Back to GetFilings.com
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
----------
FORM 10-Q
(MARK ONE)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2003
| | TRANSITION REPORT PURSUANT TO SECTION 13 OF 15 (D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 0-17224
DORAL FINANCIAL CORPORATION
(EXACT NAME OF THE REGISTRANT AS SPECIFIED IN ITS CHARTER)
Puerto Rico 66-0312162
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification number)
1451 F.D. Roosevelt Avenue,
San Juan, Puerto Rico 00920-2717
(Address of principal executive offices) (Zip Code)
Registrant's telephone number,
including area code (787) 474-6700
Former name, former address
and
former fiscal year, if changed Not applicable
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 EXCHANGE ACT).
YES |X| NO | |
NUMBER OF SHARES OF COMMON STOCK OUTSTANDING AT MAY 7, 2003: 71,900,773
DORAL FINANCIAL CORPORATION
INDEX PAGE
PAGE
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
Consolidated Statements of Financial Condition (Unaudited)
as of March 31, 2003 and December 31, 2002........................ 4
Consolidated Statements of Income (Unaudited) - Quarters ended
March 31, 2003 and March 31, 2002................................. 5
Consolidated Statements of Changes in Stockholders' Equity
(Unaudited) - Quarters ended March 31, 2003 and March 31, 2002.... 6
Consolidated Statements of Comprehensive Income (Unaudited) -
Quarters ended March 31, 2003 and March 31, 2002.................. 7
Consolidated Statements of Cash Flows (Unaudited) - Quarters
ended March 31, 2003 and March 31, 2002........................... 8
Notes to Consolidated Financial Statements (Unaudited)............ 9
Item 2 - Management's Discussion and Analysis of Financial Condition
and Results of Operations......................................... 22
Item 3 - Quantitative and Qualitative Disclosures About Market Risk........ 49
Item 4 - Controls and Procedures........................................... 49
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings................................................. 49
Item 2 - Changes in Securities............................................. 49
Item 3 - Defaults Upon Senior Securities................................... 49
Item 4 - Submission of Matters to a Vote of Security Holders............... 49
Item 5 - Other Information.................................................. 50
Item 6 - Exhibits and Reports on Form 8-K................................... 50
SIGNATURES.................................................................. 52
CEO and CFO Certifications
2
FORWARD LOOKING STATEMENTS
When used in this form 10-Q or future filings by the Company with the
Securities and Exchange Commission, in the Company's press releases or other
public or shareholder communications, or in oral statements made with the
approval of an authorized executive officer, the words or phrases "would be",
"will allow", "intends to", "will likely result", "are expected to", "will
continue", "is anticipated", "estimate", "project" or similar expressions are
intended to identify "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995.
The Company wishes to caution readers not to place undue reliance on any
such forward-looking statements, which speak only as of the date made, and to
advise readers that various factors, including regional and national economic
conditions, substantial changes in levels of market interest rates, credit and
other risks of lending and investment activities, competitive and regulatory
factors and legislative changes, could affect the Company's financial
performance and could cause the Company's actual results for future periods to
differ materially from those anticipated or projected.
The Company does not undertake, and specifically disclaims any obligation,
to update any forward-looking statements to reflect occurrences or unanticipated
events or circumstances after the date of such statements.
3
DORAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(IN THOUSANDS OF DOLLARS, EXCEPT FOR SHARE INFORMATION)
(UNAUDITED)
MARCH 31, DECEMBER 31,
2003 2002
---------- ----------
ASSETS
Cash and due from banks $ 191,467 $ 156,137
---------- ----------
Money market investments:
Securities purchased under resell agreements 50,456 259,764
Time deposits with other banks 1,124,316 1,157,390
---------- ----------
Total money market investments 1,174,772 1,417,154
---------- ----------
Pledged investment securities that can be re-pledged:
Trading securities, at fair value 1,040,618 783,333
Securities available for sale, at fair value 899,409 775,892
Securities held to maturity, at amortized cost (market value of
$797,404 for 2003; $793,174 for 2002) 797,454 788,376
---------- ----------
Total pledged investment securities 2,737,481 2,347,601
---------- ----------
Other investment securities:
Trading securities, at fair value 555,587 412,846
Securities available for sale, at fair value 148,666 86,198
Securities held to maturity, at amortized cost (market value of
$36,935 for 2003; $172,085 for 2002) 29,719 172,250
Federal Home Loan Bank of NY (FHLB) stock, at cost 84,220 86,970
---------- ----------
Total other investment securities 818,192 758,264
---------- ----------
Total investment securities 3,555,673 3,105,865
---------- ----------
Loans:
Mortgage loans held for sale, at lower of cost or market 2,046,419 2,183,399
Loans receivable, net of allowance for loan losses of $15,045 (2002 - $9,982) 1,124,496 1,022,342
---------- ----------
Total loans 3,170,915 3,205,741
---------- ----------
Receivables and mortgage servicing advances 68,994 66,450
Accounts receivable from investment sales 233,548 101,718
Accrued interest receivable 43,688 43,158
Servicing assets, net 160,270 159,881
Premises and equipment, net 116,858 114,916
Real estate held for sale, net 13,394 13,057
Other assets 37,258 37,612
---------- ----------
Total assets $8,766,837 $8,421,689
========== ==========
LIABILITIES
Deposits (includes $260,396 and $296,620 of non-interest-bearing deposits for
2003 and 2002, respectively) $2,470,163 $2,217,211
Securities sold under agreements to repurchase 2,608,816 2,733,339
Loans payable 259,688 211,002
Notes payable 618,152 621,303
Advances from FHLB 1,256,500 1,311,500
Accounts payable from investment purchases 166,048 100,699
Accrued expenses and other liabilities 291,604 181,664
---------- ----------
Total liabilities 7,670,971 7,376,718
---------- ----------
Commitments and contingencies
STOCKHOLDERS' EQUITY
Preferred stock, $1 par value; 10,000,000 shares authorized; 7,635,000 shares
issued and outstanding, at aggregate liquidation preference value 228,250 228,250
Common stock, $1 par value; 200,000,000 shares authorized; 71,980,173 and
71,933,348 shares issued in 2003 and 2002, respectively; 71,896,173 and
71,849,348 shares outstanding in 2003 and 2002, respectively 71,980 71,933
Paid-in capital 192,679 191,216
Legal surplus 10,777 10,777
Retained earnings 606,251 550,554
Accumulated other comprehensive loss, net of income tax of $1.4 million
(2002 - $2.5 million) (13,987) (7,675)
Treasury stock at par value; 84,000 shares held (84) (84)
----------- -----------
Total stockholders' equity 1,095,866 1,044,971
----------- -----------
Total liabilities and stockholders' equity $ 8,766,837 $ 8,421,689
=========== ===========
The accompanying notes are an integral part of these financial statements
4
DORAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS OF DOLLARS, EXCEPT FOR PER SHARE DATA)
(UNAUDITED)
QUARTER ENDED
MARCH 31,
-----------------------
2003 2002
--------- --------
INTEREST INCOME:
Loans $ 55,040 $ 47,123
Mortgage-backed securities 28,381 28,648
Investment securities 22,060 18,819
Other interest-earning assets 4,129 2,493
--------- --------
Total interest income 109,610 97,083
--------- --------
INTEREST EXPENSE:
Deposits 18,066 16,691
Securities sold under agreements to repurchase 23,937 25,485
Advances from FHLB 12,374 8,908
Loans payable 1,451 1,330
Notes payable 12,505 8,783
--------- --------
Total interest expense 68,333 61,197
--------- --------
Net interest income 41,277 35,886
Provision for loan losses 4,778 748
--------- --------
Net interest income after provision for loan losses 36,499 35,138
--------- --------
NON-INTEREST INCOME:
Net gain on mortgage loan sales and fees 77,325 45,990
Trading activities 4,901 (5,070)
Net gain on sales of investment securities 7,087 2,792
Servicing (loss) income, net of amortization and impairment of $12,647
and $7,273 in 2003 and 2002, respectively (4,109) 1,386
Commissions, fees and other income 6,215 4,511
--------- --------
Total non-interest income 91,419 49,609
--------- --------
NON-INTEREST EXPENSES:
Compensation and benefits 21,199 12,851
Taxes, other than payroll and income taxes 1,757 1,049
Advertising 3,763 2,431
Professional services 1,972 1,713
Communication and information systems 3,018 2,744
Occupancy and other office expenses 5,442 4,484
Depreciation and amortization 3,588 2,569
Other 3,824 2,787
--------- --------
Total non-interest expenses 44,563 30,628
--------- --------
Income before income taxes 83,355 54,119
Income taxes 13,368 7,579
--------- --------
NET INCOME $ 69,987 $ 46,540
========= ========
Net income attributable to common shareholders $ 65,759 $ 44,188
========= ========
Earnings per common share:
Basic $ 0.91 $ 0.62
========= ========
Diluted $ 0.90 $ 0.61
========= ========
Dividends per common share $ 0.14 $ 0.10
========= ========
The accompanying notes are an integral part of these financial statements
5
DORAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(IN THOUSANDS OF DOLLARS)
(UNAUDITED)
QUARTER ENDED
MARCH 31,
--------------------------
2003 2002
----------- ---------
PREFERRED STOCK $ 228,250 $ 124,750
----------- ---------
COMMON STOCK:
Balance at beginning of period 71,933 47,866
Shares issued under stock option plan 47 13
----------- ---------
Balance at end of period 71,980 47,879
----------- ---------
PAID-IN CAPITAL:
Balance at beginning of period 191,216 217,594
Common shares issued under stock option plan 341 149
Stock-based compensation recognized 1,122 --
----------- ---------
Balance at end of period 192,679 217,743
----------- ---------
LEGAL SURPLUS 10,777 8,423
----------- ---------
RETAINED EARNINGS:
Balance at beginning of period 550,554 375,855
Net income 69,987 46,540
Cash dividends declared on common stock (10,062) (7,172)
Cash dividends declared on preferred stock (4,228) (2,352)
----------- ---------
Balance at end of period 606,251 412,871
----------- ---------
ACCUMULATED OTHER COMPREHENSIVE LOSS
NET OF TAXES:
Balance at beginning of period (7,675) (12,312)
Net loss in the fair value of investment securities
available for sale, net of deferred taxes (6,312) (22,009)
----------- ---------
Balance at end of period (13,987) (34,321)
----------- ---------
TREASURY STOCK AT PAR (84) (56)
----------- ---------
Total stockholders' equity $ 1,095,866 $ 777,289
=========== =========
The accompanying notes are an integral part of these financial statements.
6
DORAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(IN THOUSANDS OF DOLLARS)
(UNAUDITED)
QUARTER ENDED
MARCH 31,
----------------------
2003 2002
-------- --------
Net income $ 69,987 $ 46,540
-------- --------
Other comprehensive loss, before tax:
Unrealized losses on securities arising during the period (11,560) (32,526)
Amortization of unrealized loss on securities reclassified to
held to maturity 10 437
Reclassification adjustment for losses included in net income 4,168 9,184
-------- --------
Other comprehensive loss before taxes (7,382) (22,905)
Income tax benefit related to items of other comprehensive
income 1,070 896
-------- --------
Other comprehensive loss (6,312) (22,009)
-------- --------
Comprehensive income, net of taxes $ 63,675 $ 24,531
======== ========
The accompanying notes are an integral part of these financial statements.
7
DORAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS OF DOLLARS)
(UNAUDITED)
QUARTER
ENDED MARCH 31,
----------------------------
2003 2002
----------- -----------
Cash flows from operating activities:
Net income.............................................................................. $ 69,987 $ 46,540
----------- -----------
Adjustments to reconcile net income to net cash used in operating activities:
Stock-based compensation recognized .................................................... 1,122 --
Depreciation and amortization .......................................................... 3,588 2,569
Amortization of interest-only strips ................................................... 14,601 10,908
Amortization of servicing assets ....................................................... 12,647 7,273
Deferred tax provision (benefit) ....................................................... 5,376 (95)
Provision for loan losses .............................................................. 4,778 748
Provision for losses on real estate held for sale ...................................... 270 240
Amortization of premium and accretion of discount on loans and investment
securities ........................................................................... 1,975 2,066
Origination and purchases of mortgage loans held for sale .............................. (1,270,174) (1,076,782)
Principal repayments and sales of mortgage loans held for sale ......................... 805,482 401,622
Purchases of securities held for trading ............................................... (2,234,290) (297,583)
Principal repayments and sales of trading securities ................................... 2,483,947 702,119
Increase in interest only strips, net .................................................. (66,470) (45,268)
Increase in servicing assets ........................................................... (13,036) (11,090)
Increase in receivables and mortgage servicing advances ................................ (2,044) (4,352)
(Increase) decrease in accounts receivable from investment sales ....................... (131,830) 204,634
(Increase) decrease in accrued interest receivable ..................................... (530) 2,933
Decrease in other assets ............................................................... 354 1,870
Increase (decrease) in payable related to short sales .................................. 58,909 (45,300)
Decrease in interest payable ........................................................... (7,131) (1,105)
Increase (decrease) in accounts payable from investment purchases ...................... 65,349 (192,641)
Increase in accrued expenses and other liabilities ..................................... 32,821 3,573
----------- -----------
Total adjustments .................................................................... (234,286) (333,661)
----------- -----------
Net cash used in operating activities ................................................ (164,299) (287,121)
----------- -----------
Cash flows from investing activities:
Purchases of securities available for sale ............................................. (1,311,111) (371,645)
Proceeds from sales of securities available for sale.................................... 1,114,932 503,718
Principal repayments of securities available for sale ................................. 3,041 6,208
Purchases of securities held to maturity ............................................... -- (38,281)
Principal repayments and maturities of securities held to maturity ..................... 133,553 103,566
Decrease (increase) in FHLB stock ...................................................... 2,750 (9,431)
Origination of loans receivable ........................................................ (192,201) (114,633)
Principal repayments of loans receivable ............................................... 85,867 81,694
Purchase of premises and equipment ..................................................... (5,530) (10,301)
Proceeds from sales of real estate held for sale ....................................... 712 996
----------- -----------
Net cash (used in) provided by investing activities .................................. (167,987) 151,891
----------- -----------
Cash flows from financing activities:
Increase in deposits ................................................................... 252,952 266,152
(Decrease) increase in securities sold under agreements to repurchase .................. (124,523) 12,061
Increase in loans payable .............................................................. 68,858 65,540
Decrease in notes payable .............................................................. (3,151) (249)
(Decrease) increase in FHLB advances ................................................... (55,000) 180,000
Issuance of common stock, net .......................................................... 388 162
Dividends declared and paid ............................................................ (14,290) (9,524)
----------- -----------
Net cash provided by financing activities ............................................ 125,234 514,142
----------- -----------
Net (decrease) increase in cash and cash equivalents ................................... (207,052) 378,912
Cash and cash equivalents at beginning of period ....................................... 1,573,291 594,385
----------- -----------
Cash and cash equivalents at the end of period ......................................... $ 1,366,239 $ 973,297
=========== ===========
Cash and cash equivalents includes:
Cash and due from banks ............................................................. $ 191,467 $ 59,842
Money market investments ............................................................ 1,174,772 913,455
----------- -----------
$ 1,366,239 $ 973,297
=========== ===========
Supplemental schedule of non-cash activities:
Loan securitizations ................................................................ $ 591,037 $ 534,642
=========== ===========
Loans foreclosed .................................................................... $ 1,819 $ 1,150
=========== ===========
Supplemental information for cash flows:
Cash used to pay interest ........................................................... $ 57,804 $ 58,949
=========== ===========
Cash used to pay income taxes ....................................................... $ 3,830 $ 339
=========== ===========
The accompanying notes are an integral part of these financial statements.
8
DORAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
a. The Consolidated Financial Statements (unaudited) include the accounts of
Doral Financial Corporation ("Doral Financial" or "the Company"), Doral
Mortgage Corporation ("Doral Mortgage"), SANA Investment Mortgage Bankers,
Inc. ("SANA"), Centro Hipotecario de Puerto Rico, Inc., Doral Securities,
Inc. ("Doral Securities"), Doral Bank ("Doral Bank PR"), Doral Bank, FSB
("Doral Bank NY"), Doral Money, Inc., Doral International, Inc., Doral
Properties, Inc. ("Doral Properties") and Doral Insurance Agency, Inc.
