| Such forward-looking statements relate to, among other things, the operating performance of our investments, the stability of our earnings, and our financing needs |
| Forward-looking statements are generally identifiable by use of forward-looking terminology such as “may,” “will,” “should,” “potential,” “intend,” “expect,” “endeavor,” “seek,” “anticipate,” “estimate,” “overestimate,” “underestimate,” “believe,” “could,” “project,” “predict,” “continue” or other similar words or expressions |
| Forward-looking statements are based on certain assumptions, discuss future expectations, describe future plans and strategies, contain projections of results of operations or of financial condition or state other forward-looking information |
| Our ability to predict results or the actual effect of future plans or strategies is inherently uncertain |
| Although we believe that the expectations reflected in such forward-looking statements are based on reasonable assumptions, our actual results and performance could differ materially from those set forth in the forward-looking statements |
| These forward-looking statements involve risks, uncertainties and other factors that may cause our actual results in future periods to differ materially from forecasted results |
| Factors which could have a material adverse effect on our operations and future prospects include, but are not limited to, our ability to take advantage of opportunities in additional asset classes at attractive risk-adjusted prices, our ability to deploy capital accretively, the relationship between yields on assets which are paid off and yields on assets in which such monies can be reinvested, the relative spreads between the yield on the assets we invest in and the cost of financing, changes in economic conditions generally and the real estate and bond markets specifically; adverse changes in the financing markets we access affecting our ability to finance our real estate securities portfolios in general or particular real estate related assets, or in a manner that maintains our historic net spreads; changes in interest rates and/or credit spreads, as well as the success of our hedging strategy in relation to such changes; the quality and size of the investment pipeline and the rate at which we can invest our cash, including cash inside our CBOs; impairments in the value of the collateral underlying our real estate securities, real estate related loans and residential mortgage loans and the relation of any such impairments to our judgments as to whether changes in the market value of our securities, loans or real estate are temporary or not and whether circumstances bearing on the value of such assets warrant changes in carrying values; legislative/regulatory changes; completion of pending investments; the availability and cost of capital for future investments; competition within the finance and real estate industries; and other risks detailed from time to time below and in our other SEC reports |
| Risks relating to our management, business and company include, specifically: Risks Relating to Our Management We are dependent on our manager and may not find a suitable replacement if our manager terminates the management agreement |
| We have no paid employees |
| We have no separate facilities and are completely reliant on our manager, which has significant discretion as to the implementation of our operating policies and strategies |
| We are subject to the risk that our manager will terminate the management agreement and that no suitable replacement will be found to manage us |
| Furthermore, we are dependent on the services of certain key employees of our manager whose continued service is not guaranteed, and the loss of such services could temporarily adversely affect our operations |
| There are conflicts of interest in our relationship with our manager |
| Our chairman and chief executive officer and each of our executive officers also serve as officers of our manager |
| As a result, our management agreement with our manager was not negotiated at armapstas-length and its terms, including fees payable, may not be as favorable to us as if it had been negotiated with an unaffiliated third party |
| There are conflicts of interest inherent in our relationship with our manager insofar as our manager and its affiliates manage and invest in other investment vehicles (investment funds, private investment funds, or businesses) that invest in real estate securities, real estate related loans and operating real estate and whose investment objectives overlap with our investment objectives |
| Certain investments appropriate for Newcastle may also be appropriate for one or more of these other investment vehicles |
| Members of our board of directors and employees of our manager who are our officers may serve as officers and/or directors of these other entities |
| In addition, our manager or its affiliates may have investments in and/or earn fees from such other investment vehicles which are larger than their economic interests in Newcastle and which may therefore create an incentive to allocate investments to such other investment vehicles |
| Our manager or its affiliates may determine, in their discretion, to make a particular investment through another investment vehicle rather than through Newcastle |
| It is possible that we may not be given the opportunity to participate at all in certain investments made by our affiliates that meet our investment objectives |
| Our management agreement with our manager generally does not limit or restrict our manager or its affiliates from engaging in any business or managing other pooled investment vehicles that invest in investments that meet our investment objectives, except that under our management agreement neither our manager nor any entity controlled by or under common control with our manager is permitted to raise or sponsor any new pooled investment vehicle whose investment policies, guidelines or plan targets as its primary investment category investment in United States dollar-denominated credit sensitive real estate related securities reflecting primarily United States loans or assets |
| Our manager intends to engage in additional real estate related management and investment opportunities in the future which may compete with us for investments |
| -12- _________________________________________________________________ The ability of our manager and its officers and employees to engage in other business activities, subject to the terms of our management agreement with our manager, may reduce the time our manager spends managing Newcastle |
| In addition, we may engage in material transactions with our manager or another entity managed by our manager or one of its affiliates, including certain co-investments which present a conflict of interest, subject to our investment guidelines |
