Attached files
file | filename |
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EX-32 - EXHIBIT 32 - CAPITAL CROSSING PREFERRED CORP | ex_32.htm |
EX-31.2 - EXHIBIT 31.2 - CAPITAL CROSSING PREFERRED CORP | ex31_2.htm |
EX-31.1 - EXHIBIT 31.1 - CAPITAL CROSSING PREFERRED CORP | ex31_1.htm |
EXCEL - IDEA: XBRL DOCUMENT - CAPITAL CROSSING PREFERRED CORP | Financial_Report.xls |
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
FORM
10-Q
x QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES
EXCHANGE ACT OF 1934
For
the Quarterly Period Ended June 30, 2011
Commission
File Number 000-25193
EOS
PREFERRED CORPORATION
(Exact
name of registrant as specified in its charter)
Massachusetts
|
(State
or other jurisdiction of incorporation or
organization)
|
04-3439366
|
(I.R.S.
Employer Identification Number)
|
1271 Avenue of the Americas,
46th
Floor, New York, New
York
|
(Address
of principal executive offices)
|
10020
|
(Zip
Code)
|
(212) 377-1503
|
(Registrant’s
telephone number, including area code)
|
Indicate
by check mark whether the registrant: (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12
months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes
x 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 (Section
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. (Check one):
Large
accelerated filer o
|
Accelerated
filer o
|
Non-accelerated
filer x
|
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 Rule 12b-2 of the Exchange Act).
Yes
o No
x
The
number of shares outstanding of the registrant’s sole
class of common stock was 100 shares, $.01 par value per
share, as of August 12, 2011. No common stock was held
by non-affiliates of the issuer.
EOS
Preferred Corporation
Table
of Contents
Page
|
||||
PART I – Financial Information | ||||
1
|
||||
2
|
||||
3
|
||||
4
|
||||
5
|
||||
16 | ||||
16 | ||||
19 | ||||
19 | ||||
21 | ||||
23 | ||||
23 | ||||
24 | ||||
24 | ||||
24 | ||||
24 | ||||
25 | ||||
25 | ||||
26 | ||||
27 | ||||
27 | ||||
27 | ||||
27 | ||||
27 | ||||
27 | ||||
27 | ||||
EOS
Preferred Corporation
June
30,
|
December
31,
|
|||||||
2011
|
2010
|
|||||||
(Unaudited) | (Audited) | |||||||
(In
Thousands)
|
||||||||
ASSETS
|
||||||||
Cash
account with parent
|
$ | — | $ | 184 | ||||
Interest-bearing
deposits with parent
|
65,248 | 62,385 | ||||||
Total
cash and cash equivalents
|
65,248 | 62,569 | ||||||
Loans
at fair value
|
14,547 | 16,505 | ||||||
Loans
at lower of accreted cost or market value
|
7,090 | 7,935 | ||||||
Loans
|
21,637 | 24,440 | ||||||
Real
estate acquired through foreclosure
|
100 | — | ||||||
Accrued
interest receivable
|
161 | 213 | ||||||
Other
assets
|
17 | — | ||||||
Total
assets
|
$ | 87,163 | $ | 87,222 | ||||
LIABILITIES
AND STOCKHOLDERS’ EQUITY
|
||||||||
Accrued
expenses and other liabilities
|
$ | 122 | $ | 957 | ||||
Accounts
payable to parent
|
84 | 989 | ||||||
Total
liabilities
|
206 | 1,946 | ||||||
Stockholders’
equity:
|
||||||||
Preferred
stock, Series B, 8% cumulative,
non-convertible; $.01 par value; $1,000
liquidation value per share plus accrued dividends;
1,000 shares authorized, 937 shares issued and
outstanding
|
— | — | ||||||
Preferred
stock, Series D, 8.50% non-cumulative, exchangeable;
$.01 par value; $25 liquidation value per share;
1,725,000 shares authorized, 1,500,000 shares issued
and outstanding
|
15 | 15 | ||||||
Common
stock, $.01 par value, 100 shares authorized, issued
and outstanding
|
— | — | ||||||
Additional
paid-in capital
|
95,320 | 95,320 | ||||||
Accumulated
deficit
|
(8,378 | ) | (10,059 | ) | ||||
Total
stockholders’ equity
|
86,957 | 85,276 | ||||||
Total
liabilities and stockholders’ equity
|
$ | 87,163 | $ | 87,222 |
See
accompanying notes to condensed financial statements.
1
EOS
Preferred Corporation
(Unaudited)
Three
Months Ended
June 30,
|
Six
Months Ended
June 30,
|
|||||||||||||||
|
2011
|
2010
|
2011
|
2010
|
||||||||||||
(In
Thousands)
|
(In
Thousands)
|
|||||||||||||||
Interest
income:
|
|
|
|
|
||||||||||||
Interest
and fees on loans
|
$ | 280 | $ | 483 | $ | 641 | $ | 1,119 | ||||||||
Interest
on interest-bearing deposits
|
168 | 41 | 214 | 79 | ||||||||||||
Total
interest income
|
448 | 524 | 855 | 1,198 | ||||||||||||
Realized
and unrealized gains on loans
|
71 | 756 | 1,382 | 2,521 | ||||||||||||
Revenue
|
519 | 1,280 | 2,237 | 3,719 | ||||||||||||
Operating
expenses:
|
||||||||||||||||
Loan
servicing and advisory services
|
106 | 116 | 215 | 244 | ||||||||||||
Other
general and administrative
|
183 | 133 | 341 | 278 | ||||||||||||
Total
operating expenses
|
289 | 249 | 556 | 522 | ||||||||||||
Net
income
|
230 | 1,031 | 1,681 | 3,197 | ||||||||||||
Preferred
stock dividends declared
|
— | — | — | — | ||||||||||||
Net
income available to common stockholder
|
$ | 230 | $ | 1,031 | $ | 1,681 | $ | 3,197 |
See
accompanying notes to condensed financial statements.
2
EOS
Preferred Corporation
(Unaudited)
Six
Months ended June 30, 2011
|
|||||||||||||||||||||||||||||
Preferred
Stock
Series
B
|
Preferred
Stock
Series
D
|
Common
Stock
|
Additional
Paid-in |
Retained
Earnings
/ (Accumulated
|
Total
Stockholders’
|
||||||||||||||||||||||||
Shares
|
Amount
|
Shares
|
Amount
|
Shares
|
Amount
|
Capital
|
Deficit)
|
Equity
|
|||||||||||||||||||||
(In
Thousands except share data)
|
|||||||||||||||||||||||||||||
Balance
at December 31, 2010
|
1 | $ | — | 1,500 | $ | 15 | — | $ | — | $ | 95,320 | $ | (10,059 | ) | $ | 85,276 | |||||||||||||
Net
income
|
— | — | — | — | — | — | — | 1,681 | 1,681 | ||||||||||||||||||||
Cumulative
dividends declared on preferred stock, Series
B
|
— | — | — | — | — | — | — | — | — | ||||||||||||||||||||
Dividends
declared on preferred stock, Series D
|
— | — | — | — | — | — | — | — | — | ||||||||||||||||||||
Balance
at June 30, 2011
|
1 | $ | — | 1,500 | $ | 15 | — | $ | — | $ | 95,320 | $ | (8,378 | ) | $ | 86,957 |
Six
Months ended June 30, 2010
|
|||||||||||||||||||||||||||||
Preferred
Stock
Series
B
|
Preferred
Stock
Series
D
|
Common
Stock
|
Additional
Paid-in |
Retained
Earnings
/ (Accumulated
|
Total
Stockholders’
|
||||||||||||||||||||||||
Shares
|
Amount
|
Shares
|
Amount
|
Deficit)
|
Amount
|
Capital
|
Deficit)
|
Equity
|
|||||||||||||||||||||
(In
Thousands except share data)
|
|||||||||||||||||||||||||||||
Balance
at December 31, 2009
|
1 | $ | — | 1,500 | $ | 15 | — | $ | — | $ | 95,320 | $ | (13,640 | ) | $ | 81,695 | |||||||||||||
Net
income
|
— | — | — | — | — | — | — | 3,197 | 3,197 | ||||||||||||||||||||
Cumulative
dividends declared on preferred stock, Series
B
|
— | — | — | — | — | — | — | — | — | ||||||||||||||||||||
Dividends
declared on preferred stock, Series D
|
— | — | — | — | — | — | — | — | — | ||||||||||||||||||||
Balance
at June 30, 2010
|
1 | $ | — | 1,500 | $ | 15 | — | $ | — | $ | 95,320 | $ | (10,443 | ) | $ | 84,892 |
See
accompanying notes to condensed financial statements.
3
EOS
Preferred Corporation
(Unaudited)
Six
Months Ended
|
||||||||
June
30,
|
||||||||
2011
|
2010
|
|||||||
(In
Thousands)
|
||||||||
Cash
flows from operating activities:
|
||||||||
Net
income
|
$ | 1,681 | $ | 3,197 | ||||
Adjustments
to reconcile net income to net cash provided by
operating activities:
|
||||||||
Realized
and unrealized gains on loans
|
(1,382 | ) | (2,521 | ) | ||||
Increase
in accrued interest and other receivables
|
35 | 286 | ||||||
Decrease
in accrued expenses and other liabilities and
accounts payable to parent
|
(40 | ) | (197 | ) | ||||
Loan
repayments from loans at fair value
|
2,843 | 4,289 | ||||||
Net
cash provided by operating activities
|
3,137 | 5,054 | ||||||
Cash
flows from investing activities:
|
||||||||
Loan
repayments from loans at lower of accreted cost or
market value
|
1,242 | 753 | ||||||
Cash
provided by investing activities
|
1,242 | 753 | ||||||
Cash
flows from financing activities:
|
||||||||
Payment
of common stock dividends (declared December
2010)
|
(884 | ) | — | |||||
Payment
of preferred stock dividends (declared December
2010)
|
(816 | ) | — | |||||
Cash
used in financing activities
|
(1,700 | ) | — | |||||
Net
change in cash and cash equivalents
|
2,679 | 5,807 | ||||||
Cash
and cash equivalents at beginning of period
|
62,569 | 51,823 | ||||||
Cash
and cash equivalents at end of period
|
$ | 65,248 | $ | 57,630 | ||||
Supplemental
cash flow information:
|
||||||||
Other
significant noncash transaction, value of
consideration received
|
$ | 100 | $ | — |
See
accompanying notes to condensed financial statements.
