Securities and Exchange Commission
Washington, D.C. 20549
Form 10-Q
Quarterly Report under Section 13 or 15 (d)
Of The Securities Exchange Act of 1934
For the Quarter Ended: September 30, 2002 Commission File Number: 000-23745
BNP U.S. FUNDING L.L.C.
--------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 13-3972207
-------- ----------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or organization)
787 Seventh Avenue, New York, New York
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(Address of principal executive offices)
10019
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(Zip Code)
(212) 841-2000
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(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 [ ]
Common Stock, $10,000 Par Value 53,011
------------------------------- ------
Number of shares outstanding of the issuer's class of common stock on
September 30, 2002
Form 10-Q Index
Part I Page
----
Item 1. Financial Statements - BNP U.S. FUNDING L.L.C.:
Balance Sheet at September 30, 2002, and December 31, 2001 3
Statement of Income for the Three and Nine months ended
September 30, 2002, and September 30, 2001 4
Statement of Comprehensive Income for the Nine
months ended September 30, 2002, and September 30, 2001 5
Statement of Changes in Redeemable Common Securities, Preferred
Securities and Securityholders' Equity for the Nine months
ended September 30, 2002, and September 30, 2001 6
Statement of Cash Flows for the Nine months ended September 30,
2002, and September 30, 2001 7
Notes to Financial Statements 8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 16
Item 3. Quantitative and Qualitative Disclosures about Market Risk 20
Part II
Item 1. Legal Proceedings 24
Item 2. Changes in Securities and Use of the Proceeds 24
Item 3. Defaults Upon Senior Securities 24
Item 4. Submission of Matters to a Vote of Securityholders 24
Item 5. Other Information 24
Item 6. Exhibits and Current Reports on Form 8-K 24
Part I Item 1.
BNP U.S. FUNDING L.L.C.
BALANCE SHEET
(in thousands, except per share data)
September 30, 2002 December 31, 2001
(unaudited) (audited)
------------------ -----------------
ASSETS:
Cash and cash equivalents $ 29,156 $ 31,084
Investment securities (Notes 3 and 4)
Available-for-sale, at fair value 1,006,935 905,989
Receivable arising from payment for securities,
pursuant to the application of SFAS 125, as replaced by SFAS
140 (Note 3) 103,378 135,255
Accounts receivable 1,118 2,171
Accrued interest receivable 7,859 7,324
------------ ------------
TOTAL ASSETS $ 1,148,446 $ 1,081,823
============ ============
LIABILITIES:
Accrued interest payable 951 1,178
Accrued expenses 311 137
Payable for securities purchased --- 9,802
Other liabilities 76,874 19,004
------------ ------------
TOTAL LIABILITIES 78,136 30,121
------------ ------------
Redeemable common securities, par value and redeemable
value $10,000 per security; 150,000 securities
authorized, 53,011 securities issued and outstanding
(Note 5) 530,110 530,110
Preferred securities, liquidation preference $10,000 per
security; 150,000 securities authorized, 50,000
securities issued and outstanding 500,000 500,000
Additional paid in capital 6 6
Accumulated other comprehensive income 25,653 13,430
Retained earnings 14,541 8,156
------------ ------------
TOTAL REDEEMABLE COMMON SECURITIES, PREFERRED SECURITIES
AND SECURITYHOLDERS' EQUITY 1,070,310 1,051,702
------------ ------------
TOTAL LIABILITIES AND TOTAL REDEEMABLE COMMON SECURITIES,
PREFERRED SECURITIES AND SECURITYHOLDERS' EQUITY $ 1,148,446 $ 1,081,823
============ ============
The accompanying Notes to Financial Statements are an integral part of these
Statements.
BNP U.S. FUNDING L.L.C.
STATEMENT OF INCOME
(in thousands, except per share data)
Three-month period Three-month period
ended ended
September 30, 2002 September 30, 2001
(unaudited) (unaudited)
------------------- ------------------
INTEREST INCOME:
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 203 $ 708
Fixed-Rate REMICs 820 777
Mortgage Backed Securities:
Agency ARMs 416 939
Agency Hybrid ARMs 578 1,309
Agency DUSs 1,654 2,906
Agency Debentures 4,154 5,725
Interest on Deposits 144 563
------ ------
Total 7,969 12,927
------ ------
NONINTEREST EXPENSE:
Fees and expenses 334 320
------ ------
NET INCOME APPLICABLE TO PREFERRED AND REDEEMABLE COMMON
SECURITIES $ 7,635 $ 12,607
============ ===========
NET INCOME PER REDEEMABLE COMMON SECURITY $ 144.03 $ 237.82
============ ===========
Nine-month period Nine-month period
ended ended
September 30, 2002 September 30, 2001
(unaudited) (unaudited)
------------------ ------------------
INTEREST INCOME:
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 802 $ 2,977
Fixed-Rate REMICs 2,450 2,395
Mortgage Backed Securities:
Agency ARMs 1,650 3,339
Agency Hybrid ARMs 2,112 4,473
Agency DUSs 4,638 10,516
Agency Debentures 14,763 17,833
Interest on Deposits 509 1,493
------ ------
Total 26,924 43,026
------ ------
NONINTEREST EXPENSE:
Fees and expenses 1,194 939
------ ------
Cumulative effect of the change in accounting principle for
Derivatives and Hedging activities (SFAS133) --- 939
------ ------
NET INCOME APPLICABLE TO PREFERRED AND REDEEMABLE COMMON
SECURITIES $ 25,730 $ 43,026
============ ===========
NET INCOME PER REDEEMABLE COMMON SECURITY $ 120.45 $ 446.72
============ ===========
The accompanying Notes to Financial Statements are an integral part of these
Statements.
BNP U.S. FUNDING L.L.C.
STATEMENT OF COMPREHENSIVE INCOME
(in thousands)
Three-month period Three-month period
ended ended
September 30, 2002 September 30, 2001
(unaudited) (unaudited)
------------------ ------------------
NET INCOME $ 7,635 $ 12,607
OTHER COMPREHENSIVE INCOME:
Net change in unrealized gain (loss)
in fair value of available-for-sale
securities that are not treated as collateral
(Note 3) and that are not hedged by
derivative instruments 11,193 9,189
------------ -----------
COMPREHENSIVE INCOME $ 18,828 $ 21,796
============ ===========
Nine-month period Nine-month period
ended ended
September 30, 2002 September 30, 2001
(unaudited) (unaudited)
------------------ ------------------
NET INCOME $ 25,730 $ 43,026
OTHER COMPREHENSIVE INCOME:
Net change in unrealized gain (loss) in fair value of
available-for-sale securities that are not treated
as collateral (Note 3) and that are not hedged by
derivative instruments 12,223 11,823
Transition adjustment pursuant to the application of
SFAS 133 --- (939)
------------ -----------
OTHER COMPREHENSIVE INCOME 12,223 10,884
------------ -----------
COMPREHENSIVE INCOME $ 37,953 $ 53,910
============ ===========
The accompanying Notes to Financial Statements are an integral part of these
Statements.
BNP U.S. FUNDING L.L.C.
STATEMENT OF CHANGES IN REDEEMABLE COMMON SECURITIES, PREFERRED SECURITIES AND SECURITYHOLDERS' EQUITY
(in thousands)
TOTAL REDEEMABLE
ACCUMULATED COMMON SECURITIES,
REDEEMABLE ADDITIONAL OTHER PREFERRED SECURITIES
COMMON PREFERRED PAID IN COMPREHENSIVE RETAINED AND SECURITYHOLDERS'
SECURITIES SECURITIES CAPITAL INCOME EARNINGS EQUITY
---------- ---------- ---------- ------------- -------- --------------------
Balance at December 31, 2000 530,110 500,000 6 3,739 5,288 1,039,143
----------- ----------- ----------- ----------- ----------- -----------
Net income 43,026 43,026
Other comprehensive income 10,884 10,884
Dividends Paid - Preferred
Securities (19,345) (19,345)
Dividends Paid--Common
Securities -- -- -- -- (10,719) (10,719)
----------- ----------- ----------- ----------- ----------- -----------
Balance at September 30, 2001 $ 530,110 $ 500,000 $ 6 $ 14,623 $ 18,250 $ 1,062,989
=========== =========== =========== =========== =========== ===========
Balance at December 31, 2001 530,110 500,000 6 13,430 8,156 1,051,702
----------- ----------- ----------- ----------- ----------- -----------
Net income 25,730 25,730
Other comprehensive income 12,223 12,223
Dividends Paid - Preferred
Securities (19,345) (19,345)
Dividends Paid--Common
Securities -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- -----------
Balance at September 30, 2002 $ 530,110 $ 500,000 $ 6 $ 25,653 $ 14,541 $ 1,070,310
=========== =========== =========== =========== =========== ===========
The accompanying Notes to Financial Statements are an integral part of these
Statements.