| The management compensation structure that we have agreed to with our manager may cause our manager to invest in high risk investments |
| In addition to its management fee, our manager is entitled to receive incentive compensation based in part upon our achievement of targeted levels of funds from operations |
| In evaluating investments and other management strategies, the opportunity to earn incentive compensation based on funds from operations may lead our manager to place undue emphasis on the maximization of funds from operations at the expense of other criteria, such as preservation of capital, in order to achieve higher incentive compensation |
| Investments with higher yield potential are generally riskier or more speculative |
| This could result in increased risk to the value of our investment portfolio |
| Termination of the management agreement with our manager is difficult and costly |
| The management agreement may only be terminated annually upon the affirmative vote of at least two-thirds of our independent directors, or by a vote of the holders of a majority of the outstanding shares of our common stock, based upon (1) unsatisfactory performance by our manager that is materially detrimental to us or (2) a determination that the management fee payable to our manager is not fair, subject to our managerapstas right to prevent such a compensation termination by accepting a mutually acceptable reduction of fees |
| Our manager will be provided 60 days &apos prior notice of any termination and will be paid a termination fee equal to the amount of the management fee earned by the manager during the twelve-month period preceding such termination |
| In addition, following any termination of the management agreement, the manager may require us to purchase its right to receive incentive compensation at a price determined as if our assets were sold for their fair market value (as determined by an appraisal, taking into account, among other things, the expected future value of the underlying investments) or otherwise we may continue to pay the incentive compensation to our manager |
| These provisions may increase the effective cost to us of terminating the management agreement, thereby adversely affecting our ability to terminate our manager without cause |
| Our directors have approved very broad investment guidelines for our manager and do not approve each investment decision made by our manager |
| Our manager is authorized to follow very broad investment guidelines |
| Our directors periodically review our investment guidelines and our investment portfolio |
| However, our board does not review each proposed investment |
| In addition, in conducting periodic reviews, the directors rely primarily on information provided to them by our manager |
| Furthermore, transactions entered into by our manager may be difficult or impossible to unwind by the time they are reviewed by the directors |
| Our manager has great latitude within the broad investment guidelines in determining the types of assets it may decide are proper investments for us |
| We may change our investment strategy without stockholder consent which may result in riskier investments than our current investments |
| Decisions to make investments in entirely new asset categories present risks which may be difficult for us to adequately assess and could therefore reduce the stability of our dividends or have adverse effects on our financial condition |
| A change in our investment strategy may increase our exposure to interest rate and real estate market fluctuations |
| Our investment strategy may evolve, in light of existing market conditions and investment opportunities, to continue to take advantage of opportunistic investments in real estate related assets, which may involve additional risks depending upon the nature of such assets and our ability to finance such assets on a short or long term basis |
| Investment opportunities that present unattractive risk-return profiles relative to other available investment opportunities under particular market conditions may become relatively attractive under changed market conditions and changes in market conditions may therefore result in changes in the investments we target |
| Our failure to accurately assess the risks inherent in new asset categories or the financing risks associated with such assets could adversely affect our results of operations and our financial condition |
| Risks Relating to Our Business We are subject to significant competition and we may not compete successfully |
| We are subject to significant competition in seeking investments |
| We compete with other companies, including other REITs, insurance companies and other investors, including funds and companies affiliated with our manager |
| Some of our competitors have greater resources than us and we may not be able to compete successfully for investments |
| -13- _________________________________________________________________ Furthermore, competition for investments of the type to be made by us may lead to the returns available from such investments decreasing which may further limit our ability to generate our desired returns |
| We cannot assure you that other companies will not be formed that compete with us for investments or otherwise pursue investment strategies similar to ours |
| Our determination of how much leverage to apply to our investments may adversely affect our return on our investments and may reduce cash available for distribution |
| We leverage our portfolio through borrowings, generally through the use of credit facilities, warehouse facilities, repurchase agreements, mortgage loans on real estate, securitizations, including the issuance of CBOs, private or public offerings of debt by subsidiaries, loans to entities in which we hold, directly or indirectly, interests in pools of properties or loans, and other borrowings |
| Our investment policies do not limit the amount of leverage we may incur with respect to any specific asset or pool of assets, subject to an overall limit on our use of leverage to 90prca of the value of our assets on an aggregate basis |
| Our return on our investments and cash available for distribution to our stockholders may be reduced to the extent that changes in market conditions cause the cost of our financing to increase relative to the income that can be derived from the assets acquired |
| We finance certain of our investments with debt (eg, repurchase agreements) that is subject to margin calls based on a decrease in the value of such investments, which could adversely impact our liquidity and, as a result of the need to post greater margin with respect to existing investments, our return on equity |
| If we do not have the funds available to or choose not to satisfy any such margin calls, we could be forced to sell the investments at a loss |
