Attached files
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EX-31.1 - EXHIBIT 31.1 - IMH Financial Corp | c92695exv31w1.htm |
EX-32.1 - EXHIBIT 32.1 - IMH Financial Corp | c92695exv32w1.htm |
EX-31.2 - EXHIBIT 31.2 - IMH Financial Corp | c92695exv31w2.htm |
Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(Mark One)
þ | Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarter ended September 30, 2009
or
o | Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the transition period from to
Commission File number 000-52611
IMH SECURED LOAN FUND, LLC
(Name of registrant as specified in its charter)
Delaware | 81-0624254 | |
(State or other jurisdiction of incorporation or | (I.R.S. Employer Identification Number) | |
organization) |
4900 N. Scottsdale Rd #5000
Scottsdale, Arizona, 85251
(Address of principal executive offices)
Scottsdale, Arizona, 85251
(Address of principal executive offices)
(480) 840-8400
(Issuers telephone number)
(Issuers telephone number)
Indicate by check mark whether the registrant (1) 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 has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post such files). Yes
o No
o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer or a smaller reporting company. See the definitions of large accelerated
filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filer o | Non-accelerated filer þ | Smaller reporting company o | |||
(Do not check if a smaller reporting company) |
Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule
12b-2). Yes o No þ
The
registrant had 73,038 limited liability company units outstanding as of November 18, 2009.
IMH SECURED LOAN FUND, LLC
QUARTERLY REPORT ON FORM 10-Q
INDEX
QUARTERLY REPORT ON FORM 10-Q
INDEX
3 | ||||||||
4 | ||||||||
5 | ||||||||
6 | ||||||||
7 | ||||||||
28 | ||||||||
61 | ||||||||
63 | ||||||||
63 | ||||||||
64 | ||||||||
67 | ||||||||
68 | ||||||||
69 | ||||||||
70 | ||||||||
Exhibit 31.1 | ||||||||
Exhibit 31.2 | ||||||||
Exhibit 32.1 |
2
Table of Contents
PART
I
FINANCIAL INFORMATION
FINANCIAL INFORMATION
Item 1. | Financial Statements. |
IMH SECURED LOAN FUND, LLC
Consolidated Balance Sheets
(In thousands, except unit data)
September 30, | December 31, | |||||||
2009 | 2008 | |||||||
(Unaudited) | ||||||||
ASSETS |
||||||||
Cash and Cash Equivalents |
$ | 2,463 | $ | 23,815 | ||||
Mortgage Loans: |
||||||||
Mortgage Loan Note Obligations |
494,803 | 549,686 | ||||||
Less Undisbursed Portion of Loans-in-process and Interest Reserves |
(4,075 | ) | (26,574 | ) | ||||
Principal Outstanding Held for Investment |
490,728 | 523,112 | ||||||
Mortgage Loan Principal Held for Sale |
62,628 | 90,742 | ||||||
Mortgage Loan Principal Outstanding |
553,356 | 613,854 | ||||||
Less Allowance for Credit Loss |
(337,000 | ) | (300,310 | ) | ||||
Mortgage Loans, Net |
216,356 | 313,544 | ||||||
Accrued Interest and Other Receivables |
16,490 | 12,014 | ||||||
Real Estate Held for Sale, Net |
7,092 | | ||||||
Real Estate Held for Development, Net: |
||||||||
Acquired through Foreclosure |
82,765 | 55,318 | ||||||
Purchased for Investment |
7,448 | 7,463 | ||||||
Real Estate Held for Development, Net |
90,213 | 62,781 | ||||||
Deposits and Other Assets |
625 | 179 | ||||||
Advances to Fund Manager |
1,338 | 2,471 | ||||||
Total Assets |
$ | 334,577 | $ | 414,804 | ||||
LIABILITIES |
||||||||
Payables to Fund Manager |
$ | 5,270 | $ | 1,681 | ||||
Other Payables and Accrued Liabilities |
5,487 | 70 | ||||||
Distributions Payable to Members |
| 4,963 | ||||||
Borrowings From Fund Manager |
2,520 | | ||||||
Unearned Income and Other Funds Held |
129 | 39 | ||||||
Total Liabilities |
13,406 | 6,753 | ||||||
MEMBERS EQUITY |
||||||||
Accumulated Deficit |
(409,212 | ) | (322,332 | ) | ||||
Members Equity $10,000 per unit stated value,
authorized units set at discretion of
the Manager
73,038 units issued and outstanding at
September 30,
2009 and December 31, 2008, respectively |
730,383 | 730,383 | ||||||
Total Members Equity |
321,171 | 408,051 | ||||||
Commitments and Contingent Liabilities |
||||||||
Total Liabilities and Members Equity |
$ | 334,577 | $ | 414,804 | ||||
The accompanying notes are an integral part of these statements
3
Table of Contents
IMH SECURED LOAN FUND, LLC
Consolidated Statements of Operations
(Unaudited)
(In thousands, except unit and per unit data)
Nine Months Ended | Three Months Ended | |||||||||||||||
September 30, | September 30, | |||||||||||||||
2009 | 2008 | 2009 | 2008 | |||||||||||||
INTEREST, FEE AND OTHER INCOME |
||||||||||||||||
Mortgage Loans |
$ | 20,256 | $ | 49,419 | $ | 2,697 | $ | 17,069 | ||||||||
Investments and Money Market
Accounts and Other Income |
494 | 1,789 | 458 | 467 | ||||||||||||
Total Interest and Fee Income |
20,750 | 51,208 | 3,155 | 17,536 | ||||||||||||
EXPENSES |
||||||||||||||||
Management Fees |
481 | 819 | 62 | 300 | ||||||||||||
Default Related and Other Fund Expenses |
579 | 503 | 251 | 418 | ||||||||||||
Operating Expenses for Real Estate Owned |
2,817 | 62 | 1,477 | 62 | ||||||||||||
Professional Fees |
1,830 | 142 | 641 | 75 | ||||||||||||
Interest Expense: |
||||||||||||||||
Borrowings from Fund Manager |
217 | | 115 | | ||||||||||||
Borrowings on Note Payable |
| 78 | | | ||||||||||||
Interest Expense |
217 | 78 | 115 | | ||||||||||||
Valuation charge for: |
||||||||||||||||
Provision for Loan Loss based on Fair Value Estimates as of Balance Sheet Date |
82,000 | 41,130 | 82,000 | 41,130 | ||||||||||||
Impairment of Assets Acquired through Foreclosure |
8,000 | 1,300 | 8,000 | 1,300 | ||||||||||||
Total Valuation Charge |
90,000 | 42,430 | 90,000 | 42,430 | ||||||||||||
Net Earnings (Loss) |
$ | (75,174 | ) | $ | 7,174 | $ | (89,391 | ) | $ | (25,749 | ) | |||||
Net Earnings (Loss) Allocated to Members per Weighted Average Membership Units Outstanding |
$ | (1,029.24 | ) | $ | 109.32 | $ | (1,223.88 | ) | $ | (363.65 | ) | |||||
Distribututions to Members per Weighted Average Membership Units Outstanding |
$ | 160.27 | $ | 749.20 | $ | | $ | 234.84 | ||||||||
Weighted Average Membership Units Outstanding |
73,038 | 65,622 | 73,038 | 70,807 | ||||||||||||
The accompanying notes are an integral part of these statements
4
Table of Contents
IMH SECURED LOAN FUND, LLC
Consolidated Statement of Members Equity
Nine Months Ended September 30, 2009
(Unaudited)
(In thousands, except unit data)
Total | ||||||||||||||||
Members | Members | Accumulated | Members | |||||||||||||
Units | Capital | Deficit | Equity | |||||||||||||
Balances at December 31, 2008 |
73,038 | $ | 730,383 | $ | (322,332 | ) | $ | 408,051 | ||||||||
Net Loss Nine months ended September 30, 2009 |
| | (75,174 | ) | (75,174 | ) | ||||||||||
Distributions to Members |
| | (11,706 | ) | (11,706 | ) | ||||||||||
Net Activity for Period |
| | (86,880 | ) | (86,880 | ) | ||||||||||
Balances at September 30, 2009 |
73,038 | $ | 730,383 | $ | (409,212 | ) | $ | 321,171 | ||||||||
The accompanying notes are an integral part of these statements
5
Table of Contents
IMH SECURED LOAN FUND, LLC
Consolidated Statements of Cash Flows
Nine Months Ended September 30, 2009 and 2008
(Unaudited)
(In thousands)
Nine Months Ended September 30, | ||||||||
2009 | 2008 | |||||||
CASH FLOWS Operating Activities: |
||||||||
Net Earnings (Loss) |
$ | (75,174 | ) | $ | 7,174 | |||
Adjustments to Reconcile Net Earnings (Loss) to Net Cash Provided by Operating Activities: |
||||||||
Valuation Provision Charge |
90,000 | 42,430 | ||||||
Accretion of Note Discount |
| (9,639 | ) | |||||
Depreciation and Amortization |
283 | | ||||||
Increase in Accrued Interest Receivable |
(6,533 | ) | (3,933 | ) | ||||
Increase in Deposits and Other Assets |
(499 | ) | (255 | ) | ||||
Increase (Decrease) in Due From/To Fund Manager |
(38 | ) | 921 | |||||
Increase in Other Payables and Accrued Liabilities |
5,417 | 70 | ||||||
Increase (Decrease) in Unearned Income |
90 | (474 | ) | |||||
Net Cash Provided by Operating Activities |
13,546 | 36,294 | ||||||
CASH FLOWS Investing Activities: |
||||||||
Mortgage Loans Fundings |
(25,827 | ) | (220,905 | ) | ||||
Mortgage Loan Repayments |
6,664 | 34,544 | ||||||
Mortgage Loan Repayment from Sale of Whole Loan |
| 31,325 | ||||||
Proceeds from Real Estate Sold |
770 | | ||||||
Investment in Real Estate Held for Development |
(2,356 | ) | (8,116 | ) | ||||
Net Cash Used in Investing Activities |
(20,749 | ) | (163,152 | ) | ||||
CASH FLOWS Financing Activities: |
||||||||
Proceeds from Note Payable to Bank |
| 8,000 | ||||||
Repayment of Note Payable to Bank |
| (8,000 | ) | |||||
Proceeds from Borrowings from Manager |
6,000 | |||||||
Repayments of Borrowings from Manager |
(3,480 | ) | ||||||
Increase (Decrease) in Member Investments Pending Activation |
| (3,391 | ) | |||||
Members Capital Investments |
| 250,941 | ||||||
Members Redemptions |
| (113,206 | ) | |||||
Members Distributions |
(16,669 | ) | (23,324 | ) | ||||
Net Cash Provided (Used) by Financing Activities |
(14,149 | ) | 111,020 | |||||
Net Increase (Decrease) in Cash and Cash Equivalents |
(21,352 | ) | (15,838 | ) | ||||
Cash and Cash Equivalents: |
||||||||
Beginning of Period |
23,815 | 73,604 | ||||||
End of Period |
$ | 2,463 | $ | 57,766 | ||||
Supplemental Cash Flow Information: |
||||||||
Interest Paid |
$ | 217 | $ | 78 | ||||
Supplemental Disclosure of Non-Cash Financing and Investing Activities: |
||||||||
Real Estate Acquired through Foreclosure |
$ | 41,169 | $ | 81,362 | ||||
Loans Satisfied with Next-Phase Financing |
$ | | $ | 41,886 | ||||
The accompanying notes are an integral part of these statements
6
Table of Contents
IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE
1 FUND DESCRIPTION AND BASIS OF PRESENTATION
IMH Secured Loan Fund, LLC (the Fund) was organized under the laws of the State of Delaware
as a limited liability company effective May 14, 2003 for the primary purpose of investing in loans
with maturities of generally eighteen months or less that are secured by deeds of trust (herein
referred to as mortgage loans) on real property located within the United States of America. The
sponsor and manager of the Fund is Investors Mortgage Holdings, Inc. (IMH or the Manager),
which was formed in June 1997 in Arizona and is a mortgage banker licensed in Arizona. IMHs
obligations and responsibilities as Manager are set forth in the IMH Secured Loan Fund, LLC Limited
Liability Company Operating Agreement, dated May 15, 2003, as amended and restated (the Operating
Agreement), which governs all aspects of Fund operations. The Operating Agreement provides
standards for, among other things, business operations and the allocation between the parties of
income, gains, losses and distributions.
The Fund has established various wholly-owned subsidiaries in connection with the foreclosure
of certain loans and acquisition of related collateral property. The accompanying consolidated
financial statements include the accounts of the Fund and its wholly-owned subsidiaries. All
significant intercompany balances and transactions have been eliminated in consolidation.
The Fund and the Manager, and the Managers wholly-owned subsidiary, are part of the IMH
Group. The IMH Group has diverse experience in many facets of real estate services. Other members
of the IMH Group include, among others, IMH Holdings, LLC, an Arizona limited liability company,
and its wholly-owned subsidiaries, IMH Management Services, LLC, an Arizona limited liability
company, and SWI Management, LLC, an Arizona limited liability company. IMH Management Services,
LLC provides human resources and administrative services, including employees, to the various
members of the IMH Group, and SWI Management, LLC is engaged in various real estate and real estate
related activities.
As of September 30, 2009, the Funds accumulated deficit aggregated
$409,212 as a direct
result of a valuation provision relating to the Funds loan portfolio and real estate owned assets
during 2009 and 2008. During the nine months ended September 30, 2009, the Funds total cash
decreased by $21,352. At September 30, 2009, the Fund had cash and cash equivalents of $2,463 and
undisbursed loans-in-process and interest reserves funding estimates totaling $6,747 (including
$2,672 reflected in loans held for sale). Our business model relies on capital availability for
our borrowers to re-finance the short-term bridge loans we provide to assist a developers real
estate entitlement and development efforts. However, the erosion of the U.S. and global credit
markets during 2008 and parts of 2009, including a significant and rapid deterioration of the
mortgage lending and related real estate markets, has virtually eliminated traditional sources of
conventional take-out financing. As a result, the Fund has experienced increased default and
foreclosure rates on the mortgage loans it holds in its portfolio. In addition, the Manager has
found it necessary to modify certain loans, which have resulted in extended maturities of two years
or longer, and believes it may need to modify additional loans in an effort to, among other
things, protect the Funds collateral.
7
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 1 FUND DESCRIPTION AND BASIS OF PRESENTATION CONTINUED
In addition, as allowed by the Operating Agreement, the Manager, on
behalf of the Fund, effective October 1, 2008, ceased accepting additional Member investments in the Fund, honoring new
redemptions requests, or identifying and funding new loans subsequent to September 30, 2008
(although the Fund may finance new loans in connection with the sale of collateral under existing
loans or the sale of real estate owned). Additionally, during the second quarter of 2009, the Fund
suspended distributions to Members. These elections were made in an effort to preserve the Funds
capital and to seek to stabilize the Funds operations and liquid
assets in order to enhance our ability to meet future obligations, including those pursuant to
current loan commitments.
The freeze was precipitated by increased default
and foreclosure rates on our portfolio loans and a reduction in new Member investment, compounded by a significant number
of redemption requests submitted during the latter part of the third quarter of 2008, the payment
of which we believe would have rendered the Fund without sufficient capital necessary to fund our
outstanding lending commitments. These factors raise substantial doubt about our ability to continue as a going concern for an extended period. Except as discussed below,
we believe that we have developed a liquidity plan that, if
executed successfully, would likely provide sufficient liquidity to finance the Funds anticipated
working capital and capital expenditure requirements for the next 12 months.
Our liquidity plan includes selling whole loans or participating interests in certain loans in
our portfolio and liquidating certain real estate assets we hold. As of September 30, 2009, five
loans with principal balances totaling $62,628 are being actively marketed for sale. Accordingly,
these loans are reflected as held for sale in the accompanying consolidated balance sheets. In
addition, as of September 30, 2009, two real estate owned projects with a book value totaling
$7,092 are being actively marketed for sale. Accordingly, this real estate owned is reflected as
held for sale in the accompanying consolidated balance sheets. Additionally, the Manager continues
to evaluate the Funds existing outstanding loan obligations to ascertain the necessary funding
amounts and timing for each loan, and to determine potential reductions in, or cessation of,
funding commitments for loans in default or to find alternative sources for such fundings. This
analysis is on-going, although the results are not expected to materially affect our current
estimate of outstanding loan commitments presented in the accompanying financial statements. The
Manager continues to evaluate a number of strategies for the Fund, including, but not limited to,
the possible orderly liquidation of the Fund, a roll-up of the Fund into one or more possible new
investment vehicles, and other potential strategies.
However, there is no assurance that these strategies and potential transactions could be
consummated on acceptable terms, in a reasonable time frame or at all. In addition, given the state
of the real estate and credit markets, it is unlikely that the Fund will be able to re-commence its
historical operations in the same manner in which it previously operated or at all. Management continues to
examine the material aspects of the Funds business for areas of potential improvement and recovery
of the Funds loan and real estate owned portfolio. However, if the real estate market does not
return to prior levels of normalcy and credit markets do not re-open in a reasonable manner, we
believe the realization of full recovery of the Funds investments is unlikely to occur in a
reasonable time frame or at all, and we may be required to liquidate the Funds investment
portfolio at a price significantly below the Funds initial investment basis.
These consolidated financial statements do not include any adjustments relating to the
recoverability and classification of recorded assets or the amounts and classification of
liabilities or any other adjustments that might be necessary should the Fund be unable to continue
as a going concern.
8
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 1 FUND DESCRIPTION AND BASIS OF PRESENTATION CONTINUED
The Manager receives from borrowers, either directly or from loan proceeds, all revenue and
fees from loan origination, processing, servicing and extension. As a result of the suspension of
certain of the Funds activities, although the Manager may collect fees from time-to-time from the
modification of existing loans or from penalties or default fees, the suspension of the Funds
lending activities has resulted in the loss of the Managers primary revenue source. These factors
raise substantial doubt about the Managers ability to continue as a going concern, subject to
changes in the Managers strategy. The Manager has implemented, among other matters, the following
strategy:
| Implemented a cost reduction program, including a reduction in staff. The
reduction in staff affected nearly 60% of the Managers employees while preserving more
modest core functionality in the material operational areas. To date, the Manager has
stabilized monthly operating costs at approximately $400 per month. |
| On-going collaboration with investment banking firms to seek to close
financing and capital raising alternatives. |
| Continued to explore mechanisms through which the Manager can continue to
participate in the capital markets, including, without limitation, the use of additional
funding vehicles to seek to capitalize on what the Manager believes are numerous business
opportunities arising from the disruptions in the capital and credit markets. |
| Engaged in on-going negotiations with creditors to defer or otherwise
restructure existing liabilities of the Manager. |
| Considered other initiatives to seek to mitigate the risk of the continued
viability of the Manager as an operating entity. |
The IMH Group was reorganized starting at the end of 2008, and, as a result thereof, other
members of the IMH Group will be responsible for a portion of operating costs that have
historically been borne by IMH. Despite the cost-savings initiatives described above, the Manager
can provide no assurance that its liquidity situation will improve in the fourth quarter of 2009 or
fiscal 2010 or that the Manager will be able to continue as a going concern.
NOTE 2 SIGNIFICANT ACCOUNTING POLICIES
Basis of Accounting
The Fund prepares its financial statements on the accrual basis of accounting in accordance
with Accounting Principles Generally Accepted in the United States of America (GAAP). The
majority of the Funds operating costs and the cost of all furniture and equipment used in the
administration of the Fund have historically been paid by the Manager and were not recorded as
expenses or Fund assets or deducted from the Net Earnings of the Fund.
However, as a result of the reduction in the Managers revenue-generating activities and corresponding reduction in liquidity,
certain costs that the Manager historically elected to pay on our behalf, although it was not required to pay, have been transferred
to us. These expenses include various professional fees for consulting services, valuation services, legal and accounting services relative to public reporting related expenses.
The Manager receives a management fee from the Fund for the services it provides, which includes operating costs it incurs
in the administration of the Fund. The foregoing is in accordance with the Operating Agreement.
The accompanying unaudited interim consolidated financial statements of the Fund have been
prepared in accordance with GAAP, consistent in all material respects with those applied in its
consolidated financial statements included in its Annual Report on Form 10-K for the fiscal year
ended December 31, 2008; excepting these financial statements do not include all of
the information and footnotes required by GAAP for complete financial statements. Such interim
financial information is unaudited but reflects all adjustments that in IMHs judgment, on the
Funds behalf, are necessary for the fair presentation of the interim periods presented. Interim
results are not necessarily indicative of results for a full year. This Quarterly Report on Form
10-Q should be read in conjunction with the Companys consolidated financial statements and
footnotes included in its Annual Report on Form 10-K for the fiscal year ended December 31, 2008.
9
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 2 SIGNIFICANT ACCOUNTING POLICIES CONTINUED
Real Estate Held for Sale
Real estate held for sale consists of real estate for which development is substantially
complete and which is currently being actively marketed for sale. Real estate held for sale is
measured at the lower of its carrying amount prior to classification of the group of assets as held
for sale and the net fair value.
Use of Estimates
In accordance with GAAP, the Manager has made a number of estimates and assumptions with
respect to the reporting of assets and liabilities and the disclosure of contingencies at the date
of the consolidated financial statements and the reported amounts of income and expenses during the
reporting period. Accordingly, actual results could differ from those estimates. Such estimates
primarily include the allowance for credit loss, valuation estimates for real estate owned and the
accretable amount and timing for loans purchased at a discount.
Recent Accounting Pronouncements
In June 2009, the Financial Accounting Standards Board (FASB) issued new accounting
guidance that will require the FASB Accounting Standards Codification (ASC) to become the source
of authoritative U.S. accounting and reporting standards for nongovernmental entities in addition
to the guidance issued by the SEC. FASB ASC significantly changes the way financial statement
preparers, auditors, and academics perform accounting research. The statement is effective for
financial statements issued for interim and annual periods ending after September 15, 2009. The
adoption of this guidance did not have a material impact on our financial statements.
In May 2009, the FASB issued new accounting guidance that established the period after the
balance sheet date and the circumstances in which we should evaluate events or transactions for
potential recognition or disclosure in financial statements. The new guidance is effective for
periods ending after June 15, 2009. The adoption of this guidance did not have
a material impact on our financial statements.
In April 2009, the FASB issued new accounting guidance that changes existing guidance for
determining whether impairment of debt securities is other than temporary. The new guidance
requires other-than-temporary impairment to be separated into the amount representing the decrease
in cash flows expected to be collected from a security (referred to as credit losses), which is
recognized in earnings, and the amount related to other factors, which is recognized in other
comprehensive income. The non-credit loss component of the impairment can only be classified in
other comprehensive income if the holder of the security concludes (1) that it does not intend to
sell the security and (2) that it is more likely than not that it will not be required to sell the
security before the security recovers its value. If these two conditions are not met, the
non-credit loss component of the impairment must also be recognized in earnings. Upon adoption of
the new guidance, the entity is required to record a cumulative-effect adjustment, as of the
beginning of the period of adoption, to reclassify the non-credit loss component of previously
recognized other-than-temporary impairment from retained earnings to accumulated other
comprehensive income. We do not believe the adoption of these pronouncements would have a material
impact on our consolidated financial statements.
10
Table of Contents
IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 2 SIGNIFICANT ACCOUNTING POLICIES CONTINUED
In April 2009, the FASB issued new accounting guidance that provides additional guidance for
determining whether market activity for a financial asset or liability has significantly decreased,
as well as for identifying circumstances that indicate that transactions are not orderly. The new
guidance reiterates that if a market is determined to be inactive and the related market price is
deemed to be reflective of a distressed sale
price, then management judgment may be required to estimate fair value. The new guidance
identifies factors to be considered when determining whether or not a market is inactive. We do not
believe the adoption of this pronouncement would have a material effect on our financial position
or results of operations.
In April 2009, the FASB issued new accounting guidance that requires disclosures about fair
values of financial instruments in all interim financial statements. Once adopted, the disclosures
required by the new guidance are to be provided prospectively. We do not believe the adoption of
this pronouncement would have a material effect on our financial position or results of operations.
In May 2008, the FASB issued new accounting guidance which identifies the sources of
accounting principles and the framework for selecting the principles used in the preparation of
financial statements that are presented in conformity with GAAP. The new guidance becomes effective
60 days following the approval by the Securities and Exchange Commission (SEC) of the Public
Company Accounting Oversight Board amendments to AU Section 411, The Meaning of Present Fairly in
Conformity With Generally Accepted Accounting Principles. We do not expect the adoption of this
guidance would have a material impact on our financial statements.
Reclassifications
Certain 2008 amounts have been reclassified to conform to the 2009 financial statement
presentation.
Subsequent Events
Management
evaluated subsequent events through November 18, 2009, the date this Quarterly
Report on Form 10-Q was filed with the SEC.
11
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 3 CASH AND CASH EQUIVALENTS
The Operating Agreement provides that generally an amount equal to 3%-5% of the principal
amount outstanding from time to time on mortgage loans held in our portfolio be held for working capital. The funds are
held in cash equivalent investment accounts and are designated as working capital and other funds
available for operating obligations and lending. These funds are classified as cash equivalents on
the accompanying financial statements. These designations are discretionary and as of September 30,
2009, the Fund has insufficient cash balances to reserve for working capital purposes.