BNP U.S. FUNDING L.L.C.
STATEMENT OF CASH FLOWS
(in thousands)
Nine-month period Nine-month period
ended ended
September 30, 2002 September 30, 2001
(unaudited) (unaudited)
------------------ ------------------
OPERATING ACTIVITIES:
Net income $ 25,730 $ 43,026
Adjustments to reconcile net income to cash provided by operating activities:
Premium amortization 1,127 887
Net change in interest receivable (535) 657
Net change in accounts receivable 1,053 ---
Net change in accrued expenses 174 154
Net change in accrued interest payable (227) ---
Net change in payable for securities purchased (9,802) 9,821
Gain on hedge activity (1,287) (1,526)
Cumulative effect of the change in accounting principle for
derivatives and hedging activities (SFAS 133) -- (939)
-------- --------
Net cash provided by operating activities 16,233 52,080
-------- --------
INVESTING ACTIVITIES:
Purchase of investment securities:
Agency Debentures (9,961) (39,982)
Agency DUSs (48,766) (39,468)
Agency Fixed Rate REMICs (10,000) --
Proceeds from principal payments of securities available-for-sale,
not treated as collateral 31,305 40,419
Proceeds from principal payments of securities available-for-sale,
treated as collateral 38,606 41,908
-------- --------
Net cash provided by investing activities 1,184 2,877
-------- --------
FINANCING ACTIVITIES:
Cash dividends - preferred securities (19,345) (19,345)
Cash dividends - common securities -- (10,719)
-------- --------
Net cash used by financing activities (19,345) (30,064)
-------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (1,928) 24,893
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 31,084 30,373
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 29,156 $ 55,266
======== ========
NONCASH FINANCING AND INVESTING ACTIVITIES:
Decrease in receivable arising from payment for securities, pursuant
to the application of SFAS #125, as replaced by SFAS 140, (Note 3) 31,877 42,664
The accompanying Notes to Financial Statements are an integral part of these
Statements.
FORWARD LOOKING DISCLOSURE STATEMENT
From time to time, the company may publish, verbally or in written form,
forward-looking statements relating to such matters as anticipated financial
performance, economic conditions, interest rate levels, investment prospects and
similar matters. In fact, this quarterly report on Form 10-Q (or any other
periodic reporting documents required by the Securites Exchange Act of 1934 Act,
as amended) may contain forward-looking statements reflecting the current views
of the Company concerning potential future events or developments. The Private
Securities Litigation Reform Act of 1995 (the "Act") provides a "safe harbor"
for forward-looking statements. In order to comply with the terms of the "safe
harbor," the Company cautions investors that any forward-looking statements made
by the Company are not guarantees of future performance and that a variety of
factors could cause the Company's actual results and experience to differ
materially from the anticipated results or other expectations expressed in the
Company's forward-looking statements. The risks and uncertainties which may
affect the operations, performance, development and results of the Company's
business include, but are not limited to, the following: uncertainties relating
to economic conditions and interest rate levels, and uncertainties relating to
government and regulatory policies. Readers are cautioned not to place undue
reliance on these forward-looking statements, which speak only as of the date
the statement was made.
NOTE 1--ORGANIZATION AND BASIS OF PRESENTATION
BNP U.S. Funding L.L.C. (the "Company" or the "Registrant") is a Delaware
limited liability company formed on October 14, 1997 for the purpose of
acquiring and holding certain types of eligible securities that generate net
income for distribution to the holders of its Series A Preferred Securities (as
defined below) and its redeemable Common Securities (as defined below). The
Company has no subsidiaries and is a wholly owned subsidiary of the New York
Branch (the "Branch") of BNP PARIBAS (formerly, Banque Nationale de Paris), a
societe anonyme or limited liability corporation organized under the laws of the
Republic of France (the "Bank", "BNP PARIBAS" or "BNPP"). The Company was
continued pursuant to the Amended and Restated Limited Liability Company
Agreement of the Company (the "Company's Charter" or the "Charter") entered into
on December 5, 1997 by the Branch.
The Company was initially capitalized on October 14, 1997 with the issuance to
the Branch of one share of the Company's redeemable common securities, $10,000
par value (the "Common Securities"). On December 5, 1997 (inception), the
Company commenced operations concurrent with the issuance of 50,000 Series A,
liquidation preference $10,000 per security, (the "Series A Preferred
Securities") to qualified institutional buyers pursuant to Rule 144A under the
Securities Act of 1933, as amended, and the issuance of an additional 53,010
Common Securities to the Branch. These issuances raised in the aggregate
$1,030,115,873 of net capital (including $5,873 of additional paid in capital).
This entire amount was used to acquire a portfolio of debt securities (the
"Initial Portfolio") at their fair values from the Branch.
The Company entered into a services agreement (the "Services Agreement") with
the Branch on December 5, 1997 pursuant to which the Branch maintains the
securities portfolio of the Company (the "Portfolio") and performs other
administrative functions. All of the Company's officers and employees are
officers or employees of the Branch or the Bank. The securities in the Portfolio
are held by Citibank N.A., acting as trustee (the "Trustee") under the trust
agreement between the Company and Citibank N.A. dated December 1, 1997 (the
"Trust Agreement").
NOTE 2--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
INVESTMENT SECURITIES:
Investments in debt securities are classified as available-for-sale and are
carried at fair value. The debt securities can be categorized as hedged or
non-hedged securities. For the hedged securities, changes in the fair market
value of both the securities and the derivatives used as hedging instruments
(cross currency and interest rate swaps) are reported in current earnings in the
Statement of Income, pursuant to application of SFAS 133, (see below,
"Accounting for Derivatives and Hedging Activities"). Unrealized gains and
losses on the non-hedged securities are reported as a component of "Other
Comprehensive Income".
Interest on securities is included in interest income and is recognized using
the interest method. Premiums and discounts are amortized using the effective
interest method and are recognized in interest income.
CASH AND CASH EQUIVALENTS:
Cash and cash equivalents include cash and short-term deposits with original
maturities of three months or less.
DIVIDENDS:
Dividends on the Series A Preferred Securities, when, as and if declared by the
Company's Board of Directors, are payable semi-annually in arrears on a
non-cumulative basis on the fifth day of June and December of each year,
commencing June 5, 1998, at a rate per annum of 7.738% of the liquidation
preference through and including December 5, 2007. Thereafter, dividends, when,
as and if declared by the Company's Board of Directors, will be payable
quarterly in arrears on the third Wednesday of March, June, September, and
December of each year and will be calculated on a weekly basis in each quarter
at a rate per annum of the liquidation preference equal to 2.8% per annum above
one-week LIBOR for the week concerned as determined on the related LIBOR
Determination Date. Holders of Common Securities are entitled to receive
dividends when, as and if declared by the Company's Board of Directors out of
the Company's net income not required to be applied to fund dividends with
respect to the Series A Preferred Securities.
To date, the Company has declared and paid dividends as follows:
Security Amount Date Paid
- ----------------------------- -------------- -------------------
Series A Preferred Securities $ 19,345,000 June 5, 1998
Common Securities $ 5,347,365 June 22, 1998
Series A Preferred Securities $ 19,345,000 December 5, 1998
Common Securities $ 8,787,127 December 15, 1998
Series A Preferred Securities $ 19,345,000 June 5, 1999
Common Securities $ 8,454,284 June 15, 1999
Series A Preferred Securities $ 19,345,000 December 5, 1999
Common Securities $ 10,352,672 December 15, 1999
Series A Preferred Securities $ 19,345,000 June 5, 2000
Common Securities $ 12,508,486 June 19, 2000
Series A Preferred Securities $ 19,345,000 December 5, 2000
Common Securities $ 14,792,297 December 19, 2000
Series A Preferred Securities $ 19,345,000 June 5, 2001
Common Securities $ 10,718,708 June 19, 2001
Series A Preferred Securities $ 19,345,000 December 5, 2001
Series A Preferred Securities $ 19,345,000 June 5, 2002
If the Bank's financial condition were to deteriorate with the consequence that
a Shift Event (as defined below) were to occur, substantially all of the Common
Securities would be redeemed automatically without prior redemption of the
Series A Preferred Securities and dividends payable on each Series A Preferred
Security could be substantially reduced or completely eliminated. In addition,
if the Bank's Tier 1 risk-based capital ratio were to decline below the minimum
percentage required by French banking regulations (currently 4%), the Company
would pay a special dividend consisting of all of the Company's net assets
(other than assets having a total market value of approximately $40 million) to
the Bank as holder of the Common Securities.