| The loans we invest in and the loans underlying the securities and total rate of return swaps we invest in are subject to delinquency, foreclosure and loss, which could result in losses to us |
| Commercial mortgage loans are secured by multifamily or commercial property and are subject to risks of delinquency and foreclosure, and risks of loss |
| The ability of a borrower to repay a loan secured by an income-producing property typically is dependent primarily upon the successful operation of such property rather than upon the existence of independent income or assets of the borrower |
| Net operating income of an income-producing property can be affected by, among other things: tenant mix, success of tenant businesses, property management decisions, property location and condition, competition from comparable types of properties, changes in laws that increase operating expense or limit rents that may be charged, any need to address environmental contamination at the property, the occurrence of any uninsured casualty at the property, changes in national, regional or local economic conditions and/or specific industry segments, declines in regional or local real estate values, declines in regional or local rental or occupancy rates, increases in interest rates, real estate tax rates and other operating expenses, changes in governmental rules, regulations and fiscal policies, including environmental legislation, acts of God, terrorism, social unrest and civil disturbances |
| Residential mortgage loans and subprime mortgage loans are secured by single-family residential property and are subject to risks of delinquency and foreclosure, and risks of loss |
| The ability of a borrower to repay a loan secured by a residential property is dependent upon the income or assets of the borrower |
| A number of factors may impair borrowers &apos abilities to repay their loans |
| In the event of any default under a loan held directly by us, we will bear a risk of loss of principal to the extent of any deficiency between the value of the collateral and the principal and accrued interest of the loan, which could adversely affect our cash flow from operations |
| Foreclosure of a loan can be an expensive and lengthy process which could negatively affect our anticipated return on the foreclosed loan |
| Mortgage and asset backed securities are bonds or notes backed by loans and/or other financial assets and include commercial mortgage back securities (CMBS), agency residential mortgage backed securities (RMBS), and real estate related asset backed securities (ABS) |
| The ability of a borrower to repay these loans or other financial assets is dependant upon the income or assets of these borrowers |
| While we intend to focus on real estate related asset backed securities, there can be no assurance that we will not invest in other types of asset backed securities |
| Our investments in mortgage and asset backed securities will also be adversely affected by defaults under the loans underlying such securities |
| To the extent losses are realized on the loans underlying the securities in which we invest, the company may not recover the amount invested in, or, in extreme cases, any of our investment in, such securities |
| -14- _________________________________________________________________ Subprime mortgage loans are generally loans to credit impaired borrowers and borrowers that are ineligible to qualify for loans from conventional mortgage sources due to loan size, credit characteristics or documentation standards |
| Loans to lower credit grade borrowers generally experience higher-than-average default and loss rates than do conforming mortgage loans |
| Material differences in the defaults, loss severities and/or prepayments on the subprime mortgage loans we acquire (or on the manufactured housing loans we acquire) from what we estimate in connection with our underwriting of the acquisition of such loans would cause reductions in our income and adversely affect our operating results, both with respect to unsecuritized loans and loans that we have securitized or otherwise financed on a long term match funded basis |
| We cannot assure you that our underwriting criteria will afford adequate protection against the higher risks associated with loans made to lower credit grade borrowers |
| If we underestimate the extent of losses that our loans will incur, then our business, financial condition, liquidity and results of operations will be adversely impacted |
| Although we seek to match fund our investments to limit refinance risk and lock in net spreads, we do not employ this strategy with respect to certain of our investments, which increases the risks related to refinancing these investments |
| A key to our investment strategy is to finance our investments using match funded financing structures, which match assets and liabilities with respect to maturities and interest rates |
| This limits our refinance risk, including the risk of being able to refinance an investment or refinance on favorable terms |
| We generally use match funded financing structures, such as CBOs, to finance our investments in real estate securities and loans |
| However, our manager may elect for us to bear a level of refinancing risk on a short term or longer term basis, such as is the case with investments financed with repurchase agreements, when, based on all of the relevant factors, bearing such risk is advisable |
| This is generally the case with respect to the residential mortgage loans and agency RMBS we invest in |
| The decision not to match fund certain investments exposes us to additional refinancing risks that may not apply to our other investments |
| In addition, we anticipate that, in most cases, for any period during which our floating rate assets are not match funded with respect to maturity, the income from such assets may respond more slowly to interest rate fluctuations than the cost of our borrowings |
| Because of this dynamic, interest income from such investments may rise more slowly than the related interest expense, with a consequent decrease in our net income |
| Interest rate fluctuations resulting in our interest expense exceeding interest income would result in operating losses for us from these investments |
| Accordingly, if we do not or are unable to match fund our investments with respect to maturities and interest rates, we will be exposed to the risk that we may not be able to finance or refinance our investments on economically favorable terms or may have to liquidate assets at a loss |
| We may not be able to finance our investments on a long term basis on attractive terms, including by means of securitization, which may require us to seek more costly financing for our investments or to liquidate assets |
| When financing our investments through CBOs, we accumulate securities through an arrangement in which a third party provides short term financing pending the issuance of the CBO bonds and we make a cash deposit with such third party |
