Back to GetFilings.com
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 September 30, 2004
------------------
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from _________ to _____________
Commission File No. 000-30509
---------
Belcrest Capital Fund LLC
-------------------------
(Exact name of registrant as specified in its charter)
Massachusetts 04-3453080
------------- ----------
(State of organization) ( I.R.S. Employer Identification No.)
The Eaton Vance Building
255 State Street
Boston, Massachusetts 02109
--------------------- -----
(Address of principal executive offices) (Zip Code)
617-482-8260
Registrant's telephone number: ------------
None
----
(Former Name, Former Address and Former Fiscal Year,
if changed since last report)
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 [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934).
YES [X] NO [ ]
BELCREST CAPITAL FUND LLC
Index to Form 10-Q
PART I FINANCIAL INFORMATION Page
Item 1. Condensed Consolidated Financial Statements 3
Condensed Consolidated Statements of Assets and Liabilities
as of September 30, 2004 (Unaudited) and December 31, 2003 3
Condensed Consolidated Statements of Operations (Unaudited)
for the Three Months Ended September 30, 2004 and 2003 and
for the Nine Months Ended September 30, 2004 and 2003 4
Condensed Consolidated Statements of Changes in Net Assets
for the Nine Months Ended September 30, 2004 (Unaudited) and
the Year Ended December 31, 2003 6
Condensed Consolidated Statements of Cash Flows (Unaudited)
for the Nine Months Ended September 30, 2004 and 2003 7
Financial Highlights (Unaudited) for the Nine Months Ended
September 30, 2004 9
Notes to Condensed Consolidated Financial Statements as of
September 30, 2004 (Unaudited) 10
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 18
Item 3. Quantitative and Qualitative Disclosures About Market Risk 26
Item 4. Controls and Procedures 28
PART II OTHER INFORMATION
Item 1. Legal Proceedings 29
Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases
of Equity Securities 29
Item 3. Defaults Upon Senior Securities 29
Item 4. Submission of Matters to a Vote of Security Holders 29
Item 5. Other Information 29
Item 6. Exhibits and Reports on Form 8-K 29
SIGNATURES 31
EXHIBIT INDEX 32
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
- --------------------------------------------------------------------------------
BELCREST CAPITAL FUND LLC
Condensed Consolidated Statements of Assets and Liabilities
September 30, 2004 December 31,
(Unaudited) 2003
------------------ ---------------
Assets:
Investment in Belvedere Capital Fund
Company LLC (Belvedere Company) $2,659,373,006 $2,801,412,510
Investment in Partnership Preference Units 386,771,125 458,160,352
Investment in other real estate 982,452,214 613,004,358
Short-term investments 1,864,000 48,059,348
------------------ ---------------
Total investments $4,030,460,345 $3,920,636,568
Cash 10,582,458 5,842,185
Escrow deposits - restricted 10,227,630 10,925,963
Open interest rate swap agreements, at value 2,016,235 3,006,128
Distributions and interest receivable 1,116,654 676,240
Other assets 15,161,639 7,425,731
------------------ ---------------
Total assets $4,069,564,961 $3,948,512,815
------------------ ---------------
Liabilities:
Loan payable - Credit Facility $ 966,000,000 $ 652,000,000
Mortgages payable 394,919,346 513,988,494
Payable for Fund Shares redeemed 4,728,205 -
Distributions payable to minority
shareholders - 16,800
Special Distributions payable - 1,059
Security deposits 2,189,746 2,017,195
Due to bank - cash overdraft - 6,723,986
Swap interest payable 265,924 397,212
Accrued expenses:
Interest expense 2,923,037 3,552,170
Property taxes 6,444,638 8,998,462
Other expenses and liabilities 12,877,927 8,629,435
Minority interests in controlled
subsidiaries 106,206,691 23,003,410
------------------ ---------------
Total liabilities $1,496,555,514 $1,219,328,223
------------------ ---------------
Net assets $2,573,009,447 $2,729,184,592
------------------ ---------------
Shareholders' Capital $2,573,009,447 $2,729,184,592
------------------ ---------------
Shares outstanding 24,334,601 26,024,771
------------------ ---------------
Net asset value and redemption price per
Share $ 105.73 $ 104.87
------------------ ---------------
See notes to unaudited condensed consolidated financial statements
3
BELCREST CAPITAL FUND LLC
Condensed Consolidated Statements of Operations (Unaudited)
Three Months Three Months Nine Months Nine Months
Ended Ended Ended Ended
September 30, 2004 September 30,2003 September 30, 2004 September 30, 2003
------------------ ----------------- ------------------ ------------------
Investment Income:
Dividends allocated from Belvedere Company
(net of foreign taxes of $111,922, $78,362,
$461,053 and $348,826, respectively) $ 10,065,081 $ 9,332,679 $ 30,502,038 $ 27,087,005
Interest allocated from Belvedere Company 17,108 77,353 96,674 522,478
Expenses allocated from Belvedere Company (4,037,716) (3,992,143) (12,420,919) (11,336,229)
------------------ ----------------- ------------------ ------------------
Net investment income allocated from
Belvedere Company $ 6,044,473 $ 5,417,889 $ 18,177,793 $ 16,273,254
Distributions from Partnership Preference Units 8,266,294 11,826,889 33,202,201 39,409,885
Rental income 25,969,715 27,339,096 71,866,067 83,424,249
Interest 150,672 112,858 549,395 345,570
------------------ ----------------- ------------------ ------------------
Total investment income $ 40,431,154 $ 44,696,732 $123,795,456 $139,452,958
------------------ ----------------- ------------------ ------------------
Expenses:
Investment advisory and administrative fees $ 2,753,094 $ 2,606,188 $ 7,958,666 $ 7,682,224
Property management fees 882,070 1,043,782 2,614,632 3,173,898
Distribution and servicing fees 938,553 882,495 2,911,268 2,513,164
Interest expense on mortgages 8,278,467 10,442,120 26,221,242 31,250,849
Interest expense on Credit Facility 4,171,289 3,066,680 9,228,113 10,046,752
Property and maintenance expenses 8,422,016 9,965,594 25,756,658 28,759,000
Property taxes and insurance 3,827,958 3,527,929 10,163,715 11,348,421
Miscellaneous 1,007,385 675,984 1,706,564 1,408,765
------------------ ----------------- ------------------ ------------------
Total expenses $ 30,280,832 $ 32,210,772 $ 86,560,858 $ 96,183,073
Deduct-
Reduction of investment advisory
and administrative fees 646,293 626,999 2,001,738 1,765,015
------------------ ----------------- ------------------ ------------------
Net expenses $ 29,634,539 $ 31,583,773 $ 84,559,120 $ 94,418,058
------------------ ----------------- ------------------ ------------------
Net investment income before
minority interests in net income of
controlled subsidiaries $ 10,796,615 $ 13,112,959 $ 39,236,336 $ 45,034,900
Minority interests in net income
of controlled subsidiaries (795,217) (360,764) (920,014) (1,911,727)
------------------ ----------------- ------------------ ------------------
Net investment income $ 10,001,398 $ 12,752,195 $ 38,316,322 $ 43,123,173
------------------ ----------------- ------------------ ------------------
See notes to unaudited condensed consolidated financial statements
4
BELCREST CAPITAL FUND LLC
Condensed Consolidated Statements of Operations (Unaudited) (Continued)
Three Months Three Months Nine Months Nine Months
Ended Ended Ended Ended
September 30, 2004 September 30, 2003 September 30, 2004 September 30, 2003
------------------ ------------------ ------------------ ------------------
Realized and Unrealized Gain (Loss)
Net realized gain (loss) -
Investment transactions and foreign currency
transactions allocated from Belvedere Company
(identified cost basis) $ (1,240) $ 1,835,118 $ 20,885,588 $ (3,244,424)
Investment transactions in Partnership
Preference Units (identified cost basis) (826,892) 1,810,778 (1,552,393) 2,435,758
Investment transactions in other real estate - - (14,221,385) -
Interest rate swap agreements(1) (8,587,190) (11,408,892) (18,723,312) (35,910,572)
------------------ ------------------ ------------------ ------------------
Net realized loss $ (9,415,322) $ (7,762,996) $ (13,611,502) $ (36,719,238)
------------------ ------------------ ------------------ ------------------
Change in unrealized appreciation (depreciation) -
Investments and foreign currency allocated
from Belvedere Company (identified cost basis) $ (65,711,201) $ 53,492,307 $ (4,774,878) $ 242,362,840
Investments in Partnership Preference
Units (identified cost basis) 3,906,718 (3,412,486) (11,964,562) 32,570,355
Investments in other real estate (net of
minority interests in unrealized loss of
controlled subsidiaries of $(1,124,078),
$(4,536,698), $(10,858,604) and $(8,778,003),
respectively) 1,866,068 (6,116,615) 26,254,291 (31,008,924)
Interest rate swap agreements (8,987,626) 11,264,926 (989,893) 30,512,068
------------------ ------------------ ------------------ ------------------
Net change in unrealized appreciation
(depreciation) $ (68,926,041) $ 55,228,132 $ 8,524,958 $ 274,436,339
------------------ ------------------ ------------------ ------------------
Net realized and unrealized gain (loss) $ (78,341,363) $ 47,465,136 $ (5,086,544) $ 237,717,101
------------------ ------------------ ------------------ ------------------
Net (decrease) increase in net assets
from operations $ (68,339,965) $ 60,217,331 $ 33,229,778 $ 280,840,274
================== ================== ================== ==================
(1) Amounts include periodic payments made in connection with interest rate
swap agreements of $4,828,723, $11,408,892, $14,964,845 and $35,910,572.