A "Shift Event" would be deemed to have occurred if (i) the Bank's total
risk-based capital ratio or Tier 1 risk-based capital ratio were to decline
below the minimum percentages required by French banking regulations, (ii) the
Bank were to become subject to certain specified receivership proceedings or
(iii) the French Banking Commission (Commission bancaire), in its sole
discretion, were to notify the Bank and the Company that it has determined that
the Bank's financial condition was deteriorating such that either of the
foregoing clauses (i) or (ii) would apply in the near term. French banking
regulations currently require French banks to maintain a minimum total
risk-based capital ratio of at least 8.0% and a minimum Tier 1 risk-based
capital ratio of at least 4.0%.
The Company may not pay dividends or make other distributions on the Common
Securities or the Series A Preferred Securities if, after giving effect to the
distributions, the Company's liabilities would exceed the fair value of its
assets. Additionally, as long as any Series A Preferred Securities are
outstanding, except during a Shift Period (i.e., following the occurrence of a
Shift Event causing a shift in dividend preference and before the termination
thereof), the amount of dividends on the Common Securities in any fiscal year
may not exceed the amount by which the net income of the Company for such fiscal
year exceeds the stated dividends on the Series A Preferred Securities scheduled
to be paid during such fiscal year irrespective of whether dividends on the
Series A Preferred Securities are in fact declared and paid. Additionally, other
than during a Shift Period, no dividends may be declared, paid or set apart for
payment on the Common Securities (a) with respect to any period of time included
in any Dividend Period unless full dividends have been or contemporaneously are
declared and paid, or declared and a sum sufficient for the payment thereof is
set apart for such payment on the Series A Preferred Securities for the
then-current Dividend Period and (b) the Company may not declare, pay or set
apart funds for any dividends or other distributions with respect to any Common
Securities unless and until (x) full dividends on the Series A Preferred
Securities for the two most recent preceding Dividend Periods are declared and
paid, or declared and a sum sufficient for payment has been paid over to the
dividend disbursing agent for payment of such dividends and (y) the Company has
declared a cash dividend on the Series A Preferred Securities at the annual
dividend rate for the then-current Dividend Period, and sufficient funds have
been paid over to the dividend disbursing agent for payment of such cash
dividends for such then-current Dividend Period.
NET INCOME PER REDEEMABLE COMMON SECURITY:
Net income per redeemable common security is calculated by dividing net income
after preferred dividends by the weighted average number of Common Securities
outstanding.
INCOME TAXES:
The Company expects to be treated as a partnership for U.S. Federal income tax
purposes. As a partnership is not a taxable entity, the Company will not be
subject to U.S. federal, state and local income tax on its income. Instead, each
securityholder is required to take into account its allocable share of items of
income, gain, loss and deduction of the partnership in computing its U.S.
Federal tax liability. Accordingly, the Company has made no provision for income
taxes in the accompanying statement of income.
ACCOUNTING FOR DERIVATIVES AND HEDGING ACTIVITIES:
SFAS 133 requires that an entity measure all derivatives at fair value and
recognize those derivatives as either assets or liabilities on the balance
sheet. The change in the derivative's fair value is generally to be recognized
in current period earnings. However, if certain conditions are met, a derivative
may be specifically designated as a hedge of an exposure to changes in fair
value, variability of cash flows, or certain foreign currency exposures.
The Company has made an assessment of all their financial instruments and
concluded that it holds freestanding derivative instruments but no embedded
derivative instruments at September 30, 2002. As part of its asset management
activities the Company uses foreign exchange and interest rate swaps to modify
the interest rate and foreign exchange characteristics of existing assets. The
interest rate swaps have a high correlation between the instrument and the asset
being hedged, both at inception and throughout the hedge period.
The Company adopted SFAS 133 as of January 1, 2001. The SFAS 133 transition
adjustments resulted in a cumulative-effect-type adjustment of $938,670 and
$(938,670) to net income and accumulated other comprehensive income,
respectively, as of January 1, 2001.
FOREIGN CURRENCY TRANSLATION:
Assets denominated in foreign currencies are translated to US dollars using
applicable rates of exchange.
All of the Company's assets denominated in a foreign currency are included in
its available-for-sale securities portfolio and their foreign currency exchange
risk is hedged by means of cross-currency swaps. In accordance with the
requirements of SFAS 133, the change in fair value, due to the change in the
foreign currency exchange rate, of both the hedged securities and the hedging
instruments is recorded in current period earnings.
Revenues and expenses are translated monthly at amounts which approximate
weighted average exchange rates.
RECLASSIFICATION:
Certain amounts have been reclassified to conform with current year
presentation.
NOTE 3--RECEIVABLE ARISING FROM PAYMENT FOR SECURITIES, PURSUANT TO THE
APPLICATION OF SFAS 125, AS REPLACED BY SFAS 140:
Statement of Financial Accounting Standards No. 140, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities" ("SFAS
140") governs the accounting for the transfer of financial assets. Under SFAS
140 transfers of financial assets that do not meet certain sale accounting
requirements must be accounted for as a secured borrowing transaction with a
pledge of collateral.
Due to the potential consequences of a Shift Event (as described above), the
Company's purchase of the Initial Portfolio from the Branch did not meet certain
SFAS 125, as replaced by SFAS 140, sale accounting requirements. Therefore, the
purchase of the Initial Portfolio has been accounted for as a secured borrowing
transaction with a pledge of collateral. In accounting for this transaction as a
secured borrowing transaction in accordance with SFAS 125, as replaced by SFAS
140, the Company has recorded a receivable in an amount equal to the remaining
amount paid to the Branch to acquire the Initial Portfolio. In this case,
however, having delivered the securities in the Initial Portfolio to the
Company, neither the Branch nor BNPP has any further obligation to the Company
to repay any part of the purchase price for the Initial Portfolio or otherwise
to repurchase or redeem any securities in the Initial Portfolio.
The Company has not sold or repledged the collateral; the securities within the
Initial Portfolio mature or prepay over time. As they do, the Company recognizes
the cash proceeds as a reduction in the receivable arising from payment for
securities. The collateral at September 30, 2002 and December 31, 2001 is
reported in Note 4 below.