| Under such arrangement, if the CBO financing were not consummated, we would be required to either purchase the securities and obtain other more expensive financing for such purchase, or pay the third party the lesser of the difference between the price it paid for the securities and the price at which it sold such securities, or our deposit |
| Where we acquire a loan portfolio which we finance on a short term basis with a view to securitization or other long term financing, we bear the risk of being unable to securitize the loans or otherwise finance them on a long term basis at attractive prices or in a timely matter, or at all |
| If it is not possible or economical for us to securitize or otherwise finance such loans on a long term basis, we may be unable to pay down our short term credit facilities, or be required to liquidate the loans at a loss in order to do so |
| Both during the ramp up phase of a potential CBO financing and following the closing of a CBO financing when we have locked in the liability costs for a CBO, the rate at which we are able to acquire eligible investments and changes in market conditions may adversely affect our anticipated returns |
| We acquire real estate securities and loans and finance them on a long term basis, typically through the issuance of collateralized bond obligations |
| We use short term warehouse lines of credit to finance the acquisition of real estate securities and loans until a sufficient quantity of securities and loans is accumulated, at which time we may refinance these lines through a securitization, such as a CBO financing, or other long term financing |
| As a result, we are subject to the risk that we will not be able to acquire, during the period that our warehouse facility is available, a sufficient amount of eligible securities to maximize the efficiency of a collateralized bond obligation financing |
| In addition, conditions in the capital markets may make the issuance of a collateralized bond obligation less attractive to us when we do have a sufficient pool of collateral |
| If we are unable to issue a collateralized bond obligation to finance these assets, we may be required to seek other forms of potentially less attractive financing or otherwise to liquidate the assets |
| In addition, following each CBO financing we must invest the net cash raised in the financing |
| Until we are able to acquire sufficient securities, our returns will reflect income earned on uninvested cash and, having locked in the cost of liabilities for the particular CBO, the particular CBO’s returns will be at risk of declining to the extent that yields on the securities to be acquired decline |
| -15- _________________________________________________________________ In general, our ability to acquire appropriate investments depends upon the supply in the market of investments we deem suitable, and changes in various economic factors may affect our determination of what constitutes a suitable investment |
| Our returns will be adversely affected when proceeds of investments we have sold or which have been prepaid must be reinvested at lower yields than those of the investments sold or prepaid |
| Real estate securities and loans are subject to prepayment risk |
| In addition, we may sell, and realize gains (or losses) on, investments |
| For those investments held in CBOs, the proceeds from such prepayments or sales must be reinvested inside the applicable CBO, prior to the end of the reinvestment period |
| Our net income will be adversely affected if proceeds from sales or prepayments of assets are reinvested at lower asset yields than the yields of such investments |
| Our investments may be subject to impairment charges |
| We will periodically evaluate our investments for impairment indicators |
| The judgment regarding the existence of impairment indicators is based on a variety of factors depending upon the nature of the investment and the manner in which the income related to such investment calculated for purposes of our financial statements |
| If we determine that a significant impairment has occurred, we would be required to make an adjustment to the net carrying value of the investment, which could adversely affect our results of operations and funds from operations in the applicable period |
| Our investments in senior unsecured REIT securities are subject to specific risks relating to the particular REIT issuer and to the general risks of investing in subordinated real estate securities, which may result in losses to us |
| Our investments in REIT securities involve special risks relating to the particular REIT issuer of the securities, including the financial condition and business outlook of the issuer |
| REITs generally are required to substantially invest in operating real estate or real estate related assets and are subject to the inherent risks associated with real estate related investments discussed in this report |
| Our investments in REIT securities are also subject to the risks described above with respect to mortgage loans and mortgage backed securities and similar risks, including (i) risks of delinquency and foreclosure, and risks of loss in the event thereof, (ii) the dependence upon the successful operation of and net income from real property, (iii) risks generally incident to interests in real property, and (iv) risks that may be presented by the type and use of a particular commercial property |
| REIT securities are generally unsecured and may also be subordinated to other obligations of the issuer |
| We may also invest in REIT securities that are rated below investment grade |
| As a result, investments in REIT securities are also subject to risks of: (i) limited liquidity in the secondary trading market, (ii) substantial market price volatility resulting from changes in prevailing interest rates, (iii) subordination to the prior claims of banks and other senior lenders to the issuer, (iv) the operation of mandatory sinking fund or call/redemption provisions during periods of declining interest rates that could cause the issuer to reinvest premature redemption proceeds in lower yielding assets, (v) the possibility that earnings of the REIT issuer may be insufficient to meet its debt service and dividend obligations and (vi) the declining creditworthiness and potential for insolvency of the issuer of such REIT securities during periods of rising interest rates and economic downturn |
| These risks may adversely affect the value of outstanding REIT securities and the ability of the issuers thereof to repay principal and interest or make dividend payments |
| The real estate related loans and other direct and indirect interests in pools of real estate properties or other loans that we invest in may be subject to additional risks relating to the privately negotiated structure and terms of the transaction, which may result in losses to us |