(Note 4)
See notes to unaudited condensed consolidated financial statements
5
BELCREST CAPITAL FUND LLC
Condensed Consolidated Statements of Changes in Net Assets
Nine Months
Ended
September 30, 2004 Year Ended
(Unaudited) December 31, 2003
------------------ -----------------
Increase (Decrease) in Net Assets:
Net investment income $ 38,316,322 $ 56,327,694
Net realized loss from investment
transactions, foreign currency
transactions and interest rate
swap agreements (13,611,502) (36,317,202)
Net change in unrealized appreciation
(depreciation) of investments, foreign
currency and interest rate swap agreements 8,524,958 575,006,241
------------------ -----------------
Net increase in net assets from operations $ 33,229,778 $ 595,016,733
------------------ -----------------
Transactions in Fund Shares -
Net asset value of Fund Shares issued to
Shareholders in payment of distributions
declared $ 4,033,847 $ 4,796,611
Net asset value of Fund Shares redeemed (183,300,208) (158,225,543)
------------------ -----------------
Net decrease in net assets from Fund Share
transactions $ (179,266,361) $ (153,428,932)
------------------ -----------------
Distributions -
Distributions to Shareholders $ (10,138,562) $ (11,893,682)
Special Distributions to Shareholders - (1,059)
------------------ -----------------
Total distributions $ (10,138,562) $ (11,894,741)
------------------ -----------------
Net (decrease) increase in net assets $ (156,175,145) $ 429,693,060
Net assets:
At beginning of period $2,729,184,592 $2,299,491,532
------------------ -----------------
At end of period $2,573,009,447 $2,729,184,592
================== =================
See notes to unaudited condensed consolidated financial statements
6
BELCREST CAPITAL FUND LLC
Condensed Consolidated Statements of Cash Flows (Unaudited)
Nine Months Nine Months
Ended Ended
September 30, 2004 September 30, 2003
------------------ ------------------
Cash Flows From (For) Operating Activities -
Net increase in net assets from operations $ 33,229,778 $ 280,840,274
Adjustments to reconcile net increase in net assets from operations
to net cash flows (for) from operating activities -
Net investment income allocated from Belvedere Company (18,177,793) (16,273,254)
Increase in escrow deposits (1,223,268) (1,122,890)
Decrease in receivable for investments sold - 73,554,369
Increase in interest receivable from other real estate investments (213,704) (173,113)
(Increase) decrease in other assets (6,545,728) 1,356,462
(Increase) decrease in distributions and interest receivable (440,414) 6,468,208
Decrease in interest payable for open swap agreements (131,288) (266,463)
Increase in security deposits, accrued interest and accrued
other expenses and liabilities 7,166,310 1,418,163
Decrease in due to bank - cash overdraft (6,723,986) -
Decrease in accrued property taxes (2,308,777) (1,173,585)
Purchases of Partnership Preference Units (155,528,262) -
Proceeds from sales of Partnership Preference Units 213,400,534 56,919,348
Payments for investments in other real estate (419,323,825) -
Proceeds from sale of investment in other real estate 28,699,431 -
Improvements to rental property (3,171,723) (4,553,214)
Decrease in cash due to sale of majority interest in
controlled subsidiary (983,616) -
Net increase in investment in Belvedere Company - (23,700,000)
Interest incurred on interest rate swap agreements (14,964,845) (35,910,572)
Payment for termination of interest rate swap agreements (3,758,467) -
Decrease (increase) in short-term investments 46,195,348 (60,230,147)
Minority interests in net income of controlled subsidiaries 920,014 1,911,727
Net realized loss from investment transactions, foreign currency
transactions and interest rate swap agreements 13,611,502 36,719,238
Net change in unrealized (appreciation) depreciation of
investments, foreign currency and interest rate swap agreements (8,524,958) (274,436,339)
------------------ ------------------
Net cash flows (for) from operating activities $ (298,797,737) $ 41,348,212
------------------ ------------------
Cash Flows From (For) Financing Activities -
Net proceeds from (Repayment of) Credit Facility $ 314,000,000 $ (33,700,000)
Repayments on mortgages (3,908,672) (3,398,179)
Payments for Fund Shares redeemed (2,243,996) (1,967,575)
Distributions paid to Shareholders (6,105,774) (7,097,071)
Distributions paid to minority shareholders (16,800) -
Capital contributed to controlled subsidiaries 1,813,252 -
------------------ ------------------
Net cash flows from (for) financing activities $ 303,538,010 $ (46,162,825)
------------------ ------------------
Net increase (decrease) in cash $ 4,740,273 $ (4,814,613)
Cash at beginning of period $ 5,842,185 $ 12,216,034
------------------ ------------------
Cash at end of period $ 10,582,458 $ 7,401,421
================== ==================
See notes to unaudited condensed consolidated financial statements
7
BELCREST CAPITAL FUND LLC
Condensed Consolidated Statements of Cash Flows (Unaudited) (Continued)
Nine Months Nine Months
Ended Ended
September 30, 2004 September 30, 2003
------------------ ------------------
Supplemental Disclosure and Non-cash Investing and
Financing Activities -
Interest paid on loan - Credit Facility $ 9,070,993 $ 10,951,833
Interest paid on mortgages $ 25,856,585 $ 30,845,363
Interest paid on swap agreements $ 15,096,133 $ 36,177,035
Market value of securities distributed in payment of
redemptions $ 176,328,007 $ 125,559,790
Market value of real property and other assets, net
of current liabilities, assumed in conjunction with
acquisition of other real estate investment $ 524,737,740 $ -
Market value of minority interests assumed in conjunction with
the acquisition of other real estate $ 105,471,385 $ -
Market value of real property and other assets, net
of current liabilities, disposed of in conjunction with
sale of other real estate $ 155,855,342 $ -
Mortgage disposed of in conjunction with sale of
other real estate $ 120,901,649 $ -
Market value of minority interests disposed of in conjunction with
sale of other real estate $ 7,953,203 $ -
Partnership Preference Units exchanged for an equity investment
in real estate companies and an investment in note receivable $ - $ (6,440,043)
Market value of an equity investment in real estate companies $ - $ 3,087,607
Investment in note receivable $ - $ 3,352,436
See notes to unaudited condensed consolidated financial statements
8
BELCREST CAPITAL FUND LLC as of September 30, 2004
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Financial Highlights (Unaudited)
For the Nine Months Ended September 30, 2004
- --------------------------------------------------------------------------------
Net asset value - Beginning of period $104.870
- --------------------------------------------------------------------------------
Income (loss) from operations
- --------------------------------------------------------------------------------
Net investment income(6) $ 1.516
Net realized and unrealized loss (0.266)
- --------------------------------------------------------------------------------
Total income from operations $ 1.250
- --------------------------------------------------------------------------------
Distributions
- --------------------------------------------------------------------------------
Distributions to Shareholders $ (0.390)
- --------------------------------------------------------------------------------
Total distributions $ (0.390)
- --------------------------------------------------------------------------------
Net asset value - End of period $105.730
- --------------------------------------------------------------------------------
Total Return(1) 1.20%
- --------------------------------------------------------------------------------
As a Percentage As a Percentage
of Average Net of Average Gross
Ratios Assets(5) Assets(2)(5)
- --------------------------------------------------------------------------------
Expenses of Consolidated Real Property
Subsidiaries
Interest and other borrowing costs(7) 1.30%(9) 0.92%(9)
Operating expenses(7) 1.92%(9) 1.37%(9)
Belcrest Capital Fund LLC Expenses
Interest and other borrowing costs(4)(8) 0.46%(9) 0.33%(9)
Investment advisory and administrative
fees, servicing fees and other Fund
operating expenses(3)(4) 1.12%(9) 0.80%(9)
-----------------------------------
Total expenses 4.80%(9) 3.42%(9)
Net investment income 1.91%(9) 1.36%(9)
- --------------------------------------------------------------------------------
Supplemental Data
- --------------------------------------------------------------------------------
Net assets, end of period (000's omitted) $2,573,009
Portfolio turnover of Tax-Managed Growth Portfolio (the Portfolio) 2.41%
- --------------------------------------------------------------------------------
(1) Returns are calculated by determining the percentage change in net asset
value with all distributions reinvested. Total return is not computed on an
annualized basis.
(2) Average Gross Assets is defined as the average daily amount of all assets
of Belcrest Capital Fund LLC (Belcrest Capital) (not including its
investment in Belcrest Realty Corporation (Belcrest Realty)) plus all
assets of Belcrest Realty minus the sum of each entity's liabilities other
than the principal amount of money borrowed. For this purpose, the assets
and liabilities of Belcrest Realty's controlled subsidiaries are reduced by
the proportionate interests therein of investors other than Belcrest
Realty.
(3) Includes Belcrest Capital's share of Belvedere Capital Fund Company LLC's
allocated expenses, including those expenses allocated from the Portfolio.
(4) Includes the expenses of Belcrest Capital and Belcrest Realty. Does not
include expenses of the real estate subsidiaries majority-owned by Belcrest
Realty.
(5) For the purpose of calculating ratios, the income and expenses of Belcrest
Realty's controlled subsidiaries are reduced by the proportionate interests
therein of investors other than Belcrest Realty.
(6) Calculated using average shares outstanding.
(7) Includes Belcrest Realty's proportional shares of expenses incurred by its
majority-owned subsidiaries.
(8) Ratios do not include interest incurred in connection with interest rate
swap agreements. Had such amounts been included, ratios would be higher.
(9) Annualized.
See notes to unaudited condensed consolidated financial statements
9
BELCREST CAPITAL FUND LLC as of September 30, 2004
Notes to Condensed Consolidated Financial Statements (Unaudited)
1 Organization and Basis of Presentation
The condensed consolidated interim financial statements of Belcrest Capital Fund
LLC (Belcrest Capital) and its subsidiaries (collectively, the Fund) have been
prepared, without audit, in accordance with accounting principles generally
accepted in the United States of America for interim financial information and
with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, certain information and footnote disclosures normally included in
annual financial statements prepared in accordance with accounting principles
generally accepted in the United States of America have been condensed or
omitted as permitted by such rules and regulations. All adjustments, consisting
of normal recurring adjustments, have been included. Management believes that
the disclosures are adequate to present fairly the financial position, results
of operations, cash flows and financial highlights as of the dates and for the
periods presented. It is suggested that these interim financial statements be
read in conjunction with the financial statements and the notes thereto included
in the Fund's latest annual report on Form 10-K. Results for interim periods are
not necessarily indicative of those to be expected for the full fiscal year.
The balance sheet at December 31, 2003 and the statement of changes in net
assets for the year then ended have been derived from the December 31, 2003
audited financial statements but do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States of America for complete financial statements as permitted by the
instructions to Form 10-Q and Article 10 of Regulation S-X.
Certain amounts in the prior periods' condensed consolidated financial
statements have been reclassified to conform with the current period
presentation.
During the nine months ended September 30, 2004, Belcrest Realty Corporation
(Belcrest Realty) made indirect investments in real property through a newly
established controlled subsidiary, Allagash Property Trust (Allagash), as
described below. The consolidated financial statements include the accounts of
Allagash and all material intercompany accounts and transactions have been
eliminated.
Subsidiary-
Allagash- On May 3, 2004, Belcrest Realty entered into an agreement to establish
and acquire a majority interest in a controlled subsidiary, Allagash. On June
30, 2004, Allagash acquired a majority interest in five industrial distribution
properties located in three states (California, Florida and North Carolina). On
August 4, 2004, Allagash acquired an additional sixteen industrial distribution
properties located in six states (Florida, New York, New Jersey, Ohio,
Pennsylvania and South Carolina). Belcrest Realty owns 100% of the Class A Units
of Allagash, representing 60% of the voting interests in Allagash and a minority
shareholder (the Allagash Minority Shareholder) owns 100% of the Class B units,
representing 40% of the voting interests in Allagash. The Class B equity
interest is recorded as a minority interest on the Consolidated Statements of
Assets and Liabilities. The primary distinctions between the two classes of
shares are the distribution priority and voting rights. Belcrest Realty has
priority in distributions and has greater voting rights than the holder of the
Class B units. From and after August 4, 2012, either Belcrest Realty or the
Allagash Minority Shareholder may cause a liquidation of Allagash and, if
Belcrest Realty makes that election, the Allagash Minority Shareholder has the
right either to purchase the shares of Allagash owned by Belcrest Realty or to
acquire the assets of Allagash in either case at a price determined through an
appraisal of the assets of Allagash.
10
2 Investment Transactions
The following table summarizes the Fund's investment transactions for the nine
months ended September 30, 2004 and September 30, 2003:
Nine Months Ended Nine Months Ended
Investment Transaction September 30, 2004 September 30, 2003
- -----------------------------------------------------------------------------------------
Increases in investment in Belvedere Company $ - $ 23,700,000
Decreases in investment in Belvedere Company $176,328,007 $125,559,790
Acquisition of other real property(1) $419,323,825 $ -
Sales of other real property(2) $ 28,699,431 $ -
Purchases of Partnership Preference Units(3) $155,528,262 $ -
Sales of Partnership Preference Units(4) $213,400,534 $ 56,919,348
- -----------------------------------------------------------------------------------------
(1) On June 30 and August 4, 2004, Belcrest Realty purchased an indirect
investment in real property through a controlled subsidiary, Allagash for
$39,182,672 and $380,141,153, respectively (Note 1).
(2) During the nine months ended September 30, 2004, Belcrest Realty sold its
majority interest in Casco Property Trust, LLC (Casco) to another
investment fund advised by Boston Management and Research (Boston
Management), for which a loss of $14,221,385 was recognized.
(3) Purchases of Partnership Preference Units during the nine months ended
September 30, 2004 represent Partnership Preference Units purchased from
other investment funds advised by Boston Management. There were no
purchases for the nine months ended September 30, 2003.