NOTE 4--INVESTMENT SECURITIES:
The amortized cost and estimated fair value of available-for-sale securities
were as follows ($ in 000's) based on management's assumptions:
Gross Gross
Amortized Unrealized Unrealized
September 30, 2002 Non-Collateral Cost Gains Losses Fair Value
- --------------------------------- --------- ----------- ----------- -----------
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 8,108 $ 79 $ 4 $ 8,183
Fixed-Rate REMICs 10,694 1,679 -- 12,373
Mortgage Backed Securities:
Agency ARMs 17,556 312 -- 17,868
Agency Hybrid ARMs 22,265 260 142 22,383
Agency DUSs 357,218 51,495 -- 408,713
Agency Debentures 486,239 51,176 -- 537,415
---------- ---------- ---------- ----------
Total $ 902,080 $ 105,001 $ 146 $1,006,935
========== ========== ========== ==========
Gross Gross
Amortized Unrealized Unrealized
September 30, 2002 Collateral Cost Gains Losses Fair Value
- ----------------------------- --------- ----------- ----------- -----------
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 21,904 $ 55 $ 112 $ 21,847
Fixed-Rate REMICs 46,837 2,666 -- 49,503
Mortgage Backed Securities:
Agency ARMs 12,481 166 32 12,615
Agency Hybrid ARMs 22,156 301 8 22,449
Agency DUSs -- -- -- --
Agency Debentures -- -- -- --
---------- ---------- ---------- ----------
Total $ 103,378 $ 3,188 $ 152 $ 106,414
========== ========== ========== ==========
September 30, 2002 Total Portfolio $1,005,458 $ 108,189 $ 298 $1,113,349
========== ========== ========== ==========
Gross Gross
Amortized Unrealized Unrealized
December 31, 2001 Non-Collateral Cost Gains Losses Fair Value
- -------------------------------- --------- ----------- ----------- -----------
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 18,943 $ 17 $ 18 $ 18,942
Fixed-Rate REMICs 897 25 -- 922
Mortgage Backed Securities:
Agency ARMs 27,785 914 -- 28,699
Agency Hybrid ARMs 37,258 1,488 69 38,677
Agency DUSs 311,110 17,588 -- 328,698
Agency Debentures 476,520 19,009 5,478 490,051
-------- -------- -------- --------
Total $872,513 $ 39,041 $ 5,565 $905,989
======== ======== ======== ========
Gross Gross
Amortized Unrealized Unrealized
December 31, 2001 Collateral Cost Gains Losses Fair Value
- ---------------------------- --------- ----------- ----------- -----------
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 33,266 $ 168 $ 102 $ 33,332
Fixed-Rate REMICs 46,814 1,199 -- 48,013
Mortgage Backed Securities:
Agency ARMs 20,078 535 16 20,597
Agency Hybrid ARMs 35,097 1,340 -- 36,437
Agency DUSs -- -- -- --
Agency Debentures -- -- -- --
---------- ---------- ---------- ----------
Total $ 135,255 $ 3,242 $ 118 $ 138,379
========== ========== ========== ==========
December 31, 2001 Total Portfolio $1,007,768 $ 42,283 $ 5,683 $1,044,368
- --------------------------------- ========== ========== ========== ==========
The breakdown of the Company's available-for-sale securities by category and
expected weighted average life distribution (stated in terms of amortized cost)
is summarized below ($ in 000's) based on management's prepayment assumptions:
Due after 1 Due after 5
Due in 1 year through 5 through 10 Due after 10
September 30, 2002 Non-Collateral or less years years years Total
- --------------------------------- ------------- ----------- ----------- ------------ ----------
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 6,480 $ 1,628 $ --- $ --- $ 8,108
Fixed-Rate REMICs 694 10,000 --- --- 10,694
Mortgage Backed Securities:
Agency ARMs 58 17,498 --- --- 17,556
Agency Hybrid ARMs 5,219 17,046 --- --- 22,265
Agency DUSs --- 154,614 202,604 --- 357,218
Agency Debentures --- 426,239 60,000 --- 486,239
----------- ----------- ----------- ---------- -----------
Total $ 12,451 $ 627,025 $ 262,604 $ $ 902,080
=========== =========== =========== ========== ===========
Due after 1 Due after 5
Due in 1 year through 5 through 10 Due after 10
September 30, 2002 Collateral or less years years years Total
- ----------------------------- ------------- ----------- ----------- ------------ -------
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 1,123 $ 20,781 $ --- $ --- $ 21,904
Fixed-Rate REMICs --- 46,837 --- --- 46,837
Mortgage Backed Securities:
Agency ARMs 536 9,929 1,387 629 12,481
Agency Hybrid ARMs --- 22,156 --- --- 22,156
Agency DUSs --- --- --- --- ---
Agency Debentures --- --- --- --- ---
----------- ----------- ----------- ---------- -----------
Total $ 1,659 $ 99,703 $ 1,387 $ 629 $ 103,378
=========== =========== =========== =========== =============
September 30, 2002 Total Portfolio $ 14,110 $ 726,728 $ 263,991 $ 629 $ 1,005,458
- ---------------------------------- =========== =========== =========== ========== ===========
Due after 1 Due after 5
Due in 1 year through 5 through 10 Due after 10
December 31, 2001 Non-Collateral or less years years years Total
- ---------------------------------- ------------- ----------- ----------- ------------ -----------
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 3,192 $ 15,751 $ --- $ --- $ 18,943
Fixed-Rate REMICs --- 897 --- --- 897
Mortgage Backed Securities:
Agency ARMs 241 27,544 --- --- 27,785
Agency Hybrid ARMs --- 37,258 --- --- 37,258
Agency DUSs --- 76,169 234,941 --- 311,110
Agency Debentures --- 216,804 259,716 --- 476,520
----------- ----------- ----------- ---------- -----------
Total $ 3,433 $ 374,423 $ 494,657 $ --- $ 872,513
=========== =========== =========== ========== ===========
Due after 1 Due after 5
Due in 1 year through 5 through 10 Due after 10
December 31, 2001 Collateral or less years years years Total
- ---------------------------- ------------- ----------- ----------- ------------ -----------
Collateralized Mortgage Obligations:
Floating-Rate REMICs $ 3,360 $ 29,906 $ --- $ --- $ 33,266
Fixed-Rate REMICs --- 46,814 --- --- 46,814
Mortgage Backed Securities:
Agency ARMs 1,376 17,435 --- 1,267 20,078
Agency Hybrid ARMs --- 35,097 --- --- 35,097
Agency DUSs --- --- --- --- ---
Agency Debentures --- --- --- --- ---
----------- ----------- ----------- ---------- -----------
Total $ 4,736 $ 129,252 $ --- $ 1,267 $ 135,255
=========== =========== =========== ========== ===========
December 31, 2001 Total Portfolio $ 8,169 $ 503,675 $ 494,657 $ 1,267 $ 1,007,768
- --------------------------------- =========== =========== =========== ========== ===========
Actual maturities may differ from maturities shown above due to prepayments.
The breakdown of the Company's available-for-sale securities by category and
yield is summarized below. The yield on Agency Debentures is based on U.S.
dollar denominated securities which excludes the Japanese Yen denominated
securities. The yield after hedging does include the Japanese Yen denominated
securities.
Due after 1 Due after 5
Due in 1 year through 5 through 10 Due after 10 Yield after
September 30, 2002 or less years years years Total Hedging
- ------------------ -------------- -------------- ------------ -------------- ------------ -------------
Collateralized Mortgage Obligations:
Floating-Rate REMICs 3.06% 2.62% ---% ---% 2.76% 2.76%
Fixed-Rate REMICs 4.96 6.53 --- --- 6.51 6.08
Mortgage Backed Securities:
Agency ARMs 2.16 6.17 5.18 4.86 5.97 5.97
Agency Hybrid ARMs 5.32 5.03 --- --- 5.07 5.07
Agency DUSs --- 6.86 6.08 --- 6.37 1.90
Agency Debenture --- 6.20 --- --- 6.20 4.04
-------- -------- -------- -------- ---------- --------
Total 3.89% 6.10% 6.07% 4.86% 6.03% 3.53%
======== ======== ======== ======== ========== ========
Due after 1 Due after 5
Due in 1 year through 5 through 10 Due after 10 Yield after
September 30, 2001 or less years years years Total Hedging
- ------------------ -------------- -------------- ------------ -------------- ------------ -------------
Collateralized Mortgage Obligations:
Floating-Rate REMICs 5.03% 5.43% ---% ---% 5.33% 5.33%
Fixed-Rate REMICs 7.25 6.50 --- --- 6.51 6.51
Mortgage Backed Securities:
Agency ARMs 6.91 6.54 --- 7.33 6.56 6.56
Agency Hybrid ARMs --- 6.19 6.43 --- 6.19 6.19
Agency DUSs --- 7.18 6.23 --- 6.36 5.42
Agency Debentures --- 6.57 6.46 --- 6.53 4.70
-------- -------- -------- -------- ---------- --------
Total 5.25% 6.35% 6.32% 7.33% 6.32% 5.43%
======== ======== ======== ======== ========== ========
NOTE 5--REDEEMABLE COMMON SECURITIES:
General
The Company is authorized to issue up to 150,000 Common Securities; as of
September 30, 2002 and December 31, 2001, the Company had outstanding 53,011
Common Securities, all of which were held by the Branch. The Bank has agreed
with the Company in the Contingent Support Agreement that, so long as any Series
A Preferred Securities are outstanding, it will maintain direct or indirect
ownership of 100% of the outstanding Common Securities.
Dividends
Holders of Common Securities are entitled to receive dividends when, as and if
declared by the Company's Board of Directors out of the Company's net income not
required to be applied to fund dividends with respect to the Series A Preferred
Securities; provided that so long as any Series A Preferred Securities are
outstanding, no dividends or other distributions (including redemptions and
purchases) may be made with respect to the Common Securities unless full
dividends on all Series A Preferred Securities have been paid for the current
and the two immediately preceding Dividend Periods (except during a Shift Period
if the Bank does not distribute dividends on its common stock).
Redemption Requirements
If the Bank's financial condition were to deteriorate with the consequence that
a Shift Event were to occur, substantially all the Common Securities would be
redeemed automatically without prior redemption of any Series A Preferred
Securities.
Voting Rights
Subject to the rights, if any, of the holders of Series A Preferred Securities
(in particular the right to remove and replace any Independent Director and to
elect an additional Director, in certain circumstances), all voting rights are
vested in the Common Securities. The holders of Common Securities are entitled
to one vote per security.
Rights Upon Liquidation
In the event of the dissolution, liquidation or winding up of the Company,
whether voluntary or involuntary, after there shall have been paid or set aside
for the holders of all Series A Preferred Securities the full preferential
amounts to which such holders are entitled, the holders of Common Securities
will be entitled to share equally and ratably in any assets remaining after the
payment of all debts and liabilities. Upon a liquidation of the Company during a
Shift Period, the Common Securities will have a preference over the Series A
Preferred Securities to the extent, if any, that the liabilities of the Bank
(including any debt instruments, such as titres participatifs and prets
participatifs) have not been paid in full.