In view of the suspension of the Funds willingness to accept Member investment and lending
activities and the limited cash sources available to the Fund, it is anticipated that all remaining
cash will be needed to fund outstanding loan obligations, Fund operations and distributions to
Members, if any.
The Fund maintains its cash balances in multiple interest-bearing accounts at various banks.
At this time, Fund cash accounts at banks are insured by the FDIC up to $250. In addition, at this
time, the FDIC protects unlimited amounts held in non-interest bearing transaction accounts held by
FDIC insured banks. To date, the Fund has not experienced any losses as a result of any amounts
held in excess of the currently applicable FDIC insurance limits.
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES
Generally, all mortgage loans held by the Fund are collateralized by a first deed of trust (or
mortgage) on real property, and generally include a guarantee by the principals of the borrower.
From time to time, the loans are secured by additional collateral. Independent title companies
handle all loan closings and independent third-party companies, with oversight of the Manager,
provide construction inspections and loan document management services for the majority of the
mortgage loan note obligations that contain construction components.
12
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
Loan Interest Rates
The Fund invests in both fixed and variable interest rate loans. All variable interest rate
loans are indexed to the Wall Street Journal Prime Interest Rate (Prime), substantially all of
which are subject to interest rate floors. While a substantial portion of our portfolio loans are
in default or non-accrual status, as of September 30, 2009 and December 31, 2008, respectively, outstanding
principal balances on our portfolio loans (including non-accrual loans), net of the allowance for credit loss, summarized
by the contractual loan terms for fixed and variable interest rates within selected interest rate
ranges, are as follows:
September 30, 2009 | ||||||||||||||||||||||||||||||||||||
Fixed Rate | Variable Rate | Total | ||||||||||||||||||||||||||||||||||
Outstanding | Outstanding | Outstanding | Allowance for | Net Carrying | ||||||||||||||||||||||||||||||||
# | Principal | # | Principal | # | Principal | Credit Loss | Amount | % | ||||||||||||||||||||||||||||
Current Rate: |
||||||||||||||||||||||||||||||||||||
6.00% |
1 | $ | 5,890 | | $ | | 1 | $ | 5,890 | $ | (1,625 | ) | $ | 4,265 | 2.0 | % | ||||||||||||||||||||
7.53% |
1 | 41,886 | | | 1 | 41,886 | (31,464 | ) | 10,422 | 4.8 | % | |||||||||||||||||||||||||
8.00% |
3 | 4,961 | | | 3 | 4,961 | (52 | ) | 4,909 | 2.3 | % | |||||||||||||||||||||||||
8.25% |
1 | 55,885 | | | 1 | 55,885 | (2,311 | ) | 53,574 | 24.7 | % | |||||||||||||||||||||||||
9.00% |
1 | 1,589 | | | 1 | 1,589 | (56 | ) | 1,533 | 0.7 | % | |||||||||||||||||||||||||
10.00% |
3 | 27,871 | | | 3 | 27,871 | (22,178 | ) | 5,693 | 2.6 | % | |||||||||||||||||||||||||
11.00% |
1 | 1,465 | 1 | 1,618 | 2 | 3,083 | | 3,083 | 1.4 | % | ||||||||||||||||||||||||||
11.50% |
1 | 1,102 | 4 | 11,328 | 5 | 12,430 | (4,711 | ) | 7,719 | 3.6 | % | |||||||||||||||||||||||||
11.75% |
1 | 5,759 | | | 1 | 5,759 | | 5,759 | 2.7 | % | ||||||||||||||||||||||||||
12.00% |
7 | 61,403 | 8 | 53,569 | 15 | 114,972 | (60,334 | ) | 54,638 | 25.2 | % | |||||||||||||||||||||||||
12.25% |
| | 2 | 56,558 | 2 | 56,558 | (51,223 | ) | 5,335 | 2.5 | % | |||||||||||||||||||||||||
12.50% |
1 | 1,169 | 6 | 22,441 | 7 | 23,610 | (18,466 | ) | 5,144 | 2.4 | % | |||||||||||||||||||||||||
12.75% |
1 | 37,958 | | | 1 | 37,958 | (23,289 | ) | 14,669 | 6.8 | % | |||||||||||||||||||||||||
13.00% |
3 | 30,307 | 9 | 54,947 | 12 | 85,254 | (60,987 | ) | 24,267 | 11.2 | % | |||||||||||||||||||||||||
13.75% |
| | 2 | 6,528 | 2 | 6,528 | (6,027 | ) | 501 | 0.2 | % | |||||||||||||||||||||||||
14.25% |
| | 1 | 69,122 | 1 | 69,122 | (54,277 | ) | 14,845 | 6.9 | % | |||||||||||||||||||||||||
Total |
25 | $ | 277,245 | 33 | $ | 276,111 | 58 | $ | 553,356 | $ | (337,000 | ) | $ | 216,356 | 100.0 | % | ||||||||||||||||||||
% of Portfolio |
50.1 | % | 49.9 | % | 100.0 | % | ||||||||||||||||||||||||||||||
Weighted Average Rate |
10.26 | % | 12.87 | % | 11.56 | % | ||||||||||||||||||||||||||||||
Number of Loans |
25 | 33 | 58 | |||||||||||||||||||||||||||||||||
Average Principal |
$ | 11,090 | $ | 8,367 | $ | 9,541 | ||||||||||||||||||||||||||||||
December 31, 2008 | ||||||||||||||||||||||||||||||||||||
Fixed Rate | Variable Rate | Total | ||||||||||||||||||||||||||||||||||
Outstanding | Outstanding | Outstanding | Allowance for | Net Carrying | ||||||||||||||||||||||||||||||||
# | Principal | # | Principal | # | Principal | Credit Loss | Amount | % | ||||||||||||||||||||||||||||
Current Rate: |
||||||||||||||||||||||||||||||||||||
8.00% |
1 | $ | 3,500 | | $ | | 1 | $ | 3,500 | $ | | $ | 3,500 | 1.1 | % | |||||||||||||||||||||
9.00% |
1 | 10,461 | 1 | 1,622 | 2 | 12,083 | (10,175 | ) | 1,908 | 0.6 | % | |||||||||||||||||||||||||
10.00% |
1 | 26,709 | | | 1 | 26,709 | (23,226 | ) | 3,483 | 1.1 | % | |||||||||||||||||||||||||
11.00% |
| | 1 | 1,981 | 1 | 1,981 | | 1,981 | 0.6 | % | ||||||||||||||||||||||||||
11.25% |
| | 1 | 46,020 | 1 | 46,020 | | 46,020 | 14.7 | % | ||||||||||||||||||||||||||
11.50% |
2 | 2,651 | 6 | 94,283 | 8 | 96,934 | (15,928 | ) | 81,006 | 25.8 | % | |||||||||||||||||||||||||
11.75% |
1 | 4,752 | | | 1 | 4,752 | | 4,752 | 1.5 | % | ||||||||||||||||||||||||||
12.00% |
10 | 75,758 | 9 | 67,683 | 19 | 143,441 | (54,499 | ) | 88,942 | 28.4 | % | |||||||||||||||||||||||||
12.25% |
1 | 631 | 3 | 55,850 | 4 | 56,481 | (52,775 | ) | 3,706 | 1.2 | % | |||||||||||||||||||||||||
12.50% |
1 | 1,929 | 6 | 22,227 | 7 | 24,156 | (18,026 | ) | 6,130 | 2.0 | % | |||||||||||||||||||||||||
12.75% |
1 | 37,935 | | | 1 | 37,935 | (25,394 | ) | 12,541 | 4.0 | % | |||||||||||||||||||||||||
13.00% |
3 | 27,897 | 9 | 54,947 | 12 | 82,844 | (64,831 | ) | 18,013 | 5.7 | % | |||||||||||||||||||||||||
13.25% |
| | 1 | 2,821 | 1 | 2,821 | (1,675 | ) | 1,146 | 0.4 | % | |||||||||||||||||||||||||
13.75% |
| | 2 | 6,528 | 2 | 6,528 | (3,781 | ) | 2,747 | 0.9 | % | |||||||||||||||||||||||||
14.25% |
| | 1 | 67,669 | 1 | 67,669 | (30,000 | ) | 37,669 | 12.0 | % | |||||||||||||||||||||||||
Total |
22 | $ | 192,223 | 40 | $ | 421,631 | 62 | $ | 613,854 | $ | (300,310 | ) | $ | 313,544 | 100.0 | % | ||||||||||||||||||||
% of Portfolio |
31.3 | % | 68.7 | % | 100.0 | % | ||||||||||||||||||||||||||||||
Weighted Average Rate |
11.71 | % | 12.39 | % | 12.18 | % | ||||||||||||||||||||||||||||||
Number of Loans |
22 | 40 | 62 | |||||||||||||||||||||||||||||||||
Average Principal |
$ | 8,737 | $ | 10,541 | $ | 9,901 | ||||||||||||||||||||||||||||||
13
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
As of September 30, 2009 and December 31, 2008, respectively, the weighted average contractual interest
rates on our variable rate loans (including loans in non-accrual status) was Prime plus 9.62% and
Prime plus 9.14%, respectively. The Prime rate was 3.25% per annum at September 30, 2009 and
December 31, 2008, respectively.
Loan Maturities and Loans in Default
The outstanding principal balances of our mortgage loans, net of the allowance for credit
loss, as of September 30, 2009, have scheduled maturity dates within the next several quarters, as
follows:
September 30, 2009 | ||||||||||||
Quarter | Amount | Percent | # | |||||||||
Matured |
$ | 370,255 | 66.8 | % | 36 | |||||||
Q4 2009 |
20,209 | 3.7 | % | 3 | ||||||||
Q1 2010 |
2,030 | 0.4 | % | 3 | ||||||||
Q3 2010 |
56,116 | 10.1 | % | 10 | ||||||||
Q1 2011 |
6,583 | 1.2 | % | 3 | ||||||||
Q1 2012 |
392 | 0.1 | % | 1 | ||||||||
Q3 2012 |
97,771 | 17.7 | % | 2 | ||||||||
Total |
553,356 | 100.0 | % | 58 | ||||||||
Less: Allowance for Credit Loss |
(337,000 | ) | ||||||||||
Net Carrying Value |
$ | 216,356 | ||||||||||
From time to time, a mortgage loans maturity date may be extended for
reasons we believe are generally advantageous to us. In this regard, from time to time, we have modified certain loans in our portfolio,
extending maturity dates in some cases to two or more years, and we expect that we will modify
additional loans in the future in an effort to seek to preserve our collateral. Accordingly, in some
instances, and from time to time, we expect repayment dates of the loans may vary from their
currently scheduled maturity date. Further, in certain instances where the Manager deems it to be
advantageous to the Fund not to modify or extend a loan past its scheduled maturity date, the Fund
classifies and reports the loan as matured. At September 30, 2009, 48 loans with outstanding
principal balances totaling $473,916 were in default, of which 36 with outstanding principal
balances totaling $370,255 were past their respective scheduled maturity dates, and the remaining
12 loans were in default as a result of delinquency on outstanding interest payments or have been
deemed non-performing based on value of the underlying collateral in relation to the respective
book value of the loan. At December 31, 2008, 28 loans with outstanding principal balances totaling
$226,630 were in default, of which 24 with outstanding principal balances totaling $210,198 were
past their respective scheduled maturity dates, and the remaining four loans were in default as a
result of delinquency on outstanding interest payments. In light of current economic conditions and
in the absence of a recovery of the credit markets, it is anticipated that many, if not most, of our portfolio loans
will not be paid at the scheduled maturity date.
14
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
The Fund is exercising lenders remedies on 16 of the 48 loans in default. We anticipate that
exercise of lenders remedies will commence on an additional six loans in our portfolio, and we are negotiating with
the borrowers and assessing the possibility of modifications of loan terms for the remaining 26
loans in default. There are two loans in default involved in bankruptcy reorganizations. For
another loan in default, the Fund is a participating lender and the lead lender has commenced
foreclosure proceedings.
At September 30, 2009, 43 loans in non-accrual status had outstanding principal balances
totaling $450,568. Total contractual interest due under the loans classified in non-accrual status was
$40,011, of which $10,174 is included in accrued interest receivable on the balance sheet, and of
which $29,837 has not been recognized as income by the Fund. The remaining five loans in default
had outstanding principal balances totaling $23,348, with accrued interest due totaling $332, which
is included in accrued interest receivable on the balance sheet. Excluding the loans in
bankruptcy reorganization and those in default as a result of nonpayment of interest, loans in
default were past their scheduled maturities between five and 692 days as of September 30, 2009.
The geographic concentration of that portion of our loan portfolio in default, net of the
allowance for credit loss, at September 30, 2009, is as follows:
Percent of | Non-Accrued | |||||||||||||||||||||||||||||||
Outstanding | Outstanding | Allowance for | Net Carrying | Accrued | Note | |||||||||||||||||||||||||||
Principal | # | Principal | Credit Loss | Amount | Interest | Interest | Total | |||||||||||||||||||||||||
Arizona |
48.3 | % | 23 | $ | 228,873 | $ | (173,523 | ) | $ | 55,350 | $ | 4,136 | $ | 10,737 | $ | 70,223 | ||||||||||||||||
Idaho |
10.5 | % | 2 | 49,590 | (39,090 | ) | 10,500 | 1,948 | 4,490 | 16,938 | ||||||||||||||||||||||
California |
36.1 | % | 17 | 171,133 | (113,678 | ) | 57,455 | 3,655 | 12,611 | 73,721 | ||||||||||||||||||||||
Texas |
2.3 | % | 3 | 11,102 | (4,493 | ) | 6,609 | 427 | 849 | 7,885 | ||||||||||||||||||||||
Nevada |
1.7 | % | 1 | 7,978 | (2,670 | ) | 5,308 | 319 | 715 | 6,342 | ||||||||||||||||||||||
New Mexico |
1.1 | % | 2 | 5,240 | (1,182 | ) | 4,058 | 21 | 435 | 4,514 | ||||||||||||||||||||||
100.0 | % | 48 | $ | 473,916 | $ | (334,636 | ) | $ | 139,280 | $ | 10,506 | $ | 29,837 | $ | 179,623 | |||||||||||||||||
Other than as referenced above, no loans presently in our portfolio
have loan principal payments 30 days or more past due and no loans have interest payments more than
30 days past due.
Fair Value Measurement
The Manager performs an evaluation for impairment on all of our loans in default as of the
applicable measurement date. A loan is considered to be impaired when it is probable that the Fund
will be unable to collect all amounts due thereunder in accordance with the contractual terms of
the applicable loan agreement. Further, in general, applicable accounting guidance requires that
the impairment, if any, be measured based on the fair value of the collateral if the creditor
determines that foreclosure is probable. In general, under applicable accounting guidance, if the
loan is collateral dependent, impairment is to be measured at the balance sheet date based on the
then fair value of the collateral in relation to contractual amounts due under the terms of the
loan. All of our portfolio loans are deemed to be collateral dependent.
15
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
In determining fair value, we have adopted applicable accounting guidance which establishes a
framework for measuring fair value in accordance with GAAP, clarifies the definition of fair value
within that framework, and expands disclosures about the use of fair value measurements. This
accounting guidance applies whenever other accounting standards require or permit fair value
measurement.
The accounting guidance establishes a fair value hierarchy that prioritizes the inputs into
valuation techniques used to measure fair value. The three levels of the fair value hierarchy under
this accounting guidance are as follows:
Level 1 | | Valuations based on unadjusted quoted prices in active markets for identical assets or liabilities that we have the ability to access at the measurement date; | ||||
Level 2 | | Valuations based on quoted market prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active or models for which all significant inputs are observable in the market either directly or indirectly; and | ||||
Level 3 | | Valuations based on models that use inputs that are unobservable in the market and significant to the fair value measurement. |
The accounting guidance gives the highest priority to Level 1 inputs, and gives the lowest
priority to Level 3 inputs. The value of a financial instrument within the fair value hierarchy is
based on the lowest level of any input that is significant to the fair value instrument.
Fair value is a market-based measure considered from the perspective of a market participant
who holds the asset or owes the liability, rather than an entity-specific measurement. Therefore,
even when market assumptions are not readily available, our own assumptions attempt to reflect
those that market participants would use in pricing the asset or liability at the measurement date.
Further, fair value measurements are market-based measurements with an exit price notion, not
entity-specific measurements. Therefore, an entity cannot disregard the information obtained from
the current market simply because the entity is a willing seller at that price. If the best
information available in the circumstances indicates that market participants would transact at a
price, it does not matter whether the reporting entity is actually willing to transact at that
price.
The Manager performs a valuation analysis of our loan portfolio on an annual and quarterly basis.
Historically, for purposes of determining whether a valuation adjustment was required, the Manager
primarily utilized a modeling technique (known as residual analysis) commonly used in our industry
using Level 3 inputs and supplemented by discounting of projected cash flows. This analysis is based on the assumption that development of our collateral
was the highest and best use of such property.
In the latter part of 2008 and a part of 2009, the global and U.S. economies experienced a
rapid decline resulting in unprecedented disruptions in the real
estate, capital, credit and other markets.
As a result of these factors, we recorded a valuation provision using our development/residual
analysis approach, reflecting lower pricing assumptions and a significant increase in discount
factors to reflect market risk.
16
Table of Contents
IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
In
the fourth quarter of 2008, we engaged independent third-party
valuation firms to assist
with our analysis of fair value of the loan portfolio as of December 31, 2008. As a result of this
analysis, and given the significant change in the economic and real estate landscape, naturally, we determined
that the development approach that was historically used for virtually every collateral type was no
longer the highest and best use for the majority of our collateral. Alternatively, in most cases
the highest and best use was deemed to be hold for investment using current pricing data (i.e.,
Level 2 analysis) as of December 31, 2008, with several comparable sales reflecting distressed sale
pricing. This determination was based on our assessment of the liquidity freeze, lack of demand for
developed property, the extended development and sales period, and uncertainty relative to the
pricing and cost estimates under a long-term build out scenario. This assessment resulted in a
significant decline in the estimated fair values in relation to our historical residual analysis
methodology.
Given
recent sales activity and the on-going volatility in real estate markets, in the third quarter of 2009, we engaged
independent third-party valuation firms and other consultants to assist with the Managers analysis of fair
value of our loan portfolio as of September 30, 2009. The underlying collateral of our loans vary
by stage of completion, which consists of either raw land, entitled land, partially developed, or
mostly developed/completed projects (see Note 4 Loan Classifications table). As a result of this
preliminary analysis, management determined that certain assets were most appropriately valued
utilizing Level 2 observable inputs based on current pricing data as of September 30, 2009 (despite
the fact that in many cases comparable sales continue to reflect distressed sale pricing), while we
believed other assets were more appropriately subject to a Level 3 development approach.
The following is a summary of the procedures being performed in connection with our fair value
analysis, which is on-going as of November 16, 2009:
All loans in our portfolio continue to be deemed collateral dependent, and we perform our
analysis of fair value of that collateral under the provisions of the applicable accounting
guidance. In order to complete the fair value analysis, we are performing the following procedures
for the period ended September 30, 2009, and the year ending December 31, 2009:
1. | Reviewing the status of each portfolio loan to ascertain our view of the likelihood that we
will collect all amounts due under the terms of such loans at maturity based on current
real estate and credit market conditions. |
2. | For loans whose collection we deem to be unlikely, we are reviewing the portfolio loans to
ascertain how recently the latest valuation of the underlying collateral was performed. |
3. | Subjecting the entire loan portfolio to independent third party valuation as of September
30, 2009. |
4. | Utilizing the services of Cushman & Wakefield, a nationally recognized
valuation firm, and other valuation firms to perform a valuation analysis for the selected
projects using the valuation criteria under a Level 2 valuation approach. Cushman &
Wakefield valued approximately 89% of the outstanding principal balance of the loan
portfolio while other valuation firms valued the remaining 11%. For those valuations
performed by valuation firms other than Cushman & Wakefield, we expect to utilize Cushman &
Wakefield to perform a review of the valuations and reports. |
17
Table of Contents
IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
5. | We understand it is
customary for some independent valuation firms to use the term market
value when valuing real property interests. We recognize that there are differences in
the market value and fair value definitions, but in many instances,
the reported results are identical. The Manager believes that it can reliably use market
valuations when making decisions with respect to fair value of our assets for financial
reporting purposes. Level 3 inputs for valuation are provided for market circumstances in
which Level 1 and Level 2 inputs are not reliably available. From the information
received from the valuation firms engaged by the Fund, each asset, and its corresponding
valuation, was individually reviewed by us and the valuations were interpreted under the
definition of fair value under applicable accounting guidance. |
6. | Using observable and unobservable inputs available, and depending on the development
status of the collateral, we are in the process of performing analyses on selected assets
utilizing a Level 3 residual analysis approach to determine the projected cash proceeds
expected to be received for such projects. This analysis includes estimating project development costs, projected carrying
costs, such as property taxes, and estimated disposal costs. The cash flow streams will
then be discounted to present value to derive fair value. |
A summary of the results and key assumptions utilized by the independent valuation firms to
derive fair value follows:
| Very few of the precedent transactions that were analyzed satisfied the market value
and fair value requirement that the price reflect that of an orderly
transaction, rather many of the sales were made under duress or in
markets in turmoil. |
| Inputs for use in Level 2 and/or Level 3 models were reported by the valuation firms to
be inconsistent and reflective of a distressed market that has not yet established current
norms for inputs into discounted cash flow or other financial models such as absorption
rates and timing, unit pricing and trends, discount rate, risk adjustment processes, or
the like. |
| A distinction was made between owners under duress and properties under duress. Market
values are determined based on the determined highest and best use of the real property
being valued. When owners are under duress, prices of transactions in which they are
involved must be viewed as at least potentially subject to duress as well. The valuation
firms took this distinction into account in arriving at highest and best use conclusions
and selecting appropriate valuation methodologies. |
| The highest and best use for the majority of real estate collateral subject to
third-party valuation was deemed to be held for investment and/or future development,
rather than being subject to immediate development and/or sale. For each of these assets,
a sales comparison approach using available data was used as the valuation methodology. |
| For the projects which included either unentitled or entitled land lacking any vertical
or horizontal improvements, given the current distressed state of the real estate and
credit markets, the development approach was deemed to be unsupportable because Level 2
market participant data were insufficient and/or Level 3 criteria was not reliably
available from the valuation firms market research; the highest and best use standard
in these instances required such property to be classified as held for investment
purposes until market conditions provide observable development activity to support either a Level 2 or a Level 3 valuation model for the development of the planned site. As a
result, the valuation firms used a sales comparison approach using
available data to determine market value. |
18
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
| For the projects containing partially or fully developed lots, the development approach
was utilized, with assumptions made for pricing trends, absorption projections, holding
costs, and the relative risk given these assumptions. The assumptions used by the
valuation firms were based on currently observable available market data. |
| For operating properties, the income approach, using the direct capitalization and
discounted cash flow methods was used by the valuation firms. The anticipated future cash
flows and a reversionary value were discounted to an opinion of net present value at a
chosen yield rate. The assumptions used by the valuation firms were based on currently
observable available market data. |
| For projects in which we have received a recent third party offer to buy our loan, or the
borrower has received a recent third party offer to buy the related project, we utilized the offer amount in cases in which the offer exceeded
the valuation conclusion reached by the independent valuation firms. |
For projects other than those where the Manager relied primarily on the work of independent valuation
firms, the Manager supplemented its analysis utilizing a risk-adjusted cash flow model commonly used in our
industry based on certain assumptions and Level 3 inputs to determine fair value, which presumes a
development approach as highest and best use for such projects. To evaluate the collateral
relating to these projects, the Manager performed different procedures depending on the stage of the
collateral, which are described below, along with a summary of key assumptions utilized in our
evaluations of fair value, as follows:
| For collateral to be developed, the initial unit sales price utilized was based on
local market, comparable prices from non-distressed pricing from prior periods utilizing
observable and unobservable data points, generally discounted by 20% or more. In general,
management assumed a price escalation utilizing the low end of a historical 3-year average
look back for the last 10 years. We considered this a fair exchange price in an orderly
transaction between market participants to sell the asset, assuming its highest and best
use as determined by management, in the principal or most advantageous market for the
asset. |
| For collateral to be developed, the development costs, operating and selling cost
assumptions we made were based on observable and unobservable cost estimates obtained from
a cross section of industry experts and market participants. |
| For collateral consisting of partially complete or finished lots, development costs,
operating and selling cost assumptions were based on observable and unobservable
cost estimates obtained from a cross section of industry experts and market participants. |
| For collateral whose development is complete or nearly complete which are expected to
be leased initially to allow for stabilization of market prices before being sold, we
utilized operating revenue and costs for comparable projects using current operating data
obtained by us. |
| Based on the resulting net cash flows derived from the utilization of the above
assumptions, the Manager applied risk-adjusted annual discount rates ranging from 20% to 25% to the
net cash flows, depending on the projected build-out term, the project type, the location
and assumed project risk. |
19
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
| Assets acquired through foreclosure are subject to different accounting guidance which
requires us to account for these real estate assets received in satisfaction of the
related receivable by writing them down to estimated fair value as of the date of
foreclosure. An impairment charge is recorded when circumstances
indicate that the carrying
amount of the property is greater than the sum of the undiscounted
cash flows expected to result from the use and eventual disposition
of the property. |
All Fund mortgage investments are measured at fair value using either Level 2 or Level 3
inputs. The Manager continues to evaluate the appropriate valuation methodology applicable to each asset.
