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| CXS > SEC Filings for CXS > Form 10-K on 1-Mar-2013 | All Recent SEC Filings |
1-Mar-2013
Annual Report
Executive Summary
We are a commercial real estate company that acquires, manages, and finances, directly or through our subsidiaries, commercial mortgage loans and other commercial real estate debt, commercial real property, commercial mortgage-backed securities, or CMBS, other commercial real estate-related assets and Agency residential mortgage-backed securities. We expect that the commercial real estate loans we acquire will be fixed and floating rate first mortgage loans secured by commercial properties. We may also acquire subordinated commercial mortgage loans and mezzanine loans. We have also invested in long-term sale-leaseback transactions and we may in invest in build-to-suit transactions for companies in the U.S. The long term sale-leaseback and build to suit properties are triple-net leased to corporate tenants. The triple-net leases require that in sale-leaseback transactions, each tenant pays substantially all of the costs associated with operating and maintaining the property, including real estate taxes, assessments and other government charges, insurance, utilities, repairs and maintenance and capital expenditures. From time to time, we also acquire commercial real property as part of our resolution of commercial mortgage loans and other commercial real estate debt where a borrower defaults on their obligations and we take title to the collateral underlying the commercial mortgage loans and other commercial real estate debt through foreclosure or other means.
We acquire CMBS which are rated AAA through BBB as well as CMBS that are below investment grade or are non-rated. The other commercial real estate-related securities and other commercial real estate asset classes consist of debt and equity tranches of commercial real estate collateralized debt obligations, or CRE CDOs, loans to real estate companies including real estate investment trusts, or REITs, and real estate operating companies, or REOCs, commercial real estate securities and commercial real property. In addition, we may acquire residential mortgage-backed securities, or RMBS, for which a U.S. Government agency such as Ginnie Mae, or a federally chartered corporation such as Fannie Mae and Freddie Mac, guarantees payments of principal and interest on the securities. We refer to these securities as Agency RMBS. We refer to Ginnie Mae, Fannie Mae, and Freddie Mac collectively as the Agencies.
We are externally managed by Fixed Income Discount Advisory Company, which we refer to as FIDAC, or our Manager. FIDAC is a wholly owned subsidiary of Annaly Capital Management, Inc., or Annaly.
We have elected to be taxed as a REIT for federal income tax purposes commencing with our taxable year ending on December 31, 2009. Our targeted asset classes and the principal investments we expect to make in each include:
· Commercial Mortgage Loans:
o A-Notes and other first mortgage loans that are secured by commercial and multifamily properties
o Construction loans
· Subordinated Debt and Preferred Equity:
o B-Notes, C-Notes, and other subordinated notes
o Mezzanine loans
o Loan participations
o Preferred equity
· Commercial Real Property:
o Office buildings
o Hotels
o Retail
o Industrial
o Multifamily
o Residential condominiums
o Other commercial real property including land
· Commercial Mortgage-Backed Securities, or CMBS:
o CMBS rated AAA through BBB
o CMBS that are rated below investment grade or are non-rated
· Other Commercial Real Estate Assets:
o Debt and equity tranches of CRE CDOs
o Loans to real estate companies including REITs and REOCs
o Commercial real estate securities
· Agency RMBS:
o Single-family residential mortgage pass-through certificates representing interests in "pools" of mortgage loans secured by residential real property where payments of both interest and principal are guaranteed by a U.S. Government Agency or federally chartered corporation
Our principal business objective is to capitalize on the fundamental changes that have occurred and are occurring in the commercial real estate finance industry to provide attractive risk adjusted returns to our stockholders over the long term, primarily through dividends and secondarily through capital appreciation. In order to capitalize on the changing sets of opportunities that may be present in the various points of an economic cycle, we may expand or refocus our strategy by emphasizing assets in different parts of the capital structure and different real estate sectors. We expect to continue to deploy our capital through the origination and acquisition of commercial first mortgage loans, CMBS, mezzanine financings and other commercial real-estate debt instruments at attractive risk-adjusted yields as well as directly in commercial real property, and CMBS and Agency RMBS. We expect to allocate our capital within our targeted asset classes opportunistically based upon our Manager's assessment of the risk-reward profiles of particular assets. Our strategy may be amended from time to time, if recommended by our Manager and approved by our board of directors. If we amend our asset strategy, we are not required to seek stockholder approval.