NOTE 6--RELATED PARTY TRANSACTIONS:
The Company entered into a Services Agreement with the Branch on December 5,
1997 pursuant to which the Branch manages the securities portfolio of the
Company and performs other administrative functions. Expenses incurred under
such Agreement were $990,510 and $670,414 for the Nine months ended September
30, 2002, and September 30, 2001, respectively. Under a specific allocation
methodology, the costs of personnel servicing the Company has increased. This
allocation is based on actual man-hours devoted to the activities of the Company
and remains at arms length.
The Branch also serves as the dividend paying agent, registrar, and transfer
agent with respect to the Series A Preferred Securities. The fee is $4,000 per
annum for these services.
The Company maintains a credit balance account with the Branch for clearing
certain transactions.
All of the Company's officers and employees and all but one of the members of
the Company's Board of Directors are officers and employees of the Branch or BNP
PARIBAS.
NOTE 7--FAIR VALUE OF FINANCIAL INSTRUMENTS:
The fair values of securities at September 30, 2002 and December 31, 2001 were
obtained from independent market sources and are summarized in Note 4. The
carrying values of the securities, as shown in Note 4, approximates their fair
value. The fair value of the receivable arising from payment for securities,
pursuant to the application of SFAS 125, as replaced by SFAS 140, was
$106,414,234 and $138,379,090 at September 30, 2002, and December 31, 2001,
respectively.
The carrying value of cash and cash equivalents, accounts receivable, accrued
interest receivable, accrued expenses, and accounts payable approximates fair
value.
The fair value of the cross currency and interest rate swaps described in Note 8
below at September 30, 2002 and December 31, 2001 was $(76,873,896), and
$(19,003,975), respectively.
NOTE 8-DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The Company maintains an overall risk management strategy that incorporates the
use of derivative instruments to hedge the interest rate risk and foreign
currency risk of fixed-income securities. As a result of interest rate or
exchange rate fluctuations, hedged fixed rate assets will appreciate or
depreciate in market value. The effect of this unrealized appreciation or
depreciation is expected to substantially offset the Company's gains or losses
on the derivative instruments that are linked to these hedged assets and
liabilities. The Company considers its use of derivatives to be a prudent method
of managing interest rate and foreign currency rate sensitivity, as it prevents
earnings from being exposed to undue risk posed by changes in interest and
exchange rates in compliance with the Company's policies.
Derivative instruments that are used as part of the Company's interest rate risk
management strategy include interest rate and cross-currency swap contracts that
have indices related to the pricing of specific balance sheet assets and
liabilities. As a matter of policy, the Company does not use highly leveraged
derivative instruments for interest rate risk management. Interest rate swaps
generally involve the exchange of fixed and variable rate interest payments
between two parties, based on a common notional principal amount and maturity
date.
By using derivative instruments, the Company exposes itself to credit and market
risk. If a counterparty fails to fulfill its performance obligations under a
derivative contract, the Company's credit risk will equal the fair value gain in
a derivative. Generally, when the fair value of a derivative contract is
positive, this indicates that the counterparty owes the Company, thus creating a
repayment risk for the Company. When the fair value of a derivative contract is
negative, the Company owes the counterparty and, therefore, assumes no repayment
risk. The Company minimizes the credit (or repayment) risk in derivative
instruments by entering into transactions with BNP PARIBAS S.A. Consequently,
the Company does not require that collateral be provided by the counterparty.
Market risk is the adverse effect that a change in interest rates, currency, or
implied volatility rates might have on the value of a financial instrument. The
Company does not expose itself to market risk by using derivatives but rather
reduces market risk since it uses derivatives only for fair value hedges that
effectively offset fluctuations in the fair value of the hedged items.
The Company formally documents all relationships between derivatives and hedged
items, as well as its risk management objectives and strategies for undertaking
various hedge transactions. This process includes linking all derivatives that
are designated as fair value or cash flow hedges to (1) assets and liabilities
on the balance sheet, (2) firm commitments or (3) forecasted transactions.
Fair Value Hedges
The Company mainly enters into interest rate swaps and cross-currency interest
rate swaps to convert fixed rate Agency Debentures, Agency DUSs, and Fixed Rate
REMICs into variable rate securities.
For the period ended September 30, 2002, the Company recognized $1,287,125 in
current year earnings related to the ineffective portion of fair value hedges.
The Company did not recognize any gains or losses in relation to firm
commitments that no longer qualified as fair value hedges. The fair value of
these fair value hedging instruments was $(76,873,896) at September 30, 2002 and
$(19,003,975) at December 31, 2001 and has been recorded in "Other liabilities".
It has been offset, except for the ineffective portion of the hedge, by the
revaluation of the respective hedged investment securities. The fair value of
the hedging instruments does not include accrued interest receivable and
payable, which are shown separately on the balance sheet.
Cash Flow Hedges
For the period ended September 30, 2002, the Company did not enter into cash
flow hedge transactions and it is not the intention of the Company to use
interest rate swaps to convert floating rate financial instruments to fixed rate
financial instruments as part of a cash flow hedge strategy.
At September 30, 2002 and December 31, 2001, the Company had outstanding cross
currency and interest rate swap agreements with a notional principal amount of
$656,618,042 and $590,711,267, respectively.
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
General
The Company was formed on October 14, 1997 and commenced operations on December
5, 1997 by the sale to qualified institutional buyers of 50,000 noncumulative,
preferred securities, Series A, and the sale to the Branch of 53,011 common
securities, $10,000 par value per share. Together, such sales raised net capital
of $1,030,115,873, which the Company used to purchase the portfolio of
securities from the Branch.
The Company's sole business is to acquire, hold and manage debt instruments,
largely consisting of mortgage obligations, which generate net income for
distribution to securityholders. The Company's major source of income is
interest generated by the securities in the Portfolio.
Results of Operations
NINE MONTH PERIOD
The following discussion pertains to the Nine-month period ended September 30,
2002 (the "2002 Period") and the Nine-month period ended September 30, 2001 (the
"2001 Period").
For the 2002 Period and 2001 Period, the Company had revenues of $26,923,934 and
$43,025,749, respectively. This amount consisted of interest income on the
investment securities, the unrealized gain/loss on hedged securities and the
derivatives used as hedging instruments and interest on deposits.
The interest income on the investment securities includes interest income on the
remaining securities in the Initial Portfolio, which are considered to be
collateral held by the Company and which are no longer recognized on the balance
sheet pursuant to new guidance in Statement of Financial Accounting Standards
No. 140, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities, a replacement of SFAS 125" ("SFAS 140"), which
modified SFAS 125 in this respect, as explained in Note 3 to the financial
statements. The receivable for the consideration paid to the Branch for the
Initial Portfolio is recognized on the balance sheet and is an asset of similar
size as the remaining securities in the Initial Portfolio. The balance sheet
presentation results from compliance with SFAS 140 but does not reflect the
economic substance of the transaction, as further explained in the section on
the application of SFAS 125, as replaced by SFAS 140, below. For all economic
intent and purposes, the securities in the Initial Portfolio are owned by the
Company and managed as any other investment security, with related revenues
belonging to the Company and recorded as such in the income statement.
For the 2002 and 2001 Period, interest on the securities in the Portfolio
amounted to $36,472,220 and $37,673,219, respectively, representing an aggregate
yield of 6.03% and 6.32%, respectively. Interest earned and average yield with
respect to each category of security in the Portfolio was as follows (yield
based on average amortized cost):
2002 Period 2001 Period
----------- -----------
Floating-Rate REMICs....... $ 801,796 2.76% $ 2,976,459 5.33%
Fixed-Rate REMICs........... $ 2,621,051 6.51% $ 2,395,041 6.51%
Agency ARMs................. $ 1,650,190 5.97% $ 3,339,207 6.56%
Agency Hybrid ARMs.......... $ 2,111,679 5.07% $ 4,473,293 6.19%
Agency DUSs................. $ 15,549,006 6.37% $ 13,054,558 6.36%
Agency Debentures........... $ 13,738,498 6.20% $ 11,434,661 6.53%
The yield on Agency Debentures is based on U.S. dollar denominated securities
which excludes the Japanese Yen denominated securities.
During the 2002 Period, the yield on the Agency DUSs, Agency Debentures and
Fixed Rate REMICs was approximately 1.90%, 4.04% and 6.08%, respectively, when
taking into account the income from the derivative products used to hedge these
securities.
