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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
 
FORM 10-Q
(Mark One)
[X] Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2014
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 000-52611

IMH FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
Delaware
27-1537126
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification Number)
7001 N. Scottsdale Rd #2050
Scottsdale, Arizona 85253
(Address of principal executive offices and zip code)

(480) 840-8400
(Registrant’s telephone number, including area code)
N/A
(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 þ No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
¨
 
Accelerated filer
¨
Non-accelerated filer
¨
 
Smaller reporting company
þ
(Do not check if a smaller reporting company)
 
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ

The registrant had 50,000 shares of Common Stock, 3,491,758 shares of Class B-1 Common Stock, 3,492,954 shares of Class B-2 Common Stock, 7,159,759 shares of Class B-3 Common Stock, 313,790 shares of Class B-4 Common Stock, 735,801 shares of Class C Common Stock, 5,595,148 shares of Series B-1 Preferred Stock and 2,604,852 shares of Series B-2 Preferred Stock, all of which were collectively convertible into 23,444,062 outstanding common shares as of November 13, 2014.




IMH FINANCIAL CORPORATION
QUARTERLY REPORT ON FORM 10-Q
INDEX
PART I - FINANCIAL INFORMATION
Item 1.
 
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
PART II – OTHER INFORMATION
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.


2



PART I
FINANCIAL INFORMATION

Item 1. Financial Statements.
IMH FINANCIAL CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share data) 
 
 
September 30, 2014
 
December 31, 2013
ASSETS
 
(Unaudited)

 
 
Cash and Cash Equivalents
 
$
3,000

 
$
7,875

Restricted Cash and Cash Equivalents
 
10,020

 
5,777

Mortgage Loans Held for Sale, Net
 
13,189

 
12,541

Real Estate Acquired through Foreclosure Held for Sale
 
74,950

 
86,562

Real Estate Acquired through Foreclosure Held for Development
 
7,603

 
12,262

Operating Properties Acquired through Foreclosure
 
83,783

 
103,683

Deferred Financing Costs, Net
 

 
3,733

Other Receivables
 
2,980

 
983

Other Assets
 
3,251

 
3,159

Property and Equipment, Net
 
695

 
826

Total Assets
 
$
199,471

 
$
237,401

 
 
 
 
 
LIABILITIES
 
 

 
 

Accounts Payable and Accrued Expenses
 
$
6,519

 
$
8,400

Accrued Property Taxes
 
1,088

 
1,084

Dividends Payable
 
399

 

Accrued Interest Payable
 
1,773

 
2,974

Tenant Deposits and Funds Held for Others
 
354

 
1,016

Convertible Notes Payable and Deferred Interest, Net of Discount
 

 
54,975

Notes Payable, Net of Discount
 
81,186

 
46,043

Capital Lease Obligation
 
1,210

 
1,251

Special Assessment Obligations
 
5,057

 
5,339

Exit Fee Payable
 

 
10,448

Total Liabilities
 
97,586

 
131,530

 
 
 
 
 
Commitments and Contingent Liabilities
 
 
 
 
 
 
 
 
 
Redeemable Convertible Preferred Stock, $.01 par value; 100,000,000 shares authorized; 8,200,000 outstanding; liquidation preference of $39,570 and $0 at September 30, 2014 and December 31, 2013, respectively
 
26,780

 

Fair Value of Puttable Shares Pursuant to Legal Settlement
 

 
4,871

 
 
 
 
 
STOCKHOLDERS' EQUITY
 
 

 
 

Common stock, $.01 par value; 200,000,000 shares authorized; 16,873,880 shares issued at September 30, 2014 and December 31, 2013; 15,244,062 and 16,832,221 shares outstanding at September 30, 2014 and December 31, 2013, respectively
 
169

 
169

Less: Treasury stock, 1,629,818 and 41,659 shares at September 30, 2014 and December 31, 2013, respectively
 
(5,948
)
 
(172
)
Paid-in Capital
 
727,130

 
720,150

Accumulated Deficit
 
(646,246
)
 
(619,147
)
Total Stockholders' Equity
 
75,105

 
101,000

 
 
 
 
 
Total Liabilities and Stockholders' Equity
 
$
199,471

 
$
237,401

 
The accompanying notes are an integral part of these condensed consolidated financial statements

F-1




IMH FINANCIAL CORPORATION
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except share data)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
 
 
 
REVENUE:
 
 
 
 
 
 
 
 
Operating Property Revenue
 
$
6,351

 
$
5,660

 
$
20,077

 
$
11,065

Investment and Other Income
 
324

 
866

 
1,213

 
2,030

Mortgage Loan Income, Net
 
1,321

 
201

 
2,191

 
585

Total Revenue
 
7,996

 
6,727

 
23,481

 
13,680

 
 
 
 
 
 
 
 
 
OPERATING EXPENSES:
 
 
 
 
 
 
 
 
Operating Property Direct Expenses (exclusive of Interest and Depreciation)
 
5,572

 
4,904

 
16,815

 
9,402

Expenses for Non-Operating Real Estate Owned
 
481

 
410

 
1,627

 
1,336

Professional Fees
 
890

 
1,992

 
6,251

 
5,478

General and Administrative Expenses
 
3,582

 
1,485

 
6,739

 
4,201

Interest Expense
 
3,454

 
5,224

 
13,043

 
13,913

Debt Termination Charge
 
21,658

 

 
21,658

 

Depreciation and Amortization Expense
 
797

 
987

 
2,798

 
2,062

Settlement and Related Costs
 

 
840

 

 
1,962

Total Operating Expenses
 
36,434

 
15,842

 
68,931

 
38,354

 
 
 
 
 
 
 
 
 
RECOVERY OF CREDIT LOSSES AND GAIN ON DISPOSAL OF ASSETS:
 
 
 
 
 
 
 
 
Gain on Disposal of Assets
 
(5,630
)
 
(252
)
 
(17,630
)
 
(953
)
Recovery of Credit Losses
 
(172
)
 
(679
)
 
(721
)
 
(8,250
)
Total Recovery of Credit Losses and Gain on Disposal of Assets
 
(5,802
)
 
(931
)
 
(18,351
)
 
(9,203
)
 
 
 
 
 
 
 
 
 
Total Costs and Expenses
 
30,632

 
14,911

 
50,580

 
29,151

 
 
 
 
 
 
 
 
 
Loss before Income Taxes
 
(22,636
)
 
(8,184
)
 
(27,099
)
 
(15,471
)
 
 
 
 
 
 
 
 
 
Provision for Income Taxes
 

 

 

 

 
 
 
 
 
 
 
 
 
NET LOSS
 
(22,636
)
 
(8,184
)
 
(27,099
)
 
(15,471
)
 
 
 
 
 
 
 
 
 
Cash Dividend on Redeemable Convertible Preferred Stock
 
(399
)
 

 
(399
)
 

Deemed Dividend on Redeemable Convertible Preferred Stock
 
(400
)
 

 
(400
)
 

 
 
 
 
 
 
 
 
 
Net Loss Attributable to Common Shareholders
 
$
(23,435
)
 
$
(8,184
)
 
$
(27,898
)
 
$
(15,471
)
 
 
 
 
 
 
 
 
 
Basic and diluted loss per common share
 
 
 
 
 
 
 
 
Net Loss per Common Share
 
$
(1.53
)
 
$
(0.49
)
 
$
(1.74
)
 
$
(0.92
)
Weighted Average Common Shares Outstanding
 
15,323,933

 
16,873,880

 
16,026,515

 
16,873,880

 
The accompanying notes are an integral part of these condensed consolidated financial statements

F-2



IMH FINANCIAL CORPORATION
UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
Nine Months Ended September 30, 2014
(In thousands, except share data)
 
 
 
Common Stock
 
Treasury Stock
 
 
 
Accumulated Deficit
 
Total Stockholders' Equity
 
 
Shares
 
Amount
 
Shares
 
Amount
 
Paid-in Capital
 
 
Balances at December 31, 2013
 
16,873,880

 
$
169

 
41,659

 
$
(172
)
 
$
720,150

 
$
(619,147
)
 
$
101,000

Net Loss
 

 

 

 

 

 
(27,099
)
 
(27,099
)
Dividends Declared on Redeemable Convertible Preferred Stock
 

 

 

 

 
(399
)
 

 
(399
)
Deemed Dividend on Redeemable Convertible Preferred Stock
 

 

 

 

 
(400
)
 

 
(400
)
Stock-Based Compensation
 

 

 

 

 
2,908

 

 
2,908

Treasury Stock
 

 

 
1,588,159

 
(5,776
)
 

 

 
(5,776
)
Reclassification of Fair Value of Puttable Shares Pursuant to Legal Settlement
 

 

 

 

 
4,871

 

 
4,871

Balances at September 30, 2014
 
16,873,880

 
$
169

 
1,629,818

 
$
(5,948
)
 
$
727,130

 
$
(646,246
)
 
$
75,105

 
The accompanying notes are an integral part of these condensed consolidated financial statements


F-3




IMH FINANCIAL CORPORATION
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
 
 
Nine Months Ended September 30,
 
 
2014
 
2013
 
 
 
 
 
 
 
CASH FLOWS - OPERATING ACTIVITIES
 
 
 
 
 
Net Loss
 
$
(27,099
)
 
$
(15,471
)
 
Adjustments to reconcile net loss to net cash used in operating activities:
 
 
 
 
 
Debt Termination Charge
 
21,658

 

 
Non-cash Provision (Recovery of) Credit Losses
 

 
(6,975
)
 
Stock-Based Compensation and Option Amortization
 
578

 
434

 
Gain on Disposal of Assets
 
(17,630
)
 
(953
)
 
Amortization of Deferred Financing Costs
 
881

 
1,607

 
Depreciation and Amortization Expense
 
2,798

 
2,062

 
Investment Discount Amortization
 

 
(669
)
 
Accretion of Mortgage Income
 
(1,689
)
 

 
Accretion of Discount on Notes Payable
 
1,425

 
1,521

 
Increase (decrease) in cash resulting from changes in:
 
 
 
 
 
Accrued Interest Receivable
 
110

 
275

 
Other Receivables
 
(1,997
)
 
(356
)
 
Other Assets
 
595

 
(111
)
 
Accrued Property Taxes
 
4

 
350

 
Accounts Payable and Accrued Expenses
 
510

 
1,342

 
Accrued Interest Payable
 
2,274

 
3,065

 
Tenant Deposits and Funds Held for Others
 
(662
)
 
11

 
Total adjustments, net
 
8,855

 
1,603

 
Net cash used in operating activities
 
(18,244
)
 
(13,868
)
 
 
 
 
 
 
 
CASH FLOWS - INVESTING ACTIVITIES
 
 
 
 
 
Proceeds from Sale/Recovery of Real Estate Owned
 
51,001

 
6,499

 
Purchases of Property and Equipment
 
(23
)
 
(246
)
 
Issuance of Other Notes Receivables
 
(2,100
)
 

 
Mortgage Loan Fundings and Protective Advances
 
(27
)
 
(473
)
 
Mortgage Loan Repayments
 
5,681

 
8,617

 
Collection of Other Notes Receivables
 
2,100

 

 
Preferred Equity Investment
 

 
(15,000
)
 
Investment in Real Estate Owned
 
(4,678
)
 
(1,643
)
 
Capitalized Foreclosure Acquisition Costs
 

 
(2,473
)
 
Net cash provided by (used in) investing activities
 
51,954

 
(4,719
)
 
 
 
 
 
 
 
CASH FLOWS - FINANCING ACTIVITIES
 
 
 
 
 
Proceeds from Issuance of Preferred Equity
 
18,580

 

 
Proceeds from Notes Payable
 

 
10,150

 
Proceeds from Convertible Notes Payable
 
71

 

 
Repayment of Convertible Debt
 
(28,295
)
 

 
Debt Termination Costs
 
(1,802
)
 

 
Debt Issuance Costs Paid
 

 
(1,073
)
 

F-4


 
 
Nine Months Ended September 30,
 
 
2014
 
2013
 
 
 
 
 
 
 
(Increase) Decrease in Restricted Cash
 
(4,243
)
 
10,195

 
Repayments of Notes Payable
 
(19,001
)
 
(1,251
)
 
Purchase of Notes Payable
 
(1,289
)
 

 
Repayments of Capital Leases
 
(41
)
 
(45
)
 
Dividends Paid
 

 
(800
)
 
Purchase of Treasury Stock
 
(2,565
)
 

 
Net cash provided by (used in) financing activities
 
(38,585
)
 
17,176

 
 
 
 
 
 
 
NET DECREASE IN CASH AND CASH EQUIVALENTS
 
(4,875
)
 
(1,411
)
 
 
 
 
 
 
 
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD
 
7,875

 
3,084

 
 
 
 
 
 
 
CASH AND CASH EQUIVALENTS, END OF PERIOD
 
$
3,000

 
$
1,673

 
 
 
 
 
 
 
SUPPLEMENTAL CASH FLOW INFORMATION:
 
 
 
 
 
Interest paid
 
$
5,543

 
$
12,757

 
Real Estate Acquired Through Foreclosure or Deed in Lieu of Foreclosure
 
$
521

 
$
91,380

 
Reclassification of Convertible Debt to Notes Payable
 
$
45,000

 
$

 
Deferred Interest added to Notes Payable Principal
 
$
1,923

 
$
2,205

 
Seller Financing provided for Asset Sales
 
$
8,400

 
$
1,085

 
Accounts Payable and Accrued Liabilities Assumed in Foreclosure
 
$

 
$
3,382

 
Capital Lease Obligation Assumed in Foreclosure
 
$

 
$
1,279

 
Note Payable Assumed in Foreclosure
 
$

 
$
24,712

 
Reclassification of Paid in Capital to Fair Value of Puttable Shares Pursuant to Legal Settlement
 
$
4,871

 
$

 
Debt Assumed for Asset Acquisitions
 
$
7,875

 
$

 
Non-cash Issuance of Exchange Offering Debt
 
$
6,389

 
$

 
Assets Acquired in Satisfaction of Loan Principal
 
$
4,020

 
$

 
Assets Surrendered to Satisfy Debt Obligations
 
$
4,838

 
$

 
Notes Payable and Other Liabilities Relieved through Asset Surrender
 
$
8,119

 
$

 
Conversion of Convertible Debt to Series B Preferred Stock
 
$
7,800

 
$

 
Deemed Dividend on Redeemable Convertible Preferred Stock
 
$
400

 
$

 
 
The accompanying notes are an integral part of these condensed consolidated financial statements



F-5

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014



NOTE 1- BUSINESS, BASIS OF PRESENTATION AND LIQUIDITY
 
Our Company
 
IMH Financial Corporation (the “Company”) is a real estate investor and finance company based in the southwest United States with over a decade of experience in various and diverse facets of the real estate lending and investment process, including origination, acquisition, underwriting, documentation, servicing, construction, enforcement, development, marketing, and disposition. The Company’s focus is to invest in, manage and dispose of commercial real estate mortgage investments or other real estate assets, and to perform all functions reasonably related thereto, including developing, managing and either holding for investment or disposing of real property acquired through foreclosure or other means. The Company also seeks to capitalize on opportunities to invest in selected real estate platforms under the direction of seasoned professionals in those areas. The Company was formed as a result of a series of transactions that were executed on June 18, 2010 that are referred to as the Conversion Transactions, which included (i) the conversion of our predecessor entity, IMH Secured Loan Fund (the “Fund”), from a Delaware limited liability company into a newly-formed Delaware corporation named IMH Financial Corporation, and (ii) internalization of the Fund manager, Investor's Mortgage Holdings, Inc. (the “Manager”), through an acquisition by the Company of all of the outstanding shares of the Manager, and all of the outstanding membership interests of IMH Holdings, LLC.

During 2013 and 2012, we acquired certain operating properties through deed-in-lieu of foreclosure which have contributed significantly to our operating revenues and expenses during these periods and thereafter. As described more fully in note 4, at September 30, 2014, our operating properties consist of two operating hotels located in Sedona, Arizona, a golf course operation located in Bullhead City, Arizona and, prior to entering into a sales agreement for the property in the third quarter of 2014, a commercial office building located in Stafford, Texas. Due to our limited lending activities since 2008, these operating properties currently contribute the majority of our revenue.

Basis of Presentation

The accompanying unaudited, condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for a complete set of financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation of the results for the periods presented have been made. Operating results for the three and nine months ended September 30, 2014 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2014. These condensed consolidated financial statements should be read in conjunction with our consolidated financial statements and notes thereto included in our annual report on Form 10-K for the fiscal year ended December 31, 2013.

The accompanying unaudited condensed consolidated financial statements include the accounts of IMH Financial Corporation and the following wholly-owned operating subsidiaries: Investors Mortgage Holdings, Inc., an Arizona corporation, Investors Mortgage Holdings California, Inc., a California corporation, IMH Holdings, LLC, a Delaware limited liability company (“Holdings”), and various other wholly owned subsidiaries established in connection with the acquisition of real estate either through foreclosure or purchase. IMH Holdings is a holding company for two wholly-owned subsidiaries: IMH Management Services, LLC, an Arizona limited liability company, and SWI Management, LLC, an Arizona limited liability company. IMH Management Services, LLC provides us and our affiliates with human resources and administrative services, including the supply of employees, and SWI Management, LLC, or “SWIM”, acted as the manager for the Strategic Wealth & Income Company, LLC, or the SWI Fund. All significant intercompany accounts and transactions have been eliminated in consolidation.

Liquidity
 
As of September 30, 2014, our accumulated deficit aggregated $646.2 million primarily as a result of previous provisions for credit losses recorded relating to the decrease in the fair value of the collateral securing our loan portfolio and impairment charges relating to the value of real estate owned ("REO") assets acquired primarily through foreclosure, as well as on-going net operating losses in recent periods resulting from the lack of income-producing assets and the high cost of our debt financing. Beginning in 2008, we experienced significant defaults and foreclosures in our mortgage loan portfolio due primarily to the erosion of the U.S. and global real estate and credit markets during those periods. As a result, since that time we have been focused on enforcing our

F-6

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 1 – BUSINESS, BASIS OF PRESENTATION AND LIQUIDITY - continued

rights under our loan documents, working to repossess the collateral properties underlying those loans, and pursuing recovery from guarantors under such loans.

Our liquidity plan has included obtaining additional financing, selling whole loans or participating interests in loans, and selling the majority of our legacy real estate assets. As more fully described in note 7, in June 2011, we entered into and closed funding of a $50.0 million senior secured convertible loan with NWRA Ventures I, LLC (“NW Capital”). In addition, during the year ended December 31, 2013, we secured an additional $10.0 million in financing secured by certain REO assets. These financings, along with proceeds from asset sales, have been our primary sources of working capital. During the nine months ended September 30, 2014, we repaid the $10.0 million note payable primarily using proceeds from asset sales. In addition, during the nine months ended September 30, 2014, we entered into a series of transactions to, among other things, restructure and partially refinance the NW Capital senior loan which will also allow for the prepayment of the total loan balance. The restructure and partial refinance of the NW Capital loan are considered to be the first step in a two-step overall refinancing strategy, the primary objective of which is to reduce the Company’s current and future annual interest expense and related costs, in order to improve the Company’s overall liquidity. Management continues to seek to secure replacement financing to refinance the remaining outstanding balance of the NW Capital loan and other Company indebtedness.

As of September 30, 2014, our entire loan portfolio with an aggregate carrying value of $13.2 million is held for sale. In addition, as of September 30, 2014, real estate owned (“REO”) projects with a carrying value totaling $75.0 million were being actively marketed for sale. During the nine months ended September 30, 2014, we sold certain loans and REO assets and collected other recoveries generating approximately $51.0 million in cash, net of the amounts financed by us. We also received $5.7 million in mortgage loan paydowns during the nine months ended September 30, 2014.
 
In connection with the NW Capital loan, we entered into a cash management agreement with the lender under which the amount of discretionary funds available to us is limited to the following 90 days of budgeted operating cash, which is funded on a monthly basis, subject to NW Capital approval and release. The balance of all remaining cash (including the balance of loan proceeds and any and all proceeds received from operations, loan payments, asset sales or other cash generating events) is collected and maintained in a trust account as collateral under the loan for the benefit of NW Capital (the "Collateral Account"). Subsequent to September 30, 2014, we secured a construction loan in the amount of $24.0 million in connection with the development of a multi-family project, which will require a minimum liquidity balance of $7.5 million upon the first draw of the construction loan (expected to occur in the first quarter of 2015). At September 30, 2014, we had cash and cash equivalents of $3.0 million and restricted cash in the Collateral Account of $10.0 million.
 
While we have been successful in securing financing through September 30, 2014 to provide adequate funding for working capital purposes and have generated liquidity through asset sales and mortgage receivable collections, there is no assurance that we will be successful in selling our remaining loan and REO assets in a timely manner or in obtaining additional or replacement financing, if needed, to sufficiently fund future operations, repay existing debt or to implement our investment strategy. Any sale of a loan or REO asset requires prior approval of NW Capital. Our failure to generate sustainable earning assets, and successfully liquidate a sufficient number of our loans and REO assets, including receiving approval, if required, from our lender of such liquidations, may have a material adverse effect on our business, results of operations and financial position.
 

F-7

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014



NOTE 2 — SIGNIFICANT ACCOUNTING POLICIES
 
Reclassifications
Certain 2013 amounts have been reclassified to conform to the 2014 financial statement presentation. During 2013, the Company completed a conversion to a new accounting system which provides more detailed reporting and greater visibility. As a result of this conversion, we identified various changes in the classifications of certain previously reported income statement amounts and segment information. While these changes had no impact on net loss or basic and diluted net loss per share, there were certain significant reclassifications in the consolidated statement of operations which are summarized below:

During the year ended December 31, 2013, we combined the revenues of our various operating properties into a single line entitled Operating Property Revenue. Accordingly, we reclassified the related 2013 activity to conform to the 2014 presentation;
Similarly, during the year ended December 31, 2013, we created a line item entitled Operating Property Direct Expenses (exclusive of Interest and Depreciation) and reclassified appropriate amounts primarily from Other Operating Expenses for Real Estate Owned to capture those expenses directly attributable to operating properties, thereby segregating incidental costs of ownership of non-operating REO properties with the creation of a line item entitled Expenses for Non-Operating Real Estate Owned.
In addition, we reclassified the presentation of certain other 2013 amounts previously reported in property taxes, professional fees, and general and administrative expenses to conform to the 2014 presentation.