Based on the results of our evaluation and analysis to date, we recorded a valuation provision
charge of $90,000 and $42,430 for the nine and three months ended September 30, 2009 and 2008,
respectively. These valuation provision charges also include $8,000 and $1,300 for 2009 and 2008,
respectively, relating to the impairment of real estate owned deemed to be other than temporary.
The valuation charge is reflective of the continued deterioration of the real estate markets and
the sustained distressed sales pricing of residential real estate in recent months combined with
the downturn in the commercial real estate markets.
While the above results reflect our preliminary assessment of fair value as of September 30,
2009 based on currently available data and analysis completed to date. We expect the Manager to continue to
evaluate the loan portfolio in the fourth quarter of 2009 to determine the adequacy and
appropriateness of the allowance for credit loss and to update our loan-to-value ratios. Depending
on market conditions, such updates may yield materially different values and may potentially
increase or decrease the valuation allowance.
As
of September 30, 2009 and December 31, 2008, respectively,
the allowance for credit loss totaled $337,000
and $300,310, respectively, representing 60.9% and 48.9%, respectively, of the total loan portfolio
principal balances. With the existing allowance recorded as of September 30, 2009, we believe that
as of that date, the fair value of the underlying collateral of the Funds loan portfolio is
sufficient to protect the Fund against any loss of the net carrying value of loan principal or
accrued interest, and that no additional allowance for credit loss is necessary at this time.
A rollforward of the allowance for credit loss as of September 30, 2009 follows:
2009 | ||||
Balance at
beginning of year |
$ | 300,310 | ||
Valuation charge for current fair value |
82,000 | |||
Transferred to other accounts |
(45,310 | ) | ||
Balance at end of period |
$ | 337,000 | ||
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
Loan Classifications
We classify loans into categories for purposes of identifying and managing loan
concentrations. As of September 30, 2009 and December 31, 2008, respectively, loan principal balances, net of
the allowance for credit loss, by concentration category follows:
September 30, 2009 | December 31, 2008 | |||||||||||||||||||||||
Amount | % | # | Amount | % | # | |||||||||||||||||||
Pre-entitled Land: |
||||||||||||||||||||||||
Held for Investment |
$ | 13,834 | 2.5 | % | 3 | $ | 7,178 | 1.2 | % | 2 | ||||||||||||||
Processing Entitlements |
193,087 | 34.9 | % | 10 | 200,902 | 32.8 | % | 12 | ||||||||||||||||
206,921 | 37.4 | % | 13 | 208,080 | 34.0 | % | 14 | |||||||||||||||||
Entitled Land: |
||||||||||||||||||||||||
Held for Investment |
113,117 | 20.4 | % | 16 | 114,307 | 18.6 | % | 17 | ||||||||||||||||
Infrastructure under Construction |
69,834 | 12.6 | % | 5 | 57,908 | 9.4 | % | 4 | ||||||||||||||||
Improved and Held for Vertical Construction |
46,857 | 8.5 | % | 4 | 54,486 | 8.9 | % | 5 | ||||||||||||||||
229,808 | 41.5 | % | 25 | 226,701 | 36.9 | % | 26 | |||||||||||||||||
Construction & Existing Structures: |
||||||||||||||||||||||||
New Structure Construction in-process |
37,110 | 6.7 | % | 15 | 43,814 | 7.1 | % | 14 | ||||||||||||||||
Existing Structure Held for Investment |
23,632 | 4.3 | % | 4 | 37,482 | 6.1 | % | 5 | ||||||||||||||||
Existing Structure Improvements |
55,885 | 10.1 | % | 1 | 97,777 | 15.9 | % | 3 | ||||||||||||||||
116,627 | 21.1 | % | 20 | 179,073 | 29.1 | % | 22 | |||||||||||||||||
Total |
553,356 | 100.0 | % | 58 | 613,854 | 100.0 | % | 62 | ||||||||||||||||
Less: Allowance for Credit Loss |
(337,000 | ) | (300,310 | ) | ||||||||||||||||||||
Net Carrying Value |
$ | 216,356 | $ | 313,544 | ||||||||||||||||||||
We also classify loans into categories based on the underlying collaterals projected end-use
for purposes of identifying and managing loan concentrations and associated risks. As of September
30, 2009 and December 31, 2008, respectively, outstanding principal loan balances, net of the
allowance for credit loss, by expected end-use, were as follows:
September 30, 2009 | December 31, 2008 | |||||||||||||||||||||||
Amount | % | # | Amount | % | # | |||||||||||||||||||
Residential |
$ | 276,417 | 50.0 | % | 37 | $ | 278,644 | 45.4 | % | 37 | ||||||||||||||
Mixed Use |
183,617 | 33.2 | % | 8 | 206,691 | 33.7 | % | 11 | ||||||||||||||||
Commercial |
92,252 | 16.7 | % | 12 | 127,449 | 20.8 | % | 13 | ||||||||||||||||
Industrial |
1,070 | 0.1 | % | 1 | 1,070 | 0.1 | % | 1 | ||||||||||||||||
Total |
553,356 | 100.0 | % | 58 | 613,854 | 100.0 | % | 62 | ||||||||||||||||
Less: Allowance for Credit Loss |
(337,000 | ) | (300,310 | ) | ||||||||||||||||||||
Net Carrying Value |
$ | 216,356 | $ | 313,544 | ||||||||||||||||||||
We
estimate that, as of September 30, 2009, approximately 57% of the valuation allowance is
attributable to residential-related projects, 41% to mixed use projects, and the balance to
commercial and industrial projects.
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 4 MORTGAGE LOANS, LOAN PARTICIPATIONS AND LOAN SALES CONTINUED
Geographic Diversification
As of September 30, 2009 and December 31, 2008, respectively, the geographical concentration of the Funds
principal loan balances, net of the allowance for credit loss, by state, follows:
September 30, 2009 | December 31, 2008 | |||||||||||||||||||||||||||||||||||||||
Oustanding | Allowance for | Net Carrying | Oustanding | Allowance for | Net Carrying | |||||||||||||||||||||||||||||||||||
Principal | Credit Loss | Amount | Percent | # | Principal | Credit Loss | Amount | Percent | # | |||||||||||||||||||||||||||||||
Arizona |
$ | 290,778 | $ | (175,887 | ) | $ | 114,891 | 53.0 | % | 29 | $ | 294,362 | $ | (128,499 | ) | $ | 165,863 | 52.9 | % | 31 | ||||||||||||||||||||
California |
181,023 | (113,678 | ) | 67,345 | 31.1 | % | 20 | 177,255 | (124,422 | ) | 52,833 | 16.9 | % | 20 | ||||||||||||||||||||||||||
New Mexico |
5,240 | (1,182 | ) | 4,058 | 1.9 | % | 2 | 5,240 | (637 | ) | 4,603 | 1.5 | % | 2 | ||||||||||||||||||||||||||
Texas |
11,102 | (4,493 | ) | 6,609 | 3.1 | % | 3 | 55,825 | (5,781 | ) | 50,044 | 16.0 | % | 4 | ||||||||||||||||||||||||||
Idaho |
49,590 | (39,090 | ) | 10,500 | 4.9 | % | 2 | 49,578 | (38,458 | ) | 11,120 | 3.5 | % | 2 | ||||||||||||||||||||||||||
Minnesota |
| | | 0.0 | % | 0 | 16,590 | | 16,590 | 5.3 | % | 1 | ||||||||||||||||||||||||||||
Nevada |
7,978 | (2,670 | ) | 5,308 | 2.5 | % | 1 | 7,969 | (1,876 | ) | 6,093 | 1.9 | % | 1 | ||||||||||||||||||||||||||
Utah |
7,645 | | 7,645 | 3.5 | % | 1 | 7,035 | (637 | ) | 6,398 | 2.0 | % | 1 | |||||||||||||||||||||||||||
Total |
$ | 553,356 | $ | (337,000 | ) | $ | 216,356 | 100.0 | % | 58 | $ | 613,854 | $ | (300,310 | ) | $ | 313,544 | 100.0 | % | 62 | ||||||||||||||||||||
Borrower Concentrations
As
of September 30, 2009, there was one borrower and one borrowing
group, respectively, whose borrowings
totaled $69,122 (which was in default at September 30, 2009) and $97,771, respectively, which
accounted for approximately 12.5% and 17.7%, respectively, of our total mortgage loan principal
balance outstanding (although at the time of origination, the principal balance was less than 10%
of the total mortgage loan principal balance outstanding). As of December 31, 2008, there was one
individual borrower whose aggregated borrowings totaled $67,670, which was approximately 11% of our
total mortgage loan principal balance outstanding (although at the time of origination, the
principal balance was less than 10% of the total mortgage loan principal balance outstanding).
Mortgage Loan Participations and Whole Loans Sold
Given the Managers decision to suspend certain of our activities in order to seek to
prevent impairment of our capital and operations and to assist us in our efforts to meet our
remaining funding commitments, we believe that certain loans are likely to be sold or participated in the future.
While we expect that any future loan participations or loan sales will also occur at or near par,
due in part to current market conditions, there can be no assurance that this will be the case. In
light of current economic conditions, it may be necessary for us to employ alternative structures
for loan participations. Except for the loan participation with the Manager discussed elsewhere, no
loan sales or loan participations were executed during the nine or three months ended September 30,
2009 or the year ended December 31, 2008.
At the time of loan origination, we generally intended to hold all loans to maturity and had
no plans or intent to sell such loans. However, as a result of the suspension of certain of our
activities due to market circumstances and the lack of available liquidity to satisfy our obligations, the Manager has selected certain loans within
our portfolio to actively market for sale. For information regarding participations and
whole loan sales, and repurchases thereof, involving the Manager, see Note 7.
22
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 5 REAL ESTATE HELD FOR DEVELOPMENT OR SALE
Real estate held consists primarily of properties acquired as a result of foreclosure or
purchase and is reported at the lower of carrying value or fair value, less estimated costs to sell
the property. We had $97,305 and $62,781 of such assets at September 30, 2009 and December
31, 2008, respectively.
Under GAAP, the foreclosure of a loan and the recording of real estate owned is deemed to be a
conversion of a monetary asset to a long-lived asset. Further, such assets are valued as fair
value at the foreclosure date and this fair value becomes the new basis for financial reporting
purposes. The valuation charge recorded as basis adjustments for the periods ended September 30,
2009 and 2008 includes $27,910 and $1,300, respectively.
During the nine months ended September 30, 2009, we acquired five real estate assets through
foreclosure of the related mortgage loans with an estimated fair
value of $41,169. During the year
ended December 31, 2008, we took title to the underlying real estate collateral of nine loans in
default with a net carrying value of approximately $55,318 at December 31, 2008. Additionally, in
March 2008, we purchased certain real estate with a current carrying value of approximately $7,463,
located in Arizona that is contiguous to the security for certain loans in the loan portfolio, in
an effort to seek to maintain and enhance the overall project value. All real estate owned by us is
located in California, Arizona, Texas or Minnesota.
During the second and third quarters of 2009, we implemented a plan to market and sell certain
of our owned real estate. At September 30, 2009, the fair value of real estate held for sale
totaled $7,092. During 2009, we sold various individual residential units held in our real estate portfolio netting approximately
$770 in cash proceeds.
Costs related to the development or improvement of the real estate assets are generally
capitalized and costs relating to holding the assets are generally charged to expense. Cash
outlays for capitalized development costs totaled $2,356 during the nine months ended September 30,
2009. In addition, costs related to holding and maintaining such properties, which were expensed
in the accompanying consolidated statement of operations, totaled
approximately $2,817 and $62
during the nine month periods ended September 30, 2009 and 2008, respectively, and $1,477 and $62
for the three months ended September 30, 2009 and 2008, respectively. The nature and extent of
future costs for such properties depends on the level of development undertaken, the number of
additional foreclosures and other factors. Additionally, during 2009, the Manager engaged the
services of an outside asset management consultant to assist in the determination of the specific
asset disposition strategy. The consultant receives $110 per month for its services.
In our view, the estimated net realizable values of such properties equal or exceed the
current carrying values of our investment in the properties as of September 30, 2009, net of
impairment charges recorded.
Although the Manager has been approached on an unsolicited basis by third parties expressing
an interest in purchasing certain real estate owned by us and held for development, the Manager has not
developed or adopted any formal plan to dispose of such assets at this time.
23
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 6 MEMBER DISTRIBUTIONS AND REDEMPTIONS
Member Distributions Reinvested and Distributions Payable to Members
Historically, our Members elected to either reinvest distributable monthly earnings or to have
earnings distributed to them in cash. Effective October 1, 2008, we suspended the option allowing
Members to reinvest monthly distributions. See Note 1 for further discussion. During the nine
months ended September 30, 2009 and 2008, our total net distributions to Members were
$11,706 and $49,163, respectively, which translated into net distributions of $160.27 and $749.20
per weighted average membership unit over the same periods, respectively. Distributions reinvested,
which is a non-cash transaction, totaled $0 and $23,192 for the nine months ended September 30,
2009 and 2008, respectively. During the second quarter of 2009, the Manager revised its Member
distribution program and ceased further distributions to Members until we generate sufficient
liquidity to cover all borrower obligations and operating costs.
Distributions payable, which totaled approximately $0 and $4,963 at September 30, 2009 and
December 31, 2008, respectively, have been charged to Members Equity and are classified as
Distributions Payable to Members in the accompanying consolidated balance sheets.
Redemptions
Effective October 1, 2008, the Manager elected to, among other actions, suspend the payment of
all redemption requests and the acceptance of additional redemption requests. Full and partial
redemptions totaled approximately $120,533 during the nine months ended September 30, 2008. No
redemptions were paid during the nine months ended September 30, 2009.
NOTE 7 MANAGEMENT FEES AND RELATED PARTY ACTIVITY
Management Fees and Other Amounts Due to Manager
For managing the Fund, the Manager is entitled to a 25 basis point annualized fee, payable
monthly, based on our total mortgage loan principal balance at each month-end, excluding loans in
non-accrual status and other non-performing assets. Management fees incurred for the nine months
ended September 30, 2009 and 2008 totaled approximately $481 and $819, respectively. Management
fees incurred for the three months ended September 30, 2009 and 2008 totaled approximately $62 and
$300, respectively. As of September 30, 2009 and December 31, 2008, the Manager was owed $21 and
$106, respectively, for unpaid management fees.
In addition, the Manager is entitled to 25% of any amounts recognized in excess of the our
principal and note rate interest due in connection with loans held in whole or in part by us .
During the nine months ended September 30, 2009 and 2008, the Manager earned no such fees in
connection with this provision.
In connection with the recording of a valuation allowance on a loan for which the Manager
previously received certain amounts in accordance with this provision, we recorded a receivable
from the Manager totaling $2,410. The advance to the Manager bears interest at 10% per annum and
all unpaid accrued interest and principal is due September 30, 2011. Interest earned on this
receivable totaled $117 and $0 for the nine months ended September 30, 2009 and 2008, respectively,
and $29 and $0 for the three months ended September 30, 2009 and 2008, respectively. The advance to
the Manager and related accrued interest was partially repaid during the first quarter of 2009. At
September 30, 2009 and December 31, 2008, outstanding principal and accrued interest under this arrangement totaled $1,338 and $2,471, respectively, which is
included in advances to the Manager in the accompanying consolidated balance sheet.
24
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 7 MANAGEMENT FEES AND RELATED PARTY ACTIVITY CONTINUED
Under the terms of the Operating Agreement, we are responsible for the payment of
expenses or costs related to defaulted loans, foreclosure activities, or property acquired through
foreclosure. For the nine months ended September 30, 2009 and
2008, the Fund incurred $579 and
$503, respectively, in default related expenses. For the three months ended September 30, 2009 and
2008, we incurred $251 and $418, respectively, in default related expenses.
In connection with the modification of certain loans in 2008, the borrowers and the Manager agreed
to defer the payment of related processing and administrative fees due to the Manager until the
payoff of the respective loans. We recorded these processing and administrative fees which are included in Payables
to Fund Manager on the accompanying consolidated balance sheet, which totaled $619 at December 31,
2008. These deferred fees bear interest, payable to the Manager, at the same rate of the related
mortgage notes. During the quarter ended September 30, 2009, we foreclosed on one such loan and the
deferred fees were reversed and netted against the basis in the related real estate asset.
Additionally, in connection with various loan modifications, the Manager agreed to defer the
collection of the related loan fees and collect such fees as needed. At September 30, 2009,
processing and administrative fees included in Payables to Fund Manager on the accompanying
consolidated balance sheet totaled $5,247 at September 30, 2009.
For loans originated on our behalf, the Manager receives all the revenue from loan origination
and processing fees (points) and other related fees, which are paid by the borrower. See Note 1 for
further discussion. For the nine months ended September 30, 2009 and 2008, the Manager earned
origination, processing and other related fees of approximately $9,356 and $20,327, respectively,
substantially all of which were earned on loans funded by us. For the three months ended
September 30, 2009 and 2008, the Manager earned origination, processing and other related fees of
approximately $4,873 and $7,564, respectively. These amounts include fees earned from the
expiration of refundable loan fees previously collected, which were refundable to the borrower in
the event of loan payoff by a specified date.
Related Party Investments and Borrowings
At September 30, 2009, the Manager maintained a line of credit with a bank with a total borrowing
capacity of $5,200. This line expired on October 1, 2009 and was extended to April 1, 2010 at a
maximum capacity of $2,520. Accordingly, we no longer have access to additional liquidity under
this line of credit. The line of credit bears interest rate at the Prime Rate plus 1.5% (4.75% at
September 30, 2009). During the nine month ended September 30, 2009, the Manager drew $6,000 under
this line to provide liquidity for us and repaid principal of $3,480 under this line commensurate
with principal paydowns received from related borrowers, resulting in a balance at September 30,
2009 of $2,520. The line of credit is collateralized by specific loans held by us and underlying deeds
of trust and a guarantee of the Managers Chief Executive Officer.
25
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 8 COMMITMENTS AND CONTINGENCIES
Undisbursed loans-in-process and interest reserves reflected on the accompanying consolidated
balance sheets generally represent the unfunded portion of construction loans pending completion of
additional construction, and interest reserves for all or part of the loans terms. As of
September 30, 2009 and December 31, 2008, respectively, undisbursed loans-in-process and interest reserves
balances were as follows:
September 30, 2009 | December 31, 2008 | |||||||||||||||||||||||
Loans Held | Loans Held | Loans Held | Loans Held | |||||||||||||||||||||
to Maturity | for Sale | Total | to Maturity | for Sale | Total | |||||||||||||||||||
Undispersed
Loans-in-process per Note Agreement |
$ | 50,483 | $ | 2,672 | $ | 53,155 | $ | 66,035 | $ | 32,633 | $ | 98,668 | ||||||||||||
Less: amounts not to be funded |
(46,408 | ) | | (46,408 | ) | (39,461 | ) | (13,767 | ) | (53,228 | ) | |||||||||||||
Undispersed
Loans-in-process per Financial Statements |
$ | 4,075 | $ | 2,672 | $ | 6,747 | $ | 26,574 | $ | 18,866 | $ | 45,440 | ||||||||||||
A breakdown of loans-in-process expected to be funded is presented below:
9/30/09 | 12/31/08 | |||||||
Loans-in-Process Allocation: |
||||||||
Construction Commitments |
$ | 1,280 | $ | 41,085 | ||||
Unfunded Interest Reserves |
| 4,314 | ||||||
Deferred Loan Fees due to Manager |
4,760 | | ||||||
Reserve for Protective Advances |
669 | | ||||||
Taxes and Other |
38 | 41 | ||||||
Total Loan-in-Process |
$ | 6,747 | $ | 45,440 | ||||
While the contractual amount of unfunded loans in process and interest reserves total $53,155
at September 30, 2009, the Manager estimates that we will fund approximately $6,747. Of the $6,747 expected
to be funded, $4,760 relates to deferred loan fees due to the Manager and $669 relates to reserves for
protective advances not required under the terms of the loan agreement but that the Manager expects to fund
to protect our interest in the asset. The difference of $46,408, which is not expected to be
funded, relates to loans that are in default, loans that have been modified to lower the funding
amount, and loans whose funding is contingent on various project milestones, many that have not
been met to date and are not expected to be met given current economic conditions. Accordingly,
these amounts are not reflected as funding obligations in the accompanying consolidated balance
sheet. With available cash and cash equivalents of $2,463 at September 30, 2009, scheduled loan
payoffs, the suspension of Member redemptions, the suspension of new loan request fundings, and
other available sources of liquidity, including potential loan participations, loan sales or sales
of real estate owned, we expect to meet our obligation to fund these undisbursed amounts in the normal course
of business. See Note 1 for discussion of the Funds liquidity.
For certain borrowers, the terms of the loan documents required funded interest reserve
accounts, which were deposited into a controlled disbursement account in the name of the borrower
for the benefit of the Fund upon initial funding of the loan. These funds, totaling approximately
$288 and $8,109 at September 30, 2009 and December 31, 2008, respectively, are not included in the
accompanying balance sheets due to the fiduciary nature of such accounts.
26
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IMH SECURED LOAN FUND, LLC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2009
(Unaudited)
(In thousands except unit data)
NOTE 8 COMMITMENTS AND CONTINGENCIES CONTINUED
The term of the Operating Agreement is for the life of the Fund. Only under specified circumstances and
with the vote of a majority of Members can the Manager be terminated. In the event of any such
permitted termination, if no replacement manager were to be selected in such an event, the Fund
would dissolve.
The Manager and its affiliates are subject to oversight by various state and federal
regulatory authorities, including, but not limited to, the Arizona Corporation Commission (ACC),
the Arizona Department of Revenue, the Arizona Department of Financial Institutions (Banking), the
United States Securities and Exchange Commission (SEC) and the Internal Revenue Service (IRS).
In December 2004, and pursuant to several supplemental requests thereafter, the ACC requested
certain information pertaining to the operations of us and the Manager, and the Manager responded
to the requests made by the ACC. Between 2005 to July 2009, the ACC did not have any contact with
us or the Manager. In July 2009, the ACC requested from the Manager information concerning
certain affiliates of the Manager. The Manager has provided testimony and documentation in respone
to this request, but is not informed of the specific nature or substance of the inquiry.
The Manager believes that the Manager and its affiliates have been, and currently are in,
material compliance with laws and regulations that govern its operations and those of the Fund, and
that the Manager and the Fund are and have been in material compliance with the Operating
Agreement. However, there can be no assurance that the ACC or others will not assert otherwise,
that the ACC will not seek to impose fines, limitations or prohibitions relating to the Managers
or its affiliates business activities, or other remedies, any of which could harm our operations. Further, even if that is not the case, the Manager or its affiliates,
including us, may incur significant legal and other defense costs in respect of this matter.
We are a party to litigation in the ordinary course of business in connection with certain of
our portfolio loans that go into default or for other reasons. While various asserted and
unasserted claims exist, the resolution of these matters cannot be predicted with certainty, and
the Manager believes, based upon currently available information, that the final outcome of such
matters will not have a material adverse effect, if any, on our results of operations or financial
condition.
Following the suspension of certain of our activities, including the suspension of Member
redemptions, certain Members have requested that their redemption requests be honored due to
financial hardships or other reasons. In each instance, we have responded that we will not grant
such requests at this time and we are treating all Members uniformally. While neither the Manager nor us has
been served with any lawsuits from Members, certain Members have filed grievances with the SEC and possibly other regulatory agencies
related to the Managers administration of the Fund.
Our income tax returns have not been examined by taxing authorities and all statutorily open
years remain subject to examination.
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Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations. |
The following discussion should be read in conjunction with the audited financial statements
and accompanying notes and other detailed information regarding the Fund as of and for the year
ended December 31, 2008 included in our previously filed Annual Report on Form 10-K (Form 10-K),
and with the unaudited interim consolidated financial statements and accompanying notes included in
this Quarterly Report on Form 10-Q (Form 10-Q). Undue reliance should not be placed upon
historical financial statements since they are not indicative of expected results of operations or
financial condition for any future periods. All dollar amounts are expressed in thousands, except
unit and per unit data.
Forward-Looking Statements
This Form 10-Q contains forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, as amended (the Securities Act) and Section 21E of the Securities
Exchange Act of 1934, as amended (the Exchange Act). The forward-looking statements included in
this Form 10-Q include statements concerning our plans, objectives, goals, strategies, future
events, future performance, business trends and other information that is not historical
information. When used in this Form 10-Q, the words estimates, expects, anticipates,
projects, plans, intends, believes, forecasts, assumes, may, should, will and
variations of such words or similar expressions are intended to identify forward-looking
statements. All forward-looking statements, including, without limitation, the matters discussed
under the Managements Discussion and Analysis of Financial Condition and Results of Operations,
are based upon our current expectations, beliefs, projections and assumptions. Our expectations,
beliefs, projections and assumptions are expressed in good faith and we believe there is a
reasonable basis for them. However, there can be no assurance that our financial condition or
results of operations will meet the expectations set forth in our forward-looking statements.