| We invest in real estate related loans and other direct and indirect interests in pools of real estate properties or loans |
| We invest in mezzanine loans that take the form of subordinated loans secured by second mortgages on the underlying real property or other business assets or revenue streams or loans secured by a pledge of the ownership interests of the entity owning real property or other business assets or revenue streams (or the ownership interest of the parent of such entity) |
| These types of investments involve a higher degree of risk than long term senior lending secured by business assets or income producing real property because the investment may become unsecured as a result of foreclosure by a senior lender |
| In the event of a bankruptcy of the entity providing the pledge of its ownership interests as security, we may not have full recourse to the assets of such entity, or the assets of the entity may not be sufficient to satisfy our mezzanine loan |
| If a borrower defaults on our mezzanine loan or debt senior to our loan, or in the event of a borrower bankruptcy, our mezzanine loan will be satisfied only after the senior debt |
| As a result, we may not recover some or all of our investment |
| In addition, mezzanine loans may have higher loan to value ratios than conventional mortgage loans, resulting in less equity in the property and increasing the risk of loss of principal |
| -16- _________________________________________________________________ We also invest in mortgage loans (“B” Notes) that while secured by a first mortgage on a single large commercial property or group of related properties are subordinated to an "e A Note "e secured by the same first mortgage on the same collateral |
| As a result, if an issuer defaults, there may not be sufficient funds remaining for B Note holders |
| B Notes reflect similar credit risks to comparably rated commercial mortgage backed securities |
| We also invest, directly or indirectly, in pools of real estate properties or loans |
| However, since each transaction is privately negotiated, these investments can vary in their structural characteristics and risks |
| For example, the rights of holders of B Notes to control the process following a borrower default may vary from transaction to transaction, while investments in pools of real estate properties or loans may be subject to varying contractual arrangements with third party co-investors in such pools |
| Further, B Notes typically are secured by a single property, and so reflect the risks associated with significant concentration |
| These investments also are less liquid than commercial mortgage backed securities |
| Insurance on real estate in which we have interests (including the real estate serving as collateral for our real estate securities and loans) may not cover all losses |
| There are certain types of losses, generally of a catastrophic nature, such as earthquakes, floods, hurricanes, terrorism or acts of war, that may be uninsurable or not economically insurable |
| Inflation, changes in building codes and ordinances, environmental considerations, and other factors, including terrorism or acts of war, also might make the insurance proceeds insufficient to repair or replace a property if it is damaged or destroyed |
| Under such circumstances, the insurance proceeds received might not be adequate to restore our economic position with respect to the affected real property |
| As a result of the events of September 11, 2001, insurance companies are limiting and/or excluding coverage for acts of terrorism in insurance policies |
| In addition, the mortgage loans which are secured by certain of the properties in which we have interests contain customary covenants, including covenants that require property insurance to be maintained in an amount equal to the replacement cost of the properties |
| There can be no assurance that the lenders under these mortgage loans will not take the position that exclusions from coverage for losses due to terrorist acts is a breach of a covenant which, if uncured, could allow the lenders to declare an event of default and accelerate repayment of the mortgage loans |
| Environmental compliance costs and liabilities with respect to our real estate in which we have interests may adversely affect our results of operations |
| Our operating costs may be affected by our obligation to pay for the cost of complying with existing environmental laws, ordinances and regulations, as well as the cost of complying with future legislation with respect to the assets, or loans secured by assets, with environmental problems that materially impair the value of the assets |
| Under various federal, state and local environmental laws, ordinances and regulations, a current or previous owner or operator of real property may be liable for the costs of removal or remediation of hazardous or toxic substances on, under, or in such property |
| Such laws often impose liability whether or not the owner or operator knew of, or was responsible for, the presence of such hazardous or toxic substances |
| In addition, the presence of hazardous or toxic substances, or the failure to remediate properly, may adversely affect the ownerapstas ability to borrow by using such real property as collateral |
| Certain environmental laws and common law principles could be used to impose liability for releases of hazardous materials, including asbestos-containing materials, into the environment, and third parties may seek recovery from owners or operators of real properties for personal injury associated with exposure to released asbestos-containing materials or other hazardous materials |
| Environmental laws may also impose restrictions on the manner in which a property may be used or transferred or in which businesses it may be operated, and these restrictions may require expenditures |
| In connection with the direct or indirect ownership and operation of properties, we may be potentially liable for any such costs |
| The cost of defending against claims of liability or remediating contaminated property and the cost of complying with environmental laws could adversely affect our results of operations and financial condition |
| Many or our investments are illiquid and this lack of liquidity could significantly impede our ability to vary our portfolio in response to changes in economic and other conditions or to realize the value at which such investments are carried if we are required to dispose of them |
| Operating real estate and other direct and indirect investments in real estate and real estate related assets are generally illiquid |
| Our investments in unconsolidated subsidiaries are also illiquid |
