U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 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 SEPTEMBER 30, 2002
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
TRANSITION PERIOD FROM __________ TO ___________
COMMISSION FILE NUMBER 333-32800
VESTIN FUND II, LLC
(Exact Name of Registrant as Specified in Its Charter)
NEVADA 88-0481336
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
2901 EL CAMINO AVENUE, SUITE 206, LAS VEGAS, NEVADA 89102
(Address Of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number: 702.227.0965
On June 24, 2002, Registrant changed its fiscal year from
December 31 to June 30.
Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report.
Indicate by check 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 [ ]
As of October 31, 2002, the Issuer had 29,475,793 of its Units outstanding.
TABLE OF CONTENTS
ITEM 1. FINANCIAL STATEMENTS
PAGE
----
Balance sheets as of September 30, 2002 (unaudited), and June 30, 2002...... 3
Statements of income for the three months ended
September 30, 2002 (unaudited) and 2001 (unaudited)....................... 4
Statement of members' equity for the three months ended
September 30, 2002 (unaudited)............................................ 5
Statements of cash flows for the three months ended
September 30, 2002 (unaudited) and 2001 (unaudited)....................... 6
Notes to financial statements (unaudited)................................... 7
2
VESTIN FUND II, LLC
BALANCE SHEETS
(UNAUDITED)
SEPTEMBER 30, 2002 JUNE 30, 2002
------------------ -------------
ASSETS
Cash $ 4,471,550 $ 2,198,542
Certificates of deposit 8,025,000 6,425,000
Interest and other receivables 2,852,058 2,189,631
Investment in mortgage loans, net of allowance for loan
losses of $750,000 and $500,000 at September 30, 2002,
and June 30, 2002, respectively 266,983,765 222,058,326
Receivables under secured borrowing 25,362,630 --
Deferred bond offering costs 411,666 255,637
------------ ------------
$308,106,669 $233,127,136
============ ============
LIABILITIES AND MEMBERS' EQUITY
Liabilities
Due to Managing Member $ 984,730 $ 650,765
Secured borrowing 25,362,630 --
------------ ------------
Total liabilities 26,347,360 650,765
Members' equity 281,759,309 232,476,371
------------ ------------
Total liabilities and members' equity $308,106,669 $233,127,136
============ ============
The accompanying notes are an integral part of these statements.
3
VESTIN FUND II, LLC
STATEMENTS OF INCOME
(UNAUDITED)
FOR THE THREE
MONTHS ENDED
SEPTEMBER 30,
-------------------------
2002 2001
----------- -----------
REVENUES
Interest income from investment in
mortgage loans $ 8,683,396 $ 1,051,403
Other income 169,973 43,596
----------- -----------
Total revenues 8,853,369 1,094,999
----------- -----------
OPERATING EXPENSES
Interest expense 572,978 --
Management fees to Managing Member 162,311 --
Provision for loan losses 250,000 --
Other 29,428 60
----------- -----------
Total operating expenses 1,014,717 60
----------- -----------
NET INCOME $ 7,838,652 $ 1,094,939
=========== ===========
Net income allocated to members $ 7,838,652 $ 1,094,939
=========== ===========
Net income allocated to members per
weighted average membership units $ 0.29 $ 0.31
=========== ===========
Weighted average membership units 27,196,217 3,535,728
=========== ===========
The accompanying notes are an integral part of these statements.
4
VESTIN FUND II, LLC
STATEMENTS OF MEMBERS' EQUITY
(UNAUDITED)
UNITS AMOUNT
------------- -------------
Members' equity at June 30, 2002 23,239,836 $ 232,476,371
Issuance of units 4,740,901 47,409,008
Distributions -- (7,289,651)
Reinvestments of distributions 176,176 1,761,760
Members' withdrawals (43,683) (436,831)
Net income -- 7,838,652
------------- -------------
Members' equity at September 30, 2002 28,113,230 $ 281,759,309
============= =============
The accompanying notes are an integral part of these statements.
5
VESTIN FUND II, LLC
STATEMENTS OF CASH FLOWS
(UNAUDITED)
FOR THE THREE MONTHS ENDED
SEPTEMBER 30,
----------------------------
2002 2001
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 7,838,652 $ 1,094,939
Adjustments to reconcile net income to net
cash provided by operating activities:
Increase in interest and other receivables (662,427) (511,118)
Increase in allowance for loan losses 250,000 --
Increase in other assets (156,029) --
Increase in due to Managing Member 333,965 80,000
------------ ------------
Net cash provided by operating activities 7,604,161 663,821
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of investments in mortgage loans (91,554,661) (64,396,593)
Purchase of investments in mortgage loans
from Vestin Fund I, LLC (1,150,000) --
Proceeds from loan payoff 30,010,217 21,806,582
Purchase of investments in mortgage loans
from related parties (17,030,995) --
Proceeds received from sale of investments in
mortgage loans to related parties 15,700,000 --
Proceeds received from sale of investments
in mortgage loans 18,850,000 --
Investment in certificates of deposit (1,600,000) (1,375,000)
------------ ------------
Net cash used in investing activities (46,775,439) (43,965,011)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of membership units 47,409,008 46,021,041
Members' distributions, net of reinvestments (5,527,891) (546,794)
Members' withdrawals (436,831) --
------------ ------------
Net cash provided by financing activities 41,444,286 45,474,247
------------ ------------
NET INCREASE IN CASH 2,273,008 2,173,057
CASH, BEGINNING OF PERIOD 2,198,542 1,857,602
------------ ------------
CASH, END OF PERIOD $ 4,471,550 $ 4,030,659
============ ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOWS INFORMATION:
Non-cash financing and investing activities:
Conversion of deferred offering costs to
membership units $ -- $ 677,580
============ ============
Reinvestment of members' distributions $ 1,761,760 $ 99,053
============ ============
Distributions payable to Manager $ 33,302 $ 21,942
============ ============
Loans funded through secured borrowing $ 25,362,630 $ --
============ ============
The accompanying notes are an integral part of these statements.