(4) Sales of Partnership Preference Units for the nine months ended September
30, 2004 include Partnership Preference Units sold to other investment
funds advised by Boston Management for which a loss of $3,081,538 was
recognized. Sales of Partnership Preference Units for the nine months ended
September 30, 2003 did not include Partnership Preference Units sold to
other investment funds advised by Boston Management.
On May 3, 2004, Belcrest Realty entered into an agreement to establish and
acquire a majority interest in a controlled subsidiary, Allagash. During the
nine months ended September 30, 2004, Allagash acquired a majority interest in
twenty-one separate industrial distribution properties. The seller retained a
minority interest in the properties and an affiliate of the Allagash Minority
Shareholder manages the properties. A portion of the Fund's investment in
Allagash represents a partial interest in certain property management contracts.
Other interested parties to the property management contracts include an
affiliate of the Allagash Minority Shareholder. This partial interest provides
for Allagash to receive cash flows from management fees and certain other fees
over the life of the contracts in amounts that exceed certain preferred payments
to other interested parties. The estimated value of Allagash's interest in the
management contracts is approximately $3,800,000. Such value was estimated based
upon discounting expected cash flows over the terms of the agreements. The value
of such interests will be reviewed at least annually and may be adjusted if
there has been a significant change in economic circumstances since the most
recent valuation.
When Allagash acquired the real estate investment, a portion of the real
estate's purchase price was allocated to the estimated fair value of in-place
leases in accordance with Statement of Financial Accounting Standards 141. At
September 30, 2004, the real estate investment balance includes the estimated
fair value of favorable in-place leases totaling $391,274 at acquisition. The
properties are leased under fixed-term operating leases on a long-term basis. At
September 30, 2004, the minimum lease payments expected to be received by
Allagash on leases with lease periods greater than one year are as follows:
Twelve Months Ending September 30, Amount
------------------------------------------------------
2005 $ 23,209,828
2006 22,670,405
2007 18,054,817
2008 13,583,737
2009 10,344,611
Thereafter 23,591,454
--------------
$111,454,852
In May 2004, Bel Alliance Properties, LLC (Bel Alliance), a controlled
subsidiary of Belcrest Realty, agreed to sell all of its multifamily residential
properties to an affiliate of the Bel Alliance Minority Shareholder (Affiliate).
On October 2004, the sale transaction was completed and Bel Alliance received
proceeds of $51,425,025 as consideration for all of its interest in the
multifamily properties and did not retain any contingent liabilities associated
with the mortgage debt secured by the properties or other liabilities.
11
Concurrent with this sale, Belcrest Realty acquired the outstanding minority
interest in Bel Alliance for a nominal amount. The Fund had an increase in net
unrealized appreciation of $14,240,859 for the quarter ended September 30, 2004
as a result of the terms of the agreement. In October 2004, the Fund recognized
a loss of approximately $43,000,000 on the sale.
During the nine months ended September 30, 2003, the Fund exchanged Partnership
Preference Units in the amount of $6,440,043 for an equity investment in two
private real estate companies affiliated with the issuer of such formerly held
Partnership Preference Units and a note receivable in the amounts of $3,087,607
and $3,352,436, respectively. The secured note receivable (valued at $3,807,590
as of September 30, 2004 and $3,525,549 as of September 30, 2003) earns interest
of 8% per annum and matures in February 2013 or on demand.
3 Indirect Investment in the Portfolio
The following table summarizes the Fund's investment in Tax-Managed Growth
Portfolio (the Portfolio) through Belvedere Capital Fund Company LLC (Belvedere
Company) for the nine months ended September 30, 2004 and September 30, 2003,
including allocations of income, expenses and net realized and unrealized gains
(losses) for the respective periods then ended:
Nine Months Nine Months
Ended Ended
September 30, September 30,
2004 2003
- -------------------------------------------------------------------------------------------------------------------
Belvedere Company's interest in the Portfolio(1) $ 11,744,785,646 $ 9,775,572,306
The Fund's investment in Belvedere Company(2) $ 2,659,373,006 $ 2,576,595,863
Income allocated to Belvedere Company from the Portfolio $ 127,279,355 $ 102,346,416
Income allocated to the Fund from Belvedere Company $ 30,598,712 $ 27,609,483
Expenses allocated to Belvedere Company from the Portfolio $ 38,377,075 $ 31,352,609
Expenses allocated to the Fund from Belvedere Company $ 12,420,919 $ 11,336,229
Net realized gain (loss) from investment transactions and foreign currency
transactions allocated to Belvedere Company from the Portfolio $ 72,613,080 $ (10,803,952)
Net realized gain (loss) from investment transactions and foreign currency
transactions allocated to the Fund from Belvedere Company $ 20,885,588 $ (3,244,424)
Net change in unrealized appreciation (depreciation) of investments and
foreign currency allocated to Belvedere Company from the Portfolio $ (18,939,820) $ 898,392,188
Net change in unrealized appreciation (depreciation) of investments and
foreign currency allocated to the Fund from Belvedere Company $ (4,774,878) $ 242,362,840
- -------------------------------------------------------------------------------------------------------------------
(1) As of September 30, 2004 and 2003, the value of Belvedere Company's
interest in the Portfolio represents 65.9% and 62.1% of the Portfolio's net
assets, respectively.
(2) As of September 30, 2004 and 2003, the Fund's investment in Belvedere
Company represents 22.6% and 26.4% of Belvedere Company's net assets,
respectively.
A summary of the Portfolio's Statement of Assets and Liabilities at September
30, 2004, December 31, 2003 and September 30, 2003 and its operations for the
nine months ended September 30, 2004, for the year ended December 31, 2003 and
for the nine months ended September 30, 2003 follows:
12
September 30, December 31, September 30,
2004 2003 2003
----------------------------------------------------
Investments, at value $17,792,133,580 $17,584,390,762 $15,720,495,292
Other assets 38,445,443 25,462,745 22,166,551
- --------------------------------------------------------------------------------
Total assets $17,830,579,023 $17,609,853,507 $15,742,661,843
Loan Payable-Line of Credit 15,200,000 - -
Other liabilities 218,380 264,502 241,245
- --------------------------------------------------------------------------------
Total liabilities $ 15,418,380 $ 264,502 $ 241,245
- --------------------------------------------------------------------------------
Net assets $17,815,160,643 $17,609,589,005 $15,742,420,598
================================================================================
Dividends and interest $ 197,869,361 $ 232,925,912 $ 166,725,898
- --------------------------------------------------------------------------------
Investment adviser fee $ 57,812,972 $ 67,584,543 $ 49,370,631
Other expenses 1,911,200 2,295,653 1,730,334
- --------------------------------------------------------------------------------
Total expenses $ 59,724,172 $ 69,880,196 $ 51,100,965
- --------------------------------------------------------------------------------
Net investment income $ 138,145,189 $ 163,045,716 $ 115,624,933
Net realized gain (loss) from
investment transactions and
foreign currency transactions 118,172,446 70,909,770 (17,942,587)
Net change in unrealized
appreciation (depreciation)
of investments and foreign
currency (29,473,230) 3,174,709,110 1,449,036,078
- --------------------------------------------------------------------------------
Net increase in net assets
from operations $ 226,844,405 $ 3,408,664,596 $ 1,546,718,424
- --------------------------------------------------------------------------------
4 Interest Rate Swap Agreements
Belcrest Capital has entered into interest rate swap agreements with Merrill
Lynch Capital Services, Inc. in connection with its real estate investments and
the associated borrowings. Under such agreements, Belcrest Capital has agreed to
make periodic payments at fixed rates in exchange for payments at floating
rates. The notional or contractual amounts of these instruments may not
necessarily represent the amounts potentially subject to risk. The measurement
of the risks associated with these investments is meaningful only when
considered in conjunction with all related assets, liabilities and agreements.
Interest rate swap agreements open at September 30, 2004 and December 31, 2003
are listed below.
Notional Initial
Amount Optional Final Unrealized Unrealized
Effective (000's Fixed Floating Termination Termination Appreciation at Appreciation at
Date omitted) Rate Rate Date Date September 30, 2004 December 31, 2003
- ------------------------------------------------------------------------------------------------------------------
02/04 $ 78,620 5.00% LIBOR + 0.30% 08/04 06/10 $ 42,183 $ -
10/03 78,620 5.05% LIBOR + 0.30% 02/04 06/10 -* 197,524
10/03 128,116 4.865% LIBOR + 0.30% 07/04 06/10 299,142 451,953
10/03 170,000 4.795% LIBOR + 0.30% 09/04 06/10 622,301 695,087
10/03 63,526 4.69% LIBOR + 0.30% 02/05 06/10 355,811 305,966
10/03 55,375 4.665% LIBOR + 0.30% 03/05 06/10 320,038 272,239
10/03 80,965 4.145% LIBOR + 0.30% 03/10 06/10 156,382 527,521
10/03 47,253 4.045% LIBOR + 0.30% - 06/10 285,359 544,812
06/10 3,870 6.29% LIBOR + 0.30% - 07/15 (64,981) 11,026
- ------------------------------------------------------------------------------------------------------------------
$2,016,235 $3,006,128
- ------------------------------------------------------------------------------------------------------------------
* Agreement was terminated on the Initial Optional Termination Date.
On May 3, 2004, Belcrest Capital entered into a forward interest rate swap
agreement with Merrill Lynch Capital Services, Inc. for a notional amount of
$248,000,000 in anticipation of its future investment in a controlled
13
subsidiary, Allagash, for the purpose of hedging Belcrest Realty's proportionate
share of the interest rate of substantially all of the expected fixed-rate
mortgage financing of the real property over the expected 8-year term. Such
agreement was terminated in July 2004 and the Fund realized a loss of $3,758,467
upon termination.
5 Debt
In August 2004, Belcrest Capital made borrowings under its credit arrangement
with Merrill Lynch Mortgage Capital, Inc. (Merrill Lynch) in the amount of
$138,000,000. At that time, Belcrest Capital also increased the amount available
with Merrill Lynch under a temporary arrangement (the Temporary Arrangement) by
$138,000,000 and borrowed that amount. Belcrest Capital used the proceeds from
these borrowings to finance the Fund's investment in Allagash (Note 2). The
borrowing under the Temporary Arrangement accrues interest at a rate of
one-month LIBOR plus 0.90%. The Temporary Arrangement was to expire on October
29, 2004. On October 28, 2004, Merrill Lynch agreed to extend the Temporary
Arrangement until November 12, 2004. Any unused amount of the increase
pertaining to the Temporary Arrangement is subject to a commitment fee of 0.10%
per annum. The assets of Belcrest Capital, excluding the assets of Bel Alliance,
Bel Santa Ana LLC (Bel Santa Ana), and Allagash, secure all borrowings under the
credit arrangements with Merrill Lynch.
Allagash expects to obtain first mortgage financing for its investment in real
properties in the fourth quarter of 2004. The proceeds from such mortgage
financing will be used to repay Belcrest Capital, and accordingly, Belcrest
Capital will repay its borrowings under the Temporary Arrangement and a portion
of other borrowings under the Credit Facility.
In February 2004, in conjunction with the sale of Belcrest Realty's majority
interest in Casco (Note 2), the mortgage payable by Casco was assumed by the
buyer. At the time of the transaction, the loan balance was $120,901,649.
Rental property held by Belcrest Realty's controlled subsidiaries is financed in
part through mortgages issued to the controlled subsidiaries. The mortgages are
secured by a rental property or properties. The mortgages are generally without
recourse to Belcrest Realty and Belcrest Capital, except, in the case of Casco
(for the period from January 1, 2004 to February 24, 2004), for certain
liabilities associated with fraud, misrepresentation, misappropriation of funds,
or breach of material covenants, and liabilities arising from environmental
conditions involving or affecting the rental property subject to the mortgages.
