UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 0-30507
Primecore Mortgage Trust, Inc.
(Exact name of registrant as specified in its charter)
Maryland 94-3324992
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
99 El Camino Real
Menlo Park, CA 94025
(Address of principal offices) (zip code)
(650) 328-3060
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and
(2) has been subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated
filer (as defined in Rule 12b-2 of the Act).
Yes [ ] No [X]
The number of shares of convertible preferred stock outstanding as of
March 31, 2003 was 22,487,371. The number of shares of common stock outstanding
as of March 31, 2003 was 100.
Table of Contents
Part I. Financial Information
Item 1. Financial Statements (unaudited)...................................2
Consolidated Balance Sheets as of March 31, 2003 (unaudited)
and December 31, 2002...........................................3
Consolidated Statements of Operations for the Three Months Ended
March 31, 2003 and 2002 (unaudited).............................4
Consolidated Statement of Shareholders' Equity for the Three
Months Ended March 31, 2003 (unaudited).........................5
Consolidated Statements of Cash Flows for the Three Months Ended
March 31, 2003 and 2002 (unaudited).............................6
Consolidated Notes to the Financial Statements (unaudited).........7
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations..........................................14
Item 3. Quantitative and Qualitative Disclosures about Market Risk........24
Item 4. Controls and Procedures...........................................25
Part II. Other Information
Item 1. Legal Proceedings.................................................25
Item 2. Changes in Securities and Use of Proceeds.........................25
Item 3. Defaults Upon Senior Securities...................................26
Item 4. Submission of Matters to a Vote of Security Holders...............26
Item 5. Other Information.................................................26
Item 6. Exhibits and Reports on Form 8-K..................................26
Signatures........................................................27
1
Part I. Financial Information
ITEM 1. FINANCIAL STATEMENTS
Attached are the following unaudited financial statements of Primecore
Mortgage Trust, Inc. (the "Company"):
(1) Balance Sheets as of March 31, 2003 (unaudited), and December 31, 2002
(2) Statements of Operations for the Three Months ended March 31, 2003 and
2002 (unaudited)
(3) Statement of Shareholders' Equity for the Three Months ended March 31,
2003 (unaudited)
(4) Statements of Cash Flows for the Three Months ended March 31, 2003 and
2002 (unaudited)
(5) Notes to Financial Statements (unaudited)
The financial statements referred to above should be read in
conjunction with the Company's audited financial statements for the year ended
December 31, 2002 as filed with the Securities and Exchange Commission in our
Annual Report on Form 10-K filed March 31, 2003.
2
PRIMECORE MORTGAGE TRUST, INC.
CONSOLIDATED BALANCE SHEETS
(unaudited)
March 31, 2003 December 31, 2002
--------------------- --------------------
ASSETS:
Investments in real estate under development............................ $ 97,286,445 $ 101,141,515
Investments in real estate held for sale................................ 40,154,110 44,510,168
Loans Receivable........................................................ 4,695,000 4,695,000
Cash and cash equivalents............................................... 70,883 4,394,107
Other assets, net....................................................... 289,635 326,245
--------------------- --------------------
Total assets.................................................... $ 142,496,073 $ 155,067,035
===================== ====================
LIABILITIES AND SHAREHOLDERS' EQUITY:
Unsecured notes payable (including $150,000 to affiliates at March 31,
2003 and December 31, 2002).......................................... $ 11,781,375 $ 14,276,929
Secured notes payable................................................... 7,693,000 7,693,000
Secured line of credit.................................................. 7,595,559 14,431,132
Accrued expenses and other.............................................. 779,900 256,059
Preferred stock dividends payable....................................... 1,311,764 1,312,417
Payable to manager...................................................... 400,979 669,480
--------------------- --------------------
Total liabilities............................................... 29,562,577 38,639,017
--------------------- --------------------
SHAREHOLDERS' EQUITY:
Preferred stock: par value $0.01, 40,000,000 shares authorized;
22,487,371 and 22,496,804 shares issued and outstanding at
March 31,2003, and December 31, 2002, respectively.................. 225,985,552 226,079,882
Common stock: par value $0.01, 10,000,000 shares authorized; 100
shares issued and outstanding at March 31, 2003, and December 31,
2002, respectively................................................... 1 1
Accumulated dividends and distributions................................. (84,062,609) (80,132,217)
Accumulated deficit..................................................... (28,989,448) (29,519,648)
--------------------- --------------------
Total shareholders' equity...................................... 112,933,496 116,428,018
--------------------- --------------------
Total liabilities and shareholders' equity...................... $ 142,496,073 $ 155,067,035
===================== ====================
The accompanying notes are an integral part of these statements
3
PRIMECORE MORTGAGE TRUST, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
Three Months Three Months
Ended Ended
March 31, 2003 March 31, 2003
----------------- ----------------
REVENUES:
Income from completed real estate development................................. $ 2,797,671 $ 1,055,530
Other ...................................................................... 16,157 --
----------------- -----------------
Total revenues........................................................... 2,813,828 1,055,530
----------------- -----------------
EXPENSES:
Management fees .............................................................. 1,127,933 2,658,152
Provision for impairment of investments in real estate........................ 763,059 145,782
General, administrative and other............................................. 392,636 105,505
----------------- -----------------
Total expenses........................................................... 2,283,628 2,909,439
----------------- -----------------
Net income (loss).......................................................... 530,200 (1,853,909)
Preferred stock dividends and distributions................................ (3,930,392) (5,733,818)
----------------- -----------------
Net loss allocable to common............................................... $ (3,400,192) $ (7,587,727)
================= =================
Basic and diluted net loss per common share................................... $ (34,002) $ (75,877)
================= =================
Basic and diluted weighted-average shares outstanding......................... 100 100
================= =================
The accompanying notes are an integral part of these statements
4
PRIMECORE MORTGAGE TRUST, INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
For the three months ended March 31, 2003
(unaudited)
Preferred Stock Common Stock
----------------------------- -----------------
Accumulated
Dividends and Accumulated
Shares Amount Shares Amount Distributions Deficit Total
------------- --------------- ------ ------ ----------------- ----------------- ----------------
Shareholders' equity at
December 31, 2002................ 22,496,804 $226,079,882 100 $ 1 $(80,132,217) $ (29,519,648) $ 116,428,018
Adjustment for dividend reinvestment.