("Doral Agency"). References herein to "Doral Financial" or "the Company"
shall be deemed to refer to the Company and its consolidated subsidiaries,
unless otherwise provided. All significant intercompany accounts and
transactions have been eliminated in consolidation. The Consolidated
Financial Statements (unaudited) have been prepared in conformity with the
accounting policies stated in the Company's Annual Audited Financial
Statements included in the Company's Annual Report for the year ended
December 31, 2002, and should be read in conjunction with the Notes to the
Consolidated Financial Statements appearing in that report. All
adjustments (consisting only of normal recurring accruals) which are, in
the opinion of management, necessary for a fair statement of results for
the interim periods have been reflected.
b. The results of operations for the quarter ended March 31, 2003 are not
necessarily indicative of the results to be expected for the full year.
c. Cash dividends per share paid for the quarters ended March 31, 2003 and
2002 were as follows:
QUARTER ENDED
MARCH 31,
------------------
2003 2002
------ ------
7% Noncumulative Monthly Income Preferred Stock $ 0.88 $ 0.88
8.35% Noncumulative Monthly Income Preferred Stock $ 0.52 $ 0.52
7.25% Noncumulative Monthly Income Preferred Stock $ 0.45 $ --
Common Stock $ 0.14 $ 0.10
d. At March 31, 2003, escrow funds include approximately $151.0 million
deposited with Doral Bank PR. These funds are included in the Company's
financial statements. Escrow funds also include approximately $24.5
million deposited with other banks which are excluded from the Company's
assets and liabilities.
e. The reconciliation of the numerator and denominator, adjusted to reflect
the three-for-two stock split effective September 14, 2002, of the basic
and diluted earnings-per-share follows:
9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
QUARTER ENDED
MARCH 31,
------------------------------
(Dollars in thousands, except per share amounts) 2003 2002
------------ -------------
NET INCOME:
Net income ................................................. $ 69,987 $ 46,540
Preferred stock dividend ................................... (4,228) (2,352)
----------- ------------
Net income attributable to common stock .................... $ 65,759 $ 44,188
=========== ============
WEIGHTED AVERAGE SHARES:
Basic weighted average number of common shares outstanding . 71,869,704 71,724,956
Incremental shares issuable upon exercise of stock options* 1,414,312 1,112,850
----------- ------------
Diluted weighted average number of common shares outstanding 73,284,016 72,837,806
=========== ============
NET INCOME PER COMMON SHARE:
Basic ...................................................... $ 0.91 $ 0.62
=========== ============
Diluted .................................................... $ 0.90 $ 0.61
=========== ============
- --------------
* For the quarter ended March 31, 2003, all stock options outstanding were
included in the computation of weighted average outstanding shares. For
the quarter ended March 31, 2002, 353,250 shares subject to stock options
were excluded from the computation because they were antidilutive.
10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
f. Employee costs and other expenses are shown in the Consolidated Statements
of Income net of direct loan origination costs which, pursuant to SFAS No.
91, are capitalized as part of the carrying cost of mortgage loans and are
offset against net gains on mortgage loan sales and fees when the loans
are sold or amortized as yield adjustment in the case of loans held for
investment (loans receivable).
Set forth below is a reconciliation of the application of SFAS No. 91 to
employee costs and other expenses:
(In thousands) QUARTER ENDED
MARCH 31,
----------------------
2003 2002
-------- --------
Employee costs, gross $ 26,306 $ 20,531
Deferred costs pursuant to SFAS No. 91 (5,107) (7,680)
-------- --------
Employee cost, net $ 21,199 $ 12,851
======== ========
Other expenses, gross $ 4,847 $ 4,716
Deferred costs pursuant to SFAS No. 91 (1,023) (1,929)
-------- --------
Other expenses, net $ 3,824 $ 2,787
======== ========
As of March 31, 2003, the Company had a net deferred origination fee on
mortgage loans held for sale and loans receivable amounting to $2.2
million and $11.9 million, respectively (December 31, 2002 - $1.6 million
and $13.0 million, respectively).
g. Segment information
The Company operates in four reportable segments identified by line of
business: mortgage banking, banking (including thrift operations),
institutional securities operations and insurance agency activities.
Management made this determination based on operating decisions particular
to each business line and because each one targets different customers and
requires different strategies. The majority of the Company's operations
are conducted in Puerto Rico. The Company also operates in the mainland
United States, principally in the New York City metropolitan area.
The Company monitors the performance of its reportable segments based on
pre-established goals for different financial parameters such as net
income, interest rate spread, loan production and increase in market
share.
11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
The following tables present net interest income, non-interest income, net
income and identifiable assets for each of the Company's reportable
segments for the periods presented as well as for the Company's Puerto
Rico and mainland U.S. operations for the periods presented.
(In thousands)
Mortgage Institutional Intersegment
Banking Banking Securities Insurance Eliminations(1) Totals
------- ------- ---------- --------- -------------- ----------
QUARTER ENDED MARCH 31, 2003
------------------------------------------------------------------------------------
Net interest income $ 11,331 26,851 778 400 1,917 $ 41,277
Non-interest income $ 58,657 33,665 1,167 1,794 (3,864) $ 91,419
Net income $ 35,621 33,610 839 1,311 (1,394) $ 69,987
Identifiable assets $2,959,805 5,951,164 274,107 35,200 (453,439) $8,766,837
QUARTER ENDED MARCH 31, 2002
------------------------------------------------------------------------------------
Net interest income $ 12,391 23,628 635 310 (1,078) $ 35,886
Non-interest income $ 40,039 8,217 777 1,629 (1,053) $ 49,609
Net income $ 31,168 16,397 83 1,007 (2,115) $ 46,540
Identifiable assets $2,590,303 4,334,171 447,534 30,420 (407,405) $6,995,023
- --------
(1) For purpose of the intersegment eliminations in the above table,
income includes direct intersegment loan origination costs amortized
as yield adjustment and other income derived from intercompany
transactions, related principally to fees and commissions paid to
the Company's institutional securities subsidiary and rental income
paid to Doral Properties. Assets include internal funding and
investment in subsidiaries accounted for at cost.
12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(In thousands)
Mainland
Puerto Rico US Eliminations Totals
----------- -------- ------------ ----------
QUARTER ENDED MARCH 31, 2003
---------------------------------------------------
Net interest income $ 37,401 3,900 (24) $ 41,277
Non-interest income $ 88,577 2,893 (51) $ 91,419
Net income $ 68,530 1,497 (40) $ 69,987
Identifiable assets $8,363,289 525,346 (121,798) $8,766,837
QUARTER ENDED MARCH 31, 2002
---------------------------------------------------
Net interest income $ 33,224 3,014 (352) $ 35,886
Non-interest income $ 49,259 350 -- $ 49,609
Net income $ 46,082 810 (352) $ 46,540
Identifiable assets $6,746,625 341,183 (92,785) $6,995,023
h. The fair value of the Company's trading securities and the fair value and
carrying value of its securities classified as available for sale and held
to maturity are shown below by category.
1. The following table summarizes Doral Financial's holdings of trading
securities as of March 31, 2003 and December 31, 2002.
TRADING SECURITIES MARCH 31, DECEMBER 31,
(In thousands) 2003 2002
---------- ----------
Mortgage-backed securities ........ $1,167,580 $ 829,593
Interest-only strips .............. 411,054 359,185
Puerto Rico government and agencies 6,258 6,246
Other ............................. 11,313 1,155
---------- ----------
Total ....................... $1,596,205 $1,196,179
========== ==========
2. The following tables summarize the amortized cost, unrealized gains and
losses, approximate market values, weighted average yield and contractual
maturities of securities available for sale as of March 31, 2003 and
December 31, 2002.
The weighted average yield is computed based on amortized cost and,
therefore, does not give effect to changes in fair value. Expected
maturities of mortgage-backed securities and certain debt securities might
differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
13
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
SECURITIES AVAILABLE FOR SALE
AS OF MARCH 31, 2003
(Dollars in thousands)
WEIGHTED
AMORTIZED UNREALIZED UNREALIZED MARKET AVERAGE
COST GAINS LOSSES VALUE YIELD
---------- ---------- ---------- ---------- --------
MORTGAGE-BACKED SECURITIES
GNMA
Due over ten years $ 6,148 $ 446 $ 107 $ 6,487 7.02%
FHLMC AND FNMA
Due over ten years 110,055 438 176 110,317 5.82%
DEBT SECURITIES
FEDERAL FARM CREDIT NOTES
Due from one to five years 39,950 180 -- 40,130 3.11%
FHLB NOTES
Due from one to five years 300,000 -- -- 300,000 2.92%
FHLB ZERO COUPON
Due over ten years 108,004 -- 2,004 106,000 6.87%
FHLMC NOTES
Due over ten years 25,000 141 -- 25,141 6.00%
US TREASURY
Due from five to ten years 355,880 968 5,098 351,750 3.88%
Due over ten years 111,589 -- 3,339 108,250 5.38%
---------- ---------- ---------- ---------- ------
$1,056,626 $ 2,173 $ 10,724 $1,048,075 4.30%
========== ========== ========== ========== ======
14
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
SECURITIES AVAILABLE FOR SALE
AS OF DECEMBER 31, 2002
(Dollars in thousands)
WEIGHTED
AMORTIZED UNREALIZED UNREALIZED MARKET AVERAGE
COST GAINS LOSSES VALUE YIELD
--------- ---------- ---------- -------- --------
MORTGAGE-BACKED SECURITIES
GNMA
Due over ten years $ 12,316 $ 610 $ 146 $ 12,780 6.55%
FHLMC AND FNMA
Due over ten years 171,847 3,073 334 174,586 5.87%
DEBT SECURITIES
FHLB ZERO COUPON
Due over ten years 106,194 -- 1,194 105,000 6.87%
FHLMC NOTES
Due over ten years 25,000 315 -- 25,315 6.00%
US TREASURY
Due from five to ten years 239,062 409 1,162 238,309 4.25%
Due over ten years 309,567 1,054 4,521 306,100 5.37%
-------- -------- -------- -------- ------
$863,986 $ 5,461 $ 7,357 $862,090 5.38%
======== ======== ======== ======== ======
3. The following tables summarize the amortized cost, unrealized gains and
losses, approximate market values, weighted average yield and contractual
maturities of securities held to maturity as of March 31, 2003 and
December 31, 2002.
The weighted average yield is computed based on amortized cost and,
therefore does not give effect to changes in fair value. Expected
maturities of mortgage-backed securities and certain debt securities might
differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
15
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
SECURITIES HELD TO MATURITY
AS OF MARCH 31, 2003
(Dollars in thousands)
WEIGHTED
AMORTIZED UNREALIZED UNREALIZED MARKET AVERAGE
COST GAINS LOSSES VALUE YIELD
--------- ---------- ---------- -------- --------
MORTGAGE-BACKED SECURITIES
GNMA
Due from five to ten years $ 2,150 $ 100 $ -- $ 2,250 6.74%
Due over ten years 10,541 578 -- 11,119 6.96%
CMO CERTIFICATES
Due from one to five years 403 -- 1 402 7.38%
Due from five to ten years 1,045 -- 7 1,038 6.17%
Due over ten years 60,453 120 1,143 59,430 6.03%
DEBT SECURITIES
FHLB NOTES
Due over ten years 294,365 1,472 -- 295,837 6.07%
FHLB ZERO COUPON
Due over ten years 319,382 400 -- 319,782 6.82%
FHLMC ZERO COUPON
Due over ten years 6,038 47 -- 6,085 7.16%
FHLMC NOTES
Due over ten years 50,000 -- -- 50,000 6.00%
PR HOUSING BANK
Due from one to five years 5,000 50 -- 5,050 6.00%
Due over ten years 3,305 -- -- 3,305 6.20%
U.S. TREASURY
Due over ten years 61,096 5,484 -- 66,580 5.36%
P.R. ECONOMIC DEVELOPMENT
BANK NOTES
Due within a year 2,000 -- -- 2,000 6.60%
OTHER
Due within a year 5,000 -- -- 5,000 3.51%
Due from one to five years 355 5 -- 360 6.48%
Due from five to ten years 4,040 31 -- 4,071 5.48%
Due over ten years 2,000 30 -- 2,030 7.00%
-------- -------- -------- -------- ------
$827,173 $ 8,317 $ 1,151 $834,339 6.30%
======== ======== ======== ======== ======
16
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
SECURITIES HELD TO MATURITY
AS OF DECEMBER 31, 2002
(Dollars in thousands)
WEIGHTED
AMORTIZED UNREALIZED UNREALIZED MARKET AVERAGE
COST GAINS LOSSES VALUE YIELD
--------- ---------- ---------- -------- --------
MORTGAGE-BACKED SECURITIES
GNMA
Due from five to ten years $ 2,227 $ 101 $ -- $ 2,328 6.74%
Due over ten years 11,253 590 -- 11,843 6.99%
CMO CERTIFICATES
Due from one to five years 274 -- -- 274 7.62%
Due from five to ten years 1,257 -- 8 1,249 6.28%
Due over ten years 67,140 155 1,172 66,123 5.99%
DEBT SECURITIES
FHLB NOTES
Due over ten years 394,365 250 250 394,365 5.59%
FHLB ZERO COUPON
Due over ten years 314,202 54 54 314,202 6.82%
FHLMC ZERO COUPON
Due over ten years 37,116 138 1,121 36,133 7.87%
FHLMC NOTES
Due over ten years 50,000 -- -- 50,000 6.00%
PR HOUSING BANK
Due from one to five years 5,000 25 -- 5,025 6.00%
Due over ten years 3,305 -- -- 3,305 6.20%
US TREASURY
Due over ten years 61,092 5,852 -- 66,944 5.36%
P.R. ECONOMIC DEVELOPMENT
BANK NOTES
Due within a year 2,000 -- -- 2,000 6.60%
OTHER
Due within a year 5,000 -- -- 5,000 3.51%
Due from one to five years 355 5 -- 360 6.48%
Due from five to ten years 4,040 38 -- 4,078 5.48%
Due over ten years 2,000 30 -- 2,030 7.00%
-------- -------- -------- -------- ------
$960,626 $ 7,238 $ 2,605 $965,259 6.13%
======== ======== ======== ======== ======
17
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
i. The following table sets forth certain information regarding Doral
Financial's mortgage loans held for sale as of the dates indicated:
MORTGAGE LOANS HELD FOR SALE
(In thousands) MARCH 31, 2003 DECEMBER 31, 2002
-------------- -----------------
Conventional single family residential loans $1,619,196 $1,789,531
FHA/VA loans 92,369 86,109
Mortgage loans on residential multifamily 95,157 103,296
Construction and commercial real estate loans 239,657 204,423
Consumer loans secured by mortgages 40 40
---------- ----------
$2,046,419 $2,183,399
========== ==========
j. The following table sets forth certain information regarding Doral
Financial's loans receivable as of the dates indicated:
LOANS RECEIVABLE, NET
(Dollars in thousands) MARCH 31, 2003 DECEMBER 31, 2002
------------------------------ -------------------------------
AMOUNT PERCENT AMOUNT PERCENT
----------- ------- ----------- -------
Construction loans $ 499,600 43% $ 474,440 45%
Residential mortgage loans 340,843 29% 282,059 27%
Commercial--secured by real estate 143,706 12% 138,270 13%
Consumer--secured by real estate 506 0% 821 0%
Consumer--other 63,162 5% 62,279 6%
Commercial non-real estate 17,289 2% 13,291 1%
Loans on savings deposits 9,468 1% 8,720 1%
Land secured 89,733 8% 79,996 7%
----------- ------- ----------- -----
Loans receivable, gross 1,164,307 100% 1,059,876 100%
----------- ------- ----------- -----
Less:
Undisbursed portion of loans
in process (6,687) (9,420)
Unearned interest and deferred
loan fees, net (18,079) (18,132)
Allowance for loan losses(1) (15,045) (9,982)
----------- -----------
(39,811) (37,534)
----------- -----------
Loans receivable, net $ 1,124,496 $ 1,022,342
=========== ===========
- ----------
(1) Does not include $7.3 million and $8.3 million of allowance for loan
losses allocated to mortgage loans held for sale as of March 31,
2003 and December 31, 2002, respectively.
k. Doral Financial is the guarantor of various serial and term bonds issued
by Doral Properties, a wholly-owned subsidiary, through the Puerto Rico
Industrial, Tourist, Educational, Medical and Environmental Control
Facilities Financing Authority ("AFICA"). The bonds, in an aggregate
principal amount of $44,765,000, were issued on November 3, 1999 to
finance the construction and development of the Doral Financial Plaza,
which became the new headquarters of Doral Financial. The bonds have fixed
interest rates, ranging from 6.10% to 6.90%, and maturities ranging from
June 2003 to December 2029. The bonds are secured by a mortgage on the
building and underlying real property. On November 1, 2002, Doral
Properties issued an additional $7.6 million in bonds through AFICA to
finance additional improvements to the Doral Financial Plaza. The
additional bonds mature, subject to prior amortization requirements, in
December 2029, and are also guaranteed by Doral Financial.