The effects of these reclassifications are presented in the table below:

 
Three Months Ended September 30, 2013
Reclassifications - Statement of Operations - 2013
As Previously
Reported
 
Reclassification
Adjustment
 
As
Reclassified
Rental Income
$
394

 
$
(394
)
 
$

Hospitality and Entertainment Income
5,266

 
(5,266
)
 

Operating Property Revenue

 
5,660

 
5,660

Operating Property Direct Expenses (exclusive of Interest and Depreciation)
4,575

 
329

 
4,904

Property Taxes for REO
284

 
(284
)
 

Other Operating Expenses for REO
259

 
(259
)
 

Expenses for Non-Operating Real Estate Owned

 
410

 
410

Professional Fees
2,173

 
(181
)
 
1,992

General and Administrative Expenses
1,500

 
(15
)
 
1,485


 
Nine Months Ended September 30, 2013
Reclassifications - Statement of Operations - 2013
As Previously
Reported
 
Reclassification
Adjustment
 
As
Reclassified
Rental Income
$
1,205

 
$
(1,205
)
 
$

Hospitality and Entertainment Income
9,860

 
(9,860
)
 

Operating Property Revenue

 
11,065

 
11,065

Operating Property Direct Expenses (exclusive of Interest and Depreciation)
8,570

 
832

 
9,402

Property Taxes for REO
998

 
(998
)
 

Other Operating Expenses for REO
647

 
(647
)
 

Expenses for Non-Operating Real Estate Owned

 
1,336

 
1,336

Professional Fees
5,968

 
(490
)
 
5,478

General and Administrative Expenses
4,234

 
(33
)
 
4,201



Restatement of Previously Issued Consolidated Financial Statements

F-8

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 2 — SIGNIFICANT ACCOUNTING POLICIES – continued

 
Segment Information
As a result of the accounting system conversion described above, we identified misstatements in the classifications of certain previously reported segment information. For income statement items, the adjustments primarily related to the allocation of certain professional fees, interest and general and administrative costs into the proper segments. We have adjusted our segment disclosures for the three and nine months ended September 30, 2013 to reflect the proper comparative amounts in each segment as shown in the table below.
Assessment of Restatements
 
These corrections had no impact on net loss or basic and diluted loss per share for the period ended September 30, 2013. The Company has assessed these misstatements in financial statement presentation and has determined that, on both a qualitative and quantitative basis, the adjustments are immaterial, both individually and in the aggregate, to the consolidated financial statements, and thus, the Company did not and will not amend any of its prior quarterly and annual reports on Form 10-Q and 10-K, and it has adjusted its presentation on a prospective basis. In order to provide consistency in the Company's financial reporting, the September 30, 2013 segment information presented herein has been restated to appropriately reflect the corrections described above. The following tables summarizes the effects of these corrections and reclassifications on the previously filed consolidated financial statements for the three and nine months ended September 30, 2013, which was restated for comparative purposes only (in thousands):


F-9

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 2 — SIGNIFICANT ACCOUNTING POLICIES – continued

 
Three Months Ended September 30, 2013
 
As Previously
Reported
Restatement
Adjustment
Reclassification
Adjustment
As
Restated
Segment Information - Income Statement Items
 
 
 
 
Expenses
 
 
 
 
Expenses Mortgage and REO - Legacy Portfolio and Other Operations
$

$
(1
)
$
1

$

Mortgage and REO - Legacy Portfolio and Other Operations - Operating Property Direct Expense
1,098


(1,098
)

Mortgage and REO - Legacy Portfolio and Other Operations - Expenses for Non-Operating REO


408

408

Mortgage and REO - Legacy Portfolio and Other Operations - Professional Fees


934

934

Mortgage and REO - Legacy Portfolio and Other Operations - General and Administrative


6

6

Mortgage and REO - Legacy Portfolio and Other Operations - Interest
423



423

Mortgage and REO - Legacy Portfolio and Other Operations - Loss on Disposal of Assets


(252
)
(252
)
Mortgage and REO - Legacy Portfolio and Other Operations - Settlement and Related


1

1

Mortgage and REO - Legacy Portfolio and Other Operations - Credit Loss Recoveries
(676
)


(676
)
Total Expenses Mortgage and REO - Legacy Portfolio and Other Operations
845

(1
)

844

 
 
 
 
 
Expenses Commercial Real Estate Leasing Operations

(1
)
1


Commercial Real Estate Leasing Operations - Operating Property Direct Expense
702


(337
)
365

Commercial Real Estate Leasing Operations - Interest
527



527

Commercial Real Estate Leasing Operations - Depreciation and Amortization


336

336

Commercial Real Estate Leasing Operations - Credit Loss Recoveries
(3
)


(3
)
Total Expenses Commercial Real Estate Leasing Operations
1,226

(1
)

1,225

 
 
 
 
 
Expenses Hospitality and Entertainment Operations

2

(2
)

Hospitality and Entertainment Operations - Operating Property Direct Expense
5,131


(592
)
4,539

Hospitality and Entertainment Operations - Interest
846



846

Hospitality and Entertainment Operations - Depreciation and Amortization


594

594

Total Expenses Hospitality and Entertainment Operations
5,977

2


5,979

 
 
 
 

Expenses Corporate and Other




Corporate and Other - Operating Property Direct Expense
3,435


(3,435
)

Corporate and Other - Expenses for Non-Operating REO


2

2

Corporate and Other - Professional Fees


1,058

1,058

Corporate and Other - General and Administrative


1,479

1,479

Corporate and Other - Interest
3,428



3,428

Corporate and Other - Depreciation and Amortization


57

57

Corporate and Other - Settlement and related


839

839

Total Expenses Corporate and Other
$
6,863

$

$

$
6,863



F-10

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 2 — SIGNIFICANT ACCOUNTING POLICIES – continued

 
Nine Months Ended September 30, 2013
 
As Previously
Reported
Restatement
Adjustment
Reclassification
Adjustment
As
Restated
Segment Information - Income Statement Items
 
 
 
 
Expenses
 
 
 
 
Expenses Mortgage and REO - Legacy Portfolio and Other Operations
$

$
(18
)
$
18

$

Mortgage and REO - Legacy Portfolio and Other Operations - Operating Property Direct Expense
2,729


(2,729
)

Mortgage and REO - Legacy Portfolio and Other Operations - Expenses for Non-Operating REO


1,328

1,328

Mortgage and REO - Legacy Portfolio and Other Operations - Professional Fees


2,305

2,305

Mortgage and REO - Legacy Portfolio and Other Operations - General and Administrative


27

27

Mortgage and REO - Legacy Portfolio and Other Operations - Interest
1,359



1,359

Mortgage and REO - Legacy Portfolio and Other Operations - Loss on Disposal of Assets


(957
)
(957
)
Mortgage and REO - Legacy Portfolio and Other Operations - Settlement and Related


8

8

Mortgage and REO - Legacy Portfolio and Other Operations - Credit Loss Recoveries
(8,242
)


(8,242
)
Total Expenses Mortgage and REO - Legacy Portfolio and Other Operations
(4,154
)
(18
)

(4,172
)
 
 
 
 
 
Expenses Commercial Real Estate Leasing Operations




Commercial Real Estate Leasing Operations - Operating Property Direct Expense
2,080


(997
)
1,083

Commercial Real Estate Leasing Operations - Interest
1,275



1,275

Commercial Real Estate Leasing Operations - Depreciation and Amortization


997

997

Commercial Real Estate Leasing Operations - Credit Loss Recoveries
(8
)


(8
)
Total Expenses Commercial Real Estate Leasing Operations
3,347



3,347

 
 
 
 
 
Expenses Hospitality and Entertainment Operations

17

(17
)

Hospitality and Entertainment Operations - Operating Property Direct Expense
9,212


(893
)
8,319

Hospitality and Entertainment Operations - Interest
1,256



1,256

Hospitality and Entertainment Operations - Depreciation and Amortization


910

910

Total Expenses Hospitality and Entertainment Operations
10,468

17


10,485

 
 
 
 
 
Expenses Corporate and Other

1

(1
)

Corporate and Other - Operating Property Direct Expense
9,467


(9,467
)

Corporate and Other - Expenses for Non-Operating REO


8

8

Corporate and Other - Professional Fees


3,173

3,173

Corporate and Other - General and Administrative


4,174

4,174

Corporate and Other - Interest
10,023



10,023

Corporate and Other - Depreciation and Amortization


155

155

Corporate and Other - Loss on disposal of Assets


4

4

Corporate and Other - Settlement and related


1,954

1,954

Total Expenses Corporate and Other
$
19,490

$
1

$

$
19,491


Use of Estimates
 
The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Certain accounting policies involve judgments and uncertainties to such an extent that there is reasonable likelihood that materially different amounts could have been reported under different conditions, or if different assumptions had been used. The Company evaluates its estimates and assumptions on a regular basis. The Company uses historical experience and various other assumptions that are believed to be reasonable under the circumstances to form the basis for making judgments about carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may materially differ from these estimates and assumptions used in preparation of the consolidated financial statements.
 

F-11

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 2 — SIGNIFICANT ACCOUNTING POLICIES – continued

Restricted Cash
 
At September 30, 2014 and December 31, 2013, restricted cash and cash equivalents totaled $10.0 million and $5.8 million, respectively. Restricted cash includes cash items that are legally or contractually restricted as to usage or withdrawal, which include amounts relating to: a) the Collateral Account established pursuant to the terms of NW Capital loan. While the funds in the Collateral Account are not restricted for a specified purpose and are expected to be used to fund on-going operations, capital purchases and investments, the Company's use of funds in that account is subject to NW Capital approval; b) as described in note 7, under the terms of our loan agreement with Canpartners Realty Holding Company IV LLC ("Canpartners"), we were required to maintain a minimum $5.0 million balance of cash and cash equivalents at all times during the term of the loan, which included balances in the Collateral Account, as well as other reserve accounts required under the Canpartners' loan agreement; and c) amounts maintained in escrow accounts for contractually specified purposes. During the nine months ended September 30, 2014, we repaid the CanPartners loan in full thereby removing the restriction specified in b) above. However, as described in note 11, subsequent to September 30, 2014, we secured a construction loan in the amount of $24.0 million in connection with the development of a multi-family project, which will require a minimum liquidity balance of $7.5 million upon the first draw of the construction loan (expected to occur in the first quarter of 2015).

Recent Accounting Pronouncements
 
Changes to GAAP are established by the Financial Accounting Standards Board (“FASB”) in the form of accounting standards updates (“ASUs”) to the FASB’s Accounting Standards Codification (“ASC”). The Company considers the applicability and impact of all ASUs.
 
In July 2013, the FASB issued ASU 2013-11, Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists. This update applies to all entities that have unrecognized tax benefits when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists at the reporting date. An unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, except as follows. To the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date under the tax law of the applicable jurisdiction to settle any additional income taxes that would result from the disallowance of a tax position or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit should be presented in the financial statements as a liability and should not be combined with deferred tax assets. The assessment of whether a deferred tax asset is available is based on the unrecognized tax benefit and deferred tax asset that exist at the reporting date and should be made presuming disallowance of the tax position at the reporting date. The amendments in this update are effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. Early adoption is permitted. The amendments should be applied prospectively to all unrecognized tax benefits that exist at the effective date. Retrospective application is permitted. The adoption of this ASU did not have a material impact on the Company’s financial statements.

Accounting Standard Update No 2014-04, Receivables - Troubled Debt Restructuring by Creditors Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure, was created to provide conformity from when a creditor should be considered to have received physical possession of residential real estate property collateralizing a consumer mortgage so that the asset would be derecognized in the receivable and recognized as real estate property. This updates specifies that an in substance repossession occurs when either the creditor has obtained the legal title to the property after a foreclosure or the borrower has transferred all interest in the property to the creditor through a deed in lieu of foreclosure or similar legal agreement so that at that time the asset should be reclassified from a loan receivable to real estate property. This update also provides that a disclosure of the amount of foreclosed residential real estate property and the recorded investment in consumer mortgage loans collateralized by residential real estate property that is the process of foreclosure must be included in both interim and annual financial reports. This amendment update is effective for periods for fiscal years beginning after December 15, 2014. The adoption of ASU 2014-04 is not expected to have a material impact on our financial condition, liquidity or results of operations.

In April 2014, the FASB issued ASU 2014-08, Reporting Discontinued Operations and Disclosures of Components of an Entity, which changes the criteria for determining which disposals can be presented as discontinued operations and modifies related disclosure requirements. The guidance applies prospectively to new disposals and new classifications of disposal groups as held for sale after the effective date. The standard is required to be adopted by public business entities in annual periods beginning on

F-12

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 2 — SIGNIFICANT ACCOUNTING POLICIES – continued

or after December 15, 2014, and interim periods within those annual periods. We adopted this standard during the period ended September 30, 2014, which did not have a material impact on the Company’s financial statements.

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers: Topic 606 . This update applies to entities that enter into contracts with customers to transfer goods or services or for the transfer of nonfinancial assets, unless those contracts are within the scope of other standards. The guidance in this update supersedes the revenue recognition requirements in Topic 605, Revenue Recognition and most industry-specific guidance. The core principle of the guidance is that an entity should recognize revenue to illustrate the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The new guidance also includes a cohesive set of disclosure requirements that will provide users of financial statements with comprehensive information about the nature, amount, timing, and uncertainty of revenue and cash flows arising from a reporting organization’s contracts with customers. This ASU is effective retrospectively for fiscal years, and interim periods within those years, beginning after December 15, 2016 for public companies. Management is evaluating the effect, if any, on the Company’s financial position and results of operations.

In June 2014, the FASB issued ASU No. 2014-12, Compensation - Stock Compensation (Topic 718):  Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period. ASU 2014-12 requires an entity to treat performance targets that can be met after the requisite service period of a share-based award has ended, as a performance condition that affects vesting. The ASU is effective for interim and annual reporting periods in fiscal years that begin after December 15, 2015. The Company does not expect the adoption of this update to have a material impact on the Company's operating results or financial position.
In August 2014, the FASB issued ASU 2014-15, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern,. ASU 2014-15 introduces an explicit requirement for management to assess and provide certain disclosures if there is substantial doubt about an entity’s ability to continue as a going concern. ASU 2014-15 is effective for the annual period ending after December 15, 2016. The Company does not expect the adoption of ASU 2014-15 to have a material impact on the Company's operating results or financial position.
 



F-13

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014



NOTE 3 — MORTGAGE INVESTMENTS, LOAN PARTICIPATIONS AND LOAN SALES
 
Lending Activities
 
Given the non-performing status of the majority of our loan portfolio and the suspension of significant lending activities, there has been limited loan activity during the nine months ended September 30, 2014. Except for the origination of two loans in the aggregate principal amount of $8.4 million in connection with the financing of a portion of the sale of certain REO assets during 2014, no new loans were originated during the nine months ended September 30, 2014. We originated one loan during the nine months ended September 30, 2013 in the principal amount of $1.1 million in connection with the partial financing of the sale of an REO asset. During the nine months ended September 30, 2014, we received mortgage loan principal payoffs totaling $5.7 million for two of our performing loans.

A roll-forward of loan activity for the nine months ended September 30, 2014 is as follows (in thousands):
 
 
Principal
Outstanding
 
Interest
Receivable
 
Valuation
Allowance
 
Carrying
Value
Balances at December 31, 2013
 
$
30,222

 
$
527

 
$
(18,208
)
 
$
12,541

Additions:
 
 

 
 

 
 

 
 

Principal fundings - cash
 
27

 

 

 
27

Principal fundings - asset sale financing
 
8,400

 

 

 
8,400

Mortgage loans acquired in modification
 
864

 
 
 

 
864

Accrued interest revenue
 
1,689

 
226

 

 
1,915

Reductions:
 
 
 
 
 
 
 
 
Principal and interest repayments
 
(5,681
)
 
(336
)
 

 
(6,017
)
Assets acquired in satisfaction of loan balance
 
(4,020
)
 

 

 
(4,020
)
Foreclosures/transfers to Real Estate Owned
 
(4,917
)
 
(53
)
 
4,449

 
(521
)
Balances at September 30, 2014
 
$
26,584

 
$
364

 
$
(13,759
)
 
$
13,189

 
During the nine months ended September 30, 2014, we modified one loan under the terms of a court-approved order in which the Company accepted, in lieu of cash payment, certain assets with an aggregate estimated fair value of $4.0 million, and established the remaining loan balance principal at $4.0 million. As a result of the modification, (a) the aggregate balance of the assets received and the newly established loan balance exceeded the carrying value of the loan at the time of modification, (b) the interest rate on the loan was increased from 12.0% to 16.25%, and (c) the Company received additional collateral to further secure the remaining loan balance. The modification is deemed to be a "troubled debt restructuring" primarily because the total amount to be collected was below the contractual amount otherwise due under the loan when considering default interest due under the original loan terms (none of which was previously recorded by the Company). The failure to collect the full amount of default interest was deemed to be a concession under applicable accounting guidance. As a result, the fair value of the assets received was treated as a reduction to the recorded investment in the loan and the carrying value was recorded at the remaining net balance of $2.9 million (rather than the contractual balance of $4.0 million). The difference between the remaining net balance and the contractual amount due upon maturity was amortized as an adjustment to yield (i.e., interest income) over the remaining term of the loan which matured on September 30, 2014. Subsequent to September 30, 2014, the borrower defaulted on the loan and the Company commenced enforcement action against the borrower.
As of September 30, 2014, we had eight loans outstanding with an average principal and interest balance of $3.3 million, as compared to $4.4 million for our seven loans at December 31, 2013. Of our eight outstanding loans at September 30, 2014, we had two performing loans with an average outstanding principal and interest balance of $4.2 million and a weighted average interest rate of 7.0%. Of our seven outstanding loans at December 31, 2013, we had two performing loans with an average outstanding principal and interest balance of $2.9 million and a weighted average interest rate of 12.5%. As of September 30, 2014 and December 31, 2013, the valuation allowance represented 51.1% and 59.2%, respectively, of the total outstanding loan principal and interest balances.
 Scheduled Loan Maturities

F-14

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 3 — MORTGAGE INVESTMENTS, LOAN PARTICIPATIONS AND LOAN SALES – continued

 
The outstanding principal and interest balance of mortgage investments, net of the valuation allowance, as of September 30, 2014, have scheduled maturity dates within the next several quarters as follows:
September 30, 2014
(in thousands, except percentage and unit data)
Quarter
 
Outstanding Balance
 
Percent
 
#
Matured
 
$
18,585

 
69.0
%
 
6

Q3 2015
 
7,249

 
26.9
%
 
1

Q1 2017
 
600

 
2.2
%
 

Q1 2020
 
514

 
1.9
%
 
1

Total Principal and Interest
 
26,948

 
100.0
%
 
8

Less: Valuation Allowance
 
(13,759
)
 
 

 
 

Net Carrying Value
 
$
13,189

 
 

 
 


From time to time, we may extend a mortgage loan’s maturity date in the normal course of business. In this regard, we have modified certain loans, extending maturity dates in some cases to two or more years, and it is likely we will modify additional loans in the future in an effort to preserve our collateral. Accordingly, repayment dates of the loans may vary from their currently scheduled maturity date. If the maturity date of a loan is not extended, we classify and report the loan as matured and in default.

Given the non-performing status of the majority of the loan portfolio, we do not expect the payoffs to materialize for our legacy loans, particularly for loans past their respective maturity date. We may find it necessary to foreclose, modify, extend, make protective advances or sell such loans in order to protect our collateral, maximize our return or generate additional liquidity.

Summary of Loans in Default
 
We continue to experience loan defaults due to, among other reasons, loan balances that exceed the value of the underlying collateral and the absence of takeout financing in the marketplace. A summary and roll-forward of activity of loans in default for the nine months ended September 30, 2014 is as follows (dollars in thousands):
 
 
Principal
Outstanding
 

Interest
Receivable
 
Valuation
Allowance
 

Carrying
Value
 
# of
Loans
Balances at December 31, 2013
 
$
24,636

 
$
401

 
$
(18,208
)
 
$
6,829

 
5

 
 
 
 
 
 
 
 
 
 
 
Additions:
 
 
 
 
 
 
 
 
 
 
Additional loan fundings
 
27

 

 

 
27

 

Mortgage loans acquired in modification
 
864

 

 

 
864

 
2

Accrued interest revenue
 
1,689

 

 

 
1,689

 

 
 
 
 
 
 
 
 
 
 
 
Reductions :
 
 
 
 
 
 
 
 
 
 
Principal repayments
 
(4
)
 
(37
)
 

 
(41
)
 

Assets acquired in satisfaction of loan balance
 
(4,020
)
 

 

 
(4,020
)
 

Loans removed from default - foreclosure
 
(4,917
)
 
(53
)
 
4,449

 
(521
)
 
(1
)
 
 
 
 
 
 
 
 
 
 
 
Balances at September 30, 2014
 
$
18,275

 
$
311

 
$
(13,759
)
 
$
4,827

 
6


Of the five loans that were in default at December 31, 2013, four remained in default status as of September 30, 2014, one was removed upon foreclosure and transferred to REO. During the nine months ended September 30, 2014, two loans assigned to us in connection with the modification described above were added to loans in default.


F-15

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 3 — MORTGAGE INVESTMENTS, LOAN PARTICIPATIONS AND LOAN SALES – continued

During the nine months ended September 30, 2014, we completed foreclosure on one loan asset and transferred the underlying collateral to REO held for sale. We are exercising enforcement action which could lead to foreclosure or other disposition with respect to the remaining loans in default. However, the completion and/or timing of foreclosure on the remaining loans is dependent on several factors, including applicable states statutes, potential bankruptcy filings by the borrowers, and our ability to negotiate a deed-in-lieu of foreclosure.
 
At September 30, 2014, all loans in default were also in non-accrual status. In addition, as of September 30, 2014 and December 31, 2013, interest receivable recorded on such loans prior to being placed in non-accrual status totaled $0.3 million and $0.4 million for each period, respectively, and is included in mortgage loans held for sale on the accompanying condensed consolidated balance sheet.
As described above, prior to its default, the Company had one loan modification during the nine months ended September 30, 2014 and amortized the difference between the net loan balance and the contractual amount due upon maturity as an adjustment to yield (i.e., interest income) over the remaining term of the loan which matured on September 30, 2014. No interest income was recognized on any other non-accrual loans on a cash or accrual basis during the periods ended September 30, 2014 or 2013. Borrower concentrations, geographic concentrations of our loan portfolio, related loan classifications and end-user categories have not materially changed since December 31, 2013.

F-16

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014



NOTE 4 — OPERATING PROPERTIES AND REAL ESTATE HELD FOR DEVELOPMENT OR SALE
 
Operating properties and REO assets consist primarily of properties acquired as a result of foreclosure or purchase and were initially recorded at the lower of cost or fair value, less estimated costs to sell the property. Our fair value assessment procedures are more fully described in note 6. At September 30, 2014, we held total operating properties and REO assets of $166.3 million, of which $7.6 million were held for development, $75.0 million were held for sale, and $83.8 million were held as operating properties. At December 31, 2013, we held total operating properties and REO assets of $202.5 million, of which $12.3 million were held for development, $86.6 million were held for sale, and $103.7 million were held as operating properties. A roll-forward of REO activity from December 31, 2013 to September 30, 2014 is as follows (dollars in thousands):
 
 
 
Operating
Properties
 
# of
Projects
 
Held for
Development
 
# of
Projects
 
Held for
Sale
 
# of
Projects
 
Total Net
Carrying Value
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balances at December 31, 2013
 
$
103,683

 
4

 
$
12,262

 
7

 
$
86,562

 
31

 
$
202,507

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Additions:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net principal carrying value of loans foreclosed
 

 

 

 

 
521

 
1

 
521

Capital costs/ additions
 
481

 

 
672

 

 
11,515

 
2

 
12,668

REO acquired in satisfaction of loan
 

 

 

 

 
3,290

 
4

 
3,290

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Reductions :
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cost of properties sold
 

 

 
(44
)
 


 
(45,124
)
 
(13
)
 
(45,168
)
Assets Surrendered in Trustee Sale
 

 

 
(4,838
)
 
(1
)
 

 

 
(4,838
)
Depreciation and amortization
 
(2,644
)
 

 

 

 

 

 
(2,644
)
Transfers, net
 
(17,737
)
 
(1
)
 
(449
)
 
(3
)
 
18,186

 
4

 

Balances at September 30, 2014
 
$
83,783

 
3

 
$
7,603

 
3

 
$
74,950

 
29

 
$
166,336

 
Operating properties includes depreciable building and improvements, furniture, fixtures and equipment, and tenant improvements with balances totaling $41.8 million, net of accumulated depreciation and amortization of $3.5 million. In addition, REO held for sale includes certain balances of previously depreciable building and improvements, furniture, fixtures and equipment, and tenant improvements with balances totaling $15.8 million, net of accumulated depreciation and amortization of $6.8 million, which was recorded prior to such assets being classified as held for sale.

The nature and extent of future capitalized costs for REO held for development depends on the level of development undertaken, the number of additional foreclosures and other factors. While our assets are generally available for sale, we continue to evaluate various alternatives for the ultimate disposition of these investments, including partial or complete development of the properties prior to sale or disposal of the properties on an as-is basis.

During the nine months ended September 30, 2014, we executed a series of transactions to acquire through purchase certain residential land in a master planned community that was located contiguous to other parcels previously acquired by the Company through foreclosure. The combined cost basis of the newly acquired parcels totaled $9.4 million. Shortly after the purchase of these assets, we sold the entire aggregation of the five new and previously owned parcels to a homebuilder for a net sales price of $19.0 million and realized a net gain of $5.6 million. In addition, during the nine months ended September 30, 2014, we sold twelve other REO assets (or portions thereof) for $40.4 million (net of selling costs), of which we financed $8.4 million, resulting in a net gain of $8.7 million. Also, as described in note 7, during nine months ended September 30, 2014, we surrendered certain REO assets with a carrying value of 4.8 million in satisfaction of related liabilities totaling $8.1 million, resulting in a gain on disposal of $3.3 million. In total, during the three months ended September 30, 2014, we sold or otherwise disposed of four REO assets (or portions thereof) for $11.3 million (net of selling costs) and an $8.1 million debt reduction, resulting in a total net gain of $5.6 million. During the nine months ended September 30, 2013, we sold six REO assets (or portions thereof) for $7.6 million (net of selling costs), of which we financed $1.1 million, for a net gain of $1.0 million.