We expect that over the near term our investment portfolio will be weighted toward commercial real estate loans and other commercial real estate debt and commercial real property, subject to maintaining our REIT qualification and our 1940 Act exemption.
We may use borrowings as part of our financing strategy. We have financed our triple-net lease portfolio with non-recourse financings, which generally limit the recoverability of the loan to the respective properties. These financings may be specific to a particular property or secured by a portfolio of our properties. We anticipate that the loan to value ratio for these financing will be between 40% and 65% and would likely not exceed 80%.
Although we are not required to maintain any particular leverage ratio, the amount of leverage we incur is determined by our Manager, taking into account a variety of factors, which may include the anticipated liquidity and price volatility of the assets in our portfolio, the potential for losses and extension risk in our portfolio, the gap between the duration of our assets and liabilities, including hedges, the availability and cost of financing our assets, the creditworthiness of our financing counterparties, the health of the U.S. economy and commercial and residential mortgage markets, the outlook for the level, slope, and volatility of interest rate movement, the credit quality of our target assets and the collateral underlying our target assets. We may enhance the returns on our commercial mortgage loan assets, especially loan acquisitions, through securitizations. We may also sell the senior portion or A-Note and retain the subordinate or junior position in a B-Note or other subordinate loan. If possible, we may securitize the senior portion, expected to be equivalent to investment grade rated CMBS, while retaining the subordinate securities in our portfolio. We use repurchase agreements to finance acquisitions of Agency RMBS with a number of counterparties. We expect to leverage our triple-net lease investments. In the future, we may also use other sources of financing to fund the acquisition of our targeted assets, including warehouse facilities and other secured and unsecured forms of borrowing. We may also seek to raise further equity capital or issue debt securities to fund our future asset acquisitions.
Subject to maintaining our qualification as a REIT, we may, from time to time, utilize derivative financial instruments to mitigate the effects of fluctuations in interest rates and its effects on our asset valuations. We also may engage in a variety of interest rate management techniques that seek to mitigate changes in interest rates or other potential influences on the values of our assets. We may attempt to reduce interest rate risk and to minimize exposure to interest rate fluctuations through the use of match funded financing structures, when appropriate. We expect these instruments will allow us to minimize, but not eliminate, the risk that we have to refinance our liabilities before the maturities of our assets and to reduce the impact of changing interest rates on our earnings.
Factors Impacting our Operating Results
In addition to the prevailing market conditions, our operations are affected by a number of factors and primarily depend on, among other things, the level of our net interest income, the market value of our assets and the supply of, and demand for, commercial mortgage loans, commercial real estate debt, CMBS and other financial assets in the marketplace. Our net interest income includes the actual payments we receive and is also impacted by the amortization of purchase premiums and accretion of purchase discounts. Our net interest income varies over time, primarily as a result of changes in interest rates, and accretion of purchase discount. Interest rates vary according to the type of asset, conditions in the financial markets, creditworthiness of our borrowers, competition and other factors, none of which can be predicted with certainty. Accretion of purchase discount is calculated using the effective interest method and is dependent on price of the asset and the duration that the asset matures. Our operating results may also be impacted by credit losses in excess of initial anticipations or unanticipated credit events experienced by borrowers whose mortgage loans are held directly by us or are included in our CMBS.