(9,433) (94,330) -- -- -- -- (94,330)
Dividends and distributions to
preferred shareholders........... -- -- -- -- (3,930,392) -- (3,930,392)
Net income.......................... -- 530,200 530,200
-- -- -- --
------------------------------------------------------------------------------------------------
Shareholders' equity at
March 31, 2003................... 22,487,371 $225,985,552 100 $ 1 $(84,062,609) $(28,989,448) $ 112,933,496
================================================================================================
The accompanying notes are an integral part of these statements
5
PRIMECORE MORTGAGE TRUST, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Three Months Three Months
Ended Ended
March 31, 2003 March 31, 2003
----------------- ----------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)......................................................... $ 530,200 $ (1,853,909)
Adjustments to reconcile net income (loss) to net cash provided by
(used in) operations;
Provision for impairment of investments in real estate................. 763,059 145,782
Increase (decrease) in accrued expenses and other...................... 523,841 (1,037,399)
Decrease in payable to manager......................................... (268,501) (6,848)
Decrease in other assets, net.......................................... 36,610 190,305
----------------- ----------------
Net cash provided by (used in) operating activities............... 1,585,209 (2,562,069)
----------------- ----------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Investments in real estate under development and property held for
sale................................................................. (7,678,637) (5,113,399)
Investments in real estate under development by affiliates............. -- (3,515,954)
Repayments of investments in real estate under development and
property held for sale............................................... 15,151,522 10,041,389
Repayments of investments in real estate under development by
affiliates........................................................... -- 2,955,385
----------------- ----------------
Net cash provided by investing activities......................... 7,472,885 4,367,421
----------------- ----------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from sales of preferred stock, net of offering costs.......... -- 4,485,960
Capital contribution by Manager........................................ 0 600,000
Redemptions of preferred stock......................................... -- (2,285,290)
Adjustment for dividend reinvestment................................... (94,330) --
Issuance of unsecured notes payable.................................... 250,000 662,000
Repayment of unsecured notes payable................................... (2,770,370) (3,177,800)
Payments on secured line of credit, net................................ (6,835,573) (137,751)
Payment of preferred stock dividends................................... (3,931,045) (4,656,927)
----------------- ----------------
Net cash used in financing activities............................. (13,381,318) (4,509,808)
----------------- ----------------
Net increase (decrease) in cash and cash equivalents............ (4,323,224) (2,704,456)
Beginning cash and cash equivalents............................. 4,394,107 2,706,204
----------------- ----------------
Ending cash and cash equivalents................................ $ 70,883 $ 1,748
==================================
Cash paid for interest, net of amounts capitalized of $553,757 and $741,880,
for the three months ended March 31, 2003 and 2002,
respectively........................................................... $ -- $ --
==================================
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING
AND FINANCING ACTIVITIES:
Reinvested Preferred Stock dividends..................................... $ -- $ 1,059,140
Interest accrued on unsecured notes payable............................... $ 24,818 $ 151,661
The accompanying notes are an integral part of these statements
6
PRIMECORE MORTGAGE TRUST, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. ORGANIZATION AND BUSINESS:
Organization
Primecore Mortgage Trust, Inc., a Maryland corporation, was formed on March 18,
1999 and commenced operations effective May 1, 1999 as a real estate investment
trust (REIT). We are engaged in the business of funding and holding land
acquisition, development and construction mortgage loans secured by residential
real property, as well as secured by undeveloped real property, located in the
greater San Francisco Bay Area. Primecore Mortgage Trust, Inc. is also the sole
member of 99 Investors, LLC a California limited liability company. 99
Investors, LLC owns certain real property in which we have invested. We are
managed by Primecore Funding Group, Inc., (the "Manager") an affiliated
California corporation located in Menlo Park, California. Our manager, or
another affiliate, Primecore Properties, Inc., originates and services the
construction mortgage loans in which we invest for a monthly management fee.
Risk Factors
General Economic Conditions in Lending Areas. Properties securing repayment of
the mortgage loans are located in the San Francisco Bay Area, with the majority
in the counties of Santa Clara and San Mateo. Since the properties secured by
the mortgage loans are located in a limited geographical region, these mortgage
loans may be subject to a greater risk of delinquency or default if the
industries concentrated there suffer adverse economic or business developments.
Realization of Assets. The Company's liquidity and ability to meet its
obligations as they become due are subject to, among other things, its ability
to obtain timely repayments of its loans and sales of its investment in real
estate held for sale. In the event that repayments are not sufficient to timely
meet our commitments and credit facilities are not extended on terms favorable
to us, we will be forced to reduce prices on properties we control in order to
expedite their repayment. In such cases, the amount of proceeds received could
be substantially less than what we would have expected if we allowed a proper
marketing period for the property. This would have a negative impact on the
estimated net realizable value of our assets and would force the Company to
adopt an alternative strategy that may include actions such as seeking
additional capital or further downsizing of the Company. The financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
Other. In addition, we are subject to other significant business and financial
risks, including but not limited to liquidity, the prevailing market for
residential real estate, interest rates, dependence on our manager, timely
completion of projects, lack of borrower diversification, and potential
environmental matters relating to properties on which we have made loans. For
additional information see Risk Factors in our Annual Report on Form 10-K for
the year ending December 31, 2002 filed March 31, 2003..
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Basis of Presentation
The accompanying unaudited financial statements present the financial position
of the Company as of March 31, 2003, and December 31, 2002, and the results of
operations and cash flows of the Company for the three months ended March 31,
2003 and 2002. In the opinion of management, the accompanying unaudited
financial statements contain all adjustments (consisting of only normal
accruals) necessary to present fairly the financial position and results of
operations of the Company as of March 31, 2003 and for the period then ended.
Use of Estimates
These financial statements have been prepared in accordance with accounting
principles generally accepted in the United States of America. The preparation
of financial statements in conformity with accounting principles generally
7
PRIMECORE MORTGAGE TRUST, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (cont.)
(unaudited)
accepted in the United States of America 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. The Company's significant estimates include the valuation of
investments in real estate. Actual results could differ from those estimates.
Investments in Real Estate under Development
We have originated loans to Acquire, Develop and Construct (ADC) residential
real estate ("ADC loans"). Our loans contain many of the following
characteristics which are identified with ADC loans:
1. The lender has agreed to provide all or substantially all necessary funds
to acquire, develop or construct the property. The borrower has title to
but little or no cash equity in the project;
2. The lender funds substantially all the interest and fees during the term of
the loan by adding them to the loan balance; 3. Typically, the lender's
only security is the project itself,the lender has no recourse to other
assets of the borrower, and
the borrower does not guarantee the debt;
4. In order for the lender to recover its investment in the project, the
property must be sold to independent third parties or the borrower must
obtain refinancing from another source.
Therefore, our ADC loans are classified for financial reporting purposes as
investments in real estate under development or investments in real estate under
development by affiliates (Notes 3 and 4). Revenue from interest and points is
recognized as cash is received from the sale or refinancing of such properties.
If our ADC loans qualified as loans under US GAAP, interest and points would be
recognized in income as earned instead of at the time of sale of the underlying
property.
Such investments are stated at the lower of cost or fair value. Management
conducts a review for impairment on an investment-by-investment basis whenever
events or changes in circumstances indicate that the carrying amount of an
investment may not be recoverable. Impairment is recognized when estimated
expected future cash flows (undiscounted and without interest charges),
typically from the sale of a completed property, are less than the carrying
amount of the investment, which does not include accrued interest and points.
The estimation of expected future net cash flows is inherently uncertain and
relies to a considerable extent on assumptions regarding current and future
economic and market conditions. If, in future periods, there are changes in the
estimates or assumptions incorporated into the impairment review analysis, the
changes could result in an adjustment to the carrying amount of the investments.
To the extent impairment has occurred, the excess of the carrying amount of the
investment over its estimated fair value, less estimated selling costs, will be
charged to operations.
Investments in Real Estate Held for Sale
We may take title to property through foreclosure or by deed in lieu of
foreclosure when a borrower defaults on our ADC loan. Such arrangements are
accounted for in a manner similar to our investments in real estate under
development.
Cash and Cash Equivalents
Cash and cash equivalents include cash held in financial institutions and other
highly liquid short-term investments with original maturities of three months or
less. Restricted cash includes demand deposits held for the purpose of funding
interest reserves from our secured notes payable.
Income from Completed Real Estate Development
Our investment objective is to make ADC loans on projects we believe are likely
to ultimately sell for an amount sufficient to repay the principal plus accrued
interest and points on those ADC loans at the contracted interest rate. We do
not intend to own or develop property and do not participate in the profit
realized by the borrower, including affiliated borrowers, upon sale of the
property.
8
PRIMECORE MORTGAGE TRUST, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (cont.)
(unaudited)
We recognize income from our ADC loans and investments in real estate held for
sale as costs are recovered, generally upon the sale or refinancing of the
underlying completed real estate to or by a third party. No interest income or
points are recognized until the financed property is sold or refinanced. We
compute income as the difference between cash received from the sale or
refinancing of the property and the carrying value of the investments at the
date of repayment.
Income Taxes
To continue to qualify as a REIT, we must distribute at least 90 percent of our
taxable income each year. As a REIT, we generally will not be subject to
corporate-level federal income tax on net income we distribute to our
shareholders. As such, no provision for federal income taxes is included in our
financial statements. Such taxes are the responsibility of the individual
Preferred shareholders. If we fail to qualify as a REIT in any taxable year, we
will be subject to federal income taxes at regular corporate rates (including
any applicable alternative minimum tax) and may not be able to qualify as a REIT
for four subsequent taxable years. Even if we qualify for taxation as a REIT, we
may be subject to certain state and local taxes on our income and property and
to federal income and excise taxes on our undistributed taxable income.