4
EOS
Preferred Corporation
Three
and Six Months Ended June 30, 2011 and 2010
NOTE
1. ORGANIZATION
EOS
Preferred Corporation (referred to hereafter as “the
Company”, “EOS”, “we”,
“us” or “our”) is a Massachusetts
corporation organized on March 20, 1998, to acquire and
hold mortgage assets. Our principal business objective is
to hold mortgage assets that will generate net income for
distribution to stockholders. Aurora Bank, FSB
(“Aurora Bank”), a wholly-owned subsidiary of
Lehman Brothers Bancorp (“LB Bancorp”) and an
indirect wholly-owned subsidiary of Lehman Brothers
Holdings Inc. (“LBHI”), owns all of our common
stock. Prior to the merger with Aurora Bank, we were a
subsidiary of Capital Crossing Bank (“Capital
Crossing”), a federally insured Massachusetts trust
company, our corporate name was Capital Crossing Preferred
Corporation, and Capital Crossing owned all of our common
stock. Effective June 21, 2010, we changed our corporate
name to EOS Preferred Corporation.
Effective
July 21, 2011, the OTS was dissolved in accordance with the
Dodd-Frank Wall Street Reform and Consumer Protection Act.
All duties previously performed by the OTS were transferred
to the Office of the Comptroller of the Currency
(“OCC”) and the primary regulator of Aurora
Bank became the OCC.
We
operate in a manner intended to allow us to be taxed as a
real estate investment trust, or a “REIT,”
under the Internal Revenue Code of 1986, as amended (the
“IRC”). As a REIT, EOS will not be required to
pay federal or state income tax if we distribute our
earnings to our shareholders and continue to meet a number
of other requirements.
On
March 31, 1998, Capital Crossing Bank capitalized the
Company by transferring mortgage loans valued at $140.7
million in exchange for 1,000 shares of 8% Cumulative
Non-Convertible Preferred Stock, Series B, valued at $1.0
million and 100 shares of our common stock valued at $139.7
million. The carrying value of these loans approximated
their fair values at the date of contribution.
On
May 11, 2004, we closed our public offering of 1,500,000
shares of 8.50% Non-Cumulative Exchangeable Preferred
Stock, Series D. Our net proceeds from the sale of Series D
preferred stock was $35.3 million. As of July 15, 2009, the
Series D became redeemable at our option with the prior
consent of the OCC and/or the Federal Deposit Insurance
Corporation (the “FDIC”).
On
February 14, 2007, Capital Crossing was acquired by Aurora
Bank.
The
Series B preferred stock and Series D preferred stock
remain outstanding and remain subject to their existing
terms and conditions, including the call feature with
respect to the Series D preferred stock. The OCC may direct
in writing the automatic exchange of the Series D preferred
stock for preferred shares of Aurora Bank at a ratio of one
Series D preferred share for one hundredth of one preferred
share of Aurora Bank if Aurora Bank becomes
undercapitalized under prompt corrective action
regulations, if Aurora Bank is placed into reorganization,
conservatorship or receivership, or if the OCC, in its sole
discretion, anticipates Aurora Bank will become
undercapitalized in the near term.
Business
Our
principal business objective is to hold mortgage assets that
will generate net income for distribution to stockholders. We
hold one-to-four family residential loans and commercial real
estate loans in various cities in the United States. All of
the mortgage assets in our loan portfolio at June 30, 2011
were acquired from Capital Crossing Bank or Aurora Bank and
it is anticipated that substantially all additional mortgage
assets, if any are acquired in the future, will be acquired
from Aurora Bank. Aurora Bank administers our day-to-day
activities in its roles as servicer under the Master Service
Agreement (“MSA”) entered into between Aurora
Bank and EOS and as advisor under the Advisory Agreement
(“AA”) entered into between Aurora Bank and
EOS.
5
Basis
of presentation
These
condensed financial statements are unaudited and have been
prepared in accordance with the rules and regulations of the
Securities and Exchange Commission (“SEC”)
relating to interim financial statements and in conformity
with accounting principles generally accepted in the United
States of America (“GAAP”). Certain information
and note disclosures normally included in annual financial
statements prepared in accordance with GAAP have been
condensed or omitted pursuant to these rules and regulations,
although we believe that the disclosures made are adequate to
make the information not misleading. It is the opinion of
management that these condensed financial statements reflect
all adjustments that are normal and recurring and that are
necessary for a fair presentation of the results for the
interim periods presented. These condensed financial
statements included in this Form 10-Q should be read in
conjunction with the financial statements and notes thereto
included in our Annual Report on Form 10-K as of, and for the
year ended December 31, 2010. Interim results are not
necessarily indicative of results to be expected for the
entire year.
NOTE
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use
of estimates
In
preparing financial statements in conformity with GAAP,
management is required to make estimates and assumptions that
affect the reported amounts of assets and liabilities as of
the date of the balance sheet and reported amounts of
revenues and expenses during the reporting period. Material
estimates that are particularly susceptible to significant
change in the near term relate to the determination of the
fair value of loans. For a more detailed discussion of the
basis for the estimates of the fair value of our loan
portfolio, please see Note 5 below.
Cash
and Cash Equivalents
Cash
and cash equivalents include cash and interest-bearing
deposits held at Aurora Bank with original maturities of
ninety days or less. The cash is held in a money market
account that bears interest at rates determined by Aurora
Bank which generally follow federal funds rates. The money
market account has a limitation on the number of monthly
withdrawals, but there is no limit on the amount of the
withdrawals either individually or in the aggregate.
Loans
On
February 5, 2009, EOS and Aurora Bank entered into an Asset
Exchange Agreement (the “February Asset
Exchange”) pursuant to which we agreed to transfer
the entire loan portfolio secured primarily by commercial
real estate and multi-family residential real estate to
Aurora Bank in exchange for loans secured primarily by
residential real estate. As a result, during the first
quarter of 2009 we reclassified all of our loan assets as
held for sale, recorded a fair value adjustment, and
reported these loans at the lower of their accreted cost or
market value. The February Asset Exchange was terminated
prior to its consummation.
Effective
November 1, 2009, EOS and Aurora Bank entered into and
consummated an Asset Exchange Agreement (the “November
Asset Exchange”) pursuant to which we agreed to an
exchange of loans with Aurora Bank. We continue to report the
portion of the loan assets that were retained after the
November Asset Exchange at the lower of their accreted cost
or market value. For these retained loans, the carrying value
of the loans will be recognized only up to the cost on the
date they were classified as held for sale. We have elected
the fair value option for the loans that were received from
the November Asset Exchange as we believe it provides the
best measurement of asset value for each reporting date. For
these acquired loans, the carrying value of the loans will be
equivalent to fair value which may reflect an unrealized gain
or loss relative to the cost of the loans.
The
fair value of our loan portfolio is estimated based upon
information, to the extent available, about then current sale
prices, bids, credit quality, liquidity, and other available
information for loans with similar characteristics as our
loan portfolio. The geographical location and geographical
concentration of the loans in our portfolio is considered in
the analysis. The valuation of the loan portfolio involves
some level of management estimation and judgment, the degree
of which is dependent on the terms of the loans and the
availability of market prices and inputs.
Loans
are generally placed on non-accrual status and the accrual
of interest is generally discontinued when the
collectability of principal and interest is not probable or
estimable which generally occurs when the loan is ninety
days or more past due as to either principal or interest.
Unpaid interest income previously accrued on such loans is
reversed against current period interest income. Interest
payments received on non-accrual loans are recorded as
interest income. A loan is returned to accrual status when
it is brought current. Loans are charged off when they are
determined to be uncollectible.
6
Real
estate acquired through foreclosure
Real
estate acquired as a result of foreclosure or by deed in lieu
of foreclosure is classified separately until sold. Such
property is initially recorded at fair value less estimated
costs to sell and then carried at the lower of cost or market
value less estimated costs to sell. The market value of our
repossessed residential and commercial assets was estimated
based upon real estate appraisals or broker price opinions
(BPO). Once a property has gone through foreclosure, an
appraisal or BPO is ordered and periodically updated. During
the quarter ended June 30, 2011, one residential loan was
foreclosed.
Revenue
Recognition
We
recognize interest income on loans as revenue as it is
earned. This revenue is included in Interest and fees on
loans on the Statements of Operations. Any discount
relating to the purchase of the loans by us is recognized
when the related loan is paid in full or sold.
Taxes
We
have elected, for federal income tax purposes, to be
treated as a REIT and intend to comply with the provisions
of the IRC. Accordingly, we will not be subject to
corporate income taxes to the extent we distribute at least
90% of our REIT taxable income to stockholders and as long
as certain assets, income, distribution, and stock
ownership tests are met in accordance with the IRC. As
such, no provision for income taxes is included in the
accompanying financial statements.
As
of June 30, 2011, management evaluated the quantitative and
qualitative requirements for REIT status and believes that
we qualify as a REIT for federal and state income tax
purposes. We have not recorded any uncertain tax positions,
we do not have any unrecognized tax positions as of June
30, 2011, and we do not anticipate any material change with
respect to tax positions during the next 12 months. We are
subject to examination by the respective taxing authorities
for the tax years 2007 to 2010. Our policy is to include
interest and penalties related to income taxes in Other
general and administrative expense if applicable and there
was no such expense for 2011 or 2010.
Significant
Concentration of Credit Risk
We
had cash and cash equivalents of $65.2 million as of June
30, 2011. These funds were held in an interest-bearing
account with Aurora Bank. FDIC coverage on these accounts
as of June 30, 2011 was limited to $250,000. Cash in excess
of FDIC coverage limitations is subject to credit
risk.
Concentration
of credit risk generally arises with respect to our loan
portfolio when a number of borrowers engage in similar
business activities, or activities in the same geographical
region. Concentration of credit risk indicates the relative
sensitivity of our performance to both positive and negative
developments affecting a particular industry or geographic
region. Our balance sheet exposure to geographic
concentrations directly affects the credit risk of the loans
within our loan portfolio.
At
June 30, 2011, 39.3% of our net real estate loan portfolio
consisted of loans collateralized by properties located in
California. Consequently, the portfolio may experience a
higher default rate in the event of adverse economic,
political or business developments or natural hazards in
California that may affect the ability of property owners to
make payments of principal and interest on the underlying
mortgages. The housing and real estate sectors in California
have been particularly impacted by the recession with higher
overall foreclosure rates than the national average. If
California experiences further adverse economic, political or
business conditions, or natural hazards, we will likely
experience higher rates of loss and delinquency on our
mortgage loans than if our loans were more geographically
diverse.
7
Subsequent
Events
We
assessed events that occurred subsequent to June 30, 2011 for
potential disclosure and recognition on the financial
statements. Other than those listed below, no additional
events have occurred that would require disclosure in or
adjustment to our financial statements.
●
|
On
July 12, 2011, the OTS provided a non-objection
determination for the declaration of preferred stock
dividends. Refer to Note 3 for more
information.
|
|
●
|
On
July 19, 2011, we executed an Asset Sale Agreement
with Aurora Bank to purchase certain mortgage backed
securities from Aurora Bank. In accordance with the
terms of this agreement, we purchased $47.6 million
in mortgage backed securities at current fair value.