6
VESTIN FUND II, LLC
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2002
(Unaudited)
NOTE A -- ORGANIZATION
Vestin Fund II, LLC, a Nevada limited liability company (the "Company"), is
primarily engaged in the business of mortgage lending. The Company invests in
loans secured by real estate through deeds of trust and mortgages. The Company
was organized on December 7, 2000 (date of formation) and will continue until
December 31, 2020 unless dissolved prior thereto or extended by vote of the
members under the provisions of the Company's Operating Agreement.
Prior to June 15, 2001, the Company was a development stage company. On June 13,
2001, the Company's Form S-11/A filed with the Securities and Exchange
Commission became effective for the initial public offering of 50,000,000 units
at $10 per unit. The Company commenced operations on June 15, 2001. As of
September 30, 2002, the Company had sold 26,456,560 units of the 50,000,000
units offered. Additionally, the Company issued 110,000 units to its Manager for
offering costs paid by them to unrelated third parties on the Company's behalf.
The Company will continue to offer its remaining unsold units to the public for
a period of up to two years following the effective date of its Form S-11/A.
The manager of the Company is Vestin Mortgage, Inc. (the "Manager" or "Managing
Member"), a Nevada corporation engaged in the business of brokerage, placement
and servicing of commercial loans secured by real property. The Manager is a
wholly-owned subsidiary of Vestin Group, Inc., a Delaware corporation, whose
common stock is publicly held and is traded on the Nasdaq National Market under
the symbol "VSTN." The Operating Agreement provides that the Manager has control
over the business of the Company; including the power to assign duties, to
determine how to invest the Company's assets, to sign bills of sale, title
documents, leases, notes, security agreements, mortgage investments and
contracts, and to assume direction of the business operations.
The financial statements have been prepared in accordance with Securities and
Exchange Commission requirements for interim financial statements. Therefore,
they do not include all of the information and footnotes required by accounting
principles generally accepted in the United States for complete financial
statements. The financial statements should be read in conjunction with the
financial statements and notes thereto contained in the Company's annual report
on Form 10-K for the transition period ended June 30, 2002.
The results of operations for the interim periods shown in this report are not
necessarily indicative of results to be expected for the full year. In the
opinion of management, the information contained herein reflects all adjustments
necessary to make the results of operations for the interim periods a fair
statement of such operation. All such adjustments are of a normal recurring
nature.
In June 2002, the Company changed its fiscal year end from December 31 to June
30.
NOTE B -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
1. MANAGEMENT ESTIMATES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
2. ALLOWANCE FOR LOAN LOSSES
The Company maintains an allowance for loan losses on its investment in mortgage
loans for estimated and expected credit impairment. The Manager's estimate of
expected losses is based on a number of factors including the types and dollar
7
amounts of loans in the portfolio, adverse situations that may effect the
borrower's ability to repay, prevailing economic conditions and the underlying
collateral securing the loan. Additions to the allowance are provided through a
charge to earnings and are based on an assessment of certain factors including,
but not limited to, estimated losses on the loans. Actual losses on loans are
recorded as a charge-off or a reduction to the loan loss allowance. Subsequent
recoveries of amounts previously charged off are added back to the allowance.
3. REAL ESTATE HELD FOR SALE
Real estate held for sale includes real estate acquired through foreclosure and
is carried at the lower of the recorded amount, inclusive of any senior
indebtedness, or the property's estimated fair value, less estimated costs to
sell.
4. INVESTMENTS IN MORTGAGE LOANS
Investments in mortgage loans are secured by trust deeds and mortgages.
Generally, all of the Company's mortgage loans require interest only payments
with a balloon payment of the principal at maturity. The Company has both the
intent and ability to hold mortgage loans until maturity and therefore, mortgage
loans are classified and accounted for as held for investment and are carried at
cost.