18
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
l. The Company routinely originates, securitizes and sells mortgage loans
into the secondary market. As a result of this process, the Company
typically retains the servicing rights and may retain interest-only
strips ("IOs"). The Company's retained interests are subject to prepayment
and interest rate risks. The following table shows the changes in the
Company's mortgage servicing assets for each of the periods shown:
MORTGAGE SERVICING ASSETS ACTIVITY
(In thousands)
QUARTER ENDED
MARCH 31,
-------------------------
2003 2002
--------- ---------
Balance at beginning of period ... $ 159,881 $ 154,340
Capitalization of rights ......... 13,036 11,090
Amortization:
Scheduled ................... (7,763) (6,200)
Unscheduled and impairment .. (4,884) (1,073)
--------- ---------
Balance at end of period ......... $ 160,270 $ 158,157
========= =========
During the first quarter of 2003, the market prices used to value Doral
Financial's servicing assets varied from 1.40% to 2.30% of the principal amount
of the loans subject to the servicing rights, with servicing rights for GNMA
(FHA/VA loans) mortgage-backed securities having higher values than comparable
servicing rights for conventional loans. For the first quarter of 2002, the
market price used varied from 1.50% to 2.30%. The Company measures the
interest-only strips at the date of the transaction based on market values
computed from the difference in interest rate spreads multiplied by the
principal amount of loans sold by a market factor. In addition, to determine the
fair value of its interest-only strips, Doral Financial uses external and
internal valuations based on discounted cash flow models that incorporate
assumptions regarding discount rates and mortgage prepayment rates. See
"Management Discussion and Analysis of Financial Condition and Results of
Operation - Amortization and Impairment of Servicing Assets and Valuation of
IOs" on this Form 10-Q. The market factor used by Doral Financial to value
interest-only strips ranged from 4.75% to 5.50% during the first quarter of
2003, compared to a range from 4.25% to 5.50% during the first quarter of 2002.
For a discussion regarding Doral Financial's accounting policies please refer to
the Management's Discussion and Analysis of Financial Condition and Results of
Operations Section of Doral Financial's Annual Report on Form 10-K for the year
ended December 31, 2002.
Effective July 1, 2002, an impairment charge is recognized through a valuation
allowance for each individual stratum of mortgage loans subject to servicing
rights. The valuation allowance is adjusted to reflect the amount, if any, by
which the cost basis of the servicing asset for a given stratum is not
recognized. Prior to July 1, 2002, Doral Financial recorded impairment charges
as a direct writedown of servicing assets.
Changes in the impairment allowance were as follows:
QUARTER ENDED
(In thousands) MARCH 31, 2003
--------------
Balance at beginning of period . $ 9,152
Impairment charges ............. 7,492
Recoveries ..................... (2,608)
--------
Balance at end of period $ 14,036
========
19
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
m. At March 31, 2003 and December 31, 2002, money market investments include
$181.7 million and $578.9 million, respectively, of pledged money market
investments. Such money market investments secured short-term borrowings
generally due within 90 days. At March 31, 2003 and December 31, 2002, the
carrying value of securities purchased under resell agreements included in
money market investments was $50.5 million and $259.8 million,
respectively. The underlying securities were held on behalf of the Company
by the dealers that arranged the transactions. At March 31, 2003 and
December 31, 2002, the Company has repledged approximately $506,000 and
$244.5 million, respectively, of the underlying securities.
n. Effective January 1, 2003, the Company expenses the fair value of stock
options granted to employees using the "modified prospective" method
described in SFAS No. 148. Under this method, the Company expenses the
fair value of all employee stock options granted after January 1, 2003, as
well as the unvested portions of previously granted options. The
before-tax expense associated with expensing stock options for the first
quarter of 2003 was approximately $1.1 million. During the first quarter
of 2002, the Company used the intrinsic value method to account for its
stock option plan. Under the intrinsic value-based method, compensation
expense is recognized for the excess, if any, of the quoted market price
of the stock on the grant date over the amount an employee must pay to
acquire the stock. The Company did not recognize any compensation cost in
the first quarter of 2002.
The following table illustrates the effect on net income and earnings per
common share if compensation had been recognized using the fair value
method in the first quarter of 2002.
Quarter Ended
(In thousands, except per share information) March 31, 2002
--------------
Compensation and Benefits:
Reported $ 12,851
Pro forma $ 13,973
Net Income:
Reported $ 46,540
Pro forma $ 45,855
Basic Earnings Per Share:
Reported $ 0.62
Pro forma $ 0.61
Diluted Earnings Per Share:
Reported $ 0.61
Pro forma $ 0.60
o. Recent Accounting Pronouncements.
Consolidation of Variable Interest Entities, an interpretation of ARB 51.
In January 2003, the FASB issued interpretation ("FIN") No. 46,
"Consolidation of Variable Interest Entities, an interpretation of ARB
51." This interpretation provides guidance on the identification of
entities for which control is achieved through means other than through
voting rights and how to determine when and which entities should be
consolidated. The
20
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
application of this interpretation is required in all financial statements
initially issued after January 31, 2003. The adoption of FIN No. 46 did
not have any impact on Doral Financial's Consolidated Financial
Statements.
Guarantor's Accounting and Disclosure Requirements for Guarantees. In
November 2002, the FASB issued FIN No. 45, "Guarantor's Accounting and
Disclosure Requirements for Guarantees." This interpretation requires a
guarantor of certain types of guarantees to recognize, at the inception of
the guarantee, a liability for the fair value of the obligation undertaken
in issuing the guarantee. The provisions for initial recognition are
effective for guarantees that are issued or modified after December 31,
2002. As of March 31, 2003, the Company had outstanding $2.3 million in
commercial and financial standby letters of credit. The adoption of FIN
No. 45 did not have a material impact on Doral Financial's Consolidated
Financial Statements.
Accounting for Costs Associated with Exit or Disposal Activities. In June
2002, the FASB issued SFAS No. 146, "Accounting for Cost Associated with
Exit or Disposal Activities." SFAS No. 146 requires that a liability for a
cost associated with an exit or disposal activity be recognized when the
liability is incurred. The provisions of this statement are effective for
exit or disposal activities that are initiated after December 31, 2002.
The adoption of this statement did not have any effect on the Consolidated
Financial Statements of Doral Financial.
Derivatives and Hedging Activities. In April 2003, the FASB issued SFAS
No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging
Activities." SFAS No. 149 amends and clarifies financial accounting and
reporting for derivative instruments, including certain derivative
instruments embedded in other contracts (collectively referred to as
derivatives) and for hedging activities under FASB Statement No. 133,
"Accounting for Derivative Instruments and Hedging Activities." This
statement amends Statement 133 for decisions made (1) as part of the
Derivatives Implementation Group process that effectively required
amendments to Statement 133, (2) in connection with other Board projects
dealing with financial instruments, and (3) in connection with
implementation issues raised in relation to the application of the
definition of a derivative, in particular, the meaning of an initial net
investment that is smaller than would be required for other types of
contracts that would be expected to have a similar response to changes in
market factors, the meaning of underlying, and the characteristics of a
derivative that contains financing components. This statement is effective
for contracts entered into or modified after June 30, 2003. In addition,
all provisions of this Statement should be applied prospectively.
Management is still in the process of determining the impact of the
provisions of SFAS No. 149.
p. Certain amounts reflected in the 2002 Consolidated Financial Statements
have been reclassified to conform to the presentation for 2003.
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
Doral Financial Corporation is a financial holding company that, together
with its wholly-owned subsidiaries, is engaged in mortgage banking, retail
banking (including thrift operations), institutional securities operations and
insurance agency activities. Doral Financial's mortgage banking activities (its
"mortgage banking business"), include the origination, purchase, sale and
servicing of mortgage loans on single-family residences, the issuance and sale
of various types of mortgage-backed securities, the holding of mortgage loans,
mortgage-backed securities and other investment securities for sale or
investment, the purchase and sale of servicing rights associated with such
mortgage loans and the origination of construction loans and mortgage loans
secured by income producing real estate and land.
Doral Financial is currently in its 31st year of operations. Doral
Financial's core business remains mortgage banking and it continues to be Puerto
Rico's largest residential mortgage lender. The volume of loans originated and
purchased by Doral Financial during the quarters ended March 31, 2003 and 2002
was approximately $1.5 billion and $1.2 billion, respectively. Doral Financial's
mortgage servicing portfolio increased to approximately $11.8 billion as of
March 31, 2003, from $10.4 billion as of March 31, 2002. Doral Financial's
strategy is to increase the size of its mortgage servicing portfolio by relying
principally on internal loan originations and supplementing such internal loan
originations by purchases of mortgage loans on a servicing released basis.
Doral Financial maintains a substantial portfolio of mortgage-backed
securities. At March 31, 2003, Doral Financial held securities for trading with
a fair market value of $1.6 billion, approximately $575.0 million of which
consisted of Puerto Rico GNMA securities, the interest on which is tax-exempt to
the Company. These securities are generally held by Doral Financial for longer
periods prior to sale in order to maximize the tax-exempt interest received
thereon. Trading securities are reflected on Doral Financial's consolidated
financial statements at their fair market value with resulting gains or losses
included in operations as part of trading activities.
As part of its strategy to maximize net interest income, Doral Financial
also invests in securities that are classified as available for sale or held to
maturity. As of March 31, 2003, Doral Financial held approximately $827.2
million in securities that were classified as held to maturity. As of March 31,
2003, Doral Financial also held $1.0 billion of investment securities that were
classified as available for sale and reported at fair value, with unrealized
gains or losses included in stockholders' equity and reported as "Accumulated
other comprehensive loss, net of income tax," in Doral Financial's consolidated
financial statements.
In recent years, Doral Financial has diversified its revenue sources by
expanding into new lines of business as well as expanding geographically by
opening a federal thrift institution in New York City. Doral Financial has
expanded into new lines of business such as banking and insurance that have
natural synergies with its core mortgage banking business and that offer
attractive cross-marketing opportunities. Doral Financial expects that these new
lines of business will make increasing contributions to its consolidated
earnings in the future.
For the quarters ended March 31, 2003 and 2002, Doral Financial's banking
subsidiaries contributed approximately $33.6 million and $16.4 million, or 48%
and 35%, respectively, to the Company's consolidated net income.
The Company's institutional securities operation is conducted through
Doral Securities, a NASD member subsidiary headquartered in San Juan, Puerto
Rico, that sells securities to institutional customers and provides investment
banking services. For the quarters ended March 31, 2003 and 2002, Doral
Securities had net income of approximately $839,000 and $83,000, respectively.
22
Doral Financial conducts its insurance agency activities in Puerto Rico
through Doral Insurance Agency, Inc. For the quarters ended March 31, 2003 and
2002, Doral Agency's net income was approximately $1.3 million and $1.0 million,
respectively.
For information regarding net interest income, non-interest income, net
income and identifiable assets broken down by Doral Financial's mortgage
banking, banking, institutional securities and insurance agency activities
segments, please refer to note "g" of the accompanying Consolidated Financial
Statements.
Doral Financial has significant assets and operations at the parent
company level. HF Mortgage Bankers, one of Doral Financial's principal mortgage
units, and Doral Overseas, an international banking entity, are organized as
operating divisions within the parent company. As of March 31, 2003, Doral
Financial had assets of $3.2 billion at the parent company level (includes
investment in subsidiaries accounted for at cost).
For a discussion regarding Doral Financial's critical accounting policies
please refer to the Management's Discussion and Analysis of Financial Condition
and Results of Operations section of Doral Financial's Annual Report on Form
10-K for the year ended December 31, 2002.
RESULTS OF OPERATIONS FOR THE QUARTERS ENDED MARCH 31, 2003 AND 2002
Doral Financial's results of operations have historically been influenced
primarily by the level of demand for mortgage loans, which is affected by
external factors such as prevailing mortgage rates and the strength of the
Puerto Rico housing market. Changes in interest rates also significantly
influence Doral Financial's results of operations by affecting the difference
between the rates it earns on its interest-earning assets and the rates it pays
on its interest-bearing liabilities, as well as impacting the gains and losses
it obtains from its mortgage loan sales and trading activities.
The components of Doral Financial's revenues are: (1) net interest income;
(2) net gain on mortgage loan sales and fees; (3) servicing income; (4) trading
activities; (5) gain on sale of investment securities; and (6) commissions, fees
and other income.
NET INCOME
Doral Financial's net income for the quarter ended March 31, 2003 was
$70.0 million, an increase of $23.5 million, or 51%, from $46.5 million for the
2002 period. Consolidated results include the operations of Doral Bank PR and
Doral Bank NY, Doral Financial's retail banking units, which contributed
approximately $33.6 million to Doral Financial's consolidated net income for the
quarter ended March 31, 2003, compared to $16.4 million for the respective 2002
period. Doral Securities, Doral Financial's institutional securities unit,
contributed approximately $839,000 to consolidated net income for the quarter
ended March 31, 2003, compared to approximately $83,000 for the respective 2002
period. Doral Agency, Doral Financial's insurance agency, contributed $1.3
million to consolidated net income for the quarter ended March 31, 2003 compared
to $1.0 million for the respective 2002 period. Diluted earnings per common
share for the first quarter of 2003 were $0.90, an increase of 48% over the
$0.61 per diluted share recorded for the same period a year ago.
NET INTEREST INCOME
Net interest income is the excess of interest earned by Doral Financial on
its interest-earning assets over the interest costs incurred on its
interest-bearing liabilities.
Net interest income for the first quarter of 2003 and 2002 was $41.3
million and $35.9 million, respectively, an increase of 15%. The increase in net
interest income for the first quarter of 2003, compared to the respective 2002
period, was principally due to an increase in Doral Financial's average balance
of net interest-earning assets.
23
The Company's retail banking subsidiaries contributed $26.9 million to the
consolidated net interest income for the first quarter of 2003, compared to
$23.6 million for the first quarter of 2002.
The following table presents, for the periods indicated, Doral Financial's
average balance sheet, the total dollar amount of interest income from average
interest-earning assets and the related yields, as well as the interest expense
on average interest-bearing liabilities expressed both in dollars and rates, and
the net interest margin. The table does not reflect any effect of income taxes.
All average balances are based on the average daily balances.