We believe the securities purchased meet REIT
eligibility requirements under the IRC. These
investments will be carried at fair value and
classified as available for sale.
|
Recent
Accounting Pronouncements
In
January 2011, the FASB issued a temporary deferral of the
effective date of disclosures about troubled debt
restructurings. This delays the effective date until our
interim period ending June 30, 2011. As our loan portfolio is
either recorded at fair value or the lower of accreted cost
or market value, this new guidance had no impact on our
results of operations or financial position.
In
April 2011, the FASB issued a standards update on troubled
debt restructurings. The standards update clarified guidance
on a creditor’s evaluation of whether (1) it has
granted a concession and (2) a debtor is experiencing
financial difficulties. This update is effective for the
first interim or annual period beginning on or after June 15,
2011, and should be applied retrospectively to the beginning
of the annual period of adoption. We have evaluated the
impact of this update on our financial statements and as our
loan portfolio is either recorded at fair value or the lower
of accreted cost or market value, this new guidance had no
impact on our results of operations or financial
position.
In May 2011, the
FASB issued a standards update to achieve common fair value
measurement and disclosure requirements between GAAP and
International Financial Reporting Standards
(“IFRS”). The standards update modifies the
wording used to describe many of the requirements in GAAP for
measuring fair value and for disclosing information about
fair value measurements. It also clarifies the existing fair
value measurement requirements. The standards updated expands
disclosures about fair value measurements, including
additional disclosures regarding the valuation process for
fair value measurements categorized as Level 3 of the fair
value hierarchy, the use of a nonfinancial asset in a way
that differs from the asset’s best use when that asset
is measured at fair value, and the categorization by level of
the fair value hierarchy for items that are not measured at
fair value in the balance sheet but for which the fair value
is required to be disclosed. This update to the standards is
effective for our interim period ending March 31, 2012. We
are evaluating the impact of this update on our financial
statement disclosures
8
NOTE
3. BANKRUPTCY OF LBHI AND REGULATORY ACTIONS INVOLVING AURORA
BANK
Bankruptcy
of Lehman Brothers Holding Inc.
On
September 15, 2008, LBHI, the indirect parent company of
Aurora Bank, filed a voluntary petition under Chapter 11 of
the U.S. Bankruptcy Code. The bankruptcy filing has led to
increased regulatory constraints being placed on Aurora Bank
by its bank regulatory authorities, primarily the OCC. These
constraints apply to Aurora Bank’s subsidiaries,
including EOS.
Pursuant
to a Settlement Agreement (“Settlement
Agreement”) approved by the bankruptcy court and
executed on November 30, 2010 (“Execution Date”),
Aurora Bank, LBHI, LB Bancorp, and the OTS entered into a
Capital Maintenance Agreement (“CMA”) in which,
among other things, LBHI agreed that it will seek to sell
Aurora Bank within eighteen (18) months from the Execution
Date. If after a period of fifteen (15) months following the
Execution Date, the OCC concludes a sale of Aurora Bank will
not be consummated by the end of the eighteen (18) month
period; Aurora Bank will prepare and submit to the OTS a plan
for dissolution. The bankruptcy court will have the final
review and approval of any proposed agreement for the sale of
Aurora Bank.
There
can be no assurance that the sale of Aurora Bank will be
consummated within the defined time frame. There can be no
assurance that a potential buyer of Aurora Bank will come
forward and tender an offer acceptable to the bankruptcy
court, that the bankruptcy court will approve such offer, or
that a potential buyer will meet all other conditions
necessary to consummate the purchase.
Further,
there is uncertainty with regards to any and all aspects of
a potential sale. The business strategies of the new owner
may not include continued operation of EOS or other
business lines of Aurora Bank.
Both
the bankruptcy filing of LBHI and the increased regulatory
constraints placed on Aurora Bank have negatively impacted
the ability of EOS to conduct business according to our
business objectives. Following the execution of the
Settlement Agreement, the OTS modified, but did not remove
all of the regulatory constraints on Aurora Bank. The
enforcement actions previously issued by the OTS continue to
be in effect following the transfer of regulatory duties and
oversight compliance to the OCC.
Regulatory
Actions Involving Aurora Bank
On
January 26, 2009, the OTS entered a cease and desist order
against Aurora Bank (the “Original Order”). The
Original Order required Aurora Bank to ensure that each of
its subsidiaries, including EOS, was in compliance with the
Original Order, including the operating restrictions
contained therein. In addition, on February 4, 2009, the OTS
issued a prompt corrective action directive to Aurora Bank
(the “PCA”). The PCA required Aurora Bank to,
among other things, raise its capital ratios such that it
would be deemed to be “adequately capitalized”
and placed additional constraints on Aurora Bank and its
subsidiaries, including EOS.
Following
execution of the Settlement Agreement, on November 30, 2010,
Aurora Bank entered into a Stipulation and Consent to
Issuance of Amended Order to Cease and Desist with the OTS
whereby Aurora Bank consented to the issuance of an Amended
Order to Cease and Desist (the “Amended Order”)
issued by the OTS, which amended the Original Order (together
the Original Order and the Amended Order are the
“Order”). The Amended Order amended certain
requirements for Aurora Bank contained in the Original Order.
The provisions in the Original Order that require Aurora Bank
to ensure that each of its subsidiaries, including EOS,
comply with the Original Order were not amended. These
operating restrictions, among other things, restrict
transactions with affiliates, capital distributions to
shareholders (including redemptions), contracts outside the
ordinary course of business, and changes in senior executive
officers, board members or their employment arrangements
without prior written notice to the OCC.
Under
the Order, and pursuant to the dissolution of the OTS, EOS
must continue to seek and receive approval or non-objection
from the OCC for the declaration and payment of dividends to
our preferred and common shareholders. There is no assurance
that the OCC will approve any future request for the
declaration or payment of dividends. As an operating
subsidiary of Aurora Bank, EOS remains subject to all of the
terms and conditions of the Order which apply to such
operating subsidiaries. The Order was still effective as of
the date of issuance of this interim report.
On
November 30, 2010, and effective on the same date, the OTS
issued an order terminating the PCA.
More
detailed information can be found in the Original Order, the
Amended Order, the PCA, and the termination of the PCA
themselves, copies of which are available on the OTS’
website (www.ots.treas.gov).
Please note that despite the change in regulatory agencies
from the OTS to the OCC, information on these enforcement
actions continues to be accessed through the OTS’
website.
9
Under
the CMA, LBHI agreed for the duration of LBHI’s
ownership of Aurora Bank to maintain Aurora Bank’s tier
1 and risk based capital ratios at levels greater than the
thresholds required to achieve the
“well-capitalized” designation under OTS
regulations.
As
of June 30, 2011, as set forth in a public filing with the
OTS, Aurora Bank’s capital ratios were above the
thresholds required under the CMA.
Dividend
Payments
On
June 26, 2009, the OTS notified Aurora Bank that, as a result
of the Order and the PCA, the approval or non-objection of
the OTS would be required prior to declaration and payment of
dividends by EOS. The OTS required Aurora Bank to submit a
formal request for non-objection determination to permit the
payment of dividends by EOS. As a result of the notice from
the OTS, our Board of Directors (the “Board of
Directors”) did not declare or pay the Series B and
Series D preferred stock dividends that would have been
payable for the second, third, and fourth quarters of 2009
and the first and second quarters of 2010. The Board of
Directors also did not declare or pay dividends on the common
stock that would have been payable for 2009.
On
September 9, 2010, the OTS provided a non-objection
determination for the declaration of dividends by September
14, 2010 and the payment of these dividends between December
15, 2010 and December 31, 2010 in an amount sufficient to
maintain qualification as a REIT for the 2009 tax year. The
Board of Directors of EOS declared such dividends on
September 13, 2010, for the quarter ended September 30, 2010,
consistent with the OTS non-objection determination. The
dividends were payable to shareholders of record as of
October 29, 2010 and include cumulative dividends on the
Series B preferred stock of $120.00 per share, non-cumulative
dividends on the Series D preferred stock of $0.53125 per
share and dividends on our common stock of $1,467,000.
An
additional formal request to declare dividends was submitted
to the OTS and on December 30, 2010, the OTS provided a
non-objection determination for the declaration of dividends
in an amount sufficient to maintain qualification as a REIT
and avoid excise tax for the 2010 tax year. The Board of
Directors of EOS declared such dividends on December 31,
2010, for the quarter ended December 31, 2010, consistent
with the OTS non-objection determination. The dividends were
payable to shareholders of record as of December 31, 2010 and
include dividends on the Series B preferred stock of $20.00
per share, non-cumulative dividends on the Series D preferred
stock of $0.53125 per share and dividends on our common stock
in the amount of $884,000. The dividends declared on December
31, 2010 were paid in the first quarter of 2011.
During
the first quarter of 2011, we submitted another formal
request for non-objection to the OTS to declare dividends
that would be payable for the first quarter of 2011. The OTS
had not issued a ruling on our request prior to the filing of
our quarterly report on Form 10-Q for the period ended March
31, 2011, and as a result, dividends were not declared for
the first quarter of 2011. On July 12, 2011, the OTS granted
a non-objection determination for the declaration of
preferred stock dividends. On July 13, 2011, the Board of
Directors declared dividends for the second quarter of 2011
on Series B cumulative preferred stock of $40.00 per share
and on Series D non-cumulative preferred stock of $0.53125
per share for a total of $37,000 in dividends for Series B
preferred stockholders and $797,000 in dividends for Series D
preferred stockholders.
As
of June 30, 2011, there were dividends in arrears of $38,000
related to our Series B preferred stock. This was because the
OTS had not yet issued a determination on our request and as
such, the Board of Directors had not declared any dividends
for either the first or second quarters of 2011. Dividends on
the Series D preferred stock are non-cumulative and as such,
there were no dividends in arrears.
Aurora
Bank and EOS will continue to work for the resumption of
normal payment of dividends with the OCC. However, there is
no assurance that the OCC will approve any request to declare
dividends. Failure to permit the distribution of sufficient
dividends will cause EOS to fail to qualify as a REIT. If EOS
no longer qualifies as a REIT, we will be subject to federal
and state income taxes in the tax year when loss of REIT
status occurs and in years thereafter. Notwithstanding future
regulatory approval, any future dividends will be payable
only when, as and if declared by the Board of
Directors.
10
NOTE
4. LOANS
We
use the term “carrying value” to reflect loans
valued at the lower of their accreted cost or market value,
or at their fair value, as applicable to the individual
loans’ valuation method as selected by us in accordance
with accounting standards.