| In addition, the real estate securities that we purchase in connection with privately negotiated transactions are not registered under the relevant securities laws, resulting in a prohibition against their transfer, sale, pledge or other disposition except in a transaction that is exempt from the registration requirements of, or is otherwise in accordance with, those laws |
| In addition, there are no established trading markets for a majority of our investments |
| As a result, our ability to vary our portfolio in response to changes in economic and other conditions may be relatively limited |
| Our assets are valued based primarily on third party quotations which are subject to significant variability based on market conditions |
| Certain of our investments, however, are highly illiquid and we will not have access to readily ascertainable market prices when establishing valuations of them |
| While we will endeavor to determine and establish valuations of our investments based on our manager’s estimate of the fair market value of such investments, if we are required to liquidate all or a portion of our illiquid investments quickly, we may realize significantly less than the amount at which we have previously valued these investments |
| -17- _________________________________________________________________ Interest rate fluctuations and shifts in the yield curve may cause losses |
| Our primary interest rate exposures relate to our real estate securities, loans, floating rate debt obligations, interest rate swaps, and interest rate caps |
| Changes in the general level of interest rates can affect our net interest income, which is the difference between the interest income earned on our interest-earning assets and the interest expense incurred in connection with our interest-bearing liabilities and hedges |
| Changes in the level of interest rates also can affect, among other things, our ability to acquire real estate securities and loans at attractive prices, the value of our real estate securities, loans and derivatives and our ability to realize gains from the sale of such assets |
| In the event of a significant rising interest rate environment and/or economic downturn, loan and collateral defaults may increase and result in credit losses that would adversely affect our liquidity and operating results |
| Interest rates are highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political conditions, and other factors beyond our control |
| Our ability to execute our business strategy, particularly the growth of our investment portfolio, depends to a significant degree on our ability to obtain additional capital |
| Our financing strategy is dependent on our ability to place the match funded debt we use to finance our investments at rates that provide a positive net spread |
| If spreads for such liabilities widen or if demand for such liabilities ceases to exist, then our ability to execute future financings will be severely restricted |
| Interest rate changes may also impact our net book value as our real estate securities and related hedge derivatives are marked to market each quarter |
| Our loan investments and debt obligations are not marked to market |
| Generally, as interest rates increase, the value of our fixed rate securities decreases, which will decrease the book value of our equity |
| Furthermore, shifts in the US Treasury yield curve, which represents the marketapstas expectations of future interest rates, would also affect the yield required on our real estate securities and therefore their value |
| This would have similar effects on our real estate securities portfolio and our financial position and operations to a change in interest rates generally |
| Our investments in real estate securities and loans are subject to changes in credit spreads which could adversely affect our ability to realize gains on the sale of such investments |
| Real estate securities are subject to changes in credit spreads |
| Fixed rate securities are valued based on a market credit spread over the rate payable on fixed rate US Treasuries of like maturity |
| The value of these securities is dependent on the yield demanded on these securities by the market based on their credit relative to US Treasuries |
| Excessive supply of these securities combined with reduced demand will generally cause the market to require a higher yield on these securities, resulting in the use of a higher, or "e wider, "e spread over the benchmark rate (usually the applicable US Treasury security yield) to value such securities |
| Under such conditions, the value of our real estate securities portfolio would tend to decline |
| Conversely, if the spread used to value such securities were to decrease, or "e tighten, "e the value of our real estate securities portfolio would tend to increase |
| Our floating rate securities are valued based on a market credit spread over LIBOR and are affected similarly by changes in LIBOR spreads |
| Such changes in the market value of our real estate securities portfolio may affect our net equity, net income or cash flow directly through their impact on unrealized gains or losses on available for sale securities, and therefore our ability to realize gains on such securities, or indirectly through their impact on our ability to borrow and access capital |
| Our loan portfolios are also subject to changes in credit spreads |
| Our floating rate loans are valued based on a market credit spread to LIBOR The value of these loans is dependent on the yield demanded by the market based on their credit relative to LIBOR The value of our floating rate loans would tend to decline should the market require a higher yield on such loans, resulting in the use of a higher spread over the benchmark rate (usually the applicable LIBOR yield) |
| Our fixed rate loans are valued based on a market credit spread over US Treasuries and are affected similarly by changes in US Treasury spreads |
| If the value of our loans subject to repurchase agreements were to decline, it could affect our ability to refinance such loans upon the maturity of the related repurchase agreements |
| Any credit or spread related losses incurred with respect to our loans would affect us in the same way as similar losses on our real estate securities portfolio as described above, except that our loans are not marked to market |
| In addition, widening credit spreads will generally result in a decrease in the mark to market value of certain investments which are treated as derivatives on our balance sheet, such as total rate of return swaps |
| Since changes in the value of such assets are reflected in our income statement, this would result in a decrease in our net income |
| To the extent that we choose to make increasing investments in real estate related assets by means of entering into total rate of return swaps, our net income will become more susceptible to decreases stemming from credit spread changes |