TABLE A
AVERAGE BALANCE SHEET AND SUMMARY OF NET INTEREST INCOME
(DOLLARS IN THOUSANDS)
QUARTER ENDED MARCH 31,
------------------------------------------------------------------------------
2003 2002
--------------------------------------- -------------------------------------
AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE INTEREST YIELD/RATE BALANCE INTEREST YIELD/RATE
--------- --------- ---------- -------- --------- ----------
ASSETS:
Interest-Earning Assets:
Total Loans(1) $3,278,767 $ 55,040 6.81% $2,737,488 $ 47,123 6.98%
Mortgage-Backed Securities(2) 1,215,931 17,525 5.85% 1,370,096 20,858 6.17%
Interest-Only Strips(2) 380,438 10,856 11.57% 227,809 7,790 13.87%
Investment Securities 1,633,342 22,060 5.48% 1,169,925 18,819 6.52%
Other Interest-Earning Assets(3) 1,468,878 4,129 1.14% 647,513 2,493 1.56%
---------- -------- ----- ---------- -------- -----
Total Interest-Earning
Assets/ Interest Income 7,977,356 $109,610 5.57% 6,152,831 $ 97,083 6.40%
======== ==== ======== ====
Total Non-Interest-Earning Assets 665,310 494,343
---------- ----------
Total Assets $8,642,666 $6,647,174
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Interest-Bearing Liabilities:
Deposits $2,356,384 $ 18,066 3.11% $1,770,144 $ 16,691 3.82%
Repurchase Agreements 2,869,475 23,937 3.38% 2,542,019 25,485 4.07%
Advances From FHLB 1,269,167 12,374 3.95% 775,778 8,908 4.66%
Loans Payable 218,891 1,451 2.69% 169,932 1,330 3.17%
Notes Payable(4) 620,348 12,505 8.18% 462,012 8,783 7.71%
---------- -------- ---- ---------- -------- ----
Total Interest-Bearing
Liabilities/Interest Expense 7,334,265 $ 68,333 3.78% 5,719,885 $ 61,197 4.34%
======== ==== ======== ====
Total Non-Interest-Bearing Liabilities 242,526 151,910
---------- ----------
Total Liabilities 7,576,791 5,871,795
Stockholders' Equity 1,065,875 775,379
---------- ----------
Total Liabilities and Stockholders'
Equity $8,642,666 $6,647,174
========== ==========
Net Interest-Earning Assets $ 643,091 $ 432,946
Net Interest Income $ 41,277 $ 35,886
Interest Rate Spread(5) 1.79% 2.06%
Interest Rate Margin(5) 2.10% 2.37%
Net Interest-Earning Assets Ratio 108.77% 107.57%
- ----------
(1) Average loan balances include the average balance of non-accruing loans,
on which no interest income is recognized.
(2) Interest-only strips and the interest income thereon are included within
mortgage-backed securities on Doral Financial's Consolidated Statements of
Income.
(3) Consists of money market instruments, reverse repurchase agreements and
deposits in other banks.
(4) Average yields consider accretion of discounts and amortization of debt
issue costs.
(5) Interest rate spread represents the difference between Doral Financial's
weighted average yield on interest-earning assets and the weighted average
rate on interest-bearing liabilities. Interest rate margin represents net
interest income on an annualized basis as a percentage of average
interest-earning assets.
24
The following table describes the extent to which changes in interest
rates and changes in volume of interest-earning assets and interest-bearing
liabilities have affected Doral Financial's interest income and interest expense
during the period indicated. For each category of interest-earning assets and
interest-bearing liabilities, information is provided on changes attributable
to: (i) changes in volume (change in volume multiplied by prior year rate), (ii)
changes in rate (change in rate multiplied by current year volume), and (iii)
total change in rate and volume. The combined effect of changes in both rate and
volume has been allocated in proportion to the absolute dollar amounts of the
changes due to rate and volume.
TABLE B
NET INTEREST INCOME VARIANCE ANALYSIS
(IN THOUSANDS)
QUARTER ENDED
MARCH 31,
-------------------------------------
2003 COMPARED TO 2002
INCREASE (DECREASE) DUE TO:
VOLUME RATE TOTAL
-------- --------- --------
INTEREST INCOME VARIANCE
TOTAL LOANS $ 9,445 $ (1,528) $ 7,917
MORTGAGE-BACKED SECURITIES (2,378) (955) (3,333)
INTEREST-ONLY STRIPS 5,292 (2,226) 3,066
INVESTMENT SECURITIES 7,554 (4,313) 3,241
OTHER INTEREST EARNING ASSETS 3,203 (1,567) 1,636
-------- -------- --------
TOTAL INTEREST INCOME VARIANCE 23,116 (10,589) 12,527
-------- -------- --------
INTEREST EXPENSE VARIANCE
DEPOSITS 5,599 (4,224) 1,375
REPURCHASE AGREEMENTS 3,332 (4,880) (1,548)
ADVANCES FROM FHLB 5,748 (2,282) 3,466
LOANS PAYABLE 388 (267) 121
NOTES PAYABLE 3,052 670 3,722
-------- -------- --------
TOTAL INTEREST EXPENSE VARIANCE 18,119 (10,983) 7,136
-------- -------- --------
NET INTEREST INCOME VARIANCE $ 4,997 $ 394 $ 5,391
======== ======== ========
INTEREST INCOME
Total interest income increased from $97.1 million during the first
quarter of 2002, to $109.6 million during the first quarter of 2003, an increase
of 13%. The increase in interest income during the period is primarily related
to the increase in Doral Financial's total average balance of interest-earning
assets, which increased from $6.2 billion for the quarter ended March 31, 2002
to $8.0 billion for the quarter ended March 31, 2003.
Interest income on loans increased by $7.9 million or 17% during the first
quarter of 2003, compared to the respective 2002 period. The increase during
2003 reflects an increase in the level of loans held by Doral Financial compared
to 2002, due to the increased volume of loan originations and purchases.
Interest income on mortgage-backed securities for the first quarter of
2003 decreased by approximately $3.4 million or 16% compared to the respective
2002 period. For the quarters ended March 31, 2003 and 2002, interest income on
mortgage-backed securities amounted to $17.5 million and $20.9 million,
respectively. The results for the 2003 period reflect a decrease in the
Company's average balance of mortgage-backed securities, which decreased
approximately $154.2 million compared to the respective 2002 period. The
decrease in interest income on mortgage- backed securities during 2003 reflects
a higher volume of sales of these instruments during this period. The Company
continues to maximize tax-exempt
25
interest income by holding a significant amount of tax-exempt Puerto Rico GNMA
securities and U.S. FHLMC/FNMA mortgage-backed securities. The interest earned
on such U.S. mortgage-backed securities is tax-exempt to Doral Financial's
international banking entities under Puerto Rico law and is not subject to U.S.
income taxation because such entities are considered foreign corporations for
U.S. income tax purposes and are entitled to the portfolio interest deduction
with respect to interest earned on these securities.
Interest income on IOs increased by $3.1 million or 39% during the first
quarter of 2003, compared to the respective 2002 period. The increase during the
first quarter of 2003 compared to the first quarter of 2002 resulted from an
increase in the average balance of IOs, which increased from $227.8 million
during the first quarter of 2002 to $380.4 million during the first quarter of
2003. The increase in interest-only strips resulted from a higher volume of sale
and securitization activities. See "Amortization and Impairment of Servicing
Assets and Valuation of IOs."
Interest income on investment securities increased by $3.2 million or 17%
from the first quarter of 2002 to the first quarter of 2003. The increase in
interest income on investment securities during this period reflects Doral
Financial's strategy to increase its tax-exempt interest income by investing in
U.S. Treasury and agency securities, the interest on which is tax-exempt to the
Company under Puerto Rico law and is not subject to U.S. income taxation because
of Doral Financial's status as a foreign corporation for U.S. income tax
purposes.
Interest income on other interest-earning assets increased by $1.6 million
or 66% during the first quarter ended March 31, 2003 as compared to the same
quarter of 2002. Other interest-earning assets consist primarily of money market
instruments, overnight deposits, term deposits, and reverse repurchase
agreements. The increase from 2002 to 2003 reflects Doral Financial's higher
average balances in these captions due to the Company's decision to maintain
higher levels of liquidity in anticipation of a rise in interest rates.
INTEREST EXPENSE
Total interest expense increased to $68.3 million during the first quarter
of 2003, from $61.2 million for the respective 2002 period, an increase of 12%.
The increase in interest expense for the 2003 period was due to an increased
volume of borrowings to finance Doral Financial's loan production and investment
activities that was partly offset by a decrease in the average cost of
borrowings due to the declining interest rate environment. Average balance of
interest- bearing liabilities increased to $7.3 billion at an average cost of
3.78% for the quarter ended March 31, 2003, compared to $5.7 billion at an
average cost of 4.34% for the quarter ended March 31, 2002.
Interest expense on deposits increased by $1.4 million, or 8%, for the
first quarter of 2003 as compared to the respective 2002 period. The increase in
interest expense on deposits reflects the increase in deposits held at Doral
Financial's retail banking subsidiaries. The average balance of deposits
increased to $2.4 billion for the quarter ended March 31, 2003, from $1.8
billion for the first quarter of 2002. The average interest cost on deposits was
3.11% for the quarter ended March 31, 2003, compared to 3.82% for the respective
2002 period.
Interest expense related to securities sold under agreements to repurchase
decreased by $1.5 million or 6% during the first quarter of 2003 compared to the
same period of 2002. The decrease in interest expense on securities sold under
agreements to repurchase during the first quarter of 2003 reflected lower
borrowing costs, as compared to the respective 2002 period. The weighted average
interest rate cost of borrowings under repurchase agreements was 3.38% and 4.07%
for the first quarter of 2003 and 2002, respectively, that were offset in part
by increased borrowings to finance mortgage-backed securities and other
investment securities.
Interest expense on advances from FHLB increased by $3.5 million, or 39%,
for the first quarter of 2003 as compared to the respective 2002 period. The
increase in interest expense on advances from FHLB-NY reflects the increase in
the average balance of borrowings to finance the Company's retail banking
operations. The average balance of advances from FHLB increased to $1.3 billion
at an average cost of 3.95% for the quarter ended March 31, 2003, compared to
$775.8 million at an average cost of 4.66% for the quarter ended March 31, 2002.
26
Interest expense related to loans payable amounted to $1.5 million for the
first quarter of 2003, compared to $1.3 million for the comparative 2002 period.
The increase in interest expense on loans payable was principally due to the
increase in the average balance of loans payable outstanding from $169.9 million
to $218.9 million for the quarters ended March 31, 2002 and March 31, 2003,
respectively. The increase in loans payable was almost completely offset by a
decrease in the average cost of borrowings. The weighted-average interest rate
cost for borrowings under Doral Financial's loans payable was 2.69% for the
first quarter of 2003, compared to 3.17% for the first quarter of 2002.
Interest expense on notes payable was $12.5 million for the quarter ended
March 31, 2003, compared to $8.8 million for the same period a year ago, an
increase of 42%. The increase in interest expense on notes payable is due to the
increase in the average balance of $158.3 million from March 31, 2002 to March
31, 2003. During the second quarter of 2002, Doral Financial closed the sale of
$30.0 million of its 7.00% Senior Notes due 2012, $40.0 million of its 7.10%
Senior Notes due 2017 and $30.0 million of its 7.15% Senior Notes due 2022. The
notes were sold at a price to the public of 97.976% of the principal amount
thereof, resulting in proceeds to Doral Financial, after selling commissions but
before expenses of approximately $97.7 million.
PROVISION FOR LOAN LOSSES
The provision is charged to earnings to bring the total allowance for loan
losses to a level considered appropriate by management based on Doral
Financial's loss experience, current delinquency rates, known and inherent risk
in the loan portfolio, an assessment of individual problem loans, the estimated
value and equity of any underlying collateral, and an assessment of current
economic conditions. While management believes that the current provision for
loan losses is sufficient, future additions to the allowance for loan losses
could be necessary if economic conditions change or if credit losses increase
substantially from the assumptions used by Doral Financial in determining the
allowance for loan losses. Unanticipated increases in the allowance for loan
losses could result in reductions in Doral Financial's net income. As of March
31, 2003, more than 97% of the loan portfolio was secured by real estate and the
amounts due on the loans have historically been recovered through the sale of
the property after foreclosure or negotiated settlements with borrowers.
Doral Financial made provisions to its allowance for loan losses of $4.8
million and $748,000, respectively, for the quarters ended March 31, 2003 and
2002. The increase from 2002 to 2003 is primarily related to an increase in the
size of Doral Financial's loan portfolio as well as an increase in the number of
construction loans, commercial real estate and other commercial loans that carry
a higher allowance due to the inherent risk associated with these types of
lending activities. The increase also reflects an increase in the allowance for
construction loans in light of current economic conditions.
NON-INTEREST INCOME
Net Gains on Mortgage Loan Sales and Fees. Net gains from mortgage loan
sales and fees increased by 68% during the first quarter of 2003 to $77.3
million, compared to $46.0 million for the same period of 2002. The increase for
2003 was mainly the result of a greater volume of loan securitizations and sales
and the ability of the Company to obtain higher profitability through higher
loan fees and the creation of IOs in connection with bulk sales of mortgage
loans to institutional investors. See "Amortization and Impairment of Servicing
Assets and Valuation of IOs."
Loan sales were $884.6 million for the first quarter of 2003, compared to
$801.3 million for the first quarter of 2002. Doral Financial recognized IOs as
part of its sales activities of $51.9 million for the first quarter of 2003,
compared to $38.5 million for the respective 2002 period. During 2003, Doral
Financial also recorded $7.2 million in connection with the recognition of
mortgage servicing rights as part of its loan sale and securitization
activities, compared to $9.3 million for the respective 2002 period. Loan
origination fees were $16.0 million for the first quarter of 2003, compared to
$16.2 million for the first quarter of 2002.
27
Servicing Income. Servicing income represents revenues earned for
administering mortgage loans. The main component of Doral Financial's servicing
income is loan servicing fees, which depend on the type of mortgage loan being
serviced. The servicing fees on residential mortgage loans generally range from
0.25% to 0.44%, net of guarantee fees, of the declining outstanding principal
amount of the serviced loan. As of March 31, 2003, the weighted average
servicing fee rate for the entire portfolio was 0.32%. The size of Doral
Financial's loan servicing portfolio has increased substantially since its
inception as a result of increases in loan production and bulk purchases of
servicing rights. For the quarter ended March 31, 2003, net servicing loss was
$4.1 million compared to a gain of $1.4 million for the corresponding period of
2002.
The net servicing loss for the first quarter of 2003 was the result of
increased amortization and impairment of mortgage servicing assets. The increase
in amortization was the result of a larger servicing portfolio and an increase
in impairment related to actual and expected increases in prepayments due to
declining mortgage interest rates. Total amortization and impairment charges
were $12.6 million and $7.3 million for the quarters ended March 31, 2003 and
2002, respectively. Doral Financial recognized a net impairment charge of $4.9
million during the first quarter of 2003 due to the increase in prepayment
estimates associated with falling interest rates. See Note l to the unaudited
consolidated financial statements contained herein. Gross servicing fees remain
at stable levels, amounting to $8.5 million for the first quarter of 2003,
compared to $8.7 million for the first quarter of 2002. The Company's mortgage
servicing portfolio, including its own portfolio, was approximately $11.8
billion at March 31, 2003, compared to $10.4 billion as of March 31, 2002. The
value of the servicing asset assigned to a mortgage loan reduces the basis of
the related mortgage loan and thereby results in increased "Net Gains on
Mortgage Loans Sales and Fees" at the time of sale. During the quarter ended
March 31, 2003 and 2002, Doral Financial recognized servicing assets of $7.2
million and $9.3 million, respectively, in connection with the sale of
internally originated loans. Lower capitalization of servicing assets was
related to the types of loans originated during the first quarter of 2003. As
reflected in "Loan Production - Table E", the FHA/VA mortgage loan production
decreased approximately 47%, offset by increases in other conventional
conforming, non-conforming, construction and commercial loans originations.
Generally, values for servicing rights of GNMA (FHA/VA loans) mortgage-backed
securities are higher than comparable servicing rights on conventional loans.
Trading Activities. Trading activities include all gains or losses,
whether realized or unrealized, in the market value of Doral Financial's trading
securities, as well as gains or losses on options, futures contracts and other
derivative instruments used for interest rate management purposes. Trading
activities for the quarter ended March 31, 2003 resulted in a gain of $4.9
million compared to a loss of $5.1 million for the first quarter of 2002. Gain
on trading activities was related primarily to realized gains with respect to
trading securities, partly offset by realized and unrealized losses on
derivative instruments. Increased realized gains on trading securities during
the first quarter of 2003 reflect increased volume of trading activities and
higher profits, particularly in Doral Financial's international banking
entities. Net realized gains on sale of trading securities was $20.0 million for
the quarter ended March 31, 2003 compared to a loss of $2.6 million for the 2002
period. Trading activities for the quarters ended March 31, 2003 and 2002,
included $452,000 and $253,000 of unrealized losses, respectively, on the value
of its trading securities pursuant to SFAS No. 115. For the quarters ended March
31, 2003 and 2002, net realized and unrealized losses on derivative instruments
were $14.7 million and $2.3 million, respectively.