F-17

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 4 — OPERATING PROPERTIES AND REAL ESTATE HELD FOR DEVELOPMENT OR SALE – continued

In addition, during the nine months ended September 30, 2014, we transferred one REO asset that was previously held for sale to REO held for development based on management’s plan to develop the property as a multi-family residential project. We also transferred certain REO assets that were previously held for development to REO held for sale based on a contract with a homebuilder to take down certain residential lots. During the nine months ended September 30, 2014, we also entered into a contract to sell a commercial office building previously accounted for as an operating property, which is now classified as REO held for sale. Aside from these reclassifications, there were no material changes with respect to REO classifications or planned development during the nine months ended September 30, 2014 other than as a result of REO asset sales.
 


F-18

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014



NOTE 5 - GUARANTEE ON SENIOR SECURED INDEBTEDNESS
In connection with the sale of our preferred equity investment in a joint venture to the holder of the other primary interests in the joint venture during the fourth quarter of 2013, the Company agreed to continue to serve as a limited guarantor on the senior indebtedness of the joint venture that is secured by the acquired operating properties and for which we are entitled to receive certain remuneration until we are released from the limited guarantee. We have agreed to remain as a limited guarantor until the earlier of 1) the borrower's identification of a suitable substitute guarantor, the approval thereof by the senior lender, and our release from the guarantee, or 2) repayment of the senior indebtedness which matures on February 28, 2017. As consideration for its limited guarantee, the Company received quarterly payments of $0.3 million on each of December 1, 2013 and March 31, 2014, and $0.5 million on June 30, 2014, and is contractually entitled to receive additional payments of $0.5 million of the last day of each subsequent quarter until the guarantee is released. We received a payment of $0.2 million during the quarter ended September 30, 2014, and an additional $0.4 million subsequent to September 30, 2014. Such payments are considered earned when received. In the event of the borrower's default, the Company’s maximum obligation under the guarantee is limited to the amount of any shortfall between the sales price of the underlying collateral assets and the net payoff of the senior loan, if any. The Company's obligation under this guarantee is further limited to the extent, and only in the event that the borrower commits certain "bad acts" as defined in the guarantee, including, but not limited to, filing for bankruptcy, fraud, misrepresentation or theft. In the event of default by the borrower or occurrence of one or more of these bad acts, the Company has multiple remedies, including foreclosing on the membership interests in the entities that own the operating assets that serve as collateral under the senior indebtedness. During the three months ended September 30, 2014, the borrower performed certain acts which allegedly gave rise to a non-financial default under the senior loan agreement, as well as violations under our agreement with the borrower. While the senior lender has issued a notice of default to the borrower regarding the alleged default, the senior lender has not made a claim against us under our guarantee. We have commenced enforcement action against the borrower which could ultimately result in foreclosing the membership interests in the entities that own the operating assets. While the borrower is taking certain actions to address these violations, we are continuing to monitor this situation in order to protect our position. The principal balance of the senior indebtedness as of September 30, 2014 was approximately $90.1 million. Management believes the estimated fair value of the underlying collateral, which consists of 11 operating multifamily properties with an average occupancy of approximately 77.8% (unaudited), exceeds this principal balance. The net operating cash flows of these properties have, to date, been sufficient to cover debt service payments required under the loan which are collected through a lockbox. As a result, we have not recorded any liability related to our limited guarantee because we believe there is a remote likelihood of any liability to us given these factors; however, in the event of a claim against our limited guarantee, there could be a material adverse impact on the Company.

NOTE 6 — FAIR VALUE
 
Valuation Allowance and Fair Value Measurement of Loans and Real Estate Held for Sale

Our valuation analysis processes and procedures are disclosed in our previously filed Annual Report on Form 10-K for the fiscal year ended December 31, 2013.  We perform a valuation analysis of our loans, REO held for sale and derivative investments not less frequently than on a quarterly basis. We consider all relevant circumstances to determine if, and the extent to which, a valuation allowance is required.

Impairment for our collateral dependent loans is measured at the balance sheet date based on the then fair value of the collateral in relation to contractual amounts due under the terms of the applicable loan if foreclosure is probable. Substantially all of our loans are deemed to be collateral dependent.
  
Similarly, REO assets that are classified as held for sale are measured at the lower of carrying amount or fair value, less estimated cost to sell. REO assets that are classified as operating properties or held for development are considered “held and used” and are evaluated for impairment when circumstances indicate that the carrying amount exceeds the sum of the undiscounted net cash flows expected to result from the development and eventual disposition of the asset. If an asset is considered impaired, an impairment loss is recognized equal to the difference between the asset’s carrying amount and its fair value, less estimated cost to sell. If we elect to change the disposition strategy for our real estate held for development, and such assets were deemed to be held for sale, we may record additional impairment charges, and the amounts could be significant. See our consolidated audited financial statements in our previously filed Annual Report on Form 10-K for the year ended December 31, 2013 for a detailed description of the procedures performed and assumptions utilized in connection with our impairment analysis of real estate owned assets as of and for the year ended December 31, 2013.

F-19

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 6 — FAIR VALUE – continued

 
We assess the extent, reliability and quality of market participant inputs such as sales pricing, cost data, absorption, discount rates, and other assumptions, as well as the significance of such assumptions in deriving the valuation. We generally employ one of five valuation approaches, or a combination of such approaches, in determining the fair value of the underlying collateral of each loan: the development approach, the income capitalization approach, the sales comparison approach, the cost approach, or the receipt of recent offers or executed purchase and sales agreements on specific properties.
 
For projects in which we have received a bona fide written third-party offer (or have executed a purchase and sale agreement) to buy our real estate or loan, or we or the borrower has received a bona fide written third-party offer (or has executed a purchase and sale agreement) to buy the related project, we generally utilize the offer or agreement amount in cases in which such amount may fall outside our current valuation range. Such offers or agreements are only considered if we deem it to be valid, reasonable, negotiable, and we believe the counterparty has the financial wherewithal to execute the transaction. When deemed appropriate, the offers received are discounted to allow for potential changes in our on-going negotiations.
 
Factors Affecting Valuation
 
The underlying collateral of our loans and our REO varies by stage of completion, which consists of either raw land (also referred to as pre-entitled land), entitled land, partially developed, or mostly developed/completed lots or projects. Historically, for purposes of determining whether a valuation allowance was required, we primarily utilized a modeling technique utilizing the development approach, known as residual analysis commonly used in the lending industry, which is based on the assumption that development of our collateral was the highest and best use of the property.
 
We engage outside independent third-party valuation firms on a periodic, as-needed basis to provide complete valuation reports for certain of our larger loans and REO assets. In recent periods, we noted indications that a stabilizing trend in real estate market values began to unfold and, in certain circumstances, improved in certain markets. As a result, we have recently reduced the extent to which we utilize outside independent third-party valuation firms to assist with our analysis of fair value of the collateral supporting our loans and REO. As such, we currently rely largely on our internal asset management staff and certain other third party consultants to gather available market participant data from independent sources to update assumptions used to derive fair value of the collateral supporting our loans and REO assets not subject to third party valuation.

Our fair value measurement is based on the highest and best use of each property which is generally consistent with our current use for each property subject to valuation. In addition, our assumptions are established based on assumptions that we believe market participants for those assets would also use. During the period ended September 30, 2014, we performed both a macro analysis of market trends and economic estimates, as well as a detailed analysis on selected significant loan and REO assets.

The following is a summary of the procedures performed in connection with our fair value analysis as of and for the period ended September 30, 2014:

1.
We reviewed the status of each of our loans to ascertain the likelihood that we will collect all amounts due under the terms of the loans at maturity based on current real estate and credit market conditions.

2.
We reviewed the status of each of our REO assets to determine whether such assets continue to be properly classified as held for sale, held for development or as operating properties as of the reporting date.

3.
For the period ended September 30, 2014, given the lack of significant change in overall general market conditions since December 31, 2013, we performed an internal analysis to evaluate fair value of our portfolio. Our internal analysis of fair value included a review and update of current market participant activity, overall market conditions, the current status of the project, our direct knowledge of local market activity affecting the project, as well as other market indicators obtained through our asset management group and various third parties to determine whether there were any indications of a material increase or decrease in the value of the underlying collateral or REO asset since the last complete third party valuation for such asset. Our asset-specific analysis focused on the higher valued assets of our loan collateral and REO portfolio. We considered the results of our analysis and the potential valuation implication to the balance of the portfolio based on similar asset types and geographic location.


F-20

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 6 — FAIR VALUE – continued

4.
In certain instances, we engaged outside independent third party valuation firms to provide updated valuation reports for REO assets, primarily those recently obtained in foreclosure or by deed-in-lieu of foreclosure.

5.
In addition, in those instances where we have received a bona fide written third-party offer to buy our loans or REO assets (or have executed a purchase and sale agreement), or the borrower has received a bona fide written third-party offer to buy the related project (or has executed a purchase and sale agreement), we generally utilized the purchase price in such offer or agreement when that amount was outside our current valuation range. Such offers or agreements are only considered if we deem it to be valid, reasonable and negotiable, and we believe the counterparty has the financial wherewithal to execute the transaction.

Based on our analysis, the valuation approach taken and assumptions utilized with respect to each asset at December 31, 2013 remained generally applicable at September 30, 2014, except for those assets subject to a recent bona fide written third-party offer or executed purchase and sales agreements to buy our loan or REO asset. See our previously filed Annual Report on Form 10-K for the fiscal year ended December 31, 2013 for a summary of the key assumptions and valuation methodologies utilized to derive fair value.

Selection of Single Best Estimate of Value
 
As previously described, we have historically obtained periodic valuation reports from third-party valuation specialists, consultants and/or from our internal asset management department for the underlying collateral of our loans and REO held for sale. The results of our valuation efforts generally provide a range of values for the collateral valued rather than a single point estimate because of variances in the potential value indicated from the available sources of market participant information. The selection of a value from within a range of values depends upon general overall market conditions as well as specific market conditions for each property valued and its stage of entitlement or development. In addition to third-party valuation reports, we utilize recently received bona fide purchase offers from independent third-party market participants or executed purchase and sale agreements that may be outside of the range of values indicated by the report from the third-party valuation specialist. In selecting the single best estimate of value, we consider the information in the valuation reports, credible purchase offers received and agreements executed, as well as multiple observable and unobservable inputs.

Valuation Conclusions

Based on the results of our evaluation and analysis, during the three and nine months ended September 30, 2014, we recorded no non-cash provision for credit losses on our loan portfolio. We recorded other net recoveries of credit losses of $0.5 million and $0.7 million during the three and nine months ended September 30, 2014, respectively, relating to the collection of cash and other assets from guarantors on certain legacy loans. We recorded no impairment of real estate owned during the three and nine months ended September 30, 2014.

We recorded no provision for credit losses on our loan portfolio during the three months ended September 30, 2013 and we recorded non-cash recoveries of credit losses on our loan portfolio in the amount of $7.0 million during the nine months ended September 30, 2013 arising from our hotel operations and residential lots acquired through foreclosure in the second quarter of 2013. During the three and nine months ended September 30, 2013, we also recorded net cash and asset recoveries of $0.7 million and $1.5 million, respectively, arising from the collection of cash and other assets from guarantors on certain legacy loans. We recorded no impairment of real estate owned during the three or nine months ended September 30, 2013.

As of September 30, 2014 and December 31, 2013, the valuation allowance totaled $13.8 million and $18.2 million, respectively, representing 51.1% and 59.2%, respectively, of the total outstanding loan principal and accrued interest balances. Based on the valuation and impairment allowance recorded as of September 30, 2014, we believe that, as of that date, the fair value of our loans and REO assets held for sale is adequate in relation to the net carrying value of the related assets and that no additional valuation allowance or impairment is considered necessary. While the above results reflect management’s assessment of fair value as of September 30, 2014 based on currently available data, we will continue to evaluate our loan and REO portfolio to determine the adequacy and appropriateness of the valuation allowance and/or impairment balances. Depending on market conditions, such updates may yield materially different values and potentially increase or decrease the valuation allowance for loans or impairment charges for REO assets.
 

F-21

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 6 — FAIR VALUE – continued

Valuation Categories
 
There were no losses recorded during the three or nine months ended September 30, 2014 or 2013 in the categories for which net mortgage loans and REO held for sale were measured at fair value on a non-recurring basis based upon the lowest level of significant input to the valuation as of September 30, 2014 or 2013.

Additionally, there were no other assets that were measured at fair value using Level 1 or Level 2 inputs for which any losses were recorded during the three or nine months ended September 30, 2014 or 2013. Generally, all of our mortgage loans and REO held for sale are valued using significant unobservable inputs (Level 3) obtained through updated analysis prepared by our asset management staff, except for such assets for which third party offers or executed purchase and sale agreements were used, which are considered Level 2 inputs. Changes in the use of Level 3 valuations are based solely on whether we utilized third party offers for valuation purposes.

Fair Value Measurement of Equity Securities
 
As described elsewhere in this Form 10-Q, during the three and nine months ended September 30, 2014, we issued certain redeemable preferred convertible stock, repurchased certain common stock and issued certain common stock warrants in connection with the restructure of the NW Capital convertible debt and other transactions described elsewhere in this Form 10-Q. In order to estimate the fair value of the securities subject to these transactions pursuant to applicable accounting standards, we utilized the transaction price as negotiated with unrelated third-parties, along with other information provided by an independent third-party valuation firm incorporating financial and other information, including prospective financial information, provided by us, as well as information obtained from various public, financial, and industry sources. Based on this analysis, management estimated the fair value of the equity securities issued or granted in connection with transaction completed July 24, 2014 as follows:
Subject Securities
 
Estimated Fair Value per Share
Preferred Stock
 
3.22
Common Stock
 
1.72
ITH Warrants
 
1.19
Juniper Warrants
 
1.14
Options to former CEO
 
1.19

Stock-based compensation expense for stock-based awards granted is based on the grant date fair value. For stock option and warrant awards, the fair value was estimated at the date of grant using the Black-Scholes option-pricing model based on the exercise price of the award and other assumptions relating to expected dividend yield, expected stock price volatility, risk-free interest rate, and expected life of options granted which are as follows:

Expected stock price volatility
 
79%
Risk-free interest rate
 
2%
Expected life of options/warrants
 
5 years
Expected dividend yield
 
—%
Discount for lack of marketability
 
35%



F-22

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014



NOTE 7 — DEBT, NOTES PAYABLE AND SPECIAL ASSESSMENT OBLIGATIONS

A roll-forward of notes payable and related obligations from December 31, 2013 to September 30, 2014 is as follows (in thousands):
 
 
Convertible
 
 
 
 Special
 
 
 
 
Notes Payable
 
Notes
 
Assessment
 
 
 
 
and Exit Fee
 
Payable
 
Obligations
 
Totals
 
 
 
 
 
 
 
 
 
Balances at December 31, 2013
 
$
65,423

 
$
46,043

 
$
5,339

 
$
116,805

 
 
 
 
 
 
 
 
 
Additions:
 
 
 
 
 
 
 
 
Removal/reclassification of convertible debt
 
(45,000
)
 
45,000

 

 

Rights Offering
 
97

 

 

 
97

Exchange Offering
 

 
6,389

 

 
6,389

Note additions
 

 
7,875

 

 
7,875

Deferred Interest
 
1,735

 
188

 

 
1,923

Accretion of discount
 
1,194

 
231

 

 
1,425

Other Additions
 

 
688

 

 
688

Reductions:
 
 
 
 
 
 
 

Conversion of Debt to Preferred
 
(7,800
)
 
 
 
 
 
(7,800
)
Repayments
 
(15,552
)
 
(18,719
)
 
(282
)
 
(34,553
)
Rights Offering redemption
 
(97
)
 

 

 
(97
)
Debt Relieved through Trustee Sale
 
 
 
(5,220
)
 
 
 
(5,220
)
Other Reductions
 

 
(1,289
)
 

 
(1,289
)
 
 
 
 
 
 
 
 
 
Balances at September 30, 2014
 
$


$
81,186


$
5,057


$
86,243


Interest expense for the three months ended September 30, 2014 and 2013 was $3.5 million and $5.2 million, respectively. Interest expense for the nine months ended September 30, 2014 and 2013 was $13.0 million and $13.9 million, respectively.

Convertible Notes Payable/Exit Fee Payable

As more fully described in our Form 10-K for the year ended December 31, 2013, on June 7, 2011, we entered into and closed funding of a $50.0 million senior secured convertible loan with NW Capital. The loan was originally scheduled to mature on June 6, 2016 and bore contractual interest at a rate of 17% per year. As described below, this loan has been restructured.

The lender, at its sole option, may and did make an annual election to defer a portion of interest due representing 5% of the total accrued interest amount, with the balance of 12% payable in cash. Interest was payable quarterly in arrears each April, July, October and January during the term of the loan. The lender made its election to defer the 5% portion for the years ending December 31, 2014 and 2013. Deferred interest was capitalized and added to the outstanding loan balance on a quarterly basis. Prior to the restructuring of the NW Capital debt as described below, total deferred interest added to the principal balance of the convertible note totaled $12.1 million, of which $1.7 million was added during the nine months ended September 30, 2014.

In addition, we were required to pay an exit fee (“Exit Fee”) upon maturity equal to 15% of the then outstanding principal, unpaid accrued and deferred interest and other amounts owed under the loan agreement. The Exit Fee was considered fully earned under the terms of the loan agreement and was recorded as a liability with an offsetting amount reflected as a discount to the convertible note payable. The Exit Fee and corresponding discount of $10.4 million was estimated assuming the lender elected its annual interest deferral option over the term of the loan. This amount was being amortized to interest expense over the term of the loan using the effective interest method. Prior to the restructuring of the NW Capital debt as described below, the remaining unamortized discount totaled $4.2 million. The amortized discount added to the principal balance of the convertible note during the nine months ended September 30, 2014 and 2013 totaled $1.2 million and $1.5 million, respectively.

F-23

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 7 — DEBT, NOTES PAYABLE AND SPECIAL ASSESSMENT OBLIGATIONS – continued


Debt issuance costs incurred in connection with the NW Capital loan financing were being amortized over the term of the loan using the effective interest method. In connection with the restructure of the NW Capital debt described below, $2.9 million of unamortized debt issuance costs were written off and charged as a component of the debt termination charge. With the contractual interest, and the amortization of the Exit Fee and related deferred financing costs, the effective interest rate under the NW Capital loan was approximately 23%. The loan is severally, but not jointly, guaranteed by substantially all of our existing and future subsidiaries, subject to certain exceptions and releases, and is secured by a security interest in substantially all of our assets. Under the terms of the original loan agreement, the loan could not be prepaid prior to December 7, 2014 and was otherwise subject to substantial prepayment fees and premiums. In the event of any prepayment, we were also required to redeem all of the common shares held by an affiliate of NW Capital at a purchase price equal to the greater of (a) the original purchase price of $8.02 per share and (b) the original purchase price plus 50% of the excess book value over the original purchase price, if any.
 
The loan agreement also contains certain restrictive covenants which require NW Capital’s consent as a condition to our taking certain actions. The restrictive covenants relate to our ability to sell or encumber our assets, issue additional indebtedness, restructure or modify our ownership structure, settle litigation over $10.5 million, enter into new material agreements and certain other operational matters.

Conversion Feature
 
As more fully described in our annual report on Form 10-K for the year ended December 31, 2013, the NW Capital loan was convertible into IMH Financial Corporation Series A preferred stock at any time prior to maturity at an initial conversion rate of 104.3 shares of our Series A preferred stock per $1,000 principal amount of the loan, subject to adjustment. Dividends on the Series A preferred stock were to accrue from the issue date at the rate of 17% of the issue price per year, compounded quarterly in arrears, a portion of which may have, at the election of NW Capital, been payable in additional shares of stock.

If the NW Capital loan was converted into shares of Series A preferred stock, we would have been obligated to redeem all such preferred stock on the fifth anniversary of the loan date (i.e., June 6, 2016) in cash, at a price equal to 115% of the original purchase price, plus all accrued and unpaid dividends (whether or not earned or declared), if any, to and including the date fixed for redemption, without interest. In addition, the Series A preferred stock has certain redemption features in the event of default or the occurrence of certain other events.

NW Capital Loan Restructure
As described in the Current Report on Form 8-K filed on July 29, 2014, on July 24, 2014, the Company entered into a series of agreements and transactions in connection with the partial refinancing and restructuring of the NW Capital loan pursuant to a payoff agreement, as amended (“Payoff Agreement”), the principal terms of which have been described in the Current Report on Form 8-K filed on April 9, 2014. The following summarizes the primary terms of the Payoff Agreement and is qualified in its entirety by reference to the above-referenced Current Reports:
Pursuant to the Payoff Agreement, the Company and NW Capital entered into certain amendments to the NW Capital loan (collectively, the "Modified Loan") the principal terms of which are as follows: (1) the new maturity date is July 22, 2015 (the "Maturity Date"); (2) the conversion rights that had been held by NW Capital to convert the debt into our Series A preferred stock were eliminated; (3) the new principal balance is $45.0 million; (4) interest accrues at 17% per annum, payable by the Company on a quarterly basis; and (5) on October 24, 2014, and no later than every 90 days thereafter until the Maturity Date, the Company is required to make payments equal to the sum of: (x) $5.0 million (which payment will be applied toward the then-outstanding principal and interest due on the Modified Loan); and (y) a fee of one percent (1)% of the then-outstanding principal balance of the Modified Loan. As a result of the material change in loan terms, the NW Capital loan was treated as a termination of the existing loan and issuance of a new loan. Under the Payoff Agreement, a total payment of $81.4 million was made to NW Capital consisting of the $45.0 million Modified Loan, $18.6 million from the issuance of preferred shares and approximately $10.0 million in cash. The Company incurred additional debt termination charges from other costs associated with the transaction, including the issuance of various equity instruments as described in note 9 related directly to the Modified Loan. As a result of the NW Capital debt restructuring, the Company recorded a debt termination charge of $21.7 million during the three and nine months ended September 30, 2014.

F-24

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 7 — DEBT, NOTES PAYABLE AND SPECIAL ASSESSMENT OBLIGATIONS – continued

As described in note 11, subsequent to September 30, 2014, the Company entered into an amendment of the Modified Loan to extend the payment date of the initial $5.0 million principal payment from October 24, 2014 to December 24, 2014.
Rights Offering Convertible Notes

As more fully described in our annual report on Form 10-K for the year ended December 31, 2013, we were required under the terms of a class action settlement to effect an offering to issue up to $10.0 million in senior secured convertible notes to participating accredited shareholders at terms economically equivalent to the NW Capital loan ("Rights Offering"). The Rights Offering was completed on April 28, 2014 and we ultimately issued notes in the aggregate principal amount of $70,000 to participating shareholders. The notes issued under the Rights Offering ("RO Notes") were recorded by the Company at their fair value. Based on the fair value assessment performed, management determined that the estimated fair value of the RO Notes was $97,000 (as compared to the face amount of $70,000) based on the derived fair value and the imputed effective yield of such notes of 7.1% (as compared to the note rate of 17% plus the derived exit fee of $12,000 resulting in an effective rate of approximately 22.3%) as of the offering settlement date. The difference between the fair value of the RO Notes and its actual face amount totaling $26,000 was recorded as a debt premium by the Company. This debt premium and exit fee was being amortized and recorded as a reduction of interest expense using the effective interest method over the term of the RO Notes. During the three months ended September 30, 2014, the Company repurchased and retired all of the outstanding RO Notes.

Exchange Notes

As more fully described in our annual report on Form 10-K for the year ended December 31, 2013, we were required under the terms of the same class action settlement to effect an offering to issue up to $20.0 million in five-year, 4%, unsecured notes to participating shareholders in exchange for common stock held by such shareholders at a price of $8.02 per share ("Exchange Offering"). The Exchange Offering was completed on April 28, 2014 and we ultimately issued Exchange Offering notes ("EO Notes") to participating shareholders with a face value of $10.2 million, which were recorded by the Company at fair value. The estimated fair value of the EO Notes was $6.4 million based on the fair value and the imputed effective yield of such notes of 14.6% (as compared to the note rate of 4%) resulting in a debt discount of the EO Notes of $3.8 million. This amount was recorded as a debt discount on the Company’s financial statements during the nine months ended September 30, 2014, and is being amortized as an adjustment to interest expense using the effective interest method over the term of the EO Notes. The amortized discount added to the principal balance of the EO Notes during the nine months ended September 30, 2014 totaled $0.2. Interest is payable quarterly in arrears each April, July, October, and January during the term of the EO Notes with the initial interest payment due in July 2014. The EO Notes mature on April 28, 2019, and may be prepaid in whole or in part without penalty at the option of the Company. However, subject to certain minimum cash and profitability conditions, the terms of the EO Notes may require a 50% prepayment on April 29, 2018.