A
summary of the carrying value and unpaid principal balance
(“UPB”) of loans by valuation method and in total
is as follows:
June 30, 2011
|
December 31,
2010
|
|||||||||||||||
Carrying
Value |
Unpaid
Principal Balance |
Carrying
Value |
Unpaid
Principal Balance |
|||||||||||||
(In
Thousands)
|
||||||||||||||||
Total
mortgage loans:
|
||||||||||||||||
One-to-four
family residential at fair value
|
14,547 | 18,873 | 16,505 | 22,048 | ||||||||||||
Commercial
real estate at lower of accreted cost or market
value(1)
|
$ | 6,100 | $ | 8,326 | $ | 6,866 | $ | 9,504 | ||||||||
Multi-family
residential at lower of accreted cost or market
value(1)
|
795 | 966 | 850 | 1,034 | ||||||||||||
One-to-four
family residential at lower of accreted cost or
market value(1)
|
195 | 237 | 219 | 272 | ||||||||||||
Total
loans at lower of accreted cost or market
value
|
7,090 | 9,529 | 7,935 | 10,810 | ||||||||||||
Total
|
21,637 | 28,402 | 24,440 | 32,858 |
(1)
|
Though
the table compares the carrying value of these loans
against UPB, these loans are carried at the lower of
accreted cost or market value. The carrying value
cannot exceed the cost of these loans which for all
loans is less than UPB.
|
A
summary of the loans on non-accrual status is as
follows:
|
June 30, 2011
|
December 31,
2010
|
||||||||||||||
Carrying
Value |
Unpaid
Principal Balance |
Carrying
Value |
Unpaid
Principal Balance |
|||||||||||||
(In
Thousands)
|
||||||||||||||||
Mortgage
loans on non-accrual status:
|
||||||||||||||||
Commercial
real estate
|
$ | 584 | $ | 596 | $ | 692 | $ | 802 | ||||||||
Multi-family
residential
|
— | — | — | — | ||||||||||||
One-to-four
family residential
|
— | — | 224 | 337 | ||||||||||||
Total
loans on non-accrual status
|
$ | 584 | $ | 596 | $ | 916 | $ | 1,139 |
Three Months
Ended
June 30,
|
Six Months
Ended
June 30,
|
|||||||||||||||
|
2011
|
2010
|
2011
|
2010
|
||||||||||||
(In Thousands) | ||||||||||||||||
Average
carrying value of non-accrual loans
|
$ | 699 | $ | 628 | $ | 750 | $ | 498 |
There
were three loans representing three borrowers in non-accrual
status and eight loans representing eight borrowers in
non-accrual status, as of June 30, 2011 and December 31,
2010, respectively.
11
NOTE
5. FAIR VALUE MEASUREMENTS
Fair
Value Measurements
Accounting
standards define fair value and establish a fair value
hierarchy that prioritizes the inputs to valuation techniques
used to measure fair value. The fair value is the price at
which an asset or liability could be exchanged in a current
transaction between knowledgeable, willing parties in an
orderly market. Where available, fair value is based on
observable market prices or inputs or derived from such
prices or inputs. Where observable prices or inputs are not
available, other valuation methodologies are applied.
Accounting
standards require the categorization of financial assets and
liabilities based on a hierarchy of the inputs to the
valuation techniques used to measure fair value. The
hierarchy gives the highest priority to quoted prices in
active markets for identical assets or liabilities (Level 1)
and the lowest priority to valuation methods using
unobservable inputs (Level 3). The three levels are described
below:
Level
1 – Inputs are unadjusted, quoted prices in
active markets for identical assets or liabilities at
the measurement date.
|
|
Level
2 – Inputs are either directly or indirectly
observable for the asset or liability through
correlation with market data at the measurement date
and for the duration of the instrument’s
anticipated life.
|
|
Level
3 – Inputs reflect management’s best
estimate of what market participants would use in
pricing the asset or liability at the measurement
date. Consideration is given to the risk inherent in
the valuation technique and the risk inherent in the
inputs to the model.
|
The
categorization within the fair value hierarchy is based on
the lowest level of significant input to its
valuation.
Loans
Effective
November 1, 2009, EOS and Aurora Bank entered into and
consummated the November Asset Exchange pursuant to which we
agreed to an exchange of loans with Aurora Bank. As of June
30, 2011, we continue to report the portion of the loan
assets that were retained from the November Asset Exchange at
the lower of their accreted cost or market value and these
loans are reflected in Loans at lower of accreted cost or
market value on the Balance Sheet. For these retained loans,
the carrying value of the loans will be recognized only up to
the cost on the date they were classified as held for sale.
We have elected the fair value option for the loans that were
received from the November Asset Exchange and these loans are
reflected in Loans at fair value on the Balance Sheet. For
these acquired loans, the carrying value of the loans will be
equivalent to fair value which may reflect an unrealized gain
or loss relative to the cost of the loans. Such recognition
is included in the determination of net income in the period
in which the change occurred.
At
June 30, 2011 and December 31, 2010, the fair value of our
loan portfolio was estimated based upon various cash flow
models to price the portfolio. These models consider
significant inputs such as loan type, loan age, loan to value
ratio, payment history, and property location, as well as
significant assumptions such as estimated rates of loan
delinquency, potential recovery, discount rate, and the
impact of interest rate reset. Recent trade quotes or prices
are identified in estimating the amount at which a third
party might purchase the loans and their yield requirements.
Management also considers market information and quotes
received from third parties, when available. The valuation of
the loan portfolio involves management’s use of
estimates and judgment, the degree of which is dependent on
the terms of the loans and the availability of market prices
and inputs.
12
The
tables presented below summarize the change in balance sheet
carrying value associated with Level 3 assets during the
three and six months ended June 30, 2011 and 2010 measured on
a recurring basis.
Balance
|
Three Months Ended June 30, 2011 |
Balance
|
||||||||||||||||||||||
March
31,
|
Net
Transfers
|
June
30,
|
||||||||||||||||||||||
|
2011
|
Payments
|
In
/ Out (1)
|
Settlements
|
Net
Gains (2)
|
2011
|
||||||||||||||||||
(In Thousands) | ||||||||||||||||||||||||
Commercial
real estate loans
|
$ | 6,174 | $ | (192 | ) | $ | — | $ | — | $ | 117 | $ | 6,099 | |||||||||||
Multi-family
residential loans
|
827 | (32 | ) | — | — | — | 795 | |||||||||||||||||
One-to-four
family residential loans
|
15,775 | (887 | ) | — | (232 | ) | 87 | 14,743 | ||||||||||||||||
Total
|
$ | 22,776 | $ | (1,111 | ) | $ | — | $ | (232 | ) | $ | 204 | $ | 21,637 |
Balance
|
Three Months Ended June 30, 2010 |
Balance
|
||||||||||||||||||||||
March
31,
|
Net
Transfers
|
June
30,
|
||||||||||||||||||||||
|
2010
|
Payments
|
In
/ Out (1)
|
Settlements
|
Net
Gains (2)
|
2010
|
||||||||||||||||||
(In Thousands) | ||||||||||||||||||||||||
Commercial
real estate loans
|
$ | 6,916 | $ | (316 | ) | $ | — | $ | — | $ | 42 | $ | 6,642 | |||||||||||
Multi-family
residential loans
|
743 | (42 | ) | — | — | 4 | 705 | |||||||||||||||||
One-to-four
family residential loans
|
20,502 | (1,257 | ) | — | — | 710 | 19,955 | |||||||||||||||||
Total
|
$ | 28,161 | $ | (1,615 | ) | $ | — | $ | — | $ | 756 | $ | 27,302 |
Balance
|
Six Months Ended June 30, 2011 |
Balance
|
||||||||||||||||||||||
December
31,
|
Net
Transfers
|
June
30,
|
||||||||||||||||||||||
|
2010
|
Payments
|
In
/ Out (1)
|
Settlements
|
Net
Gains (2)
|
2011
|
||||||||||||||||||
(In Thousands) | ||||||||||||||||||||||||
Commercial
real estate loans
|
$ | 6,866 | $ | (1,146 | ) | $ | — | $ | — | $ | 379 | $ | 6,099 | |||||||||||
Multi-family
residential loans
|
850 | (60 | ) | — | — | 5 | 795 | |||||||||||||||||
One-to-four
family residential loans
|
16,724 | (2,879 | ) | — | (232 | ) | 1,130 | 14,743 | ||||||||||||||||
Total
|
$ | 24,440 | $ | (4,085 | ) | $ | — | $ | (232 | ) | $ | 1,514 | $ | 21,637 |
Balance
|
Six Months Ended June 30, 2010 |
Balance
|
||||||||||||||||||||||
December
31,
|
Net
Transfers
|
June
30,
|
||||||||||||||||||||||
|
2009
|
Payments
|
In
/ Out (1)
|
Settlements
|
Net
Gains (2)
|
2010
|
||||||||||||||||||
(In Thousands) | ||||||||||||||||||||||||
Commercial
real estate loans
|
$ | 6,380 | $ | (665 | ) | $ | — | $ | — | $ | 927 | $ | 6,642 | |||||||||||
Multi-family
residential loans
|
693 | (61 | ) | — | — | 73 | 705 | |||||||||||||||||
One-to-four
family residential loans
|
22,750 | (4,316 | ) | — | — | 1,521 | 19,955 | |||||||||||||||||
Total
|
$ | 29,823 | $ | (5,042 | ) | $ | — | $ | — | $ | 2,521 | $ | 27,302 |
(1)
Transfers are recognized on the actual date of the
event or change in circumstances that caused the
transfer.
|
|
(2)
Net Gains are included in Realized and unrealized
gains on loans on the Statements of Operations. The
current period gains and losses from changes in
values of Level 3 loans represent gains/losses on
loans and reflect changes in values of those loans
only for the period(s) in which the loans were
classified as Level 3.
|
Fair
Value of Financial Instruments
Accounting
standards require disclosure of estimated fair values of all
financial instruments where it is practicable to estimate
such values. In determining the fair value measurements for
financial assets and liabilities, we utilize quoted prices,
when available. If quoted prices are not available, we
estimate fair value using present value or other valuation
techniques that utilize inputs that are observable for the
asset or liability, either directly or indirectly, when
available. When observable inputs are not available, inputs
may be used that are unobservable and, therefore, reflect our
own assumptions about the assumptions market participants
would use in pricing the asset or liability based on the best
information available in the circumstances.
Accounting
standards exclude certain financial instruments and all
nonfinancial instruments from disclosure requirements.
Accordingly, the aggregate fair value amounts presented may
not represent the underlying value of the entire
company.
13
In
addition to the fair value of our loans, as discussed above,
the following methods and assumptions were used by us in
estimating fair value of financial instruments:
●
|
Cash and
cash equivalents: The carrying value of cash
and interest-bearing deposits approximate fair value
because of the short-term nature of these
instruments.
|
|
●
|
Accrued
interest receivable: The carrying value of
accrued interest receivable approximates fair value
because of the short-term nature of these financial
instruments.
|
|
●
|
Real
estate acquired through foreclosure: Such
property is initially recorded at fair value less
estimated costs to sell and then carried at the lower
of cost or market value less estimated costs to sell.