Our taxable income differs from income measured in accordance with generally
accepted accounting principles in the United States of America due to timing
differences in the recognition of income from our ADC loans. For tax purposes,
interest and points are accrued as income according to the terms of our loan
contracts, but not recognized under generally accepted accounting principles in
the United States of America until the contract has been paid through sale or
refinancing of the secured property. We distribute Preferred Stock dividends
monthly at a level sufficient to satisfy specified return targets for our
investors. As a result, dividends paid may be in excess of taxable income.
Dividend distributions are subject to adjustment by our Board of Directors based
upon prevailing market and company specific conditions. Currently our monthly
dividend rate is $0.0583 per share. Payment of Preferred Stock dividends could
be adversely affected if we experience a slow down in the repayment of our ADC
loans.
Net Loss Per Share of Common Stock
Per share amounts for our common stock are computed using the weighted average
common shares outstanding during the period. Net loss used in the calculation is
increased by declared dividends owed to preferred shareholders. There are
currently no stock options or other dilutive common stock equivalents, and as a
result, the basic and diluted weighted average common shares outstanding for the
years ended March 31, 2003 and 2002, are the same and are 100 shares.
Consolidation Policy
The consolidated financial statements include the accounts of Primecore Mortgage
Trust and its wholly owned subsidiary, 99 Investors LLC. All intercompany
accounts and transactions have been eliminated in consolidation.
Reclassifications
Certain prior period amounts have been reclassified to conform to current year
presentation.
3. INVESTMENTS IN REAL ESTATE UNDER DEVELOPMENT:
We make ADC loans with maturity dates generally ranging from 12 to 18 months.
The term of an ADC loan may be extended, when management deems it appropriate to
do so. For financial reporting purposes, we account for our ADC loans as
investments in real estate under development. Investments in real estate under
development represent funds advanced in cash plus capitalized interest on
arrangements in effect at any particular time. Since real estate under
development generates no operating income, we do not accrue any income for
financial reporting purposes until the sale to a third party or refinancing of a
property by another lender. The income (interest and points) that we ultimately
realize is based upon the value of the financed property and terms of the ADC
9
PRIMECORE MORTGAGE TRUST, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (cont.)
(unaudited)
loan. During the three months ended March 31, 2003 fixed interest rates on ADC
loans outstanding ranged from 11 percent to 18 percent. In the case of ADC loans
on which the borrower defaulted under the terms of our lending contract, the
interest rate charged during the period of default was an additional 5 percent
over the note rate. In addition, we charged points on most ADC loans, which were
typically 4 percent of the borrowed amount.
The following table summarizes our portfolio of ADC loans at March 31, 2003:
Commitment Carrying
Location - County Maturity Dates Amount Amount
- --------------------------------------------------------------------------------
Alameda 12/02-04/03 $ 6,894,000 $ 2,514,642
Marin 08/01-11/03 42,140,000 20,481,484
Monterey 12/02-12/03 25,025,000 13,422,288
San Francisco 03/02-06/03 25,675,000 11,475,990
San Mateo 07/02-12/03 50,774,485 32,327,724
Santa Clara 05/02-06/03 23,300,000 15,639,194
Santa Cruz 06/01-06/01 6,750,000 1,425,123
----------------------------------------
$ 180,558,485 $ 97,286,445
========================================
During the three months ended March 31, 2003, we capitalized $446,059 of
interest costs to investments in real estate under development compared with
$550,513 during the three months ended March 31, 2002.
We will fund unfunded commitments on existing ADC loans from the repayment of
other ADC loans, borrowings on our line of credit (Note 7), issuance of
unsecured notes payable or issuance of additional preferred stock. As of March
31, 2003 our unfunded commitment was $19,398,387, exclusive of interest and
points compared with $23,835,015 at December 31, 2002. We believe we will have
adequate sources of capital to fund these commitments when and as they become
due.
As of March 31, 2003, we had loans with a carrying amount of $27,121,352, which
had not been paid by their stated maturity dates and which we do not intend to
extend compared with $10,293,731 at December 31, 2002. These ADC loans accrue
interest at the default rate, which is 500 basis points above the note rate. We
may choose not to extend these contracts for a variety of reasons.
Additionally, at March 31, 2003, we had recorded notices of default on loans
with a carrying amount of $30,190,735 compared with $18,886,100 at December 31,
2002. Recording a notice of default begins the process of foreclosure. All ADC
loans for which a notice of default has been recorded are charged interest at
the default rate which interest will be collected upon repayment of the ADC loan
assuming there are sufficient proceeds. Recording a Notice of Default is our
last resort and usually done only in cases where we believe that the builder
cannot or will not maximize the value of the property.
During the three months ended March 31, 2003, we charged $77,620, to operations
for ADC loans we believe are impaired compared with none during the three months
ended March 31, 2002.
4. INVESTMENT IN REAL ESTATE HELD FOR SALE:
As of March 31, 2003, we held title to 16 properties received through
foreclosure or by deed in lieu of foreclosure. The following table summarizes
investments in real estate held for sale at March 31, 2003:
10
PRIMECORE MORTGAGE TRUST, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (cont.)
(unaudited)
Carrying
County Number Amount
- ------------------------------------------------------- ------------------
1 $ 1,807,279
Alameda
Marin 2 4,994,888
San Francisco 1 1,567,632
San Mateo 3 13,031,585
Santa Clara 9 18,752,726
----------- ------------------
Total 16 $ 40,154,110
==================
We report these properties at the lower of their existing carrying amount or net
realizable value and they are in various stages of construction. The properties
will be sold in the manner which we believe maximizes their value to us. During
the three months ended March 31, 2003, we capitalized $112,954 of interest costs
to investments in real estate held for sale that were still under construction
compared with $85,929 during the three months ended March 31, 2002.
Additional funds will be required to complete certain investments in real estate
held for sale. We will fund these costs from the repayment of other loans,
borrowings on our line of credit (Note 8), issuance of unsecured notes payable
or issuance of additional preferred stock. As of March 31, 2003, our estimated
costs to complete these investments was $12,032,252 compared with $15,320,528 at
December 31, 2002.
During the three months ended March 31, 2003, we charged $685,439 to operations
for impairments on Investments in Real Estate Held For Sale compared with
$145,782 during the three months ended March 31, 2002.
5. LOAN SECURED BY REAL ESTATE:
We had a loan secured by real property that we received as payment for one of
our Investments in Real Estate by Affiliates. The loan bears fixed interest at
7%, with interest payments of $27,388 payable monthly and matures on August 1,
2003. The loan is secured by three parcels of real property and is subject to
certain collateral release provisions. As of March 31, 2003 payments were
current on the loan.
6. UNSECURED NOTES PAYABLE:
We had unsecured borrowings of $11,683,190 at March 31, 2003 compared with
$14,095,017 at December 31, 2002 on notes issued to accredited investors through
private placements. These notes have varying maturities of up to two years from
the date of issuance and bear interest at fixed rates between 6.50 and 10.50
percent with interest payable monthly in arrears. We may repay these notes,
without penalty, at our option before their stated maturity. As of March 31,
2003, we estimate that the carrying amounts of our notes payable approximate
their fair value based on current borrowing rates available to us.
Included in our unsecured notes payable is $150,000 owed to one of our directors
at March 31, 2003 and December 31, 2003. The note bears interest at 10%, was
issued for a two year term and matures on June 28, 2004.
Additionally, at March 31, 2003, we had $98,185 due on notes payable to
financial institutions to finance the cost of our insurance policies compared
with $181,912 at December 31, 2002. The notes bear interest at rates between
7.462% and 11.274% and require monthly payments totaling $25,430.