Other Notes Payable Activity

As described in note 4, during the nine months ended September 30, 2014, we purchased certain residential land in a master planned community. This property, which was subsequently sold, had an aggregate cost basis of $9.4 million. In connection with the purchase of these properties, we assumed certain notes payable the terms and current disposition of which are as follows:
$1.45 million note bearing annual interest at 5%, secured by the underlying collateral property. This note was repaid in full upon sale of the related property.
$3.25 million note bearing annual interest at 10%, secured by the underlying collateral property. This note was repaid in full upon sale of the related property.
$3.18 million note bearing annual interest at 3%, interest only payable monthly, unsecured, maturing June 5, 2023. This note remained as an outstanding obligation of the Company as of September 30, 2014. As described in note 10, a majority of the note balance is payable to certain entities affiliated with a loan guarantor against whom the Company has obtained a judgment. As a result, the Company has sought court approval to offset this liability against the outstanding judgment, which approval was granted by the court subsequent to September 30, 2014.

During 2013, we assumed a note payable from a bank in connection with a deed-in-lieu of foreclosure that is secured by the related hotel operating properties with a gross asset basis of approximately $81.8 million at September 30, 2014. The note payable had a balance of $24.8 million at September 30, 2014. During the nine months ended September 30, 2014, we negotiated with the lender to extend the original maturity date of the loan from March 28, 2014 to March 28, 2017 and to reduce the loan's annual

F-25

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 7 — DEBT, NOTES PAYABLE AND SPECIAL ASSESSMENT OBLIGATIONS – continued

interest rate of from 12% to 8.0%, with interest only payments due during the first year of the loan, and monthly payments of principal and interest of approximately $0.2 million thereafter until maturity.

During 2013, we secured financing of $10.0 million from CanPartners that was secured by certain REO assets. Prior to its maturity in February 2014, the note payable bore annual interest of 12%, with required monthly payments of interest and the outstanding principal due at maturity. The note matured in February 2014 at which time the balance was repaid in full.

During 2013, we acquired residential property with a fair value of approximately $3.8 million in connection with a judgment we obtained against a former guarantor on certain legacy loans. The residential property was subject to four liens which had sole recourse to the residential property. Such liens aggregated $17.4 million in principal, exclusive of unpaid interest at December 31, 2013. We recorded these liens (one of which was a bank lien for $2.4 million) at their fair value at acquisition, which was determined to approximate the fair value of the related asset which totaled $3.8 million. During the nine months ended September 30, 2014, we purchased two of the liens totaling $15 million from the counterparty for $1.3 million, which approximated the carrying value of such liens. The residential property was sold in June 2014 for a gain of $0.7 million, at which time the bank lien associated with the property was repaid.

In connection with our proposed multifamily housing development in Apple Valley, Minnesota (the "Apple Valley Project"), we entered into, among other agreements, a business subsidy agreement and related loan agreement dated March 29, 2013, as amended on July 10, 2014, with the Apple Valley Economic Development Authority ("EDA"). Under the terms of the business subsidy agreement, the EDA agreed to advance to us up to $1.1 million as a loan, but in no event to exceed the amount received from Dakota County for the statutory penalty and interest on special assessment taxes which were assessed in the tax years 2007 through 2011, and for which we have recorded a liability. The loan bears interest at the rate of 6.0% per annum which accrues until the loan is satisfied or paid in full. If we complete the development project by no later than December 31, 2015, and certain other conditions are satisfied, the EDA is expected to forgive the loan and accrued interest in its entirety. If we do not meet certain specified development goals, the loan and all accrued unpaid interest must be repaid on or before December 31, 2016. In addition, under the EDA loan agreement, we are not allowed to sell, transfer or otherwise convey all or part of the property for a period of five years following completion without the prior written consent of EDA. As of September 30, 2014, the total amount advanced to us under the loan agreement was $0.2 million. Under the terms of the business subsidy agreement, we are required to commence construction by November 2014. As described in note 11, subsequent to September 30, 2014, we secured construction financing in connection with this project and commenced construction activities.

In conjunction with the Apple Valley Project, we also entered into a settlement agreement in June 2012 with the local municipality relating to outstanding past due property taxes, penalties and interest on various parcels totaling $3.7 million and bearing annual interest of 10%. Under the terms of the settlement agreement, we are required to make annual payments over either a five or ten year period, depending on the parcel. The outstanding balance of the settlement obligation totaled $1.2 million and $2.3 million at September 30, 2014 and December 31, 2013, respectively. Subsequent to September 30, 2014, we made an additional principal payment under this settlement agreement of $0.6 million in connection with the construction loan described in note 11.

Under the terms of a settlement agreement in 2010, we executed two promissory notes for certain golf club memberships totaling $5.2 million. The notes were secured by the security interest on the related residential lots, were non-interest bearing and matured on December 31, 2012. Due to the non-interest bearing nature of the loans, in accordance with applicable accounting guidance, we imputed interest on the notes at our then-incremental borrowing rate of 12% per annum and recorded the notes net of the discount. The discount was amortized to interest expense over the term of the notes and was fully amortized as of December 31, 2012. During 2012, we defaulted for strategic reasons on the terms of an agreement related to the loan, which resulted in an acceleration of the maturity date of such debt. During the period ended September 30, 2014, we made no principal payments under the notes and continued to accrue interest at the default rate of 10% per annum. The lender filed a notice of delinquency and a notice of trustee sale was scheduled for June 12, 2012. The subsidiary that owned these assets was placed into bankruptcy which stayed the trustee sale. During 2013, the bankruptcy court rejected our proposed plan of reorganization and lifted the stay on the trustee sale, which we appealed. During the period ended September 30, 2014, the Company reached an agreement with the lender whereby the Company withdrew its appeal and bankruptcy filing to allow the completion of the trustee sale, in exchange for release from any further potential liability. Immediately prior to the trustee sale and as of December 31, 2013, the net principal balance of the notes payable was $5.2 million, and default interest reflected in accrued interest payable totaled $1.5 million and $1.1 million at September 30, 2014 and December 31, 2013, respectively. The notes were secured by certain REO assets that had a carrying value of $4.8 million. At the time of the trustee sale, the carrying value of these assets was less than the collective balance of the loan, accrued interest and various accrued liabilities and fees. As a result of our agreement with the lender, when the lender took

F-26

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 7 — DEBT, NOTES PAYABLE AND SPECIAL ASSESSMENT OBLIGATIONS – continued

title to those assets at the trustee sale, the carrying value of those assets, net of the debt obligation, accrued interest and other liabilities was charged to operations as a gain on disposal of assets in the amount of $3.3 million since that liability was legally defeased by such action.
 
CFD and Special Assessment Obligations

As of September 30, 2014 and December 31, 2013, we recorded obligations arising from our allocated share of certain community facilities district ("CFD") special revenue bonds and special assessments of $5.1 million and $5.3 million, respectively. These obligations are described below.
 
One of the CFD obligations had an outstanding balance of $3.3 million and $3.5 million as of September 30, 2014 and December 31 2013, respectively, and has an amortization period that extends through April 30, 2030, with an annual interest rate ranging from 5% to 6%. This CFD obligation is secured by certain real estate held for sale consisting of 171 acres of unentitled land located in Buckeye, Arizona which had a carrying value of $4.9 million at September 30, 2014.
 
The other CFD obligations are comprised of a series of special assessments that collectively had an outstanding balance of $1.7 million and $1.9 million as of September 30, 2014 and December 31, 2013, respectively. The CFD obligations have amortization periods that extend through 2022, with annual interest rates ranging from 6% to 7.5%. The CFD obligations are secured by certain real estate held for development consisting of 13 acres of unentitled land located in Dakota County, Minnesota which has a carrying value of approximately $6.3 million at September 30, 2014.

We made a principal repayment of $0.3 million under these CFD and special assessment obligations during the nine months ended September 30, 2014. The responsibility for the repayment of these CFD and special assessment obligations rests with the owner of the property and, accordingly, will transfer to the buyer of the related real estate upon sale. Accordingly, if the assets to which these obligations arise from are sold before the full amortization period of such obligations, the Company would be relieved of any further liability since the buyer would assume the remaining obligations. Nevertheless, these CFD obligations are deemed to be obligations of the Company in accordance with GAAP because they are fixed in amount and for a fixed period of time.
 
Our debt, notes payable, CFD and special assessment obligations (including the effect of the refinancing and restructure of the NW Capital loan) have the following scheduled principal payments on maturities as of September 30, 2014 (in thousands):
 
Year
 
Amount
2014
 
$
969

2015
 
48,141

2016
 
4,270

2017
 
19,047

2018
 
422

Thereafter
 
13,394

Total
 
$
86,243


NOTE 8 – SEGMENT INFORMATION
 
Operating segments are defined as components of an enterprise that engage in business activity from which revenues are earned and expenses incurred for which discrete financial information is available that is evaluated regularly by our chief operating decision makers in deciding how to allocate resources and in assessing performance. The Company’s reportable segments are comprised of the following as of September 30, 2014:
 
Mortgage and REO – Legacy Portfolio and Other Operations — Consists of the collection, workout and sale of legacy loans and REO assets, including financing of such asset sales. This also encompasses the carrying costs of such assets and other related expenses. This segment also reflects the carrying value of such assets and the related finance and operating obligations.
 

F-27

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 8 – SEGMENT INFORMATION - continued

Commercial Real Estate Leasing Operations — Consists of rental revenue and tenant recoveries less direct property operating expenses (maintenance and repairs, real estate taxes, management fees, and other operating expenses) and depreciation and amortization. This segment also reflects the carrying value of such assets and the related finance and operating obligations.
 
Hospitality and Entertainment Operations — Consists of revenues less direct operating expenses, depreciation and amortization relating to hotel, golf, spa, and food & beverage operations. This segment also reflects the carrying value of such assets and the related finance and operating obligations.
 
Corporate and Other — Primarily consists of our centralized general and administrative and corporate treasury and deposit gathering activities, and interest expense associated with debt issuances. Corporate and Other also includes reclassifications and eliminations between the reportable operating segments, if any. This segment also reflects the carrying value of such assets and the related finance and operating obligations.
 
The information presented in our reportable segments tables that follow may be based in part on internal allocations, which involve management judgment. Substantially all revenues recorded are from external customers. There is no material intersegment activity.
 
Condensed consolidated financial information for our reportable operating segments as of September 30, 2014 and December 31, 2013 and for the periods ended September 30, 2014 and 2013 is summarized as follows (in thousands):
Balance Sheet Items
 
September 30, 2014
 
December 31, 2013
 
 
 
Total Assets
 
(unaudited)

 
 

Mortgage and REO - Legacy Portfolio and Other Operations
 
$
80,415

 
$
112,073

Commercial Real Estate Leasing Operations
 
19,153

 
21,202

Hospitality and Entertainment Operations
 
86,061

 
87,061

Corporate and Other
 
13,842

 
17,065

Consolidated
 
$
199,471

 
$
237,401

 
 
 
 
 
Notes Payable, Special Assessment Obligations, Capital Leases and Other Long Term Obligations
 
 
 
 
Mortgage and REO - Legacy Portfolio and Other Operations
 
$
9,561

 
$
16,764

Commercial Real Estate Leasing Operations
 

 
10,000

Hospitality and Entertainment Operations
 
25,956

 
25,845

Corporate and Other
 
51,935

 
65,446

Consolidated
 
$
87,452

 
$
118,055

 
 
 
 
 
Operating Liabilities
 
 
 
 
Mortgage and REO - Legacy Portfolio and Other Operations
 
$
2,129

 
$
4,434

Commercial Real Estate Leasing Operations
 
956

 
743

Hospitality and Entertainment Operations
 
3,329

 
2,712

Corporate and Other
 
3,720

 
5,586

Consolidated
 
$
10,134

 
$
13,475


F-28

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 8 – SEGMENT INFORMATION - continued


 
 
 
 
 
 
 
 
 
 
 
Three months ended September 30, 2014 (Unaudited)
Income Statement Items
Mortgage and REO - Legacy Portfolio and Other Operations
 
Commercial Real Estate Leasing Operations
 
Hospitality and Entertainment Operations
 
Corporate and Other
 
Consolidated
Revenues:
 
 
 
 
 
 
 
 
 
Operating property revenue
$

 
$
419

 
$
5,932

 
$

 
$
6,351

Investment and other income
322

 

 

 
2

 
324

Mortgage loan income, net
1,317

 

 

 
4

 
1,321

Total Revenue
1,639

 
419

 
5,932

 
6

 
7,996

Expenses:
 
 
 
 
 
 
 
 
 
Operating Property Direct Expenses (excluding interest and depreciation):
 
 
 
 
 
 
 
 
 
Payroll related expenses

 
11

 
2,275

 

 
2,286

Cost of sales

 

 
731

 

 
731

Property taxes

 
84

 
86

 

 
170

Management fees

 
10

 
348

 

 
358

Other costs

 
258

 
1,769

 

 
2,027

Operating Property Direct Expenses (excluding interest and depreciation)

 
363

 
5,209

 

 
5,572

 
 
 
 
 
 
 
 
 
 
Expenses for Non-Operating Real Estate Owned:
 
 
 
 
 
 
 
 
 
Property taxes
210

 

 

 

 
210

Other costs
267

 

 

 
4

 
271

Expenses for Non-Operating Real Estate Owned
477

 

 

 
4

 
481

 
 
 
 
 
 
 
 
 
 
Professional Fees:
 
 
 
 
 
 
 
 
 
Financial reporting - audit, legal and tax
26

 

 

 
188

 
214

Other legal
461

 

 

 
(115
)
 
346

Asset management
13

 

 

 

 
13

Other costs
10

 

 

 
307

 
317

Professional Fees
510

 

 

 
380

 
890

 
 
 
 
 
 
 
 
 
 
General and Administrative Expenses:
 
 
 
 
 
 
 
 
 
Payroll related expenses

 

 

 
2,860

 
2,860

Insurance expense
1

 

 

 
257

 
258

Rent

 

 

 
53

 
53

Other general and administrative costs
13

 

 

 
398

 
411

General and Administrative Expense
14

 

 

 
3,568

 
3,582

 
 
 
 
 
 
 
 
 
 

F-29

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 8 – SEGMENT INFORMATION - continued

 
 
 
 
 
 
 
 
 
 
Other Expenses:
 
 
 
 
 
 
 
 
 
Interest Expense
288

 

 
533

 
2,633

 
3,454

Debt Termination Charge

 

 

 
21,658

 
21,658

Depreciation and Amortization Expense

 
226

 
519

 
52

 
797

Gain on Disposal of Assets
(5,624
)
 

 

 
(6
)
 
(5,630
)
Recovery of Credit Losses
(151
)
 
(21
)
 

 

 
(172
)
Other Expenses
(5,487
)
 
205

 
1,052

 
24,337

 
20,107

 
 
 
 
 
 
 
 
 
 
Total Expenses
(4,486
)
 
568

 
6,261

 
28,289

 
30,632

 
 
 
 
 
 
 
 
 
 
Net income (loss)
$
6,125

 
$
(149
)
 
$
(329
)
 
$
(28,283
)
 
$
(22,636
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

F-30

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 8 – SEGMENT INFORMATION - continued

 
 
 
 
 
 
 
 
 
 
 
Three months ended September 30, 2013 (Unaudited)
 
(Restated)
 
Mortgage and REO - Legacy Portfolio and Other Operations
 
Commercial Real Estate Leasing Operations
 
Hospitality and Entertainment Operations
 
Corporate and Other
 
Consolidated
Revenues:
 
 
 
 
 
 
 
 
 
Operating property revenue
$

 
$
393

 
$
5,267

 
$

 
$
5,660

Investment and other income
866

 

 

 

 
866

Mortgage loan income, net
201

 
1

 
(1
)
 

 
201

Total Revenue
1,067

 
394

 
5,266

 

 
6,727

 
 
 
 
 
 
 
 
 
 
Expenses:
 
 
 
 
 
 
 
 
 
Operating Property Direct Expenses (excluding interest and depreciation):
 
 
 
 
 
 
 
 
 
Payroll related expenses

 
14

 
1,929

 

 
1,943

Cost of sales

 

 
618

 

 
618

Property taxes

 
81

 
66

 

 
147

Management fees

 
8

 
335

 

 
343

Other costs

 
262

 
1,591

 

 
1,853

Operating Property Expenses (excluding interest and depreciation)

 
365

 
4,539

 

 
4,904

 
 
 
 
 
 
 
 
 
 
Expenses for Non-Operating Real Estate Owned:
 
 
 
 
 
 
 
 
 
Property taxes
138

 

 

 

 
138

Other costs
270

 

 

 
2

 
272

Expenses for Non-Operating Real Estate Owned
408

 

 

 
2

 
410

 
 
 
 
 
 
 
 
 
 
Professional Fees:
 
 
 
 
 
 
 
 
 
Financial reporting - audit, legal and tax
9

 

 

 
174

 
183

Other legal
807

 

 

 
105

 
912

Asset management

 

 

 
375

 
375

Other costs
118

 

 

 
404

 
522

Professional Fees
934

 

 

 
1,058

 
1,992

 
 
 
 
 
 
 
 
 
 
General and Administrative Expenses:
 
 
 
 
 
 
 
 
 
Payroll related expenses

 

 

 
898

 
898

Insurance expense
4

 

 

 
335

 
339

Rent

 

 

 
54

 
54

Other general and administrative costs
2

 

 

 
192

 
194

General and Administrative Expense
6

 

 

 
1,479

 
1,485

 
 
 
 
 
 
 
 
 
 
Other Expenses:
 
 
 
 
 
 
 
 
 
Interest Expense
423

 
527

 
846

 
3,428

 
5,224


F-31

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 8 – SEGMENT INFORMATION - continued

 
 
 
 
 
 
 
 
 
 
Depreciation and Amortization Expense

 
336

 
594

 
57

 
987

Gain on Disposal of Assets
(252
)
 

 

 

 
(252
)
Settlement and Related Costs
1

 

 

 
839

 
840

Recovery of Credit Losses
(676
)
 
(3
)
 

 

 
(679
)
Other Expenses
(504
)
 
860

 
1,440

 
4,324

 
6,120

 
 
 
 
 
 
 
 
 
 
Total Expenses
844

 
1,225

 
5,979

 
6,863

 
14,911

 
 
 
 
 
 
 
 
 
 
Net income (loss)
$
223

 
$
(831
)
 
$
(713
)
 
$
(6,863
)
 
$
(8,184
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

F-32

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 8 – SEGMENT INFORMATION - continued

 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30, 2014 (unaudited)
 
Mortgage and REO - Legacy Portfolio and Other Operations
 
Commercial Real Estate Leasing Operations
 
Hospitality and Entertainment Operations
 
Corporate and Other
 
Consolidated
Revenues:
 
 
 
 
 
 
 
 
 
Operating property revenue
$
8

 
$
1,269

 
$
18,800

 
$

 
$
20,077

Investment and other income
1,209

 

 
1

 
3

 
1,213

Mortgage loan income
2,187

 

 

 
4

 
2,191

Total Revenue
3,404

 
1,269

 
18,801

 
7

 
23,481

 
 
 
 
 
 
 
 
 
 
Expenses:
 
 
 
 
 
 
 
 
 
Operating Property Direct Expenses:
 
 
 
 
 
 
 
 
 
Payroll related expenses

 
37

 
6,518

 

 
6,555

Cost of sales

 

 
2,239

 

 
2,239

Property taxes

 
251

 
257

 

 
508

Management fees

 
29

 
1,184

 

 
1,213

Other costs

 
719

 
5,581

 

 
6,300

Operating Property Expenses (excluding interest and depreciation)

 
1,036

 
15,779

 

 
16,815

 
 
 
 
 
 
 
 
 
 
Expenses for Non-Operating Real Estate Owned:
 
 
 
 
 
 
 
 
 
Property Taxes
693

 

 

 

 
693

Other costs
928

 

 

 
6

 
934

Expenses for Non-Operating Real Estate Owned
1,621

 

 

 
6

 
1,627

 
 
 
 
 
 
 
 
 
 
Professional Fees:
 
 
 
 
 
 
 
 
 
Financial reporting - audit, legal and tax
68

 

 

 
682

 
750

Other legal
2,924

 

 

 
650

 
3,574

Asset management
61

 

 

 
751

 
812

Other costs
67

 

 

 
1,048

 
1,115

Professional Fees
3,120

 

 

 
3,131

 
6,251

 
 
 
 
 
 
 
 
 
 
General and Administrative Expenses:
 
 
 
 
 
 
 
 
 
Payroll related expenses

 

 

 
4,777

 
4,777

Insurance expense
26

 

 

 
841

 
867

Rent

 

 

 
160

 
160

Other general and administrative costs
52

 

 

 
883

 
935

General and Administrative Expense
78

 

 

 
6,661

 
6,739

 
 
 
 
 
 
 
 
 
 
Other Expenses:
 
 
 
 
 
 
 
 
 

F-33

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 8 – SEGMENT INFORMATION - continued

 
 
 
 
 
 
 
 
 
 
Interest Expense
1,150

 
305

 
1,846

 
9,742

 
13,043

Debt Termination Charge

 

 

 
21,658

 
21,658

Depreciation & Amortization Expense

 
905

 
1,738

 
155

 
2,798

Gain on Disposal of Assets
(17,624
)
 

 

 
(6
)
 
(17,630
)
Recovery of Credit Losses
(683
)
 
(37
)
 

 
(1
)
 
(721
)
Other Expenses
(17,157
)
 
1,173

 
3,584

 
31,548

 
19,148

 
 
 
 
 
 
 
 
 
 
Total Expenses
(12,338
)
 
2,209

 
19,363

 
41,346

 
50,580

 
 
 
 
 
 
 
 
 
 
Net income (loss)
$
15,742

 
$
(940
)
 
$
(562
)
 
$
(41,339
)
 
$
(27,099
)
 
 
 
 
 
 
 
 
 
 


F-34

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 8 – SEGMENT INFORMATION - continued


 
Nine months ended September 30, 2013 (Unaudited)
 
(Restated)
 
Mortgage and REO - Legacy Portfolio and Other Operations
 
Commercial Real Estate Leasing Operations
 
Hospitality and Entertainment Operations
 
Corporate and Other
 
Consolidated
Revenues:
 
 
 
 
 
 
 
 
 
Operating property revenue
$
1

 
$
1,204

 
$
9,860

 
$

 
$
11,065

Investment and other income
2,016

 
2

 
4

 
8

 
2,030

Mortgage loan income, net
585

 
(1
)
 

 
1

 
585

Total Revenue
2,602

 
1,205

 
9,864

 
9

 
13,680

 
 
 
 
 
 
 
 
 
 
Expenses:
 
 
 
 
 
 
 
 
 
Operating Property Direct Expenses (excluding interest and depreciation):
 
 
 
 
 
 
 
 
 
Payroll related expenses

 
43

 
2,995

 

 
3,038

Cost of sales

 

 
1,160

 

 
1,160

Property taxes

 
243

 
99

 

 
342

Management fees

 
27

 
993

 

 
1,020

Other costs

 
770

 
3,072

 

 
3,842

Operating Property Expenses (excluding interest and depreciation)

 
1,083

 
8,319

 

 
9,402

 
 
 
 
 
 
 
 
 
 
Expenses for Non-Operating Real Estate Owned:
 
 
 
 
 
 
 
 
 
Property taxes
657

 

 

 

 
657

Other costs
671

 

 

 
8

 
679

Expenses for Non-Operating Real Estate Owned
1,328

 

 

 
8

 
1,336

 
 
 
 
 
 
 
 
 
 
Professional Fees:
 
 
 
 
 
 
 
 
 
Financial reporting - audit, legal and tax
13

 

 

 
574

 
587

Other legal
2,001

 

 

 
273

 
2,274

Asset management

 

 

 
1,125

 
1,125

Other costs
291

 

 

 
1,201

 
1,492

Professional Fees
2,305

 

 

 
3,173

 
5,478

 
 
 
 
 
 
 
 
 
 
General and Administrative Expenses:
 
 
 
 
 
 
 
 
 
Payroll related expenses

 

 

 
2,579

 
2,579

Insurance expense
1

 

 

 
948

 
949

Rent

 

 

 
157

 
157

Other general and administrative costs
26

 

 

 
490

 
516

General and Administrative Expense
27

 

 

 
4,174

 
4,201

 
 
 
 
 
 
 
 
 
 
Other Expenses:
 
 
 
 
 
 
 
 
 

F-35

IMH FINANCIAL CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
 

NOTE 8 – SEGMENT INFORMATION - continued

Interest Expense
1,359

 
1,275

 
1,256

 
10,023

 
13,913

Depreciation and Amortization Expense

 
997

 
910

 
155

 
2,062

(Gain) Loss on Disposal of Assets
(957
)
 

 

 
4

 
(953
)
Settlement and Related Costs
8

 

 

 
1,954

 
1,962

Recovery of Credit Losses
(8,242
)
 
(8
)
 

 

 
(8,250
)
Other Expenses
(7,832
)
 
2,264

 
2,166

 
12,136

 
8,734

 
 
 
 
 
 
 
 
 
 
Total Expenses
(4,172
)
 
3,347

 
10,485

 
19,491

 
29,151

 
 
 
 
 
 
 
 
 
 
Net income (loss)
$
6,774

 
$
(2,142
)
 
$
(621
)
 
$
(19,482
)
 
$
(15,471
)

As described in note 2, due to the conversion to a new accounting system during the year ended December 31, 2013, we identified various changes in the classifications of certain previously reported segment information and have restated certain September 30, 2013 amounts in the foregoing tables.