NOTE C -- INVESTMENTS IN MORTGAGE LOANS
Investments in mortgage loans are as follows:
September 30, 2002
NUMBER
LOAN OF AVERAGE PORTFOLIO LOAN
TYPE LOANS BALANCE INTEREST RATE PERCENTAGE TO VALUE*
---- ------ ------------- ------------- ---------- ---------
Acquisition and development.......... 18 $ 73,246,077 13.06% 27.35% 59.17%
Bridge............................... 4 12,812,972 13.50% 4.79% 63.33%
Commercial........................... 17 80,368,641 12.24% 30.02% 59.66%
Construction......................... 21 79,323,598 13.90% 29.63% 58.70%
Land................................. 9 18,967,591 13.06% 7.08% 46.67%
Residential.......................... 5 3,014,886 14.00% 1.13% 65.80%
------ ------------- ------ ------ ------
74 $ 267,733,765 13.30% 100.00% 58.89%
====== ============= ====== ====== ======
June 30, 2002
NUMBER
LOAN OF AVERAGE PORTFOLIO LOAN
TYPE LOANS BALANCE INTEREST RATE PERCENTAGE TO VALUE*
---- ------ ------------- ------------- ---------- ---------
Acquisition and development.......... 7 $ 50,177,032 13.86% 22.54% 59.23%
Bridge............................... 3 7,764,367 14.00% 3.49% 67.43%
Commercial........................... 18 78,759,650 12.59% 35.39% 60.78%
Construction......................... 19 59,008,277 14.27% 26.51% 58.36%
Land................................. 12 22,180,376 12.71% 9.97% 44.31%
Residential.......................... 7 4,668,624 13.08% 2.10% 64.14%
------ ------------ ------ ------- ------
66 $222,558,326 13.42% 100.00% 59.04%
====== ============ ====== ======= ======
* Loan to value ratios are based on appraisals obtained at the time of loan
origination and may not reflect subsequent changes in value estimates. Such
appraisals are generally dated no greater than 12 months prior to the date of
loan origination. Appraisals are also based on either an "as is basis" or "as
completed basis". These appraised values do not reflect immediate sales values
which may be substantially different.
8
SEPTEMBER 30, 2002 PORTFOLIO JUNE 30, 2002 PORTFOLIO
TYPE BALANCE PERCENTAGE BALANCE PERCENTAGE
---- ------- ---------- ------- ----------
First mortgages............. $267,699,260 99.9% $222,513,820 99.98%
Second mortgages............ 34,505 0.1% 44,506 0.02%
------------ ------- ------------ -------
$267,733,765 100.00% $222,558,326 100.00%
============ ======= ============ =======
The following is a schedule of maturities of investments in mortgage loans as of
September 30, 2002:
2002............................. $ 69,977,496
2003............................. 191,490,333
2004............................. 5,260,612
2005............................. 1,005,324
2006............................. --
------------
$267,733,765
============
The following is a schedule by geographic location of investments in mortgage
loans as of:
SEPTEMBER 30, 2002 PORTFOLIO JUNE 30, 2002 PORTFOLIO
TYPE BALANCE PERCENTAGE BALANCE PERCENTAGE
---- ------- ---------- ------- ----------
Arizona..................... $ 35,958,706 13.41% $ 37,528,258 16.86%
California.................. 42,242,786 15.78% 43,242,770 19.43%
Hawaii...................... 11,077,275 4.14% 15,681,746 7.05%
Idaho....................... 3,441,759 1.29% 2,855,202 1.28%
New Mexico.................. 42,495 0.02% 42,495 0.02%
Nevada...................... 85,104,775 31.79% 64,641,428 29.04%
Missouri.................... 5,930,650 2.22% 5,430,000 2.44%
Texas....................... 83,935,319 31.35% 53,136,427 23.88%
------------ ------- ------------ -------
$267,733,765 100.00% $222,558,326 100.00%
============ ======= ============ =======
The Company has six mortgage loan products consisting of bridge, commercial,
construction, acquisition and development, land, and residential loans. The
effective interest rates on all product categories range from 8% to 17%. Revenue
by product will fluctuate based upon relative balances during the period.
At September 30, 2002, four of the Company's loans totaling $6,513,451 were
non-performing (more than 90 days past due on interest payments) and past due on
principal. The Company has commenced foreclosure proceedings on these loans. The
Company's Manager evaluated all of these loans and concluded that the underlying
collateral was sufficient to protect the Company against a loss of principal or
interest. Accordingly, no specific allowance for loan losses was deemed
necessary for these loans.
In addition to the above-mentioned loans, as of September 30, 2002, the
Company's Manager had granted extensions on 12 loans pursuant to the terms of
the original loan agreements which permit extensions by mutual consent. Such
extensions are generally provided on loans where the original term was 12 months
or less and where a borrower requires additional time to complete a construction
project or negotiate take out financing. The aggregate amount due to the Company
from borrowers whose loans had been extended as of September 30, 2002 was
approximately $37.7 million. The Company's Manager concluded that no allowance
was necessary with respect to these loans.
The Company's Manager has evaluated the collectibility of the loans in light of
the types and dollar amounts of loans in the portfolio, adverse situations that
may affect the borrower's ability to repay, prevailing economic conditions and
the underlying collateral securing the loan. The Company's Manager believes that
the allowance for loan losses totaling $750,000 included in the accompanying
balance sheet as of September 30, 2002 is adequate to address estimated and
expected credit losees which are considered inherent in the Company's investment
in mortgage loans as of that date.