The forward-looking statements that we make in this Form 10-Q are subject to a variety of
risks, uncertainties and other factors that could cause actual results to differ materially from
such forward-looking statements. Some of the important factors that could cause our actual results
to differ from those projected in any forward-looking statements include, but are not limited to,
the following factors, which are discussed in greater detail in the Risk Factors section of our
Form 10-K and in Part II Item 1A. of this Quarterly Report on Form 10-Q:
| As a result of the suspension of certain of our activities, the Manager believes that
both our ability and the Managers ability to continue as a going concern for the next 12
months is predicated on the successful completion of one or more initiatives that we are
currently evaluating. Despite the cost-savings initiatives we have undertaken, the Manager
can provide us with no assurance that its liquidity situation will improve in 2009 or that the
Manager will be able to continue as a going concern. If the Manager is unable to continue
in its capacity as our Manager, a replacement manager will need to be identified pursuant
to Article 11 of the Operating Agreement, which could result in a significantly different
and higher management fee and expense structure to us. |
| We have been and will continue to be adversely affected by the general economic slowdown
and recession in the U.S. and abroad. |
| We are subject to the risk that, despite recent actions and proposals by the U.S.
government and governments around the world, the economy and real estate and other markets
will not improve, which could continue to adversely affect our ability to sell or dispose
of properties we own and the ability of our borrowers to repay our loans or obtain take-out
financing in a timely manner, on reasonable terms, or at all, which would adversely affect
our liquidity and operating results. |
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| As allowed by the Operating Agreement, effective October 1, 2008, the Manager elected to
suspend certain of our activities, including the acceptance of any additional investments,
the payment of outstanding redemption requests, the acceptance of new redemption requests,
and the identification and funding of new loans (although we may finance new loans in
connection with the sale of collateral under existing loans or the sale of real estate
owned). This election was made in order to seek to preserve our capital and to seek to
stabilize our operating activities and liquid assets in order to assist us in our ability
to meet future obligations, including those pursuant to current loan commitments. There
can be no assurance that our activities will resume in the foreseeable future, if ever. |
| If our liquidity continues to dissipate and we are unable to meet our obligations, we
may be forced to sell certain assets for a price at or below their current book value,
which could result in an additional loss. While we have developed formal disposition plans for selected
assets, the Manager continues to receive unsolicited offers from third parties for various
assets. While negotiations may ensue upon receipt of such unsolicited offers, such assets
are not deemed to be held for sale for financial reporting purposes. |
| The Manager and its affiliates are subject to oversight by various state and federal
regulatory authorities, including, but not limited to, the ACC, the Arizona Department of
Revenue, the Arizona Department of Financial Institutions (Banking), the SEC and the
Internal Revenue Service, and there is a risk that examinations or enforcement or related
activities by any such agency could have a material adverse effect on us. |
| Our units lack liquidity and marketability and our Members cannot sell their units or
have their units redeemed. As a result, our Members may lose their entire investment or
may not be able to sell their units or have them redeemed in a timely manner, or at all, or
at the price they paid. |
| We are subject to risks generally associated with the ownership of real estate-related
assets, including changing economic conditions, environmental risks, unforeseen statutory
and regulatory changes, the cost of and ability to obtain insurance and risks related to
developing and leasing of properties. |
| As a mortgage lender, we are subject to a variety of external forces that could have a
material adverse effect on our operations and results, including, without limitation,
fluctuations in interest rates, fluctuations in economic conditions (which are exacerbated
by our limited geographic diversity), and the effect that regulators or bankruptcy courts
could have on our operations and rights as a secured lender. |
| Our portfolio loans, which are not guaranteed by any government agency, are risky and are not sold
on any secondary market, and the underwriting standards that we previously utilized may not
have been sufficient to protect Members from loan defaults or ensure that sufficient
collateral, including collateral pledged by guarantors, will exist to protect Members from
any such defaults. |
| Our borrowers are exposed to various risks associated with owning real estate, and
expected and unexpected costs or liabilities, including costs of holding such real estate,
could reduce the likelihood that our borrowers will be able to develop or sell the real
estate, which could increase the likelihood that our borrowers will default on our portfolio loans or
may require us to advance additional amounts to preserve and protect our interest in the
related assets. |
| Real estate assets acquired in foreclosure or through other means are generally
non-earning assets that reduce the yield to investors, if any. Moreover, the ultimate
disposition and liquidation of such assets may not occur for an extended period of time, which would adversely affect our
liquidity. |
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| We rely exclusively on our Manager to manage our investments and conduct our operations.
Our Members have no right to participate in decisions relating to the activities of our
Manager or, in general, us. |
| We are obligated to pay certain fees to our Manager, which may adversely
impact our operating results and reduce cash available for other purposes. |
| Our Manager faces conflicts of interest, including, without limitation, competing
demands upon its time and its involvement with other activities, all of which could have an adverse effect on us. |
| As a publicly reporting company, we are required to divert considerable resources to new
compliance initiatives, including refining, maintaining, testing and reporting on our
disclosure controls and procedures and internal control over financial reporting, as well
as compliance with accounting and reporting initiatives relating to valuation of our
assets. |
| The suspension of certain of our activities may persist for an extended period of time,
and we may not resume historical activities to the same level or at all. |
| There are material income tax and retirement plan risks associated with ownership of our
units. |
| There is a risk that we may modify and refinance existing portfolio loans which currently have
interest rate floors to loans with lower rates which could reduce mortgage income. |
The foregoing list of factors is not exhaustive. You should carefully consider the foregoing
factors and the other uncertainties and potential events described in our previously filed Form
10-K and elsewhere in this Form 10-Q. Our future financial condition and results of operations, as
well as any forward-looking statements, are subject to change and involve inherent risks and
uncertainties. The forward-looking statements contained in this report are made only as of the
date hereof. While these forward-looking statements, and any assumptions upon which they are
based, are made in good faith and reflect our current judgment regarding the direction of our
business, actual results will almost always vary, sometimes materially, from any estimates,
predictions, projections, assumptions or other future performance suggested herein. Except as
required by applicable law, including the securities laws of the United States, we undertake no
obligation, and disclaim any duty, to update or revise information contained herein to reflect
events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.
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Overview of the Business
The Fund was organized in May 2003 to invest in and manage mortgage investments, consisting
primarily of short-term commercial mortgage loans collateralized by first mortgages on real
property, and to perform all functions reasonably related thereto, including developing, managing
and either holding for investment or disposing of real property acquired through foreclosure or
other means. Our Manager was incorporated in June 1997, and is licensed as a mortgage broker by
the State of Arizona. The Manager has a wholly-owned subsidiary, Investors Mortgage Holdings
California, Inc., which is licensed as a real estate broker by the California Department of Real
Estate.
Recent Events and Response
The global and U.S. economies experienced a rapid decline in recent periods. The real estate
and other markets suffered unprecedented disruptions, causing many major institutions to fail or
require government intervention to avoid failure, which has placed severe pressure on liquidity and
asset values. These conditions were brought about largely by the erosion of United States (U.S.)
and global credit markets, including a significant and rapid deterioration of the mortgage lending
and related real estate markets. In this regard, we continue to operate under very difficult
conditions.
Short-term bridge loans to borrowers to facilitate their real estate entitlement and
development activities, and other interim financing, constitute the heart of our business model.
This model relies on capital availability. However, current market conditions have reduced
materially the traditional sources of take-out financing on which our business model is dependent.
The Manager believes it will take 12-24 months or longer for markets and capital sources to begin
to normalize, although there can be no assurance that the markets will stabilize in this
timeframe or at all.
During the quarter ended September 30, 2009, the Manager has continued to see a narrowing of
the bid and ask price with respect to certain residential inventory, as well as upward movement on
the bids for residential mortgage backed securities. The Manager believes that this could be a
leading indicator that the supply and demand imbalance is improving, and a positive sign that the
market is beginning to view residential real estate as sufficiently discounted. While these sales
are often occurring at extremely discounted levels, the Manager believes such activity might well
be viewed as a necessary initial stage of an eventual recovery.
While residential real estate might be the first market segment to recover, many forecasts
indicate that commercial real estate values will continue to fall. An additional layer of concern
and complexity has surfaced with maturing commercial mortgage backed securities and the anticipated
negative impact thereof. Indeed, many financial institutions are still not lending with any volume
or conviction. In our view, these factors make it difficult for borrowers with loans maturing
today to obtain permanent financing on their projects.
The sustained and extreme discounting of residential real estate that has occurred in recent
months, combined with the downturn in the commercial real estate market, resulted in the Manager
recording a valuation adjustment in the quarter ended
September 30, 2009 of $90,000.
The Manager believes that the continuing economic downturn, which has been characterized as
the Great Recession, is likely to look more like a W than a V. That is, given the still
increasing rate of unemployment which at a national level is now in excess of 10%, the record and
still growing number of foreclosures, and the expected decline in commercial real estate values,
there are likely to be several peaks and valleys in the economy, drawn out over the next several
quarters, if not longer. It has been generally reported that currently in the U.S., approximately 12% of all residential loans are either delinquent or in foreclosure, and
that this percentage is expected to increase in the months ahead.
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This period of economic uncertainty has been and will likely continue to be marked by the
number of banks that have failed and by the likelihood that many more will fall short as they
struggle to balance their ledgers. 101 banks have already failed this year as of October 31, 2009,
and, according to Bloomberg.com, A total of 416 banks with combined assets of $299.8 billion
failed the Federal Deposit Insurance Corp.s grading system for asset quality, liquidity and
earnings, the most since June 1994. We expect that the number of bank failures will increase
substantially over the next several quarters as the impact of the next round of marking-to-market
assets hits bank balance sheets.
The subject of intense debate in the financial community, mark-to-market has everything to
do with a specific accounting rule and far less to do with quality of the underlying asset being
marked. This accounting requirement has already had a devastating impact on banks: for many,
crippling their ability to lend; for others forcing them to close their doors entirely. The
continued application of marking-to-market assets in the financial sector will, in our view, likely
not only multiply the number of bank failures, but also further intensify the downward pressure on
real estate values, as banks are forced to sell assets in order to raise capital and shore up their
balance sheets. We believe these pressures will also likely cause banks to resist lending until
this compression in the marketplace eases.
In view of these issues, coupled with the continuing increase in job losses, we believe that
some of the positive trends, such as the recent up-tick in the stock market, may not be
sustainable. These tenuous circumstances are, in our view, likely to prolong the period before
recovery both nationally and globally. We would also like to make clear that, similar to the
banks, we may be subjected to ongoing asset valuation adjustments. However, we would also like to
underscore that we believe that we, by virtue of our unleveraged structure, are better positioned
as a relative matter to meet the challenges resulting from current
market conditions, and, thus, we believe we may be relatively better able to avoid joining the
banks as a forced seller of portfolio assets in this still-volatile environment.
Despite these and other uncertainties regarding the economy, we maintain our resolve to focus
on rigorous analysis of the marketplace, and we will continue to act in a prudent manner to seek to
protect each Members interest in the Fund. We believe that by combining thorough due diligence
with strategic positioning and a reasonable amount of patience, we can capitalize on our
competitive advantages vis-a-vis our similarly capitalized competition. We believe that adhering to measured analysis will increase the
probability of maximizing our asset value and eventual disposition of our assets at the best available
prices.
The Managers on-going strategy is designed to position us as favorably as possible in
this volatile environment. To do so, the Manager is seeking to capitalize on our ability to provide
seller financing, to maintain and protect current properties, and to generate sufficient liquidity
to resume periodic Member distributions. In order to achieve this strategy, the Manager has set
the following objectives:
Insure that the Fund maintains sufficient cash to cover all construction obligations. We believe the
decision to change the manner in which we send distributions to our Members, to coincide with
future liquidity events, has better enabled us to maintain sufficient cash to cover all
of our current construction obligations. Although various non-construction commitments still exist, we have
satisfied a majority of our current construction commitments. This fact bears several positive
implications: in addition to satisfying our current contractual obligations to our existing borrowers, in many
instances it also enables the collateral projects to be brought to completion, thereby potentially
accelerating our exit strategy, that is, to sell the finished properties involved and/or the loans
collateralized by such properties.
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Obtain and maintain sufficient cash reserves in the Fund to complete improvements to portfolio
assets and take appropriate actions to preserve and enhance value. The Manager believes that by
implementing a program to finish improvements on select partially improved assets in our portfolio,
the corresponding asset values will increase, as well as their potential for salability. This will
require that we maintain sufficient cash reserves for this purpose, as well as to cover various
expenses associated with enforcement and property ownership. The Manager believes it has made
progress toward meeting this objective. In addition to physical management of our hard
assets, we continue to work diligently on fiscal management of our monetary assets. Our daily
decisions help us to better accomplish our objective to maintain adequate cash reserves to underwrite the expenses
associated with loan enforcement and property ownership, as well as the expenditures necessary for
preservation and value enhancement of portfolio assets. This process involves continually
assessing the portfolio, determining on an asset-by-asset basis the cost/benefit of any such
requisite actions and the corresponding allocation of capital.
Resume periodic distributions and the return of investor capital. If we are successful in
generating sufficient short-term liquidity, we believe we will become better positioned to wait
for improved market conditions. The Manager believes that as the market disorder diminishes and a
recovery starts to gain momentum, it will be able to generate liquidity in the Fund. At that
point, and after accounting for the amount of liquidity needed to honor our ongoing obligations, we
expect to be able to resume periodic distributions and the return of investor capital, although
there can be no assurance that this will occur or the time frame in which it may occur. The Manager believes it is in the process of
positioning us and our assets to benefit from future market-related events and/or third-party
actions (buyers buying and lenders lending). Yet, short of selling assets at depressed prices, we believe there
is a limited amount of liquidity available in the market environment at this time. Accordingly, we
cannot guarantee the amount, or control the timing of, such occurrences. In the context of continued
uncertainty in the financial markets generally, and in the real estate and mortgage sectors
specifically, the Manager continues to explore all options on our behalf to seek to create
liquidity for the us and our Members.
To preserve our capital and to seek to stabilize our operations and liquid assets in order to
meet future obligations, including those pursuant to current loan commitments, the Manager caused
us to, among other things:
| suspend accepting any additional capital contributions; |
| suspend reinvesting monthly distributions, if any, and cause all future monthly
distributions, if any, to be paid in cash; |
| cancel all pending redemption requests, and suspend the acceptance of any new
redemption requests; |
| suspend accepting any new loan requests (excluding financing of new loans in
connection with the sale of collateral under existing loans or the sale of real estate
owned); and |
| effective May 2009, suspend monthly distributions to Members. |
Our liquidity plans include selling whole loans or participating interests in certain loans in
our portfolio and liquidating certain real estate assets in our portfolio. As of September 30, 2009, five loans with
principal balances totaling $62,628 are being actively marketed for sale. Accordingly, these loans
are reflected as held for sale in the accompanying consolidated balance sheets. Additionally, the
Manager continues to evaluate our existing outstanding loan obligations to ascertain the necessary
funding amounts and timing for each loan, and to determine potential reductions in, or cessation
of, funding commitments for loans in default or to find alternative sources for such fundings. This analysis is on-going, although
the results are not expected to materially affect our current estimate of outstanding loan
commitments presented elsewhere in this Form 10-Q. In this regard, in addition to the 36 loans with
aggregate principal outstanding balances totaling $370,255 past scheduled maturity, 16 additional
loans with aggregate principal outstanding balances totaling $78,355 are scheduled to mature in the
next nine months, although there can be no assurance that such loans will be repaid.
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During the nine months ended September 30, 2009, the Manager drew $6,000 under its line of
credit with a bank and utilized these proceeds for the participation of certain of our loans.
During the quarter ended September 30, 2009, we repaid principal of $3,480 under this line
commensurate with principal paydowns received from related borrowers, resulting in a balance at
September 30, 2009 of $2,520, which is reflected in borrowings from the Manager in the
accompanying consolidated balance sheet. The line of credit is an obligation of the Fund and is
collateralized by specific loans and underlying deeds of trust and a guarantee of the
Managers Chief Executive Officer. The proceeds were utilized by us to meet our on-going
obligations and working capital requirements. The Manager is also actively pursuing other
financing alternatives for us, although there is no assurance that existing financing arrangements will continue or that alternative financing will be secured.
Asset values have dropped significantly in many of the areas wherein we hold real estate or
have a security interest in collateral securing our loans, which resulted in significant non-cash
valuation provision charges for the nine months ended September 30, 2009 and the year ended
December 31, 2008. The Manager also modified certain loans in our portfolio, which has resulted in
an extended term of maturity on such loans of two years or longer and, in some cases, has required
us to accept an interest rate more reflective of current market rates, which are lower than in prior
periods. The Manager may decide to modify additional loans in the future in an effort, among other
things, to seek to protect the our collateral. Additionally, while the Manager has elected to suspend new
loan requests, we did fund one loan in the first quarter of 2009 in connection with the financing
of a sale of certain loan collateral by an existing borrower to an unrelated party, and it is
anticipated that we will engage in similar lending activities in the future. This effort
effectively converted a non-performing asset into a performing loan.
During the period ended September 30, 2009, the Manager has been actively managing both our loan
portfolio as well as our real estate owned (REO) portfolio.
Activities relative to our REO porfolio have included: negotiating for the sale of certain REO
properties; working with appropriate brokers to list and sell certain REO properties, some of which
are already listed; negotiating or entering into settlement agreements with guarantors of certain
loans or REO properties; working with municipalities regarding development plans and plat
extensions on REO properties for the purpose of obtaining plat extensions ranging from one to six
years; and analyzing and, when appropriate, seeking property tax reductions on REO properties.
With respect to our loan portfolio, we have negotiated the sale of selected loans; we are
pursuing reductions in principal with borrowers and entering into agreements and receiving payments
from several borrowers; we are monitoring and/or negotiating with several borrowers who are
emerging from bankruptcy; and our borrowers are working with municipalities regarding development plans
and plat extensions on their properties for the purpose of obtaining plat extensions.
We can provide no assurance that the strategies or objectives being undertaken by the Manager will
be met or succeed. In addition, given the state of the real estate and credit markets, we believe it is
unlikely that we will re-commence our historical operations in the foreseeable future in the same
manner previously operated or at all. The Manager continues to examine all material aspects of our
business for areas of improvement and recovery on our investment portfolio. However, if the real
estate market does not return to its historical levels of activity and credit markets do not
re-open more broadly, we believe the realization of a full recovery of our investments is unlikely to occur in a reasonable time frame or at all,
and we may be required to liquidate portions of our investment portfolio at a price significantly
below our initial investment basis and possibly below current carrying values.
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Going Concern
Our financial statements have been prepared on a going concern basis, which contemplates the
realization of assets and the discharge of liabilities in the normal course of business for the
foreseeable future. Due to unprecedented dislocations in the real estate and capital markets, we
have incurred a significant reduction in loan payoffs from borrowers and an increase in
delinquencies, non-performing loans and real estate owned, resulting in a substantial reduction of
cash flows. The Manager has taken a number of measures to seek to provide liquidity to us,
including, among other things, efforts to sell whole loans and participate interests in certain
loans in our portfolio, and to liquidate certain real estate. However, the dislocations and
uncertainty in the economy, and real estate, credit, and other markets have created an extremely
challenging environment that will likely continue for the foreseeable future. These factors raise
substantial doubt about our ability to continue as a going concern.
The Manager receives from borrowers, either directly or from loan proceeds, all revenue and
fees from loan origination, processing, servicing and extension. As a result of the suspension of
certain of our activities, although the Manager may collect fees from time-to-time from the
modification of existing loans or a portion of penalties or default fees, the suspension of our
lending activities has resulted in the loss of the Managers primary revenue source. As such,
these factors raise substantial doubt about our Managers ability to continue as a going concern.
To seek to address this concern, the Manager has taken, among others, the
following steps:
| Implemented a comprehensive cost reduction program, including a reduction in staff.
The reduction in staff affected nearly 60% of the Managers employees while preserving
core functionality in all material operational areas. At this time, the Manager has
stabilized monthly operating costs at approximately $400 per month. |
| On-going collaboration with investment banking firms to analyze and seek to close
financing alternatives. |
| The continued exploration of opportunities through which the Manager can continue to
participate in the capital markets, including, without limitation, the use of
additional funding vehicles to capitalize on what the Manager believes are business
opportunities arising from the disruptions in the capital and credit markets. |
| The engagement in on-going negotiations with creditors to seek to defer or otherwise
restructure existing liabilities of the Manager. |
| The consideration of other initiatives, to seek to insure the continued viability of the
Manager as an operating entity. |
We and the Manager, and the Managers wholly-owned subsidiary, are part of the IMH Group. The
IMH Group has been engaged in diverse facets of real estate, such as finance, property management,
leasing, marketing, acquisition, disposition, development, redevelopment, renovation, construction,
and other real estate-related services for over ten years. The IMH Group was reorganized starting
at the end of 2008, and other members of the IMH Group will be responsible for an allocation of
operating costs that have historically been borne by IMH. Despite the cost-savings initiatives
described above, the Manager can provide no assurance that its liquidity situation will improve in 2009 or that the Manager will be able to continue as a
going concern.
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Selected Financial Data
The following table presents select financial and operating data for the Fund for the periods
indicated. The summary financial data was derived from our audited and unaudited financial
statements and other financial records. All dollar amounts are expressed in thousands, except unit
and per unit data. As discussed elsewhere in this Form 10-Q, effective October 1, 2008, the Fund,
among other things, stopped funding new loans (excluding financing of new loans in connection with
the sale of collateral under existing loans or the sale of real estate owned), accepting new Member
capital and honoring redemption requests. Effective May 2009, the Fund suspended monthly
distributions to Members.