The average amortized cost of the Portfolio during the 2002 Period and the 2001
Period was $986,821,307 and $982,501,171, respectively. This reflects the
following prepayments and reinvestments:
Prepayments 2002 Period 2001 Period
- ----------- ----------- -----------
Floating-Rate REMICs........... $ 22,121,586 $ 25,332,454
Fixed-Rate REMICs.............. $ 242,812 $ 4,558,040
Agency ARMs.................... $ 17,547,852 $ 24,128,906
Agency Hybrid ARMs............. $ 27,358,604 $ 25,375,123
Agency DUSs.................... $ 2,640,095 $ 2,932,148
Reinvestments 2002 Period 2001 Period
- ------------- ----------- -----------
Floating-Rate REMICs........... --- ---
Fixed-Rate REMICs.............. $ 10,000,000 ---
Agency ARMs.................... --- ---
Agency Hybrid ARMs............. --- ---
Agency DUSs.................... $ 48,766,532 $ 39,468,206
Agency Debentures.............. $ 9,960,584 $ 39,982,000
The Company also recorded interest income from short-term investments for the
2002 Period and 2001 Period of $509,280 and $1,492,627, respectively. These
amounts are attributable to the interest earned on (i) interest payments on
securities in the Portfolio, (ii) prepayments of principal pending their
reinvestment and (iii) short-term investments classified as cash equivalents.
As of September 30, 2002, as calculated by aggregate amortized cost,
approximately 51.64% of the Portfolio consisted of collateralized mortgage
obligations (Floating-Rate REMICs and Fixed-Rate REMICs) and mortgage backed
securities (Agency ARMs, Agency Hybrid ARMs and Agency DUSs), and approximately
48.36% consisted of Agency Debentures. Floating Rate securities accounted for
approximately 10.39% of the Portfolio's collateralized mortgage obligations and
mortgage backed securities. In addition, a significant portion of the Agency
Debentures and the Agency DUSs are hedged so that in all but one case, the fixed
rate interest received on the bonds are converted into prevailing floating
rates.
The aggregate market value of the securities in the Portfolio as of September
30, 2002 was higher than the amortized cost by approximately 10.73%, due to a
net decrease in interest rates from the time of their original purchase. For the
hedged securities, changes in the fair market value of both the securities and
the derivatives used as hedging instruments (cross currency and interest rate
swaps) are reported in current earnings in the Statement of Income, pursuant to
application of SFAS 133, (Note 2). Unrealized gains and losses on the non-hedged
securities are reported as a component of "Other Comprehensive Income".
Operating expenses for the 2002 Period and the 2001 Period totaled $1,193,833
and $938,627, respectively. Operating expenses consisted largely of fees paid to
the Branch under the Services Agreement, fees of Citibank as Trustee, consulting
fees and audit fees. Under a specific allocation methodology, the costs of
Branch personnel servicing the Company have increased. This allocation is based
on actual man-hours devoted to the activities of the Company and remains at arms
length.
The Company's net income in the 2002 Period was $25,730,101 and for the 2001
Period it was $43,025,792. As of September 30, 2002, the Company has declared
and paid dividends as follows:
Security Amount Date Paid
- ----------------------------- ----------- ------------
Series A Preferred Securities $19,345,000 June 5, 2002
$19,345,000 December 5, 2001
$19,345,000 June 5, 2001
Common Securities $10,718,708 June 19, 2001
The June 2002 dividends were paid from the Company's retained earnings, produced
from earnings generated from the period December 1, 2001 to May 31, 2002.
THREE MONTH PERIOD
The following discussion pertains to the Three-month period ended September 30,
2002 (the "2002 Period") and the Three-month period ended September 30, 2001
(the "2001 Period").
For the 2002 Period and 2001 Period, the Company had revenues of $7,968,640 and
$12,927,155, respectively. This amount consisted of interest income on the
investment securities, the unrealized gain/loss on hedged securities and the
derivatives used as hedging instruments and interest on deposits.
For the 2002 Period and 2001 Period, interest on the securities in the Portfolio
amounted to $12,163,521 and $11,942,768, respectively, representing an aggregate
yield of 5.92% and 6.06%, respectively. Interest earned and average yield with
respect to each category of security in the Portfolio was as follows (yield
based on average amortized cost):
2002 Period 2001 Period
----------- -----------
Floating-Rate REMICs...... $ 202,723 2.52% $ 708,074 4.27%
Fixed-Rate REMICs......... $ 941,101 6.40% $ 777,254 6.35%
Agency ARMs............... $ 416,164 5.20% $ 938,792 6.20%
Agency Hybrid ARMs........ $ 578,393 4.86% $1,309,415 5.89%
Agency DUSs............... $ 5,408,695 6.22% $4,356,579 6.16%
Agency Debentures......... $ 4,616,445 6.08% $3,852,654 6.42%
The average amortized cost of the Portfolio during the 2002 Period and the 2001
Period was $993,043,825 and $958,943,356, respectively. This reflects the
following prepayments and reinvestments:
Prepayments 2002 Period 2001 Period
- ----------- ----------- -----------
Floating-Rate REMICs............... $ 6,010,133 $10,286,173
Fixed-Rate REMICs.................. $ 97,875 $ ---
Agency ARMs........................ $ 5,353,765 $ 7,712,190
Agency Hybrid ARMs................. $ 7,372,157 $ 9,013,035
Agency DUSs........................ $ 907,742 $ 718,457
Reinvestments 2002 Period 2001 Period
- ------------- ----------- -----------
Floating-Rate REMICs............... --- ---
Fixed-Rate REMICs.................. --- ---
Agency ARMs........................ --- ---
Agency Hybrid ARMs................. --- ---
Agency DUSs........................ $ 39,446,571 $29,496,924
Agency Debentures.................. --- $21,982,000
The Company also recorded interest income from short-term investments for the
2002 Period and 2001 Period of $144,200 and $563,203, respectively. These
amounts are attributable to the interest earned on (i) interest payments on
securities in the Portfolio, (ii) prepayments of principal pending their
reinvestment and (iii) short-term investments classified as cash equivalents.
Operating expenses for the 2002 Period and the 2001 Period totaled $333,567 and
$320,634, respectively. Operating expenses consisted largely of fees paid to the
Branch under the Services Agreement, fees of Citibank as Trustee, consulting
fees and audit fees. Under a specific allocation methodology, the costs of
Branch personnel servicing the Company have increased. This allocation is based
on actual man-hours devoted to the activities of the Company and remains at arms
length.
The Company's net income in the 2002 Period was $7,635,072 and for the 2001
Period it was $12,606,521.
Receivable Arising from Payment for Securities Pursuant to the Application of
SFAS 125 as Replaced by SFAS 140
Due to the potential consequences of a Shift Event (defined herein Item 1, Note
2), the Company's purchase of the Initial Portfolio (as defined in Item 1
herein) from the Branch did not meet certain SFAS 125, as replaced by SFAS 140,
sale accounting requirements. Accordingly, the Company recorded at December 5,
1997 a receivable for the consideration paid to the Branch for the Initial
Portfolio treated as collateral. As a legal and economic matter, however, there
is no such receivable since (a) neither the Bank nor the Branch has any
obligation to repay any part of the purchase price for the Initial Portfolio or
to repurchase or redeem any of the securities included therein, and (b) the
Company has no obligation to return any of such securities to the Bank or the
Branch (except in the limited circumstances and to the extent that the
occurrence of a Shift Event under the Charter would require the transfer of any
assets held by the Company at the time). As the securities in the Initial
Portfolio are paid, the receivable will be deemed to be realized by an amount
corresponding to the amount of the payments received. At September 30, 2002 and
December 31, 2001, respectively, the receivable arising from payment for
securities amounted to $103,377,956 and $135,255,432. The decrease in the amount
of such receivable between the two dates reflects the prepayment of securities
in the Initial Portfolio. The Company recognized the cash proceeds of such
prepayments as a reduction in the receivable. Such decreases in the receivable
did not affect the Company's results of operations or cash flow.
Liquidity and Capital Resources
The objective of liquidity management is to ensure the availability of
sufficient cash flows to meet all of the Company's financial commitments. The
Company's sole liquidity needs are to acquire reinvestment securities as
original securities repay or prepay and to pay dividends on the Series A
Preferred Securities. The acquisition of reinvestment securities is funded with
the proceeds of principal repayments or prepayments on original securities, and
the payments of dividends on the Series A Preferred Securities are funded
through interest income from the securities in the Portfolio. Given the limited
scope of its activities (acquiring and holding eligible securities to fund the
payment of dividends on the Series A Preferred Securities and the Common
Securities), and the fact that the Company is prohibited from incurring
indebtedness, the Company believes that its liquidity and capital resources will
be sufficient to meet its liquidity requirements in the short and long term.