| -18- _________________________________________________________________ Our hedging transactions may limit our gains or result in losses |
| We use derivatives to hedge our interest rate exposure and this has certain risks, including the risk that losses on a hedge position will reduce the cash available for distribution to stockholders and that such losses may exceed the amount invested in such instruments |
| Our board of directors has adopted a general policy with respect to the use of derivatives, which generally allows us to use derivatives where appropriate, but does not set forth specific policies and procedures |
| We use derivative instruments, including forwards, futures, swaps and options, in our risk management strategy to limit the effects of changes in interest rates on our operations |
| A hedge may not be effective in eliminating all of the risks inherent in any particular position |
| Our profitability may be adversely affected during any period as a result of the use of derivatives |
| There are limits to the ability of hedging strategy to protect us completely against interest rate risks |
| When rates change, we expect the gain or loss on derivatives to be offset by a related but inverse change in the value of the items, generally our liabilities, which we hedge |
| We cannot assure you, however, that our use of derivatives will offset the risks related to changes in interest rates |
| We cannot assure you that our hedging strategy and the derivatives that we use will adequately offset the risk of interest rate volatility or that our hedging transactions will not result in losses |
| In managing our hedge instruments, we consider the effect of the expected hedging income on the REIT qualification tests that limit the amount of gross income that a REIT may receive from hedging |
| The REIT provisions of the Internal Revenue Code limit our ability to hedge |
| We need to carefully monitor, and may have to limit, our hedging strategy to assure that we do not realize hedging income, or hold hedges having a value, in excess of the amounts which would cause us to fail the REIT gross income and asset tests |
| Accounting for derivatives under GAAP is extremely complicated Any failure by us to account for our derivatives properly in accordance with GAAP in our financial statements could adversely affect our earnings |
| Prepayment rates can increase, adversely affecting yields on certain investments, including our residential mortgage loans |
| The value of our assets may be affected by prepayment rates on our residential mortgage loans and other floating rate assets |
| Prepayment rates are influenced by changes in current interest rates and a variety of economic, geographic and other factors beyond our control, and consequently, such prepayment rates cannot be predicted with certainty |
| If general interest rates decline as well, the proceeds of such prepayments received during such periods are likely to be reinvested by us in assets yielding less than the yields on the assets that were prepaid |
| In addition, the market value of floating rate assets may, because of the risk of prepayment, benefit less than fixed rate assets from declining interest rates |
| Conversely, in periods of rising interest rates, prepayments on loans generally decrease, in which case we would not have the prepayment proceeds available to invest in assets with higher yields |
| Under certain interest rate and prepayment scenarios we may fail to recoup fully our cost of acquisition of certain investments |
| In addition, when market conditions lead us to increase the portion of our CBO investments that are comprised of floating rate securities, the risk of assets inside our CBOs prepaying increases |
| Since our CBO financing costs are locked in, reinvestment of such prepayment proceeds at lower yields than the initial investments, as a result of changes in the interest rate or credit spread environment, will result in a decrease of the return on our equity and therefore our net income |
| Risks Relating to Our Company Our failure to qualify as a REIT would result in higher taxes and reduced cash available for stockholders |
| We operate in a manner so as to qualify as a REIT for federal income tax purposes |
| Our ability to satisfy the asset tests depends upon our analysis of the fair market values of our assets, some of which are not susceptible to a precise determination, and for which we will not obtain independent appraisals |
| Our compliance with the REIT income and quarterly asset requirements also depends upon our ability to successfully manage the composition of our income and assets on an ongoing basis |
| Moreover, the proper classification of an instrument as debt or equity for federal income tax purposes may be uncertain in some circumstances, which could affect the application of the REIT qualification requirements as described below |
| Accordingly, there can be no assurance that the IRS will not contend that our interests in subsidiaries or other issuers will not cause a violation of the REIT requirements |
| If we were to fail to qualify as a REIT in any taxable year, we would be subject to federal income tax, including any applicable alternative minimum tax, on our taxable income at regular corporate rates, and distributions to stockholders would not be deductible by us in computing our taxable income |
| Any such corporate tax liability could be substantial and would reduce the amount of cash available for distribution to our stockholders, which in turn could have an adverse impact on the value of, and trading prices for, our stock |
| Unless entitled to relief under certain Internal Revenue Code provisions, we also would be disqualified from taxation as a REIT for the four taxable years following the year during which we ceased to qualify as a REIT The rule against re-electing REIT status following a loss of such status could also apply to us if Newcastle Investment Holdings Corp, a former stockholder of the Company, failed to qualify as a REIT, and we are treated as a successor to Newcastle Investment Holdings for federal income tax purposes |
| REIT distribution requirements could adversely affect our liquidity |
| We generally must distribute annually at least 90prca of our net taxable income, excluding any net capital gain, in order for corporate income tax not to apply to earnings that we distribute |
| We intend to make distributions to our stockholders to comply with the requirements of the Internal Revenue Code |
| However, differences in timing between the recognition of taxable income and the actual receipt of cash could require us to sell assets or borrow funds on a short term or long term basis to meet the 90prca distribution requirement of the Internal Revenue Code |