Belcrest Capital and Belcrest Realty have received indemnification from the
Casco Minority Shareholder for certain of such potential liabilities. The
mortgage debt obligation of Bel Santa Ana is generally without recourse to
Belcrest Realty, Belcrest Capital and Shareholders. Belcrest Capital and
Belcrest Realty may, however, be directly or indirectly responsible for certain
liabilities constituting exceptions to the generally non-recourse nature of the
mortgage indebtedness, including liabilities associated with fraud,
misrepresentation, misappropriation of funds, or breach of material covenants.
The mortgage agreements relating to the rental properties held by Bel Alliance
require certain covenants be met, including a covenant that trade payables and
accrued expenses incurred in the ordinary course of business in the aggregate
will not exceed 1% of the outstanding principal balance of the loan. At
September 30, 2004, this covenant was not met for certain mortgage agreements,
of which the aggregate principal balance at September 30, 2004 totaled
$166,678,672, or 42% of the total mortgages outstanding. The mortgage agreements
provide for a cure period of 30 days after written notification from the
lenders, with a further extension of up to 60 additional days. As of September
30, 2004 and through the sale in October 2004, the lenders had not provided such
notice.
14
During the nine months ended September 30, 2004, Bel Alliance chose not to
commit additional equity to rental properties operating at deficits for payment
of principal and interest due on certain mortgages related to rental properties
operating at deficits. The rental properties are the only source of security for
these mortgages. As a result, Bel Alliance has reduced the carrying value of
certain mortgage notes by $16,691,141 as of September 30, 2004 and $22,432,314
as of December 31, 2003 to the estimated fair value of the underlying real
estate. Upon the sale of Belcrest Realty's interest in the Bel Alliance
properties in October 2004, Belcrest Realty did not retain any contingent
liabilities associated with the mortgage debt secured by the properties.
6 Segment Information
Belcrest Capital pursues its investment objective primarily by investing
indirectly in the Portfolio through Belvedere Company. The Portfolio is a
diversified investment company that emphasizes investments in common stocks of
domestic and foreign growth companies that are considered to be high in quality
and attractive in their long-term investment prospects. Separate from its
investment in Belvedere Company, Belcrest Capital invests in real estate assets
through its subsidiary Belcrest Realty. Belcrest Realty invests directly and
indirectly in Partnership Preference Units, debt and equity investments in
private real estate companies and in real property through controlled
subsidiaries, Bel Santa Ana, Bel Alliance, Casco (Note 2) and Allagash (Note 1).
Belcrest Capital evaluates performance of the reportable segments based on the
net increase (decrease) in net assets from operations of the respective segment,
which includes net investment income (loss), net realized gain (loss) and
unrealized appreciation (depreciation). The accounting policies of the
reportable segments are the same as those for the Fund on a consolidated basis.
No reportable segments have been aggregated. Reportable information by segment
is as follows:
Tax-Managed
For the Three Months Ended Growth Real
September 30, 2004 Portfolio* Estate Total
- ----------------------------------------------------------------------------------------------------------------
Revenue $ 6,044,473 $ 34,313,218 $ 40,357,691
Interest expense on mortgages - (8,278,467) (8,278,467)
Interest expense on Credit Facility - (4,004,437) (4,004,437)
Operating expenses (357,834) (15,811,213) (16,169,047)
Minority interest in net income of
controlled subsidiaries - (795,217) (795,217)
- ----------------------------------------------------------------------------------------------------------------
Net investment income $ 5,686,639 $ 5,423,884 $ 11,110,523
Net realized loss (1,240) (9,414,082) (9,415,322)
Change in unrealized appreciation (depreciation) (65,711,201) (3,214,840) (68,926,041)
- ----------------------------------------------------------------------------------------------------------------
Net decrease in net assets from
operations of reportable segments $(60,025,802) $ (7,205,038) $(67,230,840)
- ----------------------------------------------------------------------------------------------------------------
15
Tax-Managed
For the Three Months Ended Growth Real
September 30, 2003 Portfolio* Estate Total
- ----------------------------------------------------------------------------------------------------------------
Revenue $ 5,417,889 $ 39,245,095 $ 44,662,984
Interest expense on mortgages - (10,442,120) (10,442,120)
Interest expense on Credit Facility - (3,005,346) (3,005,346)
Operating expenses (394,197) (16,725,721) (17,119,918)
Minority interest in net income of
controlled subsidiaries - (360,764) (360,764)
- ----------------------------------------------------------------------------------------------------------------
Net investment income $ 5,023,692 $ 8,711,144 $ 13,734,836
Net realized gain (loss) 1,835,118 (9,598,114) (7,762,996)
Change in unrealized appreciation (depreciation) 53,492,307 1,735,825 55,228,132
- ----------------------------------------------------------------------------------------------------------------
Net increase in net assets from
operations of reportable segments $ 60,351,117 $ 848,855 $ 61,199,972
- ----------------------------------------------------------------------------------------------------------------
Tax-Managed
For the Nine Months Ended Growth Real
September 30, 2004 Portfolio* Estate Total
- ----------------------------------------------------------------------------------------------------------------
Revenue $ 18,177,793 $105,309,119 $123,486,912
Interest expense on mortgages - (26,221,242) (26,221,242)
Interest expense on Credit Facility - (8,858,988) (8,858,988)
Operating expenses (1,495,012) (44,464,215) (45,959,227)
Minority interest in net income of
controlled subsidiaries - (920,014) (920,014)
- ----------------------------------------------------------------------------------------------------------------
Net investment income $ 16,682,781 $ 24,844,660 $ 41,527,441
Net realized gain (loss) 20,885,588 (34,497,090) (13,611,502)
Change in unrealized appreciation (depreciation) (4,774,878) 13,299,836 8,524,958
- ----------------------------------------------------------------------------------------------------------------
Net increase in net assets from
operations of reportable segments $ 32,793,491 $ 3,647,406 $ 36,440,897
- ----------------------------------------------------------------------------------------------------------------
Tax-Managed
For the Nine Months Ended Growth Real
September 30, 2003 Portfolio* Estate Total
- ----------------------------------------------------------------------------------------------------------------
Revenue $ 16,273,254 $123,040,482 $139,313,736
Interest expense on mortgages - (31,250,849) (31,250,849)
Interest expense on Credit Facility - (9,845,817) (9,845,817)
Operating expenses (1,088,109) (49,274,603) (50,362,712)
Minority interest in net income of
controlled subsidiaries - (1,911,727) (1,911,727)
- ----------------------------------------------------------------------------------------------------------------
Net investment income $ 15,185,145 $ 30,757,486 $ 45,942,631
Net realized loss (3,244,424) (33,474,814) (36,719,238)
Change in unrealized appreciation (depreciation) 242,362,840 32,073,499 274,436,339
- ----------------------------------------------------------------------------------------------------------------
Net increase in net assets from
operations of reportable segments $254,303,561 $ 29,356,171 $283,659,732
- ----------------------------------------------------------------------------------------------------------------
Tax-Managed
Growth Real
At September 30, 2004 Portfolio* Estate Total
- -----------------------------------------------------------------------------------------------------------------
Segment assets $2,659,373,006 $1,404,856,567 $4,064,229,573
Segment liabilities 4,728,205 1,476,618,516 1,481,346,721
- -----------------------------------------------------------------------------------------------------------------
Net assets (liabilities) of reportable segments $2,654,644,801 $ (71,761,949) $2,582,882,852
- -----------------------------------------------------------------------------------------------------------------
At December 31, 2003
- -----------------------------------------------------------------------------------------------------------------
Segment assets $2,801,412,510 $1,099,020,956 $3,900,433,466
Segment liabilities 1,059 1,197,408,196 1,197,409,255
- -----------------------------------------------------------------------------------------------------------------
Net assets (liabilities) of reportable segments $2,801,411,451 $ (98,387,240) $2,703,024,211
- -----------------------------------------------------------------------------------------------------------------
* Belcrest Capital invests indirectly in Tax-Managed Growth Portfolio through
Belvedere Company.
The following tables reconcile the reported segment information to the condensed
consolidated financial statements for the periods indicated:
16
Three Months Three Months Nine Months Nine Months
Ended Ended Ended Ended
September 30, September 30, September 30, September 30,
2004 2003 2004 2003
----------------------------------------------------------------------------------
Revenue:
Revenue from reportable segments $ 40,357,691 $ 44,662,984 $123,486,912 $139,313,736
Unallocated amounts:
Interest earned on cash not invested
in the Portfolio or in subsidiaries 73,463 33,748 308,544 139,222
----------------------------------------------------------------------------------
Total revenue $ 40,431,154 $ 44,696,732 $123,795,456 $139,452,958
----------------------------------------------------------------------------------
Net increase (decrease) in net assets from
operations:
Net (decrease) increase in net assets
from operations of reportable segments $(67,230,840) $ 61,199,972 $ 36,440,897 $283,659,732
Unallocated investment income:
Interest earned on cash not
invested in the Portfolio or in
subsidiaries 73,463 33,748 308,544 139,222
Unallocated expenses(1):
Distribution and servicing fees (938,553) (882,495) (2,911,268) (2,513,164)
Interest expense on Credit Facility (166,852) (61,334) (369,125) (200,935)
Audit, tax and legal fees (58,511) (53,889) (173,136) (166,090)
Other operating expenses (18,672) (18,671) (66,134) (78,491)
----------------------------------------------------------------------------------
Total net (decrease) increase in net
assets from operations $(68,339,965) $ 60,217,331 $ 33,229,778 $280,840,274
----------------------------------------------------------------------------------
September 30, 2004 December 31, 2003
------------------ -----------------
Net assets:
Net assets of reportable segments $2,582,882,852 $2,703,024,211
Unallocated amounts:
Cash(2) 3,471,388 20,001
Short-term investments(2) 1,864,000 48,059,348
Loan payable-Credit Facility(3) (14,989,056) (14,989,056)
Other liabilities (219,737) (6,929,912)
------------------ -----------------
Total net assets $2,573,009,447 $2,729,184,592
------------------ -----------------
(1) Unallocated expenses represent costs incurred that pertain to the overall
operation of Belcrest Capital, and do not pertain to either operating
segment.
(2) Unallocated cash and short-term investments represent cash and cash
equivalents not invested in the Portfolio or real estate assets.
(3) Unallocated amount of loan payable - Credit Facility represents borrowings
not specifically used to fund real estate investments. Such borrowings are
generally used to pay selling commissions, organization expenses and other
liquidity needs of the Fund.
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
- --------------------------------------------------------------------------------
The information in this report contains forward-looking statements within the
meaning of the federal securities laws. Forward-looking statements typically are
identified by use of terms such as "may," "will," "should," "might," "expect,"
"anticipate," "estimate," and similar words, although some forward-looking
statements are expressed differently. The actual results of Belcrest Capital
Fund LLC (the Fund) could differ materially from those contained in the
forward-looking statements due to a number of factors. The Fund undertakes no
obligation to update publicly any forward-looking statements, whether as a
result of new information, future events, or otherwise, except as required by
applicable law. Factors that could affect the Fund's performance include a
decline in the U.S. stock markets or in general economic conditions, adverse
developments affecting the real estate industry, or fluctuations in interest
rates.
The following discussion should be read in conjunction with the Fund's unaudited
condensed consolidated financial statements and related notes in Item 1 above.
RESULTS OF OPERATIONS FOR THE QUARTER ENDED SEPTEMBER 30, 2004 COMPARED TO THE
QUARTER ENDED SEPTEMBER 30, 2003
- --------------------------------------------------------------------------------
(a) RESULTS OF OPERATIONS.