BNP PARIBAS Group's total and Tier 1 risk-based capital ratios at September 30,
2002 were 11.4% and 8.0%, which are well above the minimum standards required by
French banking regulations, currently 8% for total risk-based capital and 4% for
Tier 1 risk-based capital. A "shift event" would occur if BNP Paribas'
risk-based capital fell below these minimum standards of 8% and 4%,
respectively. See Note 2 of the attached financial statements for a detailed
explanation of "shift events".
Derivative Instruments and Hedging Activities
The Company has made an assessment of all its financial instruments and
concluded that it holds freestanding derivative instruments but no embedded
derivative instruments at September 30, 2002. As part of its asset management
activities, the Company uses foreign exchange and interest rate swaps to modify
the interest rate and foreign exchange characteristics of existing assets. The
interest rate swaps have a high correlation between the instrument and the asset
being hedged, both at inception and throughout the hedge period.
All of the Company's outstanding hedging transactions are fair value hedges. For
the Nine month period ended September 30, 2002, the Company recognized a gain of
$1,287,125 related to the ineffective portion of fair value hedges. The Company
did not recognize any gains or losses in relation to firm commitments that no
longer qualified as fair value hedges. The fair value of these fair value
hedging instruments was $(76,873,896) at September 30, 2002 and $(19,003,975) at
December 31, 2001 and has been recorded in "Other liabilities". It has been
offset, except for the ineffective portion of the hedge, by the revaluation of
the respective hedged investment securities. The fair value of the hedging
instruments does not include accrued interest receivable and payable, which are
shown separately on the balance sheet.
For a further discussion on derivative instruments and hedging activities, see
Note 8 to the financial statements.
Item 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest Rate Sensitivity
The Company's principal market risk exposure is to changes in interest rates.
This exposure arises from its investments in collateralized mortgage
obligations, mortgage-backed securities, agency debentures, agency DUSs and
certain derivative instruments used by the Company to modify interest rate
exposures.
The outstanding principal amount and estimated fair value as of September 30,
2002, by each category of investment is depicted in Footnote 4 of the Financial
Statements contained in Item 1 herein.
Interest Rate Risk
The Company's income consists primarily of interest payments on collateralized
mortgage obligations, mortgage-backed securities, agency debentures and agency
DUSs. Currently, the Company uses derivative products to manage a portion of its
interest rate risk.
The first nine months of 2002 were characterized by a persistently low interest
rate environment that continues to affect the Company's income. The third
quarter results were stabilized due to the absence of a major interest rate
change. During the fourth quarter, the Federal Reserve lowered short-term
interest rates by 50 basis points.
The Company regularly reviews its hedging requirements. In the future, the
Company expects to enter into additional swaps, unwind part or all of the
initial and any future swaps in order to rebalance the fixed and floating mix of
interest obligations (including those arising as a result of previous interest
rate swaps entered into) and the fixed and floating mix of interest payments.
The Company's interest rate management strategy will continue to be rebalanced
with any purchase of new investments. There can be no assurance, however, that
the Company's interest rate risk management strategies will be effective in this
regard.
The Company is a party to twenty-eight interest rate swaps and two cross
currency swaps with BNP PARIBAS. In all but one of these swaps, where the
Company pays and receives a fixed rate, the Company pays a fixed coupon and
receives floating rate payments on the notional balances as set out below:
(000's omitted)
Fair Value at Notional
September 30, 2002 Balance Value Date Maturity Date Fixed Rate Receive Rate
- ------------------ ---------- ----------------- --------------- ------------ --------------------------------
$ (2,038) $ 42,000 November 25, 1998 March 26, 2008 JPY 1.75 US Three Month Libor Plus Six
Basis points
(4,608) 58,000 November 25, 1998 October 9, 2007 JPY 2.125 US Three Month Libor Plus Six
Basis points
(2,666) 19,040 November 25, 1998 August 25, 2008 US 6.15 US One Month Libor Plus Five
Basis points
(3,616) 23,246 May 25, 1999 May 25, 2009 US 6.23 US One Month Libor Plus One and
Half Basis points
(7,747) 50,000 February 12, 1999 March 5, 2007 US 6.68 US Three Month Libor Minus Two
Basis points
(7,946) 50,000 February 11, 1999 March 14, 2007 US 6.80 US Three Month Libor Minus Two
Basis points
(1,562) 30,000 March 29, 1999 October 9, 2007 JPY 2.125 US Three Month Libor Minus Two
and Half Basis points
(2,169) 26,400 April 6, 1999 October 9, 2007 JPY 2.125 US Three Month Libor Minus One
Basis Point
(3,641) 25,938 June 25, 1999 June 25, 2009 US 6.23 US One Month Libor plus Three
and Half Basis points
(2,736) 20,691 February 25, 1999 February 25, 2009 US 5.41 US One Month Libor Plus Three
Basis points
(2,503) 15,618 July 1, 1999 June 25, 2009 US 6.39 US One Month Libor Plus Three
and Half Basis points
(6,175) 42,946 September 27, 1999 March 28, 2008 US 6.29 US One Month Libor Plus Five
Basis points
(2,133) 15,398 November 26, 1999 April 25, 2009 US 6.04 US One Month Libor Plus Four
Basis points
(3,587) 28,163 September 27, 1999 March 25, 2009 US 5.85 US One Month Libor Plus Four
Basis points
(1,078) 7,000 August 1, 2000 December 26,2007 US 6.42 US One Month Libor
(4,782) 29,165 August 1, 2000 October 16, 2006 US 7.20 US One Month Libor Minus Two
Basis points
(1,305) 8,279 June 26, 2000 October 1, 2007 US 6.68 US One Month Libor Plus One and
Half Basis points
(1,321) 9,298 June 26, 2000 October 1, 2008 US 6.19 US One Month Libor
398 15,000 November 2, 2000 October 9, 2007 JPY 2.125 US Three Month Libor Minus Two
Basis points
(1,184) 7,487 October 2, 2000 June 1, 2007 US 7.007 US One Month Libor Minus Two
Basis points
(1,441) 7,574 October 2, 2000 July 1, 2007 US 7.405 US One Month Libor Minus Two
Basis points
1,931 18,000 January 17, 2001 March 26, 2008 JPY 1.750 5.80
(1,558) 9,776 March 25, 2001 October 25, 2007 US 6.94 US One Month Libor Plus Two
Basis points
(3,160) 19,443 September 4, 2001 October 1, 2006 US 7.20 US One Month Libor Plus Two
Basis points
(1,561) 9,721 October 2, 2001 October 1, 2006 US 7.20 US One Month Libor Plus Seven
Basis points
(1,550) 9,721 January 2, 2002 October 16, 2006 US 7.20 US One Month Libor Plus Ten
Basis points
(1,449) 9,267 May 1, 2002 October 25, 2007 US 6.63 US One Month Libor Plus One
Basis points
(1,639) 10,000 May 3, 2002 August 25, 2007 US 6.74 US One Month Libor Plus One
Basis points
(2,046) 26,500 August 25, 2002 August 25, 2007 US 4.90 US One Month Libor Plus Five
Basis points
(2,002) 12,947 September 25, 2002 June 25, 2007 US 7.007 US One Month Libor Plus Seven
------------ --------- Basis points
$ (76,874) $656,618
=========== =========
The fair value of the cross currency and interest rate swaps was $(76,873,896)
and $(19,003,975) at September 30, 2002 and December 31, 2001, respectively. The
change in fair value was primarily due to changes in prevailing market interest
rates.