Disposal of Individually Significant Component

During the period ended September 30, 2014, we entered into an agreement to sell the operating assets that comprise our currently sole commercial real estate leasing operating segment. The transaction is scheduled to close in the fourth quarter of 2014. Accordingly, the related operating assets have been classified as held for sale in the accompanying balance sheet as of September 30, 2014. Based on management's analysis, the sale of this business segment does not require separate discontinued operations financial statement presentation since the disposition of this asset represents neither a strategic shift for the Company, nor will it have a major effect on our operations and financial results. In addition, while the sale of the assets may require partial seller financing, we do not anticipate any significant continuing involvement with the related operations.

As noted in the foregoing tables, the commercial real estate leasing operation segment contributed $0.1 million and $0.8 million in pretax loss for the three months ended September 30, 2014 and 2013, respectively, and $0.9 million and $2.1 million in pretax loss for the nine months ended September 30, 2014 and 2013, respectively.



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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014



NOTE 9 — STOCKHOLDERS’ EQUITY AND EARNINGS PER SHARE

Common Stock

Shares of Common Stock, Class B Common Stock, Class C Common Stock, and Class D Common Stock share proportionately in our earnings and losses attributable to common shareholders. There are no shares of the Class D common stock outstanding as of September 30, 2014. On July 24, 2014, the Company entered into certain agreements to issue 1.1 million shares of restricted common stock which vest over a three year period to certain executives of the Company on January 1, 2015 in connection with their respective employment contracts. While the initial stock issuance will not occur until January 1, 2015, the grant date and the service period commencement date is considered to be July 24, 2014. Accordingly, the value of the restricted stock of $1.9 million will be recorded as compensation expense ratably over the service period. During the period ended September 30, 2014, we recognized compensation expense totaling $0.1 million in connection with the restricted stock grant.

Each independent director on our board of directors also is entitled to receive certain shares of restricted common stock under our 2014 Non-Employee Director Compensation Plan which was approved subsequent to September 30, 2014. As such, no shares were issued to such directors during the period ended September 30, 2014. Aside from the issuance of preferred shares described below, there were no other changes in the classes of stock or in the number of authorized or issued shares during the period ended September 30, 2014.

Redeemable Convertible Preferred Stock
 
During the period ended September 30, 2014, the Company issued a total of 8.2 million shares of the Company’s newly-designated Series B-1 and B-2 Cumulative Convertible Preferred Stock (Series B Preferred Stock) to certain investor groups (collectively, the "Series B Investors") in exchange for $26.4 million (the "Preferred Investment"). Except for certain voting rights, the rights and obligations of the Series B-1 Preferred Stock and Series B-2 Preferred Stock are substantially the same. The Company used the proceeds from the sale of Series B Preferred Stock along with Company-contributed capital to pay down the NW Capital loan and otherwise fulfill certain other obligations described in note 7.

The description below provides a summary of certain material terms of the Series B Preferred Stock, which is qualified in its entirety by reference to the Current Report on Form 8-K filed on July 29, 2014 and the exhibits filed therewith:
Dividends. Dividends on the Series B Preferred Stock are cumulative and accrue from the issue date and compound quarterly at the rate of 8% of the issue price per year, payable quarterly in arrears. Subject to certain dividend rights and restrictions, no dividend may be paid on any capital stock of the Company during any fiscal year unless all accrued dividends on the Series B Preferred Stock have been paid in full, except for dividends on shares of voting Common Stock. In the event that any dividends are declared with respect to the voting Common Stock or any junior ranking securities, the holders of the Series B Preferred Stock are entitled to receive as additional dividends the additional dividend amount. At September 30, 2014, we accrued a Preferred Investment dividend payable of $0.4 million which was paid subsequent to September 30, 2014.

Liquidation Preference. Upon a “deemed liquidation event” of the Company, before any payment or distribution shall be made to or set apart for the holders of any junior ranking securities, the holders of shares of Series B Preferred Stock will be entitled to receive a liquidation preference of 150% of the sum of original issue price plus all accrued and unpaid dividends, subject to other provisions.

Conversion. Each share of Series B Preferred Stock is convertible at any time by any holder thereof into a number of shares of Common Stock initially equal to the sum of the original price per share of Series B Preferred Stock plus all accrued and unpaid dividends, divided by the conversion price then in effect. The initial conversion price is equal to the original price per share of Series B Preferred Stock, subject to adjustment. However, all issued and outstanding shares of Series B Preferred Stock will automatically convert into shares of Common Stock at the conversion price then in effect upon the closing of a sale of shares of Common Stock at a price equal to or greater than 2.25 times the original price per share of the Series B Preferred Stock, subject to adjustment, in a firm commitment underwritten public offering and the listing of the Common Stock on a national securities exchange resulting in at least $75.0 million of gross proceeds.


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NOTE 9 — STOCKHOLDERS’ EQUITY AND EARNINGS PER SHARE – continued

Redemption upon Demand. At any time after July 24, 2019, each holder of Series B Preferred Stock may require the Company to redeem, out of legally available funds, the shares of Series B Preferred Stock held by such holder at the a price (the “Redemption Price”) equal to the greater of (i) 150% of the sum of the original price per share of the Series B Preferred Stock plus all accrued and unpaid dividends or (ii) the sum of the tangible book value of the Company per share of voting Common Stock plus all accrued and unpaid dividends, as of the date of redemption. Based on the initial Preferred Investment of $26.4 million, the Redemption Price would presently be $39.6 million, resulting in a redemption premium of $13.2 million. In accordance with applicable accounting standards, we have elected to amortize the redemption premium using the effective interest method as an imputed dividend over the five year holding term of the preferred stock. During the period ended September 30, 2014, we recorded amortization of the redemption premium of $0.4 million as an imputed dividend.

Voting Rights. Holders of Series B Preferred Stock are entitled to vote on an as-converted basis on all matters on which holders of voting Common Stock are entitled to vote. For so long as each initial purchaser of the Series B Preferred Stock
holds 50% or more of the number of shares of Series B Preferred Stock it was issued on the original issuance date of the Series B Preferred Stock, the holders of such stock, each voting as a single class, are each entitled to vote for the election of one member of the Board of Directors (Series B Directors). In addition, for so long as either of the initial purchaser of the Series B Preferred Stock holds 50% or more of the number of shares of Series B-1 Preferred Stock or Series B-2 Preferred Stock, respectively, issued to such person on the original issuance date of the Series B Preferred Stock, the holders of the Series B-1 Preferred Stock and Series B-2 Preferred Stock, by majority vote of the holders of each such series of Series B Preferred Stock, are entitled to vote for the election of one additional independent member of the Board.

Investment Committee. The Series B Directors, along with the Company’s Chief Executive Officer (if then serving as a director of the Company), serve as members of the Investment Committee of the Company’s board of directors (the "Investment Committee"). The Investment Committee assists the Board of Directors with the evaluation of the Company’s investment policies and strategies.     

Required Liquidation. Under the Certificate of Designation authorizing the Series B Preferred Stock (the “Certificate of Designation”), if at any time we are not in compliance with certain of our obligations to the holders of the Series B Preferred Stock and we fail to pay (i) full dividends on the Series B Preferred Stock for two consecutive fiscal quarters or (ii) the Redemption Price within 180 days following the later of (x) demand therefore resulting from such non-compliance and (y) July 24, 2019, unless a certain percentage of the holders of the Series B Preferred Stock elect otherwise, we will be required to use our best efforts to commence a liquidation of the Company.

Other Restrictive Covenants. The Certificate of Designation also contains certain restrictive covenants, which require the consent of a certain percentage of the holders of the Series B Preferred Stock as a condition to us taking certain actions, including without limitation the following: limit the amount of our operating expense or capital expenditure in excess of budgeted amounts; sell, encumber or otherwise transfer certain assets, unless approved in our annual budget subject to certain exceptions; dissolve, liquidate or consolidate our business; enter into any agreement or plan of merger or consolidation; engage in any business activity not related to the ownership and operation of mortgage loans or real property; hire or terminate certain key personnel or consultants.

Treasury Stock
 
During the nine months ended September 30, 2014, we completed the issuance of certain subordinated unsecured notes payable to participating shareholders in exchange for 1,268,675 shares of Common Stock pursuant to the legal settlement of a shareholder class action lawsuit, and recorded this treasury stock purchase at $4.9 million, representing the estimated fair value of such shares at the date of the transaction. At December 31, 2013, we presented this amount in the accompanying condensed consolidated balance sheet as the fair value of puttable shares pursuant to legal settlement in mezzanine equity, with an offsetting reduction of paid-in capital. The amounts of shares redeemed were recorded in treasury stock when the notes were formally issued and stock acquired in the second quarter of 2014. Also, during the nine months ended September 30, 2014, we completed the purchase of 319,484 shares of Class B Common Stock held by an affiliate of NW Capital at a purchase price of $2.5 million, or $8.02 per share, in connection with the restructure and partial refinancing of the NW Capital note payable described in note 7. We recorded $0.5 million of the total purchase price as treasury stock based on the fair value of the common stock as of the purchase date, and $2.0 million as a component of the debt termination charge in the condensed consolidated statement of operations during the nine months ended September 30, 2014.

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MARCH 31, 2014


NOTE 9 — STOCKHOLDERS’ EQUITY AND EARNINGS PER SHARE – continued


Share-Based Compensation

During the nine months ended September 30, 2014, the Company issued a warrant to an affiliate of one of the Series B Investors to purchase 1.0 million shares of the Company’s common stock at approximately $3.22 per share. The Company also issued a warrant to an affiliate of the Company’s Chief Executive Officer to purchase 1.0 million shares of the Company’s common stock at its fair value as of the date of grant, or $1.72 per share. These warrants, both of which were immediately fully vested upon issuance, were issued in consideration of the recipients' efforts in arranging the Preferred Investment and negotiating the Modified Loan. Accordingly, the fair value of such warrants totaling $2.3 million was recorded as a component of the debt termination charge in the accompanying condensed consolidated statements of operations during the three and nine months ended September 30, 2014.

In addition to these warrants, as of September 30, 2014, there were 766,667 options outstanding, of which 742,222 were vested and 24,444 were non-vested. In connection with the severance agreement we entered into with our former Chief Executive Officer, the exercise price of his 150,000 stock options, which were fully vested as of September 30, 2014, was reduced from $9.58 per share to $1.72 per share, the fair value of the common stock as of the date of the severance agreement. Net stock-based compensation expense relating to these options was $0.2 million and $0.1 million for the three months ended September 30, 2014 and 2013, respectively, and $0.6 million and $0.4 million for the nine months ended September 30, 2014 and 2013, respectively. There were no additional issuances of options during nine months ended September 30, 2014 although there were 20,555 options forfeited during the nine months ended September 30, 2014. We did not receive any cash from option exercises during the three or nine months ended September 30, 2014 or 2013. As of September 30, 2014, there was less than $0.1 million of unrecognized compensation cost related to non-vested stock option compensation arrangements granted under the 2010 Stock Option Plan that is expected to be recognized as a charge to earnings over a weighted-average period of 2.0 years.

Net Loss Per Common Share
 
Basic net loss per common share is computed by dividing net loss available to common shareholders by the weighted average number of common shares outstanding during the period before giving effect to stock options, warrants or convertible securities outstanding, which are considered to be dilutive common stock equivalents. Diluted net loss per common share is calculated based on the weighted average number of common and potentially dilutive shares outstanding during the period after giving effect to convertible preferred stock and stock options.

Due to the losses for the three and nine months ended September 30, 2014 and 2013, basic and diluted loss per common share were the same, as the effect of potentially dilutive securities would have been anti-dilutive. At September 30, 2014, the only potentially dilutive securities, not included in the diluted loss per share calculation, consisted of 2.0 million warrants and 766,667 stock options, and the 8.2 million shares of Series B Preferred Stock, which are ultimately convertible into the same number of shares of our common stock. There were no other potentially dilutive securities as of September 30, 2014.


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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014



NOTE 10 — COMMITMENTS AND CONTINGENCIES
 
Contractual Agreements
 
New World Realty Advisors, LLC
 
As more fully discussed in our annual report on Form 10-K for the year ended December 31, 2013, New World Realty Advisors, LLC (“NWRA”), a former affiliate of NW Capital, was engaged to provide us with certain consulting and advisory services in connection with the development and implementation of an interim recovery and workout plan and long-term strategic growth plan. Effective May 3l, 2014, the Company terminated the consulting agreement with NWRA, although NWRA was entitled to 10% legacy asset performance fee for certain assets which were under contract for sale at the date of termination of the consulting agreement. For the nine months ended September 30, 2014 and 2013, NWRA earned a base consulting fee of approximately $0.8 million and $1.1 million, respectively. NWRA earned legacy asset fees totaling $0.3 million and zero during the three months ended September 30, 2014 and 2013, respectively, and $1.4 million and $0.2 million during the nine months ended September 30, 2014 and 2013, respectively. Legacy asset fees are included as an offset in gain on disposal of assets in the accompanying condensed consolidated statements of operations. NWRA earned an origination fee of $0.2 million during the nine months ended September 30, 2013 which was included in the basis of the asset acquired.

ITH Partners, LLC

As more fully discussed in our annual report on Form 10-K for the year ended December 31, 2013, ITH Partners, LLC (“ITH Partners”) was engaged to provide various consulting services, including: providing assistance in strategic and business development matters, performing diligence and analytical work with respect to our asset portfolio, and assisting in prospective asset purchases and sales. As described in the Current Report on Form 8-K filed on July 29, 2014, effective July 24, 2014, the Company terminated its contract with ITH Partners.

During the three months ended September 30, 2014 and 2013, we incurred consulting fees to ITH Partners of $0.1 million and $0.2 million, respectively, which are included in professional fees in the accompanying condensed consolidated statements of operations. During the nine months ended September 30, 2014 and 2013, we incurred consulting fees of $0.5 million and $0.6 million for each respective period which are included in professional fees in the accompanying condensed consolidated statements of operations. ITH Partners was also entitled to a legacy asset performance fee equal to 3% of the positive difference derived by subtracting (i) 110% of our December 31, 2010 valuation of any asset then owned by us from the (ii) the gross sales proceeds, if any, from sales of that legacy asset (on a legacy asset by asset basis without any offset for losses realized on any individual asset sales). During the three months ended September 30, 2014 and 2013, ITH Partners earned legacy asset fees totaling $0.1 million and $14,000, respectively. During the nine months ended September 30, 2014 and 2013, ITH Partners earned legacy asset fees totaling $0.9 million and $62,000, respectively, a portion of which is included as an offset in gain on disposal of assets and a portion which is included as an offset in recovery of credit losses in the accompanying consolidated statement of operations. In addition, ITH Partners is entitled to certain special payments for assistance in securing debt or equity financing with the fee ranging from .0.75% to 1.0% of the amount raised. During the three and nine month periods ended September 30, 2014 and 2013, ITH Partners earned special payments of $0.3 million for each period. Also, as described in note 9, the Company also issued a warrant to ITH Partners to purchase 1.0 million shares of the Company’s common stock at its fair value as of the date of grant, or $1.72 per share.


JCP Realty Advisors, LLC

As described in the Current Report on Form 8-K filed on July 29, 2014, on July 24, 2014, the Company entered into a Consulting Services Agreement (the “Consulting Agreement”) with JCP Realty Advisors, LLC (“JCP”), an affiliate of one of the Series B Investors, pursuant to which JCP will perform various services for the Company, including, but not limited to, advising the Company with respect to identifying, structuring, and analyzing investment opportunities, including assisting the Company manage and liquidate assets, including non-performing assets. The initial term of the Consulting Agreement is 3 years and is automatically renewable for an additional 2 years unless notice of termination is provided.

Fees consist of an annual base consulting fee of $0.6 million (subject to possible upward adjustment based on annual review by our board of directors) during the term of the Consulting Agreement. In addition to the annual base consulting fee, JCP may be

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014


NOTE 10 — COMMITMENTS AND CONTINGENCIES - continued

entitled to certain fees in connection with loans made by the Company or its affiliates to persons or opportunities arising through the efforts of JCP. JCP is also entitled to payments derived from the disposition of certain assets held by the Company as of December 31, 2010, at an amount equal to 5.5% of the positive difference derived by subtracting (i) 110% of our December 31, 2010 valuation mark of that asset then owned by us from the (ii) the gross sales proceeds, if any, from sales of that asset (on a legacy asset by asset basis without any offset for losses realized on any individual asset sales). During the period ended September 30, 2014, JCP earned base consulting fees of $0.1 million and no legacy fees.

The foregoing summary is qualified in its entirety by reference to the above-referenced Current Report.

Development Services Agreements

During 2012, we entered into two development services agreements with Titan Investments, LLC ("Titan"), a third party developer, to manage the development of certain existing real estate we own. As described below, one of these agreements was terminated in January 2014. The other agreement, which was amended and extended in April 2014, relates to a planned multi-family residential housing and retail development located in the Minneapolis suburb of Apple Valley to be known as Parkside Village (the “Apple Valley Project”). The aggregate carrying value of our land assets pertaining to the Apple Valley Project totaled $5.8 million at September 30, 2014, and the estimated project development costs for Phase 1 of this project, consisting of a 196-unit multi-family residential housing development known as Gabella ("Gabella"), are expected to total $35.5 million. As described in note 11, subsequent to September 30, 2014, we secured construction financing in the amount of $24.0 million and entered into a joint venture with an affiliate of Titan to commence construction. We may seek to obtain other joint venture partners for this project to help meet minimum equity requirements under the construction loan agreement.

The second project related to a planned 600-bed student housing complex located in Tempe, Arizona. During the nine months ended September 30, 2014, management elected to sell the Tempe, Arizona property at an amount in excess of our basis of $6.4 million, which resulted in the termination of our development services agreement with Titan for this project.
 
Under terms of the original development services agreement relating to the Apple Valley Project, Titan was entitled to a predevelopment services fee not to exceed $0.2 million, as well as a development services fee equal to 3.0% of the total project cost, less an agreed-upon land basis of $3.0 million, as well as a post-development services fee. The amended development services agreement provides for an additional $160,000 of predevelopment fees to be paid. The post development services fee will consist of a profit participation upon sale of the Apple Valley Project ranging from 7% to 10% of the profit, depending on the amount and timing of the project’s completion and sale. Alternatively, not earlier than 15 months following the achievement of 90% occupancy for the project, Titan may elect to cause us to buy out its interest in the project. If the developer makes such an election, the post development services fee will be based on the fair market value of the project at the time of the election. The agreement is in effect until the fifth anniversary of the substantial completion of the project, as defined. If we elect not to proceed with the project prior to our acceptance of the development authorization notice, the agreement is cancelable by us with 30 day notice by us, subject to full payment of the predevelopment services fee, a $0.5 million breakage fee, and any budgeted and approved costs incurred. Titan was paid $40,000 and $120,000 during the three and nine months ended September 30, 2014, respectively under the terms of the development services agreement.
 
In connection with the Apple Valley Project, during the year ended December 31, 2013, we entered into a development agreement, development assistance agreement, a business subsidy agreement and other related agreements with the City of Apple Valley and related entities, the majority of which were amended in 2014. Under these agreements, we are required to commence construction by November 2014 and are subject to completion of the projects by May 2016 and other requirements. We expect to receive up to $3.2 million in tax increment financing over an extended period as well as a business subsidy totaling $1.1 million, of which we have received $0.2 million as of September 30, 2014 (as described in note 7).

In addition, during 2012, we entered into an agreement with a large Arizona homebuilder to purchase from us and develop certain residential lots in a lot take-down program over a period of five years beginning in 2013. The agreement specifies that the purchase price of each lot shall be comprised of a basic purchase price, a premium amount and a profit participation, as applicable. The fair value of the residential lots exceeds the aggregate carrying value of those assets ($6.0 million) as of September 30, 2014. The builder purchased three lots from us during the nine months ended September 30, 2014, and purchased an additional lot subsequent to September 30, 2014. If the builder does not take down the lots within the scheduled timeframe specified in the agreement, the exclusive option to purchase such lots terminates.
 

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SEPTEMBER 30, 2014


NOTE 10 — COMMITMENTS AND CONTINGENCIES - continued

Strategic Actions Taken Relating to REO Assets
 
In connection with our foreclosure on loans and our related acquisition of the underlying real estate assets collateral, we often inherit property subject to numerous liens and encumbrances. These liens and encumbrances may include liens securing indebtedness senior to our lien, property tax liens, liens securing special assessment or community facilities revenue bonds, liens securing HOA or community recreation club or golf assessments and dues, as well as customary covenants, conditions, restrictions and utility and other easements. Oftentimes the real estate assets we acquired through foreclosure are in a distressed state and in those cases we actively work to stabilize the asset, resolve disputes among different lienholders and creditors and protect our interest in the asset.

As part of this process and with the intention of protecting or enhancing our interest in our loan and REO assets, we may, for strategic reasons, take actions, or fail to take actions, that result in a default of obligations relating to the property, some of which obligations may have a security or collateral interest in the subject real estate property. In some cases, we may be directly liable for certain of these obligations. These actions (or inactions) are intended to protect or enhance our interest in the property and in many cases relate to obligations that were incurred prior to our acquisition of the property and often relate to disputes among the various stakeholders, including the Company, regarding the amount, timing or priority of the obligations and the appropriate resolution of the various stakeholders' claims, which in many cases will result in less than a full recovery for some or all stakeholders given the distressed state of many of our REO properties. In conjunction with this strategy, as discussed in note 7, we previously placed one of our single asset subsidiaries into bankruptcy to address debt related matters associated with the subsidiary’s assets which had a carrying value of $4.8 million. This bankruptcy claim was denied in 2013 and after various appeals, we elected to withdraw our appeals during the period ended September 30, 2014 to allow for completion of the trustee sale to proceed at which time the assets were relinquished to satisfy the related liabilities, which exceeded the asset balance. As a result of this action, when the lender took title to those assets at the trustee sale, the carrying value of those assets, net of the debt obligation, accrued interest and other liabilities was charged to operations as a gain on disposal of assets in the amount of $3.3 million during the period ended September 30, 2014. In addition, since these actions (or inactions) may constitute events of default under the NW Capital loan, we have obtained and will seek to obtain a waiver in the future from NW Capital, if necessary. The Company believes that it could, if it elected to do so, settle or cure its defaults and we do not believe the losses or costs relating to any such actions would have a material adverse effect on our financial position or results of operations.

Guarantor Recovery

In December 2012, we received a favorable judgment against certain guarantors in connection with their personal guarantees on certain legacy loans on which we have since foreclosed. The amount of the judgment was for a specified principal amount plus accrued default interest at 24% annually computed on such principal amounts from January 5, 2010, which totaled $23.3 million as of September 30, 2014, plus recovery of certain collection costs. In February 2013, the parties entered into a stipulation agreement which was converted to a court order. Under the terms of the stipulation, the guarantors consented and agreed to take a number of actions including, but not limited to, providing a listing of all related business enterprises in which the guarantors hold an ownership interest for the purpose of assigning such interests to us, making a cash payment to us of $0.2 million, and delivering to us a quit claim deed to certain residential property located in Hawaii, subject to certain liens.