- --------------------------
Increases and decreases from operations in the Fund's net asset value per share
are derived from net investment income (or loss) and realized and unrealized
gains and losses on investments. The Fund's net investment income (or loss) is
determined by subtracting the Fund's total expenses from its investment income
and then deducting the minority interest in net income (or loss) of the
controlled subsidiaries of Belcrest Realty Corporation (Belcrest Realty). The
Fund's investment income includes the net investment income allocated to the
Fund from Belvedere Capital Fund Company LLC (Belvedere Company), rental income
from the properties owned by Belcrest Realty's controlled subsidiaries,
partnership income allocated to the income-producing preferred equity interests
in real estate operating partnerships (Partnership Preference Units) owned by
Belcrest Realty and interest earned on the Fund's short-term investments (if
any). The net investment income of Belvedere Company allocated to the Fund
includes dividends, interest and expenses allocated to Belvedere Company by
Tax-Managed Growth Portfolio (the Portfolio) less the expenses of Belvedere
Company allocated to the Fund. The Fund's total expenses include the Fund's
investment advisory and administrative fees, distribution and servicing fees,
interest expense from mortgages on properties owned by Belcrest Realty's
controlled subsidiaries, interest expense on the Fund's Credit Facility
(described in Item 2(b) below), property management fees, property taxes,
insurance, maintenance and other expenses relating to the properties owned by
Belcrest Realty's controlled subsidiaries, and other miscellaneous expenses. The
Fund's realized and unrealized gains and losses are the result of transactions
in, or changes in value of, security investments held through the Fund's
indirect interest (through Belvedere Company) in the Portfolio, real estate
investments held through Belcrest Realty, the Fund's interest rate swap
agreements and any other direct investments of the Fund, as well as periodic
payments made by the Fund pursuant to interest rate swap agreements.
Realized and unrealized gains and losses on investments have the most
significant impact on the Fund's net asset value per share and result primarily
from sales of such investments and changes in their underlying value. The
investments of the Portfolio consist primarily of common stocks of domestic and
foreign growth companies that are considered to be high in quality and
attractive in their long-term investment prospects. Because the securities
holdings of the Portfolio are broadly diversified, the performance of the
Portfolio cannot be attributed to one particular stock or one particular
industry or market sector. The performance of the Portfolio and the Fund are
substantially influenced by the overall performance of the U.S. stock market, as
well as by the relative performance versus the overall market of specific stocks
and classes of stocks in which the Portfolio maintains large positions.
PERFORMANCE OF THE FUND.(1) The Fund's investment objective is to achieve
long-term, after-tax returns for Shareholders. Eaton Vance Management (Eaton
Vance), as the Fund's manager, measures the Fund's success in achieving its
objective based on the investment returns of the Fund, using the S&P 500 Index
(the S&P 500) as the Fund's primary performance benchmark. The S&P 500 is a
broad-based unmanaged index of common stocks widely used as a measure of U.S.
stock market performance. Eaton Vance's primary focus in pursuing total return
- --------------------------------
(1) Total returns are historical and are calculated by determining the
percentage change in net asset value with all distributions reinvested.
Past performance is no guarantee of future results. Investment return and
principal value will fluctuate so that shares, when redeemed, may be worth
more or less than their original cost. The Portfolio's total return for the
period reflects the total return of another fund that invests in the
Portfolio, adjusted for certain fund expenses. Performance is for the
stated time period only and is not annualized; due to market volatility,
the Fund's current performance may be lower or higher. The performance of
the Fund and the Portfolio is compared to that of their benchmark, the S&P
500. It is not possible to invest directly in an Index.
18
is on the Fund's common stock portfolio, which consists of its indirect interest
in the Portfolio. In measuring the performance of the Fund's real estate
investments held through Belcrest Realty, Eaton Vance considers whether, through
current returns and changes in valuation, the real estate investments achieve
returns that over the long-term exceed the cost of the borrowing incurred to
acquire such investments and thereby add to Fund returns. The Fund has entered
into interest rate swap agreements to fix the cost of borrowings under the
Credit Facility used to acquire Belcrest Realty's equity in its real estate
investments and to mitigate in part the impact of interest rate changes on the
Fund's net asset value.
The Fund's total return was -2.48% for the quarter ended September 30, 2004.
This return reflects a decrease in the Fund's net asset value per share from
$108.42 to $105.73 during the period. The total return of the S&P 500 was -1.87%
over the same period. The performance of the Fund trailed that of the Portfolio
by approximately 0.44% during the period. Last year, the Fund had a total return
performance of 2.44% for the quarter ended September 30, 2003. This return
reflected an increase in the Fund's net asset value per share from $90.66 to
$92.87 during the period. The S&P 500 had a total return of 2.65% over the same
period. The performance of the Fund exceeded that of the Portfolio by
approximately 0.09% during that period.
PERFORMANCE OF THE PORTFOLIO. For the quarter ended September 30, 2004, the
Portfolio's total return was -2.04%, slightly lower than the S&P 500 Index,
which posted a -1.87% return during the quarter. The third quarter of 2004 was
disappointing for equity returns, as pre-election jitters and moderating
earnings growth expectations in the face of rising oil prices and higher
short-term interest rates weighed on the markets.
During the third quarter of 2004, value stocks generally outperformed growth
stocks. The Portfolio's modest underperformance during this period was
attributable in part to a relative underweight of the market's strongest
performing industries, specifically electric utilities, diversified telecom and
metals. Investor anxiety over higher short-term interest rates and the
unrelenting surge in oil prices pressured economically sensitive sectors,
particularly consumer discretionary and information technology stocks. The
Portfolio benefited from a decreased exposure to media, specialty retail and
semiconductor industries during the quarter ended September 30, 2004. The
Portfolio's ongoing emphasis of the energy sector was also beneficial, as energy
stocks advanced on record high oil prices. Within the financials sector,
recognizing increased interest rate risk, the Portfolio redeployed assets in
less interest-sensitive industries. The Portfolio's de-emphasis of
pharmaceuticals was also helpful, given political and company specific headwinds
faced by health care stocks in the third quarter of 2004.
For the quarter ended September 30, 2003, the Portfolio's total return was 2.35%
compared to the 2.65% total return achieved by the S&P 500. Favorable fiscal and
monetary policies, resilient consumer spending and positive earnings momentum
contributed to the market's strength during the third quarter of 2003. The
Portfolio's stock selection and underweighting of the telecommunication and
health care sectors were beneficial during the quarter ended September 30, 2003,
but not sufficient to offset the impact of the Portfolio's underweighting during
that quarter of the information technnology sector (the best performing sector
during the quarter).
PERFORMANCE OF REAL ESTATE INVESTMENTS. The Fund's real estate investments are
held through Belcrest Realty. As of September 30, 2004, real estate investments
included two real estate joint ventures (Real Estate Joint Ventures), an office
property subject to a long-term triple net lease (Net Leased Property) and a
portfolio of Partnership Preference Units issued by partnerships affiliated with
publicly traded and private real estate investment trusts (REITs). The Real
Estate Joint Ventures operate multifamily or industrial distribution properties.
As of September 30, 2004, the estimated fair value of the Fund's real estate
investments represented 33.6% of the Fund's total assets on a consolidated
basis. After adjusting for minority interests in the Real Estate Joint Ventures,
the Fund's real estate investments represented 49.2% of the Fund's net assets as
of September 30, 2004.
On August 4, 2004, Allagash Property Trust (Allagash), a Real Estate Joint
Venture, through its interest in ProLogis Six Rivers Limited Partnership (Six
Rivers), participated in the merger of Six Rivers with Keystone Property Trust
(Keystone), a publicly-held REIT. As part of the Keystone transaction, Allagash
increased its ownership interest in the properties acquired during the quarter
ended June 30, 2004 to 100% and acquired a partnership interest in Six Rivers.
Through its interest in Six Rivers, Allagash acquired 100% of the economic
interest in certain industrial distribution properties for approximately $475.1
million. Belcrest Realty owns a majority interest in Allagash, ProLogis owns a
minority interest in Allagash and ProLogis or an affiliate thereof manages the
properties. Allagash expects to obtain first mortgage financing in the fourth
quarter of 2004, which will be secured by the properties it owns and is without
recourse to Belcrest Realty, the Fund or its Shareholders. Pursuant to an
agreement between Belcrest Realty and ProLogis, Belcrest Realty may (but is not
obligated to) make loans to Allagash to fund certain items such as debt service,
insurance or property taxes.
19
In May 2004, Bel Alliance Properties LLC (Bel Alliance), a Real Estate Joint
Venture, agreed to sell all of its multifamily properties to an affiliate of the
minority interest holder in Bel Alliance. On October 29, 2004, the sale
transaction was completed and Bel Alliance received net proceeds of
approximately $51.3 million as consideration for all of its interest in its
multifamily properties and did not retain any contingent liabilities associated
with the mortgage debt secured by the properties or other liabilities. Belcrest
Realty recognized a loss of approximately $43.0 million on the sale. Concurrent
with this sale, Belcrest Realty acquired the outstanding minority interest in
Bel Alliance for a nominal amount.
During the quarter ended September 30, 2004, rental income from real estate
operations was approximately $26.0 million compared to approximately $27.3
million for the quarter ended September 30, 2003, a decrease of $1.3 million or
5%. This reflects a decrease in income from multifamily properties offset in
part by income from the industrial distribution properties acquired on June 30
and August 4, 2004. Multifamily income decreased primarily due to fewer
multifamily properties held during the quarter because of the sale of Casco
Property Trust, LLC (Casco) in February 2004 and also due in part to modestly
lower rental revenues from other multifamily properties as the result of reduced
apartment rental rates, increased rent concessions and lower occupancy levels
during the quarter. For the quarter ended September 30, 2003, rental income
decreased due principally to the sale of a Real Estate Joint Venture in 2002 and
was also affected by increased rent concessions or reduced apartment rental
rates and lower occupancy levels at Belcrest Realty's remaining multifamily
properties during the quarter.
During the quarter ended September 30, 2004, property operating expenses were
approximately $13.1 million compared to approximately $14.5 million for the
quarter ended September 30, 2003, a decrease of 10% (property operating expenses
are before certain operating expenses of Belcrest Realty of approximately $2.7
million for the quarter ended September 30, 2004 and $2.2 million for the
quarter ended September 30, 2003). The net decrease in property operating
expenses was principally due to fewer multifamily properties held during the
quarter because of the sale of Casco in February 2004 offset in part by the
expenses of the industrial distribution properties acquired on June 30 and
August 4, 2004 and a modest increase in multifamily property operating expenses.
During the quarter ended September 30, 2003, property operating expenses
decreased principally due to fewer Real Estate Joint Ventures held compared to
the same quarter in 2002, partially offset by modest increases in property and
maintenance expenses as well as taxes and insurance expenses during the quarter.
The near term outlook for multifamily property operations continues to be weak.
While the recent pick-up in economic and employment growth is expected to lead
to improved supply-demand balance in the apartment industry, oversupply
conditions continue to exist in most major markets. Boston Management expects
that multifamily real estate operating results for the remainder of 2004 will
continue to be similar to 2003. In 2004, many industrial markets in the United
States began to experience increased demand for space after several years of
occupancy and rental rate declines. For many industrial distribution properties,
reduced rent levels are likely to continue over the near term as above-market
leases mature and space is released at current market rates. Boston Management
expects that improvements in multifamily and industrial distribution property
operating performance will occur over the longer term.