The following table summarizes the maturities of our notes payable at March 31,
2003:
Year Amount
-------------- -----------------
2003 $ 11,074,945
2004 706,430
-----------------
Total $ 11,781,375
=================
11
PRIMECORE MORTGAGE TRUST, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (cont.)
(unaudited)
7. SECURED NOTES PAYABLE:
At March 31, 2003 we owed $7,693,000 under notes payable to financial
institutions secured by real property we own. The notes require monthly payments
of interest only. All notes have a due on sale clause which provides that the
note will become due and payable upon transfer of title of the securing real
estate. The following table sets forth salient data:
Securing property Rate Due Date Note Amount
- ---------------------------------------
2 single family homes 6.00% 8/25/2003 $ 2,508,000
1 single family home 4.75% 5/1/2030 3,185,000
1 single family home 5.25% 1/1/2004 2,000,000
Total $ 7,693,000
==================
8. LINE OF CREDIT:
We have a $15,000,000 line of credit with a commercial bank. The amount borrowed
under the line of credit at March 31, 2003, was $7,595,559, compared with
$14,431,132 at December 31, 2002. The line of credit is collateralized by our
assets and guaranteed by our Manager and another affiliate, carries interest at
prime plus 1.50 percent (5.75 percent at March 31, 2003) and matures in May
2003. In order for us to request advances on our line of credit, the terms of
the line of credit require, among other provisions, that we maintain total
equity of no less than $150,000,000, a debt to equity ratio of less than 1.5 to
1.0 and quarterly taxable income from operations of at least $500,000. Since our
total equity at March 31, 2003 was less than $150 million, we will be unable to
request additional advances until we either obtain a waiver of the requirement
or increase our equity to at least $150 million.
Our line of credit matures May 15, 2003. We have been negotiating an extension
of this facility with our lender and are exploring other options. At the present
time, we have not received a funding commitment from our current lender or any
other lender. In the event we are not successful in our efforts, we will have to
repay this facility. Our present projections indicate we will not have the
liquidity necessary to fully repay this loan by the current due date. If we do
not pay the loan when due our lender will have various remedies that could
severely impact our cash flow and our ability to fund commitments, and which
will require that we take immediate steps to address our cash flow needs, which
may include halting all distributions to shareholders. We incurred loan fees and
other costs of $235,169 in connection with this loan, which are included in
other assets in the accompanying balance sheets and are being amortized on the
effective interest method over the life of the facility. Accumulated
amortization of loan fees amounted to $218,005 at March 31, 2003.
9. SHAREHOLDERS' EQUITY
We have authorized 50,000,000 shares of capital stock with a $0.01 par value;
40,000,000 shares are designated Class A Convertible Preferred (Preferred
Stock), and 10,000,000 shares are designated as common.
At March 31, 2003, there were 100 shares of common stock outstanding, all held
by William Whitlow, Susan Fox and Michael Rider, employees and officers of our
manager. Ms. Fox owns all of the stock of our manager.
The 22,487,371 and 22,496,804 shares of Preferred Stock outstanding as of March
31, 2003 and December 31, 2002, respectively, rank senior to our common stock as
to dividends and liquidation rights. The shares are convertible into, and have
12
PRIMECORE MORTGAGE TRUST, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (cont.)
(unaudited)
voting rights equal to, the same number of shares of our common stock. We will
not pay any dividends to the holders of the common stock so long as any
Preferred Stock is outstanding.
Preferred Stock dividends and distributions are paid monthly in arrears and were
$0.17 and $0.26 per share (based on weighted average preferred shares
outstanding of 22,487,371 and 21,843,214) for the three months ended March 31,
2003 and 2002.
Holders of our Preferred Stock do not have a right to redeem their shares. Our
Board of Directors has adopted a stock redemption policy for Preferred
shareholders who wish to sell their shares to us. The policy may be modified or
terminated at the Board's discretion at any time. Effective February 12, 2003,
the Board of Directors implemented a new redemption policy for shareholders who
wish to sell their shares to us. Under this policy we will repurchase shares, at
fair market value, as determined by our Board of Directors, utilizing 25% of
"free cash flow" for such purposes. "Free cash flow" means the total of all
proceeds from repayments of loans and all net proceeds from the sale of
real-estate-owned properties in the Company's portfolio during a Repurchase
Period, and then subtracting from such total amounts due during the same period
for (i) existing loan commitments, (ii) debt payments to third parties, (iii)
dividend or other distributions to shareholders, and (iv) operating expenses.
The periods between October 1 and March 31 of the following year, and April 1
and September 30 are each a "Repurchase Period" for the purposes of calculating
"free cash flow," except that the first Repurchase Period under the policy runs
from January 1, 2003 through March 31, 2003. Redemption of shares is always
subject to availability of funds for redemption purposes. All redemption
requests will be determined and acted upon in accordance with the best interests
of the Company. We will not sell or otherwise liquidate any portion of our
mortgage loan portfolio or other assets to fund a redemption request. If we are
unsuccessful in obtaining an extension of our current line of credit, which
becomes due on May 15, 2003, or if we cannot locate a replacement credit
facility by such date, we do not anticipate there will be any funds available
for redemptions for the first Repurchase Period.
We sell our stock through private placement and have closed five private
placements since our inception, issuing 26,161,438 shares at $10.00 per share.
We use the proceeds from issuance of our Preferred Stock primarily to fund
additional ADC loans and also for working capital purposes. As of March 31, 2003
we did not have an active private placement.
10. TRANSACTIONS WITH AFFILIATES:
Management Fees
As of October 17, 2002, we entered into an amended and restated management
agreement with our Manager, Primecore Funding Group, Inc. The agreement
generally provides that the fees our manager earns will be based on three
components: a base fee, determined monthly, of 3.125% per annum of the total
carrying amount of our investments in real estate, determined according to US
GAAP; a cash flow bonus, determined quarterly, payable only upon achieving
certain levels of loan repayments; and a rate of return bonus, determined
quarterly, which is payable only upon achieving certain income per share returns
for holders of Preferred Stock.
Payable to Manager
We owed $400,979 to our Manager at March 31, 2003 for fees earned in March 2003
compared with $669,480 payable December 31, 2002. The amounts payable to our
Manager are typically paid during the following month.
Real Estate Sales Commissions
We paid real estate sales commissions of $194,600 during the three months ended
March 31, 2003 to Primecore Properties, Inc., an affiliate, compared with none
during the three months ended March 31, 2002. The commissions were paid for
services provided by Primecore Properties under listing agreements to sell
property acquired by us through foreclosure or deed in lieu of foreclosure.
13
PRIMECORE MORTGAGE TRUST, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (cont.)
(unaudited)
11. COMMITMENTS AND CONTINGENCIES:
Litigation
We are involved in legal actions arising in the normal course of our business.
We are not presently subject to any material litigation nor, to our knowledge,
is any litigation threatened against us which collectively is expected to have a
material adverse effect on our cash flows, financial condition or results of
operations.
Construction Contracts
In connection with our development of investments in real estate held for sale,
we have entered into contracts with construction companies totaling $6,204,935
to complete these projects where necessary. We will make payments on these
contracts as construction progresses in much the same manner we do for our
investments in real estate and investments in real under development by
affiliates.
General Uninsured Losses
We require that our borrowers carry comprehensive liability, fire, flood,
extended coverage, and rental loss insurance with policy specifications, limits,
and deductibles customarily carried for similar properties. We also carry
insurance to cover losses in case a borrower's policy lapses. There are,
however, certain types of extraordinary losses that may be either uninsurable or
not economically insurable. Further, all of our investments are located in areas
that are subject to earthquake activity. Should an investment sustain damage as
a result of an earthquake, we may incur losses due to insurance deductibles,
co-payments on insured losses, or uninsured losses. Should an uninsured loss
occur, we could lose our investment in, and anticipated profits and cash flows
from an investment.