Due to the uncertainty of the nature and extent of the available assets of these guarantors to pay the judgment amount, we have not recorded recoveries for any amounts due under this judgment, except to the extent we have received assets without contingencies. In this regard, we recognized $0.2 million in recovery income in prior periods based on the cash payment received in March 2013 which is included in recovery of credit losses in the accompanying condensed consolidated statements of operations. In addition, we recorded as an asset the Hawaii residential property during the year ended December 31, 2013 in the amount of $3.8 million representing the estimated fair value of the property, subject to certain non-recourse liens substantially in excess of the fair value of the property. During the nine months ended September 30, 2014, we purchased two of the liens placed on the Hawaii property totaling $15 million from the counter party for a purchase price of $1.3 million. As a result of the purchase of the liens, and because the liens have only recourse to the property, we recorded these liens at their fair value which approximated the fair value of the Hawaii property. During the nine months ended September 30, 2014, we recorded recovery income of $0.4 million relating to the proceeds received from the sale of a mortgage assigned to us during the period.

As described in note 7, the Company assumed an unsecured note payable obligation in the amount of $3.18 million bearing annual interest at 3%, interest only payable monthly, maturing June 5, 2023. This note remained as an outstanding obligation of the Company as of September 30, 2014. However, a majority of the note balance is payable to certain entities affiliated with a loan

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SEPTEMBER 30, 2014


NOTE 10 — COMMITMENTS AND CONTINGENCIES - continued

guarantor against whom the Company has obtained the $23.3 million judgment described above. The Company obtained approval from substantially all of the other major creditors of the guarantor under this judgment as well as the court-appointed receiver to offset its liability under this $3.18 million note against the outstanding judgment. The Company and the receiver sought court approval for this offset but since we did not receive such approval as of September 30, 2014, we did not record any recovery relative to this matter during the period ended September 30, 2014. However, such approval was granted by the court subsequent to September 30, 2014, at which time the obligation under this note was legally expunged and recorded as recovery income.
   
We are continuing to investigate and evaluate the assets of the guarantors available to enforce the terms of the stipulation and to collect all amounts due under the judgment. However, such amounts are not determinable as of September 30, 2014 and have not been recognized as recovery income in the accompanying condensed consolidated statements of operations. Further recoveries under this and other judgments received in our favor will be recognized when realization of the recovery is deemed probable and when all contingencies relating to recovery have been resolved.

Legal Matters
 
We may be a party to litigation as the plaintiff or defendant in the ordinary course of business. While various asserted and unasserted claims may exist, resolution of these matters cannot be predicted with certainty. We establish reserves for legal claims when payments associated with the claims become probable and the payments can be reasonably estimated. Given the inherent difficulty of predicting the outcome of litigation and regulatory matters, it is generally very difficult to predict what the eventual outcome will be, and when the matter will be resolved. The actual costs of resolving legal claims may be higher or lower than any amounts reserved for the claims.

During the nine months ended September 30, 2014, a subsidiary of the Company received a demand for payment in the amount of $2.3 million in connection with a prior office lease between the lessor and that subsidiary. Based upon the advice of its counsel in this matter, management believes that the likelihood of loss from this claim is remote. Accordingly, no adjustment relating to this claim has been recorded.



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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014



NOTE 11 — SUBSEQUENT EVENTS

Construction Loan Closing
As described in the Current Report on Form 8-K filed on October 25, 2014, on October 20, 2014, the Company, through a wholly owned subsidiary, formed a joint venture with an affiliate of Titan, for the purpose of holding and developing certain real property (the “Joint Venture”). The limited liability company agreement of the Joint Venture was amended and restated to admit Titan as a joint venture partner in connection with the development of Gabella. The Joint Venture simultaneously created a wholly-owned subsidiary, IMH Gabella, LLC, (“IMH Gabella”) to hold the Gabella assets and enter into related agreements.
A wholly owned subsidiary of the Company is the managing member of, and holds a 93% ownership interest in, the Joint Venture. Titan holds a 7% ownership interest in the Joint Venture with the right to acquire an additional 3.2% profits-only interest based upon the satisfaction of certain budget and completion milestones with respect to the project. The Company has the power and authority to govern the business of the Joint Venture, subject to certain conditions. Subsequent to September 30, 2014, we contributed certain land and are expected to contribute the required equity to Joint Venture as described below. The Company is not required to make any additional capital contributions. In the event that certain specified occupancy targets are met, Titan has the right to have its interests repurchased by the Joint Venture. The Joint Venture also has certain rights to redeem Titan’s interests in the event Titan fails to exercise those put rights within a specified time. Generally, income or loss will be allocated among the members of the Joint Venture in accordance with their respective percentage interests. Upon a sale of the project, the sale proceeds shall be distributed first to the Company in an amount equal to its capital contributions less any previous distributions it may have received, and then to the members in accordance with their respective interests in the Joint Venture.
The development of the project will be funded, in part, with a construction loan in the amount of $24.0 million (the “Construction Loan”) from the Bank of the Ozarks (“Ozarks”) pursuant to a Construction Loan Agreement entered into between IMH Gabella and Ozarks, dated as of October 20, 2014. In addition to the Construction Loan, the project's development costs will be financed through an equity contribution of $11.8 million by the Company consisting of entitled land and working capital. The Project’s development costs will also be partially offset through various subsidies received from the City of Apple Valley (the “City”) including a $3.3 million tax increment financing package.
The Construction Loan is secured by a first lien mortgage on the project as well as certain adjacent parcels that are planned for future development, improvements thereon, and an assignment of rents and revenues. Unless there is an event of default, the Construction Loan bears annual interest at the greater of three-month LIBOR plus 375 basis points or 4.25%. The loan has an initial term of 3 years, provided, however, that the initial term may be extended for two additional one year terms subject to the satisfaction of certain conditions, including the payment of an extension fee equal to 0.25% of the then outstanding principal balance of the Construction Loan. Advances under the Construction Loan will commence when the Company has fully satisfied its equity funding requirement. Interest only payments on any outstanding principal commences on November 1, 2014. Monthly payments of principal and interest will commence on the earlier of (i) November 1, 2016 and (ii) the first month following stabilization (as defined in the loan agreement). The Construction Loan is subject to a completion and repayment guarantee by the Company and requires a minimum liquidity balance of $7.5 million commencing on the initial construction draw (expected to occur in the first quarter of 2015). The Construction Loan can be prepaid without penalty, provided that no prepayment is permitted unless it includes the full amount of the then accrued but unpaid interest on the amount of principal being so prepaid.
NW Capital Payment Extension
Subsequent to September 30, 2014, the Company entered into a further amendment of the Modified Loan to extend the payment date of the initial $5.0 million principal payment due on October 24, 2014 to December 24, 2014. In consideration of this extension, the Company paid an extension fee of $650,000. The extension was executed to provide the Company additional time to 1) generate additional liquidity from the anticipated closing of the sale of certain assets under executed contracts for sale, and 2) to negotiate with potential third party lenders for the payoff of the Modified Loan.
Offset of Note Payable
Subsequent to September 30, 2014, the Company obtained court approval to offset an existing obligation in the amount of $3.18 million due to a party affiliated with a guarantor against a judgment receivable from that guarantor, resulting in recovery income, as further described in note 10.

F-44



Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion should be read in conjunction with our Management’s Discussion and Analysis of Financial Condition and Results of Operations and the audited financial statements and accompanying notes as of and for the year ended December 31, 2013 included in our previously filed Annual Report on Form 10-K (“Form 10-K”), and with the unaudited condensed consolidated financial statements and accompanying notes included in this Quarterly Report on Form 10-Q (“Form 10-Q”).
Forward-Looking Statements
This Form 10-Q contains forward-looking statements which relate to expectations, beliefs, projections, future plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts. In some cases, you can identify forward looking statements by terms such as “anticipate,” “believe,” “could,” “estimate,” “expect,” “intend,” “likely,” “may,” “will,” “plan,” “potential,” “should” and “would” or the negative of these terms or other comparable terminology. Forward-looking statements in this Form 10-Q include: our business strategy and liquidity plan, including our intention to dispose of a significant portion of our mortgage loans and other real estate assets in the next twelve to twenty-four months, our plans to refinance our current indebtedness at terms more favorable to the Company, and our goals and plans to invest in different real estate platforms, including consideration of opportunities to act as a sponsor and co-investor in real estate mortgages and other real estate-based vehicles, diversify our investments geographically and expand our investment capital base and pursue development activities with certain REO properties; the outcome of actions we may take, or fail to take, that result in defaults of obligations that have liens or collateral interest in our commercial mortgage loan and REO properties, including our ability to cure such defaults; our plans and the anticipated timing and results relating to our actions to foreclose on defaulted mortgage loans; trends and expectations relating to the real estate and lending markets we operate in; expected amortization period of unrecognized compensation costs; that future mortgage income will remain at minimal levels; that property taxes, costs and expenses relating to REO assets and other operating expenses may increase; that we may modify existing loans and/or subordinate our first lien position on our mortgage loans to protect our collateral and maximize our opportunity for recovery; that the concentration of our current loan portfolio will not materially change until we begin making new loans; our sources and the sufficiency of liquidity in the next twelve months; that our financial assets do not give rise to significant interest rate risk; that we may sell whole loans or participations in loans to increase our liquidity; the impact of new accounting standards; that we expect to complete the foreclosure process on our defaulted real estate mortgage loans in the next six to nine months; expectations about future derivative investments; recent trends and expectations relating to rental and hospitality and entertainment activities; that changes in our disposition strategy and related changes in classifications of such assets under GAAP could result in material impairment charges; our future liability relating to CFD and special assessment obligations; that the fair value of the collateral underlying our mortgage loans is sufficient in relation to the current carrying value of the related loans; and that we may further increase our leverage.
The forward-looking statements are based on our beliefs, assumptions and expectations of our future performance. These beliefs, assumptions and expectations can change, and actual results and events may differ materially, as a result of many possible events or factors, not all of which are known to us or are within our control. These risk factors and uncertainties should be carefully considered by current and potential investors. Important factors currently known to management that could cause actual results to differ materially from those in forward-looking statements, and that could negatively affect our business include:

that we may continue to record losses;
that we may incur increased operating expenses;
that a significant portion of our loan portfolio is comprised of non-performing and distressed assets;
that we continue to foreclose on our remaining mortgage loan portfolio;
the concentration of credit risk to a particular borrower or borrower group;
difficulties in analyzing potential investment opportunities as a result of dislocations in the real estate market;
our relative inexperience in managing and developing real estate acquired through foreclosure;
our inability to sell our current mortgage loan and REO assets and execute our business and liquidity strategy;
our inability to resume our mortgage loan lending activities and grow our business;
risks of owning real property obtained through foreclosure;
the supply of commercial mortgage loans and the resulting impact on our strategy;
litigation;
our inability to retain and hire consultants and employees necessary to execute our business strategy

1



the lack of a secondary market for our loans that impairs our ability to diversify our portfolio;
lack of access to public and private capital markets;
the inability to control the administration of mortgage loans where we hold only a participation interest;
the short-term nature of the loans we originate;
risks of holding subordinated loans;
lender due diligence risks;
recent legislative initiatives;
government regulation;
failure to maintain our exemption from registration under the Investment Company Act;
NW Capital’s approval rights over substantial portions of our operations;
NW Capital loan covenants that restrict our operations and our ability to take certain actions;
our ability to secure joint venture partners on development projects;
risks related to additional borrowings;
that our liquidity is subject to a cash management agreement;
risks relating to bank repurchase agreements;
restrictive covenants that are contained in current and future debt agreements;
that defaults and foreclosures will continue relating to our assets due to economic and real estate market declines;
the risks our borrowers are exposed to that could impair their ability to repay our loans;
inability of our commercial borrowers to generate sufficient income from their operating properties to repay our loans;
declines in value of our real estate collateral arising from inaccurate estimates of value due to management or appraisal errors or subsequent events;
failure of our underwriting standards;
that the guarantors of our mortgage loans will have insufficient assets or resources to support their guarantees;
a decline in the fair value of our assets;
uncertainty relating to assets valued at fair value;
reductions in income resulting from our borrowers' refinancing their loans at lower interest rates;
the adverse effects on our business of increasing interest rates;
competition;
the inability of our borrowers to complete construction or development of the projects securing our loans;
cost-overruns and non-completion of renovation of properties underlying rehabilitation loans we make;
risks relating to non-Agency residential mortgage-backed securities, or subprime and Alt-A loans that we may acquire;
our inability to manage through the slow recovery of the real estate industry;
geographic concentration in our loan portfolio;
protection of our rights as a secured lender;
exposure to liability under lender liability laws;
inadequate insurance coverage on the REO properties we acquire;
hazardous substances on the REO properties we acquire;
our inability to utilize our built-in net operating losses;
continued decline in economic conditions;
reliance on key personnel;
conflicts of interest relating to existing contractual agreements;
additional expense for compensation of broker-dealers to eliminate contingent claims;

2



complex accounting rules;
our failure to maintain adequate internal controls;
our ability to change our business, leverage and financing strategies without stockholder consent;
use of liquidity to pay required preferred dividends;
covenants relating to the issuance of preferred stock that restrict our ability to take certain actions;
restrictions on the payment of dividends to common stockholders;
dilution resulting from future issuances of debt and equity securities;
provisions in our certificate of incorporation, bylaws and Delaware law that could impede or delay an acquisition of the Company; and
other factors listed in Item 1A “Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2013

You are cautioned not to place undue reliance on any forward-looking statements, which speak only as of the date on which it was made. While forward-looking statements reflect our good faith beliefs, they are not guarantees of future performance. The factors described within this Form 10-Q could affect our financial performance and could cause actual results for future periods to differ materially from any opinions or statements expressed with respect to such future periods. Except to the extent required by law, we undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise. In light of these risks, uncertainties and assumptions, the events described by our forward-looking statements might not occur. We qualify any and all of our forward-looking statements by these cautionary factors. Please keep this cautionary note in mind as you read this Form 10-Q and the documents incorporated by reference into this Form 10-Q.

Overview of the Business
 
We are a real estate investor and finance company based in the southwest United States with over a decade of experience in various and diverse facets of the real estate lending and investment process, including origination, acquisition, underwriting, documentation, servicing, construction, enforcement, development, marketing and disposition.
 
The Company’s focus is to invest in, manage and dispose of commercial real estate mortgage and related investments, and to perform all functions reasonably related thereto, including developing, managing and either holding for investment or disposing of real property acquired through foreclosure, investment or other means. This focus is enhanced with the combined resources of the Company and its advisors. The Company also seeks to capitalize on opportunities to invest in selected real estate-related platforms or projects under the direction of, or in partnership with, seasoned professionals in those areas. The Company also considers opportunities to act as a sponsor, providing investment opportunities as a proprietary source of, and/or co-investor in, real estate mortgages and other real estate-based investment vehicles. Through the purchase and sale of such investments, we seek robust, risk-adjusted returns. Our strategy is designed to re-establish the Company’s access to significant investment capital by investing in a creative yet prudent manner. By increasing the level and quality of the assets in our portfolio specifically, and under management in general, we believe that the Company can grow and ultimately provide its shareholders with favorable risk-adjusted returns on investments and enhanced opportunity for liquidity.
 
Through our traditional credit analysis coupled with real estate valuation techniques used by developers, we have invested in real estate assets with a current carrying value of $179.5 million as of September 30, 2014, comprised of commercial real estate mortgage loans with a carrying value of $13.2 million and owned property with a carrying value of $166.3 million, the majority of which was acquired through foreclosure of related legacy mortgage loans. As of September 30, 2014, our operating properties consisted of 1) a golf course operation acquired through foreclosure in March 2012 which offers golf, spa and food and beverage operations, 2) two operating hotels acquired through deed in lieu of foreclosure in May 2013, which also offer spa and food and beverage services, and 3) before entering into a sales contract for the property during the period ended September 30, 2014, a commercial office building acquired in fiscal 2009 for which we collect rents and related income from tenants. Management continues to aggressively pursue enforcement action against current and former borrowers through foreclosure and recovery of other guarantor assets.

We regularly evaluate our portfolio assets in order to determine whether assets should be sold or held for future development or operation. During the nine months ended September 30, 2014, we sold otherwise disposed of eighteen REO assets for $59.4 million, net of selling costs, and realized a debt reduction of $8.1 million, for a net gain on disposal of assets of $17.6 million.


3



In addition, management continues to explore the advisability of sponsoring investment vehicles or other ventures with institutional investors in vertical market segments in which there is strong investor interest and proven expertise within the Company. Also, assuming adequate liquidity and positive market indicators, the Company expects to resume its commercial mortgage and real estate investment activities in order to increase both earning assets and assets under management and the income and value derived therefrom.

As previously disclosed in our Annual Report on Form 10-K for the period ended December 31, 2013, we commenced the Exchange Offering and the Rights Offering on February 12, 2014. Based on the final results of the Exchange Offering, 1,268,675 shares were exchanged by existing shareholders for Exchange Offering notes with a face value of $10.2 million. In addition, we issued Rights Offering notes totaling approximately $70,000 to participating accredited shareholders which were subsequently repurchased by the Company.

During the nine months ended September 30, 2014, the Company entered into a series of agreements and transactions in connection with the refinancing and restructuring of the NW Capital loan pursuant to a payoff agreement, as amended (“Payoff Agreement”), the principal terms of which were described in the Current Report on Form 8-K filed on April 9, 2014. The following summarizes certain of those agreements and transactions and is qualified in its entirety by reference to the above-referenced Current Reports:
  
NW Capital Loan Refinance and Restructure - pursuant to the Payoff Agreement, the Company and NW Capital entered into certain amendments to the NW Capital loan (collectively, the "Modified Loan") the principal terms of which are as follows: (1) the new maturity date is July 22, 2015 (the "Maturity Date"); (2) the conversion rights that had been held by NW Capital to convert the debt into our Series A Preferred stock were eliminated; (3) the new principal balance is $45.0 million; (4) interest accrues at 17% per annum, payable by the Company on a quarterly basis; and (5) on October 24, 2014, and no later than every 90 days thereafter until the Maturity Date, the Company is required to make payments equal to the sum of: (x) $5.0 million (which payment will be applied toward the then-outstanding principal and interest due on the Modified Loan); and (y) a fee of one percent (1)% of the then-outstanding principal balance of the Modified Loan. As a result of the material change in loan terms, the NW Capital loan was treated as a termination of the existing loan and issuance of a new loan. Under the Payoff Agreement, a total payment of $81.4 million was made to NW Capital consisting of the $45.0 million Modified Loan, $26.4 million from the issuance of preferred shares and approximately $10.0 million in cash. The Company incurred additional debt termination charges from other costs associated with the transaction, including the issuance of various equity instruments related directly to the Modified Loan. As a result of the NW Capital debt restructuring, the Company recorded a debt termination charge of $21.7 million during the three and nine months ended September 30, 2014.

Subsequent to September 30, 2014, the Company entered into a further amendment of the Modified Loan to extend the date of the initial $5.0 million principal payment from October 24, 2014 to December 24, 2014. In consideration of this extension, the Company paid an extension fee of $650,000. The extension was executed to provide the Company additional time to 1) generate additional liquidity from the anticipated closing of the sale of certain assets under contract for sale, and 2) to negotiate with potential third party lenders for the payoff of the Modified Loan.
Issuance of Series B Preferred Stock - the Company issued and sold a total of 8.2 million shares of the Company’s newly-designated Series B Cumulative Convertible Preferred Stock (Series B Preferred Stock) to certain investor groups (collectively, the "Series B Investors") in exchange for $26.4 million.
Appointment of New Chief Executive Officer - the Company entered into an executive employment agreement with Lawrence D. Bain pursuant to which Mr. Bain was appointed to serve as the Company’s Chief Executive Officer and Chairman of the Board. The Company and William Meris, the Company’s former Chief Executive Officer and President, entered into an employment separation and general release agreement pursuant to which Mr. Meris’ employment was terminated.
Operational Highlights
Total assets were $199.5 million as of September 30, 2014 compared to $237.4 million as of December 31, 2013.
Top line revenue increased by $1.3 million to $8.0 million for the three months ended September 30, 2014 from $6.7 million for the three months ended September 30, 2013. Top line revenue also increased by $9.8 million to $23.5 million for the nine months ended September 30, 2014 from $13.7 million for the nine months ended September 30, 2013.
We recorded $0.2 million in recoveries of credit losses during the three months ended September 30, 2014 compared to $0.7 million for the three months ended September 30, 2013. We also recorded recoveries of credit losses of $0.7 million during the nine months ended September 30, 2014 compared to $8.3 million for the nine months ended September 30, 2013.
We recorded gains of $5.6 million from the disposal of assets during the three months ended September 30, 2014 compared to gains on disposal of $0.3 million for the three months ended September 30, 2013. We also recorded gains of $17.6

4



million from the disposal of assets during the nine months ended September 30, 2014 compared to gains of $1.0 million on asset disposals for the nine months ended September 30, 2013.
We recorded a debt termination charge of $21.7 million during the three and nine months ended September 30, 2014 in connection with the modification of the Company's senior indebtedness.
We recorded cash dividends of $0.4 million and imputed dividends of $0.4 million to preferred investors for the three and nine months ended September 30, 2014.
Net loss for the three months ended September 30, 2014 was $22.6 million compared to a net loss of $8.2 million for the three months ended September 30, 2013. Net loss for the nine months ended September 30, 2014 was $27.1 million compared to a net loss of $15.5 million for the nine months ended September 30, 2013.
Basic and diluted loss per common share for the three months ended September 30, 2014 was $1.53 compared to $0.49 for the three months ended September 30, 2013. Basic and diluted loss per common share for the nine months ended September 30, 2014 was $1.74 compared to $0.92 for the nine months ended September 30, 2013.

 

5



Selected Financial Data.
 
The following table presents select financial and operating data for the periods indicated. The summary financial data was derived from our audited and unaudited financial statements and other financial records for the periods indicated. All dollar amounts are expressed in thousands, except share and per unit data.
 