Decisions regarding an allowance for loan losses require judgment about the
probability of future events. As a result, there is an inherent risk that such
judgment will prove incorrect. In such event, actual losses may exceed (or be
less than) the amount of any allowance. To the extent that the Company
experiences losses greater than the amount of its allowance, the Company may
incur a charge to its earnings that will adversely affect its operating results
and the amount of any distributions payable to its members.
9
NOTE D -- RELATED PARTY TRANSACTIONS
As of September 30, 2002, amounts due to the Company's Manager totaling $984,730
is primarily comprised of amounts related to management fees and distributions
payable on units owned by the Company's Manager. For the three months ended
September 30, 2002, the Company recorded management fees to the Company's
Manager of approximately $162,000 and none for the three months ended September
30, 2001. For the same period, the Company also recorded distributions owed to
the Company's Manager of $33,302 based upon a total of 110,000 units owned by
the Company's Manager.
During the three months ended September 30, 2002, the Company purchased
$1,150,000 in investments in mortgage loans from Vestin Fund I, LLC and
$17,030,995 from other related parties. For the same period, the Company also
sold $18,850,000 to other related parties.
NOTE E -- SECURED BORROWINGS
Certain loans outstanding as of September 30, 2002 have been participated to a
third party investor (the "Investor") under an intercreditor agreement. Pursuant
to the intercreditor agreement, the Investor may participate in certain loans
with Vestin Mortgage, Fund I, and the Company (collectively, "the Lead
Lenders"). In the event of borrower non-performance, the intercreditor agreement
gives the Lead Lenders the right to either (i) continue to remit to the investor
the interest due on the participation amount; (ii) substitute an alternative
loan acceptable to the investor; or (iii) repurchase the participation from the
investor for the outstanding balance of the participation plus accrued interest.
Consequently, mortgage loan financing under the participation arrangement is
accounted for as a secured borrowing in accordance with SFAS No. 140, Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities ("FAS 140").
As of September 30, 2002, the Company recorded $25.4 million in secured
borrowings pursuant to the intercreditor agreement with the related amounts
included in receivables under secured borrowings. For the three month period
ended September 30, 2002, the Company recorded interest expense of $573 thousand
related to the secured borrowings.
At September 30, 2002, principal and interest payments were current on all loans
included in the participation pool. However, in October 2002, the Company
entered into foreclosure proceedings on two loans in the participation pool. The
Company has continued to remit to the investor the interest due on the
participated amounts. The Company does not believe a reserve is necessary for
these loans, based on their estimate of the value of the underlying collateral.
NOTE F -- SUBSEQUENT EVENT
In November, 2002, the Company foreclosed on a property in Mesquite, Nevada. The
Company's carrying value in this property is $3,395,442. The Company has also
commenced legal action against the loan guarantors. The Company does not expect
to incur any losses related to this property.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
BACKGROUND
Vestin Fund II, LLC (the "Company") was organized in December 2000 as a Nevada
limited liability company for the purpose of investing in mortgage loans. The
Company invests in loans secured by real estate through deeds of trust and
mortgages. Prior to June 15, 2001, the Company was a development stage company.
The Company's manager is Vestin Mortgage, Inc., a licensed mortgage company in
the State of Nevada (the "Manager" or "Managing Member"). Vestin Mortgage is a
wholly-owned subsidiary of Vestin Group, Inc., a Delaware corporation, whose
common stock is traded on the Nasdaq National Market under the ticker symbol
"VSTN." Vestin Mortgage, Inc. is also the manager of Vestin Fund I, LLC which is
a similar fund to Vestin Fund II, LLC.
The following is a financial review and analysis of the Company's financial
condition and results of operations for the three month period ended September
30, 2002. Prior to June 15, 2001, the Company was a development stage company
with no operational activities. This discussion should be read in conjunction
with the Company's financial statements and accompanying notes and other
detailed information regarding the Company appearing elsewhere in this Form 10-Q
and the Company's report on Form 10-K for the transition period ended June 30,
2002.
In June 2002, the Company changed its fiscal year end from December 31 to June
30.
FORWARD LOOKING STATEMENTS
When used in this Quarterly Report on Form 10-Q the words or phrases "will
likely result," "are expected to," "will continue," "is anticipated," or similar
expressions are intended to identify "forward looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. Such statements
are subject to certain risks and uncertainties, including but not limited to
changes in interest rates, and fluctuations in operating results. Such factors
which are discussed in Management's Discussion and Analysis of Financial
Condition and Results of Operations, could affect the Company's financial
performance and could cause the Company's actual results for future periods to
differ materially from any opinion or statements expressed herein with respect
to future periods. As a result, 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.
OVERVIEW
On June 13, 2001, the Company's Registration Statement as filed with the
Securities and Exchange Commission became effective for the initial public
offering of up to 50,000,000 units at $10 per unit. The Company commenced
10
operations on June 15, 2001. The Company commenced raising funds through the
sale of its units in June 2001; this offering will continue until the earlier of
such time that the Company has raised $500 million or June 2003. The Company
only had a limited amount of funds available for the three month period ended
September 30, 2001. Accordingly, it is not meaningful to compare results of
operations for the three months ended September 30, 2002 with the comparable
period in 2001. As of September 30, 2002, the Company had sold approximately
26,456,560 units of the total 50,000,000 units offered. Additionally, the
Company issued approximately 110,000 units to its Manager for offering costs
paid by them to unrelated third parties on the Company's behalf.