(Unaudited) | (Unaudited) | As of and for | ||||||||||||||||||
As of and for the Nine | As of and for the Three | the Year Ended | ||||||||||||||||||
Months Ended September 30, | Months Ended September 30, | December 31, | ||||||||||||||||||
2009 | 2008 | 2009 | 2008 | 2008 | ||||||||||||||||
Cash and cash equivalents |
$ | 2,463 | $ | 57,766 | $ | 2,463 | $ | 57,766 | $ | 23,815 | ||||||||||
Total assets |
$ | 334,577 | $ | 709,120 | $ | 334,577 | $ | 709,120 | $ | 414,804 | ||||||||||
Interest income and fees |
$ | 20,750 | $ | 51,208 | $ | 3,155 | $ | 17,536 | $ | 67,420 | ||||||||||
Management fees |
$ | 481 | $ | 819 | $ | 62 | $ | 300 | $ | 1,139 | ||||||||||
Interest expense |
$ | 217 | $ | 78 | $ | 115 | $ | | $ | 78 | ||||||||||
Net earnings (loss) |
$ | (75,174 | ) | $ | 7,174 | $ | (89,391 | ) | $ | (25,749 | ) | $ | (258,287 | ) | ||||||
Net distributions to Members |
$ | 11,706 | $ | 49,163 | $ | | $ | 16,627 | $ | 64,051 | ||||||||||
Net Member distributions as a % of net earnings (loss) |
115.6 | % | 685.3 | % | 0.0 | % | 164.6 | % | 124.8 | % | ||||||||||
Net earnings (loss) allocated to Members per weighted
average membership units outstanding |
$ | (1,029.24 | ) | $ | 109.32 | $ | (1,233.88 | ) | $ | (363.65 | ) | $ | (3,835.96 | ) | ||||||
Net distributions to Members per weighted average
membership units |
$ | 160.27 | $ | 749.20 | $ | | $ | 234.84 | $ | 951.27 | ||||||||||
Average annualized distribution yield to Members |
2.14 | % | 9.93 | % | 0.00 | % | 9.23 | % | 9.45 | % | ||||||||||
Member Equity Related: |
||||||||||||||||||||
Retained earnings (Accumulated deficit) |
$ | (409,212 | ) | $ | (41,984 | ) | $ | (409,212 | ) | $ | (41,984 | ) | $ | (322,332 | ) | |||||
Total Members equity |
$ | 321,171 | $ | 688,400 | $ | 321,171 | $ | 688,400 | $ | 408,051 | ||||||||||
Number of Member accounts |
4,735 | 4,732 | 4,735 | 4,732 | 4,735 | |||||||||||||||
Average Member account balance |
$ | 68 | $ | 145 | $ | 68 | $ | 145 | $ | 86 | ||||||||||
States in which the Fund has Members |
49 | 49 | 49 | 49 | 49 | |||||||||||||||
Member investments (excluding reinvestments) |
$ | | $ | 250,941 | $ | | $ | 84,070 | $ | 250,871 | ||||||||||
Distributions to Members |
$ | 11,706 | $ | 25,971 | $ | | $ | 10,500 | $ | 40,860 | ||||||||||
Member distributions reinvested |
$ | | $ | 23,192 | $ | | $ | 6,127 | $ | 23,191 | ||||||||||
Retained earnings additions (distributed) |
$ | (86,880 | ) | $ | (41,989 | ) | $ | (89,392 | ) | $ | (42,376 | ) | $ | (322,338 | ) | |||||
% of total distributions reinvested |
N/A | 47.17 | % | N/A | 36.86 | % | 36.21 | % | ||||||||||||
Redemptions |
$ | | $ | 120,533 | $ | | $ | 36,640 | $ | 120,506 | ||||||||||
Redemptions as % of new investment (incl. reinvestments) |
N/A | 43.97 | % | N/A | 40.62 | % | 43.97 | % | ||||||||||||
Loan Related: |
||||||||||||||||||||
Note balances originated |
$ | 392 | $ | 327,662 | $ | | $ | 92,394 | $ | 329,952 | ||||||||||
Number of notes originated |
1 | 22 | | 11 | 23 | |||||||||||||||
Average note balance originated |
$ | 392 | $ | 14,894 | $ | | $ | 8,399 | $ | 14,346 | ||||||||||
Net loan carrying values |
$ | 216,356 | $ | 551,315 | $ | 216,356 | $ | 551,315 | $ | 313,544 | ||||||||||
Number of loans outstanding |
58 | 63 | 58 | 63 | 62 | |||||||||||||||
Average loan carrying value |
$ | 3,730 | $ | 8,751 | $ | 3,730 | $ | 8,751 | $ | 5,057 | ||||||||||
% of Portfolio Principal Fixed interest rate |
50.1 | % | 30.5 | % | 50.1 | % | 30.5 | % | 31.3 | % | ||||||||||
Number of fixed rate loans |
25 | 23 | 25 | 23 | 22 | |||||||||||||||
Weighted average interest rate Fixed |
10.26 | % | 11.03 | % | 10.26 | % | 11.03 | % | 11.71 | % | ||||||||||
% of portfolio Variable interest rate |
49.9 | % | 69.5 | % | 49.9 | % | 69.5 | % | 68.7 | % | ||||||||||
Number of variable rate loans |
33 | 40 | 33 | 40 | 40 | |||||||||||||||
Weighted average interest rate Variable |
12.87 | % | 12.37 | % | 12.87 | % | 12.37 | % | 12.39 | % | ||||||||||
Principal balance % by state: |
||||||||||||||||||||
Arizona |
53.0 | % | 48.4 | % | 53.0 | % | 48.4 | % | 47.9 | % | ||||||||||
California |
31.1 | % | 27.7 | % | 31.1 | % | 27.7 | % | 28.9 | % | ||||||||||
New Mexico |
1.9 | % | 1.0 | % | 1.9 | % | 1.0 | % | 0.9 | % | ||||||||||
Texas |
3.1 | % | 9.8 | % | 3.1 | % | 9.8 | % | 9.1 | % | ||||||||||
Idaho |
4.9 | % | 7.6 | % | 4.9 | % | 7.6 | % | 8.1 | % | ||||||||||
Minnesota |
0.0 | % | 2.9 | % | 0.0 | % | 2.9 | % | 2.7 | % | ||||||||||
Nevada |
2.5 | % | 1.4 | % | 2.5 | % | 1.4 | % | 1.3 | % | ||||||||||
Utah |
3.5 | % | 1.2 | % | 3.5 | % | 1.2 | % | 1.1 | % | ||||||||||
Interest payments over 30 days delinquent |
$ | 7,687 | $ | 41 | $ | 7,687 | $ | 41 | $ | 1,134 | ||||||||||
Loans past scheduled maturity |
36 | 15 | 36 | 15 | 24 | |||||||||||||||
Principal balance of loans past scheduled maturity |
$ | 370,255 | $ | 94,529 | $ | 370,255 | $ | 94,529 | $ | 210,198 | ||||||||||
Number of loans in non accrual status |
43 | 7 | 43 | 7 | 11 | |||||||||||||||
Principal balance of loans in non accrual status |
$ | 450,568 | $ | 64,631 | $ | 450,568 | $ | 64,631 | $ | 95,624 | ||||||||||
Allowance for credit losses |
$ | 337,000 | $ | 45,440 | $ | 337,000 | $ | 45,440 | $ | 300,310 | ||||||||||
Allowance for credit losses as % of loan principal outstanding |
60.9 | % | 8.2 | % | 60.9 | % | 8.2 | % | 48.9 | % |
* | Where applicable, quarterly results are annualized to allow for compatability with annual
results. |
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Table of Contents
Results of Operations for the Nine and Three Months Ended September 30, 2009 and 2008
As allowed by the Operating Agreement, effective October 1, 2008, the Manager elected to
suspend certain of our activities, including the acceptance of any additional Member investments,
the payment of outstanding redemptions requests, and the identification and funding of any new
loans (excluding financing of new loans in connection with the sale of collateral under existing
loans or the sale of real estate owned). Effective May 2009, we suspended monthly distributions to
Members. These elections were made in order to seek to preserve our capital and to seek to
stabilize our operations and liquid assets in order to better situate ourself to seek to meet
future obligations, including those pursuant to current loan commitments. We generate income from
interest and fees on our mortgage loans, including default interest and fees, as well as interest
income from money market, short-term investments or similar accounts in which we temporarily invest
excess cash. We do not pay any overhead or certain operating expenses as those costs are presently
paid by the Manager, as specified by the Operating Agreement, and as summarized below. However, we
are required to pay direct expenses and costs, which include management fees to the Manager;
expenses or costs related to defaulted loans, foreclosure activities, or property acquired through
foreclosure; and interest expense paid on loans that we have sold or participated, but we must
account for as secured borrowings. The management fee is an annual fee equal to 0.25% of the
Earning Asset Base of the Fund, which is defined as mortgage loan investments held by us and
income-earning property acquired through foreclosure and upon which income is being accrued under
GAAP. Accordingly, when defaulted loans or foreclosed property enter into non-accrual status, or
related income is otherwise not recorded, the loan is removed from the Earning Asset Base for
purposes of computing management fees. Interest expense is the amount of interest paid by us to the
purchasers of participations in loans or whole loans sold.
Revenues
Nine Months Ended September 30, | Three Months Ended September 30, | |||||||||||||||||||||||||||||||
2009 | 2008 | $ Change | % Change | 2009 | 2008 | $ Change | % Change | |||||||||||||||||||||||||
Interest and Fee Income: |
||||||||||||||||||||||||||||||||
Mortgage Loans |
$ | 20,256 | $ | 49,419 | $ | (29,163 | ) | (59.0 | %) | $ | 2,697 | $ | 17,069 | $ | (14,372 | ) | (84.2 | %) | ||||||||||||||
Investments and Money Market Accounts and Other Income |
494 | 1,789 | (1,295 | ) | (72.4 | %) | 458 | 467 | (9 | ) | (1.9 | %) | ||||||||||||||||||||
Total Interest, Fees and Other Income |
$ | 20,750 | $ | 51,208 | $ | (30,458 | ) | (59.5 | %) | $ | 3,155 | $ | 17,536 | $ | (14,381 | ) | (82.0 | %) | ||||||||||||||
During the nine months ended September 30, 2009, income from mortgage loans was $20,256, a
decrease of $29,163, or 59.0%, from $49,419 for the nine months ended September 30, 2008. During
the three months ended September 30, 2009 income from mortgage loans was $2,697, a decrease of
$14,372, or 84.2%, from $17,069 for the three months ended September 30, 2008.
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Table of Contents
The year over year decrease in mortgage loan income is attributable to the decrease in the
income-earning portion of our loan portfolio. While the total loan portfolio was $553,356 at
September 30, 2009 as compared to $596,755 at September 30, 2008, the income-earning loan balance
decreased significantly to $102,788 from $532,124 for the same periods, respectively. Additionally,
the average portfolio interest rate (including performing and nonperforming loans) was 11.56% per
annum at
September 30, 2009, as compared to 11.96% per annum at September 30, 2008. Also, we
recognized $7,230 in accreted interest income during the nine months ended September 30, 2008 as
compared to none in 2009. The accreted interest was recorded in connection with certain loans
purchased at a discount. Additionally, we recognized approximately $2,383 in default interest, fees
and other gains during the nine months ended September 30, 2008, as compared with none in 2009.
Due to the rapid and dramatic decline of the economy and real estate and credit markets, we
anticipate an increase in defaults and foreclosures, which will likely result in a further increase
in non-accrual loans and real estate owned, which are non-interest earning assets. As such, we
anticipate a further decrease in mortgage income in future periods.
During the nine months ended September 30, 2009, interest income from investment and money
market accounts and other income was $494, a decrease of $1,295, or 72.4%, from $1,789 for the nine
months ended September 30, 2008. During the three months ended September 30, 2009, interest income
from investment and money market accounts, net of fees, and other income was $458, a decrease of
$9.0, or 1.9%, from $467 for the three months ended September 30, 2008. The decrease in investments
and money market interest revenues is directly attributable to a decrease in the average amount of
cash available for short-term investment and a reduction in interest rates. The decrease in cash
is attributable to the suspension of certain of our activities, the use of our cash to fund
remaining loan commitments and distributions to Members, and the decrease in loan payoffs. Given
these factors and the general lack of available take-out financing available to our borrowers, we
anticipate a decrease in cash and cash equivalents for the foreseeable future. As such, we
anticipate a decrease in investment income in future periods. Additionally, during the nine and
three months ended September 30, 2009, we recognized other income of approximately $461 from the
rental operations of a property foreclosed upon during the third quarter.
Expenses
Nine Months Ended September 30, | Three Months Ended September 30, | |||||||||||||||||||||||||||||||
2009 | 2008 | $ Change | % Change | 2009 | 2008 | $ Change | % Change | |||||||||||||||||||||||||
Expenses: |
||||||||||||||||||||||||||||||||
Management Fees |
$ | 481 | $ | 819 | $ | (338 | ) | (41.3 | %) | $ | 62 | $ | 300 | $ | (238 | ) | (79.3 | %) | ||||||||||||||
Default Related and Other Fund Expenses |
579 | 503 | 76 | 15.1 | % | 251 | 418 | (167 | ) | (40.0 | %) | |||||||||||||||||||||
Operating Expenses for Real Estate Owned |
2,817 | 62 | 2,755 | 4,443.5 | % | 1,477 | 62 | 1,415 | 2,282.3 | % | ||||||||||||||||||||||
Professional Fees |
1,830 | 142 | 1,688 | 1,188.7 | % | 641 | 75 | 566 | 754.7 | % | ||||||||||||||||||||||
Interest Expense: |
||||||||||||||||||||||||||||||||
Borrowings from Fund Manager |
217 | | 217 | N/A | 115 | | 115 | N/A | ||||||||||||||||||||||||
Borrowings on Note Payable |
| 78 | (78 | ) | (100.0 | %) | | | | N/A | ||||||||||||||||||||||
Interest Expense |
217 | 78 | 139 | 178.2 | % | 115 | | 115 | N/A | |||||||||||||||||||||||
Valuation Provision Charge |
90,000 | 42,430 | 47,570 | 112.1 | % | 90,000 | 42,430 | 47,570 | 112.1 | % | ||||||||||||||||||||||
Total Expenses |
$ | 95,924 | $ | 44,034 | $ | 51,890 | 117.8 | % | $ | 92,546 | $ | 43,285 | $ | 49,261 | 113.8 | % | ||||||||||||||||
During the nine months ended September 30, 2009, management fee expense was $481, a decrease
of $338, or 41.3%, from $819 for the nine months ended September 30, 2008. During the three months
ended September 30, 2009, management fee expense was $62, a decrease of $238, or 79.3%, from $300
for the three months ended September 30, 2008. Management fee expense as a percentage of mortgage
interest income for the Fund was 2.37% and 1.66% for the nine months ended September 30, 2009 and
2008, respectively, and 2.30% and 1.76% for the corresponding three months periods then
ended. The decrease in management fee expense for the nine and three months ended September
30, 2009 is directly related to the significant decline in the Earning Asset Base of our
loan portfolio at September 30, 2009 and 2008, respectively, as previously described. The increase in management
fees as a percentage of mortgage income is attributed to the increase in non-earning or
non-accrual assets, which as described above, are removed from the asset base on which management
fees are computed. In addition, the computation of management fees do not consider the recognition
of default interest and fees recognized during the nine and three months ended September 30, 2008
as compared to none in 2009.
Default related and Other Fund expenses include direct expenses related to defaulted loans,
foreclosure activities, or property acquired through foreclosure. Such direct costs include legal
and other directs costs, as well as allocated personnel costs directly related to defaulted loans
and foreclosure activities. During the nine months ended September 30, 2009 and 2008, respectively, default
related expenses were $579 and $503, respectively, an increase of $76
or 15.1%. During the three
months ended September 30, 2009 and 2008, default related
expenses were $251 and $418,
respectively, a decrease of $167 or 40.0%. The overall increase in default related expenses is
attributable to the increasing defaults and foreclosures experienced by us in 2009 as
compared to 2008. Given the anticipated increase in defaults and foreclosures, we anticipate a
decrease in management fees and an increase in default related costs in future periods. However,
the expected changes in these balances cannot be determined with certainty.
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Table of Contents
Operating expenses for real estate owned include direct operating costs for such properties
including property taxes, home owner association dues, property management fees, utilities, repairs
and maintenance, licenses, depreciation and amortization and other costs and expenses associated
with the ownership of real estate properties. During the nine months ended September 30, 2009 and
2008, operating expenses for real estate owned were $2,817 and $62, respectively, and were $1,477
and $62, respectively, for the corresponding three month periods. The increase in operating
expenses for real estate owned is attributable to the increasing number of properties acquired
through foreclosures and the past due and current property taxes totaling $1,757 attributable to
such properties. We expect such costs and expenses to increase as we continue to exercise remedies
on loans in default.
Professional fees consist of outside consulting expenses, valuation services, legal and
accounting fees for public reporting related expenses. During the nine months ended September 30,
2009 and 2008, respectively, professional fees were $1,830 and $142,
respectively, an increase of $1,688, or
1,188.7%. During the three months ended September 30, 2009 and
2008, professional fees were $641
and $75, respectively, an increase of $566 or 754.7%. The increase in these costs is attributed to
the increasing defaults and foreclosures in our loan portfolio, the cost of valuation services
provided in connection with our on-going evaluation of the portfolio, and the costs of public
reporting, including requirements under the Sarbanes-Oxley Act and related requirements. Also,
certain costs that the Manager elected to pay in previous periods (but was not contractually
required to pay), such as public reporting costs, are now being borne by us. Additionally, the Manager
has engaged the services of an outside consulting firm to assist in the determination of the
specific asset disposition strategy. The consultant receives $110 per month for its services.
Interest expense includes interest incurred in connection with loan participations issued to
third parties, borrowings from the Manager and borrowings from a bank. During the nine months ended
September 30, 2009, interest expense was $217, an increase of $139, or 178.2%, from $78 for the
nine months ended September 30, 2008. During the three months ended September 30, 2009, interest
expense was $115, as compared to no interest expense for the three months ended September 30, 2008.
Interest expense for the nine and three months ended September 30, 2009 was incurred in connection
with the $6,000 borrowing from the Manager. Interest expense for the nine months ended September
30, 2008 was incurred in connection with the $10,000 note payable to a bank, of which only $8,000
was drawn and was paid off in the second quarter of 2008. If we are successful in participating our
loans with other lenders,
or if we must leverage assets for purposes of generating liquidity, the Manager anticipates an
increase in interest expense in future periods.
The valuation provision charge reflects the provision for credit loss on the loan portfolio
and the estimated loss on the disposition of real estate owned. The amounts were based on our
estimate of value, using data from reports prepared by third party valuation firms, of the
underlying collateral of the loan portfolio and the estimated realizable value on real estate
owned. During the nine and three months ended September 30, 2009, the valuation provision charge
was $90,000, an increase of $47,570, or 112.1%, from $42,430 for the nine and three months ended
September 30, 2008.
Net Earnings (Loss)
Nine Months Ended September 30, | Three Months Ended September 30, | |||||||||||||||||||||||||||||||
2009 | 2008 | $ Change | % Change | 2009 | 2008 | $ Change | % Change | |||||||||||||||||||||||||
Net Earnings (Loss) |
$ | (75,174 | ) | $ | 7,174 | $ | (82,348 | ) | (1,147.9 | %) | $ | (89,391 | ) | $ | (25,749 | ) | $ | (63,642 | ) | 247.2 | % | |||||||||||
39
Table of Contents
Net earnings (loss) consist of interest and fee income reduced by management fee expense,
default related expenses, operating expenses, professional fees, interest expense, valuation
provision and other expenses. For the nine months ended September 30, 2009, net loss totaled
$75,174, an decrease of $82,348, or 1,147.9%, from net earnings of $7,174 for the nine months ended
September 30, 2008. For the three months ended
September 30, 2009, net loss totaled $89,391, an
increase of $63,642, or 247.2%, from net loss of $25,749 for the three months ended September 30,
2008. This increase in net loss is attributed to the decrease in the Funds income-earning loan
portfolio balances contributing to lower interest income and default fees, lower cash balances
contributing to lower investment income, and an increase in default related, operating,
professional fees and other expenses incurred. These were offset by the valuation provision charges
recorded in 2009 and 2008.
Fund Manager Fund-Related Income and Expense
In accordance with Article 14 of the Operating Agreement, the Manager receives from borrowers,
either directly or from loan proceeds, all revenue and fees from loan origination, processing,
servicing and extension. For the nine months ended September 30, 2009 and 2008, respectively, the Manager earned
origination, processing and other related fees of approximately $9,356 and $20,327, respectively,
substantially all of which were earned on loans funded by us. For the three months ended September
30, 2009 and 2008, respectively, the Manager earned origination, processing and other related fees of
approximately $4,873 and $7,564, respectively. In addition to fees earned by the Manager for loan
modifications executed during the nine months ended September 30, 2009, fees were earned from the
expiration of refundable loan fees previously collected, which were refundable to the borrower in
the event of loan payoff by a specified date.
In addition, our overhead and certain operating expenses are paid by the Manager, as specified
by the Operating Agreement. Such costs include payroll and direct costs associated with loan
origination activities, as well as Member development and operations and other general overhead
costs. Based on our estimates, during the nine and three months ended September 30, 2009 and 2008, respectively,
the Manager incurred Fund-related expenses as follows:
Nine Months | Three Months | |||||||||||||||
Ended September 30, | Ended September 30, | |||||||||||||||
2009 | 2008 | 2009 | 2008 | |||||||||||||
Fund-related Expenses Paid by Manager: |
||||||||||||||||
Operations-related expenses |
$ | 3,018 | $ | 9,982 | $ | 423 | $ | 3,050 | ||||||||
Origination-related expenses |
1,712 | 5,664 | 240 | 1,731 | ||||||||||||
Total |
$ | 4,730 | $ | 15,645 | $ | 663 | $ | 4,780 | ||||||||
The reduction in expenses for the three months ended September 30, 2009 is attributable to the
write-off of certain accrued expenses previously recorded.
Effective October 1, 2008, we, among other things, suspended funding of new loans (although we
may finance new loans in connection with the sale of collateral under existing loans or the sale of
real estate owned assets). As substantially all of our loans are originated by the Manager, the Managers
primary revenue source has also been suspended. Further, due to the status of the United States
economy and real estate and other markets, neither we nor the Manager can predict when loan
originations and funding will re-commence at or near historical levels, if ever. For information
regarding the Managers ability to continue as a going concern, see Managements Discussion and
Analysis of Financial Condition and Results of Operations Overview of the Business Going
Concern.
40
Table of Contents
Changes in the Loan Portfolio Profile
As previously discussed, effective October 1, 2008, the Manager elected to suspend certain of
our activities, including the identification and funding of any new loans. Accordingly, the
ability of the Manager to make adjustments to our loan portfolio is significantly impaired. In
addition, in an effort to preserve our collateral, the Manager has modified certain existing loans,
often times by extending maturity dates, and, in the absence of generally available credit
financing to repay our loans, the Manager will likely need to modify additional loans in the future
or foreclose on such loans.
Average Loan Size
While we elected to suspend the identification and funding of new loans effective October 1,
2008, we funded one loan during 2009 (in the first quarter) totaling $392 in connection with the
financing of a sale of certain collateral by an existing borrower to an unrelated party. No new
loans were originated in the second or third quarters. In the third quarter of 2008, we originated
11 new loans with an average note balance of $8,399. At September 30, 2009, the average principal
balance for performing loans was $7,944, as compared to $10,161 at December 31, 2008.
Geographic Diversification
While a large percentage of our loan portfolio is invested primarily in mortgage loans where
the collateral is located in Arizona and California, we also currently have loans in New Mexico,
Texas, Idaho, Minnesota, Nevada and Utah. As of September 30, 2009 and December 31, 2008, respectively, the
geographic concentration of loan outstanding principal balances, net of the allowance for credit
loss, by state, follows:
September 30, 2009 | December 31, 2008 | |||||||||||||||||||||||||||||||||||||||
Oustanding | Allowance for | Net Carrying | Oustanding | Allowance for | Net Carrying | |||||||||||||||||||||||||||||||||||
Principal | Credit Loss | Amount | Percent | # | Principal | Credit Loss | Amount | Percent | # | |||||||||||||||||||||||||||||||
Arizona |
$ | 290,778 | $ | (175,887 | ) | $ | 114,891 | 53.0 | % | 29 | $ | 294,362 | $ | (128,499 | ) | $ | 165,863 | 52.9 | % | 31 | ||||||||||||||||||||
California |
181,023 | (113,678 | ) | 67,345 | 31.1 | % | 20 | 177,255 | (124,422 | ) | 52,833 | 16.9 | % | 20 | ||||||||||||||||||||||||||
New Mexico |
5,240 | (1,182 | ) | 4,058 | 1.9 | % | 2 | 5,240 | (637 | ) | 4,603 | 1.5 | % | 2 | ||||||||||||||||||||||||||
Texas |
11,102 | (4,493 | ) | 6,609 | 3.1 | % | 3 | 55,825 | (5,781 | ) | 50,044 | 16.0 | % | 4 | ||||||||||||||||||||||||||
Idaho |
49,590 | (39,090 | ) | 10,500 | 4.9 | % | 2 | 49,578 | (38,458 | ) | 11,120 | 3.5 | % | 2 | ||||||||||||||||||||||||||
Minnesota |
| | | 0.0 | % | 0 | 16,590 | | 16,590 | 5.3 | % | 1 | ||||||||||||||||||||||||||||
Nevada |
7,978 | (2,670 | ) | 5,308 | 2.5 | % | 1 | 7,969 | (1,876 | ) | 6,093 | 1.9 | % | 1 | ||||||||||||||||||||||||||
Utah |
7,645 | | 7,645 | 3.5 | % | 1 | 7,035 | (637 | ) | 6,398 | 2.0 | % | 1 | |||||||||||||||||||||||||||
Total |
$ | 553,356 | $ | (337,000 | ) | $ | 216,356 | 100.0 | % | 58 | $ | 613,854 | $ | (300,310 | ) | $ | 313,544 | 100.0 | % | 62 | ||||||||||||||||||||
The concentration of our loan portfolio in California and Arizona, which are markets in which
values have been severely impacted by the decline in the real estate
market, totals 84% at
September 30, 2009. We have stopped funding new loans and, as a result of that and other factors,
our ability to diversify our portfolio is significantly impaired.
41
Table of Contents
Interest Rate Information
Our loan portfolio includes loans that carry variable and fixed interest rates. All variable
interest rate loans are indexed to the Prime rate with floors. At September 30, 2009 and December
31, 2008, respectively, the Prime rate was 3.25% per annum.
At September 30, 2009, 49.9% of our portfolio consisted of variable rate loans, compared to
68.7% at December 31, 2008. The decrease in the percentage of variable rate loans in the portfolio
is attributed to the modification of certain loans as fixed rate loans that were previously
variable rate. The weighted average interest rate on variable rate loans was 12.87% per annum and
12.39% per annum at September 30, 2009 and December 31, 2008, respectively. The increase in the
average variable rate at September 30, 2009 as compared to December 31, 2008 is attributed to the
foreclosure of lower variable rate loans and the modification of certain variable rate loans to
lower fixed rates. Similarly, we experienced an increase in the average spread over the Prime
interest rate (Prime rate plus 9.62% at September 30, 2009 as compared to Prime rate plus 9.14% at
December 31, 2008). At September 30, 2009 and December 31, 2008, respectively, all variable rate loans
outstanding had an interest rate floor and no ceiling interest rates. Accordingly, if the Prime
interest rate increases during the life of the loans, interest rates on substantially all these
loans would adjust upward. Conversely, as the Prime interest rate decreases, the interest rates on
such loans do not decline below the floor rates, which is typically the original interest rate at
the time of origination. For the impact of proforma increases or decreases in the Prime rate, see
the discussion of Quantitative and Qualitative Disclosures about Market Risk located elsewhere in
this Form 10-Q.
At September 30, 2009, 50.1% of our portfolio consisted of fixed rate loans, compared with
31.3% at December 31, 2008. The increase in the percentage of fixed rate loans in the portfolio is
attributed to the modification of certain loans as fixed rate loans that were previously variable
rate. The average rate on fixed rate loans as of September 30,
2009 and December 31, 2008, respectively, was
10.26% and 11.71%, respectively. The reduction in rates between these periods reflects the
foreclosure of certain fixed rate loans, the origination of lower yielding fixed rate loans, and
loan modifications which convert variable rate loans to lower rate fixed rate loans.