At September 30, 2004, the estimated fair value of the real properties
indirectly held through Belcrest Realty (including the interest in property
management contracts described in Note 2 to the Fund's unaudited condensed
consolidated financial statements in Item 1 above) was approximately $975.6
million compared to approximately $616.5 million at September 30, 2003, a net
increase of $359.1 million or 58%. The net increase in estimated real property
values at September 30, 2004 as compared to September 30, 2003 was principally
due to the properties acquired by Allagash, offset in part by the February 2004
sale of Casco. The decrease in estimated property values at September 30, 2003
as compared to September 30, 2002 was due to fewer properties held as compared
to the same period in 2002 and modest decreases in property values resulting
from declines in near term earnings expectations and the economic downturn.
Decreases in capitalization rates partially offset declining income level
expectations during that quarter. The capitalization rate, a term commonly used
in the real estate industry, is the rate of return percentage applied to actual
or projected income levels to estimate the value of a real estate investment.
During the quarter ended September 30, 2004, the Fund saw net unrealized
appreciation of the estimated fair value of its other real estate investments
(which includes the Real Estate Joint Ventures and the Net Leased Property) of
approximately $1.9 million compared to unrealized depreciation of approximately
$6.1 million during the quarter ended September 30, 2003. Net unrealized
appreciation during the quarter ended September 30, 2004 included approximately
$4.0 million of unrealized appreciation resulting from an increase in the
estimated fair value of the Net Leased Property offset by approximately $2.0
million of unrealized depreciation due to certain legal and transaction costs
associated with Allagash's acquisitions. Unrealized depreciation during the
quarter ended September 30, 2003 was due to modest decreases in estimated
property values during the quarter.
20
During the quarter ended September 30, 2004, Belcrest Realty sold (or
experienced scheduled redemptions of) certain of its Partnership Preference
Units totaling approximately $123.1 million (including sales to other investment
funds advised by Boston Management), recognizing losses of approximately $0.8
million on the transactions. During the quarter ended September 30, 2004,
Belcrest Realty also acquired interests in additional Partnership Preference
Units (including acquisitions from other investment funds advised by Boston
Management) totaling approximately $16.5 million. At September 30, 2004, the
estimated fair value of Belcrest Realty's Partnership Preference Units totaled
approximately $386.8 million compared to approximately $519.5 million at
September 30, 2003, a net decrease of $132.7 million or 26%. While the net
decrease in value was principally due to fewer Partnership Preference Units held
at September 30, 2004, the net decrease also reflects lower per unit values of
Partnership Preference Units held at September 30, 2004 principally due to their
lower average coupons. In the current low interest rate environment, many
issuers have been redeeming Partnership Preference Units as call protections
expire or restructuring the terms of outstanding Partnership Preference Units in
advance of their call dates. As a result, many of the higher-yielding
Partnership Preference Units held by Belcrest Realty during the quarter ended
September 30, 2003 were no longer held at September 30, 2004. Boston Management
expects this trend to continue through 2004. At September 30, 2003, the
estimated fair value of Partnership Preference Units had decreased principally
due to fewer units held as compared to September 30, 2002. The per unit value of
the remaining Partnership Preference Units also declined slightly during the
quarter.
During the quarter ended September 30, 2004, the Fund saw unrealized
appreciation of the estimated fair value of its Partnership Preference Units of
approximately $3.9 million compared to unrealized depreciation of approximately
$3.4 million during the quarter ended September 30, 2003. The net unrealized
appreciation of approximately $3.9 million during the third quarter of 2004
consisted of approximately $1.9 million of unrealized appreciation resulting
from modest increases in per unit values of the Partnership Preference Units
held by Belcrest Realty at September 30, 2004, and approximately $2.0 million of
unrealized appreciation resulting from the recharacterization of previously
recorded unrealized depreciation to realized losses due to sales of Partnership
Preference Units during the quarter ended September 30, 2004.
Distributions received from Partnership Preference Units for the quarter ended
September 30, 2004 totaled approximately $8.3 million compared to approximately
$11.8 million for the quarter ended September 30, 2003, a decrease of $3.5
million or 30%. The decrease was principally due to fewer Partnership Preference
Units held on average, as well as lower average distribution rates for the
Partnership Preference Units held during the quarter ended September 30, 2004.
During the quarter ended September 30, 2003, distributions from Partnership
Preference Units decreased due to fewer Partnership Preference Units held during
the same quarter in 2002.
PERFORMANCE OF INTEREST RATE SWAP AGREEMENTS. For the quarter ended September
30, 2004, net realized and unrealized losses on the Fund's interest rate swap
agreements totaled approximately $17.6 million, compared to net realized and
unrealized losses of approximately $0.1 million for the quarter ended September
30, 2003. Net realized and unrealized losses on swap agreements for the quarter
ended September 30, 2004 consisted of $9.0 million of unrealized depreciation
due to changes in swap agreement valuations, $4.8 million of periodic payments
made pursuant to outstanding swap agreements and $3.8 million of realized losses
on termination of swap agreements. For the quarter ended September 30, 2003,
unrealized appreciation of $11.3 million on swap agreement valuation changes was
offset by $11.4 million of swap agreement periodic payments. The negative impact
on Fund performance for the quarter ended September 30, 2004 from changes in
swap agreement valuations was attributable to a decline in swap rates during the
period. The positive contribution to Fund performance for the quarter ended
September 30, 2003 from changes in swap valuations was due to a number of swap
agreements approaching their initial optional termination dates and an increase
in swap rates during the period.
RESULTS OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 COMPARED TO
THE NINE MONTHS ENDED SEPTEMBER 30, 2003
- --------------------------------------------------------------------------------
PERFORMANCE OF THE FUND. The Fund's total return was 1.20% for the nine months
ended September 30, 2004. This return reflects an increase in the Fund's net
asset value per share from $104.87 to $105.73 and a distribution of $0.39 per
share during the period. The S&P 500 had a total return of 1.51% over the same
period. The performance of the Fund trailed that of the Portfolio by
approximately 0.13% during the period. Last year, the Fund had a total return
performance of 12.54% for the nine months ended September 30, 2003. This return
reflected an increase in the Fund's net asset value per share from $82.94 to
$92.87 and a distribution of $0.43 per share. The S&P 500 had a total return of
14.71% over the same period. The performance of the Fund exceeded that of the
Portfolio by 1.80% during that period.
21
PERFORMANCE OF THE PORTFOLIO. For the nine months ended September 30, 2004, the
Portfolio's total return was 1.33%, slightly lower than the S&P 500, which
returned 1.51% for the period. U.S. equity markets remained range-bound during
the period, restrained by investor anxiety over higher short-term interest
rates, rising energy prices and moderating consumer spending. Geopolitical and
economic concerns were offset by low inflation levels, continued earnings
strength and attractive valuations. Investors returned to quality,
dividend-paying stocks, avoiding last year's high volatility, low quality
investments. During the first nine months of 2004, mid-cap stocks outperformed
large-caps and small-caps, and value stocks trounced growth investments.
The Portfolio's modest underperformance during this period was attributable in
part to adverse stock selection within the market's lagging sectors. Investments
within media, retail and health care service industries detracted from returns.
The Portfolio maintained an overweight of industrials stocks and benefited from
advances in airfreight, defense and machinery holdings. While the information
technology and consumer staples sectors lagged the market during the first nine
months of 2004, the Portfolio's allocation and investment selections within
computer peripherals and food products were beneficial. The Portfolio's ongoing
emphasis of the commodity-related investments in the energy and materials
sectors was also positive, as stocks advanced on higher commodity prices. During
the nine months ended September 30, 2004, the Portfolio continued to underweight
the utilities and telecom sectors.
For the nine months ended September 30, 2003, the Portfolio's total return was
10.74% compared to the 14.71% total return achieved by the S&P 500. In March of
2003, equity markets began a sharp rally coincident with U.S. military success
in Iraq and the development of stronger economic conditions domestically. The
Portfolio's relative underperformance during the period was attributable
primarily to its lower exposure to higher volatility, lower quality stocks that
were the strongest performers in the market rally.
PERFORMANCE OF REAL ESTATE INVESTMENTS. During the nine months ended September
30, 2004, Belcrest Realty purchased and sold certain real estate investments. In
February 2004, Belcrest Realty sold its majority interest in Casco for
approximately $28.7 million to another fund advised by Boston Management.
Belcrest Realty recognized a loss of $14.2 million on the sale. The loss
represented the realization of previously recorded unrealized depreciation of
the value of Belcrest Realty's investment in Casco. In May 2004, Bel Alliance
agreed to sell all of its real estate assets to an affiliate of the minority
interest holder in Bel Alliance. Reflecting the anticipated sale, an increase of
approximately $14.7 million of unrealized appreciation is reported on the Fund's
unaudited consolidated financial statements for the nine months ended September
30, 2004 included in Item 1 above. The Bel Alliance sale was consummated in
October 2004.
On June 30, 2004, Allagash acquired a majority interest in certain industrial
distribution properties from ProLogis for approximately $39.2 million. ProLogis
retained a minority interest in the properties. In May 2004, Belcrest Realty
entered into agreements with ProLogis to form Six Rivers (in association with
subsidiaries of other investment funds advised by Boston Management) and to
merge Six Rivers with Keystone. The transactions contemplated by these
agreements were consummated on August 4, 2004. As a result of the transactions,
Allagash acquired a partnership interest in Six Rivers. In addition, Prologis
acquired a minority interest in Allagash. Through its interest in Six Rivers,
Allagash owns 100% of the economic interest in certain industrial distribution
properties acquired through the merger of Six Rivers and Keystone for
approximately $475.1 million. Allagash expects to obtain first mortgage
financing that is secured by its properties during the fourth quarter of 2004.
At the time of acquisition, the Fund provided interim financing for Allagash.
During the nine months ended September 30, 2004, rental income from real estate
operations was approximately $71.9 million compared to approximately $83.4
million for the nine months ended September 30, 2003, a decrease of $11.5
million or 14%. This reflects a decrease in income from multifamily properties
offset in part by income from the industrial distribution properties acquired on
June 30 and August 4, 2004. Multifamily income decreased primarily due to fewer
multifamily properties held during the quarter because of the sale of Casco in
February 2004 and also due in part to modestly lower rental revenues from other
multifamily properties as the result of reduced apartment rental rates,
increased rent concessions and lower occupancy levels during the period. During
the nine months ended September 30, 2003, rental income decreased principally
due to the sale of Real Estate Joint Venture interests in 2002. Weak multifamily
market fundamentals in most regions combined with lower occupancy levels and
increased rent concessions also impacted results during the period.
During the nine months ended September 30, 2004, property operating expenses
were approximately $38.6 million compared to approximately $43.3 million for the
nine months ended September 30, 2003, a net decrease of 11% (property operating
expenses are before certain operating expenses of Belcrest Realty of
22
approximately $5.9 million for the nine months ended September 30, 2004 and $6.0
million for the nine months ended September 30, 2003). The decrease in property
operating expenses during the nine months ended September 30, 2004 was
principally due to fewer multifamily properties held during the quarter because
of the sale of Casco in February 2004 offset by the expenses of the industrial
distribution properties acquired on June 30 and August 4, 2004 and a modest
increase in multifamily property operating expenses. During the nine months
ended September 30, 2003, property operating expenses decreased principally due
to the sale of Real Estate Joint Venture interests in 2002. This decrease was
offset by modest increases in operating expenses of the remaining Real Estate
Joint Venture.
The near term outlook for multifamily property operations continues to be weak.
As discussed above, while the recent pick-up in economic and employment growth
is expected to lead to improved supply-demand balance in the apartment industry,
oversupply conditions continue to exist in most major markets. Additionally,
while conditions in many industrial markets began to improve in 2004, reduced
rental rates are likely to continue over the near term.