SUMMARY OF FINANCIAL RESULTS
THREE MONTHS ENDED
SEPTEMBER 30,
--------------------------
2002 2001
----------- ------------
Total revenues.................................... $ 8,853,369 $ 1,094,999
Total expenses.................................... 1,014,717 60
----------- ------------
Net income........................................ $ 7,838,652 $ 1,094,939
=========== ============
Earnings per unit:
Net income allocated to members per weighted
average membership units........................ $ 0.29 $ 0.31
=========== ============
Annualized net interest yield to members (a)...... 11.5% 12.4%
=========== ============
Weighted average membership units................. 27,196,217 3,535,728
=========== ============
- ----------
(a) The annualized net interest yield to unit holders is calculated based upon
the net income allocated to unit holders per weighted average units as of
September 30, 2002 and 2001 divided by the number of months during the
period and multiplied by twelve (12) months, then divided by ten (the $10
cost per unit).
Net income for the three months ended September 30, 2002 and 2001 was derived
primarily from interest income on mortgage loans approximating $8.7 million and
$1.1 million, respectively.
Our operating results are affected primarily by (i) the amount of capital we
have to invest in mortgage loans, (ii) the level of real estate lending activity
in the markets we service, (iii) our ability to identify and work with suitable
borrowers, (iv) the interest rates we are able to charge on our loans and (v)
the level of foreclosures and related loan losses which we experience. During
the three month period ended September 30, 2002, we had substantially more funds
to invest as compared to the prior year's period. Such funds were derived from
the continuing sale of our Units. We expect to continue to raise funds through
the sale of our Units and accordingly the size of our investment portfolio
should continue to increase. We do not currently have in place any other source
of funding although we are considering possible arrangements such as
securitizations and other structured finance programs to increase the funds we
will have available for investment in mortgage loans.
Although the US economy has suffered from a mild recession over the past year
and a half, we have not experienced a material slowdown in commercial real
estate lending in the markets we service. As a result, we have generally been
able to keep our funds invested in mortgage loans and we have not encountered
any material reduction in demand for our loan products. However, if the
recession deepens or is prolonged, we would face a number of potential risks. A
prolonged recession may dampen real estate development activity, thereby
diminishing the market for our loans. In addition, the continuing decline in
interest rates, which is largely attributable to the weak economy, may be
expected to diminish the interest rates we can charge on our loans. Moreover, a
prolonged recession or poor credit decisions by our Manager may increase the
default rate on our loans. During the three month period ended September 30,
2002, we recorded an allowance for loan losses of $250,000; our total reserve
for loans losses as of September 30, 2002 is $750,000. The establishment of such
reserves, and the general decline in interest rates, contributed to the decline
in our annualized net interest yield to members from 12.4% at September 30, 2001
to 11.5% at September 30, 2002.
Our expenses are generally limited to the management fee which we pay to our
Manager. That fee is fixed at 0.25% of our aggregate capital contributions.
11
INVESTMENTS IN MORTGAGE LOANS SECURED BY REAL ESTATE PORTFOLIO
As of September 30, 2002, the Company invested in mortgage loans secured by real
estate approximating $267,733,765. Such loans consisted of seventy-four (74)
loans of which sixty-seven (67) loans with an aggregate principal value of
$267,699,260 are secured through first deeds of trust and seven (7) loans with
an aggregate value of $34,505 are secured through a second deeds of trust.
As of September 30, 2002, the weighted average interest yield on the Company's
investment in mortgage loans is 13.3%. These mortgage loans mature over the next
36 months.
Losses may be expected to occur when investing in mortgage loans. The amount of
losses will vary as the loan portfolio is affected by changing economic
conditions and the financial position of borrowers. There is no precise method
of predicting potential losses.
The conclusion that a mortgage loan is uncollectible or that collectibility is
doubtful is a matter of judgment. The Manager, in connection with the quarterly
closing of the Company's accounting records and the preparation of its financial
statements, evaluates the Company's mortgage loan portfolio to determine if any
outstanding loans are uncollectible or impaired and, in such event, whether a
loss is probable. The fact that a loan is past due does not necessarily mean
that the loan is uncollectible or impaired. Rather, all relevant circumstances
are considered by the Manager to determine the probability of loan losses. Such
evaluation, which includes a review of all loans on which full collectibility
may not be reasonably assured, considers among other matters:
* prevailing economic conditions;
* historical experience;
* the nature and volume of the loan portfolio;
* the borrowers' financial condition and adverse situations that may affect
the borrowers' ability to pay;
* evaluation of industry trends;
* review and evaluation of loans identified as having loss potential; and
* estimated net realizable value of any underlying collateral.
Based upon this evaluation the Company's Manager believes that the allowance for
loan losses totaling $750,000 included in the accompanying balance sheet as of
September 30, 2002 is adequate to address estimated and expected credit
impairment.