Change in Fair Value of our Assets. It is our business strategy to hold our targeted assets as long-term investments. As such, we expect that our CMBS and Agency RMBS will be carried at their fair value, as available-for-sale securities in accordance with ASC 320, Investments in Debt and Equity Securities, with changes in fair value recorded through accumulated other comprehensive income (loss) rather than through earnings. As a result, we do not expect that changes in the fair value of the assets will normally impact our operating results. At least on a quarterly basis, however, we will assess both our ability and intent to continue to hold such assets as long-term investments. As part of this process, we will monitor our targeted assets for other-than-temporary impairment, or OTTI, including OTTI attributable to credit losses. A change in our ability or intent to continue to hold any of our investment securities could result in our recognizing an impairment charge or realizing losses upon the sale of such securities. Our commercial real estate loans are held for investment and are carried at amortized cost, net of an allowance for loan losses in accordance with ASC 310, Receivables.
Credit Risk. We may be exposed to various levels of credit risk depending on the nature of our investments and the nature and level of the assets underlying the investments and credit enhancements, if any, supporting our assets. FIDAC and FIDAC's Investment Committee approve and monitor credit risk and other risks associated with each investment. We review loan to value metrics upon either the origination or the acquisition of a new investment but generally not in the course of quarterly surveillance. We generally review the most recent financial information produced by the borrower, net operating income, or NOI, debt service coverage ratios, or DSCR, property debt yields (net cash flow or NOI divided by the amount of outstanding indebtedness), loan per unit and rent rolls relating to each of our assets, and may consider other factors we deem important. We review market pricing to determine the ability of the asset to refinance. We review economic trends, both macro as well as those directly affecting the property, and the supply and demand of competing projects in the sub-market in which the subject property is located. We also evaluate the borrower's ability to manage and operate the properties.
Based upon the review, loans are assigned an internal rating of Performing Loans, Watch List Loans or Workout Loans. Loans that are deemed Performing Loans meet all present contractual obligations. Watch List Loans are defined as performing or nonperforming loans for which the timing of cost recovery is under review. Workout Loans are defined as loans for which there is a likelihood that we may not recover our cost basis.
Size of Portfolio. The size of our portfolio, as measured by the aggregate unpaid principal balance of our commercial real estate loans, aggregate principal balance of our mortgage-related securities and our investment in real estate are the key revenue drivers. Generally, as the size of our portfolio grows, the amount of interest and rental income we receive increases. The larger portfolio, however, may drive increased expenses if we incur additional interest expense to finance the purchase of our assets.
Changes in Market Interest Rates. With respect to our business operations, increases in interest rates, in general, may over time cause:
· the interest expense associated with our borrowings to increase;
· the value of our mortgage loans, CMBS and Agency RMBS, to decline;
· coupons on our adjustable rate mortgage loans, CMBS and Agency RMBS to reset, although on a delayed basis, to higher interest rates;
· to the extent applicable under the terms of our investments, prepayments on our mortgage loan portfolio, CMBS and Agency RMBS to slow, thereby slowing the amortization of our purchase premiums and the accretion of our purchase discounts; and
· to the extent we enter into interest rate swap agreements as part of our hedging strategy, the value of these agreements to increase.
Conversely, decreases in interest rates, in general, may over time cause:
· to the extent applicable under the terms of our investments, prepayments on our mortgage loan, CMBS and Agency RMBS portfolio to increase, thereby accelerating the amortization of our purchase premiums and the accretion of our purchase discounts;
· the interest expense associated with our borrowings to decrease;
· the value of our mortgage loan, CMBS and Agency RMBS portfolio to increase;
· to the extent we enter into interest rate swap agreements as part of our hedging strategy, the value of these agreements to decrease; and
· coupons on our adjustable-rate mortgage loans, CMBS and Agency RMBS to reset, although on a delayed basis, to lower interest rates
Since changes in interest rates may significantly affect our activities, our operating results depend, in large part, upon our ability to effectively manage interest rate risks and prepayment risks while maintaining our status as a REIT.