Our policy is that the market value of any
repossessed assets be estimated based upon real
estate appraisals or BPO. Once a property has gone
through foreclosure, an appraisal or BPO is ordered
and will be periodically updated.
|
The
estimated fair values, and related carrying value, of our
financial instruments are as follows:
June
30, 2011
|
December
31, 2010
|
|||||||||||||||
Carrying
Value
|
Fair
Value
|
Carrying
Value |
Fair
Value
|
|||||||||||||
(In
Thousands)
|
||||||||||||||||
Cash
and cash equivalents
|
$ | 65,248 | $ | 65,248 | $ | 62,569 | $ | 62,569 | ||||||||
Loans
|
21,637 | 21,637 | 24,440 | 24,440 | ||||||||||||
Real
estate acquired through foreclosure
|
100 | 100 | — | — | ||||||||||||
Accrued
interest receivable
|
161 | 161 | 213 | 213 |
14
NOTE
6. RELATED PARTY TRANSACTIONS
Aurora
Bank administers our day-to-day activities in its roles as
servicer under the MSA and as advisor under the AA. Both
the MSA and the AA were amended effective January 1, 2010.
The management fee under the amended AA is $25,000 per
month. Servicing and advisory fees for the quarters ended
June 30, 2011 and 2010 totaled $106,000 and $116,000,
respectively, and were recorded in Loan servicing and
advisory services on the Statement of Operations and within
Accounts payable to parent on the Balance Sheets. The
servicing and advisory fees for the six months ended June
30, 2011 and 2010 totaled $215,000 and $244,000,
respectively. Also included within the balances of Accounts
payable to parent of $84,000 and $87,000, as of June 30,
2011 and December 31, 2010, respectively, are payables to
Aurora Bank and subsidiaries as they process payments to
third parties for us. Dividends payable to parent as of
June 30, 2011 and December 31, 2010 were $0 and $902,000,
respectively, and were recorded in Accounts payable to
parent on the Balance Sheets.
All
of the mortgage assets in our loan portfolio as of June 30,
2011 were purchased from Capital Crossing or Aurora Bank.
No loans were purchased or contributed from Aurora Bank in
2011 or 2010.
Our
cash and cash equivalents balances of $65.2 million and
$62.6 million at June 30, 2011 and December 31, 2010,
respectively, consist entirely of deposits with Aurora
Bank.
The
following table summarizes capital transactions between us
and Aurora Bank, our sole common shareholder and
parent:
Three Months
Ended
June
30,
|
Six Months
Ended
June
30,
|
|||||||||||||||
|
2011
|
2010
|
2011
|
2010
|
||||||||||||
(In
Thousands)
|
||||||||||||||||
Common
stock dividends paid to parent
|
$ | — | $ | — | $ | 884 | $ | — | ||||||||
Series
B preferred stock dividends paid to parent
|
— | — | 18 | — |
15
This
report for EOS Preferred Corporation (hereafter referred to
as “EOS”, “the Company”,
“we”, “us”, or “our”)
contains certain statements that constitute
“forward-looking statements” within the meaning
of the Private Securities Litigation Reform Act of 1995.
Words such as “expects,”
“anticipates,” “believes,”
“estimates” and other similar expressions or
future or conditional verbs such as “will,”
“should,” “would,” and
“could” are intended to identify such
forward-looking statements. These statements are not
historical facts, but instead represent our current
expectations, plans or forecasts of our future results,
growth opportunities, business outlook, loan growth, credit
losses, liquidity position and other similar matters,
including, but not limited to, the requirement that Aurora
Bank FSB (“Aurora Bank”) be sold or dissolved
through the asset purchase of its assets by its parent
within defined time frames; the ability to pay dividends
with respect to the Series B and Series D preferred stock;
future bank regulatory actions that may impact us; and the
effect of the bankruptcy of Lehman Brothers Holdings Inc.
(“LBHI”; LBHI with its subsidiaries,
“Lehman Brothers”) on us. These statements are
not guarantees of future results or performance and involve
certain risks, uncertainties and assumptions that are
difficult to predict and often are beyond our control.
Actual outcomes and results may differ materially from
those expressed in, or implied by, any forward-looking
statement. You should not place undue reliance on any
forward-looking statement and should consider all
uncertainties and risks, including, among other things, the
risks set forth herein and in our Annual Report on Form
10-K for the year ended December 31, 2010, as well as those
discussed in any of our other subsequent Securities and
Exchange Commission filings. Forward-looking statements
speak only as of the date they are made, and we undertake
no obligation to update any forward-looking statement to
reflect the impact of circumstances or events that arise
after the date the forward-looking statement was
made.
Possible
events or factors could cause results or performance to
differ materially from what is expressed in our
forward-looking statements. These possible events or
factors include, but are not limited to, those risk factors
discussed under Item 1A “Risk Factors” in our
Annual Report on Form 10-K for the year ended December 31,
2010 or in Item 1A of this Quarterly Report on Form 10-Q,
and the following: limitations by regulatory authorities on
our ability to implement our business plan and restrictions
on our ability to pay dividends; the requirement that
Aurora Bank be sold or dissolved within defined time
frames; negative economic conditions that adversely affect
the general economy, housing prices, the job market,
consumer confidence and spending habits which may affect,
among other things, the credit quality of our loan
portfolios (the degree of the impact of which is dependent
upon the duration and severity of these conditions); the
level and volatility of interest rates; changes in
consumer, investor and counterparty confidence in, and the
related impact on, financial markets and institutions;
legislative and regulatory actions which may adversely
affect our business and economic conditions as a whole; the
impact of litigation and regulatory investigations; various
monetary and fiscal policies and regulations; changes in
accounting standards, rules and interpretations and the
impact on our financial statements; and changes in the
nature and quality of the types of loans held by us.
The
following discussion of our financial condition, results of
operations, capital resources and liquidity should be read in
conjunction with the condensed financial statements and
related notes included elsewhere in this report and the
audited financial statements and related notes included in
our Annual Report on Form 10-K for the year ended December
31, 2010 as filed with the SEC.
EOS
is a Massachusetts corporation organized on March 20, 1998,
with the principal business objective to hold mortgage
assets that will generate net income for distribution to
stockholders. Aurora Bank, an indirect wholly-owned
subsidiary of LBHI and a wholly-owned subsidiary of Lehman
Brothers Bancorp (“LB Bancorp”), owns all of
our common stock. Prior to the merger with Aurora Bank, we
were a subsidiary of Capital Crossing Bank (“Capital
Crossing”), a federally insured Massachusetts trust
company, our corporate name was Capital Crossing Preferred
Corporation, and Capital Crossing owned all of our common
stock. Effective June 21, 2010, we changed our corporate
name to EOS Preferred Corporation. As of June 30, 2011, the
Series B preferred stock and Series D preferred stock
remain outstanding and remain subject to their existing
terms and conditions, including the call feature with
respect to the Series D preferred stock.
Effective
July 21, 2011, the OTS was dissolved in accordance with the
Dodd-Frank Wall Street Reform and Consumer Protection Act.
All duties previously performed by the OTS were transferred
to the Office of the Comptroller of the Currency
(“OCC”) and the primary regulator of Aurora
Bank became the OCC.
On
July 19, 2011, we executed an Asset Sale Agreement with
Aurora Bank to purchase certain mortgage backed securities
from Aurora Bank. In accordance with the terms of this
agreement, we purchased $47.6 million in mortgage backed
securities at current fair value. We believe the securities
purchased meet REIT eligibility requirements under the IRC.
These investments will be carried at fair value and
classified as available for sale. The yield on these
securities is expected to exceed the yield obtained from
cash held in the interest-bearing account.
16
All
of the mortgage assets in our loan portfolio at June 30,
2011 were acquired from Capital Crossing or Aurora Bank and
it is anticipated that substantially all additional
mortgage assets, if any are acquired in the future, will be
acquired from Aurora Bank. As of June 30, 2011, our loan
portfolio had a carrying value of $21.6 million and an
unpaid principal balance (“UPB”) of $28.7
million. There were no loans purchased or sold during the
six months ended June 30, 2011.
Residential
loans constituted 68.1% of the total loans in our loan
portfolio at June 30, 2011. Commercial mortgage and
multi-family loans constituted the remaining 31.9%.
Commercial mortgage loans are generally subject to greater
risks than other types of loans. Our commercial mortgage
loans, like most commercial mortgage loans, generally lack
standardized terms, tend to have shorter maturities than
other mortgage loans and may not be fully amortizing. As of
June 30, 2011, 97.3% of the carrying value of all loans was
classified as performing.
Properties
underlying our current loans are concentrated primarily in
California and comprised 39.3% of the total carrying value
of the loan portfolio as of June 30, 2011. Beginning in
2007 and through the present time, the housing and real
estate sectors in California were hit particularly hard by
the recession with higher overall foreclosure rates than
the national average. If California experiences continued
or further adverse economic, political or business
conditions, or natural hazards, we will likely experience
higher rates of loss and delinquency on our mortgage loans
than if our loans were more geographically diverse.
Decisions
regarding the utilization of our cash are based, in large
part, on our future commitments to pay dividends. Future
decisions regarding mortgage asset acquisitions and returns
of capital will be based on the level of preferred stock
dividends at that time and the required level of income
necessary to generate adequate dividend coverage and other
factors determined to be relevant at that time.
Aurora
Bank administers our day-to-day activities in its roles as
servicer under the MSA and as advisor under the AA. Both
the MSA and the AA were amended effective January 1, 2010.
The fees paid by EOS under the amended MSA reflect the fees
payable to each sub-servicer. The management fee under the
amended AA is $25,000 per month. Servicing and advisory
fees for the quarters ended June 30, 2011 and 2010 totaled
$106,000 and $116,000, respectively, and were recorded in
Loan servicing and advisory services on the Statements of
Operations and within Accounts payable to parent on the
Balance Sheets. The servicing and advisory fees for the six
months ended June 30, 2011 and 2010 totaled $215,000 and
$244,000, respectively. Also included within the balances
of Accounts payable to parent of $84,000 and $87,000, as of
June 30, 2011 and December 31, 2010, respectively, are
payables to Aurora Bank and subsidiaries as they process
payments to third parties for us. Dividends payable to
parent as of June 30, 2011 and December 31, 2010 were $0
and $902,000, respectively, and were recorded in Accounts
payable to parent on the Balance Sheets.
Net
income available to the common shareholder decreased $1.5
million to $1.7 million for the six months ended June 30,
2011, compared to a net income of $3.2 million for the same
period in 2010. The decrease between the two year-to-date
periods in net income available to the common shareholder was
primarily the result of the following:
●
|
A
decrease in the realized and unrealized gains on
loans of $1.1 million. In the first half of 2011
there were realized and unrealized gains on loans of
$1.4 million as compared to realized and unrealized
gains of $2.5 million in the first half of 2010;
and
|
|
●
|
A
decrease in interest income of $343,000 resulting
mainly from a decrease in average loan balance and a
decrease in the yield on loans.
|
Impact
of Economic Recession
The
U.S. economy has been in an economic downturn since 2007
which has dramatically impacted the housing market with
falling home prices and increasing foreclosures. Combined
with high levels of unemployment and underemployment, these
economic forces have negatively impacted the credit
performance of mortgage loans and resulted in significant
write-downs of asset values by financial institutions,
including government-sponsored entities as well as major
commercial and investment banks.