The value of Doral Financial's trading securities and derivatives are
generally very sensitive to interest rate changes and the reported fair values
of certain of these assets such as IOs are based on assumptions regarding the
direction of interest rates and prepayment rates on mortgage loans. As a result,
changes in interest rates and prepayment rates for mortgage loans can result in
substantial volatility in the components of trading accounts. Doral Financial
attempts to mitigate the risk to the value of its trading securities by entering
into hedging transactions involving the purchase of derivatives such as options
and futures contracts. During 2002 and 2003, Doral Financial's risk management
strategy has been principally directed at protecting the value of its securities
and income from a rising interest rate scenario. Because interest rates have
remained at historic low levels, Doral Financial has experienced losses on its
derivatives, but these losses have been generally offset by increases on
realized gains on trading securities and gains on sale of mortgage loans. Set
forth below is a summary of the components of gains and losses from trading
activities:
28
TABLE C
COMPONENTS OF TRADING ACTIVITIES
QUARTER ENDED
MARCH 31,
----------------------
(IN THOUSANDS) 2003 2002
-------- --------
Net realized gains and (losses) on sales of trading securities $ 20,011 $ (2,551)
Net unrealized losses on trading securities (452) (253)
Net realized and unrealized losses on derivative instruments (14,658) (2,266)
-------- --------
Total $ 4,901 $ (5,070)
======== ========
Gain on Sale of Investment Securities. Gain on sale of investment
securities represents the impact on income of transactions involving the sale of
securities classified as available for sale. For the first quarter 2003, sale of
investment securities resulted in a net gain of $7.1 million, compared to a net
gain of $2.8 million for the corresponding 2002 period, reflecting increased
sales activities and favorable pricing due to the declining interest rate
environment. Proceeds from sales of securities available for sale amounted to
$1.1 billion for the first quarter of 2003 compared to $503.7 million for the
first quarter of 2002.
Commissions, Fees and Other Income. Other income, commissions and fees
increased 38% during the first quarter of 2003 from $4.5 million for the quarter
ended March 31, 2002 to $6.2 million for the quarter ended March 31, 2003. The
increase during the 2003 period was due primarily to increased commissions and
fees earned by Doral Financial's retail banking and insurance agency operations.
Set forth below is a summary of Doral Financial's principal sources of fees and
commissions.
TABLE D
FEES AND COMMISSIONS
(IN THOUSANDS)
QUARTER ENDED
MARCH 31,
------------------
2003 2002
------- -------
Deposit and other retail banking fees $ 2,610 $ 1,768
Securities fees and commissions 222 261
Insurance fees and commissions 1,787 1,605
Other income 1,596 877
------- -------
Total $ 6,215 $ 4,511
======= =======
NON-INTEREST EXPENSES
Total non-interest expenses increased by 46% during the first quarter
ended March 31, 2003, compared to the respective 2002 period. This increase
reflects increases in compensation, advertising, occupancy and other expenses
resulting from the continued expansion of Doral Financial's retail mortgage
banking and banking franchises and expenses related to increased loan
originations and servicing. For the quarter ended March 31, 2003, compensation
and benefits, which is the largest component of non-interest expense, increased
by 65% due mainly to increases in salaries and incentives as well as increases
in the costs of fringe benefits. It also includes $1.1 million before tax
expense associated with the expensing of the fair value of stock options. As of
March 31, 2003, Doral Financial had 2,121 employees, compared to 1,913 employees
as of March 31, 2002.
29
INCOME TAXES
Income taxes include Puerto Rico income taxes as well as applicable
federal and state taxes. As a Puerto Rico corporation, Doral Financial is
generally required to pay federal income tax only with respect to its income
derived from the active conduct of a trade or business in the United States
(excluding Puerto Rico) and certain investment income derived from U.S. assets.
The maximum statutory corporate income tax rate in Puerto Rico is 39%. For the
first quarters of 2003 and 2002, the effective income tax rate of Doral
Financial was 16% and 14%, respectively. The increase in the effective tax rate
for 2003 reflected increased revenues from the Company's non-tax advantaged
operations such as its insurance agency and institutional securities operations.
The lower effective tax rates (compared to the maximum statutory rate)
were primarily the result of the tax- exemption enjoyed by Doral Financial on
interest income derived from certain FHA and VA mortgage loans secured by
properties located in Puerto Rico and on GNMA securities backed by such mortgage
loans. Doral Financial also invests in U.S. Treasury and agency securities that
are exempt from Puerto Rico taxation and are not subject to federal income
taxation because of the portfolio interest deduction to which Doral Financial is
entitled as a foreign corporation. In addition, Doral Financial's international
banking entities may invest in various U.S. securities, the interest income and
gain on which is exempt from Puerto Rico income taxation and excluded from
federal income taxation on the basis of the portfolio interest deduction in the
case of interest, and in the case of capital gains because the gains are sourced
outside the United States. Net income tax savings to Doral Financial
attributable to tax-exempt income amounted to approximately $15.4 million and
$12.1 million for the quarters ended March 31, 2003 and 2002, respectively.
Except for the operations of Doral Bank-NY and Doral Money, substantially
all of the Company's operations are conducted through Puerto Rico subsidiaries
in Puerto Rico. Doral Bank-NY and Doral Money are U.S. corporations and are
subject to U.S. income-tax on their income derived from all sources. For the
quarters ended March 31, 2003 and 2002, the provision for income taxes for the
Company's U.S. subsidiaries amounted to approximately $2.1 million and $607,000,
respectively.
AMORTIZATION AND IMPAIRMENT OF SERVICING ASSETS AND VALUATION OF IOS
As part of its mortgage sale activities, Doral Financial generally retains
the right to service the mortgage loans sold. Also in connection with the sale
of non-conforming mortgage loan pools and, to a lesser extent, the sale of FNMA
and FHLMC securities, Doral Financial retains the right to receive any interest
payments on such loans above the contractual pass-through rate payable to the
investor and also retains its compensation for servicing the loans or
mortgage-backed securities. Doral Financial determines the gain on sale of a
mortgage-backed security or loan pool by allocating the acquisition cost of the
underlying mortgage loans between the mortgage-backed security or mortgage loan
pool sold and its retained interests, based on their relative estimated fair
values. The reported gain or loss is the difference between the cash proceeds
from the sale of the security or mortgage pool and its allocated cost after
allocating a portion of the cost to the retained interests.
Doral Financial's sale and securitization activities generally result in
the recording of two types of retained interest: mortgage-servicing rights
("MSRs") and IOs. MSRs represent the estimated present value of the normal
servicing fees (net of related servicing costs) expected to be received on the
loan over the expected term of the loan. IOs represent the estimated present
value of the excess of weighted-average coupon of the loans underlying the
mortgage pool sold over the sum of (1) the rate required to be paid to investors
and (2) a normal servicing fee after adjusting such amount for expected losses
and prepayments. The contractual rate payable to investors may be either a fixed
or floating rate. In the case of non-conforming loans pools, it is generally a
floating rate based on a spread over the 90-day London Interbank Offered Rate
("LIBOR"). MSRs are classified as servicing assets and IOs are classified as
trading securities in Doral Financial's Consolidated Statements of Financial
Condition.
The determination of the fair values of MSRs and IOs at their initial
recording and on an ongoing basis requires considerable management judgment.
Unlike U.S. Treasury and agency mortgage-backed securities, the fair value of
30
MSRs and IOs cannot be determined with precision because they are not traded in
active securities markets. For MSRs, Doral Financial determines their initial
fair values on the basis of prices paid for comparable mortgage servicing
rights. Doral Financial also receives on a quarterly basis a third party
valuation of its MSRs related to its FNMA, FHLMC and GNMA servicing portfolio.
During the first quarter of 2003, the market prices used to value Doral
Financial's MSRs varied from 1.40% to 2.30% of the principal amount of the loans
subject to the servicing rights, with servicing rights for GNMA (FHA/VA loans)
mortgage-backed securities having higher values than comparable servicing rights
for conventional loans. For the first quarter of 2002, the market prices used
varied from 1.50% to 2.30%. The unamortized balance of Doral Financial's
servicing asset reflected in Doral Financial's Consolidated Financial Statements
as of March 31, 2003 and 2002 was $160.3 million and $158.2 million,
respectively. These amounts do not include the fair value of servicing rights
with respect to approximately $455.2 million in loans internally originated
prior to 1995, which under prior accounting rules are not reflected in Doral
Financial's Consolidated Financial Statements. For additional information
regarding the unamortized balance of Doral Financial's servicing assets and
amortization for the quarters ended March 31, 2003 and 2002, please refer to
Note l to the unaudited consolidated financial statements contained herein.
To determine the fair value of its IOs, Doral Financial obtains dealer
quotes for comparable instruments and uses external and internal valuations
based on discounted cash flow models that incorporate assumptions regarding
discount rates and mortgage prepayment rates. Doral Financial generally uses the
lowest valuation obtained from these methods. While Doral Financial has
consistently sold some IOs in private sales, currently there is no liquid market
for the purchase and sale of IOs. Doral Financial recognized IOs with recorded
fair values of $51.9 million and $38.5 million for the quarters ended March 31,
2003 and 2002, respectively. As of March 31, 2003 and December 31, 2002, the
carrying value of IOs and other residual interests retained in securitization
transactions reflected in Doral Financial's Consolidated Financial Statements
was $411.1 million and $359.2 million, respectively.
The value of Doral Financial's MSRs and IOs is very sensitive to interest
rate changes. Once recorded, Doral Financial periodically evaluates its MSRs for
impairment. Impairment is defined generally as a reduction in current fair value
below carrying value. If the MSRs are impaired, the impairment is recognized in
current period earnings. Prior to July 1, 2002, Doral Financial recorded
impairment charges as a direct write down of servicing assets. Effective July 1,
2002, Doral Financial records impairment of MSRs through a valuation allowance.
The valuation allowance is adjusted to reflect the amount, if any, by which the
cost basis of MSRs exceeds their fair value. If the value of MSRs subsequently
increases, the valuation allowance is decreased through a credit to current
period earnings. As of March 31, 2003, the impairment allowance for MSRs was
$14.0 million. As discussed above, changes in the fair value of IOs are
recognized in current earnings as a component of trading activities.
MSRs are also subject to periodic amortization. The amortization of MSRs
is based on the amount and timing of estimated cash flows to be recovered with
respect to the MSRs over their expected lives. To the extent changes in interest
rates or prepayment rates warrant, Doral Financial will increase or decrease the
level of amortization. Amortization of MSRs is recorded as a reduction For
impairment and valuation purposes, Doral Financial continues to monitor changes
in interest rates to determine whether the assumptions used to value the MSRs
and IOs are still appropriate in light of market conditions. It also attempts to
corroborate the values assigned to these assets through the use of internal
valuation models that incorporate assumptions regarding the direction of
interest rates and mortgage prepayment rates. The reasonableness of management's
assumptions is corroborated through valuations performed by independent third
parties on a quarterly basis. In the case of MSRs, Doral Financial stratifies
the mortgage loans underlying a mortgage pool or mortgage-backed security on the
basis of their predominant risk characteristics, which Doral Financial has
determined to be type of loan (conventional, conforming and non-conforming) and
interest rates.
Increases in prepayment rates or credit loss rates over anticipated levels
used in calculating the value of IOs and MSRs can adversely affect Doral
Financial's revenues and liquidity by increasing the amortization rates for
servicing assets and IOs, as well as requiring Doral Financial to recognize an
impairment against income over and above scheduled amortization.
31
BALANCE SHEET AND OPERATING DATA ANALYSIS
LOAN PRODUCTION
Loan production includes loans internally originated by Doral Financial as
well as residential mortgage loans purchased from third parties. The following
table sets forth the number and dollar amount of Doral Financial's loan
production for the periods indicated:
TABLE E
LOAN PRODUCTION
(DOLLARS IN THOUSANDS, EXCEPT FOR AVERAGE INITIAL LOAN BALANCE)
QUARTER ENDED
MARCH 31,
--------------------------
2003 2002
---------- ----------
FHA/VA mortgage loans
Number of loans ............................... 852 1,725
Volume of loans ............................... $ 78,185 $ 149,996
Percent of total volume ....................... 5% 13%
Average initial loan balance .................. $ 91,766 $ 86,954
Conventional conforming mortgage loans
Number of loans ............................... 3,886 3,822
Volume of loans ............................... $ 578,280 $ 533,645
Percent of total volume ....................... 40% 45%
Average initial loan balance .................. $ 148,811 $ 139,625
Conventional non - conforming mortgage loans(1)(2)
Number of loans ............................... 5,768 4,770
Volume of loans ............................... $ 562,359 $ 371,982
Percent of total volume ....................... 38% 31%
Average initial loan balance .................. $ 97,496 $ 77,984
Other(3)
Number of loans ............................... 565 450
Volume of loans ............................... $ 241,732 $ 134,642
Percent of total volume ....................... 17% 11%
Total loans
Number of loans ............................... 11,071 10,767
Volume of loans ............................... $1,460,556 $1,190,265
- ----------
(1) Includes $13.6 million and $11.0 million in second mortgages for the
quarters ended March 31, 2003 and 2002, respectively.
(2) Includes $24.0 million and $19.7 million in home equity or personal
loans secured by real estate mortgages of up to $40,000 for the
quarters ended March 31, 2003 and 2002, respectively.
(3) Consists of construction loans on residential projects, mortgage
loans secured by multi-family and commercial properties as well as
other commercial, land and consumer loans.
A substantial portion of Doral Financial's total residential mortgage loan
originations has consistently been composed of refinance loans. For the quarters
ended March 31, 2003 and 2002, refinance loans represented approximately 64% and
55%, respectively, of the total dollar volume of mortgage loans originated
(excluding loans purchased from third parties). Doral Financial's future results
could be adversely affected by a significant increase in
32
mortgage interest rates that may reduce refinancing activity. However, the
Company believes that refinancing activity is less sensitive to interest rate
changes in Puerto Rico than in the mainland United States because a significant
amount of refinance loans is made for debt consolidation purposes and because
interest cost on mortgage loans is tax deductible for borrowers.
The following table sets forth the sources of Doral Financial's loan
production as a percentage of total loan originations for the periods indicated:
TABLE F
LOAN ORIGINATION SOURCES
QUARTER ENDED MARCH 31,
--------------------------------------------------------------
2003 2002
------------------------------ -----------------------------
PUERTO RICO US TOTAL PUERTO RICO US TOTAL
----------- -- ----- ----------- -- -----
Retail ................. 54% -- 54% 56% 1% 57%
Wholesale(1) ........... 5% 25% 30% 8% 24% 32%
New Housing Developments 11% -- 11% 8% -- 8%
Multi-family(2) ........ -- 2% 2% -- -- --
Other(3) ............... 2% 1% 3% 2% 1% 3%
- ----------
(1) Refers to purchases of mortgage loans from other financial institutions
and mortgage lenders.
(2) Less than one percent for 2002.
(3) Refers to commercial, consumer and land loans originated through the
retail banking subsidiaries and other specialized units.
MORTGAGE LOAN SERVICING
Doral Financial's principal source of servicing rights has traditionally
been its internal mortgage loan production. However, Doral Financial also
purchases mortgage loans on a servicing-released basis as well as servicing
rights in bulk. During the first quarters of 2003 and 2002, Doral Financial
purchased servicing rights to approximately $316.8 million and $108.2 million,
respectively, in principal amount of mortgage loans. Doral Financial intends to
continue growing its mortgage-servicing portfolio by internal loan originations
and wholesale purchases of loans on a servicing-released basis but will also
continue to seek and consider attractive opportunities for bulk purchases of
servicing rights from third parties.