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Table of Contents
While a substantial portion of our
portfolio loans are in default or in non-accrual status, as of
September 30, 2009 and December 31, 2008, respectively, outstanding principal balances (including
non-accrual loans), net of the allowance for credit loss, summarized by the contractual loan terms
for fixed
and variable interest rates within selected interest rate ranges and other portfolio
information, were as follows:
September 30, 2009 | ||||||||||||||||||||||||||||||||||||
Fixed Rate | Variable Rate | Total | ||||||||||||||||||||||||||||||||||
Outstanding | Outstanding | Outstanding | Allowance for | Net Carrying | ||||||||||||||||||||||||||||||||
# | Principal | # | Principal | # | Principal | Credit Loss | Amount | % | ||||||||||||||||||||||||||||
Current Rate: |
||||||||||||||||||||||||||||||||||||
6.00% |
1 | $ | 5,890 | | $ | | 1 | $ | 5,890 | $ | (1,625 | ) | $ | 4,265 | 2.0 | % | ||||||||||||||||||||
7.53% |
1 | 41,886 | | | 1 | 41,886 | (31,464 | ) | 10,422 | 4.8 | % | |||||||||||||||||||||||||
8.00% |
3 | 4,961 | | | 3 | 4,961 | (52 | ) | 4,909 | 2.3 | % | |||||||||||||||||||||||||
8.25% |
1 | 55,885 | | | 1 | 55,885 | (2,311 | ) | 53,574 | 24.7 | % | |||||||||||||||||||||||||
9.00% |
1 | 1,589 | | | 1 | 1,589 | (56 | ) | 1,533 | 0.7 | % | |||||||||||||||||||||||||
10.00% |
3 | 27,871 | | | 3 | 27,871 | (22,178 | ) | 5,693 | 2.6 | % | |||||||||||||||||||||||||
11.00% |
1 | 1,465 | 1 | 1,618 | 2 | 3,083 | | 3,083 | 1.4 | % | ||||||||||||||||||||||||||
11.50% |
1 | 1,102 | 4 | 11,328 | 5 | 12,430 | (4,711 | ) | 7,719 | 3.6 | % | |||||||||||||||||||||||||
11.75% |
1 | 5,759 | | | 1 | 5,759 | | 5,759 | 2.7 | % | ||||||||||||||||||||||||||
12.00% |
7 | 61,403 | 8 | 53,569 | 15 | 114,972 | (60,334 | ) | 54,638 | 25.2 | % | |||||||||||||||||||||||||
12.25% |
| | 2 | 56,558 | 2 | 56,558 | (51,223 | ) | 5,335 | 2.5 | % | |||||||||||||||||||||||||
12.50% |
1 | 1,169 | 6 | 22,441 | 7 | 23,610 | (18,466 | ) | 5,144 | 2.4 | % | |||||||||||||||||||||||||
12.75% |
1 | 37,958 | | | 1 | 37,958 | (23,289 | ) | 14,669 | 6.8 | % | |||||||||||||||||||||||||
13.00% |
3 | 30,307 | 9 | 54,947 | 12 | 85,254 | (60,987 | ) | 24,267 | 11.2 | % | |||||||||||||||||||||||||
13.75% |
| | 2 | 6,528 | 2 | 6,528 | (6,027 | ) | 501 | 0.2 | % | |||||||||||||||||||||||||
14.25% |
| | 1 | 69,122 | 1 | 69,122 | (54,277 | ) | 14,845 | 6.9 | % | |||||||||||||||||||||||||
Total |
25 | $ | 277,245 | 33 | $ | 276,111 | 58 | $ | 553,356 | $ | (337,000 | ) | $ | 216,356 | 100.0 | % | ||||||||||||||||||||
% of Portfolio |
50.1 | % | 49.9 | % | 100.0 | % | ||||||||||||||||||||||||||||||
Weighted Average Rate |
10.26 | % | 12.87 | % | 11.56 | % | ||||||||||||||||||||||||||||||
Number of Loans |
25 | 33 | 58 | |||||||||||||||||||||||||||||||||
Average Principal |
$ | 11,090 | $ | 8,367 | $ | 9,541 | ||||||||||||||||||||||||||||||
December 31, 2008 | ||||||||||||||||||||||||||||||||||||
Fixed Rate | Variable Rate | Total | ||||||||||||||||||||||||||||||||||
Outstanding | Outstanding | Outstanding | Allowance for | Net Carrying | ||||||||||||||||||||||||||||||||
# | Principal | # | Principal | # | Principal | Credit Loss | Amount | % | ||||||||||||||||||||||||||||
Current Rate: |
||||||||||||||||||||||||||||||||||||
8.00% |
1 | $ | 3,500 | | $ | | 1 | $ | 3,500 | $ | | $ | 3,500 | 1.1 | % | |||||||||||||||||||||
9.00% |
1 | 10,461 | 1 | 1,622 | 2 | 12,083 | (10,175 | ) | 1,908 | 0.6 | % | |||||||||||||||||||||||||
10.00% |
1 | 26,709 | | | 1 | 26,709 | (23,226 | ) | 3,483 | 1.1 | % | |||||||||||||||||||||||||
11.00% |
| | 1 | 1,981 | 1 | 1,981 | | 1,981 | 0.6 | % | ||||||||||||||||||||||||||
11.25% |
| | 1 | 46,020 | 1 | 46,020 | | 46,020 | 14.7 | % | ||||||||||||||||||||||||||
11.50% |
2 | 2,651 | 6 | 94,283 | 8 | 96,934 | (15,928 | ) | 81,006 | 25.8 | % | |||||||||||||||||||||||||
11.75% |
1 | 4,752 | | | 1 | 4,752 | | 4,752 | 1.5 | % | ||||||||||||||||||||||||||
12.00% |
10 | 75,758 | 9 | 67,683 | 19 | 143,441 | (54,499 | ) | 88,942 | 28.4 | % | |||||||||||||||||||||||||
12.25% |
1 | 631 | 3 | 55,850 | 4 | 56,481 | (52,775 | ) | 3,706 | 1.2 | % | |||||||||||||||||||||||||
12.50% |
1 | 1,929 | 6 | 22,227 | 7 | 24,156 | (18,026 | ) | 6,130 | 2.0 | % | |||||||||||||||||||||||||
12.75% |
1 | 37,935 | | | 1 | 37,935 | (25,394 | ) | 12,541 | 4.0 | % | |||||||||||||||||||||||||
13.00% |
3 | 27,897 | 9 | 54,947 | 12 | 82,844 | (64,831 | ) | 18,013 | 5.7 | % | |||||||||||||||||||||||||
13.25% |
| | 1 | 2,821 | 1 | 2,821 | (1,675 | ) | 1,146 | 0.4 | % | |||||||||||||||||||||||||
13.75% |
| | 2 | 6,528 | 2 | 6,528 | (3,781 | ) | 2,747 | 0.9 | % | |||||||||||||||||||||||||
14.25% |
| | 1 | 67,669 | 1 | 67,669 | (30,000 | ) | 37,669 | 12.0 | % | |||||||||||||||||||||||||
Total |
22 | $ | 192,223 | 40 | $ | 421,631 | 62 | $ | 613,854 | $ | (300,310 | ) | $ | 313,544 | 100.0 | % | ||||||||||||||||||||
% of Portfolio |
31.3 | % | 68.7 | % | 100.0 | % | ||||||||||||||||||||||||||||||
Weighted Average Rate |
11.71 | % | 12.39 | % | 12.18 | % | ||||||||||||||||||||||||||||||
Number of Loans |
22 | 40 | 62 | |||||||||||||||||||||||||||||||||
Average Principal |
$ | 8,737 | $ | 10,541 | $ | 9,901 | ||||||||||||||||||||||||||||||
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Table of Contents
Concentration by Category based on Collaterals Development Status
As of September 30, 2009 and December 31, 2008, respectively, outstanding principal
balances on our portfolio loans, net of the allowance for credit loss, by development status of the underlying collateral,
were as follows:
September 30, 2009 | December 31, 2008 | |||||||||||||||||||||||
Amount | % | # | Amount | % | # | |||||||||||||||||||
Pre-entitled Land: |
||||||||||||||||||||||||
Held for Investment |
$ | 13,834 | 2.5 | % | 3 | $ | 7,178 | 1.2 | % | 2 | ||||||||||||||
Processing Entitlements |
193,087 | 34.9 | % | 10 | 200,902 | 32.8 | % | 12 | ||||||||||||||||
206,921 | 37.4 | % | 13 | 208,080 | 34.0 | % | 14 | |||||||||||||||||
Entitled Land: |
||||||||||||||||||||||||
Held for Investment |
113,117 | 20.4 | % | 16 | 114,307 | 18.6 | % | 17 | ||||||||||||||||
Infrastructure under Construction |
69,834 | 12.6 | % | 5 | 57,908 | 9.4 | % | 4 | ||||||||||||||||
Improved and Held for Vertical Construction |
46,857 | 8.5 | % | 4 | 54,486 | 8.9 | % | 5 | ||||||||||||||||
229,808 | 41.5 | % | 25 | 226,701 | 36.9 | % | 26 | |||||||||||||||||
Construction & Existing Structures: |
||||||||||||||||||||||||
New Structure Construction in-process |
37,110 | 6.7 | % | 15 | 43,814 | 7.1 | % | 14 | ||||||||||||||||
Existing Structure Held for Investment |
23,632 | 4.3 | % | 4 | 37,482 | 6.1 | % | 5 | ||||||||||||||||
Existing Structure Improvements |
55,885 | 10.1 | % | 1 | 97,777 | 15.9 | % | 3 | ||||||||||||||||
116,627 | 21.1 | % | 20 | 179,073 | 29.1 | % | 22 | |||||||||||||||||
Total |
553,356 | 100.0 | % | 58 | 613,854 | 100.0 | % | 62 | ||||||||||||||||
Less: Allowance for Credit Loss |
(337,000 | ) | (300,310 | ) | ||||||||||||||||||||
Net Carrying Value |
$ | 216,356 | $ | 313,544 | ||||||||||||||||||||
As of September 30, 2009 and December 31, 2008, respectively, outstanding principal
balances on our portfolio loans, net of the allowance for credit loss, by expected end-use of the underlying collateral,
were as follows:
September 30, 2009 | December 31, 2008 | |||||||||||||||||||||||
Amount | % | # | Amount | % | # | |||||||||||||||||||
Residential |
$ | 276,417 | 50.0 | % | 37 | $ | 278,644 | 45.4 | % | 37 | ||||||||||||||
Mixed Use |
183,617 | 33.2 | % | 8 | 206,691 | 33.7 | % | 11 | ||||||||||||||||
Commercial |
92,252 | 16.7 | % | 12 | 127,449 | 20.8 | % | 13 | ||||||||||||||||
Industrial |
1,070 | 0.1 | % | 1 | 1,070 | 0.1 | % | 1 | ||||||||||||||||
Total |
553,356 | 100.0 | % | 58 | 613,854 | 100.0 | % | 62 | ||||||||||||||||
Less: Allowance for Credit Loss |
(337,000 | ) | (300,310 | ) | ||||||||||||||||||||
Net Carrying Value |
$ | 216,356 | $ | 313,544 | ||||||||||||||||||||
The Manager estimates that, as of September 30, 2009, approximately 57% of the valuation
allowance is attributable to residential-related projects, 41% to mixed use projects, and the
balance to commercial and industrial projects.
The concentration of loans by type of collateral and end-use is expected to remain consistent
within the current portfolio. As of September 30, 2009 and
December 31, 2008, respectively, the concentration of
loans by type of collateral and end-use was relatively consistent over these periods. Changes in classifications are primarily a result of foreclosures of certain loans.
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Table of Contents
Borrower and Borrower Groups
Our investment guidelines provide that no single loan should exceed 10% of the total of all
outstanding loans and that aggregate loans outstanding to one borrower or borrower group should not
exceed 20% of the total of all outstanding loans. As of
September 30, 2009, there was one borrower and one borrowing group, respectively, whose borrowings totaled $69,122 (which was in default at September
30, 2009) and $97,771, respectively, which was approximately 12.5% and 17.7%, respectively, of our
total mortgage loan principal balance outstanding (although at the time of origination, the
principal balance was less than 10% of the total mortgage loan principal balance outstanding). As
of December 31, 2008, there was one individual borrower whose aggregated borrowings totaled
$67,670, which was approximately 11% of our total mortgage loan principal balance outstanding
(although at the time of origination, the principal balance was less than 10% of the total mortgage
loan principal balance outstanding).
Changes in the Portfolio Profile Scheduled Maturities
The outstanding principal balance of our mortgage investments, net of the allowance for credit
loss, as of September 30, 2009 have scheduled maturity dates within the next several quarters as
follows:
September 30, 2009 | ||||||||||||
Quarter | Amount | Percent | # | |||||||||
Matured |
$ | 370,255 | 66.8 | % | 36 | |||||||
Q4 2009 |
20,209 | 3.7 | % | 3 | ||||||||
Q1 2010 |
2,030 | 0.4 | % | 3 | ||||||||
Q3 2010 |
56,116 | 10.1 | % | 10 | ||||||||
Q1 2011 |
6,583 | 1.2 | % | 3 | ||||||||
Q1 2012 |
392 | 0.1 | % | 1 | ||||||||
Q3 2012 |
97,771 | 17.7 | % | 2 | ||||||||
Total |
553,356 | 100.0 | % | 58 | ||||||||
Less: Allowance
for Credit Loss |
(337,000 | ) | ||||||||||
Net Carrying Value |
$ | 216,356 | ||||||||||
From time to time, we may extend a mortgage loans maturity date in the normal course of
business. In this regard, we have modified certain loans in our portfolio, extending maturities in
some cases to two or more years, and we expect that we will modify additional loans in the future
in an effort to seek to preserve our collateral. Accordingly, repayment dates of the loans may vary from
their currently scheduled maturity date. If the maturity date of a loan is not extended, we
classify and report the loan as matured.
Real Estate Held for Development or Sale
Real estate held owned consists primarily of properties acquired as a result of foreclosure or
purchase and is reported at the lower of carrying value or fair value, less estimated costs to sell
the property. The Fund had $97,305 and $62,781 of such assets at September 30, 2009 and December
31, 2008, respectively.
During the nine months ended September 30, 2009, we acquired five real estate assets through
foreclosure of the related mortgage loans with an estimated fair
value of $41,169. During the year
ended December 31, 2008, we took title to the underlying real estate collateral of nine loans in
default with a net carrying value of approximately $55,318 at December 31, 2008. Additionally, in
March 2008, we purchased certain real estate with a current carrying value of approximately $7,448,
located in Arizona that is contiguous to the collateral of certain loans in our loan portfolio, in
order to maintain and enhance the overall project value. All real estate held for development is
located in California, Arizona, Texas or Minnesota.
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Table of Contents
During the second quarter of 2009, we implemented a plan to market and sell certain
residential real estate previously held for development. At September 30, 2009, the fair value of
real estate held for sale totaled $7,092. During the second quarter, we sold various individual
residential units netting approximately $770 in cash proceeds.
A summary of real estate held owned by us as of September 30, 2009, by state, follows:
Held For Development | Held For Sale | |||||||||||||||
# of | Aggregate Net | # of | Aggregate Net | |||||||||||||
State | Projects | Book Value | Projects | Book Value | ||||||||||||
California |
3 | $ | 9,644 | $ | | |||||||||||
Texas |
3 | 38,774 | | |||||||||||||
Arizona |
6 | 30,101 | 2 | 7,092 | ||||||||||||
Minnesota |
1 | 11,694 | | |||||||||||||
Total |
13 | $ | 90,213 | 2 | $ | 7,092 | ||||||||||
Of the above balances, approximately 52% was originally projected for development of
residential real estate, 24% was scheduled for mixed used real estate development, and 24% was
planned for commercial use. The Manager is currently evaluating the use and liquidation options
with respect to these projects. The real estate held for sale is
located in Arizona and is a multifamily residential project.
The
Manager has established an asset management function to manage the activities of
projects acquired through foreclosure or by other means. Additionally, during the nine months
ended September 30, 2009, the Manager engaged the services of an outside asset management
consultant to assist us in the determination of our specific asset disposition strategy. The
consultant receives $110 per month for its services. Such services include the preparation of
analyses to evaluate various alternatives to determine the highest and best use for the development
and ultimate liquidation of such projects. The Manager continues to evaluate various alternatives
for the ultimate disposition of such investments, including partial or complete development of such
properties or disposal of such properties on an as-is basis. Project development alternatives may
include, either through joint venture or on a project management basis, the development of the
project through entitlement, completion of various improvements or complete vertical construction.
Although the Manager has been approached on an unsolicited basis by third parties expressing an
interest in purchasing certain real estate owned, the
Manager has not developed or adopted any formal plan to dispose of such assets to date.
Accordingly, except for those assets designated for sale, no other real estate assets are reflected
as held for sale.
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Table of Contents
Important Relationships Between Capital Resources and Results of Operations
Loan Loss Reserve
Historically, the net earnings available to distribute to Members was primarily generated from
interest earned on mortgage loans and short-term investments, as well as default fees and other
amounts collected from borrowers. If borrowers did not make timely payments of interest in a
particular month, the amount distributable to Members in that month could be reduced by the amount
of the delinquent payment. To mitigate the effect of such late payments by borrowers, we
historically used our reserves (referred to as the Loan Loss Reserve) to supplement the
distribution of earnings to the Members. The Loan Loss Reserves is known as retained earnings under
GAAP. The entire retained earnings balance has been depleted as of September 30, 2009 and Member
distributions have been suspended. As a result, the Loan Loss Reserve is no longer available for
distribution.
Mortgage Loans, Participations and Loan Sales
For purposes of meeting liquidity demands, we have historically entered into the partial sale
of loans through loan participation agreements with various third parties and the Manager.
Origination fees (points) paid to the participants in connection with the participation
transactions were paid by the Manager in accordance with the Operating Agreement. Aside from the
borrowings from the Manager, which are secured by certain of our loans, no participations were
issued during the nine or three months ended September 30, 2009
or 2008, respectively. Additionally, we occasionally enter into agreements to sell whole loans to third parties. During the nine months
ended September 30, 2008, we were approached by a third party that offered to purchase a loan from
us at 101% of its par value. Due to the nature of this transaction, it was treated as an investing
activity in the consolidated statement of cash flows rather than a financing activity, which is how
our typical whole loan sales are treated. While we have anticipated continuing to participate
mortgage loans as liquidity needs arise, the Manager historically had not expected that loan sales
would occur in the ordinary course of business. However, given the Managers decision to suspend
certain of our activities in order to seek to prevent impairment of our capital and operations and
to assist us in our efforts to meet our remaining funding
commitments, certain of our portfolio loans are likely to be sold or participated in
the future. While the Manager expects that any future loan participations or loan sales will also
occur at or near par, due in part to current market conditions, there can be no assurance that we
will be able to do so. In light of current economic conditions, it may be necessary to employ
alternative structures for loan participations and they may be
relatively less attractive to us.
In cases of whole loan sales or participations issued to the Manager, the transactions have
been completed at par value, and the Manager has typically pledged the purchased loan to a
commercial bank as collateral on its line of credit. The Manager uses the proceeds from the line of
credit, together with other funds of the Manager, to execute the transactions. We have historically
repurchased loans from the Manager, although we are not obligated to do so. The sales of whole
loans and participations issued to the Manager are accounted for as secured borrowings, and are
separately identified in our consolidated financial statements. No loans were sold to or
participated with the Manager during the nine months ended September 30, 2008. However, during the
nine months ended September 30, 2009, the Manager drew $6,000 under its line of credit to provide
liquidity to us. This loan is collateralized by certain of our portfolio loans. The line of credit
is collateralized by specific loans in our portfolio and underlying deeds of trust and a guarantee of the Managers Chief Executive Officer.
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Table of Contents
Distributions to Members
Historically, Members elected to
either reinvest distributable monthly earnings or to have
earnings distributed to them in cash. Effective October 1, 2008, we suspended the option by which
Members could reinvest monthly distributions. For the nine months ended September 30, 2009 and
2008, respectively, our total net distributions to Members were $11,706 and $49,163, respectively, which
translated into net distributions of $160.27 and $749.20 per weighted average membership unit over
the same periods, respectively. For the three months ended September 30, 2009 and 2008, respectively, our total
net distributions to Members were $0 and $16,627, respectively, which translated into net
distributions of $0 and $234.84 per weighted average membership unit over the same periods,
respectively. Distributions reinvested, which is a non-cash transaction, totaled $0 and $23,192
for the nine months ended September 30, 2009 and 2008, respectively, representing 0%
and 47.17%, respectively, of total Member distributions. The decrease in reinvested Member
distributions is attributed to our suspension of the distribution reinvestment plan effective
October 1, 2009. Accordingly, until such time that the distribution reinvestment plan is
reinstated, if ever, any future monthly distributions will be made in cash. During the second
quarter of 2009, the Manager revised its Member distribution program and ceased further
distributions to Members until we generate sufficient liquidity to enable us to cover all borrower
obligations and operating costs.
Annualized Rate of Return to Members on Distributions
The annualized yield based on distributions made to Members was 2.1% and 9.9% for the nine
months ended September 30, 2009 and 2008, respectively, and 0% and 9.2% for the three months ended
September 30, 2009 and 2008, respectively. The year over year reduction in the annualized yield is
attributable to the reduction in the deployment ratio of available capital to loans funded, an
increase in the number of loans placed in non-accrual status, the change in the Prime rate over
these periods (which has resulted in lower interest bearing loans), the increase in real estate
held for development (which is a non-earning asset) and the suspension of Member distributions
during the second quarter of 2009.
Redemptions
Effective October 1, 2008, the Manager elected to, among other actions, suspend the acceptance
and payment of all redemption requests. During the nine months ended September 30, 2009 and 2008,
we paid redemptions, including retained earning amounts returned on full redemptions, totaling $0
and $120,533, respectively, which, expressed as a percentage of new Member investment (including
reinvestments), was 0% and 43.97%, respectively, over the same periods.
Prospective Trends
Loan Demand, Selection and Quality
As previously described, we stopped accepting any new loan requests and funding new loans.
Assuming we resume our lending activities, the Manager expects to diversify our loan portfolio
geographically and to concentrate on loan requests from seasoned core operators that are focused on
quality projects with sufficient equity located in targeted locations. However, there can be no
guarantee that we will resume lending activities, and we do not anticipate doing so for the
foreseeable future.
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Table of Contents
Summary of Existing Loans in Default
At September 30, 2009, 48 loans with outstanding principal balances totaling $473,916 were in
default, of which 36 with outstanding principal balances totaling $370,255 were past their
respective scheduled maturity dates, and the remaining 12 loans were in default as a result of
delinquency on outstanding interest payments or have been deemed non-performing based on value of
the underlying collateral in relation to the respective book value of the loan. At December 31,
2008, 28 loans with outstanding principal balances totaling $226,630 were in default, of which 24
with outstanding principal balances totaling $210,198 were past their respective scheduled maturity
dates, and the remaining four loans were in default as a result of delinquencies on outstanding
interest payments. In light of current economic conditions and in the absence of a recovery of the
credit markets, we anticipate that many, if not most, loans will not be paid at the scheduled
maturity.
We have commenced foreclosure on 16 of the 48 of the portfolio loans in default. We
anticipate that foreclosure action will commence on an additional six loans, and we are negotiating
with the borrowers and assessing the possibility of modifications of loan terms for the remaining
26 loans in default. There are two loans in default involved in bankruptcy reorganizations. For
another loan in default, we are a participating lender and the lead lender has commenced
foreclosure proceedings.
At September 30, 2009, 43 loans in non-accrual status had outstanding principal balances
totaling $450,568. Total contractual interest due under the loan terms for the non-accrual loans
was $40,011, of which $10,174 is included in accrued interest receivable in the balance sheet, and
of which $29,838 has not been recognized as income by us. The remaining five loans in default had
outstanding principal balances totaling $23,347, with accrued interest due totaling $332, which is
included in accrued interest receivable on our balance sheet. Excluding the loans in bankruptcy
reorganization and those in default as a result of nonpayment of interest, loans in default were
past their scheduled maturities between five and 692 days as of September 30, 2009.
The geographic concentration of our portfolio loans in default, net of the allowance for credit loss, at
September 30, 2009, is as follows:
Percent of | Non-Accrued | |||||||||||||||||||||||||||||||
Outstanding | Outstanding | Allowance for | Net Carrying | Accrued | Note | |||||||||||||||||||||||||||
Principal | # | Principal | Credit Loss | Amount | Interest | Interest | Total | |||||||||||||||||||||||||
Arizona |
48.3 | % | 23 | $ | 228,873 | $ | (173,523 | ) | $ | 55,350 | $ | 4,136 | $ | 10,737 | $ | 70,223 | ||||||||||||||||
Idaho |
10.5 | % | 2 | 49,590 | (39,090 | ) | 10,500 | 1,948 | 4,490 | 16,938 | ||||||||||||||||||||||
California |
36.1 | % | 17 | 171,133 | (113,678 | ) | 57,455 | 3,655 | 12,611 | 73,721 | ||||||||||||||||||||||
Texas |
2.3 | % | 3 | 11,102 | (4,493 | ) | 6,609 | 427 | 849 | 7,885 | ||||||||||||||||||||||
Nevada |
1.7 | % | 1 | 7,978 | (2,670 | ) | 5,308 | 319 | 715 | 6,342 | ||||||||||||||||||||||
New Mexico |
1.1 | % | 2 | 5,240 | (1,182 | ) | 4,058 | 21 | 435 | 4,514 | ||||||||||||||||||||||
100.0 | % | 48 | $ | 473,916 | $ | (334,636 | ) | $ | 139,280 | $ | 10,506 | $ | 29,837 | $ | 179,623 | |||||||||||||||||
Of our portfolio loans in default at September 30, 2009, 55% of such loan principal balances
related to residential end-use projects, 38% related to mixed-use projects, and 7% related to
commercial and industrial projects.
Other than as discussed above, no loans have loan principal payments 30
days or more past due and no loans have interest payments more than 30 days past due.