 
(Unaudited)

As of and for the Three Months Ended September 30,
 
(Unaudited)

As of and for the Nine Months Ended September 30,
 
As of and for the Year Ended December 31,
 
 
2014
 
2013
 
2014
 
2013
 
2013
 
 
 
 
 
 
 
 
 
 
 
Summary balance sheet items
 
 
 
 

 
 
 
 
 
 

Cash and cash equivalents
 
$
3,000

 
$
1,723

 
$
3,000

 
$
1,723

 
$
7,875

Restricted cash and cash equivalents
 
10,020

 
4,719

 
10,020

 
4,719

 
5,777

Mortgage loan principal and accrued interest
 
26,948

 
32,033

 
26,948

 
32,033

 
30,749

Valuation allowance
 
(13,759
)
 
(17,993
)
 
(13,759
)
 
(17,993
)
 
(18,208
)
Mortgage loans held for sale, net
 
13,189

 
12,538

 
13,189

 
12,538

 
12,541

Real estate held for sale
 
74,950

 
51,775

 
74,950

 
51,775

 
86,562

Real estate held for development
 
7,603

 
47,765

 
7,603

 
47,765

 
12,262

Operating properties acquired through foreclosure
 
83,783

 
104,193

 
83,783

 
104,193

 
103,683

Total assets
 
199,471

 
249,770

 
199,471

 
249,770

 
237,401

Notes payable, special assessment obligations, capital leases and other long-term obligations
 
87,453

 
111,108

 
87,453

 
111,108

 
118,056

Total liabilities
 
97,586

 
133,132

 
97,586

 
133,132

 
131,530

Total stockholders' equity
 
75,105

 
116,638

 
75,105

 
116,638

 
101,000

Equity per common share
 
$
4.93

 
$
6.91

 
$
4.93

 
$
6.91

 
$
6.00


6



 
 
(Unaudited)

As of and for the Three Months Ended September 30,
 
(Unaudited)

As of and for the Nine Months Ended September 30,
 
As of and for the Year Ended December 31,
 
 
2014
 
2013
 
2014
 
2013
 
2013
Summary income statement items
 
 
 
 
 
 
 
 
 
 
Operating property revenue
 
$
6,351

 
$
5,660

 
$
20,077

 
$
11,065

 
$
17,140

Investment and other income
 
324

 
866

 
1,213

 
2,030

 
5,403

Mortgage loan income
 
1,321

 
201

 
2,191

 
585

 
783

Total revenue
 
7,996

 
6,727

 
23,481

 
13,680

 
23,326

Operating expenses (excluding interest expense)
 
32,980

 
10,618

 
55,888

 
24,441

 
38,721

Interest expense
 
3,454

 
5,224

 
13,043

 
13,913

 
19,176

Gain on disposal of legacy assets
 
(5,630
)
 
(252
)
 
(17,630
)
 
(953
)
 
(1,430
)
Recovery of credit losses
 
(172
)
 
(679
)
 
(721
)
 
(8,250
)
 
(8,039
)
Impairment of real estate owned
 

 

 

 

 
1,103

Total costs and expenses
 
30,632

 
14,911

 
50,580

 
29,151

 
49,531

Net loss
 
(22,636
)
 
(8,184
)
 
(27,099
)
 
(15,471
)
 
(26,205
)
 
 
 
 
 
 
 
 
 
 
 
Earnings/Distributions per share data
 
 
 
 
 
 
 
 
 
 
Basic and diluted loss per share
 
$
(1.53
)
 
$
(0.49
)
 
$
(1.74
)
 
$
(0.92
)
 
$
(1.55
)
Dividends declared per common share
 
$

 
$
0.02

 
$

 
$
0.02

 
$
0.02

Cash dividends on redeemable convertible preferred stock
 
$
(0.05
)
 
$

 
$
(0.05
)
 
$

 
$

Deemed dividend on redeemable convertible preferred stock
 
$
(0.05
)
 
$

 
$
(0.05
)
 
$

 
$

 
 
 
 
 
 
 
 
 
 
 
Loan related items
 
 
 
 
 
 
 
 
 
 
Note balances originated
 
$

 
$

 
$
8,400

 
$
1,085

 
$
1,085

Number of notes originated
 

 

 
2

 
1

 
1

Average note balance originated
 
$

 
$

 
$
4,200

 
$
1,085

 
$
1,085

Number of loans outstanding
 
8

 
7

 
8

 
7

 
7

Average loan carrying value
 
$
1,649

 
$
1,791

 
$
1,649

 
$
1,791

 
$
1,792

% of portfolio principal – fixed interest rate
 
53.0
%
 
42.5
%
 
53.0
%
 
42.5
%
 
42.9
%
% of portfolio principal – variable interest rate
 
47.0
%
 
57.5
%
 
47.0
%
 
57.5
%
 
57.1
%
Weighted average interest rate – all loans
 
10.00
%
 
12.1
%
 
10.00
%
 
12.1
%
 
12.1
%
Principal balance % by state:
 
 
 
 
 
 
 
 
 
 
Arizona
 
15.2
%
 
0.2
%
 
15.2
%
 
0.2
%
 
0.2
%
California
 
54.5
%
 
50.9
%
 
54.5
%
 
50.9
%
 
49.0
%
Utah
 
30.3
%
 

 
30.3
%
 

 
50.8
%
Other
 

 
48.9
%
 

 
48.9
%
 

Total
 
100.0
%
 
100.0
%
 
100.0
%

100.0
%
 
100.0
%
 
 
 
 
 
 
 
 
 
 
 
Credit Quality
 
 
 
 
 
 
 
 
 
 
Interest payments over 30 days delinquent
 
311

 
401

 
311

 
401

 
400

Principal balance of loans past scheduled maturity, gross
 
18,585

 
24,773

 
18,585

 
24,773

 
25,307

Principal balance of loans past scheduled maturity, net
 
4,827

 
6,779

 
4,827

 
6,779

 
6,829

Carrying value of loans in non accrual status
 
4,827

 
6,779

 
4,827

 
6,779

 
6,829

Valuation allowance
 
(13,759
)
 
(17,993
)
 
(13,759
)
 
(17,993
)
 
(18,208
)
Valuation allowance as % of outstanding loan principal and interest
 
51.1
%
 
58.9
%
 
51.1
%
 
58.9
%
 
59.2
%
Net charge-offs
 
$

 
$

 
$

 
$
26,907

 
$
26,907



7





Results of Operations for the Three and Nine Months Ended September 30, 2014 and 2013
 
Revenues (dollars in thousands)
 
 
 
 
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
Revenues:
 
2014
 
2013
 
$ Change
 
% Change
 
2014
 
2013
 
$ Change
 
% Change
Operating Property Revenue
 
$
6,351

 
$
5,660

 
$
691

 
12.2
 %
 
$
20,077

 
$
11,065

 
$
9,012

 
81.4
 %
Investment and Other Income
 
324

 
866

 
(542
)
 
(62.6
)%
 
1,213

 
2,030

 
(817
)
 
(40.2
)%
Mortgage Loan Income, Net
 
1,321

 
201

 
1,120

 
557.2
 %
 
2,191

 
585

 
1,606

 
274.5
 %
Total Revenue
 
$
7,996

 
$
6,727

 
$
1,269

 
18.9
 %
 
$
23,481

 
$
13,680

 
$
9,801

 
71.6
 %
 
Operating Property Revenue. During the nine months ended September 30, 2014, our operating properties consisted of 1) a commercial office building acquired through foreclosure in 2009 for which we collect rents and related income from tenants, 2) a golf course operation acquired through foreclosure in March 2012 which offers golf, spa and food and beverage operations, and 3) two operating hotels acquired through deed in lieu of foreclosure in May 2013, which also offer spa and food and beverage services. During the three months ended September 30, 2014, operating property revenue was $6.4 million compared to $5.7 million for the three months ended September 30, 2013, an increase of $0.7 million, or 12.2%. During the nine months ended September 30, 2014, operating revenues was $20.1 million compared to $11.1 million for the nine months ended September 30, 2013, an increase of $9.0 million or 81.4%. The increase in operating property revenue is primarily attributed to the acquisition of the two operating hotels acquired in May 2013. In the quarter ended September 30, 2014, the Company entered into an agreement to sell its commercial office building, which sale is expected to close in the fourth quarter of 2014.

Investment and Other Income. Investment and other income is comprised of interest and gains earned on non-mortgage investments, including interest earned on other notes receivable, and other investment related income. For the three months ended September 30, 2014, investment and other income was $0.3 million compared to $0.9 million for the three months ended September 30, 2013 a decrease of $0.5 million, or 62.6%. During the nine months ended September 30, 2014, investment and other income was $1.2 million as compared to $2.0 million during the nine months ended September 30, 2013, a decrease of $0.8 million, or 40.2%. The investment and other income for the three and nine months ended September 30, 2014 is attributable primarily to the fees earned for a limited guarantee provided by the Company in connection with a $15 million preferred equity investment that we made in the first quarter of 2013 and sold in the fourth quarter of 2013. The investment and other income earned during the three and nine months ended September 30, 2013 is attributable primarily to the income recognized under the terms of the above-referenced preferred equity investment for which we were entitled to a 15% preferred annual return, as well as a 1.5% exit fee based on the fair market value of the portfolio assets.
 
Mortgage Loan Income. For the three months ended September 30, 2014, income from mortgage loans was $1.3 million, an increase of $1.1 million, or 557.2%, from $0.2 million for the three months ended September 30, 2013. For the nine months ended September 30, 2014, income from mortgage loans was $2.2 million compared to $0.6 million for the nine months ended September 30, 2013, an increase of $1.6 million, or 274.5%. The year-over-year increase in mortgage loan income is partially attributable to the higher average balance for the income-earning portion of our loan portfolio. While the total loan portfolio principal and interest outstanding was $26.9 million at September 30, 2014 compared to $30.0 million at September 30, 2013, the performing loan balance was only $8.4 million and $5.6 million for the same periods, respectively. Additionally, the average portfolio coupon interest rate for income earning assets was 7.0% per annum at September 30, 2014, compared to 12.5% per annum at September 30, 2013. In addition, during the nine months ended September 30, 2014, we modified one loan under the terms of a court-approved order in which the Company accepted, in lieu of cash payment, certain assets with an aggregate estimated fair value of approximately $4.0 million, and established the remaining loan balance principal at $4.0 million. The modification was deemed to be a troubled debt restructuring primarily because the total amount to be collected was below the contractual amount otherwise due under the loan when considering contractual default interest due under the original loan terms (none of which was recorded by the Company). The failure to collect the full amount of default interest was deemed to be a concession under applicable accounting guidance. As a result, the fair value of the assets received was treated as a principal reduction under the loan and the carrying value was recorded at the remaining net balance of approximately $2.9 million (rather than the contractual balance of $4.0 million). The difference between the remaining net balance and the contractual amount due upon maturity is being amortized as an adjustment to yield (i.e., interest income) over the remaining term of the loan which matured September 30, 2014, resulting in an approximate annualized yield of 203% on the loan and accounting for the majority of the increase in mortgage income.


8



In the absence of acquiring or originating new loans, we anticipate mortgage income to remain at minimal levels and potentially decrease in the near term. Mortgage loan originations during the three and nine months ended September 30, 2014 and 2013 were limited to partial financings in connection with the sale of REO assets. During the nine months ended September 30, 2014, in connection with the sale of certain REO assets, we financed two new loans with an aggregate principal balance of $8.4 million and an average interest rate of 7.0%. Similarly, during the nine months ended September 30, 2013, in connection with the sale of an REO asset, we financed one new loan with an aggregate principal balance of $1.1 million and interest rate of 12.5%.

Costs and Expenses (dollars in thousands)
 
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
Expenses:
 
2014
 
2013
 
$ Change
 
% Change
 
2014
 
2013
 
$ Change
 
% Change
Operating Property Direct Expenses (exclusive of Interest and Depreciation)
 
$
5,572

 
$
4,904

 
$
668

 
13.6
 %
 
$
16,815

 
$
9,402

 
$
7,413

 
78.8
 %
Expenses for Non-Operating Real Estate Owned
 
481

 
410

 
71

 
17.3
 %
 
1,627

 
1,336

 
291

 
21.8
 %
Professional Fees
 
890

 
1,992

 
(1,102
)
 
(55.3
)%
 
6,251

 
5,478

 
773

 
14.1
 %
General and Administrative Expenses
 
3,582

 
1,485

 
2,097

 
141.2
 %
 
6,739

 
4,201

 
2,538

 
60.4
 %
Interest Expense
 
3,454

 
5,224

 
(1,770
)
 
(33.9
)%
 
13,043

 
13,913

 
(870
)
 
(6.3
)%
Debt Termination Charge
 
21,658

 

 
21,658

 
N/A
 
21,658

 

 
21,658

 
N/A
Depreciation and Amortization Expense
 
797

 
987

 
(190
)
 
(19.3
)%
 
2,798

 
2,062

 
736

 
35.7
 %
Settlement and Related Costs
 

 
840

 
(840
)
 
(100.0
)%
 

 
1,962

 
(1,962
)
 
(100.0
)%
Gain on Disposal of Assets
 
(5,630
)
 
(252
)
 
(5,378
)
 
2,134.1
 %
 
(17,630
)
 
(953
)
 
(16,677
)
 
1,749.9
 %
Recovery of Credit Losses
 
(172
)
 
(679
)
 
507

 
(74.7
)%
 
(721
)
 
(8,250
)
 
7,529

 
(91.3
)%
Total Costs and Expenses
 
$
30,632

 
$
14,911

 
$
15,721

 
105.4
 %
 
$
50,580

 
$
29,151

 
$
21,429

 
73.5
 %
 
Operating Property Direct Expenses (exclusive of Interest and Depreciation). For the three months ended September 30, 2014, operating property direct expenses were $5.6 million, an increase of $0.7 million or 13.6% from $4.9 million for the three months ended September 30, 2013. For the nine months ended September 30, 2014 operating property direct expenses were $16.8 million, an increase of $7.4 million or 78.8% from $9.4 million for the nine months ended September 30, 2013.The increase in operating property direct expenses is primarily attributable to the acquisition of two operating hotels in May 2013 as previously described.

Expenses for Non-Operating Real Estate Owned. Such expenses include property taxes, home owner association (HOA) dues, utilities, and repairs and maintenance, as well as other carrying costs pertaining to non-operating properties. For the three months ended September 30, 2014, expenses for non-operating real estate owned assets were $0.5 million, an increase of $0.1 million, or 17.3% from $0.4 million for the three months ended September 30, 2013. For the nine months ended September 30, 2014, expenses for non-operating real estate owned assets were $1.6 million, an increase of $0.3 million, or 21.8% from $1.3 million for the nine months ended September 30, 2013. The increase is attributable to higher HOA dues, insurance and licensing costs.

Professional Fees. For the three months ended September 30, 2014, professional fees expense totaled $0.9 million, a decrease of $1.1 million, or 55.3%, from $2.0 million for the three months ended September 30, 2013. For the nine months ended September 30, 2014, professional fees expense totaled $6.3 million, an increase of $0.8 million, or 14.1%, from $5.5 million for the nine months ended September 30, 2013. The decrease in professional fees for the three month period ended September 30, 2014 is attributed to the year over year change arising from enforcement activity against certain guarantors, coupled with the classification of various legal fees in 2014 recorded as debt termination costs. The increase in professional fees for the nine month period is primarily attributed to increased professional fees incurred during the first two quarters of 2014 for increased enforcement activity against certain guarantors, and professional fees associated with the various purchase and sales transactions described elsewhere in this Report.
 
General and Administrative Expenses. For the three months ended September 30, 2014, general and administrative expenses were $3.6 million, an increase of $2.1 million, or 141.2%, from $1.5 million for the three months ended September 30, 2013. For the nine months ended September 30, 2014, general and administrative expenses were $6.7 million, an increase of $2.5 million, or 60.4%, from $4.2 million for the nine months ended September 30, 2013. The increase in general and administrative costs is primarily attributed to higher compensation expense incurred during the three months ended September 30, 2014 due to certain one-time charges and other new charges including a) approximately $1.5 million in severance pay and related benefits to the former CEO, b) amortized stock based compensation relating to the grant of restricted stock to the CEO and CFO, c) the compensation payable to our non-employee directors, d) an employee hire in late 2013, and e) increased travel and related costs related to investment and financing transactions.

9



 
Interest Expense. For the three months ended September 30, 2014, interest expense was $3.5 million as compared to $5.2 million, a decrease of $1.8 million or 33.9% over the comparable period in 2013. For the nine months ended September 30, 2014, interest expense was $13.0 million compared to $13.9 million for the nine months ended September 30, 2013, a decrease of $0.9 million, or 6.3%. The decrease is attributed primarily to the paydown of the NW Capital loan in July 2014 and the payoff of other indebtedness in early 2014, coupled with the assumption of a $24.7 million note payable assumed in May 2013 in connection with the acquisition of the operating hotel properties and other debt assumed in connection with the acquisition of certain assets, and offset by interest on the exchange offering notes.

Debt Termination Charge. As described in note 7 of the accompanying condensed consolidated financial statements, in mid-2014, the Company and NW Capital entered into certain amendments to the NW Capital loan resulting in a material change in loan terms. For accounting purposes, the payoff of the NW Capital loan was treated as a termination of the existing loan and issuance of a new loan. As a result of the NW Capital debt restructuring, the Company recorded a debt termination charge of $21.7 million during the three and nine months ended September 30, 2014.

Depreciation and Amortization Expense. For the three months ended September 30, 2014, depreciation and amortization expense was $0.8 million, a decrease of $0.2 million, or 19.3%, from $1.0 million for the three months ended September 30, 2013. The decrease is primarily attributed to the reclassification of one of our operating properties to held for sale during the three months ended September 30, 2014 and the resulting cessation of depreciation expense on that property. For the nine months ended September 30, 2014, depreciation and amortization expense was $2.8 million, an increase of $0.7 million or 35.7% from $2.1 million for the nine months ended September 30, 2013. The overall increase in the nine month period is primarily attributed to a full nine months of depreciation resulting from the acquisition of the two operating hotels and related depreciable assets in May 2013.
 
Settlement and Related Costs. Settlement and related costs include settlement amounts, as well as associated legal, professional and other costs relating specifically to the defense of shareholder related claims that were settled in late 2013. During the three and nine months ended September 30, 2014, we recorded no settlement related costs, as compared to $0.8 million and $2.0 million for the three and nine months ended September 30, 2013, respectively.

Gain on Disposal of Assets. For the three months ended September 30, 2014 and 2013, gain on the disposal of assets totaled $5.6 million and $0.3 million, respectively, representing an increase of $5.4 million for the quarter ended September 30, 2014. During the nine months ended September 30, 2014, we sold otherwise disposed of eighteen REO assets (or portions thereof) for $59.4 million (net of selling costs). Also, during nine months ended September 30, 2014, we surrendered certain REO assets with a carrying value of $4.8 million in satisfaction of related liabilities totaling $8.1 million, resulting in a gain on disposal of $3.3 million. The total gain on disposal for the nine months ended September 30, 2014 was $17.6 million. During the nine months ended September 30, 2013, we sold six REO assets (or portions thereof) for $7.6 million (net of selling costs) resulting in a net gain of $1.0 million.
 
Provision for (Recovery of) Credit Losses. For loan assets, we perform a valuation analysis of the underlying collateral to determine the extent of provisions for credit losses required for such assets. For the three and nine months ended September 30, 2014, we recorded no non-cash provision for or recovery of credit losses recorded based on our valuation analysis. For the three and nine months ended September 30, 2014, we recorded $0.2 million and $0.7 million, respectively, all of which related to cash and other asset collections from certain guarantors for which an allowance for credit loss had been previously recorded. For the three and nine months ended September 30, 2013, we recorded recoveries of credit losses totaling $0.7 million and $8.3 million, respectively. Of the $8.3 million, $7.0 million consists of non-cash recoveries based on our valuation analysis of our loan and REO portfolio during the nine months ended September 30, 2013, and related specifically to the improved value for the hotel operations and the pricing and absorption assumptions for the residential lots acquired through foreclosure. The improved value was reflective of improved operating results and improved relevant market conditions. In addition, we recorded recoveries of credit losses of $0.7 million and $1.5 million during the three and nine months ended September 30, 2013, respectively, relating to cash and other asset collections from certain guarantors for which an allowance for credit loss had been previously recorded.




10



Loan Activities, and Loan and Borrower Attributes
 
Lending Activities
 
As of September 30, 2014, our loan portfolio consisted of eight first lien mortgage loans with an aggregate carrying value of $13.2 million. In comparison, as of December 31, 2013, our loan portfolio consisted of seven first mortgage loans with an aggregate carrying value of $12.5 million. Given the non-performing status of the majority of our loan portfolio and the suspension of significant lending activities, there has been limited loan activity during the period ended September 30, 2014. During nine months ended September 30, 2014, we originated two loans totaling $8.4 million in connection with the financing of a portion of the sale of certain REO assets. In addition, in connection with a loan modification, we acquired two loans with an estimated fair value of $0.9 million (as well as title to certain real estate assets as described below) in partial satisfaction of an existing mortgage loan balance. During the nine months ended September 30, 2014, we received $5.7 million in principal payoffs of two loans. During the nine months ended September 30, 2013, we originated one loan in the principal amount of $1.1 million in connection with the partial financing of the sale of an REO asset. As of September 30, 2014 and December 31, 2013, the valuation allowance represented 51.1% and 59.2%, respectively, of the total outstanding loan principal and interest balances.
 
Changes in our Loan Portfolio Profile
 
Because our loan portfolio consisted of only eight loans at September 30, 2014 and seven loans at December 31, 2013, we expect little change in the portfolio profile in future periods until we resume lending activities on a meaningful level. Since October 2008, we have elected to suspend the origination and funding of any new loans. Accordingly, our ability to change the composition of our loan portfolio is limited. In addition, in connection with seeking to preserve our collateral, certain existing loans have been modified, sometimes by extending maturity dates, and, in the absence of available credit financing to repay our loans, we may modify additional loans in the future or foreclose on those loans.
 
Loan Modifications
During the nine months ended September 30, 2014, we modified one loan under the terms of a court-approved order in which the Company accepted, in lieu of cash payment, certain assets with an aggregate estimated fair value of $4.0 million, and established the remaining loan balance principal at $4.0 million. Under the modification, (a) the estimated fair value of the assets received and the newly established loan balance exceeded the carrying value of the loan at the time of modification, (b) the interest rate on the loan was increased from 12.0% to 16.25%, and (c) the Company received additional collateral. The modification, however, is deemed to be a troubled debt restructuring primarily because the total amount to be collected was below the contractual amount otherwise due under the loan when considering contractual default interest due under the original loan terms (none of which was recorded by the Company). The failure to collect the full amount of default interest was deemed to be a concession under applicable accounting guidance. As a result, the fair value of the assets received was treated as a principal reduction under the loan and the carrying value was recorded at the remaining net balance of approximately $2.9 million (rather than the contractual balance of $4.0 million). The difference between the remaining net balance and the contractual amount due upon maturity was being amortized as an adjustment to yield (i.e., interest income) over the remaining term of the loan which matured (and defaulted) on September 30, 2014.
Geographic Diversification
 
At September 30, 2014, our mortgage loans consist of loans where the primary collateral is located in Arizona, California and Utah. The concentration of our loan portfolio in Arizona and California, geographic markets where real estate values were severely impacted by the decline in the real estate market in 2008 through 2010, totaled 69.7% and 49.2% at September 30, 2014 and December 31, 2013, respectively. Since we have suspended funding new loans, our ability to diversify the geographic aspect of our loan portfolio remains significantly limited. The change year over year in the geographic diversification of our loans is primarily attributed to the foreclosure and transfer of loans to REO assets.
 
See “Note 3 – Mortgage Investments, Loan Participations and Loan Sales” in the accompanying condensed consolidated financial statements and Item 2. - "Selected Financial Data" for additional information regarding the geographic diversification of our loan portfolio.
 

11



Interest Rate Information
 
Our loan portfolio includes loans that carry variable and fixed interest rates. All variable interest rate loans are indexed to the Prime Rate with interest rate floors. At September 30, 2014 and December 31, 2013, the Prime Rate was 3.25% per annum.
 
The majority of our loans are in non-accrual status. At September 30, 2014, two of our eight loans were performing and had principal balances totaling $8.4 million and a weighted average contractual interest rate of 7.0%. At December 31, 2013, two of our seven loans were performing and had principal balances totaling $5.6 million and a weighted average interest rate of 12.5%. For additional discussion regarding the impact of pro forma increases or decreases in the Prime Rate, see “Quantitative and Qualitative Disclosures about Market Risk” located elsewhere in this Form 10-Q.

See "Note 3 – Mortgage Investments, Loan Participations and Loan Sales” in the accompanying consolidated financial statements and Item 2 - "Selected Financial Data" for additional information regarding interest rates for our loan portfolio.
 
Loan and Borrower Attributes
 
Our borrowers historically consisted of land developers, homebuilders, commercial property developers and real estate investors, while the collateral supporting our loans generally consists of fee simple real estate zoned for residential, commercial or industrial use. We classify loans into categories based on the underlying collateral’s projected end-use for purposes of identifying and managing loan concentration and associated risks. With our limited funding of new loans, the concentration of our current portfolio loans by development status and expected end-use of the underlying collateral has not changed materially, and is not expected to change materially, until we begin making new mortgage and other real estate investments.

As of September 30, 2014, the original projected end-use of the collateral under our loans was comprised of 68.5% residential, 27.3% mixed-use and 4.2% commercial. As of December 31, 2013, the original projected end-use of the collateral under our loans was comprised of 85.2% residential and 14.8% mixed-use.
 
See “Note 3 – Mortgage Investments, Loan Participations and Loan Sales” in the accompanying consolidated financial statements and, Item 2. - "Selected Financial Data" for additional information regarding the classification of our loan portfolio.
 
Changes in the Portfolio Profile — Scheduled Maturities
 
As of September 30, 2014, the outstanding principal and interest balance of mortgage loans, net of the valuation allowance, have scheduled principal paydowns or maturities within the next several years as follows:
 
Quarter
 
Principal
and Interest
Outstanding
 
Percent
Matured
 
$
18,585

 
69.0
%
Q3 2015
 
7,249

 
26.9
%
Q1 2017
 
600

 
2.2
%
Q1 2020
 
514

 
1.9
%
Total
 
26,948

 
100.0
%
Less:  Valuation Allowance
 
(13,759
)
 
 

Net Carrying Value
 
$
13,189

 
 

 
Of the total of matured loans as of September 30, 2014, 75% of loan principal and interest matured during the year ended December 31, 2008 and 25% matured during the nine months ended September 30, 2014.

See “Note 3 – Mortgage Investments, Loan Participations and Loan Sales” in the accompanying consolidated financial statements and, Item 2. - "Selected Financial Data" for additional information regarding loan modifications.
 

12



Operating Properties and Real Estate Held for Development or Sale
 
At September 30, 2014, we held total REO assets of $166.3 million, of which $7.6 million were held for development, $75.0 million were held for sale, and $83.8 million were held as operating properties. At December 31, 2013, we held total REO assets of $202.5 million, of which $12.3 million were held for development, $86.6 million were held for sale, and $103.7 million were held as operating properties. These properties are located in California, Texas, Arizona, Minnesota, New Mexico and Utah.
 
