allegheny County certain attorney fees,
costs
and expenses, and interest, in the collection of delinquent property tax
receivables owned by GLS. Plaintiffs were seeking class certification
status, and in October 2006, the Court of Common Pleas certified the class
action status of the litigation. In its Order certifying the class action,
the
Court of Common Pleas left open the possible decertification of the class
if the fees, costs and expenses charged by GLS are in accordance with
public policy considerations as well as Pennsylvania statute and relevant
ordinance. The Company successfully sought the stay of this action pending
the outcome of other litigation before the Pennsylvania Supreme Court in
which
GLS is not directly involved but has filed an Amicus brief in support of
the
defendants. Several of the allegations in that lawsuit are similar to
those being made against GLS in this litigation. Plaintiffs have not
enumerated its damages in this matter, and we believe that the ultimate outcome
of this litigation will not have a material impact on the Company’s financial
condition, but may have a material impact on its reported results for the
particular period presented.
Dynex
Capital, Inc. and Dynex Commercial, Inc. (“DCI”), a former affiliate and now
known as DCI Commercial, Inc., are appellees (or “respondents”) in the Court of
Appeals for the Fifth Judicial District of Texas at Dallas, related to the
matter of Basic Capital Management et al (collectively, “BCM” or “the
Plaintiffs”) versus Dynex Commercial, Inc. et al. The appeal seeks to
overturn a judgment from a lower court in the Company’s and DCI’s favor which
denied recovery to Plaintiffs and to have a judgment entered in favor of
Plaintiffs based on a jury award for damages, all of which was set aside
by the
trial court as discussed further below. In the alternative, Plaintiffs are
seeking a new trial. The appeal relates to a suit filed against the
Company and DCI in 1999, alleging, among other things, that DCI and Dynex
Capital, Inc. failed to fund tenant improvement or other advances allegedly
required on various loans made by DCI to BCM, which loans were subsequently
acquired by the Company; that DCI breached an alleged $160 million “master” loan
commitment entered into in February 1998; and that DCI breached another alleged
loan commitment of approximately $9 million. The original trial
commenced in January 2004, and, in February 2004, the jury in the case rendered
a verdict in favor of one of the Plaintiffs and against the Company on the
alleged breach of the loan agreements for tenant improvements and awarded
that
Plaintiff damages in the amount of $0.25 million. The jury entered a separate
verdict against DCI in favor of BCM under two mutually exclusive damage models,
for $2.2 million and $25.6 million, respectively. The jury found in favor
of DCI
on the alleged $9 million loan commitment, but did not find in favor of DCI
for
counterclaims made against BCM. The jury also awarded the Plaintiffs attorneys’
fees in the amount of $2.1 million. After considering post-trial
motions, the presiding judge entered judgment in favor of the Company and
DCI,
effectively overturning the verdicts of the jury and dismissing damages awarded
by the jury. DCI is a former affiliate of Dynex Capital, Inc., and
management does not believe that the Company will have any obligation for
amounts, if any, awarded to the Plaintiffs as a result of the actions of
DCI.
The Court of Appeals heard oral arguments in this matter in April 2006 but
has
not yet rendered its decision.
31
Dynex
Capital, Inc. and MERIT Securities Corporation, a subsidiary, are defendants
in
a putative class action complaint alleging violations of the federal securities
laws in the United States District Court for the Southern District of New
York
(“District Court”) by the Teamsters Local 445 Freight Division Pension Fund
("Teamsters"). The complaint was filed on February 11, 2005, and purports
to be
a class action on behalf of purchasers between February 2000 and May 2004
of
MERIT Series 12 and MERIT Series 13 securitization financing bonds (the
“Bonds”), which are collateralized by manufactured housing loans. The
complaint seeks unspecified damages and alleges, among other things,
misrepresentations in connection with the issuance of and subsequent reporting
on the Bonds. The complaint initially named the Company’s former president and
its current Chief Operating Officer as defendants. On February
10, 2006, the District Court dismissed the claims against the former president
and current Chief Operating Officer, but did not dismiss the claims against
Dynex Capital, Inc. or MERIT (“together, the Corporate Defendants”). The
Corporate Defendants moved to certify an interlocutory appeal of this order
to
the United States Court of Appeals for the Second Circuit (“Second Circuit”). On
June 2, 2006, the District Court granted the Corporate Defendants’ motion. On
September 14, 2006, the Second Circuit granted the Corporate Defendants’
petition to accept the certified order for interlocutory appeal. On March
2,
2007, the parties completed briefing in the Second Circuit and are awaiting
oral
argument. The Company has evaluated the allegations made in the
complaint and believes them to be without merit and intends to vigorously
defend
itself against them.
Although
no assurance can be given with respect to the ultimate outcome of the above
litigation, the Company believes the resolution of these lawsuits will not
have
a material effect on our consolidated balance sheet but could materially
affect
our consolidated results of operations in a given year.
There
have been no material changes to the risk factors disclosed in Item 1A -
Risk
Factors of the Company's Annual Report on Form 10-K for the year ended December
31, 2006 (the “Form 10-K”). The materialization of any risks and uncertainties
identified in the Company's Forward Looking Statements contained herein together
with those previously disclosed in the Form 10-K or those that are presently
unforeseen could result in significant adverse effects on the Company's
financial condition, results of operations and cash flows. See Item 2.
“Management's Discussion and Analysis of Financial Condition and Results of
Operations - Forward Looking Statements” in this Quarterly Report on Form
10-Q.
None
None
32
On
May
23, 2007, the Annual Meeting of shareholders was held to elect the members
of
the Board of Directors. The following table summarizes the results of
those votes.
Director
|
For
|
Withheld
|
||
Common
Share Votes
|
||||
Thomas
B. Akin
|
11,499,348
|
82,925
|
||
Daniel
K. Osborne
|
11,353,779
|
228,494
|
||
Eric
P. Von der Porten
|
11,499,713
|
82,560
|
||
Preferred
Share Votes
|
||||
Leon
A. Felman
|
4,099,803
|
17,429
|
||
Barry
Igdaloff
|
4,099,701
|
17,531
|
||
None
31.1
|
Certification
of Principal Executive Officer and Principal Financial Officer
pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
|
32.1
|
Certification
of Principal Executive Officer and Principal Financial Officer
pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
|
33
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.
DYNEX
CAPITAL, INC.
|
|
Date: August
14, 2007
|
/s/
Stephen J. Benedetti
|
Stephen
J. Benedetti
|
|
Executive
Vice President and Chief Operating Officer
|
|
(Principal
Executive Officer and Principal Financial Officer)
|
|
34
EXHIBIT
INDEX
Exhibit
No.
|
|
31.1
|
Certification
of Principal Executive Officer and Chief Financial Officer pursuant
to
Section 302 of the Sarbanes-Oxley Act of 2002.
|
32.1
|
Certification
of Principal Executive Officer and Chief Financial Officer pursuant
to
Section 906 of the Sarbanes-Oxley Act of 2002.
|