Reflecting
concern about the strength of counterparties, many lenders
and institutional investors have reduced or ceased providing
funding to borrowers, including to other financial
institutions. This market turmoil and tightening of credit
have led to an increased level of delinquencies, decreased
consumer spending, lack of confidence, increased market
volatility and widespread reduction of business activity
generally. The resulting economic pressure on borrowers
negatively impacted the credit quality of our commercial loan
portfolio and our residential loan portfolio. The depth and
breadth of the downturn as well as the resulting impacts on
the credit quality of both our commercial and residential
loan portfolios remain unclear. We expect, however, continued
market turbulence and economic uncertainty to continue for
the remainder of 2011.
17
Bankruptcy
of Lehman Brothers Holdings Inc.
On
September 15, 2008, LBHI, the indirect parent company of
Aurora Bank, filed a voluntary petition under Chapter 11 of
the U.S. Bankruptcy Code. The bankruptcy filing led to
increased regulatory constraints being placed on Aurora Bank
by its bank regulatory authorities, primarily the Office of
the Comptroller of the Currency (the “OCC”).
These constraints apply to Aurora Bank’s subsidiaries,
including EOS. The enforcement actions previously issued by
the Office of Thrift Supervision (the “OTS”)
continue to be in effect following the transfer of regulatory
duties and oversight compliance to the OCC.
Pursuant
to a Settlement Agreement (“Settlement
Agreement”) approved by the bankruptcy court and
executed on November 30, 2010 (“Execution Date”),
Aurora Bank, LBHI, LB Bancorp, and the OTS entered into a
Capital Maintenance Agreement (“CMA”) in which,
among other things, LBHI agreed that it will seek to sell
Aurora Bank within eighteen (18) months from the Execution
Date. If after a period of fifteen (15) months following the
Execution Date, the OCC concludes a sale of Aurora Bank will
not be consummated by the end of the eighteen (18) month
period, Aurora Bank will prepare and submit to the OCC a plan
for dissolution. The bankruptcy court will have the final
review and approval of any proposed agreement for the sale of
Aurora Bank.
There
can be no assurance that the sale of Aurora Bank will be
consummated within the defined time frame. There can be no
assurance that a potential buyer of Aurora Bank will come
forward and tender an offer acceptable to the bankruptcy
court, that the bankruptcy court will approve such offer, or
that a potential buyer will meet all other conditions
necessary to consummate the purchase.
Further,
there is uncertainty with regards to any and all aspects of
a potential sale. The business strategies of the new owner
may not include continued operation of EOS or other
business lines of Aurora Bank.
Both
the bankruptcy filing of LBHI and the increased regulatory
constraints placed on Aurora Bank have negatively impacted
the ability of EOS to conduct business according to our
business objectives. Following the execution of the
Settlement Agreement, the OTS modified, but did not remove
all of the regulatory constraints on Aurora Bank.
Regulatory
Actions Involving Aurora Bank
On
January 26, 2009, the OTS entered a cease and desist order
against Aurora Bank (the “Original Order”). The
Original Order required Aurora Bank to ensure that each of
its subsidiaries, including EOS, was in compliance with the
Original Order, including the operating restrictions
contained therein. In addition, on February 4, 2009, the OTS
issued a prompt corrective action directive to Aurora Bank
(the “PCA”). The PCA required Aurora Bank to,
among other things, raise its capital ratios such that it
would be deemed to be “adequately capitalized”
and placed additional constraints on Aurora Bank and its
subsidiaries, including EOS.
Following
execution of the Settlement Agreement, on November 30, 2010,
Aurora Bank entered into a Stipulation and Consent to
Issuance of Amended Order to Cease and Desist with the OTS
whereby Aurora Bank consented to the issuance of an Amended
Order to Cease and Desist (the “Amended Order”)
issued by the OTS, which amended the Original Order (together
the Original Order and the Amended Order are the
“Order”). The Amended Order amended certain
requirements for Aurora Bank contained in the Original Order.
The provisions in the Original Order that require Aurora Bank
to ensure that each of its subsidiaries, including EOS,
comply with the Original Order were not amended. These
operating restrictions, among other things, restrict
transactions with affiliates, capital distributions to
shareholders (including redemptions), contracts outside the
ordinary course of business, and changes in senior executive
officers, board members or their employment arrangements
without prior written notice to the OTS.
Under
the Order, and pursuant to the dissolution of the OTS, EOS
must continue to seek and receive approval or non-objection
from the OCC for the declaration and payment of dividends to
our preferred and common shareholders. There is no assurance
that the OCC will approve any future request for the
declaration or payment of dividends. As an operating
subsidiary of Aurora Bank, EOS remains subject to all of the
terms and conditions of the Order which apply to such
operating subsidiaries. The Order was still effective as of
the date of issuance of this interim report.
On
November 30, 2010, and effective on the same date, the OTS
issued an order terminating the PCA.
More
detailed information can be found in the Original Order, the
Amended Order, the PCA, and the termination of the PCA
themselves, copies of which are available on the OTS’
website (www.ots.treas.gov).
Please note that despite the change in regulatory agencies
from the OTS to the OCC, information on these enforcement
actions continues to be accessed through the OTS’
website.
18
Under
the CMA, LBHI agreed for the duration of LBHI’s
ownership of Aurora Bank to maintain Aurora Bank’s tier
1 and risk based capital ratios at levels greater than the
thresholds required to achieve the
“well-capitalized” designation under OTS
regulations.
As
of June 30, 2011, as set forth in a public filing with the
OTS, Aurora Bank’s capital ratios were above the
thresholds required under the CMA.
Our
discussion and analysis of financial condition and results
of operations are based upon our condensed financial
statements, which have been prepared in accordance with
U.S. generally accepted accounting principles, or GAAP. The
preparation of these condensed financial statements in
conformity with GAAP requires us to make estimates and
assumptions that affect the reported amounts of assets and
liabilities at the date of the condensed financial
statements and the reported amount of revenues and expenses
in the reporting period. Our actual results may differ from
these estimates. We describe those accounting policies that
require material subjective or complex judgments and that
have the most significant impact on our financial condition
and results of operations. Our management evaluates these
estimates on an ongoing basis, based upon information
currently available and on various assumptions management
believes are reasonable as of the date on the front cover
of this report. We have provided a comprehensive summary of
our significant accounting policies in Note 2 to our
financial statements included in our Annual Report on Form
10-K for the year ended December 31, 2010. We have provided
a summary of relevant recent accounting pronouncements in
Note 2 of this interim report.
Interest
income
The
yields on our interest-earning assets are summarized as
follows:
|
Three Months Ended June
30,
|
|||||||||||||||||||||
|
2011
|
2010
|
||||||||||||||||||||
|
Average
Balance
|
Interest
|
Yield
|
Average
Balance
|
Interest
|
Yield
|
||||||||||||||||
(In
Thousands)
|
(In Thousands) | |||||||||||||||||||||
Loans
(1)
|
$ | 28,229 | $ | 280 | 3.97 | % | $ | 39,900 | $ | 483 | 4.84 | % | ||||||||||
Interest-bearing
deposits
|
64,972 | 168 | 1.03 | 54,958 | 41 | 0.30 | ||||||||||||||||
Total
interest-earning assets
|
$ | 93,201 | $ | 448 | 1.91 | % | $ | 94,858 | $ | 524 | 2.21 | % |
(1)
For purposes of providing a meaningful yield comparison, the
foregoing table reflects the UPB for loans and not the fair
value of the loan portfolio. Non-accrual loans are excluded
from average balance calculations.
The
decline in interest income from the three months ended June
30, 2011 compared to the three months ended June 30, 2010 was
the combined result of the decrease in the average balance
and yield on loans.
The
average balance of the loans for the three months ended June
30, 2011 compared to the corresponding period in 2010
declined by $11.7 million. This decrease is primarily
attributable to loan payoffs. The yield on the loan portfolio
decreased 0.87% in the three months ended June 30, 2011
compared to the corresponding period in 2010. The yield from
regularly scheduled interest and accretion income decreased
to 3.69% for the three months ended June 30, 2011 from 4.72%
for the same period in 2010 primarily due to a decrease in
the weighted average interest rate on adjustable rate
loans.
For
interest-bearing deposits, the increase in the average
balance was mainly due to cash flows from loan repayments
slightly offset by operating expenses and dividends. The
average rate earned on interest-bearing deposits increased
0.73% in the three months ended June 30, 2011 compared to the
corresponding period in 2010. The cash is held in a money
market account with variable rates which increased during the
second quarter of 2011.
19
For
the three months ended June 30, 2011, interest and fee
income recognized on loan payoffs increased $8,000, or
66.7%, to $20,000 from $12,000 for the corresponding
period in 2010. The level of interest and fee income
recognized on loan payoffs varies for numerous reasons.
When a loan is paid off, the excess of any cash received
over the carrying value is considered in the assessment
of the gain or loss on loans. The following table sets
forth, for the periods indicated, the components of
interest and fees on loans. There can be no assurance
regarding future interest income, including the yields
and related level of such income, or the relative portion
attributable to loan payoffs as compared to other
sources.
Three Months Ended June
30,
|
|||||||||||||||
|
2011
|
2010
|
|||||||||||||
Interest
Income
|
Yield
|
Interest
Income
|
Yield
|
||||||||||||
(In
Thousands)
|
|||||||||||||||
Regularly
scheduled interest and accretion income
|
$ | 260 | 3.69 | % | $ | 471 | 4.72 | % | |||||||
Interest
and fee income recognized on loan pay-offs:
|
|||||||||||||||
Accretable
discount
|
20 | 0.28 | 12 | 0.12 | |||||||||||
Other
interest and fee income
|
— | — | — | — | |||||||||||
20 | 0.28 | 12 | 0.12 | ||||||||||||
Total
interest from loans
|
$ | 280 | 3.97 | % | $ | 483 | 4.84 | % |
The
amount of loan pay-offs and related discount income is
influenced by several factors, including the interest rate
environment, the real estate market in particular areas, the
timing of transactions, and circumstances related to
individual borrowers and loans. The amount of individual loan
payoffs can be the result of negotiations between us and the
borrower.
Operating
expenses
Loan
servicing and advisory expenses decreased $10,000, or 8.6%,
to $106,000 for the three months ended June 30, 2011 from
$116,000 in the same period in 2010. The decrease in the
second quarter was primarily due to decreases in the UPB of
the loan portfolio.
Other
general and administrative expenses increased $50,000, or
37.6% to $183,000 for the three months ended June 30, 2011
from $133,000 in the same period in 2010. The net increase in
2011 was primarily attributable to an increase in fees for
professional services partially offset by a reduction in
expenses for printing and mailing statements to
borrowers.