49
Table of Contents
Loan Portfolio Valuation Analysis
Evaluating the collectibility of a real estate loan is a matter of judgment. We evaluate our
real estate loan portfolio for impairment on an individual loan basis, except for loans that are
cross collateralized within the same borrowing groups. For such loans, we perform both an
individual evaluation as well as a consolidated evaluation to assess our overall exposure to
such loans. In addition to this analysis, we also complete an analysis of the loan portfolio as a
whole to assess our exposure for loans made in various reporting periods and in terms of geographic
diversity. The fact that a loan may be temporarily past due does not result in a presumption that
the loan is impaired. Rather, all relevant circumstances are considered by the Manager to determine
if and to the extent to which an allowance for impairment is required. During the portfolio
evaluation, the Manager considers the following matters, among others:
| an estimate of the net realizable value of the underlying collateral in relation to the
outstanding mortgage balance, including accrued interest and related costs; |
| the present value of cash flows expected to be received by us; |
| the date and reliability of any valuations; |
| the financial condition of the borrower and any adverse factors that may affect its
ability to pay its obligations in a timely manner; |
| prevailing economic conditions; |
| historical experience by market and in general; and |
| an evaluation of industry trends. |
The Manager performs an evaluation for impairment on all of our loans in default as of the
applicable measurement date. A loan is considered to be impaired when it is probable that we will
be unable to collect all amounts due thereunder in accordance with the contractual terms of the
applicable loan agreement. Further, in general, applicable accounting guidance requires that the
impairment, if any, be measured based on the fair value of the collateral if the creditor
determines that foreclosure is probable. In general, under applicable accounting guidance, if the
loan is collateral dependent, impairment is to be measured at the balance sheet date based on the
then fair value of the collateral in relation to contractual amounts due under the terms of the
loan. All of our portfolio loans are deemed to be collateral dependent.
In determining fair value, the Manager has adopted applicable accounting guidance which
establishes a framework for measuring fair value in accordance with GAAP, clarifies the definition
of fair value within that framework, and expands disclosures about the use of fair value
measurements. This accounting guidance applies whenever other accounting standards require or
permit fair value measurement.
50
Table of Contents
The accounting guidance establishes a fair value hierarchy that prioritizes the inputs into
valuation techniques used to measure fair value. The three levels of the fair value hierarchy under
this accounting guidance are as follows:
Level 1 | Valuations based on unadjusted quoted prices in active markets for identical assets or liabilities that we have the ability to access at the measurement date; | |||
Level 2 | Valuations based on quoted market prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active or models for which all significant inputs are observable in the market either directly or indirectly; and | |||
Level 3 | Valuations based on models that use inputs that are unobservable in the market and significant to the fair value measurement. |
The accounting guidance gives the highest priority to Level 1 inputs, and gives the lowest
priority to Level 3 inputs. The value of a financial instrument within the fair value hierarchy is
based on the lowest level of any input that is significant to the fair value instrument.
Fair value is a market-based measure considered from the perspective of a market participant
who holds the asset or owes the liability, rather than an entity-specific measurement. Therefore,
even when market assumptions are not readily available, our own assumptions attempt to reflect
those that market participants would use in pricing the asset or liability at the measurement date.
Further, fair value measurements are market-based measurements with an exit price notion, not
entity-specific measurements. Therefore, an entity cannot disregard the information obtained from
the current market simply because the entity is a willing seller at that price. If the best
information available in the circumstances indicates that market participants would transact at a
price, it does not matter whether the reporting entity is actually willing to transact at that
price.
The Manager performs a valuation analysis of our loan portfolio on an annual and quarterly basis.
Historically, for purposes of determining whether a valuation adjustment was required, the Manager
primarily utilized a modeling technique (known as residual analysis) commonly used in our industry
using Level 3 inputs and supplemented by discounting of projected cash flows. This analysis is based on the assumption that development of our collateral
was the highest and best use of such property.
In the latter part of 2008 and part of 2009, the global and U.S. economies experienced a rapid
decline resulting in unprecedented disruptions in the real estate,
capital, credit and other markets. As a
result of these factors, we recorded a valuation provision using a development/residual analysis
approach, reflecting lower pricing assumptions and a significant increase in discount factors to
reflect market risk.
In
the fourth quarter of 2008, we engaged independent third-party
valuation firms to assist
with our analysis of fair value of the loan portfolio as of December 31, 2008. As a result of this
analysis, and given the significant change in the economic and real estate landscape, naturally, we determined
that the development approach that was historically used for virtually every collateral type was no
longer the highest and best use for the majority of our collateral. Alternatively, in most cases
the highest and best use was deemed to be hold for investment using current pricing data (i.e.,
Level 2 analysis) as of December 31, 2008, with several comparable sales reflecting distressed sale
pricing. This determination was based on our assessment of the liquidity freeze, lack of demand for
developed property, the extended development and sales period, and uncertainty relative to the
pricing and cost estimates under a long-term build out scenario. This assessment resulted in a
significant decline in the estimated fair values in relation to our historical residual analysis
methodology.
Given
recent sales activity and the on-going volatility in real estate markets, in the third quarter of 2009, we engaged
independent third-party valuation firms and other consultants to assist with the Managers analysis of fair
value of our loan portfolio as of September 30, 2009. The underlying collateral of our loans vary
by stage of completion, which consists of either raw land, entitled land, partially developed, or
mostly developed/completed projects (see Note 4 Loan Classifications table). As a result of this
preliminary analysis, management determined that certain assets were most appropriately valued
utilizing Level 2 observable inputs based
on current pricing data as of September 30, 2009 (despite the fact that in many cases
comparable sales continue to reflect distressed sale pricing), while we believed other assets were
more appropriately subject to a Level 3 development approach.
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The following is a summary of the procedures being performed in connection with our fair value
analysis, which is on-going as of November 16, 2009:
All loans in our portfolio continue to be deemed collateral dependent, and we perform our
analysis of fair value of that collateral under the provisions of the applicable accounting
guidance. In order to complete the fair value analysis, we are performing the following procedures
for the period ended September 30, 2009 and the year ending December 31, 2009:
1. | Reviewing the status of each portfolio loan to ascertain our view of the likelihood that we
will collect all amounts due under the terms of such loans at maturity based on current
real estate and credit market conditions. |
2. | For loans whose collection was deem to be unlikely, we are viewing the portfolio loans to
ascertain how recently the latest valuation of the underlying collateral was performed. |
3. | Subjecting the entire loan portfolio to independent third party valuation as of September
30, 2009. |
4. | Utilizing the services of Cushman & Wakefield, a nationally recognized
valuation firm, and other valuation firms to perform a valuation analysis for the selected
projects using the valuation criteria under a Level 2 valuation approach. Cushman &
Wakefield valued approximately 89% of the outstanding principal balance of the loan
portfolio while other valuation firms valued the remaining 11%. For those valuations
performed by valuation firms other than Cushman & Wakefield, we expect to utilize Cushman &
Wakefield to perform a review of the valuations and reports. |
5. | We understand it is
customary for some independent valuation firms to use the term market
value when valuing real property interests. We recognize that there are differences in
the market value and fair value definitions, but in many instances,
the results are identical. The Manager believes that it can reliably use market
valuations when making decisions with respect to fair value of our assets for financial
reporting purposes. Level 3 inputs for valuation are provided for market circumstances in
which Level 1 and Level 2 inputs are not reliably available. From the information
received from the valuation firms engaged by us, each asset, and its corresponding
valuation, was individually reviewed by the Fund and the valuations were interpreted under
the definition of fair value under applicable accounting guidance. |
6. | Using observable and unobservable inputs available, and depending on the development
status of the collateral, we are in the process of performing analyses on selected assets
utilizing a Level 3 residual analysis approach to determine the projected cash proceeds
expected to be received for such projects. This analysis includes estimating project development costs, projected carrying
costs, such as property taxes, and estimated disposal costs. The cash flow streams will
then be discounted to present value to derive fair value. |
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A summary of the results and key assumptions utilized by the independent valuation firms to
derive fair value follows:
| Very few of the precedent transactions that were analyzed satisfied the market value
and fair value requirement that the price reflect that of an orderly transaction, rather
many of the sales were made under duress or in markets in turmoil. |
| Inputs for use in Level 2 and/or Level 3 models were reported by the valuation firms to
be inconsistent and reflective of a distressed market that has not yet established current
norms for inputs into discounted cash flow or other financial models such as absorption
rates and timing, unit pricing and trends, discount rate, risk adjustment processes, or
the like. |
| A distinction was made between owners under duress and properties under duress. Market
values are determined based on the determined highest and best use of the real property
being valued. When owners are under duress, prices of transactions in which they are
involved must be viewed as at least potentially subject to duress as well. The valuation
firms took this distinction into account in arriving at highest and best use conclusions
and selecting appropriate valuation methodologies. |
| The highest and best use for the majority of real estate collateral subject to
third-party valuation was deemed to be held for investment and/or future development,
rather than being subject to immediate development and/or sale. For each of these assets,
a sales comparison approach using available data was used as the valuation methodology. |
| For the projects which included either unentitled or entitled land lacking any vertical
or horizontal improvements, given the current distressed state of the real estate and
credit markets, the development approach was deemed to be unsupportable because Level 2
market participant data were insufficient and/or Level 3 criteria was not reliably
available from the valuation firms market research; the highest and best use standard
in these instances required such property to be classified as held for investment
purposes until market conditions provide observable development activity to support either
a Level 2 or a Level 3 valuation model for the development of the planned site. As a
result, the valuation firms used a sales comparison approach using
available data to determine market value. |
| For the projects containing partially or fully developed lots, the development approach
was utilized, with assumptions made for pricing trends, absorption projections, holding
costs, and the relative risk given these assumptions. The assumptions used by the
valuation firms were based on currently observable available market data. |
| For operating properties, the income approach, using the direct capitalization and
discounted cash flow methods was used by the valuation firms. The anticipated future cash
flows and a reversionary value were discounted to an opinion of net present value at a
chosen yield rate. The assumptions were based on currently observable available market
data. |
| For projects in which we
have received a recent third party offer to buy our loan, or the
borrower has received a recent third party offer to buy the related
project, we utilized the offer amount in cases in which the offer
exceeded the valuation conclusion reached by the independent
valuation firms. |
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For
projects other than those where the Manager relied primarily on the work of independent valuation
firms, the Manager supplemented its analysis utilizing a risk-adjusted cash flow model commonly used in our
industry based on certain assumptions and Level 3 inputs to determine fair value, which presumes a
development approach as highest and best use for such projects. To evaluate the collateral
relating to these projects, the Manager performed different procedures depending on the stage of the
collateral, which are described below, along with a summary of key assumptions utilized in our
evaluations of fair value, as follows:
| For collateral to be developed, the initial unit sales price utilized was based on
local market, comparable prices from non-distressed pricing from prior periods utilizing
observable and unobservable data points, generally discounted by 20% or more. In general,
management assumed a price escalation utilizing the low end of a historical 3-year average
look back for the last 10 years. We considered this a fair exchange price in an orderly
transaction between market participants to sell the asset, assuming its highest and best
use as determined by management, in the principal or most advantageous market for the
asset. |
| For collateral to be developed, the development costs, operating and selling cost
assumptions we made were based on observable and unobservable cost estimates obtained from
a cross section of industry experts and market participants. |
| For collateral consisting of partially complete or finished lots, development costs,
operating and selling cost assumptions were based on observable and unobservable
cost estimates obtained from a cross section of industry experts and market participants. |
| For collateral whose development is complete or nearly complete which are expected to
be leased initially to allow for stabilization of market prices before being sold, we
utilized operating revenue and costs for comparable projects using current operating data
obtained by us. |
| Based on the resulting net cash flows derived from the utilization of the above
assumptions, the Manager applied risk-adjusted annual discount rates ranging from 20% to 25% to the
net cash flows, depending on the projected build-out term, the project type, the location
and assumed project risk. |
| Assets acquired through foreclosure are subject to different accounting guidance which
requires us to account for these real estate assets received in satisfaction of the
related receivable by writing them down to estimated fair value as of the date of
foreclosure. An impairment charge is recorded when circumstances
indicate that the carrying amount of the property is greater than the
sum of the undiscounted cash flows expected to result from the use and
eventual disposition of the property. |
All of our mortgage investments are measured at fair value using either Level 2 or Level 3
inputs. The Manager continues to evaluate the appropriate valuation methodology applicable to each asset.
Based on the results of our evaluation and analysis to date, we recorded a valuation provision
charge of $90,000 and $42,430 for the nine and three months ended September 30, 2009 and 2008,
respectively. These valuation provision charges also include $8,000 and $1,300 for 2009 and 2008,
respectively, relating to the impairment of real estate owned deemed to be other than temporary.
The valuation charge is reflective of the continued deterioration of the real estate markets and
the sustained distressed sales pricing of residential real estate in recent months combined with
the downturn in the commercial real estate markets.
While the above results reflect our preliminary assessment of fair value as of September 30,
2009 based on currently available data and analysis completed to date, we expect the Manager to evaluate the
loan portfolio in the fourth quarter of 2009 to determine the adequacy and appropriateness of the
allowance for credit loss and to update our loan-to-value ratios. Depending on market conditions,
such updates may yield materially different values and may potentially increase or decrease the
valuation allowance.
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As of September 30, 2009 and December 31, 2008, respectively, the allowance for credit loss totaled $337,000
and $300,310, respectively, representing 60.9% and 48.9%, respectively, of the total loan portfolio
principal balances. With the existing allowance recorded as of
September 30, 2009, We believe that
as of that date, the fair value of the underlying collateral of our loan portfolio is sufficient to
protect us against any loss of the net carrying value of loan principal or accrued interest, and
that no additional allowance for credit loss is necessary at this time.
A rollforward of the allowance for credit loss as of September 30, 2009 follows:
2009 | ||||
Balance at beginning of year |
$ | 300,310 | ||
Valuation charge for current fair value |
82,000 | |||
Transferred to other accounts |
(45,310 | ) | ||
Balance at end of period |
$ | 337,000 | ||
Trends in Interest Income and Effective Portfolio Yield
At
September 30, 2009 and December 31, 2008, respectively, our loan portfolio had a weighted average note
rate of 11.56% per annum and 12.18% per annum, respectively. For the income on these yields to be
fully realized, all loans must be performing and accrued interest income must be deemed to be
collectible. At September 30, 2009 and December 31, 2008, accrued interest income totaled $11,040
and $10,453, respectively, and note rate interest earned but not accrued totaled approximately
$39,972 and $7,793, respectively. Based on the Managers assessment of our portfolio and current
defaults, the Manager anticipates that additional loans will be placed in non-accrual status over
the next several quarters resulting in the deferral (but not necessarily impairment) of
corresponding amounts of interest income, default interest and fees. Moreover, the Manager has
modified certain loans in our portfolio, the result of which has resulted in an extended term of
maturity on such loans of two years or longer and, in some cases, has required us to accept an
interest rate reflective of current market rates, which are lower than in prior periods.
Accordingly, the Manager believes that net interest income, as a percent of the total portfolio
(the combined total of both accrual and non-accrual loans), will decline, thereby further reducing
monthly earnings and the resulting yields to our Members. While the Manager believes much of the
deferred amounts may be ultimately realized, we cannot provide any assurance that any deferred
amounts (including non-accrual interest, default interest or fees) will be realized or that future
yields will approximate current or historical yields.
Interest Earning Assets Deployment Ratio
Our interest income and net earnings for any period is a function of multiple factors, the
most significant of which are the current principal balances outstanding, the current weighted
average yield on the loan portfolio, the amount of non-earning assets held and the ratio of earning
assets deployed between
our loan portfolio and existing cash (money market) accounts, referred to as interest earning
asset deployment ratio.
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We historically targeted a deployment ratio of 95%-97% of available capital in loans with the
remaining funds to be held as working capital/liquidity balances in money market or investment
accounts. While our target was generally to have a minimum 95% of our earning assets invested in
loans, the actual deployment ratio is a function of multiple factors including:
| pending fundings of loans that have completed the underwriting process; |
| anticipated loan fundings; |
| average size of loans in the underwriting process; |
| expected loan reductions or payoffs; |
| pending Member redemptions; |
| direct expenses, and |
| other anticipated liquidity needs. |
Accordingly, depending on the average ratio of earning assets deployed as loans versus
balances in money market accounts, our earnings for a given period will vary significantly. While
the Managers intent is to continue to manage to a minimum 95% deployment ratio, it is likely that
average deployment will be less than this targeted level given the increasing level of defaults and
foreclosures.
Leverage to Enhance Portfolio Yields
We have not historically employed leverage to enhance our portfolios current yield. However,
the Manager may deem it beneficial, if not necessary, to employ leverage for us in the future. In
February 2008, we secured a $10,000 loan, of which only $8,000 was drawn. This loan was repaid in
the second quarter of 2008 and there is no outstanding principal balance at December 31, 2008.
Additionally, during the nine months ended September 30, 2009, the Manager drew $6,000 under
its line of credit with a bank to provide liquidity for us. The loan is secured by certain of our
portfolio loans. During the nine months ended September 30, 2009, we repaid principal of $3,480
under this loan commensurate with principal paydowns received from related borrowers, resulting in
a balance at September 30, 2009 of $2,520. The line of credit is collateralized by specific
portfolio loans and underlying deeds of trust and a guarantee of the Managers Chief
Executive Officer.
Off-Balance Sheet Arrangements
For certain loans, upon their initial funding, a reserve for future interest payments is
deposited into a controlled disbursement account in the name of the borrower for our benefit. These
accounts, which are held in the name of the borrowers, are not included in the accompanying balance
sheets. We do not have any other off-balance sheet arrangements.
Contractual Obligations
The financial obligations to the Manager under the Operating Agreement, as described elsewhere
in this Form 10-Q, and funding commitments to borrowers, as of September 30, 2009, reflect our
contractual obligations as of such date. Additionally, during the quarter ended September 30, 2009,
the Manager engaged the services of an outside consulting firm to assist with general portfolio
oversight and
to assist in the determination of the specific asset disposition strategy. Additionally, the
Manager engaged a consultant to assist in the identification of financing and capital raising
alternatives. Collectively, these consultants receive $130 per month for their services and the
contract is cancelable by either party with 60 day written notice. All of our lending commitments
as of September 30, 2009 are expected to be funded within one year. Aside from these, we have no
other contractual obligations at September 30, 2009. See Liquidity and Capital Resources for
additional information.
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Liquidity and Capital Resources
Our financial statements have been prepared on a going concern basis, which contemplates the
realization of assets and the discharge of liabilities in the normal course of business for the
foreseeable future. Due to unprecedented dislocations in the real estate and capital markets, we
have incurred a significant reduction in loan payoffs from borrowers and an increase in
delinquencies, non-performing loans and real estate owned, resulting in a substantial reduction of
cash flows. The Manager has taken a number of measures to seek to provide liquidity to us,
including, among other things, engaging in efforts to sell whole loans and participate interests in
certain loans in our portfolio, and to liquidate certain real estate. However, the dislocations
and uncertainty in the economy, and real estate, credit, and other markets have created an
extremely challenging environment that will likely continue for the foreseeable future, and there
can be no guarantee that we will have sufficient liquidity to continue as a going concern.
For additional information regarding the requirements for and sources of liquidity, please
refer to the discussion above and our previously filed Form 10-K. Except as discussed below, there
have been no material changes in these requirements or sources since December 31, 2008.
Requirements for Liquidity
Loan Fundings
At September 30, 2009, two of our borrowers have remaining funded or unfunded interest
reserves, and 56 of our borrowers are scheduled to pay interest from other sources or have
depleted any available interest reserves. On certain loans, upon their initial funding, the
reserve for future interest payments is deposited into a controlled disbursement account in the
name of the borrower for our benefit. These accounts, which are held in the name of the borrowers,
are not included in the accompanying balance sheets.
Estimated future commitments for construction or development costs, and for interest, are
recorded on the consolidated balance sheets as an Undisbursed Portion of Loans-in-process and
Interest Reserves, which are deducted from Mortgage Loan Note Obligations. As of September 30, 2009
and December 31, 2008, undisbursed loans-in-process and interest reserves balances were as follows:
September 30, 2009 | December 31, 2008 | |||||||||||||||||||||||
Loans Held | Loans Held | Loans Held | Loans Held | |||||||||||||||||||||
to Maturity | for Sale | Total | to Maturity | for Sale | Total | |||||||||||||||||||
Undispersed
Loans-in-process per Note Agreement |
$ | 50,483 | $ | 2,672 | $ | 53,155 | $ | 66,035 | $ | 32,633 | $ | 98,668 | ||||||||||||
Less: amounts not to be funded |
(46,408 | ) | | (46,408 | ) | (39,461 | ) | (13,767 | ) | (53,228 | ) | |||||||||||||
Undispersed
Loans-in-process per Financial Statements |
$ | 4,075 | $ | 2,672 | $ | 6,747 | $ | 26,574 | $ | 18,866 | $ | 45,440 | ||||||||||||
The contractual amount of unfunded loans in process and interest reserves totaled $53,155 and
$98,668 at September 30, 2009 and December 31, 2008, respectively. The decrease in this balance is
due to funding of existing construction loan commitments in the first nine months of 2009 or
foreclosure of the related collateral. While the contractual amount of unfunded loans in process
and interest reserves total $53,155 at September 30, 2009, the
Manager estimates that it will fund no more
than $6,747. The difference of $46,408 is not expected to be funded and relates to loans that are
in default, loans that have been modified to lower the funding amount, and loans whose funding is
contingent on various project milestones, many that have not been met to date and are not expected
to be met given current economic conditions. Accordingly, these amounts are not reflected as
funding obligations in the accompanying consolidated balance sheets.
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While the Manager may choose to modify loan terms with current borrowers and to commit
additional funds, if deemed appropriate by the Manager, we have not executed any Commitment to
Fund letters for new loans as of September 30, 2009.
Maintenance and Development Costs for Real Estate Owned
We require liquidity to pay costs and fees to preserve and protect the real estate we own.
Real estate held for development or sale consists primarily of properties acquired as a result of
foreclosure or purchase and is reported at the lower of carrying value or fair value, less
estimated costs to sell the property. At September 30, 2009 and December 31, 2008, our real estate
owned was comprised of 15 properties and 10 properties, respectively, acquired through foreclosure
or purchase, with a carrying value of $97,305 ($90,213 held for development and $7,092 held for
sale) and $62,781, respectively. Costs related to the development or improvement of the assets
are capitalized and costs relating to holding the assets are charged to expense. Cash outlays for
capitalized development costs totaled $2,356 during the nine months ended September 30, 2009. In
addition, costs related to holding and maintaining such properties, which were expensed and
included in operating expenses for real estate owned in the accompanying consolidated statement of
operations, totaled approximately $2,817 (including $1,757 in property taxes due for foreclosed
properties) and $62 during the nine month periods ended September 30, 2009 and 2008, respectively,
and $1,477 and $62 for the three months ended September 30, 2009 and 2008, respectively. The
nature and extent of future costs for such properties depends on the level of development
undertaken, the number of additional foreclosures and other factors.
Our policies with respect to, and the reasoning behind the need for, liquidity to satisfy
management fees and loan enforcement costs, interest expense, distributions to Members and for
Member Redemptions, have not changed in any material respect since our previously filed Form 10-K.
For updated information regarding our requirements for these purposes, please see the discussion
above.
Sources of Liquidity
Loan Payments
The repayment of a loan at maturity creates liquidity. In the case of an extension, the
Manager typically charges the borrower a fee for re-evaluating the loan and processing the
extension. Borrowers do not customarily pay this fee out of their own funds, but instead usually
pay the fee out of available unfunded loan proceeds, or by negotiating an increase in the loan
amount sufficient to pay the fee. However, to the
extent that we extend a loan, we do not generate liquidity because the Manager, and not us,
receives the extension fee, if any. During the nine months ended September 30, 2009, we received loan principal payments totaling $6,664. Excluding loan balances past scheduled maturity,
we hold loans in our portfolio with scheduled maturities in the fourth quarter of 2009 and first
quarter of 2010 totaling $22,239. However, due to the state of the economy and the compressed
nature of the real estate, credit and other markets, loan defaults have continued to rise and are
expected to rise further and there can be no assurance that any part of these loans will be repaid,
or when they will be repaid.
See the discussion above in Results of Operations for the Nine and Three Months Ended
September 30, 2009 and 2008 for information regarding interest income.
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Disposition of Real Estate Owned
The sale of real estate owned creates liquidity for us. During the nine months ended
September 30, 2009, we received proceeds totaling $770 from the sale of real estate. As development
of certain real estate projects is completed, we anticipate that proceeds from the disposition of
real estate will increase in the future. However, there can be no assurance that such real estate
will be sold at a price in excess of the current book value of such real estate.
Supplemental Liquidity
In addition to the customary liquidity elements discussed above,
we continue to seek additional sources to create liquidity should the need arise. In addition to us having approximately $2,463
in cash on hand at September 30, 2009, the Manager also has $5,200 in bank lines of credit
available to monetize our loans, which was reduced to $2,520 subsequent to September 30, 2009.
Accordingly, we have no current availability under this line of credit. During the nine months
ended September 30, 2009, the Manager drew $6,000 under its line of credit with a bank to provide
liquidity to us, of which $3,480 has been repaid. Additionally, we may create liquidity from the
sale of real estate owned, whole loans or loan participations.