We acquired one REO asset through foreclosure during the nine months ended September 30, 2014 with a carrying value of $0.5 million. Also, during the nine months ended September 30, 2014, in connection with the loan modification described above, we were granted title to two real estate land assets with an estimated fair value totaling $3.5 million in partial satisfaction of an existing mortgage loan. In addition, during the nine months ended September 30, 2014, we purchased certain residential parcels in a master planned residential community that was located contiguous to other parcels previously acquired by the Company through foreclosure. The aggregate cost basis of the newly acquired parcels was $9.4 million. Shortly after the purchase of these assets, we sold the entire aggregation of the new and previously owned parcels to a homebuilder for a net sales price of $19.0 million and realized a net gain of approximately $5.6 million. Also during nine months ended September 30, 2014, we surrendered certain REO assets with a carrying value of $4.8 million in satisfaction of related liabilities totaling $8.1 million, resulting in a gain on disposal of $3.3 million. During the nine months ended September 30, 2014, we sold otherwise disposed of eighteen REO assets (or portions thereof), including the sale of the aggregated assets described above, for $59.4 million (net of selling costs), of which we financed $8.4 million, and realized a reduction of $8.1 million in liabilities, resulting in a total net gain during the period of approximately $17.6 million. During the nine months ended September 30, 2013, we sold six REO assets (or portions thereof) for $7.6 million (net of selling costs), of which we financed $1.1 million, for a gain of $1.0 million.

In addition, during the nine months ended September 30, 2014, we transferred one REO asset that was previously held for sale to REO held for development based on management’s plan to develop the property into a multi-family residential project. Subsequent to September 30, 2014, we secured $24.0 million in construction financing in connection with this project. Also, during the nine months ended September 30, 2014, we entered into a contract to sell our commercial office building previously accounted for as an operating property, which is now classified as REO held for sale. This sale transaction is expected to close in the fourth quarter of 2014.

We intend to continue the process of disposing of a significant portion of our existing assets, individually or in bulk, which may result in the further reclassification of an additional portion of our REO assets as held for sale.
 
See “Note 4 – Operating Properties and Real Estate Held for Development or Sale” in the accompanying condensed consolidated financial statements for additional information.
 

13



Important Relationships Between Capital Resources and Results of Operations
 
Summary of Existing Loans in Default
 
At September 30, 2014, six of our eight loans, with a combined carrying value of $4.8 million, were in default. Of the 5 loans that were in default at December 31, 2013, four remained in default status as of September 30, 2014, one was removed upon foreclosure and transferred to REO. During the nine months ended September 30, 2014, two loans assigned to us in connection with the loan modification previously described were added to loans in default. We are exercising enforcement action which could lead to foreclosure or other disposition upon the remaining loans in default. However, the completion and/or timing of foreclosure on the remaining loans is dependent on several factors, including applicable states statutes, potential bankruptcy filings by the borrowers, and our ability to negotiate a deed-in-lieu of foreclosure.
 
See “Note 3 – Mortgage Investments, Loan Participations and Loan Sales” in the accompanying condensed consolidated financial statements and, Item 2. - "Selected Financial Data" for additional information regarding loans in default.
 
Valuation Allowance and Fair Value Measurement of Loans and Real Estate Held for Sale
 
A discussion of our valuation allowance, fair value measurement and summaries of the procedures performed in connection with our fair value analysis as of September 30, 2014, is presented in note 6 of the accompanying condensed consolidated financial statements.
 
Based on our analysis of macro market and economic conditions, market confidence appears to have leveled off in recent months in numerous markets in which our assets are located as evidenced by stabilized sales activity and pricing. Based on the results of our evaluation and analysis, during the three and nine months ended September 30, 2014, we recorded no non-cash provision for credit losses on our loan portfolio. However, we recorded other net recoveries of credit losses of $0.2 million and $0.7 million during the three and nine months ended September 30, 2014, respectively, relating to the collection of cash and other assets from guarantors on certain legacy loans. In addition, we recorded no impairment of real estate owned during the three and nine months ended September 30, 2014.

We recorded no provision for credit losses during the three months ended September 30, 2014 and we recorded non-cash recoveries of credit losses on our loan portfolio in the amount of $7.0 million for the nine months ended September 30, 2013, due to the improved value for the hotel operations and residential lots acquired through foreclosure in the second quarter of 2013. In addition, during the three and nine months ended September 30, 2013, we recorded net cash and asset recoveries of $0.7 million and $1.5 million, respectively, due to the collection of cash and other assets from guarantors on certain legacy loans. We recorded no impairment of real estate owned during the three or nine months ended September 30, 2013. As of September 30, 2014 and December 31, 2013, the valuation allowance totaled $13.8 million and $18.2 million, respectively, representing 51.1% and 59.2%, respectively, of the total outstanding loan principal and accrued interest balances.

Leverage to Enhance Yields
 
We have not historically employed a significant amount of leverage to enhance our investment yield. We may, however, employ such leverage in the future if deemed appropriate.

Current and Anticipated Borrowings and Activity

During the nine months ended September 30, 2014, we repaid a $10.0 million note payable that matured in February 2014 primarily using proceeds from asset sales.

In addition, during the nine months ended September 30, 2014, we purchased certain parcels of land in a master planned residential community with an aggregate cost basis of $9.4 million, which were subsequently sold. In connection with the purchase of these properties, we assumed certain notes payable the terms and current disposition of which are as follows:

$1.45 million note bearing annual interest at 5%, secured by the underlying collateral property. This note was repaid in full upon sale of the related property.
$3.25 million note bearing annual interest at 10%, secured by the underlying collateral property. This note was repaid in full upon sale of the related property.
$3.18 million note bearing annual interest at 3%, interest only payable monthly, unsecured, maturing June 5, 2023. This note remained as an outstanding obligation of the Company as of September 30, 2014. A majority of the note balance is payable to certain entities affiliated with a loan guarantor against whom the Company has obtained a judgment. As a

14



result, the Company sought court approval to offset this liability against the outstanding judgment, which was granted by the court subsequent to September 30, 2014, at which time the legal obligation under this note was expunged and recorded as recovery income.

During the nine months ended September 30, 2014, we completed the Exchange Offering and the Rights Offering previously described in this Report pursuant to which we issued approximately $10.2 million of 4% Exchange Offering notes and approximately $70,000 of 17% Rights Offering notes. During the three months ended September 30, 2014, we repurchased and retired the Rights Offering notes in full in connection with the NW Capital loan restructure described below.

Also during the nine months ended September 30, 2014, the Company entered into a series of agreements and transactions in connection with the partial refinancing and restructuring of the NW Capital loan pursuant to a payoff agreement, as amended (“Payoff Agreement”). Pursuant to the Payoff Agreement, the Company and NW Capital entered into certain amendments to the NW Capital loan (collectively, the "Modified Loan") the principal terms of which are as follows: (1) the new maturity date is July 22, 2015 (the "Maturity Date"); (2) the conversion rights that had been held by NW Capital to convert the debt into our Series A Preferred stock were eliminated; (3) the new principal balance is $45.0 million; (4) interest accrues at 17% per annum, payable by the Company on a quarterly basis; and (5) on October 24, 2014, and no later than every 90 days thereafter until the Maturity Date, the Company is required to make payments equal to the sum of: (x) $5.0 million (which payment will be applied toward the then-outstanding principal and interest due on the Modified Loan); and (y) a fee of one percent (1)% of the then-outstanding principal balance of the Modified Loan. As a result of the material change in loan terms, the NW Capital loan was treated as a termination of the existing loan and issuance of a new loan. Under the Payoff Agreement, a total payment of $81.4 million was made to NW Capital consisting of the $45.0 million Modified Loan, $26.4 million from the issuance of preferred shares and approximately $10.0 million in cash. The Company incurred additional debt termination charges from other costs associated with the transaction, including the issuance of various equity instruments related directly to the ModifiedLoan. As a result of the NW Capital debt restructuring, the Company recorded a debt termination charge of $21.7 million during the three and nine months ended September 30, 2014. The restructure and partial refinance of the NW Capital loan are considered to be the first step in a two-step overall refinancing strategy, the primary objective of which is to reduce the Company’s current and future annual interest expense and related costs, in order to improve the Company’s overall liquidity.

Subsequent to September 30, 2014, the Company entered into a further amendment of the Modified Loan to extend the payment date of the initial $5.0 million principal payment from October 24, 2014 to December 24, 2014.
Subsequent to September 30, 2014, the Company, through a wholly owned subsidiary, formed a joint venture in connection with the development of Gabella. The development of the project will be funded, in part, with a construction loan in the amount of $24.0 million (the “Construction Loan”) from the Bank of the Ozarks (“Ozarks”) pursuant to a Construction Loan Agreement entered into between IMH Gabella and Ozarks, dated as of October 20, 2014. In addition to the Construction Loan, the project's development cost will be financed through an equity contribution of $11.8 million by the Company consisting of entitled land and working capital. The project’s development costs will also be partially offset through various subsidies received from the City of Apple Valley (the “City”) including a $3.3 million tax increment financing package.
The Construction Loan is secured by a first lien mortgage on the project as well as certain adjacent parcels that are planned for future development, improvements thereon, and an assignment of rents and revenues. The Construction Loan bears annual interest at the greater of 1) three-month LIBOR plus 375 basis points, or 2) 4.25%. The loan has an initial term of three years, provided, however, that the initial term may be extended for two additional one-year terms subject to the satisfaction of certain conditions. Advances under the Construction Loan will commence when the Company has fully satisfied its equity funding requirement. Interest only payments on any outstanding principal commences on November 1, 2014. Monthly payments of principal and interest will commence on the earlier of (i) November 1, 2016 and (ii) the first month following stabilization (as defined in the loan agreement). The Construction Loan is subject to a completion and repayment guarantee by the Company and requires a minimum liquidity balance of $7.5 million commencing on the initial construction draw (expected to occur in the first quarter of 2015).
See "Note 7 – Debt, Notes Payable, and Special Assessment Obligations” in the accompanying condensed consolidated financial statements for further information regarding notes payable activity.

Off-Balance Sheet Arrangements
As of September 30, 2014 and December 31, 2013, we did not have any off-balance sheet arrangements.

15



Liquidity and Capital Resources
We require liquidity and capital resources to acquire and originate our target assets, as well as for costs, expenses and general working capital needs, including maintenance, development costs and capital expenditures for our operating properties, properties under development and non-operating REO assets, professional fees, general and administrative operating costs, loan enforcement costs, borrowing costs, litigation and related costs, debt service payments on borrowings, and dividends. We expect our primary sources of liquidity over the next twelve months to consist of our current cash and restricted cash balances, revenues from operating properties, proceeds from borrowings, proceeds from the disposition of our existing loan and REO assets held for sale, and proceeds from the previous and future issuance of equity securities.

At September 30, 2014, we had cash and cash equivalents of $3.0 million and restricted cash and cash equivalents of $10.0 million, as well as loans held for sale totaling $13.2 million and REO held for sale of $75.0 million. The proceeds from these items, coupled with revenues generated from our operating properties, and proceeds from the issuance of debt and equity securities, comprise our primary sources of liquidity and we believe they are sufficient to cover our liquidity needs over the next twelve months. However, there is no assurance that we will be successful in selling existing real estate assets in a timely manner or in obtaining additional financing, if needed, to sufficiently fund future operations or to implement our investment strategy. Further, each sale requires the approval of the holders of NW Capital. Our failure to generate sustainable earning assets and successfully liquidate a sufficient number of our loans and real estate assets, including receiving approval from our lender of such liquidations, may have a material adverse effect on our business, results of operations and financial position.
Our requirements for and sources of liquidity and capital resources are described in more detail in our Annual Report on Form 10-K for the year ended December 31, 2013. There have been no material changes to our requirements for liquidity as of and for the nine months ended September 30, 2014, except as it pertains to the contemplated refinancing of the NW Capital loan.
Cash Flows
Cash Used In Operating Activities  
Cash used in operating activities was $18.2 million for the nine months ended September 30, 2014 compared to $13.9 million for the nine months ended September 30, 2013. Cash flows from operating activities includes cash generated from operating property revenues, investment and other income, and mortgage income from our loan portfolio, offset by amounts paid for operating property expenses, property taxes and other operating costs for REO assets, professional fees, general and administrative expenses and other expenses, as well as interest on our notes payable.
Cash Provided By (Used in) Investing Activities  
Net cash provided by investing activities was $52.0 million for the nine months ended September 30, 2014 compared to cash used in investing activities of $4.7 million for the nine months ended September 30, 2013. Primary sources of cash from investing activities for 2014 included $51.0 million from sales of REO assets and $5.7 million from mortgage loan repayments, offset by $4.7 million in various investments in real estate properties owned. Net cash used in investing activities in 2013 was primarily due to a preferred equity investment made during the period totaling $15.0 million and $2.5 million of capitalized foreclosure costs related to the recovery of the Sedona assets, offset by $8.6 million in mortgage loan repayments and proceeds from asset sales and recoveries of $6.5 million.
Cash Provided by (Used in) Financing Activities
Net cash used in financing activities was $38.6 million for the nine months ended September 30, 2014 compared to cash provided by financing activities in $17.2 million for the nine months ended September 30, 2013. During the nine months ended September 30, 2014, we repaid notes payable totaling $19.0 million, and experienced an increase in restricted cash of $4.2 million. During the nine months ended September 30, 2013, we secured note proceeds totaling $10.2 million and experienced a decrease in restricted cash of $10.2 million, which was offset by debt issuance costs of $1.1 million, repayments of notes payable of $1.3 million and dividends paid of $0.8 million.
Critical Accounting Policies
Our critical accounting policies are disclosed in our previously filed Annual Report on Form 10-K for the fiscal year ended December 31, 2013.  As of September 30, 2014, there have been no significant changes in our critical accounting policies from December 31, 2013, except as disclosed in note 2 of the unaudited condensed consolidated financial statements included in this Form 10-Q.

16



Recent Accounting Pronouncements
For information regarding recent accounting pronouncements that are applicable to us, see Note 2 to our unaudited condensed consolidated financial statements included with this Form 10-Q.



17



Item 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
 
Our quantitative and qualitative disclosures about market risk are disclosed in our previously filed Annual Report on Form 10-K for the year ended December 31, 2013.  As of September 30, 2014, there have been no significant changes in our market risks from those disclosed in our Annual Report on Form 10-K for the year ended December 31, 2013.

Interest Rate Risk
 
Because our two performing loans are fixed rate loans and the remaining principal balances of our loans are in non-accrual status as of September 30, 2014, changes in weighted average interest rates for our loan portfolio have little impact on interest income. As of December 31, 2013, 81.4% of the principal balance of our loans was in non-accrual status.
The following tables contain information about our mortgage loan principal and interest balances as of September 30, 2014, presented separately for fixed and variable rates and the calendar quarters in which such mortgage investments mature:
 
 
 
Matured
 
Q3 2015
 
Q3 2017
 
Q1 2020
 
Total
 
 
(in thousands)
Loan Rates:
 
 

 
 

 
 
 
 

 
 

Variable
 
$
12,679

 
$

 
$

 
$

 
$
12,679

Fixed
 
5,906

 
7,249

 
600

 
514

 
14,269

Principal and interest outstanding
 
$
18,585

 
$
7,249

 
$
600

 
$
514

 
26,948

Less: Valuation Allowance
 
 

 
 

 
 
 
 

 
(13,759
)
Net Carrying Value
 
 

 
 

 
 
 
 

 
$
13,189

 
As of September 30, 2014, we had cash and cash equivalents totaling $3.0 million and restricted cash of $10.0 million (collectively, 6.5% of total assets), respectively, all of which were held in bank accounts, highly liquid money market accounts or short-term certificates of deposit. We have historically targeted between 3%-5% of the principal balance of our outstanding portfolio loans to be held in such accounts as a working capital reserve. However, our actual deployment in the future may vary depending on a variety of factors, including the timing and amount of debt or capital raised and the timing and amount of investments made. We believe that these financial assets do not give rise to significant interest rate risk due to their short-term nature.


18



Item 4.
CONTROLS AND PROCEDURES.

Controls and Procedures

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act as of the end of the period covered by this report (the "Evaluation Date"). Based on this evaluation, our principal executive officer and principal financial officer concluded as of the Evaluation Date that our disclosure controls and procedures were effective to ensure that the information relating to the Company required to be disclosed in our SEC reports (i) is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and (ii) is accumulated and communicated to the Company's management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.

Management’s Report on Internal Control Over Financial Reporting
 
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f) and 15d-15(f).  Our internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles. Our internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of Company management and our board of directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company's assets that could have a material effect on the financial statements.
 
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
 
The Company's Chief Executive Officer (principal executive officer) and Chief Financial Officer (principal financial officer) assessed the effectiveness of the Company's internal control over financial reporting as of September 30, 2014, utilizing the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework (1992). Based on their assessment, we determined that the Company's internal control over financial reporting was effective as of September 30, 2014.
 
This report does not include an attestation report of the Company's independent registered public accounting firm regarding internal control over financial reporting since the Company is a smaller reporting company under the rules of the SEC.

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of any changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during our most recently completed fiscal quarter. Based on that evaluation, our principal executive officer and principal financial officer concluded that, aside from the items described above, there has not been any change in our internal control over financial reporting during the quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

19



PART II


Item 1.
Legal Proceedings.
The status of our legal proceedings is provided in Note 10 – “Commitments and Contingencies – Legal Matters” of the accompanying condensed consolidated financial statements and is incorporated herein by reference. There is no material outstanding litigation at September 30, 2014.


Item 1A.
Risk Factors.
 
In addition to the other information set forth in this Form 10-Q, you should carefully consider the factors discussed in Item 1A, “Risk Factors,” in our previously filed Form 10-K for the year ended December 31, 2013, which could materially affect our business, financial condition or results of operations. The risks described in our Form 10-K are not the only risks we face.  Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition or operating results.


Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds.

Issuer Sales of Equity Securities

As described in the Current Report on Form 8-K filed on July 29, 2014, during the period ended September 30, 2014, the Company issued a total of 8.2 million shares of the Company’s newly-designated Series B-1 and B-2 Cumulative Convertible Preferred Stock (Series B Preferred Stock) to certain investor groups (collectively, the "Series B Investors") in exchange for $26.4 million (the "Preferred Investment"). The Series B Preferred Stock was issued pursuant to an exemption from registration under Regulation D. The Company filed a Form D in connection with this transaction.

Issuer Purchases of Equity Securities
 
While the Company does not have a formal share repurchase program, it may repurchase its shares from time to time, depending on market conditions and other factors, through privately negotiated transactions. The table below details the repurchases that were made during the three months ended September 30, 2014.
Period
 
Total number of shares (or units) purchased
 
Average price paid per share (or unit)
 
Total number of shares (or units) purchased as part of publicly announced plans or programs
 
Maximum number (or approximate dollar value)of shares(or units) that may yet be purchased under the plans or programs
July 1-31, 2014
 
319,484

1 

$
8.02

 

 

August 1-31, 2014
 

 

 

 

September 1-30, 2014
 

 

 

 

Total
 
319,484

 
$
8.02

 

 


1 As previously disclosed, we purchased 319,484 shares at $8.02 per share of Class B Common Stock held by an affiliate of NW Capital in connection with the restructure and partial refinancing of the NW Capital note payable described in note 7 of the accompanying unaudited condensed consolidated financial statements. The common stock acquired consisted of 1,423 shares of Class B-1 common, 1,423 shares of Class B-2 common, 2,849 shares of Class B-3 common and 313,789 shares of Class B-4 common.

Item 3.
Defaults Upon Senior Securities.

Not applicable


20




Item 4.
Mine Safety Disclosures.
 
Not applicable


Item 5.
Other Information.

Not applicable



21



Item 6.
Exhibits
Exhibit
No.
Description
 
 
3.1
Certificate of Incorporation of IMH Financial Corporation (filed as Exhibit 3.2 to the Quarterly Report on Form 10-Q filed on August 23, 2010 and incorporated by reference).
 
 
3.1.1
Certificate of Correction of Certificate of Incorporation of IMH Financial Corporation (filed as Exhibit 3.1 to the Quarterly Report on Form 10-Q for the quarter ended March 31, 2013 and incorporated by reference).
 
 
3.1.2
Certificate of Designation for of Series B-1 Cumulative Convertible Preferred Stock and Series B-2 Cumulative Convertible Preferred Stock (filed as Exhibit 3.1 to Current Report on Form 8-K filed on July 29, 2014 and incorporated by reference).
 
 
3.2
Third Amended and Restated Bylaws of IMH Financial Corporation (filed as Exhibit 3.2 to Current Report on Form 8-K filed on July 29, 2014 and incorporated by reference).
 
 
10.13
Negotiated Payoff Agreement, effective April 3, 2014, between NWRA Ventures I, LLC and IMH
Financial Corporation (filed as Exhibit 10.13 to Current Report on Form 8-K/A filed on July 30, 2014 incorporated by reference).
 
 
10.14
Sixteenth Amendment to Negotiated Payoff Agreement, effective as of July 9, 2014, between NWRA Ventures I, LLC and IMH Financial Corporation (filed as Exhibit 10.14 to Current Report on Form 8-K/A filed on July 30, 2014 incorporated by reference).
 
 
10.15
Seventeenth Amendment to Negotiated Payoff Agreement, effective as of July 21, 2014, between NWRA Ventures I, LLC and IMH Financial Corporation (filed as Exhibit 10.15 to Current Report on Form 8-K/A filed on July 30, 2014 incorporated by reference).
 
 
10.16
Eighteenth Amendment to Negotiated Payoff Agreement, effective as of July 23, 2014, between NWRA Ventures I, LLC and IMH Financial Corporation (filed as Exhibit 10.16 to Current Report on Form 8-K/A filed on July 30, 2014 incorporated by reference).
 
 
10.2
Former CEO Separation Agreement, dated July 24, 2014 (filed as Exhibit 10.12 on Current Report on Form 8-K/A on on August 1, 2014 incorporated herein by reference).
 
 
10.3
Amended and Restated Limited Liability Company Agreement of Southwest Acquisitions, LLC, dated as of October 20, 2014 (filed as Exhibit 10.1 to Current Report on Form 8-K/A filed on October 24, 2014 incorporated by reference).
 
 
10.31
Construction Loan Agreement between IMH Gabella, LLC and Bank of the Ozarks, dated October 20, 2014 (filed as Exhibit 10.2 to Current Report on Form 8-K/A filed on October 24, 2014 incorporated by reference).
 
 
10.32
Promissory Note of IMH Gabella, LLC in favor of Bank of the Ozarks, dated October 20, 2014 (filed as Exhibit 10.3 to Current Report on Form 8-K/A filed on October 24, 2014 incorporated by reference).
 
 
10.33
Completion Guaranty of IMH Financial Corporation in favor of Bank of the Ozarks, dated October 20, 2014 (filed as Exhibit 10.4 to Current Report on Form 8-K/A filed on October 24, 2014 incorporated by reference).
 
 
10.34
Repayment Guaranty of IMH Financial Corporation in favor of Bank of the Ozarks, dated October 20, 2014 (filed as Exhibit 10.5 to Current Report on Form 8-K/A filed on October 24, 2014 incorporated by reference).
 
 
31.1
Certification of Chief Executive Officer of IMH Financial Corporation pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
 
31.2
Certification of Chief Financial Officer of IMH Financial Corporation pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
 
32.1
Certification of Chief Executive Officer and the Chief Financial Officer of IMH Financial Corporation pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
 
101.INS
XBRL Instance Document

22



 
 
101.SCH
XBRL Taxonomy Extension Schema Document
 
 
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
 
 
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
 
 
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
 
 
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document


23



SIGNATURES
 
Pursuant to the requirements of Section 13 or 15(d) 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.
 
Date:
November 13, 2014
IMH FINANCIAL CORPORATION
 
 
 
 
 
 
 
 
By:
/s/ Steven T. Darak
 
 
 
 
Steven T. Darak
 
 
 
 
Chief Financial Officer
 
 
KNOW ALL MEN BY THESE PRESENTS, that Lawrence D. Bain, whose signature appears below constitutes and appoints Steven Darak his true and lawful attorney-in-fact and agent, for such person in any and all capacities, to sign any amendments to this report and to file the same, with exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that said attorney-in-fact, or substitute or substitutes, may do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
 
Signature
 
Title
 
Date
 
 
 
 
 
/s/ Lawrence D. Bain
 
Chief Executive Officer and Chairman of the Board
 
November 13, 2014
Lawrence D. Bain
 
(Principal Executive Officer)
 
 
 
 
 
 
 
/s/ Steven T. Darak
 
Chief Financial Officer (Principal Financial Officer
 
November 13, 2014
Steven T. Darak
 
and Principal Accounting Officer)
 
 
 
 
 
 
 
 

24