Investment Activities
At December 31, 2012, our investment portfolio consisted of $729.8 million of loans, $39.8 million of preferred equity and $70.4 million of equity investments in real estate, which includes real estate held for sale and is net of intangible assets and liabilities relating to the purchase price allocation of the investment in real estate of $3.2 million.
The following segmented table summarizes certain characteristics of our investment portfolio at December 31, 2012, 2011 and 2010:
As of
December December 31, December 31, December 31,
31, 2012 2011 2010 2009
Commercial Real Estate Debt and
Preferred Equity Portfolio (dollars in thousands)
Commercial real estate debt and
preferred equity investment
portfolio $ 769,591 $ 752,801 $ 188,869 $ 70,911
Commercial mortgage backed
securities - - 224,112
Interest bearing liabilities at
period-end - - 172,837 25,579
Secured financing leverage at
period-end (Debt:Equity) - - 0.6:1 0.1:1
Fixed-rate investments as
percentage of portfolio 71 % 38 % 94 % 100 %
Adjustable rate investments as
percentage of portfolio 29 % 62 % 6 % -
Fixed-rate investments
Commercial mortgage-backed
securities as percentage of
fixed-rate assets - - 55 % 45 %
Commercial real estate debt as
percentage of fixed-rate assets 93 % 100 % 40 % 55 %
Commercial preferred equity as
percentage of fixed-rate assets 7 % - 5 % -
Adjustable rate investments
Commercial mortgage loans as
percentage of adjustable-rate
assets 100 % 100 % 100 % -
Weighted average yield on interest
earning assets at period-end 10.56 % 29.86 % 7.75 % 9.67 %
Real Estate Properties Portfolio
including Real Estate Held for Sale
Real estate investment at
period-end (1) $ 70,354 $ 33,196 - -
Financing on real estate $ 19,150 $ 16,600 - -
Annualized yield on real estate
investment portfolio at period end
(2) 9.55 % 7.67 % - -
Weighted average cost of funds on
real estate investment financing(3) 3.49 % 3.50 % - -
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(1) Includes $33.5 million in real estate held for
sale at December 31, 2012 . Also includes related
net intangible assets in excess of liabilities
associated with purchase price allocation.
(2) Impairment charges and gain on sales related to
discontinued operations were not annualized for
purposes of determining the yield on real estate
investment portfolio.
(3) Includes the effect of the interest rate swap
and excludes the effect of the change in market
value of the interest rate swap for the year ended
December 31, 2012.
The following table represents our commercial real estate loan and preferred equity portfolio at December 31, 2012:
Commercial Real Estate Loans and Preferred Equity
December 31, 2012
(dollars in thousands)
Property Type Stated Payment Carrying
Maturity
Senior Debt Location Coupon Date Terms Face Amount Amount
Condo NY - %(1) Dec-13 I/O $ 12,973 $ 12,973
Retail CO 5.58 % May-17 30 year 17,708 15,608
Retail IN 4.75 % Nov-14 I/O 23,814 23,814
Industrial TX 6.40 % Aug-14 I/O 34,000 35,448
Retail PA 4.50 % Aug-15 I/O 12,500 12,500
Commercial mortgage loans: Commercial mortgage loans
weighted average coupon 4.81 % total $ 100,995 $ 100,343
Subordinate and Mezzanine debt
(2)
Hotel TX 10.53 % Sep-16 I/O $ 44,000 $ 44,000
Retail TX 11.25 % Apr-15 30 year 27,106 27,106
Office NY 10.00 % Jul-21 I/O 10,000 10,000
Office NY 10.00 % Dec-14 Fully Amortizing 3,945 3,945
Retail Various 7.71 % Dec-15 Fixed paydown 45,625 42,822
Office CA 11.13 % Oct-14 I/O 20,000 20,000
Retail Various 12.24 % Dec-19 I/O 40,000 40,000
Office GA 12.00 % Oct-13 I/O 20,500 20,500