33
The following table sets forth certain information regarding the total
mortgage loan-servicing portfolio of Doral Financial for the periods indicated:
TABLE G
MORTGAGE LOAN SERVICING
(DOLLARS IN THOUSANDS, EXCEPT FOR AVERAGE SIZE OF LOANS PREPAID)
AS OF MARCH 31,
-----------------------------
2003 2002
----------- -----------
COMPOSITION OF SERVICING PORTFOLIO AT PERIOD END:
GNMA ............................................ $ 3,015,013 $ 3,254,669
FHLMC/FNMA ...................................... 3,041,977 2,739,155
Doral Financial grantor trusts .................. 46,721 61,062
Other conventional mortgage loans(1)(2) ......... 5,654,971 4,346,468
----------- -----------
Total servicing portfolio ....................... $11,758,682 $10,401,354
=========== ===========
SELECTED DATA REGARDING MORTGAGE LOANS SERVICED:
Number of loans ................................. 144,901 137,094
Weighted average interest rate .................. 7.32% 7.57%
Weighted average remaining maturity (months) ... 255 252
Weighted average servicing fee rate ............. .3238% .3495%
Average servicing portfolio ..................... $11,522,190 $10,316,597
Principal prepayments ........................... $ 509,000 $ 386,000
Prepayments to average portfolio (annualized) ... 18% 15%
Average size of loans prepaid ................... $ 87,347 $ 76,921
Servicing assets reflected on Consolidated
Statement of Financial Condition............... $ 160,270 $ 158,157
DELINQUENT MORTGAGE LOANS AND PENDING
FORECLOSURES AT PERIOD END:
60-89 days past due ............................. 1.17% 1.37%
90 days or more past due ........................ 1.92% 2.13%
----------- -----------
Total delinquencies excluding foreclosures ...... 3.09% 3.50%
=========== ===========
Foreclosures pending ............................ 1.76% 1.44%
=========== ===========
SERVICING PORTFOLIO ACTIVITY:
Beginning servicing portfolio ................... $11,241,523 $10,006,380
Add:
Loans funded and purchased(3) ................ 825,351 706,954
Bulk servicing acquired ...................... 316,839 108,229
Less:
Servicing sales transferred .................. 2,450 --
Run-off(4) ................................... 622,581 420,209
----------- -----------
Ending servicing portfolio ...................... $11,758,682 $10,401,354
=========== ===========
(1) Includes $2.2 billion and $1.6 billion of loans owned by Doral Financial
at March 31, 2003 and 2002, respectively, which represented 19% and 16% of
the total servicing portfolio as of such dates.
(2) Includes portfolios of $198.6 million and $22.8 million at March 31, 2003
and 2002, respectively, insured FHA/VA delinquent loans sold to third
parties.
(3) Excludes approximately $635.2 million and $483.3 million of conventional,
commercial, consumer, construction and other loans not included in Doral
Financial's mortgage servicing-portfolio as of March 31, 2003 and 2002,
respectively.
(4) Run-off refers to regular amortization of loans, prepayments and
foreclosures.
34
Substantially all of the mortgage loans in Doral Financial's servicing
portfolio are secured by single (one-to-four) family residences secured by real
estate located in Puerto Rico. At March 31, 2003 and 2002, approximately 3% and
5%, respectively, of Doral Financial's mortgage-servicing portfolio was related
to mortgages secured by real property located on the U.S. mainland.
The amount of principal prepayments on mortgage loans serviced by Doral
Financial was $509.0 million and $386.0 million for the quarters ended March 31,
2003 and 2002, respectively. This represents approximately 18% and 15%,
respectively, on an annualized basis of the average principal amount of mortgage
loans serviced. Doral Financial reduces the sensitivity of its servicing income
to increases in prepayment rates through a strong retail origination network
that has permitted Doral Financial to increase or maintain the size of its
servicing portfolio even during periods of declining interest rates and high
prepayments.
CREDIT RISKS RELATED TO LOAN ACTIVITIES
With respect to mortgage loans originated for sale as part of its mortgage
banking business, Doral Financial is generally at risk for any mortgage loan
default from the time it originates the mortgage loan until the time it sells
the loan or packages it into a mortgage-backed security. With respect to FHA
loans, Doral Financial is fully insured as to principal by the FHA against
foreclosure loss. VA loans are guaranteed up to 25% to 50% of the principal
amount of the loan subject to a maximum, ranging from $22,500 to $50,750.
Loan-to-value ratios for residential mortgage loans generally do not exceed 80%
(85% for certain qualifying home purchase transactions through Doral Bank PR)
unless private mortgage insurance is obtained.
Loans that do not qualify for the insurance or guarantee programs of FHA
and VA, or the sale or exchange programs of FNMA or FHLMC ("non-conforming
loans"), including loans secured by multifamily projects, are often sold to
investors on a partial or full recourse basis. In such cases, Doral Financial
retains part or all of the credit risk associated with such loan after sale.
Doral Financial's contingent obligation with respect to such recourse provisions
is not reflected on Doral Financial's Consolidated Financial Statements, except
for the reserve referred to below. As of March 31, 2003, the outstanding
principal balance of loans sold subject to full recourse or partial recourse was
$2.2 billion. As of such date the maximum principal amount of loans that Doral
Financial would have been required to repurchase if all loans subject to
recourse defaulted was $1.6 billion. As of March 31, 2003, Doral Financial
maintained a reserve of $3.2 million for potential losses from such recourse
arrangements, which is included in "Accrued expenses and other liabilities" in
Doral Financial's Consolidated Financial Statements.
Doral Financial is also subject to credit risk with respect to its
portfolio of loans receivable. Loans receivable represent loans that Doral
Financial holds for investment and, therefore, Doral Financial is at risk for
the term of the loan. Loans secured by income-producing residential and
commercial properties involve greater credit risk because they are larger in
size and more risk is concentrated in a single borrower. The properties securing
these loans are also more difficult to dispose of in case of foreclosure.
Doral Financial manages credit risk by maintaining sound underwriting
standards, monitoring the quality of the loan portfolio, assessing reserves and
loan concentrations, recruiting qualified credit officers, implementing and
monitoring lending policies and collateral requirements, maintaining appropriate
collection procedures and instituting procedures to ensure appropriate actions
to comply with laws and regulations. Doral Financial's collateral requirements
for loans depend on the financial strength of the borrower and the type of loan
involved. Acceptable collateral principally includes cash, deposit and
investment accounts and real estate, and to a lesser extent, liens on accounts
receivable, leases receivable, inventory and personal property. In the case of
non-conforming loans sold subject to recourse, Doral Financial also generally
requires lower loan-to-value ratios to protect itself from possible losses on
foreclosure.
35
Because most of Doral Financial's loans are made to borrowers located in
Puerto Rico and secured by properties located in Puerto Rico, Doral Financial is
subject to greater credit risks tied to adverse economic, political or business
developments and natural hazards, such as hurricanes, that may affect Puerto
Rico. For example, if Puerto Rico's real estate market were to experience an
overall decline in property values, the Company's rates of loss on foreclosure
would probably increase.
NON-PERFORMING ASSETS AND ALLOWANCE FOR LOAN LOSSES
Non-performing assets ("NPAs") consist of loans past due 90 days and still
accruing, loans on a non-accrual basis and other real estate owned. Beginning in
the second quarter of 2002, conventional mortgage loans held for sale by Doral
Financial's mortgage banking units are placed on a non-accrual basis after they
have been delinquent for more than 180 days to the extent concern exists as to
ultimate collectibility based on the loan-to-value ratio. When the loan is
placed on non-accrual, its accrued interest to date is fully reserved. Doral
Financial believes that its non-accrual policy for mortgage loans held for sale
in its mortgage banking units is reasonable because these loans are adequately
secured by real estate, usually have a low loan-to-value ratio, and the amounts
due on the loans have historically been recovered through the sale of the
property after foreclosure or negotiated settlements with borrowers. Doral
Financial's banking subsidiaries place all loans more than 90 days past due on a
non-accrual basis, at which point a reserve for all unpaid interest previously
accrued is established. Interest income is recognized when the borrower makes a
payment, and the loan will return to an accrual basis when it is no longer more
than 90 days delinquent and collectibility is reasonably assured. As of March
31, 2003 and 2002, Doral Financial would have recognized $6.5 million and $2.2
million, respectively, in additional interest income had all delinquent loans
been accounted for on an accrual basis. Doral Financial evaluates loans
receivable for impairment. Impaired loans as of March 31, 2003 and December 31,
2002 amounted to approximately $18.3 million and $2.0 million, respectively. At
March 31, 2003 an impairment allowance of approximately $300,000 was allocated
to certain impaired loans with an aggregate principal outstanding balance of
$1.5 million.
The following table sets forth information with respect to Doral
Financial's non-accrual loans, other real estate owned ("OREO") and other
non-performing assets as of the dates indicated. Doral Financial did not have
any troubled debt restructurings as of any of the periods presented.
36
TABLE H
NON-PERFORMING ASSETS
(DOLLARS IN THOUSANDS)
AS OF AS OF
MARCH 31, 2003 DECEMBER 31, 2002
-------------- -----------------
Mortgage banking business:
Non-accrual loans:
Construction loans ................................... $ 2,601 $ 497
Residential mortgage loans ........................... 18,354 17,153
Construction loans past due 90 days and still accruing . 1,383 2,413
Loans held-for-sale past due 90 days and still
accruing(1)........................................... 59,472 60,054
OREO ................................................... 12,695 12,375
-------- --------
Total NPAs of mortgage banking business ................ 94,505 92,492
-------- --------
Other lending activities through banking subsidiaries:
Non-accrual loans:
Construction loans ................................... 634 638
Residential mortgage loans ........................... 8,399 8,746
Commercial real estate loans ......................... 4,973 5,152
Consumer loans ....................................... 1,440 1,152
Commercial non-real estate loans ..................... 186 676
Land loans ........................................... 2,746 --
-------- --------
Total non-accrual loans ................................ 18,378 16,364
Residential mortgage loans past due 90 days and still
accruing ............................................... 1,701 --
Commercial real estate loans past due 90 days and still
accruing ............................................... 866 --
Consumer loans past due 90 days and still accruing ..... 69 --
OREO ................................................... 699 682
-------- --------
Total NPAs of banking subsidiaries ..................... 21,713 17,046
-------- --------
Total NPAs of Doral Financial (consolidated) ........... $116,218 $109,538
======== ========
Total NPAs of banking subsidiaries as a percentage
of their loans receivable, net, and OREO ............. 2.04% 1.75%
Total NPAs of Doral Financial as a percentage of
consolidated total assets ............................ 1.33% 1.30%
Total Non-performing loans to total loans .............. 3.22% 2.99%
Ratio of allowance for loan losses to total
non-performing loans at end of period (consolidated) . 21.69% 18.91%
- ----------
(1) Does not include approximately $12.6 million and $13.4 million of 90 days
past due FHA/VA loans as of March 31, 2003 and December 31, 2002,
respectively, which are not considered non-performing assets by Doral
Financial because the principal balance of these loans is insured or
guaranteed under applicable FHA and VA programs and interest is, in most
cases, fully recovered in foreclosure proceedings.
37
The following table summarizes certain information regarding Doral
Financial's allowance for loan losses and losses on OREO, for both Doral
Financial's banking and mortgage banking business for the periods indicated.
TABLE I
ALLOWANCE FOR LOAN LOSSES AND OREO
(DOLLARS IN THOUSANDS)
QUARTER ENDED
MARCH 31,
--------------------------
2003 2002
-------- --------
OREO:
Balance at beginning of period ................ $ 2,772 $ 1,365
Provision for losses .......................... 270 240
Net gains (losses), charge-offs and others .... (616) 66
-------- --------
Balance at end of period ...................... $ 2,426 $ 1,671
======== ========
Allowance for Loan Losses:
Balance at beginning of period ................ $ 18,243 $ 12,472
Provision for loan losses ..................... 4,778 748
-------- --------
Charge-offs:
Mortgage loans held-for-sale ............. (20) (38)
Construction loans ....................... -- --
Residential mortgage loans ............... -- --
Commercial real estate loans ............. -- --
Consumer loans ........................... (699) (133)
Commercial non-real estate loans ......... (52) (15)
Other .................................... -- (12)
-------- --------
Total Charge-offs ............................. (771) (198)
-------- --------
Recoveries:
Mortgage loans held-for-sale ............. -- --
Construction loans ....................... -- --
Residential mortgage loans ............... -- 14
Commercial real estate loans ............. -- --
Consumer loans ........................... 45 33
Commercial non-real estate loans ......... 4 2
Other .................................... -- --
-------- --------
Total recoveries .............................. 49 49
-------- --------
Net charge-offs ............................... (722) (149)
-------- --------
Other Adjustments ............................. -- --
-------- --------
Balance at end of period(1) ................... $ 22,299 $ 13,071
======== ========
Allowance for loan losses as a percentage of
total loans outstanding at the end of period 0.70% 0.47%
Net charge-offs to average loans outstanding .. 0.02% 0.01%
- ----------
(1) Includes the allowance of mortgage loans held-for-sale of $7.3 million for
2003 and $6.8 million for 2002 and the allowance for loans receivable held
for investment of $15.0 million for 2003 and $6.3 million for 2002.
38
The allowance for loan losses relating to loans held by Doral Financial
was $22.3 million at March 31, 2003, compared to $13.1 million as of March 31,
2002. The increase in the allowance was primarily the result of the increase in
the size of the loan portfolio as well as an increase in the amount of
construction, consumer, commercial real estate and other commercial loans that
carry greater credit risk.
LIQUIDITY AND CAPITAL RESOURCES
Doral Financial has an ongoing need for capital to finance its lending,
servicing and investing activities. This need is expected to increase as the
volume of the loan originations and investing activity increases. Doral
Financial's cash requirements arise mainly from loan originations and purchases,
purchases and holding of securities, repayments of debt upon maturity, payments
of operating and interest expenses and servicing advances and loan repurchases
pursuant to recourse or warranty obligations.
Servicing agreements relating to the mortgage-backed securities programs
of FNMA, FHLMC and GNMA, and to mortgage loans sold to certain other investors,
require Doral Financial to advance funds to make scheduled payments of
principal, interest, taxes and insurance, if such payments have not been
received from the borrowers. While Doral Financial generally recovers funds
advanced pursuant to these arrangements within 30 days, it must absorb the cost
of the funds it advances during the time the advance is outstanding. During the
quarter ended March 31, 2003, the monthly average amount of funds advanced by
Doral Financial under such servicing agreements was approximately $13.5 million,
compared to $6.9 million for the same period during 2002. To the extent the
mortgage loans underlying Doral Financial's servicing portfolio experience
increased delinquencies, Doral Financial would be required to dedicate
additional cash resources to comply with its obligation to advance funds as well
as incur additional administrative costs related to increases in collection
efforts.
When Doral Financial sells mortgage loans to third parties it generally
makes customary representations and warranties regarding the characteristics of
the loans sold. To the extent Doral Financial breaches any of these warranties,
investors are generally entitled to obligate Doral Financial to repurchase the
loan subject of the breach.
In addition to its servicing and warranty obligations, Doral Financial's
loan sale activities include the sale of non-conforming mortgage loans subject
to recourse arrangements that generally obligate Doral Financial to repurchase
the loans if the loans are 90 days or more past due or otherwise in default. To
the extent the delinquency ratios of the loans sold subject to recourse are
greater than anticipated and Doral Financial is required to repurchase more
loans than anticipated, Doral Financial's liquidity requirements would increase.
See "Credit Risks Related to Loan Activities" for additional information on
these arrangements.
Doral Financial's primary sources of liquidity are sales in the secondary
mortgage market of the loans it originates and purchases, short-term borrowings
under warehouse, gestation and repurchase agreement lines of credit secured by
pledges of its loans and mortgage-backed securities and revenues from
operations. Doral Financial's banking subsidiaries also rely on deposits and
borrowings from the FHLB-NY. Doral Financial has also relied on privately-
placed and publicly offered debt financings and public offerings of preferred
and common stock.