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
General
Our material financial transactions have been purchasing and holding a portfolio
of construction mortgage loans. Statements contained in this Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," and elsewhere in this Form 10-Q, which are not historical facts,
may be forward-looking statements. Such statements are subject to risks and
uncertainties that could cause actual results to differ materially from those
projected. Investors are cautioned not to attribute undue certainty to these
forward-looking statements, which speak only as of the date of this Form 10-Q.
We undertake no obligation to publicly release any revisions to these
forward-looking statements to reflect events or circumstances after the date of
this Form 10-Q or to reflect the occurrence of unanticipated events, other than
as required by law.
Overview
Primecore is engaged in the business of providing secured loans for the
development of residential real estate. The business has been active in its
current REIT form since 1999 and related business activities that preceded the
formation of the REIT began in 1996. Officers and employees of Primecore have
substantial experience in real estate and real estate lending matters.
Primecore's strategy has been specifically designed to serve the needs of
small and medium-sized developers who are actively building single-family and
smaller multi-family housing units in high demand residential areas. Several
characteristics of this target customer base and residential housing market have
been vital to Primecore's success:
1. These borrowers are generally not well served by institutional lenders such
as commercial banks. There are few lending institutions that are interested in
making construction loans to smaller developers. Traditional lending
institutions often lack the focused local residential real estate development
expertise to evaluate specific projects involving redevelopment of individual
15
home sites or smaller multifamily complexes. Thus these institutions are
generally slow to respond to developers needs and they propose difficult terms
and conditions on their loans. Developers have been pleased to deal with
Primecore due to its knowledge and responsiveness with respect to such projects.
Furthermore, the developers have been willing to pay interest rates and loan
fees above those charged by commercial banks on other classes of loans.
2. Residential real estate demand in certain well-established locations has
historically been strong throughout the various stages of economic cycles.
Except during exceptional economic downturns, this demand strength has supported
relatively strong and stable valuations for such residential real estate.
Similarly, this demand strength has typically led to high sales volumes of
dwelling units.
3. The greater San Francisco Bay Area and specifically the mid-peninsula region
surrounding Primecore, includes numerous cities, towns and neighborhoods that
exhibit very attractive residential housing characteristics. This region has a
large and diverse economy developed in a geographically constrained area. Most
residential housing locations have been fully developed for decades and yet a
chronic shortage of housing perpetually exists in proximity to employment
opportunities. New housing built in this region on either the few remaining
undeveloped lots or on lots formerly occupied by older housing has historically,
excluding exceptional economic downturns, enjoyed strong demand and relatively
stable high values.
Most of the loans we make are classified as Acquisition, Development and
Construction (ADC) loans because they contain most of the characteristics
peculiar to these types of loans. ADC loans have the following characteristics:
1. The lender has agreed to provide all or substantially all necessary funds
to acquire, develop or construct the property. The borrower has title to
but little or no cash equity in the project;
2. The lender funds substantially all the interest and fees during the term of
the loan by adding them to the loan balance;
3. Typically, the lender's only security is the project itself, the lender no
recourse to other assets of the borrower, and the borrower does not
guarantee the debt;
4. In order for the lender to recover its investment in the project, the
property must be sold to independent third parties or the borrower must
obtain refinancing from another source.
Primecore's business model contemplates making ADC loans secured by residential
real estate. We have, in the past, sought to accomplish a gross yield of
approximately 16% on our loans. After payment of expenses, the Primecore model
contemplates an annual cash dividend return to Primecore investors of 9% to 11%.
However, the Bay Area economy has endured an unprecedented slowdown in 2001 and
2002. This was driven first by a reversal of the rapid expansion of the
technology and telecommunications industries in which Silicon Valley companies
play a leading role. Then, the general economic slowdown, and the slowdown in
real estate activity, experienced in the United States and Europe following
terrorist attacks in the fall of 2001 and the war in Iraq further exacerbated
this economic slowdown.
While some residential real estate in the region has generally continued to
enjoy strong demand despite the economic downturn, projects in the locations and
price ranges we funded were hard hit. In particular, housing with prices in
excess of $2.5 million experienced a significant slow down in sales volume and
unprecedented valuation declines. Prior to and during 2000, we made a
significant number of ADC loans for the development of such housing units. As of
January 1, 2003, 66% of the estimated collections from our investments were
invested in properties with estimated sale prices greater than $2.5 million per
unit. These properties have been selling slower than anticipated, and in a
number of cases have been sold at substantially lower prices than contemplated
when the ADC loans were made. During 2003, additional under performing ADC loans
and foreclosed properties that we now own ("REO") must be liquidated. We expect
continued impact on our income from this liquidation. As existing projects are
completed and sold, new ADC loans will be made to balance the portfolio with
loans projected to yield positive rates of return. Results of Operations
16
Income from Real Estate Investments
We charge interest on the money we lend to developers. Our business model
targets a 16% gross rate of return on these funds. Although we charge our
borrowers for the use of our money, we do not actually collect principal,
interest or fees until the financed property has sold or been refinanced by a
third party lender. We also do not generally have recourse to other borrower
assets, so we must usually rely on the value of the securing property to support
repayment of our loan plus accrued interest.
The following table breaks down the results of our operations from our
investments during the three months ended March 31, 2003:
Number
of loans Repayments Income Yield Impairment
--------- ------------------ ------------------ -------------- -------------------
Completed investments
REO 2 $ 926,920 $ 34,644 (34.51)% $ --
ADC loans 2 3,739,619 1,969,741 16.20 --
Active investments
REO 16 6,446,335 -- -- 685,439
ADC loans 38 4,038,647 711,124 -- 77,620
Real estate loans 1 -- 82,162 -- --
------------------ ------------------ -------------- -------------------
Total 59 $ 15,151,522 $ 2,797,671 2.20% $ 763,059
================== ================== ============== ===================
During the three months ended March 31, 2003, we continued to manage the
completion and repayment of the investments in our portfolio. The high-end
market continues to be challenging. Of the four investments we completed during
the three months ended March 31, 2003, two were REO properties and two were ADC
loans and none were sold at per unit prices above $2.5 million. We charged an
additional $763,059 to income for investments we believe are impaired. Most of
the impairment charge resulted from increases in estimated costs to complete and
carry high-end projects due to longer estimated selling periods.
We calculate the gross internal rate of return for our closed investments based
on the discounted present value of the investment cash flows on an
investment-by-investment basis. Our target yield is 16%. The chart below depicts
the actual yield on our investments measured quarterly since the first quarter
of 2000. The chart shows a fairly constant yield until the second quarter 2002
when the yield decreased significantly. The decrease resulted mainly from the
liquidation of REO properties, many of which stemmed from loans made in 1999 and
2000, when real estate values were at their peak. Although the quarter to
quarter yield is subject to large variation due to the timing and large amounts
of our transactions, we expect generally depressed yields as we liquidate our
existing portfolio of investments and replenish them with more balanced
investments.
17
[GRAPHIC OMITTED]
Realizable Value of Investments
For financial statement purposes, we do not report as income the amount of
interest and points we charge to borrowers until we collect it. Because we have
a contractual right to receive it, the amount of interest and points we charge
borrowers is added to the balance due on our ADC loans. As the values of the
collateral supporting payment of our ADC loans have declined, the collectibility
of our accrued interest and points has, in many cases, become doubtful.
Management includes the amount of collectible interest and points we are
entitled to receive when it sets dividend rates and prices for selling and
redeeming our stock. The information presented below summarizes that analysis
and reconciles the differences between US GAAP and the estimated realizable
value (NRV) of our investments.
March 31,2003 December 31, 2002
------------------------------------
Investments in real estate under
construction $ 97,286,445 $ 101,141,515
Investments in real estate held for sale 40,154,110 36,817,168
------------------------------------
Total investments in real estate per US
GAAP 137,440,555 137,958,683
Add: GAAP impairments 18,599,090 18,753,706
Accrued interest and points 65,156,875 64,337,376
Less: Capitalized interest (6,710,356) (6,566,481)
------------------------------------
Balance owed on real estate investments 214,486,164 214,483,284
Amount estimated uncollectible (46,296,153) (43,875,448)
------------------------------------
Estimated realizable value of investments
in real estate (NRV) $ 168,190,011 $ 170,607,836
====================================
NRV represents our current estimate of the amount of proceeds we expect to
receive once our investment is completed and ready for sale. The estimate relies
on a number of assumptions including the expected value of the investment once
completed, less applicable selling costs, the remaining costs required to
complete the project and the length of time required to complete the project.