The estimated fair value of the real properties indirectly held through Belcrest
Realty was approximately $975.6 million at September 30, 2004 compared to
approximately $616.5 million at September 30, 2003, a net increase of $359.1
million or 58%. The net increase in estimated real property values at September
30, 2004 as compared to September 30, 2003 was principally due to the properties
acquired by Allagash and the agreement to sell certain properties, offset in
part by the February 2004 sale of Casco. The decrease in estimated property
values at September 30, 2003 as compared to September 30, 2002 resulted from the
fewer number of Real Estate Joint Ventures held by Belcrest Realty and, in part,
declines in near term earnings expectations, which were partially offset by
decreases in capitalization rates during the period.
During the nine months ended September 30, 2004, the Fund saw net unrealized
appreciation in the estimated fair value in its other real estate investments
(which includes the Real Estate Joint Ventures, the Net Leased Property and
formerly included Casco) of approximately $26.3 million compared to unrealized
depreciation of approximately $31.0 million during the nine months ended
September 30, 2003. Net unrealized appreciation of $26.3 million during the nine
months ended September 30, 2004 included unrealized appreciation of
approximately $9.2 million in the value of Belcrest Realty's interest in Bel
Alliance as a result of the agreement to sell its real estate assets,
approximately $15.0 million due to the recharacterization of previously recorded
unrealized depreciation to realized losses due to the February 2004 sale of
Casco and approximately $4.0 million due to a modest increase in the estimated
property value of the Net Leased Property offset in part by approximately $2.0
million of unrealized depreciation due to certain legal and transaction costs
associated with Allagash's acquisitions. Unrealized depreciation during the nine
months ended September 30, 2003 resulted from decreases in estimated property
values during the quarter.
During the nine months ended September 30, 2004, Belcrest Realty sold (or
experienced scheduled redemptions of) certain of its Partnership Preference
Units totaling approximately $213.4 million (including sales to other investment
funds advised by Boston Management), recognizing losses of approximately $1.6
million on the transactions. During the nine months ended September 30, 2004,
Belcrest Realty also acquired interests in additional Partnership Preference
Units from other investment funds advised by Boston Management totaling
approximately $155.5 million. At September 30, 2004, the estimated fair value of
Belcrest Realty's Partnership Preference Units totaled approximately $386.8
million compared to approximately $519.5 million at September 30, 2003, a
decrease of $132.7 million or 26%. The decrease was principally due to fewer
Partnership Preference Units held on average, as well as lower average
distribution rates for the Partnership Preference Units held during the nine
months ended September 30, 2004. During the nine months ended September 30,
2004, Partnership Preference Unit values were negatively affected by the rising
trend in U.S. interest rates, partly offset by tighter spreads for
credit-sensitive income securities, including real estate-related securities. In
a rising interest rate environment, values of outstanding Partnership Preference
Units generally can be expected to decline. At September 30, 2003, the decrease
in the estimated fair value of Partnership Preference Units was principally due
to fewer Partnership Preference Units held at September 30, 2003, as compared to
September 30, 2002, offset in part by increases in the per unit value of the
remaining Partnership Preference Units held by Belcrest Realty. This
appreciation in per unit value resulted from declines in interest rates and
tighter spreads on the real estate securities during the nine months ended
September 30, 2003.
The Fund saw net unrealized depreciation of the estimated fair value in its
Partnership Preference Units of approximately $12.0 million during the nine
months ended September 30, 2004 compared to net unrealized appreciation of
approximately $32.6 million for the nine months ended September 30, 2003. The
net unrealized depreciation of $12.0 million in the first nine months of 2004
consisted of approximately $12.3 million of unrealized depreciation resulting
from decreases in per unit values of the Partnership Preference Units held by
Belcrest Realty during the period and approximately $0.3 million of unrealized
appreciation resulting from the recharacterization of previously recorded
23
unrealized depreciation to realized losses due to sales of Partnership
Preference Units during the nine months ended September 30, 2004. Net unrealized
appreciation during the nine months ended September 30, 2003 resulted from
increases in per unit values of Partnership Preference Units during the period.
Distributions from Partnership Preference Units for the nine months ended
September 30, 2004 totaled approximately $33.2 million compared to approximately
$39.4 million for the nine months ended September 30, 2003, a decrease of $6.2
million or 16%. The decrease was principally due to fewer Partnership Preference
Units held on average and to lower average distribution rates for the
Partnership Preference Units held during the nine months ended September 30,
2004, partially offset by a one-time special distribution from one issuer made
in connection with a restructuring of its Partnership Preference Units. During
the nine months ended September 30, 2003, distributions from Partnership
Preference Units decreased modestly compared to the same period in 2002.
PERFORMANCE OF INTEREST RATE SWAP AGREEMENTS. For the nine months ended
September 30, 2004, net realized and unrealized losses on the Fund's interest
rate swap agreements totaled approximately $19.7 million, compared to net
realized and unrealized losses of approximately $5.4 million for the nine months
ended September 30, 2003. Net realized and unrealized losses on swap agreements
for the nine months ended September 30, 2004 consisted of $1.0 million of
unrealized depreciation due to changes in swap agreement valuations, $14.9
million of periodic payments made pursuant to outstanding swap agreements (and
classified as net realized losses on interest rate swap agreements), and
realized losses on termination of swap agreements of $3.8 million. For the nine
months ended September 30, 2003, unrealized appreciation of $30.5 million on
swap agreement valuation changes was offset by $35.9 million of swap agreement
periodic payments. The negative impact on Fund performance for the nine months
ended September 30, 2004 from changes in swap agreement valuations was
attributable to a decline in swap rates during the period. The positive
contribution to Fund performance for the nine months ended September 30, 2003
from changes in swap valuations was due to the exercise of early termination
options on a number of swap agreements and remaining swaps approaching their
initial optional termination dates. Swap rates did not change significantly
during the nine months ended September 30, 2003.
(b) LIQUIDITY AND CAPITAL RESOURCES.
- ------------------------------------
OUTSTANDING BORROWINGS. The Fund has entered into credit arrangements with DrKW
Holdings, Inc. and Merrill Lynch Mortgage Capital, Inc. (collectively, the
Credit Facility) primarily to finance the Fund's real estate investments and
will continue to use the Credit Facility for such purpose in the future. The
Credit Facility may also be used for other purposes, including any short-term
liquidity needs of the Fund. In the future, the Fund may increase the size of
the Credit Facility (subject to lender consent) and the amount of outstanding
borrowings thereunder. As of September 30, 2004, the Fund had outstanding
borrowings of $966.0 million and no unused loan commitments under the Credit
Facility.
In August 2004, the Fund made borrowings under its credit arrangement with
Merrill Lynch Mortgage Capital, Inc. (Merrill Lynch) in the amount of $138.0
million. At that time, the Fund also temporarily increased the amount available
under its credit arrangement with Merrill Lynch by $138.0 million and borrowed
that amount. The Fund used the total proceeds from these borrowings to finance
the acquisitions by Allagash of interests in certain industrial distribution
properties. The additional $138 million of borrowings was at a rate of one-month
LIBOR plus 0.90%. Allagash expects to obtain first mortgage financing for its
properties in the fourth quarter of 2004, the proceeds from which will be used
to repay borrowings obtained by the Fund to facilitate the Allagash transaction.
The Fund has entered into interest rate swap agreements with respect to its real
estate investments and associated borrowings. Pursuant to these agreements, the
Fund makes periodic payments to the counterparty at predetermined fixed rates,
in exchange for floating-rate payments at a predetermined spread plus one-month
LIBOR. During the terms of the outstanding interest rate swap agreements,
changes in the underlying values of the agreements are recorded as unrealized
appreciation or depreciation. As of September 30, 2004, the unrealized
appreciation related to the interest rate swap agreements was approximately $2.0
million. As of September 30, 2003, the unrealized depreciation related to the
interest rate swap agreements was approximately $31.2 million.
24
(c) CRITICAL ACCOUNTING ESTIMATES.
- ---------------------------------
The Fund's critical accounting estimates are described in Item 7(e) of its
Annual Report on Form 10-K for the year ended December 31, 2003. The Fund's
critical accounting estimates as they relate to Real Estate Joint Ventures have
been updated to reflect the valuation of Belcrest Realty's interest in Allagash.
The following discussion replaces the discussion of such estimates included in
the Fund's Annual Report. The discussion of the Fund's critical accounting
estimates included in the Annual Report is otherwise unchanged.
REAL ESTATE JOINT VENTURES. Boston Management determines the estimated fair
value of the Fund's interest in each Real Estate Joint Venture based primarily
on annual appraisals of the properties owned by such Real Estate Joint Venture
(provided such appraisals are available) and an allocation of the equity value
of the Real Estate Joint Venture between the Fund and the Operating Partner.
Appraisals of Real Estate Joint Venture properties may be conducted more
frequently than once a year if Boston Management determines that significant
changes in economic circumstances that may materially impact estimated property
values have occurred since the most recent appraisal.
In deriving the estimated value of a property, an appraiser considers numerous
factors, including the expected future cash flows from the property, recent sale
prices for similar properties and, if applicable, the replacement cost of the
property in order to derive an indication of the amount that a prudent, informed
purchaser-investor would pay for the property. More specifically, the appraiser
considers the revenues and expenses of the property and the estimated future
growth or decline thereof, which may be based on tenant quality, property
condition, neighborhood change, market trends, interest rates, inflation rates
or other factors deemed relevant by the appraiser. The appraiser estimates
operating cash flows from the property and the sale proceeds of a hypothetical
transaction at the end of a hypothetical holding period. The cash flows are
discounted to their present values using a market-derived discount rate and are
added together to obtain a value indication. This value indication is compared
to the value indication that results from applying a market-derived
capitalization rate to a single years' stabilized net operating income for the
property. The assumed capitalization rate may be extracted from local market
transactions or, when transaction evidence is lacking, obtained from trade
sources. The appraiser considers the value indications derived by these two
methods, as well as the value indicated by recent market transactions involving
similar properties, in order to produce a final value estimate for the property.
Appraisals of properties owned by each Real Estate Joint Venture are conducted
by independent appraisers who are licensed in their respective states and not
affiliated with Eaton Vance or the Operating Partner. Each appraisal is
conducted in accordance with the Uniform Standards Board and the Code of
Professional Appraisal Practice of the Appraisal Institute (as well as other
relevant standards). Boston Management reviews the appraisal of each property
and generally relies on the assumptions and judgments made by the appraiser.
Property appraisals are inherently uncertain because they apply assumed discount
rates, capitalization rates, growth rates and inflation rates to the appraiser's
estimated stabilized cash flows, and due to the unique characteristics of a
property, which may affect its value but may not be taken into account. If the
assumptions and estimates used by the appraisers to determine the value of the
properties owned by the Real Estate Joint Ventures were to change, it may
materially impact the estimated fair value of the Real Estate Joint Ventures.
When a property owned by a Real Estate Joint Venture has not been appraised
(such as when the Real Estate Joint Venture recently acquired the property),
Boston Management determines the estimated fair value of the property based on
the transaction value of the property, which equals the total acquisition cost
of the property exclusive of certain legal and transaction costs. Once an
appraisal of that property has been conducted, Boston Management will base the
estimated fair value of the property on the estimated value as determined by the
appraiser. Appraisals of newly acquired properties are conducted throughout the
year following the acquisition. If the appraised value of the property differs
significantly from the transaction value of the property, it may materially
impact the estimated fair value of the Real Estate Joint Venture.
Boston Management determines the estimated fair value of the Fund's equity
interest in each Real Estate Joint Venture based on an estimate of the
allocation of equity interests between the Fund and the Operating Partner. This
allocation is calculated by a third party specialist, provided appraisals have
been conducted of all of the properties owned by the Real Estate Joint Venture.