39
The following table shows Doral Financial's sources of borrowings and the
related average interest rate as of March 31, 2003 and December 31, 2002:
TABLE J
SOURCES OF BORROWINGS
(DOLLARS IN THOUSANDS)
AS OF MARCH 31, 2003 AS OF DECEMBER 31, 2002
-------------------------- ---------------------------
AMOUNT AVERAGE AMOUNT AVERAGE
OUTSTANDING RATE OUTSTANDING RATE
----------- ------- ------------ -------
Deposits ............ $2,470,163 2.73% $2,217,211 2.85%
Repurchase Agreements 2,608,816 3.49% 2,733,339 3.46%
Loans Payable ....... 259,688 2.33% 211,002 2.62%
Notes Payable ....... 618,152 7.75% 621,303 7.75%
Advances from FHLB .. 1,256,500 3.98% 1,311,500 3.93%
Doral Financial is dependent upon its ability to access warehouse,
gestation and repurchase facilities, in addition to its ability to continue to
pool and sell loans in the secondary mortgage market. It borrows money under
warehousing lines of credit to fund its mortgage loan originations and repays
the borrowing as the mortgages are sold or securitized. The warehousing lines of
credit then become available for additional borrowings. Included among Doral
Financial's warehousing line of credit facilities are gestation or pre-sale
facilities that permit Doral Financial to obtain more favorable rates once
mortgage loans are in the process of securitization but prior to the actual
issuance of the mortgage-backed securities, as well as to finance such
mortgage-backed securities upon their issuance.
Doral Financial has warehousing, gestation and repurchase agreements lines
of credit totaling $8.3 billion as of March 31, 2003, of which $2.9 billion was
outstanding as of such date. Of the aggregate amount of funding available under
Doral Financial's warehousing and repurchase lines of credit, approximately $2.2
billion represented committed facilities under which the lender is committed to
advance funds subject to compliance with various conditions. The remaining
funding was available under uncommitted lines pursuant to which advances are
made at the discretion of the lender. Doral Financial's committed lines of
credit generally require Doral Financial to comply with various financial
covenants and ratios. Failure to comply with any of these covenants permits the
lender to require immediate repayment of all amounts previously advanced and to
stop making any further advances to Doral Financial. As of March 31, 2003, Doral
Financial was in compliance with all such financial covenants and ratios.
Doral Financial's investment grade credit ratings on its debt securities
have allowed it to obtain liquidity in the capital markets through public and
private offerings of its debt securities. To the extent Doral Financial's credit
ratings on its debt securities were to fall below investment grade, Doral
Financial's ability to obtain liquidity through the capital markets would be
materially adversely affected. A decrease in Doral Financial's credit ratings
could also make it more difficult for it to sell non-conforming loans subject to
recourse provisions since the purchasers of loans subject to recourse provisions
rely in part on the credit of Doral Financial when purchasing such loans. A
decrease in recourse sales could adversely affect the liquidity of Doral
Financial because the secondary market for non-conforming loans is not as liquid
as the secondary market for loans that qualify for the sale or guarantee
programs of FHA, VA, FNMA and FHLMC. A decrease in Doral Financial's credit
ratings could also adversely affect its liquidity because lending institutions
may be less inclined to renew or enter into new lending arrangements with Doral
Financial. A ratings downgrade would also adversely affect liquidity because
counterparties to repurchase agreements used for funding loan origination
activities or to derivative contracts used for interest rate risk management
purposes could increase the applicable margin requirements under such
agreements.
Under Doral Financial's repurchase lines of credit and derivative
contracts, Doral Financial is required to deposit cash or qualifying securities
to meet margin requirements. To the extent that the value of securities
previously pledged as collateral decline because of changes in interest rates,
Doral Financial will be required to deposit additional cash or securities to
meet its margin requirements, thereby adversely affecting its liquidity.
40
A considerable amount of Doral Financial's liquidity is derived from the
sale of mortgage loans in the secondary mortgage market. The U.S. (including
Puerto Rico) secondary mortgage market is the most liquid in the world in large
part because of the sale or guarantee programs maintained by FHA, VA, HUD, FNMA
and FHLMC. To the extent these programs were curtailed or the standard for
insuring or selling loans under such programs were materially increased or for
any reason Doral Financial failed to qualify for such programs, Doral
Financial's ability to sell mortgage loans and consequently its liquidity would
be materially adversely affected.
Doral Financial maintains a considerable investment in MSRs and IOs
generated as part of its mortgage sale activities. While the servicing assets
and IOs are recorded at the time of sale of the related mortgage loans, some of
the cash related to such retained interest is received over the life of the
asset and, therefore, does not generally provide immediate liquidity that is
available to Doral Financial to fund its operations or to pay dividends.
Doral Financial's banking subsidiaries obtain funding for their lending
activities through the receipt of deposits, FHLB-NY advances and from other
borrowings, such as term notes backed by FHLB-NY letters of credit. As of March
31, 2003, Doral Financial's banking subsidiaries held approximately $2.5 billion
in deposits at a weighted-average interest rate of 2.73%.
The following table presents the average balance and the annualized
average rate paid on each deposit type for the periods indicated:
TABLE K
AVERAGE DEPOSIT BALANCE
(DOLLARS IN THOUSANDS) QUARTER ENDED YEAR ENDED
MARCH 31, 2003 DECEMBER 31, 2002
-------------------- ----------------------
AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE RATE BALANCE RATE
---------- ------- --------- -------
Certificates of deposit $1,409,132 3.57% $1,168,984 3.84%
Regular passbook savings 218,851 2.63% 183,074 2.81%
NOW accounts ........... 451,401 2.11% 411,837 2.23%
Non-interest bearing ... 277,000 -- 273,708 --
---------- ---- ---------- -----
Total deposits ... $2,356,384 3.11% $2,037,603 3.57%
========== ==== ========== ====
The following table sets forth the maturities of certificates of deposit
having principal amounts of $100,000 or more at March 31, 2003.
TABLE L
DEPOSIT MATURITIES
(IN THOUSANDS)
AMOUNT
----------
Certificates of deposit maturing
Three months or less ......... $ 398,032
Over three through six months 61,897
Over six through twelve months 185,597
Over twelve months ........... 590,682
----------
Total ........................ $1,236,208
==========
As of March 31, 2003 and December 31, 2002, Doral Financial's banking
subsidiaries had approximately $786.6 million and $654.5 million, respectively,
in deposits obtained through broker-dealers. Brokered deposits are used
41
by Doral Financial's banking subsidiaries as a source of long-term funds.
Brokered deposits, however, are generally considered a less stable source of
funding than core deposits obtained through retail bank branches. Investors that
invest in brokered deposits are generally very sensitive to interest rates and
will generally move funds from one depository institution to another based on
minor differences in rates offered on deposits.
As of March 31, 2003, Doral Financial, Doral Bank PR and Doral Bank NY
were in compliance with all the regulatory capital requirements that were
applicable to them as a financial holding company, state non-member bank and
federal savings bank, respectively (i.e., total capital and Tier 1 capital to
risk weighted assets of at least 8% and 4%, respectively, and Tier 1 capital to
average assets of at least 4%). Set forth below are Doral Financial's, and its
banking subsidiaries' regulatory capital ratios as of March 31, 2003, based on
existing Federal Reserve, FDIC and OTS guidelines.
TABLE M
REGULATORY CAPITAL RATIOS
DORAL DORAL DORAL
FINANCIAL BANK PR BANK NY
--------- ------- -------
Tier 1 Capital Ratio (Tier 1 capital to risk weighted assets) 14.9% 15.0% 16.1%
Total Capital (Total capital to risk weighted assets) ....... 15.2% 15.6% 16.3%
Leverage Ratio(1) ........................................... 11.4% 6.7% 8.3%
- ----------
(1) Tier 1 capital to average assets in the case of Doral Financial and Doral
Bank PR and Tier 1 capital to adjusted total assets in the case of Doral
Bank NY.
As of March 31, 2003, Doral Bank PR and Doral Bank NY were considered
well-capitalized banks for purposes of the prompt corrective action regulations
adopted by the FDIC pursuant to the Federal Deposit Insurance Corporation
Improvement Act of 1991. To be considered a well capitalized institution under
the FDIC's regulations, an institution must maintain a Leverage Ratio of at
least 5%, a Tier 1 Capital Ratio of at least 6% and a Total Capital Ratio of at
least 10% and not be subject to any written agreement or directive to meet a
specific capital ratio.
Failure to meet minimum regulatory capital requirements could result in
the initiation of certain mandatory and additional discretionary actions by
banking regulators against Doral Financial and its banking subsidiaries that, if
undertaken, could have a material adverse effect on Doral Financial.
On November 29, 2001, the federal banking and thrift regulatory agencies
adopted a final rule that changes the regulatory capital treatment of recourse
obligations, residual interests and direct credit substitutes. The rule imposes
a new dollar-for-dollar capital requirement on residual interests retained in
sale or securitization transactions and a 25% limit on the amount of Tier 1
capital that may consist of credit-enhancing interest-only strips, a subset of
residual interests. Currently, most of the IOs created in connection with the
sale by Doral Financial of its non-conforming loans are treated as
credit-enhancing interest-only strips under the new rule and thus are subject to
a dollar-for-dollar capital requirement for risk-based capital purposes and to
the 25% concentration limit for Tier 1 capital purposes. The capital ratios set
forth above incorporate the impact of the new capital rule for IOs.
The rule clarifies that, subject to certain exceptions, the entire amount
of assets sold with recourse, not just the contractual amount of the recourse
obligation, is converted into an on-balance sheet credit equivalent amount. The
credit equivalent amount, less any recourse liability reflected on the balance
sheet, is then risk weighted for purposes of applying the applicable capital
requirement. The risk weighting for residential mortgage loans is currently 50%.
As of March 31, 2003, Doral Financial's outstanding balance of loans sold with
full or partial recourse was $2.2 billion.
Substantially all of Doral Financial's recourse obligations and IOs are
recorded at the holding company level and, accordingly, the new rule only
impacts the regulatory requirements applicable to Doral Financial as a financial
holding company and had no impact on the banking subsidiaries. While the
implementation of the new rule reduced
42
Doral Financial's regulatory capital ratios at the holding company level, Doral
Financial anticipates that it will continue to comply with all applicable
capital requirements.
Doral Financial expects that it will continue to have adequate liquidity,
financing arrangements and capital resources to finance its operations. Doral
Financial will continue to explore alternative and supplementary methods of
financing its operations, including both debt and equity financing. There can be
no assurance, however, that Doral Financial will be successful in consummating
any such transactions.
ASSETS AND LIABILITIES
At March 31, 2003, Doral Financial's total assets were $8.8 billion
compared to $8.4 billion at December 31, 2002. The increase in assets was due
primarily to an increase in the investment securities portfolio of approximately
$449.8 million. Total liabilities were $7.7 billion at March 31, 2003, compared
to $7.4 billion at December 31, 2002. The increase in liabilities was largely
the result of an increase in deposit accounts, loans payable and accounts
payable from investment purchases, which were offset in part by a decrease of
$124.5 million in securities sold under agreements to repurchase. Total
liabilities also includes $79.1 million on securities sold short and a negative
fair value on derivative instruments of $15.8 million, recognized as part of
"Accrued expenses and other liabilities" on the Company's Consolidated
Statements of Financial Condition. At March 31, 2003, deposit accounts totaled
$2.5 billion, compared to $2.2 billion at December 31, 2002. As of March 31,
2003, Doral Financial's retail banking subsidiaries had $6.0 billion in assets,
compared to $5.5 billion at December 31, 2002.
CONTRACTUAL OBLIGATIONS AND OTHER COMMERCIAL COMMITMENTS
The tables below summarize Doral Financial's contractual obligations, on
the basis of contractual maturity or first call date, whichever is earlier, and
other commercial commitments as of March 31, 2003.
TABLE N
CONTRACTUAL OBLIGATIONS
(IN THOUSANDS) PAYMENT DUE BY PERIOD
---------------------------------------------------------------------------
LESS THAN AFTER 5
CONTRACTUAL OBLIGATIONS TOTAL 1 YEAR 1-3 YEARS 3-5 YEARS YEARS
---------- ---------- ---------- --------- ----------
Deposits ......................... $2,470,163 $1,822,153 $ 380,377 $ 266,373 $ 1,260
Repurchase and warehousing lines
of credit ...................... 2,868,504 2,303,704 100,000 464,800 --
Notes Payable .................... 618,152 8,563 215,035 94,524 300,030
Advances from FHLB ............... 1,256,500 504,500 405,000 347,000 --
Non-cancellable Operating Leases . 64,930 6,382 11,005 10,784 36,759
---------- ---------- ---------- ---------- ----------
Total Contractual Cash Obligations $7,278,249 $4,645,302 $1,111,417 $1,183,481 $ 338,049
========== ========== ========== ========== ==========
TABLE O
OTHER COMMERCIAL COMMITMENTS
(IN THOUSANDS) AMOUNT OF COMMITMENT EXPIRATION PER PERIOD
----------------------------------------------------------------------
TOTAL
AMOUNTS LESS THAN AFTER 5
OTHER COMMERCIAL COMMITMENTS COMMITTED 1 YEAR 1-3 YEARS 3-5 YEARS YEARS
----------- --------- ---------- --------- ---------
Standby Repurchase (Recourse) Obligations $ 1,573,806 $ 469,865 $ 490,822 $ -- $ 613,119
=========== ========= ========== ========= =========
43
The Company is a party to financial instruments with off-balance sheet
risk in the normal course of business to meet the financing needs of its
customers. These financial instruments may include commitments to extend credit
and sell mortgage-backed securities and loans. These instruments involve, to
varying degrees, elements of credit and interest rate risk in excess of the
amount recognized in the statement of financial position.
The contractual amounts of these instruments reflect the extent of
involvement the Company has in particular classes of financial instruments. The
Company's exposure to credit losses in the event of nonperformance by the other
party to the financial instrument for commitments to extend credit or for
forward sales is represented by the contractual amount of these instruments. The
Company uses the same credit policies in making these commitments as it does for
on-balance sheet instruments. At March 31, 2003, commitments to extend credit
and commercial and financial standby letters of credit amounted to approximately
$510.8 million and $2.3 million, respectively, and commitments to sell
mortgage-backed securities and loans amounted to approximately $1.3 billion.
Management believes that the Company has the ability to meet these commitments
and that no loss will result from the same. Commitments to extend credit are
agreements to lend to a customer as long as the conditions established in the
contract are met. Commitments generally have fixed expiration dates or other
termination clauses.
A letter of credit is an arrangement that represents an obligation on the
part of the Company to a designated third party, contingent upon the failure of
the Company's customer to perform under the terms of the underlying contract
with a third party. Under the terms of a letter of credit, an obligation arises
only when the underlying event fails to occur as intended, and the obligation is
generally up to a stipulated amount and with specified terms and conditions.
INTEREST RATE RISK MANAGEMENT
General. Interest rate fluctuation is the primary market risk affecting
Doral Financial. The effect of changes in interest rates on the volume of
mortgage loan originations, the net interest income earned on Doral Financial's
portfolio of loans and securities, the amount of gain on sale of loans, and the
value of Doral Financial's loan servicing portfolio and securities holdings, as
well as Doral Financial's strategies to manage such effects, are discussed in
Doral Financial's Annual Report to Shareholders, which information is also
incorporated by reference into the Company's Annual Report on Form 10-K for the
year ended December 31, 2002 under "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Interest Rate Risk Management."
In the future, Doral Financial may use alternative hedging techniques
including futures, options, interest rate swap agreements or other hedge
instruments to help mitigate interest rate and market risk. However, there can
be no assurance that any of the above hedging techniques will be successful. To
the extent they are not successful, Doral Financial's profitability may be
adversely affected. For additional information on the use of derivatives to
manage interest rate risk, see "Derivatives" below.