Cash Flows
Cash provided by operating activities was $13,546 and $36,294 for the nine months ended
September 30, 2009 and 2008, respectively. Cash provided by operating activities includes the cash
generated from interest and other mortgage income from the Funds loan portfolio, offset by amounts
paid for management fees to the Manager and interest paid on participated loans, to the Manager for
short-term borrowings, and to banks for notes payable. The decrease in the year over year amount
is attributed to the decrease in the income-earning balance of our loan portfolio and resulting
mortgage income.
Net cash used by investing activities was $20,749 and $163,152 for the nine months ended
September 30, 2009 and 2008, respectively. The decrease in net cash used by investing activities
was attributable to a decrease in the number and amount of mortgage loan fundings ($25,827 and
$220,905 during the nine months ended September 30, 2009 and 2008, respectively), coupled with a
decrease in loan paydowns during the same periods ($6,664 and $34,544 during the nine months ended
September 30, 2009 and 2008, respectively). Moreover, we decreased the amount expended on real
estate held for development ($2,356 and $8,116 during the nine months ended September 30, 2009 and
2008, respectively). In addition, we generated $31,325 in proceeds from the sale of a whole loan in
2008 as compared to none in 2009. Moreover, we collected $770 from the sale of real estate.
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Net cash used by financing activities was $14,149 for the nine months ended September 30, 2009
as compared to net cash provided by financing activities of $111,020 for the same period in 2008.
The primary reason for the decrease in cash from financing activities is the suspension of
certain of our activities, including the acceptance of member capital and payment of redemptions. Proceeds from
the sale of Member units totaled $250,941 during the nine months ended September 30, 2008 as
compared to none in 2009. Additionally, Member redemptions totaled $113,206 for the nine months
ended September 30, 2008 as compared to none in 2009. Member distributions also decreased during
the reporting period ($16,669 and $23,324 during the nine months ended September 30, 2009 and 2008,
respectively) as a result of the Funds suspension of the distribution reinvestment plan. Also, we
generated proceeds from borrowings of $6,000 and $8,000 for the nine months ended September 30,
2009 and 2008, respectively, and repaid $3,480 and $8,000 during the same periods, respectively.
Critical Accounting Policies
Our critical accounting policies are disclosed in our previously filed Annual Report on Form
10-K for the fiscal year ended December 31, 2008. During the nine months ended September 30,
2009, there have been no significant changes in our critical accounting policies.
Recent Accounting Pronouncements
For information regarding recent accounting pronouncements that are applicable to the Fund,
see Note 2 to the unaudited consolidated financial statements included with this Form 10-Q.
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Item 3. | Quantitative and
Qualitative Disclosures about Market Risk. |
Our financial position and results of operations are routinely subject to a variety of risks.
These risks include market risk associated primarily with changes in interest rates. We do not deal
in any foreign currencies and do not enter into, or intend to enter into, derivative financial
instruments for trading or speculative purposes. Moreover, due to the historically short-term
maturities of our loans and the interest rate floors in place on all variable rate loans, market
fluctuations in interest rates generally do not affect the fair value of our investment in the
loans.
As a result of the economic decline and market disruptions, we believe there are severe
restrictions on the availability of financing in general and concerns about the potential impact on
credit availability, liquidity, interest rates and changes in the yield curve. While we have been
able to meet all of our liquidity needs to date, there are still concerns about the availability of
financing generally, and specifically about the availability of take-out financing for our
borrowers. This will likely result in increased defaults, non-accrual loans and foreclosures, which
will impact our short-term mortgage income recognition. Further, the timing and amount received
from the ultimate liquidation of such assets cannot be determined given the current state of the
U.S. and worldwide financial and real estate markets.
Our assets consist primarily of investments in short-term commercial mortgage investments,
real estate held for development, interest and other receivables and cash and cash equivalents. The
principal balance on our aggregate investment in mortgage loans was $553,356 and $613,854 at
September 30, 2009 and December 31, 2008, respectively (before the $337,000 and $300,310 allowance
for credit loss, respectively). Our loans historically have had original maturities between six and
18 months. However, with the general lack of take out financing available to our borrowers, the
Manager has modified certain loans to extend the maturity dates to two years or longer. At
September 30, 2009, the weighted average remaining scheduled term of our outstanding loans was 23.7
months (excluding loans past their scheduled maturity at September 30, 2009), with 50.1% of the
total portfolio at fixed interest rates and 49.9% of the total portfolio at variable interest
rates. The interest rates on these loans may be fixed, or may vary with the Prime interest rate,
generally subject to a minimum rate floor. At September 30, 2009, the weighted average rate on our
fixed rate portfolio was 10.26% per annum, and was 12.87% per annum on our variable rate portfolio
tied to the Prime interest rate. The weighted average interest rate on the aggregate portfolio was
11.56% per annum at September 30, 2009.
Historically, due to the short-term maturities of our loans, our status, and the existence of
interest rate floors on our variable rate loans, market fluctuations in interest rates generally
had not affected the fair value of our investment in the loans. However, given the significant
decline in the fair value of the underlying real estate collateral securing our loans and the lack
of available take-out financing, we have experienced a significant increase in loans in default and
loans placed in non-accrual status that has adversely affected our operating results and are
expected to continue to do so in the future. At September 30,
2009 and December 31, 2008, respectively, the
percentage of our portfolio principal in default status was 85.6% and 36.9%, respectively, and the
percentage of our portfolio principal in non-accrual status was 81.4% and 15.6%, respectively.
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Significant and sustained changes in interest rates could also affect our operating results.
If interest rates decline significantly, some of the borrowers could prepay their loans with the
proceeds of a refinancing at lower interest rates. Assuming such loans could not be replaced by us
with loans at interest rates similar to those which were prepaid (which, given our current status
of not funding loans, is likely the case), such prepayments would reduce our earnings and funds
available for distribution to Members. On the other hand, a significant increase in market interest
rates could result in a slowdown in real estate development activity, which could reduce the demand
for our real estate loans and the collateral securing such loans. Due to the complex relationship
between interest rates, real estate investment and refinancing
possibilities, we are not able to quantify the potential impact on our operating results of a
material change in our operating environment other than interest rates. However, assuming our
September 30, 2009 portfolio remained unchanged for one year, a 100 basis point increase or
decrease in the prime interest rate would cause our portfolio yield to remain unchanged at 11.56%
per annum. The result is due to the interest rate floor contained in our variable rate loans and
current Prime rate. The following table presents the impact on annual interest income, assuming all
loans were performing, based on changes in the prime rate:
September 30, 2009 Portfolio Information | ||||||||||||
Fixed Rate | Variable Rate | Total | ||||||||||
Outstanding Balance |
$ | 277,245 | $ | 276,111 | $ | 553,356 | ||||||
Current Weighted Average Yield |
10.26 | % | 12.87 | % | 11.56 | % | ||||||
Annualized Interest Income |
$ | 28,439 | $ | 35,533 | $ | 63,972 | ||||||
Change in Annual Interest Income | Pro-forma | Change | ||||||||||||||||||
Fixed Rate | Variable Rate | Total | Yield | In Yield | ||||||||||||||||
Increase in Prime Rate: |
||||||||||||||||||||
0.5% or 50 basis points |
$ | | $ | | $ | | 11.56 | % | 0.00 | % | ||||||||||
1.0% or 100 basis points |
$ | | $ | | $ | | 11.56 | % | 0.00 | % | ||||||||||
2.0% or 200 basis points |
$ | | $ | 41 | $ | 41 | 11.57 | % | 0.01 | % | ||||||||||
Decrease in Prime Rate: |
||||||||||||||||||||
0.5% or 50 basis points |
$ | | $ | | $ | | 11.56 | % | 0.00 | % | ||||||||||
1.0% or 100 basis points |
$ | | $ | | $ | | 11.56 | % | 0.00 | % | ||||||||||
2.0% or 200 basis points |
$ | | $ | | $ | | 11.56 | % | 0.00 | % |
The following table contains information about our mortgage loan principal balances as of
September 30, 2009, presented separately for fixed and variable rates and the calendar quarters in
which such mortgage investments mature.
Matured | Q4 2009 | Q1 2010 | Q3 2010 | Q1 2011 | Q1 2012 | Q3 2012 | Total | |||||||||||||||||||||||||
Loan Rates: |
||||||||||||||||||||||||||||||||
Variable |
$ | 212,740 | $ | 6,806 | $ | | $ | 54,947 | $ | 1,618 | $ | | $ | | $ | 276,111 | ||||||||||||||||
Fixed |
157,515 | 13,403 | 2,030 | 1,169 | 4,965 | 392 | 97,771 | 277,245 | ||||||||||||||||||||||||
$ | 370,255 | $ | 20,209 | $ | 2,030 | $ | 56,116 | $ | 6,583 | $ | 392 | $ | 97,771 | $ | 553,356 | |||||||||||||||||
Less: Allowance for Credit Loss |
(337,000 | ) | ||||||||||||||||||||||||||||||
Net Carrying Value |
$ | 216,356 | ||||||||||||||||||||||||||||||
As of September 30, 2009, we had cash and cash equivalents totaling $2,463 (or 0.6% of total
assets), all of which were held in bank accounts or highly liquid money market accounts or
short-term
certificates of deposit. We have historically targeted 3%-5% of the
principal balance of our outstanding portfolio loans to be held in such accounts as a working capital reserve. However, our
actual deployment may vary depending on the timing and amount of investor capital raised and the
timing and amount of loans identified and funded. We believe that these financial assets do not
give rise to significant interest rate risk due to their short-term nature.
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Item 4T. | Controls and Procedures. |
Controls and Procedures
The Manager, on our behalf, has conducted an evaluation, with the participation of the Chief
Executive Officer and Chief Financial Officer of the Manager, of the effectiveness of our
disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under
the Exchange Act), as of the end of the period covered by this Form 10-Q.
Based on this evaluation, the Chief Executive Officer and Chief Financial Officer of the
Manager have concluded that our disclosure controls and procedures were effective as of the period
ended September 30, 2009 to ensure that information required to be disclosed by us in reports that
we file or submit under the Exchange Act is recorded, processed, summarized and reported within the
time periods specified in SEC rules and forms and is accumulated and communicated to management of
the Manager, including the principal executive officer and principal financial officer of the
Manager, as appropriate to allow timely decisions regarding required disclosure.
Changes to Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting (as defined in Rules
13a-15(f) and 15d-15(f) under the Exchange Act) during our fiscal quarter ended September 30, 2009
that have materially affected, or are reasonably likely to materially affect, our evaluation of the
effectiveness of our internal control over financial reporting.
In designing and evaluating our disclosure controls and procedures and internal control over
financial reporting, management of the Manager recognizes that any controls and procedures, no
matter how well designed and operated, can provide only reasonable assurance of achieving the
desired control objectives, and management of the Manager necessarily is required to apply its
judgment in designing and evaluating the controls and procedures. The Manager, on our behalf,
regularly reviews and documents our disclosure controls and procedures, and is in the process of
refining our internal control over financial reporting, and may from time to time make appropriate
changes aimed at enhancing their effectiveness and ensure that our systems evolve with our
business.
PART II
OTHER INFORMATION
Item 1. | Legal Proceedings. |
The Manager and its affiliates are subject to oversight by various state and federal
regulatory authorities, including, but not limited to, the ACC, the Arizona Department of Revenue,
the Arizona Department of Financial Institutions (Banking), the SEC and the Internal Revenue
Service (IRS).
In December 2004, and pursuant to several supplemental requests thereafter, the ACC requested
certain information pertaining to the operations of us and the Manager, and the Manager responded
to the requests made by the ACC. Between 2005 to July 2009, the ACC did not have any contact with
us or the Manager. In July 2009, the ACC requested, from the Manager, information concerning
certain affiliates of the Manager. The Manager has provided testimony and documentation in respone
to this request, however, the Manager has not been informed of the specific nature or substance of the inquiry.
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The Manager believes that the Manager and its affiliates have been, and currently are in,
material compliance with laws and regulations that govern its operations and those of the Fund, and
that the Manager and the Fund are and have been in material compliance with the Operating
Agreement. However, there can be no assurance that the ACC or others will not assert otherwise,
that the ACC will not seek to impose fines, limitations or prohibitions relating to the Managers
or its affiliates business activities, or other remedies, any
of which could harm our operations. Further, even if that is not the case, the Manager or its affiliates,
including us, may incur significant legal and other defense costs in respect of this matter.
We are party to litigation in the ordinary course of business in connection with portfolio
loans that go into default or for other reasons. While various asserted and unasserted claims
exist, the resolution of these matters cannot be predicted with certainty, and the Manager
believes, based upon currently available information, that the final outcome of such matters will
not have a material adverse effect, if any, on the Funds results of operations or financial
condition.
Following the suspension of certain of our activities, including the suspension of Member
redemptions, certain Members have requested that their redemption requests be honored due to
financial hardships or other reasons. In each instance, we have responded that we will not grant
such requests and is treating all Members uniformally. While neither the Manager nor we have been
served with any lawsuits from Members, certain Members have filed grievances with the SEC and
possibly other regulatory agencies related to the Managers administration of the Fund.
Item 1A. |
Risk Factors.
|
In addition to the other information set forth in this Form 10-Q, you should carefully
consider the factors discussed in Item 1A, Risk Factors, in our Form 10-K, as supplemented by
subsequent Quarterly Reports on Form 10-Q, which could materially affect our business, financial
condition or results of operations. The risk factors included in our Form 10-K, as supplemented,
have not materially changed other than as set forth below. The risks described in our Form 10-K,
as supplemented, and below are not the only risks we face. Additional risks and uncertainties not
currently known to us or that we currently deem to be immaterial also may materially adversely
affect our business, financial condition or operating results.
Defaults on our mortgage loans will decrease our revenue and distributions.
We are in the business of investing in mortgage investments and, as such, we risk defaults by
borrowers. Any failure of a borrower to repay loans or to pay interest on loans will reduce our
revenue and distributions to Members, if any, and potentially the value of the units and Members
interest in us as a whole. At September 30, 2009, 48 loans with principal balances totaling
$473,916 were in default, and we had commenced foreclosure proceedings on 16 of the 48 related
loans. It is anticipated that foreclosure action will commence on an additional six loans, and we
are negotiating with the borrowers and assessing the possibility of modifications of loan terms for
the remaining 26 loans in default. In addition, during the nine months ended September 30, 2009, we
took title to the underlying real estate collateral of five loans in default with a carrying value
of approximately $48,922. In our judgment, the estimated net realizable value of such properties
exceeds the carrying value of our investment in the properties at September 30, 2009.
However, economic, market, environmental and political conditions may affect our plans for
development and marketing of such properties. In addition, the implementation of such plans could
be affected by the availability of financing for development and construction activities, if such
financing is required. Accordingly, the ultimate realization of the fair values of the Funds real
estate properties are
dependent upon future economic and market conditions, the availability of financing, and the
resolution of political, environmental and other related issues, many of which are beyond the
direct control of management.
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Our business is subject to regulation by several government agencies and a disciplinary or civil
action that occurs as a result of an actual or alleged violation of any rules or regulations to
which we are subject could have a material adverse effect on our business.
The Manager and its affiliates are subject to extensive regulation and oversight by various
state and federal regulatory authorities, including, but not limited to, the ACC, the Arizona
Department of Revenue, the Arizona Department of Financial Institutions (Banking), the SEC and the
Internal Revenue Service. Many of these authorities have generally increased their scrutiny of the
entities they regulate following recent events in the homebuilding and capital markets. We and the
Manager are also subject to various federal and state securities laws regulating the issuance and
sale of securities. Should we or the Manager not adhere to these and other laws and regulations
which apply to us, we could face potential disciplinary or other civil action that could have a
material adverse effect on our business. Among other consequences, if we are found to have violated
such laws or regulations, we may be required to make a rescission offer for our units, which will
require us to return capital contributions, plus interest, to our Members, which could have a
material adverse effect on our liquidity.
In December 2004, and pursuant to several supplemental requests thereafter, the ACC requested
certain information pertaining to the operations of us and the Manager, and the Manager responded
to the requests made by the ACC. Between 2005 to July 2009, the ACC did not have any contact with
us or the Manager. In July 2009, the ACC requested, from the Manager, information concerning
certain affiliates of the Manager. The Manager has provided testimony and documentation in respone
to this request, however, the Manager has not been informed of the specific nature or substance of the inquiry.
In addition, following the suspension of certain of our activities, including the suspension
of Member redemptions, certain Members have requested that their redemption requests be honored due
to financial hardships or other reasons. In each instance, we have responded that we will not
grant such requests and will treat all Members uniformally. While neither we nor the Manager have
been served with any lawsuits from Members, certain Members have filed grievances with the SEC and
possibly other regulatory agencies related to the Managers administration of us, and we are unable
to predict the outcome of any such grievances.
We may refinance existing loans at rates lower than those currently recognized by the Fund.
Substantially all of our variable rate loans contain provisions for interest rate floors,
which has allowed to the Fund to benefit from interest rate terms well in excess of the current
Prime rate. However, given current market conditions and the likely necessity to extend loans to 24
months or longer, management anticipates that certain loans will be negotiated at terms that are
more reflective of current market rates, which is expected to result in lower mortgage income for
the Fund.
IMH, on behalf of the Fund, has taken various actions to manage the Fund through the recession, but
there can be no assurance that these or future actions will be successful, in part or at all, and a
failure of any one or more of these actions could have a material adverse effect on the Fund.
As described elsewhere in this report and other public filings, the Manager, on behalf of us,
has taken various actions to seek to manage us through the recession, including, among other
things, marketing whole loans for sale, seeking to participate interests in other loans, and
disposing of real estate owned that was acquired upon foreclosure. The Manager is also
continuously evaluating other options for
us. Many of the challenges being faced by us are beyond the control of the Manager, including
a lack of adequate lender credit availability in the marketplace, the general illiquidity in
financial markets here and abroad, and the decline, significant at times, in real estate prices and
the prices of real-estate related assets. There can be no assurance that these or other actions
will be successful, in part or at all, and a failure of any one or more of these actions could have
a material adverse effect on us.
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Our Manager may, but is not required to, pay for the Funds expenses and the Fund could experience
a material adverse effect if it is required to pay such expenses.
The Operating Agreement provides that the Manager may, but is not required to, pay
for overhead or operating expenses of the Fund, including costs associated with loan origination,
Member development and operations, and other general overhead costs. The Manager has historically
paid such expenses but, as a result of its lack of liquidity and loss of revenue-generating
activities, the responsibility to pay for several costs has been transferred to us. These expenses
include various professional fees for consulting services, valuation services, legal and accounting
services relative to public reporting related expenses. These costs are material and are expected
to adversely affect our cash flow and liquidity, which could reduce the Members return on their
investment in us. Additionally, we are required to pay direct expenses or costs, which presently
include management fees paid to the Manager; expenses or costs related to defaulted loans,
foreclosure activities, and property acquired through foreclosure; and interest expense paid on
loans that we have sold or participated. As defaults and foreclosures have increased, the costs
related to these activities have also significantly increased and are expected to continue to
increase.
Any borrowing by us will increase risk and may reduce the amount we have available to distribute to
Members.
We anticipate that we may borrow funds to generate additional liquidity for the Fund
to enable us to pay operating expenses, costs relative to the ownership of real estate owned, and
obligations under our loans to borrowers. During the nine months ended September 30, 2009, we borrowed
funds from the Manager in the amount of $6,000, secured by certain of our portfolio loans, for such
purposes and it is likely that additional borrowings may be necessary. Any such borrowings will
require us to carefully manage our cost of funds and no assurance can be given that we will be
successful in this effort. If we are unable to repay any such indebtedness or make interest
payments on any loans, our lenders would likely declare us in default and could require that we
repay all amounts owing under our loan facilities. Even if we are repaying the indebtedness in a
timely manner, interest payments owing on the borrowed funds may reduce our income and the
distributions our Members receive.
We may borrow funds from several sources, and the terms of any indebtedness we incur
may vary. Some lenders may require as a condition of making a loan to us that the lender will
receive a priority on mortgage repayments received by us. As a result, if we do not collect 100% of
the principal on our loans, the first dollars we do collect may go to our lenders and we may
therefore incur a loss that will result in a decrease of the amount available for distribution to
our Members.
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Item 2. |
Unregistered Sales of Equity Securities and Use of
Proceeds. |
Prior to suspending the acceptance of additional capital, we offered and sold our units in
reliance upon an exemption from the registration requirements of the Securities Act provided by
Rule 506 of Regulation D under the Securities Act, which is a safe harbor under Section 4(2) of the
Securities Act relating to sales not involving any public offering. We offered the units through
the Manager and its executive officers, none of whom receive any direct compensation or
remuneration for such sales, and through a network of licensed broker-dealers and their respective
registered representatives. The securities were offered and sold only to accredited investors
within the meaning of Rule 501 of
Regulation D under the Securities Act and without the use of any advertising or general
solicitation. Any sales commissions or other forms of remuneration paid to broker-dealers or their
respective registered representatives in connection with the sale of units are paid by the Manager.
Generally, broker-dealer selling agreements provide for a 2% selling commission and a 25 basis
point trailing commission, which is an annual commission paid on the balance of units sold by a
broker-dealer or its registered representatives that are outstanding at each anniversary of the
initial issuance of the units. All proceeds from the sale of units were used to fund the making of
short-term commercial mortgage loans and for working capital. As discussed elsewhere in this Form
10-Q, we stopped accepting Members capital and permitting Members to reinvest distributions
effective October 1, 2008. Accordingly, there were no sales of Member units during the quarter
ended September 30, 2009. For information regarding sales of units that were made prior to October
1, 2008, see the reports we have previously filed with the SEC.
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Item 6. |
Exhibits |
Exhibit No. |
Description | |||
3.1 | IMH Secured Loan Fund, LLC Certificate of Formation
(incorporated by reference to Exhibit 3.1 of the Annual Report
on Form 10-K, File No. 000-52611, filed on March 31, 2008) |
|||
4.1 | IMH Secured Loan Fund, LLC Restated Limited Liability Company
Operating Agreement (incorporated by reference to Exhibit 4.1
of the Registration Statement on Form 10, File No. 000-52611,
filed by IMH Secured Loan Fund, LLC on April 30, 2007) |
|||
4.2 | Form Subscription Agreement (incorporated by reference to
Exhibit 4.2 of the Registration Statement on Form 10, File No.
000-52611, filed by IMH Secured Loan Fund, LLC on April 30,
2007) |
|||
31.1 | * | Certification of Chief Executive Officer of Investors Mortgage
Holdings, Inc., manager of IMH Secured Loan Fund, LLC pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002 |
||
31.2 | * | Certification of Chief Financial Officer of Investors Mortgage
Holdings, Inc., manager of IMH Secured Loan Fund, LLC pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002 |
||
32.1 | * | Certification of Chief Executive Officer and the Chief
Financial Officer of Investors Mortgage Holdings, Inc.,
manager of IMH Secured Loan Fund, LLC pursuant to Section 906
of the Sarbanes-Oxley Act of 2002 |
* | Filed herewith. |
|
| This certification is being furnished solely to accompany this report pursuant to 18 U.S.C.
Section 1350, and is not being filed for purposes of Section 18 of the Exchange Act, and is
not to be incorporated by reference into any filings of the Fund, whether made before or after
the date hereof, regardless of any general incorporation language in such filing. |
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SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the registrant has
caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Date: November 18, 2009 | IMH SECURED LOAN FUND, LLC |
|||
By: | Investors Mortgage Holdings, Inc. | |||
Its: | Manager | |||
By: | /s/ Steven Darak | |||
Steven Darak | ||||
Chief Financial Officer (Principal Financial and Accounting Officer and Duly Authorized Officer) |
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INDEX TO EXHIBITS
Exhibit | ||||
No. | Description | |||
3.1 | IMH Secured Loan Fund, LLC Certificate of Formation
(incorporated by reference to Exhibit 3.1 of the Annual Report
on Form 10-K, File No. 000-52611, filed on March 31, 2008) |
|||
4.1 | IMH Secured Loan Fund, LLC Restated Limited Liability Company
Operating Agreement (incorporated by reference to Exhibit 4.1
of the Registration Statement on Form 10, File No. 000-52611,
filed by IMH Secured Loan Fund, LLC on April 30, 2007) |
|||
4.2 | Form Subscription Agreement (incorporated by reference to
Exhibit 4.2 of the Registration Statement on Form 10, File No.
000-52611, filed by IMH Secured Loan Fund, LLC on April 30,
2007) |
|||
31.1 | * | Certification of Chief Executive Officer of Investors Mortgage
Holdings, Inc., manager of IMH Secured Loan Fund, LLC pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002 |
||
31.2 | * | Certification of Chief Financial Officer of Investors Mortgage
Holdings, Inc., manager of IMH Secured Loan Fund, LLC pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002 |
||
32.1 | * | Certification of Chief Executive Officer and the Chief
Financial Officer of Investors Mortgage Holdings, Inc.,
manager of IMH Secured Loan Fund, LLC pursuant to Section 906
of the Sarbanes-Oxley Act of 2002 |
* | Filed herewith. |
|
| This certification is being furnished solely to accompany this report pursuant to 18 U.S.C.
Section 1350, and is not being filed for purposes of Section 18 of the Exchange Act, and is
not to be incorporated by reference into any filings of the Fund, whether made before or after
the date hereof, regardless of any general incorporation language in such filing. |
70