Office IL 5.65 % Jan-15 30 year 16,410 15,715
Office IL 6.66 % Jun-15 I/O 25,000 23,239
Office NY 11.15 % Sep-21 I/O 18,000 18,000
Retail Various 11.25 % Apr-17 25 year 87,273 87,273
Hotel CA 12.25 % Apr-17 I/O 8,000 8,000
Industrial Various 11.00 % Jun-17 I/O 50,000 50,000
Office MD 11.20 % Aug-17 I/O 10,130 10,130
Office MD 11.70 % Aug-17 I/O 9,942 9,942
Office GA 11.00 % Jul-15 I/O 9,000 9,000
Hotel Various 11.50 % Dec-19 I/O 25,000 25,000
Office NY 10.00 % Oct-18 I/O 10,000 10,000
Industrial NY 11.50 % Jan-18 I/O 4,000 4,000
Office Various 11.50 % Dec-14 I/O 92,673 92,673
Retail IN 16.79 % Nov-14 I/O 4,626 4,626
Hotel NY 10.83 % Sep-13 I/O 17,000 17,000
Hotel NY 12.61 % Sep-13 I/O 13,000 13,000
Office IL 12.25 % Aug-15 I/O 6,500 6,500
Industrial TX 6.40 % Aug-14 I/O 12,500 11,008
Retail PA 11.75 % Aug-15 I/O 6,000 6,000
Subordinate and mezzanine debt: Subordinate and mezzanine debt
weighted average coupon 10.68 % total $ 636,230 $ 629,479
Total debt portfolio:
weighted average coupon 9.87 % Total debt portfolio $ 737,225 $ 729,822
Preferred Equity
Multi-Family
PE MD 11.00 % Aug-22 I/O $ 39,769 $ 39,769
Commercial real estate debt and Total commercial real estate
preferred equity portfolio: weighted debt and prefered equity
average coupon 9.93 % portfolio $ 776,994 $ 769,591
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Results of Operations
Net Income Summary
Our net income for the year ended December 31, 2012 was $71.0 million, or $0.93 per average common share, as compared to net income of $108.4 million or $1.73 per average common share for the year ended December 31, 2011 and net income of $11.9 million or $0.66 per average common share for the year ended December 31, 2010. We attribute the decrease in net income for the year ending December 31, 2012 primarily to the decrease in accretion income of $38.0 million, partially offset by an increase of coupon related interest income of $20.1 million as compared to the year ended December 31, 2011. In addition, the sale of our CMBS and Agency RMBS portfolio resulted in a gain of $18.5 million during the year ended December 31, 2011 with no comparable amounts in 2012.
Net income increased by $1.07 per average share available to common shareholders and total net income increased by $96.5 million for the year ended December 31, 2011, when compared to the year ended December 31, 2010. We attribute the increase in total net income to the purchase of income producing assets from the proceeds of our secondary offering.
The table below presents the Consolidated Statements of Comprehensive Income for the years ended December 31, 2012, 2011 and 2010:
CREXUS INVESTMENT CORP.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(dollars in thousands, except share and per share data)
For the Year Ended
December 31, 2012 December 31, 2011 December 31, 2010
Net interest income:
Interest income $ 88,561 $ 106,483 $ 20,847
Interest expense (1,138 ) (2,370 ) (5,279 )
Servicing fees (530 ) (572 ) (115 )
Net interest income 86,893 103,541 15,453
Other income:
Realized loss on sale of loan (525 ) - -
Realized gains on sales of investments - 18,481 623
Miscellaneous fee income 348 486 -
Rental income 3,153 238 -
Total other income 2,976 19,205 623
Other expenses:
Provision for loan losses, net 2,803 127 240
Management fees to affiliate 13,775 10,958 1,644
General and administrative expenses 6,660 3,211 2,305
Amortization expense 440 - -
Depreciation expense 1,086 54 -
Total other expenses 24,764 14,350 4,189
. . .
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