Interest Rate Sensitivity Analysis. Doral Financial employs a variety of
measurement techniques to identify and manage its interest rate risk including
the use of an earnings simulation model to analyze net interest income
sensitivity to changing interest rates. The model is based on actual cash flows
and repricing characteristics for on-balance and certain off-balance sheet
instruments and incorporates market-based assumptions regarding the effect of
changing interest rates on the prepayment rates of certain assets and
liabilities. The model also includes senior management's projections for
activity levels in each of the product lines offered by Doral Financial.
Assumptions based on the historical behavior of deposit rates and balances in
relation to changes in interest rates are also incorporated into the model. This
sensitivity analysis is limited by the fact that it is performed at a particular
point in time, is subject to the accuracy of various assumptions, including
prepayment forecasts, and does not incorporate other factors that could impact
Doral Financial's overall performance in such scenario. Accordingly, the
estimates resulting from the use of the
44
model should not be viewed as an earnings forecast. Actual results will differ
from simulated results due to timing, magnitude, and frequency of interest rate
changes as well as changes in market conditions and management strategies.
The Risk Management Committee, which comprises members of senior
management and reports to Doral Financial's Board of Directors, monitors
interest rate risk within Board-approved policy limits. Doral Financial's
current interest rate risk policy limits are determined by measuring the
anticipated change in net interest income over a 12-month horizon assuming a 100
and 200 basis point linear increase or decrease in all interest rates. Current
policy limits this exposure to plus or minus 60% of net interest income for a
12-month horizon.
The following table shows Doral Financial's net interest income
sensitivity profile as of March 31, 2003, and December 31, 2002:
TABLE P
INTEREST RATE SENSITIVITY
AS OF MARCH 31, 2003
PERCENTAGE CHANGE
CHANGE IN INTEREST RATES IN 12-MONTH
(BASIS POINTS) NET INTEREST INCOME
- ------------------------------- ----------------------
+200 11%
+100 5%
-100 (7%)
-200 (12%)
INTEREST RATE SENSITIVITY
AS OF DECEMBER 31, 2002
PERCENTAGE CHANGE
CHANGE IN INTEREST RATES IN 12-MONTH
(BASIS POINTS) NET INTEREST INCOME
- ------------------------------- -----------------------
+200 21%
+100 10%
-100 (8%)
-200 (16%)
Given a linear 100 and 200 basis point increase in the yield curve used in
the simulation model, it is estimated net interest income for Doral Financial
would increase by 5% and 11% over one year. The model assumes that the
portfolios of loans and trading and available for sale securities reprice at
least twice a year, as such assets are sold and replaced with new assets at
current market rates. A 200 basis point linear decrease in interest rates would
decrease net interest income by 12% over one year. All these estimated changes
in net interest income are within the policy guidelines established by Doral
Financial's Board of Directors. In addition to the sales assumptions mentioned
above, the model does not assume a full 100 or 200 basis points decrease in
rates in short-term assets and liabilities, principally due to the low level of
short-term rates. In such cases, the yield curve was assigned a minimum (floor)
value. Also, in both upward and downward rate scenarios, the increase or
decrease in rates was modeled over a specific time period (3-6 months) rather
than an instantaneous change in rates, in order to reflect what has been the
historical trend of changes in rates.
While the sensitivity model serves as a useful tool for measuring
short-term risk to future net interest income, it does not measure the
sensitivity of the market value of Doral Financial's assets or other sources of
income such as trading activities and mortgage loan sales to changes in interest
rates.
Derivatives. Doral Financial uses derivatives to manage its exposure to
interest rate risk caused by changes in interest rates beyond the control of
management. Derivatives include interest rate swaps, interest rate collars,
futures, forwards and options. Derivatives are generally either
privately-negotiated over-the-counter ("OTC") or standard
45
contracts transacted through regulated exchanges. OTC contracts generally
consist of swaps, forwards and options. Exchange-traded derivatives include
futures and options.
In February 2003, Doral Financial purchased an interest rate collar,
designated to protect the Company against rising interest rates, with a notional
amount of $100 million expiring in February 2008. Under the terms of the collar,
Doral Financial is entitled to receive the excess between the 3 month LIBOR and
5.0% provided that the 3 month LIBOR is less than 8.0%. Doral Financial will not
receive any payments if the 3 month LIBOR is less than 5.0% or greater than
8.0%. The premium paid by Doral Financial amounted to approximately $955,000 and
the fair value of the collar as of March 31, 2003 was approximately $790,000.
The collar is accounted for at fair value with changes in the fair value
accounted for in the trading activities of the statements of income.
The following table summarizes interest rate collars outstanding at March
31, 2003.
TABLE Q
INTEREST RATE COLLARS
(DOLLARS IN THOUSANDS)
ENTITLED PAYMENT PREMIUM FAIR
NOTIONAL AMOUNT MATURITY DATE CONDITIONS PAID VALUE
- -------------------------------------------------------------------------------------
Excess 3-month LIBOR
$200,000 June 2006 and 5.0% $4,865 $1,140
- --------------------------------------------------------------------------------------
Excess 3-month LIBOR
and 5.5% provided
that 3-month LIBOR is
$400,000 March 2007 less than 8.5% $5,760 $1,320
- --------------------------------------------------------------------------------------
Excess 3-month LIBOR
and 5.5% provided that 3-
month LIBOR is less than
$600,000 September 2007 8.5% $5,570 $2,991
- --------------------------------------------------------------------------------------
Excess 3-month LIBOR
and 5.5% provided that 3-
month LIBOR is less than
$100,000 February 2008 8.0% $ 955 $ 790
- --------------------------------------------------------------------------------------
Doral Bank PR enters into interest rate swap agreements in managing its
interest rate exposure. Interest rate swap agreements generally involve the
exchange of fixed and floating rate interest payment obligations without the
exchange of the underlying principal. Non-performance by the counterparty
exposes Doral Bank PR to interest rate and credit risk. At March 31, 2003, Doral
Bank PR had outstanding two interest rate swaps agreements (notional principal
amount of $100,000,000, each one) designated to protect Doral Bank PR from the
repricing of its short-term liabilities. These agreements end on September 11,
2007 and September 12, 2007, respectively. The interest rate to be received by
Doral Bank PR under each of the swaps agreements is 100% of the three-month
LIBOR rate. The rates being received by Doral Bank on these swap agreements was
1.31% and 1.26%, respectively, as of March 31, 2003. The fixed interest rate to
be paid by Doral Bank under these agreements was 3.69% and 3.655%, respectively,
as of March 31, 2003. At March 31, 2003, the agreements had an aggregate
negative fair value of $5.9 million which is recorded as a liability in Doral
Financial's Consolidated Financial Statements.
Although Doral Financial uses derivatives to manage market risk, for
financial reporting purposes its general policy is to account for such
instruments on a mark-to-market basis with gains or losses charged to operations
as they occur and may, therefore, increase the volatility of Doral Financial's
future earnings. Contracts with positive fair values are recorded as assets and
contracts with negative fair values as liabilities, after the application of
netting arrangements.
46
Fair values of derivatives such as interest rate future contracts or options are
determined by reference to market prices. Fair values of derivatives purchased
in the over-the-counter market are determined by prices provided by external
sources or valuation models. For the quarter ended March 31, 2003 average assets
and liabilities related to derivatives were $41.4 million and $32.1 million,
respectively. The notional amounts of assets and liabilities related to these
derivatives totaled $29.7 billion and $26.1 billion, respectively, as of March
31, 2003. Notional amounts indicate the volume of derivatives activity but do
not represent Doral Financial's exposure to market or credit risk.
47
The table below summarizes the fair values of Doral Financial's
derivatives, as well as the source of the fair values.
TABLE R
FAIR VALUE RECONCILIATION
(IN THOUSANDS)
QUARTER ENDED
MARCH 31, 2003
--------------
Fair value of contracts outstanding at the beginning of the period. $ (3,815)
Contracts realized or otherwise settled during the period.......... (6,373)
Fair value of new contracts entered into during the period......... 12,947
Other changes in fair values....................................... (8,421)
---------
Fair value of contracts outstanding at the end of the period....... $ (5,662)
=========
TABLE S
SOURCE OF FAIR VALUE
(IN THOUSANDS) PAYMENT DUE BY PERIOD
-----------------------------------------------------------------
AS OF MARCH 31, 2003 MATURITY MATURITY TOTAL
SOURCE OF FAIR VALUE LESS THAN MATURITY MATURITY IN EXCESS FAIR
1 YEAR 1-3 YEARS 3-5 YEARS OF 5 YEARS VALUE
------- -------- --------- ---------- ---------
Prices actively quoted .................... $ (606) $(5,414) $ -- $ -- $ (6,020)
Prices provided by other external sources . -- -- 358 -- 358
------- -------- --------- ---------- ---------
$ (606) $(5,414) $ 358 $ -- $ (5,662)
======= ======== ========= ========== =========
The use of derivatives involves market and credit risk. The market risk of
derivatives arises principally from the potential for changes in the value of
derivative contracts based on changes in interest rates. Doral Financial
generally manages its risks by taking risk-offsetting positions.
The credit risk of derivatives arises from the potential of a counterparty
to default on its contractual obligations. Credit risk related to derivatives
depend on the following: the current fair value of outstanding contracts with an
entity; the potential credit exposure on the derivative over time; the extent to
which legally enforceable netting arrangements allow the offsetting of contracts
with the same entity to be netted against each other; the extent to which
collateral held against the contract reduces credit risk; and the likelihood of
defaults by the counterparty.
To manage this credit risk, Doral Financial deals with counterparties of
good credit standing, enters into master netting agreements whenever possible
and, when appropriate, obtains collateral. Master netting agreements incorporate
rights of set-off that provide for the net settlement of contracts with the same
counterparty in the event of default. The credit risk associated with futures
contracts is also limited due to daily cash settlement of the net change in the
value of open contracts with the exchange on which the contract is traded.
48
INFLATION
General and administrative expenses generally increase with inflation.
However, the increase in real estate values in Puerto Rico in recent years has
been a positive factor for Doral Financial's mortgage banking business. The
average size of loans originated tends to increase as home values appreciate,
which serves to increase loan origination fees and servicing income faster than
the cost of providing such services. Additionally, appreciation in real estate
property values reduces the loan-to-value ratios of existing loans. Interest
rates normally increase during periods of high inflation and decrease during
periods of low inflation. See "Interest Rate Risk Management" in the
Management's Discussion and Analysis of Financial Condition and Results of
Operations section of the Company's Annual Report on Form 10-K for the year
ended December 31, 2002 for a discussion of the effects of changes of interest
rates on Doral Financial's operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For information regarding market risk to which the Company is exposed, see
the information contained under the caption "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Interest Rate Risk
Management."
ITEM 4. CONTROLS AND PROCEDURES
Within the 90-day period prior to the filing of this Quarterly Report on
Form 10-Q, an evaluation was carried out under the supervision and with the
participation of Doral Financial's management, including its Chief Executive
Officer and Chief Financial Officer, of the effectiveness of the design and
operation of our disclosure controls and procedures (as defined in Rule
13a-14(c) under the Securities Exchange Act of 1934). Based upon that
evaluation, the Chief Executive Officer and Chief Financial Officer concluded
that the design and operation of these disclosure controls and procedures were
effective. No significant changes were made in our internal controls or in other
factors that could significantly affect these controls subsequent to the date of
their evaluation.
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS
In the opinion of the Company's management, the pending and threatened
legal proceedings of which management is aware will not have a material adverse
effect on the financial condition of the Company.
ITEM 2 - CHANGES IN SECURITIES
Not applicable.
ITEM 3 - DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Stockholders Meeting of Doral Financial Corporation was held on
April 23, 2003. A quorum was obtained with 67,343,366 shares represented in
person or by proxy, which represented approximately 93.7% of all votes eligible
to be cast at the meeting. Eight directors of the Company, Salomon Levis, Zoila
Levis, Richard F. Bonini, Edgar M. Cullman, Jr., John L. Ernst, John B. Hughes,
Efraim Kier, and Harold D. Vicente, were elected for additional one-year terms.
The ratification of PricewaterhouseCoopers LLP as the Company's independent
accountants for the year
49
ending December 31, 2003 was also approved at the Annual Meeting. The results of
the voting on each of the proposals is set forth below:
Proposal 1: Election of Directors:
NOMINEES FOR VOTES
ONE-YEAR TERM VOTES FOR WITHHELD
------------- --------- --------
Salomon Levis 66,371,734 971,632
Richard F. Bonini 66,809,667 533,699
Edgar M. Cullman, Jr 65,757,359 1,586,007
John L. Ernst 66,803,557 539,809
Efraim Kier 66,457,498 867,868
Zoila Levis 66,586,018 757,348
John B. Hughes 66,461,473 881,893
Harold D. Vicente 66,307,206 1,036,160
Proposal 2: Ratification of the appointment of PricewaterhouseCoopers LLP as
Doral Financial's independent accountants for 2003:
For: 66,006,842
Against: 1,311,961
Abstain: 24,563
Broker Non-Votes: 0
ITEM 5 - OTHER INFORMATION
Declaration of Cash Dividend. On February 3, 2003, the Board of Directors
of Doral Financial announced an increase in the regular quarterly dividend of
27%, from $0.11 to $0.14 per common share, paid in March 7, 2003 to shareholders
of record on February 17, 2003. On April 23, 2003, the Board of Directors of
Doral Financial voted to declare a cash dividend of $0.14 per common share
payable on June 6, 2003, to shareholders of record on May 15, 2003.
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 12(a) - Computation of Ratio of Earnings to Fixed Charges.
Exhibit 12(b) - Computation of Ratio of Earnings to Fixed Charges
and Preferred Stock Dividends.
50
The Company has not filed as exhibits certain instruments defining the
rights of holders of debt of the Company not exceeding 10% of the total assets
of the Company and its consolidated subsidiaries. The Company will furnish
copies of any such instruments to the Securities and Exchange Commission upon
request.
(b) Reports on Form 8-K
(i) Current Report on Form 8-K, dated January 15, 2003, reporting
under Item 5 the issuance of a press release announcing the
unaudited earnings results for the quarter and year ended
December 31, 2002.
(ii) Current Report on Form 8-K, dated January 22, 2003, reporting
under Item 5 the sale of shares by Salomon Levis, the Chairman
of the Board and Chief Executive Officer of Doral Financial.
(iii) Current Report on Form 8-K, dated March 28, 2003, reporting
under Items 7 and 9 the filing of the CEO and CFO
Certifications required by Section 906 of the Sarbanes-Oxley
Act.
(iv) Current Report on Form 8-K, dated April 10, 2003, reporting
under Items 9 and 12 the issuance of a press release
announcing the unaudited earnings results for the quarter
ended March 31, 2003.
51
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
DORAL FINANCIAL CORPORATION
(Registrant)
Date: May 14, 2003 /s/ Salomon Levis
--------------------------------
Salomon Levis
Chairman of the Board
and Chief Executive Officer
Date: May 14, 2003 /s/ Richard F. Bonini
--------------------------------
Richard F. Bonini
Senior Executive Vice President
and Chief Financial Officer
Date: May 14, 2003 /s/ Ricardo Melendez
--------------------------------
Ricardo Melendez
Executive Vice President
Principal Accounting Officer
52
I, Salomon Levis, Chairman of the Board and Chief Executive Officer of Doral
Financial Corporation, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Doral
Financial Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect
to the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented
in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a. designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b. evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors
and the audit committee of registrant's board of directors (or
persons performing the equivalent function):
a. all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes
in internal controls or in other factors that could significantly
affect internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
Date: May 14, 2003
/s/ Salomon Levis
------------------------------
Salomon Levis
I, Richard F. Bonini, Senior Executive Vice President and Chief Financial
Officer of Doral Financial Corporation, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Doral
Financial Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect
to the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented
in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a. designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b. evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors
and the audit committee of registrant's board of directors (or
persons performing the equivalent function):
a. all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes
in internal controls or in other factors that could significantly
affect internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
Date: May 14, 2003
/s/ Richard F. Bonini
----------------------------
Richard F. Bonini
INDEX TO EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
------ -----------
12(a) - Computation of Ratio of Earnings to Fixed Charges.
12(b) - Computation of Ratio of Earnings to Fixed Charges and
Preferred Stock Dividends.