Decisions regarding an allowance for loan losses require judgment about the
probability of future events. As a result, there is an inherent risk that such
judgment will prove incorrect. In such event, actual losses may exceed (or be
less than) the amount of any allowance. To the extent that the Company
experiences losses greater than the amount of its allowance, the Company may
incur a charge to its earnings that will adversely affect its operating results
and the amount of any distributions payable to its members.
CRITICAL ACCOUNTING POLICIES
REVENUE RECOGNITION
Interest income on loans is accrued by the effective interest method. The
Company does not recognize interest income from loans once they are determined
to be impaired. A loan is impaired when, based on current information and
events, it is probable that the Company will be unable to collect all amounts
due according to the contractual terms of the loan agreement or when the payment
of interest is 90 days past due.
REAL ESTATE HELD FOR SALE
Real estate held for sale includes real estate acquired through foreclosure and
is carried at the lower of the recorded amount, inclusive of any senior
indebtedness, or the property's estimated fair value, less estimated costs to
sell.
12
INVESTMENTS IN MORTGAGE LOANS
Investments in mortgage loans are secured by trust deeds and mortgages.
Generally, all of the Company's mortgage loans require interest only payments
with a balloon payment of the principal at maturity. The Company has both the
intent and ability to hold mortgage loans until maturity and therefore, mortgage
loans are classified and accounted for as held for investment and are carried at
cost. Loan to value ratios are based on appraisals obtained at the time of loan
origination and may not reflect subsequent changes in value estimates. Such
appraisals are generally dated no greater than 12 months prior to the date of
loan origination. Appraisals are also based on either an "as is basis" or "as
completed basis". These appraised values do not reflect immediate sales values
which may be substantially different.
ALLOWANCE FOR LOAN LOSSES
When deemed necessary, the Company will provide an allowance for possible credit
losses on mortgage loans. Additions to the allowance are based on an assessment
of certain factors including, but not limited to, estimated future losses on the
loans and general economic conditions. Additions to the allowance are provided
through a charge to earnings. Actual losses on loans are recorded as a
charge-off or a reduction to the allowance. Subsequent recoveries of amounts
previously charged-off are added back to the allowance.
CAPITAL AND LIQUIDITY
Liquidity is a measure of a company's ability to meet potential cash
requirements, including ongoing commitments to fund lending activities and for
general operational purposes. The Company believes that interest earned from
both investment loans and cash held at bank institutions in the next twelve
months will be sufficient to meet the Company's capital requirements. The
Company does not anticipate the need for hiring any employees, acquiring fixed
assets such as office equipment or furniture, or incurring material office
expenses during the next twelve months because the Manager will continue to
manage the Company's affairs. The Company may pay the Manager an annual
management fee of up to 0.25% of the Company's aggregate capital contributions.
Pursuant to the Company's Operating Agreement the maximum amount of management
fees the Manager was entitled to receive during the three months ended September
30, 2002 was approximately $162,000.
During the three months ended September 30, 2002, cash flows provided by
operating activities approximated $7.6 million. Investing activities consisted
of net investments in mortgage loans of $45.2 million (net of loan sales and
payoffs on investments in mortgage loans), and investment in certificates of
deposit of $1.6 million. Financing activities consisted of capital raised
through the sale of units in the amount of $47.4 million, members' withdrawals
in the amount of $0.4 million and distributions of $5.5 million (net of
reinvestments).
As the offering of our units is continuing, we currently rely upon the sale of
units, loan repayments and dividend reinvestments to provide the cash necessary
to carry on our business. Our ability to attract investors to purchase our units
depends upon a number of factors, some of which are beyond our control. The key
factors in this regard include general economic conditions, the conditions of
the commercial real estate markets, the availability and attractiveness of
alternative investment opportunities, our operating performance and the track
record and reputation of our Manager. We believe our ability to attract
investors has been enhanced by the high historical yields generated by our
mortgage investments and by comparable yields earned by Vestin Fund I which is
also managed by our Manager. These yields may continue to be viewed as
attractive to the extent that equity markets are viewed as risky or volatile and
to the extent that most fixed income investments provide a lower yield.
Notwithstanding our high historical yields, our ability to raise additional
funds may be impaired by our limited operating history and by the fact that the
mortgage loans in which we invest are not federally insured as are certain bank
deposits, and are generally illiquid as compared to government or corporate
bonds. Thus, our ability to generate high yields is critical to offsetting these
disadvantages. Our ability to raise additional funds would likely suffer if the
performance of our loan portfolio declines or if alternative investment vehicles
offering comparable yields and greater safety and/or liquidity become available.
As of September 30, 2002, members holding approximately 34% of our outstanding
units have elected to reinvest their dividends. The level of dividend
reinvestment will be depend upon our performance as well as the number of our
members who prefer to reinvest rather than receive current distributions of
their income.
Any significant level of defaults on our outstanding loans could reduce the
funds we have available for investment in new loans. Resulting foreclosure
proceedings may not generate full repayment of our loans and may result in
significant delays in the return of invested funds. This would diminish our
capital resources and would impair our ability to invest in new loans. In
addition, any significant level of withdrawals by our members would reduce the
capital we have available for investment. Such withdrawals are limited by the
terms of our Operating Agreement to not more than 10% per year and are subject
to other conditions. To date, our capital resources have not been materially
13
impaired by loan defaults or withdrawals by Members and we believe our current
capital resources are sufficient to continue to grow our investment portfolio.