The specialist uses a financial model that considers the (i) terms of the joint
venture agreement relating to allocation of distributable cash flow, (ii) the
duration of the joint venture; and (iii) the projected property values and cash
flows from the properties based on estimates made by the appraisers. The
estimated allocation of equity interests between the Fund and the Operating
Partner of each Real Estate Joint Venture is prepared quarterly and reviewed by
Boston Management. When the properties owned by a Real Estate Joint Venture have
not been appraised (such as when the Real Estate Joint Venture recently acquired
the properties), Boston Management allocates equity interests in the Real Estate
Joint Venture based on the contractual ownership interests of Belcrest Realty
and the Operating Partner. Once appraisals have been conducted of all of the
properties owned by the Real Estate Joint Venture, the estimated fair value of
25
the Fund's equity interest in the Real Estate Joint Venture will be determined
by the third party specialist using the financial model described above. Interim
valuations of Real Estate Joint Venture assets may be adjusted to reflect
significant changes in economic circumstances, and the results of operations and
distributions. If the estimate of the allocation of equity interests in the Real
Estate Joint Ventures were to change (because, for example, the appraisers'
estimate of property values or projected cash flows of the Real Estate Joint
Ventures changed), it may materially impact the estimated fair value of the Real
Estate Joint Ventures. As of September 30, 2004, all of the properties owned by
the Real Estate Joint Ventures have been appraised, except for those owned by
Allagash. The properties owned by Allagash were acquired on June 30, 2004 and
August 4, 2004.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
- --------------------------------------------------------------------
INTEREST RATE RISK. The Fund's primary exposure to interest rate risk arises
from its real estate investments that are financed by the Fund with floating
rate borrowings under the Fund's Credit Facility and by fixed-rate secured
mortgage debt obligations of the Real Estate Joint Ventures and Net Leased
Property. Partnership Preference Units are fixed rate instruments whose values
will generally decrease when interest rates rise and increase when interest
rates fall. The interest rates on borrowings under the Fund's Credit Facility
are reset at regular intervals based on one-month LIBOR. The Fund has entered
into interest rate swap agreements to fix the cost of a substantial portion of
its borrowings under the Credit Facility used to acquire Belcrest Realty's
equity in its real estate investments and to mitigate in part the impact of
interest rate changes on the Fund's net asset value. Under the terms of the
interest rate swap agreements, the Fund makes cash payments at fixed rates in
exchange for floating rate payments that fluctuate with one-month LIBOR. The
Fund's interest rate swap agreements will generally increase in value when
interest rates rise and decrease in value when interest rates fall. In the
future, the Fund may use other interest rate hedging arrangements (such as caps,
floors and collars) to fix or limit borrowing costs. The use of interest rate
hedging arrangements is a specialized activity that can expose the Fund to
significant loss.
The following table summarizes the contractual maturities and weighted-average
interest rates associated with the Fund's significant non-trading financial
instruments. The Fund has no market risk sensitive instruments held for trading
purposes. This information should be read in conjunction with Note 4 and Note 5
to the Fund's unaudited condensed consolidated financial statements in Item 1
above.
Interest Rate Sensitivity
Cost, Principal (Notional) Amount
by Contractual Maturity and Callable Date
for the Twelve Months Ended September 30,*
Estimated
Fair Value as
of September
2005 2006-2008 2009 Thereafter Total 30, 2004
- ------------------------------------------------------------------------------------------------------------------------------------
Rate sensitive liabilities:
- -----------------------------
Long-term debt:
- -----------------------------
Fixed-rate mortgages $162,554,755 $249,055,732 $411,610,487 $408,100,000
Average interest rate 7.46% 7.99% 7.78%
- -----------------------------
Variable-rate Credit Facility $966,000,000 $966,000,000 $966,000,000
Average interest rate 2.24% 2.24%
- ------------------------------------------------------------------------------------------------------------------------------------
Rate sensitive derivative
financial instruments:
- -----------------------------
Pay fixed/receive
variable interest rate
swap agreements $627,725,000 $627,725,000 $ 2,016,235
Average pay rate 4.68% 4.68%
26
Average receive rate 2.14% 2.14%
- ------------------------------------------------------------------------------------------------------------------------------------
Rate sensitive investments:
- -----------------------------
Fixed-rate Partnership
Preference Units:
- -----------------------------
Cabot Industrial Properties, $ 14,940,800
L.P., 8.625% Series B
Cumulative Redeemable
Preferred Units, Callable
4/29/04, Current Yield: 8.37% $15,569,810 $ 15,569,810
Camden Operating, L.P.,
7% Series B Cumulative
Redeemable Perpetual
Preferred Units, Callable
12/2/08, Current Yield: 7.16% $ 30,692,313 $ 30,692,313 $ 30,073,500
Colonial Realty Limited
Partnership, 7.25% Series B
Cumulative Redeemable
Perpetual Preferred
Units, Callable 2/24/09,
Current Yield: 7.42% $ 4,809,800 $ 4,809,800 $ 4,883,000
Essex Portfolio, L.P.,
7.875% Series B
Cumulative Redeemable
Preferred Units, Callable
12/31/01, Current Yield:
7.83% $ 16,462,973 $ 16,462,973 $ 16,341,715
Liberty Property L.P.,
9.25% Series B Cumulative
Redeemable Preferred
Units, Callable 7/28/04,
Current Yield: 9.11% $39,750,000 $ 39,750,000 $ 40,354,200
MHC Operating Limited
Partnership, 9% Series
D Cumulative Redeemable
Perpetual Preference
Units, Callable 9/29/04,
Current Yield: 9.06% $55,000,000 $ 55,000,000 $ 54,626,000
National Golf Operating
Partnership, L.P., 9.30%
Series A Cumulative
Redeemable Preferred
Units, Callable 2/6/03,
Current Yield: 9.39% $27,877,518 $ 27,877,518 $ 31,244,400
27
National Golf
Operating Partnership,
L.P., 9.30% Series B
Cumulative Redeemable
Preferred Units,
Callable 2/6/03,
Current Yield: 9.39% $29,833,200 $ 29,833,200 $ 29,700,000
PSA Institutional
Partners, L.P., 6.40%
Series NN Cumulative
Redeemable Perpetual
Preferred Units,
Callable 3/17/10,
Current Yield: 6.82% $ 55,375,000 $ 55,375,000 $ 51,941.750
Regency Centers, L.P.,
9.125% Series D
Cumulative Redeemable
Preferred Units,
Callable 9/29/04,
Current Yield: 9.02% $32,000,000 $ 32,000,000 $ 32,368,000
Sun Communities
Operating L.P., 8.875%
Series A Cumulative
Redeemable Perpetual
Preferred Units,
Callable 9/29/04,
Current Yield: 8.85% $20,942,560 $ 20,942,560 $ 20,064.000
Urban Shopping Centers,
L.P., 9.45% Series D
Cumulative Redeemable
Perpetual Preferred
Units, Callable
10/1/04, Current $60,000,000 $ 60,000,000 $ 60,233.760
Yield: 9.41%
- -----------------------------
Note Receivable:
- -----------------------------
Fixed-rate note
receivable, 8%
$ 3,352,436 $ 3,352,436 $ 3,807,590
* The amounts listed reflect the Fund's positions as of September 30, 2004.
The Fund's current positions may differ.
ITEM 4. CONTROLS AND PROCEDURES.
- ---------------------------------
Eaton Vance, as the Fund's manager, conducted an evaluation of the effectiveness
of the Fund's disclosure controls and procedures (as defined by Rule 13a-15(e)
of the 1934 Act) as of the end of the period covered by this report, with the
participation of the Fund's Chief Executive Officer and Chief Financial Officer.
Based on that evaluation, the Chief Executive Officer and Chief Financial
Officer concluded that the Fund's disclosure controls and procedures were
effective. During the quarter, the Fund adopted additional internal control
procedures as a result of the Allagash acquisitions. There were no other changes
in the Fund's internal control over financial reporting that occurred during the
quarter ended September 30, 2004 that have materially affected, or are
reasonably likely to materially affect, the Fund's internal control over
financial reporting.
As the Fund's manager, the complete and entire management, control and operation
of the Fund are vested in Eaton Vance. The Fund's Chief Executive Officer and
Chief Financial Officer intend to report to the Board of Directors of Eaton
Vance, Inc. (the sole trustee of Eaton Vance) any significant deficiency in the
design or operation of internal control over financial reporting which could
28
adversely affect the Fund's ability to record, process, summarize and report
financial data, and any fraud, whether or not material, that involves management
or other employees who have a significant role in the Fund's internal control
over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
- ---------------------------
Although in the ordinary course of business, the Fund, Belcrest Realty and
Belcrest Realty's controlled subsidiaries may become involved in legal
proceedings, the Fund is not aware of any material pending legal proceedings to
which any of them is subject.
ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY
SECURITIES.
- --------------------------------------------------------------------------------
As described in the Fund's Annual Report on Form 10-K for the year ended
December 31, 2003, shares of the Fund may be redeemed by Fund shareholders on
any business day. Redemptions are met at the net asset value per share of the
Fund. The right to redeem is available to all shareholders and all outstanding
Fund shares are eligible. During each month in the quarter ended September 30,
2004, the total number of shares redeemed and the average price paid per share
were as follows:
Total No. of Shares Average Price Paid
Month Ended Redeemed(1) Per Share
-----------------------------------------------------------------
July 31, 2004 300,734.272 $105.01
-----------------------------------------------------------------
August 31, 2004 265,237.665 $102.86
-----------------------------------------------------------------
September 30, 2004 137,366.420 $105.92
-----------------------------------------------------------------
Total 703,338.360 $105.00
-----------------------------------------------------------------
(1) All shares redeemed during the periods were redeemed at the option of
shareholders pursuant to the Fund's redemption policy. The Fund has not
announced any plans or programs to repurchase shares other than at the
option of shareholders.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
- -----------------------------------------
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
- -------------------------------------------------------------
No matters were submitted to a vote of security holders during the three months
ended September 30, 2004.
ITEM 5. OTHER INFORMATION.
- ---------------------------
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K:
- ------------------------------------------
(a) The following is a list of all exhibits filed as part of this Form 10-Q:
4.2(b) Amendment No. 2 dated August 3, 2004 to Loan and Security Agreement
among the Fund, Merrill Lynch Mortgage Capital, Inc., as Agent, the
Lenders referred to therein and Merrill Lynch Capital Services, Inc.
4.2(c) Amendment No. 3 dated October 28, 2004 to Loan and Security Agreement
among the Fund, Merrill Lynch Mortgage Capital, Inc., as Agent, the
Lenders referred to therein and Merrill Lynch Capital Services, Inc.
31.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
29
31.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002
(b) Reports on Form 8-K:
None.
30
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
the registrant has duly caused this report to be signed on its behalf by the
undersigned duly authorized officer on November 9, 2004.
BELCREST CAPITAL FUND LLC
/s/ Michelle A. Green
---------------------
Michelle A. Green
Chief Financial Officer
(Duly Authorized Officer and
Principal Financial Officer)
31
EXHIBIT INDEX
-------------
4.2(b) Amendment No. 2 dated August 3, 2004 to Loan and Security Agreement
among the Fund, Merrill Lynch Mortgage Capital, Inc., as Agent, the
Lenders referred to therein and Merrill Lynch Capital Services, Inc.
4.2(c) Amendment No. 3 dated October 28, 2004 to Loan and Security Agreement
among the Fund, Merrill Lynch Mortgage Capital, Inc., as Agent, the
Lenders referred to therein and Merrill Lynch Capital Services, Inc.
31.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
31.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002
32