Dividend
Payments
On
June 26, 2009, the OTS notified Aurora Bank that, as a result
of the Order and the PCA, the approval or non-objection of
the OTS would be required prior to declaration and payment of
dividends by EOS. The OTS required Aurora Bank to submit a
formal request for non-objection determination to permit the
payment of dividends by EOS.
During
the first quarter of 2011, we submitted a formal request for
non-objection to the OTS to declare dividends that would be
payable for the first quarter of 2011. The OTS had not issued
a ruling on our request prior to the filing of our quarterly
report on Form 10-Q for the period ended March 31, 2011, and
as a result, dividends were not declared for the first
quarter of 2011. On July 12, 2011, the OTS granted a
non-objection determination for the declaration of preferred
stock dividends. On July 13, 2011, the Board of Directors
declared dividends for the second quarter of 2011 on Series B
cumulative preferred stock of $40.00 per share and on Series
D non-cumulative preferred stock of $0.53125 per share for a
total of $37,000 in dividends for Series B preferred
stockholders and $797,000 in dividends for Series D preferred
stockholders.
As
of June 30, 2011, there were dividends in arrears of $38,000
related to our Series B preferred stock. This was because the
OTS had not yet issued a determination on our request and as
such, the Board of Directors had not declared any dividends
for either the first or second quarters of 2011. Dividends on
the Series D preferred stock are non-cumulative and as such,
there were no dividends in arrears.
Aurora
Bank and EOS will continue to work for the resumption of
normal payment of dividends with the OCC. However, there is
no assurance that the OCC will approve any request to declare
dividends. Failure to permit the distribution of sufficient
dividends will cause EOS to fail to qualify as a REIT. If EOS
no longer qualifies as a REIT, we will be subject to federal
and state income taxes in the tax year when loss of REIT
status occurs and in years thereafter. Notwithstanding future
regulatory approval, any future dividends will be payable
only when, as and if declared by the Board of
Directors.
20
Interest
income
The
yields on our interest-earning assets are summarized as
follows:
|
Six Months Ended June
30,
|
|||||||||||||||||||||
|
2011
|
2010
|
||||||||||||||||||||
|
Average
Balance
|
Interest
|
Yield
|
Average
Balance
|
Interest
|
Yield
|
||||||||||||||||
(In
Thousands)
|
(In
Thousands)
|
|||||||||||||||||||||
Loans
(1)
|
$ | 29,138 | $ | 641 | 4.40 | % | $ | 41,248 | $ | 1,119 | 5.43 | % | ||||||||||
Interest-bearing
deposits
|
63,984 | 214 | 0.67 | 53,580 | 79 | 0.30 | ||||||||||||||||
Total
interest-earning assets
|
$ | 93,122 | $ | 855 | 1.84 | % | $ | 94,828 | $ | 1,198 | 2.53 | % |
(1)
For purposes of providing a meaningful yield comparison, the
foregoing table reflects the UPB for loans and not the fair
value of the loan portfolio. Non-accrual loans are excluded
from average balance calculations.
The
decline in interest income from the six months ended June 30,
2011 compared to the six months ended June 30, 2010 was the
combined result of the decrease in the average balance and
yield on loans.
The
average balance of the loans for the six months ended June
30, 2011 compared to the corresponding period in 2010
declined by $12.1 million. This decrease is primarily
attributable to loan payoffs. The yield on the loan portfolio
decreased 1.03% in the six months ended June 30, 2011
compared to the corresponding period in 2010. The yield from
regularly scheduled interest and accretion income decreased
to 4.12% for the six months ended June 30, 2011 from 4.83%
for the same period in 2010 primarily due to a decrease in
the weighted average interest rate on adjustable rate
loans.
For
interest-bearing deposits, the increase in the average
balance was mainly due to cash flows from loan repayments
slightly offset by operating expenses and dividends. The
average rate earned on interest-bearing deposits increased
0.37% in the six months ended June 30, 2011 compared to the
corresponding period in 2010. The cash is held in a money
market account with variable rates which increased during the
second quarter of 2011.
For
the six months ended June 30, 2011, interest and fee income
recognized on loan payoffs decreased $84,000, or 67.7%, to
$40,000 from $124,000 for the corresponding period in 2010.
The level of interest and fee income recognized on loan
payoffs varies for numerous reasons. When a loan is paid off,
the excess of any cash received over the carrying value is
considered in the assessment of the gain or loss on loans.
The following table sets forth, for the periods indicated,
the components of interest and fees on loans. There can be no
assurance regarding future interest income, including the
yields and related level of such income, or the relative
portion attributable to loan payoffs as compared to other
sources.
Six Months Ended June
30,
|
||||||||||||||||
|
2011
|
2010
|
||||||||||||||
Interest
Income
|
Yield
|
Interest
Income
|
Yield
|
|||||||||||||
(In
Thousands)
|
||||||||||||||||
Regularly
scheduled interest and accretion income
|
$ | 601 | 4.12 | % | $ | 995 | 4.83 | % | ||||||||
Interest
and fee income recognized on loan pay-offs:
|
||||||||||||||||
Accretable
discount
|
40 | 0.28 | 124 | 0.60 | ||||||||||||
Other
interest and fee income
|
— | — | — | — | ||||||||||||
40 | 0.28 | 124 | 0.60 | |||||||||||||
Total
interest from loans
|
$ | 641 | 4.40 | % | $ | 1,119 | 5.43 | % |
The
amount of loan pay-offs and related discount income is
influenced by several factors, including the interest rate
environment, the real estate market in particular areas, the
timing of transactions, and circumstances related to
individual borrowers and loans. The amount of individual loan
payoffs can be the result of negotiations between us and the
borrower. Based upon credit risk analysis and other factors,
we will, in certain instances, accept less than the full
amount contractually due in accordance with the loan
terms.
21
Operating
expenses
Loan
servicing and advisory expenses decreased $29,000, or 11.9%,
to $215,000 for the six months ended June 30, 2011 from
$244,000 in the same period in 2010. The decrease in 2011 was
primarily due to decreases in the UPB of the loan
portfolio.
Other
general and administrative expenses increased $63,000, or
22.7% to $341,000 for the six months ended June 30, 2011 from
$278,000 in the same period in 2010. The net increase in 2011
was primarily attributable to an increase in fees for
professional services partially offset by a reduction in
expenses for printing and mailing statements to
borrowers.
Dividend
Payments
On
June 26, 2009, the OTS notified Aurora Bank that, as a result
of the Order and the PCA, the approval or non-objection of
the OTS would be required prior to declaration and payment of
dividends by EOS. The OTS required Aurora Bank to submit a
formal request for non-objection determination to permit the
payment of dividends by EOS.
During
the first quarter of 2011, we submitted a formal request for
non-objection to the OTS to declare dividends that would be
payable for the first quarter of 2011. The OTS had not issued
a ruling on our request prior to the filing of our quarterly
report on Form 10-Q for the period ended March 31, 2011, and
as a result, dividends were not declared for the first
quarter of 2011. On July 12, 2011, the OTS granted a
non-objection determination for the declaration of preferred
stock dividends. On July 13, 2011, the Board of Directors
declared dividends for the second quarter of 2011 on Series B
cumulative preferred stock and on Series D non-cumulative
preferred stock.
22
Interest-bearing
Deposits with Parent
Interest-bearing
deposits with parent consist entirely of money market
accounts. The balance of interest-bearing deposits increased
$2.8 million to $65.2 million as of June 30, 2011 compared to
$62.4 million as of December 31, 2010. The increase in the
balance of interest-bearing deposits is the result of cash
flows from loan repayments.
Loan
Portfolio
The
loan portfolio is summarized as follows:
|
June 30, 2011
|
December 31,
2010
|
||||||||||||||
Carrying
Value
|
Percentage
of Total
|
Carrying
Value
|
Percentage
of Total
|
|||||||||||||
(In
Thousands)
|
||||||||||||||||
Mortgage
loans:
|
||||||||||||||||
Commercial
real estate
|
$ | 6,100 | 28.2 | % | $ | 6,866 | 28.1 | % | ||||||||
Multi-family
residential
|
795 | 3.7 | 850 | 3.5 | ||||||||||||
One-to-four
family residential
|
14,742 | 68.1 | 16,724 | 68.4 | ||||||||||||
Total
|
$ | 21,637 | 100.0 | % | $ | 24,440 | 100.0 | % |
We
have historically acquired primarily performing commercial
real estate and multi-family residential mortgage loans in
accrual status. During 2011 and 2010, EOS did not acquire any
loans.
Non-accrual
loans, net of discount, totaled $584,000 as of June 30, 2011,
representing three loans and three borrowers. Non-accrual
loans, net of discount, totaled $916,000 as of December 31,
2010, representing eight loans and eight borrowers. Loans
generally are placed on non-accrual status and the accrual of
interest is generally discontinued when the collectability of
principal and interest is not probable or estimable and
generally occurs when the loan is ninety days or more past
due as to either principal or interest. Unpaid interest
income previously accrued on such loans is reversed against
current period interest income. Interest payments received on
non-accrual loans are recorded as interest income. A loan is
returned to accrual status when it is brought current. Loans
are charged off when they are determined to be
uncollectible.
Six Months Ended June
30,
|
||||||||
|
2011
|
2010
|
||||||
(In
Thousands)
|
||||||||
Net
cash provided by operating activities
|
$ | 3,137 | $ | 5,054 | ||||
Cash
provided by investing activities
|
1,242 | 753 | ||||||
Cash
used in financing activities
|
(1,700 | ) | — | |||||
Net
change in cash and cash equivalents
|
$ | 2,679 | $ | 5,807 |
Net
cash provided by operating activities decreased by $1.9
million for the six months ended June 30, 2011 as compared to
the six months ended June 30, 2010, primarily attributable to
lower loan repayments for loans carried at fair value and
lower interest income.
Cash
provided by investing activities increased by $489,000 for
the six months ended June 30, 2011 as compared to the six
months ended June 30, 2010, primarily attributable to
increased loan repayments from loans carried at lower of
accreted cost or market.
Cash
used in financing activities decreased $1.7 million for the
six months ended June 30, 2011 as compared to the six months
ended June 30, 2010, due to the payments of common and
preferred stock dividends that occurred during the six months
ended June 30, 2011 but did not occur during the six months
ended June 30, 2010.
23
We
do not have any off-balance sheet arrangements that have or
are reasonably likely to have a current or future effect on
financial condition, changes in financial condition, revenues
or expenses, results of operations, liquidity, capital
expenditures, or capital resources that are material to
investors.
The
majority of our loan portfolio consists of variable rate
loans with contractual interest rates that are affected by
changes in market interest rates. Falling interest rates
would tend to reduce the amount of interest earned on our
interest-bearing cash deposits, which could negatively impact
the amount of cash available to pay dividends on preferred
stock and common stock. We are not able to precisely quantify
the potential impact on operating results or funds available
for distribution to stockholders from material changes in
interest rates.