At September 30, 2002, the Company had $4.5 million in cash, $8.0 million in
certificates of deposit, and $308 million in total assets. On the same date, the
Company had a liability due to the Managing Member of approximately $1.0
million. Accordingly, it appears the Company has sufficient working capital to
meet its operating needs in the near term.
As of September 30, 2002, the Company recorded liabilities totaling $25.4
million as secured borrowings related to an intercreditor agreement. Certain
loans outstanding as of September 30, 2002 have been participated to third party
investor (the "Investor") under the intercreditor agreement. Pursuant to the
intercreditor agreement, the Investor may participate in certain loans with
Vestin Mortgage, Fund I, and the Company (collectively, "the Lead Lenders"). In
the event of borrower non-performance, the intercreditor agreement gives the
Lead Lenders the right to either (i) continue to remit to the investor the
interest due on the participation amount; (ii) substitute an alternative loan
acceptable to the investor; or (iii) repurchase the participation from the
investor for the outstanding balance of the participation plus accrued interest.
Consequently, mortgage loan financing under the participation arrangement is
accounted for as a secured borrowing in accordance with SFAS No. 140, Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities ("FAS 140").
The Company maintains working capital reserves of approximately 3% of aggregate
members' capital accounts in cash and cash equivalents, and certificates of
deposit. This reserve is available to pay expenses in excess of revenues,
satisfy obligations of underlying security properties, expend money to satisfy
unforeseen obligations and for other permitted uses of the working capital.
Working capital reserves of up to 3% are included in the funds committed to loan
investments in determining what proportion of the offering proceeds and
reinvested distributions have been invested in mortgage loans.
FACTORS AFFECTING THE COMPANY'S OPERATING RESULTS
The Company's business is subject to numerous factors affecting its operating
results. In addition to the factors discussed above, the Company's operating
results may be affected by:
RISKS OF INVESTING IN MORTGAGE LOANS
* The Company's underwriting standards and procedures are more lenient
than conventional lenders in that the Company will invest in loans to
borrowers who will not be required to meet the credit standards of
conventional mortgage lenders.
* The Company approves mortgage loans more quickly then other mortgage
lenders. Due to the nature of loan approvals, there is a risk that the
credit inquiry the Company's Manager performs will not reveal all
material facts pertaining to the borrower and the security.
* Appraisals may be performed on an "as completed" basis. Therefore
there is a risk that the borrower will not complete development of the
project which may affect the expected value of the property and the
loan to value ratio.
* The Company's results of operations will vary with changes in interest
rates and with the performance of the relevant real estate markets.
* If the economy is healthy, the Company expects that more people will
be borrowing money to acquire, develop or renovate real property.
However, if the economy grows too fast, interest rates may increase
too much and the cost of borrowing may become too expensive. This
could result in a slowdown in real estate lending which may mean the
Company will have fewer loans to acquire, thus reducing the Company's
revenues and the distributions to members.
* If, at a time of relatively low interest rates, a borrower should
prepay obligations that have a higher interest rate from an earlier
period, investors will likely not be able to reinvest the funds in
mortgage loans earning that higher rate of interest. In the absence of
a prepayment fee, the investors will receive neither the anticipated
revenue stream at the higher rate nor any compensation for their loss.
This in turn could harm the Company's reputation and make it more
difficult for the Company to attract investors willing to acquire
interest in mortgage loans.
RISK OF DEFAULTS
The Company's performance will be directly impacted by any defaults on the loans
in its portfolio. As noted above, the Company may experience a higher rate of
defaults than conventional mortgage lenders. The Company seeks to mitigate the
risk by estimating the value of the underlying collateral and insisting on low
14
loan to value ratios. However, no assurance can be given that these efforts will
fully protect the Company against losses on defaulted loans. Moreover, during
the period of time when a defaulted loan is the subject of foreclosure
proceedings, it is likely that the Company will earn less (if any) income from
such loans, thereby reducing the Company's earnings.
COMPETITION FOR BORROWERS
The Company considers its competitors for borrowers to be the providers of
non-conventional mortgage loans, that is, lenders who offer short-term,
equity-based loans on an expedited basis for higher fees and rates than those
charged by conventional lenders and mortgage loans investors, such as commercial
banks, thrifts, conduit lenders, insurance companies, mortgage brokers, pension
funds and other financial institutions that offer conventional mortgage loans.
Many of the companies against which the Company competes have substantially
greater financial, technical and other resources than the Company does.
Competition in the Company's market niche depends upon a number of factors
including price and interest rates of the loan, speed of loan processing, cost
of capital, reliability, quality of service and support services.