Many factors, some outside our control, can cause changes in these estimates and
produce different results. We have obtained independent appraisals for our
investments to help us determine expected value upon completion. However, due to
the lack of recent sale comparables for many of our properties priced in the
high-end sector, it is difficult to project with much certainty the ultimate
sale price of many of these properties.
18
Stock Redemption Price
Our redemption policy provides for the disclosure of the fair market value of
our stock. Because our stock does not trade on any secondary market, another
method must be used to determine the fair market value. The Board has determined
that the value of the stock should be determined with reference to the NRV of
our assets. The following calculation determines the fair market value of our
stock at March 31, 2003 and December 31, 2002 for purposes of our redemption
policy:
March 31, 2003 December 31, 2002
----------------- ------------------
Cash $ 70,883 $ 4,394,107
NRV of investments in real estate 168,190,011 170,607,836
Loans secured by real estate 4,695,000 4,695,000
----------------- ------------------
Total realizable assets 172,995,894 179,696,943
Total liabilities (29,562,576) (30,946,018)
----------------- ------------------
Net realizable assets 143,393,318 148,750,925
Preferred shares outstanding 22,487,371 22,496,804
----------------- ------------------
Net realizable assets per share $ 6.38 $ 6.61
================= ==================
The fair value of our stock decreased by $0.23 per share during the three months
ended March 31, 2003 due to dividend distributions and the amount by which our
operating expenses exceeded our estimated collectible income. The following
table details the changes to net realizable assets per share for the three
months ended March 31, 2003:
Three months
ended Per share
March 31, 2003
----------------- -----------------
Estimated collectible income $ 672,214 $ 0.03
Operating expenses
Management fee expense 1,127,933
Interest expense 559,013
General and administrative expense 392,636
----------------- -----------------
Total operating expenses 2,079,582 (0.09)
----------------- -----------------
Operating loss (1,407,368) (0.06)
Dividends and distributions (3,930,392) (0.17)
----------------- -----------------
Total change $ (5,337,760) $ (0.23)
================= =================
Management fees
During the three months ended March 31, 2003 our management fee expense was
$1,127,933 compared with $2,658,152 during the three months ended March 31,
2002. The decrease is due to the restatement of the management agreement which
became effective January 1, 2003. The agreement generally provides that the fees
our manager earns will be based on three components: a base fee, determined
monthly, of 3.125% per annum of the total carrying amount of our investments in
real estate, determined according to US GAAP; a cash flow bonus, determined
quarterly, payable only upon achieving certain levels of loan repayments; and a
rate of return bonus, determined quarterly, which is payable only upon achieving
certain income per share returns for holders of Preferred Stock Prior to January
1, 2003, we paid management fees based on the amount of loan commitments
outstanding at the end of each month.
19
The changes made to the management agreement are intended to provide a better
alignment of interest between our manager and the shareholders given current
economic realities. The base fee is a reduced fee given the current portfolio
since the fee is based on the carrying amount of ADC loans, instead of loan
commitments. To the extent that the manager's actions produce results that are
above base expectations, the manager will be rewarded. Under the restructured
agreement our base management fee expense is expected to be reduced from $9.6
million in 2002 to approximately $4.2 million in 2003.
Interest costs
Since December 31, 1999, all interest costs have been capitalized as a cost of
our investments. Interest cost associated with our borrowings was $559,013
during the three months ended March 31, 2003, compared with $691,312 during the
three months ended March 31, 2002. The decrease is due to a combination of a
lower average cost of debt, 8.90% during the three months ended March 31, 2003,
compared with 9.92% during the three months ended March 31, 2002; and a lower
amount of debt on our balance sheet, an average of $21.9 million during the
three months ended March 31, 2003 compared with an average of $29.4 million
during the three months ended March 31, 2002. We are seeking to maintain our
debt at existing levels, and will endeavor to negotiate extensions of existing
notes or seek new sources to enable us to lower the cost of our debt.
General and administrative expenses
We have no employees, and our general and administrative and other expenses
consist primarily of professional fees, directors' fees and insurance costs.
General administrative and other expenses were $392,636 during the three months
ended March 31, 2003, compared with $105,105 during the three months ended March
31, 2002. The increased costs result from a number of factors. During 2003 we
commissioned appraisals of the portfolio to help us determine value.
Additionally, we incurred costs associated with our ownership of the properties
we have taken in foreclosure or deed in lieu of foreclosure. Our insurance costs
have increased as the insurance market has become more expensive and restricted.
Finally, the cost of our annual audit increased due to additional procedures
performed by our new auditors necessary to comply with new regulatory
requirements.
Liquidity and Capital Resources
Liquidity means the need for, access to and uses of cash. Our principal demands
for liquidity are cash for operations, funds that are required to satisfy
obligations under existing loan commitments, management fees, interest expense
associated with our indebtedness, debt repayments and dividend distributions to
shareholders. In the near term, our principal sources of liquidity are the
repayments of our real estate investments, funds received from issuance of
unsecured notes payable, our line of credit and sales of preferred stock.
Sources of cash
Investment repayments
Our largest source of our liquidity is the repayment of our investments in real
estate. In most cases, we must rely on the sale of the project before we can
collect our investment, which means that our repayment is largely dependent on
the state of the real estate market. As discussed in our Results of Operations,
at December 31, 2002 approximately 66% of the estimated proceeds from our
investments were invested in properties expected to sell at prices over $2.5
million. During the three months ended March 31, 2003, we received loan
repayments, including income, of $17,949,193. All of these loan repayments came
from sales or refinancings of properties which sold, or, in the case of the
refinanced properties, were expected to sell for under $2.5 million. As a
result, at March 31, 2003 approximately 71% of the estimated proceeds from our
investments were invested in properties expected to sell at prices over $2.5
million.
Sales of properties in the $2.5 million and over sector were very slow in 2002
and during the three months ended March 31, 2003 as the few buyers who are able
to afford these properties have been very deliberate about their purchase
decisions. The chart below depicts the amount of proceeds we expect to collect
from our existing investments once they have sold or refinanced. The bars of the
graph categorize the proceeds by the price sector of the underlying property.
20
[GRAPHIC OMITTED]
The chart shows that we had estimated $53 million in proceeds from secured
properties which were completed and on the market as of March 31, 2003. Of that
$53 million, approximately $18 million was secured by properties valued at less
than $2.5 million per unit. We expect properties valued at less than $2.5
million securing an additional $22 million in estimated proceeds to complete
construction within the next three months. Based on existing market conditions,
we expect completed properties with offer prices under $2.5 million to sell in
three to six months if the property is well priced. Sales of properties in this
price sector have remained fairly stable and the cash flow we expect from them
has been fairly reliable.
At March 31, 2003 we had estimated approximately $35 million in proceeds from
properties valued at $2.5 million or more, which were completed and on the
market. We expect properties valued at $2.5 million or more, securing an
additional $20 million in estimated proceeds to be completed within the next
three months. For properties with offer prices exceeding $2.5 million, we expect
six months to one year for the property to sell if it is well priced. These
properties have been the most difficult to sell or refinance during the last 12
months and we currently expect that to continue.
Because a single loan repayment can have a large impact on our repayment
projections, it is difficult to predict repayments with precision, especially as
construction and sales can be delayed due to factors beyond our control, such as
weather, borrower delays, and lengthy foreclosure or borrower bankruptcy
proceedings. In the event that our repayments or other cash sources are not
sufficient to timely meet our commitments we will have to take other steps to
meet our commitments, which could include reducing prices on properties we
control in order to expedite their repayment. In such cases, the amount of
proceeds received could be substantially less than what we would have expected
if we allowed a proper marketing period for the property. This would have a
negative impact on the estimated net realizable value of our assets.