We
had cash and cash equivalents of $65.2 million as of June
30, 2011. These funds were held in interest-bearing
accounts with Aurora Bank. The Federal Deposit Insurance
Corporation (“FDIC”) provides coverage on these
accounts which as of June 30, 2011 was limited to $250,000.
Cash in excess of FDIC coverage limitations is subject to
credit risk.
On
July 19, 2011, we executed an Asset Sale Agreement with
Aurora Bank to purchase certain mortgage backed securities
from Aurora Bank. In accordance with the terms of this
agreement, we purchased $47.6 million in mortgage backed
securities at current fair value. Investments in mortgage
backed securities are subject to credit risk.
Concentration
of credit risk of our loan portfolio primarily arises with
respect to the geographical distribution. Our balance sheet
exposure to geographic concentration directly affects the
credit risk of the loans within our loan portfolio. At June
30, 2011, 39.3% of the carrying value of our mortgage loans
consisted of loans collateralized by properties located in
California. Consequently, the portfolio may experience a
higher default rate in the event of adverse economic,
political or business developments or natural hazards in
California that may affect the ability of property owners
to make payments of principal and interest on the
underlying mortgages. The housing and real estate sectors
in California have been particularly impacted by the
recession with higher overall foreclosure rates than the
national average. If California experiences further adverse
economic, political or business conditions, or natural
hazards, we will likely experience higher rates of loss and
delinquency on our mortgage loans than if our loans were
more geographically diverse.
The
objective of liquidity management is to ensure the
availability of sufficient cash flows to meet all of our
financial commitments. Our principal liquidity need is to pay
dividends on our preferred shares and common shares, however,
our payment of dividends is currently subject to OCC
approval.
If
and to the extent that any additional assets are acquired in
the future, such acquisitions are intended to be funded
primarily through cash on hand and repayment of UPB of loans
by individual borrowers. We do not have and do not anticipate
having any material capital expenditures. To the extent that
the Board of Directors determines that additional funding is
required, we may raise such funds through additional equity
offerings, debt financing or retention of cash flow (after
consideration of provisions of the Internal Revenue Code
requiring the distribution by a REIT of at least 90% of our
net taxable income, excluding net capital gains, and taking
into account taxes that would be imposed on undistributed
income), or a combination of these methods. We do not
currently intend to incur any indebtedness. Our
organizational documents limit the amount of indebtedness
which we are permitted to incur without the approval of the
Series D preferred stockholders to no more than 100% of total
stockholders’ equity. Any such debt may include
intercompany advances made by Aurora Bank to us.
We
may also issue additional series of preferred stock, subject
to OCC approval. However, we may not issue additional shares
of preferred stock ranking senior to the Series D preferred
stock without the consent of holders of at least two-thirds
of the Series D preferred stock outstanding at that time.
Although our charter does not prohibit or otherwise restrict
Aurora Bank or its affiliates from holding and voting shares
of Series D preferred stock, to our knowledge, there were no
shares of Series D preferred stock held by Aurora Bank or its
affiliates as of June 30, 2011. Additional shares of
preferred stock ranking on parity with the Series D preferred
stock may not be issued without the approval of a majority of
our independent directors (as defined in our charter).
24
Our
asset and liability structure is substantially different from
that of an industrial company in that virtually all of our
assets are monetary in nature. Management believes the impact
of inflation on financial results depends upon our ability to
react to changes in interest rates and by such reaction,
reduce the inflationary impact on performance. Interest rates
do not necessarily move in the same direction, or at the same
magnitude, as the prices of other goods and services.
Various
information shown elsewhere in this interim report will
assist the reader in understanding how we are positioned to
react to changing interest rates and inflationary trends. In
particular, the discussion of market risk and other maturity
and repricing information of our assets is contained in
“Item 3. Quantitative and Qualitative Disclosures About
Market Risk” below.
Market
risk is the risk of loss from adverse changes in market
prices and interest rates. It is our objective to attempt to
manage risks associated with interest rate movements. Our
market risk arises primarily from interest rate risk inherent
in holding loans and interest-earning deposits. A period of
rising interest rates would tend to result in an increase in
net interest income and conversely, a period of falling
interest rates would tend to adversely affect net interest
income.
Aurora
Bank actively monitors our interest rate risk exposure
pursuant to the AA. Aurora Bank reviews, among other things,
the sensitivity of our assets to interest rate changes, the
book and market values of assets, purchase and sale activity,
and anticipated loan pay-offs. Aurora Bank’s senior
management also approves and establishes pricing and funding
decisions with respect to our overall asset and liability
composition.
Our
methods for evaluating interest rate risk include an analysis
of our interest-earning assets maturing or repricing within a
given time period. As of June 30, 2011, only interest-earning
assets were evaluated as we have no interest-bearing
liabilities.
The
following table sets forth our interest-rate-sensitive assets
categorized by repricing or maturity dates and weighted
average yields at June 30, 2011. For fixed rate instruments,
the repricing date is the maturity date. For adjustable-rate
instruments, the repricing date is deemed to be the earliest
possible interest rate adjustment date. Assets that are
subject to immediate repricing are placed in the overnight
column. The adjustable-rate loans within our portfolio are
repriced based on 1 year LIBOR and 1 year Constant Maturity
Treasury Rates.
June
30, 2011
|
||||||||||||||||||||||||||||||||||||
Overnight
|
Within
One
Year
|
Over
One
to
Two
Years
|
Over
Two
to
Three
Years
|
Over
Three
to
Four
Years
|
Over
Four
to
Five
Years
|
Over
Five
Years
|
Total
|
Fair
Value
|
||||||||||||||||||||||||||||
(In
Thousands)
|
||||||||||||||||||||||||||||||||||||
Interest-bearing
deposits
|
$ | 65,248 | $ | — | $ | — | $ | — | $ | — | $ | — | $ | — | $ | 65,248 | $ | 65,248 | ||||||||||||||||||
1.03 | % | |||||||||||||||||||||||||||||||||||
Fixed-rate
loans (1)
|
— | 1,032 | 856 | 848 | 732 | 641 | 4,275 | 8,384 | 6,082 | |||||||||||||||||||||||||||
4.64 | % | 4.52 | % | 4.67 | % | 5.03 | % | 4.58 | % | 4.41 | % | |||||||||||||||||||||||||
Adjustable-rate
loans (1)
|
— | 19,422 | — | — | — | — | — | 19,422 | 14,971 | |||||||||||||||||||||||||||
3.34 | % | |||||||||||||||||||||||||||||||||||
Total
rate-sensitive assets
|
$ | 65,248 | $ | 20,454 | $ | 856 | $ | 848 | $ | 732 | $ | 641 | $ | 4,275 | $ | 93,054 | $ | 86,301 |
(1)
Loans are presented at UPB and exclude non-accrual
loans.
At
June 30, 2011, the fair value of net loans was $21.1 million
with a UPB of $27.8 million and 71% of the fair value of
loans in accrual status of our portfolio were floating rate
loans with contractual interest rates that may fluctuate
based on changes in market interest rates. Based on our
experience, management applies the assumption that, on
average, 33.3% and 11.1% of residential and commercial loans,
respectively, will prepay annually. The fair value of
interest-bearing deposits approximates carrying value.
25
Our
management, with the participation of our President and Chief
Financial Officer, evaluated the effectiveness of our
disclosure controls and procedures (as defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of
1934, as amended (the “Exchange Act”)), as of
June 30, 2011. Based on this evaluation, our President and
Chief Financial Officer concluded that, as of June 30, 2011,
our disclosure controls and procedures were (1) designed to
ensure that material information relating to EOS is made
known to the President and Chief Financial Officer by others
within the entity, particularly during the period in which
this report was being prepared, and (2) effective, in that
they provide reasonable assurance that information required
to be disclosed by us in the reports that we file or submit
under the Exchange Act is recorded, processed, summarized,
and reported within the time periods specified in the
SEC’s rules and forms.
No
change to our internal control over financial reporting (as
defined in Rules 13a-15(f) and 15d-15(f) under the Exchange
Act) occurred during the quarter ended June 30, 2011 that has
materially affected, or is reasonably likely to materially
affect, our internal control over financial reporting.
26
From
time to time, we may be involved in routine litigation
incidental to our business, including a variety of legal
proceedings with borrowers, which would contribute to our
expenses, including the costs of carrying non-accrual
loans. We are currently not a party to any material pending
legal proceedings.
A number of risk
factors, including, without limitation, the risk factors
found in Item 1A of our Annual Report on Form 10-K for the
annual period ended December 31, 2010, may cause our actual
results to differ materially from anticipated future
results, performance or
achievements expressed or implied in any forward-looking
statements contained in this Quarterly Report on Form
10-Q or any other report filed by us with the SEC.
All of
these factors should be carefully reviewed, and the reader of
this Quarterly Report on Form
10-Q should be aware that there may be other factors
that could cause
difference in future results, performance or
achievements.
No
additional risk factors have emerged during the quarter ended
June 30, 2011.
Not
applicable.
Not
applicable.
Not
applicable.
10.1
|
Asset
Sale Agreement dated July 28, 2011 between EOS and
Aurora Bank *
|
|
31.1
|
Certification
pursuant to Exchange Act Rules 13a-15(e) and
15d-15(e) of the President.
|
|
31.2
|
Certification
pursuant to Exchange Act Rules 13a-15(e) and
15d-15(e) of the Chief Financial Officer.
|
|
32
|
Certification
pursuant to 18 U.S.C. Section 1350 of the President
and Chief Financial Officer.
|
* Incorporated by reference herein from the exhibit of the same description filed on August 3, 2011 on Form 8-K. |
27
Pursuant
to the requirements of the Securities Exchange Act of 1934,
EOS Preferred Corporation has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly
authorized.
EOS
PREFERRED CORPORATION
Date:
August 12, 2011
|
By:
|
/s/ Brian Kuelbs | |
Brian
Kuelbs
|
|||
President
(Principal Executive Officer)
|
|||
Date:
August 12, 2011
|
By:
|
/s/ Robert J. Leist, Jr. | |
Robert
J. Leist, Jr.
|
|||
Chief
Financial Officer (Principal Financial
Officer)
|
EXHIBIT
INDEX
Exhibit
|
Item
|
|
10.1
|
Asset
Sale Agreement dated July 28, 2011 between EOS and
Aurora Bank *
|
|
31.1
|
Certification
pursuant to Exchange Act Rules 13a-15(e) and
15d-15(e) of the President.
|
|
31.2
|
Certification
pursuant to Exchange Act Rules 13a-15(e) and
15d-15(e) of the Chief Financial Officer.
|
|
32
|
Certification
pursuant to 18 U.S.C. Section 1350 of the President
and Chief Financial Officer.
|
*
Incorporated by reference herein from the exhibit of the same
description filed on August 3, 2011 on Form 8-K.