EFFECT OF FLUCTUATIONS IN THE ECONOMY
The Company's sole business, making loans secured by real estate, is
particularly vulnerable to changes in macroeconomic conditions. Any significant
decline in economic activity, particularly in the geographical markets in which
the Company concentrates its loans, could result in a decline in the demand for
real estate development loans. In order to stay fully invested during a period
of declining demand for real estate loans, the Company may be required to make
loans on terms less favorable to the Company or to make loans involving greater
risk to the Company. Declines in economic activity are often accompanied by a
decline in prevailing interest rates. Although the Company's lending rates are
not directly tied to the Federal Reserve Board's discount rate, a sustained and
widespread decline in interest rates will impact the interest the Company is
able to earn on its loans. Since the Company's loans generally do not have
prepayment penalties, declining interest rates may also cause the Company's
borrowers to prepay their loans and the Company may not be able to reinvest the
amounts prepaid in loans generating a comparable yield. Moreover, any
significant decline in economic activity could adversely impact the ability of
the Company's borrowers to complete their projects and obtain take out
financing. This in turn could increase the level of defaults the Company may
experience.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risk, primarily from changes in interest rates.
The Company does not have any assets or liabilities denominated in foreign
currencies nor does it own any options, futures or other derivative instruments.
The Company does not have any debt.
Most of the Company's assets consist of investments in mortgage loans. At
September 30, 2002, the Company's aggregate investment in mortgage loans was
approximately $267,733,765 with a weighted average yield of 13.3%. These
mortgage loans mature over the next 36 months. All of the outstanding mortgage
loans at September 30, 2002 are fixed rate loans. All of the mortgage loans are
held for investment purposes; none are held for sale but substantial sales have
occurred. None of the mortgage loans have prepayment penalties.
For the months ended September 30, 2002, the Company re-invested an additional
$1.6 million in certificates of deposit and other short-term deposit accounts
for a total of $8.0 million. The Company anticipates that approximately 3% of
its assets will be held in such accounts as a cash reserve; additional deposits
in such accounts will be made as funds are received by the Company from new
investors and repayment of loans pending the deployment of such funds in new
mortgage loans. The Company believes that these financial assets do not give
rise to significant interest rate risk due to their short-term nature.
ITEM 4. CONTROLS AND PROCEDURES.
The Company has evaluated the effectiveness of the design and operation of its
disclosure controls and procedures as of a date within 90 days prior to the
filing of this quarterly report on Form 10-Q (the "Evaluation Date"). Such
evaluation was conducted under the supervision and with the participation of the
Chief Executive Officer ("CEO") and the Chief Financial Officer ("CFO") of
Vestin Mortgage, Inc., the Company's Manager, who function as the equivalent of
the CEO and CFO of the Company. Based upon such evaluation, the Company's CEO
and CFO have concluded that, as of the Evaluation Date, the Company's disclosure
controls and procedures were effective. There have been no significant changes
in the Company's internal controls or other factors that could significantly
affect these controls subsequent to the date of their most recent evaluation.
15
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Not Applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders, through the solicitation
of proxies or otherwise, during the first quarter 2002.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
2.1 Articles of Organization*
10.1 Operating Agreement**
99.1 Certification Pursuant to U.S.C. 18 Section 1350
- ----------
* Previously filed as an exhibit to the Registration Statement on Form S-11
(File No. 333-32800) on March 17, 2000.
** Previously filed as an exhibit to the Amendment No. 4 to the Registration
Statement on Form S-11/A (File No. 333-32800) on August 7, 2000.
(b) Reports on Form 8-K
Current Reports on Form 8-K filed with the Commission on April 25, 2002 and
April 29, 2002, which report the following items:
(i) Item 4 -- Changes in Registrant's Certifying Accountant; and
(ii) Item 7 -- Exhibits.
Current Report on Form 8-K filed with the Commission on June 24, 2002, which
reports the following item:
Item 8 -- Change in Fiscal Year.
16
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 thereunto duly authorized.
VESTIN FUND II, LLC
By: Vestin Mortgage, Inc.,
its sole manager
BY: /s/ LANCE K. BRADFORD
----------------------------------------
LANCE K. BRADFORD
DIRECTOR, SECRETARY AND TREASURER
(CHIEF ACCOUNTING OFFICER OF THE MANAGER
AND DULY AUTHORIZED OFFICER)
Dated: November 14, 2002
17
CERTIFICATIONS
I, Steven J. Byrne, as the Chief Executive Officer of Vestin Mortgage, Inc., the
sole manager of Fund II, LLC, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Vestin Fund II, LLC
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 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 functions):
(a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
(b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 14, 2002
/s/ Steven J. Byrne
- ---------------------------
Steven J. Byrne
Chief Executive Officer
Vestin Mortgage, Inc,
Sole Manager of Vestin Fund II, LLC
* Steven J. Byrne functions as the equivalent of the Chief Executive Officer
of the Registrant.
I, Lance K. Bradford, as the Chief Financial Officer of Vestin Mortgage, Inc.,
the sole manager of Vestin Fund II, LLC, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Vestin Fund II, LLC;
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 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 functions):
(a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
(b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 14, 2002
/s/ Lance K. Bradford
- ---------------------------
Lance K. Bradford
Chief Financial Officer
Vestin Mortgage, Inc,
Sole Manager of Vestin Fund II, LLC
* Lance K. Bradford functions as the equivalent of the Chief Financial
Officer of the Registrant.