The breakdown of the Company's available-for-sale securities by category and
weighted average life distribution (stated in terms of amortized cost) is
summarized below ($ in 000's) based on management's prepayment assumptions:
At September 30, 2002 Due Due Due Due Due Due Due
Non-Collateral in after after after after after after
2002 2002 2003 2004 2005 2006 2007 Total
--------- --------- --------- --------- ------- --------- --------- ----------
Fixed Rate Instruments:
Fixed-Rate REMICs........................ $ --- $ 694 $ --- $ --- $ --- $10,000 $ --- $ 10,694
Agency DUS............................... --- --- --- --- 114,985 46,629 195,604 357,218
Agency Debentures ....................... --- --- --- --- 172,639 313,600 --- 486,239
--------- --------- --------- --------- ------- --------- --------- ----------
Total Fixed Rate Instruments.............. --- 694 --- --- 287,624 370,229 195,604 854,151
--------- --------- --------- --------- ------- --------- --------- ----------
Floating-Rate Instruments:
Floating-Rate REMICs..................... 960 5,520 --- 1,628 --- --- --- 8,108
Agency ARMs.............................. --- 57 12,276 4,296 --- 927 --- 17,556
Agency Hybrid ARMs....................... --- 5,218 7,775 9,272 --- --- 22,265
--------- ------ ------ ------ --------- --------- ---------- ----------
Total Floating Rate Instruments.......... 960 10,795 20,051 15,196 --- 927 --- 47,929
--------- --------- --------- --------- ------- --------- --------- ----------
Total................................... $ 960 $11,489 $20,051 $15,196 $287,624 $371,156 $195,604 $902,080
========= ======= ======= ======= ======== ======== ======== ==========
Due Due Due Due Due Due Due
At September 30, 2002 Collateral in after after after after after after
2002 2002 2003 2004 2005 2006 2007 Total
--------- --------- --------- --------- ------- --------- --------- ----------
Fixed Rate Instruments:
Fixed-Rate REMICs........................ $ --- $46,837 $ --- $ --- $ --- $ --- $ --- $ 46,837
Agency DUS............................... --- --- --- --- --- --- --- ---
Agency Debentures ....................... --- --- --- --- --- --- --- ---
-------- ------ --------- --------- --------- --------- --------- ----------
Total Fixed Rate Instruments............. --- 46,837 --- --- --- --- --- 46,837
-------- ------ --------- --------- --------- --------- --------- ----------
Floating-Rate Instruments:
Floating-Rate REMICs..................... 578 545 9,331 9,594 1,856 --- --- 21,904
Agency ARMs.............................. --- 668 7,774 2,023 --- --- 2,016 12,481
Agency Hybrid ARMs....................... --- 858 17,630 --- --- 3,668 --- 22,156
-------- ------ ------ ------ --------- --------- ---------- ----------
Total Floating Rate Instruments.......... 578 2,071 34,735 11,617 1,856 3,668 2,016 56,541
-------- ------ ------ ------ --------- --------- ---------- ----------
Total................................... $ 578 $48,908 $34,735 $11,617 $ 1,856 $ 3,668 $ 2,016 $ 103,378
======== ======= ======= ======= ======== ======== ========= =========
At September 30, 2002 Total Portfolio $ 1,538 $60,397 $54,786 $26,813 $289,480 $374,824 $197,620 $1,005,458
- ------------------------------------ ========= ======= ======= ======= ======== ======== ======== ==========
Due Due Due Due Due Due Due
At December 31, 2001 in after after after after after after
Non-Collateral 2002 2002 2003 2004 2005 2006 2007 Total
--------- --------- --------- --------- ------- --------- --------- ----------
Fixed Rate Instruments:
Fixed-Rate REMICs........................ $ --- $ 897 $ --- $ --- $ --- $ --- $ --- $ 897
Agency DUS............................... --- --- --- 7,575 68,594 81,029 153,912 311,110
Agency Debentures ....................... --- --- --- --- 216,804 259,716 476,520
-------- --------- --------- --------- ------- --------- --------- ----------
---
Total Fixed Rate Instruments............. --- 897 --- 7,575 285,398 340,745 153,912 788,527
-------- --------- --------- --------- ------- --------- --------- ----------
Floating-Rate Instruments:
Floating-Rate REMICs..................... 3,192 8,182 5,370 2,199 --- --- --- 18,943
Agency ARMs.............................. 241 17,108 10,436 --- --- --- --- 27,785
Agency Hybrid ARMs....................... --- 3,216 26,412 7,630 --- --- --- 37,258
------ ------ ------ ------ --------- --------- ---------- -------
Total Floating Rate Instruments.......... 3,433 28,506 42,218 9,829 --- --- --- 83,986
-------- --------- --------- --------- ------- --------- --------- ----------
Total................................... $ 3,433 $29,403 $42,218 $17,404 $285,398 $340,745 $153,912 $ 872,513
========= ======= ======= ======= ======== ======== ======== ==========
Due Due Due Due Due Due Due
in after after after after after after
At December 31, 2001 Collateral 2002 2002 2003 2004 2005 2006 2007 Total
--------- --------- --------- --------- ------- --------- --------- ----------
Fixed Rate Instruments:
Fixed-Rate REMICs......................... $--- $--- $ --- $ --- $ 46,814 $ --- $ --- $ 46,814
Agency DUS................................ --- --- --- --- --- --- --- ---
Agency Debentures ........................ --- --- --- --- --- --- --- ---
-------- --------- --------- --------- ------- --------- --------- ----------
Total Fixed Rate Instruments.............. --- --- --- --- 46,814 --- -- 46,814
-------- --------- --------- --------- ------- --------- --------- ----------
Floating-Rate Instruments:
Floating-Rate REMICs...................... 3,360 16,470 6,173 7,263 --- --- --- 33,266
Agency ARMs............................... 1,376 9,664 504 3,743 3,524 --- 1,267 20,078
Agency Hybrid ARMs........................ --- 29,234 5,863 --- --- --- --- 35,097
-------- --------- --------- --------- ------- --------- --------- ----------
Total Floating Rate Instruments........... 4,736 55,368 12,540 11,006 3,524 --- 1,267 88,441
-------- --------- --------- --------- ------- --------- --------- ----------
Total....................................$ 4,736 $55,368 $12,540 $11,006 $ 50,338 $ --- $ 1,267 $ 135,255
========= ======= ======= ======= ======== ======== ======== ==========
At December 31, 2001 Total Portfolio $ 8,169 $84,771 $54,758 $28,410 $335,736 $340,745 $155,179 $1,007,768
- ------------------------------------ ========= ======= ======= ======= ======== ======== ======== ==========
Actual maturities may differ from maturities shown above due to prepayments.
Part II
Item 1. Legal Proceedings
None
Item 2. Changes in Securities and Use of the Proceeds
None
Item 3 Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Securityholders
None
Item 5 Other Information
On August 12, 2002, the Board of Directors of the Company elected
John Powers to succeed George T. Deason as Secretary of the Company. In
addition, Diana Mitchell was elected Assistant Secretary and Thomas Clyne
was elected Chief Financial Officer of the Company.
Item 6 Exhibits and Current Reports on Form 8-K
A) Exhibits:
11) Computation of net income per common security
12) (a) Computation of ratio of earnings to fixed charges
(b) Computation of ratio of earnings to fixed charges
and preferred security dividend requirements
B) Reports on Form 8-K: NONE
Signature
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereto duly authorized.
BNP U.S. FUNDING L.L.C.
Registrant
Date: November 14, 2002 By /s/ Jean-Pierre Beck
------------------------
Jean-Pierre Beck
President and Director
Date: November 14, 2002 By /s/ Thomas Clyne
-------------------------
Thomas Clyne
Chief Financial Officer
Certification
Pursuant to Section 906 of the Sarbanes- Oxley Act
of 2002 (Subsections (a) and (b) of Section 1350,
Chapter 63 of Title 18, United States Code)
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (subsections (a) and
(b) of section 1350, chapter 63 of title 18, United States Code), each of the
undersigned officers on BNP U.S. Funding L.L.C., a Delaware limited liability
company (the "Company"), does here certify, to the best of such officer's
knowledge, that:
The Quarterly Report on Form 10-Q for the quarter ended September 30, 2002 (the
"Form 10-Q") of the Company fully complies with the requirements of section
13(a) or 15(d) of the Securities Exchange Act of 1934 and information contained
in the Form 10-Q fairly presents, in all material aspects, the financial
condition and results of operations of the Company.
Date: November 14, 2002 By /s/ Jean-Pierre Beck
------------------------
Jean-Pierre Beck
President and Director
Date: November 14, 2002 By /s/ Thomas Clyne
-------------------------
Thomas Clyne
Chief Financial Officer
The foregoing certification is being furnished solely pursuant to section 906 of
the Sarbanes-Oxley Act of 2002 (subsections (a) and (b) of section 1350, chapter
63 of title 18, United States Code) and is not being filed as part of the Form
10Q or as a separate disclosure document
Annual and Quarterly Certifications
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, Thomas Clyne, certify that:
1. I have reviewed this quarterly report on Form 10-Q of BNP U.S. Funding
L.L.C.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 14, 2002
/s/ Thomas Clyne
-------------------------------
Title: Chief Financial Officer
Annual and Quarterly Certifications
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, Jean-Pierre Beck, certify that:
1. I have reviewed this quarterly report on Form 10-Q of BNP U.S. Funding
L.L.C.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 14, 2002
/s/ Jean-Pierre Beck
--------------------------------------
Title: President and Director