Stock sales
Our liquidity is also enhanced through sales of our Preferred Stock and issuance
of notes payable to investors. Our Preferred Stock is sold through private
placements. In November 2002 we closed our private placement. Our Board has
21
authorized the opening of a new private placement in 2003, however we do not
expect to generate any appreciable sales until we have liquidated a substantial
part of our existing investment portfolio and reinvested the proceeds in new
projects.
Issuance of unsecured notes payable
We issue a limited amount of short-term notes payable as an investment
alternative to our Preferred Stock. During the three months ended March 31, 2003
we issued $250,000 in unsecured notes payable compared with $662,000 issued
during the three months ended March 31, 2002. Our current plan for 2003 and
beyond is to maintain our existing notes payable balances at current levels
through extension of existing notes and issuance of new notes to replace
maturities of existing notes.
Uses of Cash
The following table sets forth the projected timing and amount of our projected
obligations over the next two years, without taking into account new loans that
may be made in 2003 and 2004:
Total 2003 2004
--------------- ------------------- ----------------
Investment fundings $ 38,400,000 $ 34,650,000 $ 3,750,000
Line of credit 7,595,559 7,595,559 --
Secured notes payable 7,693,000 7,693,000 --
Unsecured notes payable 11,781,375 11,074,945 706,430
Dividend payments 27,547,000 11,800,000 15,747,000
--------------- ------------------- ----------------
Total $93,016,934 $ 72,813,504 $ 20,203,430
=============== =================== ================
Investment fundings
Investment fundings are our largest use of our cash. At March 31, 2003 we
estimated costs to complete our investments were $38.40 million. These amounts
will be funded as construction progresses on our investments. The exact timing
of the investment fundings is dependent on several factors including weather,
governmental regulation and developer related issues, so the timing of
investment fundings in the above table is an estimate based on information
available to us at this time. Additionally, we expect the amount of actual
investment fundings to be higher than our obligation existing at March 31, 2003
as we continue to make and fund new loan commitments in 2003 and beyond.
Line of credit
Our line of credit matures on May 15, 2003. We have been negotiating an
extension of this facility with our lender, and are exploring other options. At
the present time, we have not received a funding commitment from our current
lender or any other lender. In the event we are not successful in our efforts,
we will have to repay this facility. Our present projections indicate we will
not have the liquidity necessary to fully repay this loan by the current due
date. If we do not pay the loan when due, our lender will have various remedies
that could severely impact on our cash flow and our commitments, and which will
require that we take immediate steps to address our cash flow needs, which may
include a freeze on all distributions to shareholders and other steps.
Secured notes payable
Our secured notes payable are loans made to us by financial institutions and
secured by first deeds of trust on properties we own. Monthly interest payments
are required and the maturities of these loans approximate the date we expect
the underlying collateral to sell. Once sold, the secured loan will be repaid.
Unsecured notes payable
We have approximately $11.1 million in unsecured notes payable that mature in
2003. Our strategy is to extend these notes on terms that are favorable to us.
As of December 31, 2001 we had approximately $17.3 million in unsecured notes
payable which were due to mature in 2002. During the year we were successful in
22
extending and issuing new notes to replace the notes we paid while, at the same
time, decreasing the average cost of our borrowings from 11.01% to 9.08%. The
net decrease in notes payable resulting from our efforts was approximately $3
million.
Dividends and distributions
Although dividend payments are not contractual obligations we have included
their impact on our liquidity since the Board of Directors has, for the present,
determined to maintain a dividend of $0.70 per share to shareholders even though
the dividend is currently, and for the foreseeable future, paid out of capital
and not income. As such, these dividend payments will not be taxable to
shareholders. Dividend payments may be discontinued at any time, if
circumstances warrant, and if this can be done without risk to our REIT status.
As noted above, if we are unsuccessful in our efforts to extend our current line
of credit, which becomes due on May 15, 2003, or obtain a new credit line to
replace our existing line, we may have to cease dividend payments.
Stock repurchases
Effective February 12, 2003, the Board of Directors implemented a new redemption
policy for shareholders who wish to sell their shares to us. The policy may be
modified or terminated at the Board's discretion at any time. Currently, we will
repurchase shares, at fair market value, as determined by our Board of
Directors, utilizing 25% of "free cash flow" for such purposes. "Free cash flow"
means the total of all proceeds from repayments of loans and all net proceeds
from the sale of real-estate-owned properties in the Company's portfolio during
a Repurchase Period, and then subtracting from such total amounts due during the
same period for (i) existing loan commitments, (ii) debt payments to third
parties, (iii) dividend or other distributions to shareholders, and (iv)
operating expenses. The periods between October 1 and March 31 of the following
year, and April 1 and September 30 are each a "Repurchase Period" for the
purposes of calculating "free cash flow," except that the first Repurchase
Period under the policy runs from January 1, 2003 through March 31, 2003.
Redemption of shares is always subject to availability of funds for redemption
purposes, and all redemption requests are acted upon in accordance with the best
interests of the Company. The following results were achieved during the first
Repurchase Period:
Three months
Ended
March 31, 2003
-------------------
$ 1,648,468
Cash flow from operations
Cash flow from investing activities 7,472,886
Repayments of unsecured notes payable (2,770,371)
Dividends and distributions (3,931,045)
-------------------
Total "Free cash flow" 2,419,938
Repurchase percentage 25%
-------------------
Funds presently anticipated to be available
for stock repurchase $ 604,985
===================
As discussed above, our line of credit expires on May 15, 2003. If we are
unsuccessful in obtaining an extension of our current line of credit, which
becomes due on May 15, 2003, or if we cannot locate a replacement credit
facility by such date, we do not anticipate there will be any funds available
for redemptions for the first Repurchase Period.
Critical Accounting Policies and Estimates
Management's Discussion and Analysis of Financial Condition and Results of
Operations covers our financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States.
The preparation of these financial statements requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
23
of the financial statements and the reported amounts of revenues and expenses
during the reporting period. On an on-going basis, management evaluates its
estimates and judgments, including those related to the valuation of our assets
and liabilities. Management bases its estimates and judgments on historical
experience and on various other factors that are believed to be reasonable under
the circumstances, the results of which form the basis for making judgments
about the carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from these estimates
under different assumptions or conditions. Management believes the following
critical accounting policies, among others, affect the more significant
judgments and estimates used in the preparation of its consolidated financial
statements.
Valuation and Realizability of Investments. All of our ADC loans are classified
for financial reporting purposes as investments in real estate under development
or investments in real estate under development by affiliates (see Notes 3 and 4
to the financial statements). We have foreclosed on some ADC loans that are
classified as investments in real estate held for sale (Note 5). Such
investments include capitalized interest and are stated at the lower of cost or
fair value. Management conducts a review for impairment on an
investment-by-investment basis whenever events or changes in circumstances
indicate that the carrying amount of an investment may not be recoverable.
Impairment is recognized when estimated expected future cash flows (undiscounted
and without interest charges), typically from the sale of a completed property,
are less than the carrying amount of the investment, plus estimated costs to
complete. The estimation of expected future net cash flows is inherently
uncertain and relies to a considerable extent on assumptions regarding current
and future economics and market conditions. If, in future periods, there are
changes in the estimates or assumptions incorporated into the impairment review
analysis, the changes could result in an adjustment to the carrying amount of
the investments. To the extent an impairment has occurred, the excess of the
carrying amount of the investment over its estimated fair value, less estimated
selling costs, will be charged to income. In accordance with this policy, we
recorded a provision for impairment of investments in real estate under
development totaling $21.2 million during the year ended December 31, 2002
compared with $73,000 and none during the years ended December 31, 2001 and
2000. We believe that all of our investments are carried at realizable values,
however conditions may change and cause our ADC loans to decline in value in a
future period.
Loan Accounting. We have applied the guidance of AICPA Practice Bulletin 1,
Purpose and Scope of AcSEC Practice Bulletins and Procedures for Their Issuance,
Exhibit I in accounting for our investment loans as real estate acquisition,
development, or construction (ADC) arrangements. In accordance with the ADC
accounting rules, we do not accrue income for interest and points on our ADC
loans until the sale or refinancing of a property. Revenue from interest and
points is recognized as cash is received from the sale or refinancing of such
properties. ADC loans are classified as investments in real estate under
development and investments in real estate held for sale (see Notes 3, 4 and 5
to the financial statements) and include amounts funded under the loan
agreements and capitalized interest expense. If our ADC loans qualified as loans
under GAAP, interest and points would be recognized as income in periods prior
to the sale of the underlying property.
REIT status and taxation. As a REIT, we generally will not be subject to
corporate-level federal income tax on net income that we distribute to our
shareholders. As such, no provision for federal income taxes is included in our
financial statements. Such taxes are the responsibility of the individual
shareholders. To maintain our classification as a REIT, we must satisfy tests
concerning the sources of our income, the nature and type of our assets, the
amount of our distributions to shareholders, and concentration of the ownership
of our stock. If we fail to qualify as a REIT in any taxable year, we will be
subject to federal income taxes at regular corporate rates (including any
applicable alternative minimum tax) and may not be able to qualify as a REIT for
four subsequent taxable years. Even if we qualify for taxation as a REIT, we may
be subject to certain state and local taxes on our income and property and to
federal income and excise taxes on our undistributed taxable income. Regular
federal and state income taxes would be included in our statements of operations
if we fail to qualify as a REIT. We distribute preferred stock dividends at a
level that the Board of Directors deems, at a given time, to be prudent. Actual
dividends may be in excess of taxable income. Rates of return are subject to
adjustment by our Board of Directors based upon prevailing market and company
specific conditions. Payment of preferred stock dividends could be adversely
effected if we experience a further slow down in the repayment of our ADC loans.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
An investment in our stock involves a high degree of risk. Among other things,
some of the principal risks are: the real estate lending business may be
adversely affected by periods of economic slowdown, which may be accompanied by
declining real estate values on properties securing repayment of loans;
24
construction mortgage loans involve greater risks of repayment than loans
secured by property that has already been improved since completion market
valuation of a given project can be highly speculative and subject to
unanticipated conditions; there is no public market for our securities, and
liquidity is not assured; under our business model, loan commitments will
generally exceed immediately available cash resources, and failure to obtain
repayment of loans in our portfolio, or a failure to maintain sufficient equity
would affect our ability to fund commitments; since we have no employees, if our
manager refused or became unable to continue to serve us, and a proper
replacement were not found, this would materially impact our business.
We make loans at fixed rates of interest. To the extent that prevailing market
interest rates change during the holding period, the value of our loans may be
either adversely or positively affected. When a loan matures, generally within a
12 to 18 month period, it is subject to a new interest rate, determined by us,
based upon current conditions. Since we intend to hold all loans until they are
repaid, we do not believe that changes in market interest rates have a material
impact on the value of the Company.
ITEM 4. CONTROLS AND PROCEDURES.
Within the past 90 days we carried out an evaluation, under the supervision of
the Company's Chief Executive Officer and Chief Financial Officer, of the
effectiveness of the Company's disclosure controls and procedures. Based on that
evaluation, the Chief Executive Officer and Chief Financial Officer have each
concluded that those controls and procedures were effective in making known to
them, on a timely basis, the material information needed forthe preparation of
this Report on Form 10-Q. There were no significant changes in the Company's
internal controls or in other factors that could significantly affect those
internal controls since the date of their evaluation nor did we find any
significant deficiencies and material weaknesses that would have required
corrective actions to be taken with respect to those controls.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
We are not presently subject to any material litigation nor, to our knowledge,
is any litigation threatened against us which collectively is expected to have a
material adverse effect on our cash flows, financial condition or results of
operations.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
(a) Not Applicable.
(b) Not Applicable.
(c) Sales of Equity Securities.
Between January 1, 2003 and March 31, 2003, we did not sell any shares of
our Class A Convertible Preferred stock.
Purchasers of our Class A Convertible Preferred stock are accredited
investors as defined in Regulation D, Rule 501 (a) (4), (5) or (6) under
the 1933 Securities Act. Each investor signed a subscription agreement
which included representations that the investor had sufficient knowledge
and experience in financial and business matters to be capable of
evaluating the merits and risks of investments generally, and of the
investment in our stock and the investor was able to bear the economic risk
of the investment. Each investor further acknowledged the investor
understood the entire investment could be lost.
The sales of stock were exempt from the registration requirements of the
Securities Act of 1933 pursuant to Regulation D, Rule 506. Appropriate
legends were placed on each stock certificate. No underwriters were
involved and no underwriting commissions were paid in any of the
transactions.
The terms of conversion of the stock have been previously reported.
25
(d) Not Applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
ITEM 5. OTHER INFORMATION.
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
Exhibits included with this Form 10-Q following the signature page, or those
incorporated by reference to other filings are:
3i.1 Articles of Incorporation of the Company are hereby incorporated herein
by reference from Exhibit 3(i) to the Company's Registration Statement
on Form 10-12G, filed on April 28, 2000
3i.2 Articles Supplementary of the Company are hereby incorporated herein by
reference from Exhibit 99.1 to the Company's Registration Statement on
Form 10-12G, filed on April 28, 2000
3ii.1 Bylaws, Amended March 21, 2000 are hereby incorporated herein by
reference from Exhibit 3(ii) to the Company's Registration Statement on
Form 10-12G, filed on April 28, 2000
3ii.2 Bylaws, Amended March 1, 2001 are hereby incorporated herein by
reference from Exhibit 3ii.2 to the Company's Annual Report on Form
10-K, filed on March 30, 2001
4.1 Specimen Stock Certificate is hereby incorporated herein by reference
from Exhibit 99.2 to the Company's Registration Statement on Form
10-12G, filed on April 28, 2000
4.2 Registration Rights Agreement is hereby incorporated herein by reference
from Exhibit 4.1 to the Company's Registration Statement on Form 10-12G,
filed on April 28, 2000
4.3 Founder's Registration Rights Agreement is hereby incorporated herein by
reference from Exhibit 4.2 to the Company's Registration Statement on
Form 10-12G, filed on April 28, 2000
10.1 Management Agreement dated March 30, 1999 is hereby incorporated herein
by reference from Exhibit 10 to the Company's Registration Statement on
Form 10-12G, filed on April 28, 2000
10.2 Management Agreement dated October 1, 2000 is hereby incorporated herein
by reference from Exhibit 10.2 to the Company's Annual Report on Form
10-K, filed on March 30, 2001
11.1 Statement regarding computation of per share earnings
99.1 Certification of Chief Executive Officer pursuant to 18 U.S.C Section
1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of
2002
99.2 Certification of Chief Financial Officer pursuant to 18 U.S.C Section
1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of
2002
(b) Reports on Form 8-K
The Company filed a report on form 8-K February 8, 2003 disclosing the text of
the Company's revised redemption policy.
26
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.
Dated: May 5, 2003 /s/ SUSAN FOX
-------------
Susan Fox, President
Dated: May 5, 2003 /s/ MICHAEL RIDER
-----------------
Michael Rider, Chief Financial Officer
27
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
I, Susan Fox, certify that:
1. I have reviewed this Form 10-Q of Primecore Mortgage Trust,
Inc.;
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.
/s/ SUSAN FOX
----------------------------
Susan Fox, President
May 5, 2003
28
CERTIFICATION OF CHIEF FINANCIAL OFFICER
I, Michael Rider, certify that:
1. I have reviewed this Form 10-Q of Primecore Mortgage Trust,
Inc.;
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.
/s/ MICHAEL RIDER
--------------------------------------
Michael Rider, Chief Financial Officer
May 5, 2003
29