| As a result, the requirement to distribute a substantial portion of our net taxable income could cause us to: (a) sell assets in adverse market conditions, (b) borrow on unfavorable terms, or (c) distribute amounts that would otherwise be invested in future acquisitions, capital expenditures or repayment of debt, in order to comply with REIT requirements |
| -19- _________________________________________________________________ Further, amounts distributed will not be available to fund investment activities |
| If we fail to obtain debt or equity capital in the future, it could limit our ability to grow, which could adversely affect the value of our common stock |
| Dividends payable by REITs do not qualify for reduced tax rates |
| Tax law changes in 2003 reduced the maximum tax rate for dividends payable to individuals from 35prca to 15prca (through 2008) |
| Dividends payable by REITs, however, are generally not eligible for the reduced rates |
| Although this legislation does not adversely affect the taxation of REITs or dividends paid by REITs, the more favorable rates applicable to regular corporate dividends could cause investors who are individuals to perceive investments in REITs to be relatively less attractive than investments in the stocks of non-REIT corporations that pay dividends, which could adversely affect the value of the stock of REITs, including our common stock |
| In addition, the relative attractiveness of real estate in general may be adversely affected by the newly favorable tax treatment given to corporate dividends, which could affect the value of our real estate assets negatively |
| Maintenance of our Investment Company Act exemption imposes limits on our operations |
| We conduct our operations so as not to become regulated as an investment company under the Investment Company Act of 1940, as amended |
| We believe that there are a number of exemptions under the Investment Company Act that may be applicable to us |
| The assets that we may acquire, therefore, are limited by the provisions of the Investment Company Act and the rules and regulations promulgated under the Investment Company Act |
| In addition, we could, among other things, be required either (a) to change the manner in which we conduct our operations to avoid being required to register as an investment company or (b) to register as an investment company, either of which could adversely affect us and the market price for our stock |
| ERISA may restrict investments by plans in our common stock |
| A plan fiduciary considering an investment in our common stock should consider, among other things, whether such an investment is consistent with the fiduciary obligations under ERISA, including whether such investment might constitute or give rise to a prohibited transaction under ERISA, the Internal Revenue Code or any substantially similar federal, state or local law and, if so, whether an exemption from such prohibited transaction rules is available |
| The stock ownership limits imposed by the Internal Revenue Code for REITs and our charter may inhibit market activity in our stock and may restrict our business combination opportunities |
| In order for us to maintain our qualification as a REIT under the Internal Revenue Code, not more than 50prca in value of our outstanding stock may be owned, directly or indirectly, by five or fewer individuals (as defined in the Internal Revenue Code to include certain entities) at any time during the last half of each taxable year after our first year |
| Our charter, with certain exceptions, authorizes our directors to take such actions as are necessary and desirable to preserve our qualification as a REIT Unless exempted by our board of directors, no person may own more than 8prca of the aggregate value of all outstanding shares of our capital stock, treating classes and series of our stock in the aggregate, or more than 25prca of the outstanding shares of our Series B Preferred Stock or Series C Preferred Stock |
| Our board may grant such an exemption, subject to such conditions, representations and undertakings as it may determine in its sole discretion |
| These ownership limits could delay or prevent a transaction or a change in our control that might involve a premium price for our common stock or otherwise be in the best interest of our stockholders |
| Our board of directors has granted limited exemptions to Fortress Principal Investment Holdings II LLC, our manager, a third party group of funds managed by Cohen & Steers, and certain affiliates of these entities |
| Maryland takeover statutes may prevent a change of our control |
| Under Maryland law, "e business combinations "e between a Maryland corporation and an interested stockholder or an affiliate of an interested stockholder are prohibited for five years after the most recent date on which the interested stockholder becomes an interested stockholder |
| These business combinations include certain mergers, consolidations, share exchanges, or, in circumstances specified in the statute, an asset transfer or issuance or reclassification of equity securities or a liquidation or dissolution |
| An interested stockholder is defined as: · any person who beneficially owns 10prca or more of the voting power of the corporationapstas outstanding shares; or · an affiliate or associate of a corporation who, at any time within the two-year period prior to the date in question, was the beneficial owner of 10prca or more of the voting power of the then outstanding stock of the corporation |
| -20- _________________________________________________________________ A person is not an interested stockholder under the statute if the board of directors approved in advance the transaction by which he or she otherwise would have become an interested stockholder |
| After the five--year prohibition, any business combination between the Maryland corporation and an interested stockholder generally must be recommended by the board of directors of the corporation and approved by the affirmative vote of at least: · 80prca of the votes entitled to be cast by holders of outstanding shares of voting stock of the corporation voting together as a single group; and · two-thirds of the votes entitled to be cast by holders of voting stock of the corporation other than shares held by the interested stockholder with whom or with whose affiliate the business combination is to be effected or held by an affiliate or associate of the interested stockholder voting together as a single voting group |
| The business combination statute may discourage others from trying to acquire control of us and increase the difficulty of consummating any offer, including potential acquisitions that might involve a premium price for our common stock or otherwise be in the best interest of our stockholders |
| Our authorized, but unissued common and preferred stock may prevent a change in our control |
| Our charter authorizes us to issue additional authorized but unissued shares of our common stock or preferred stock |
| In addition, our board of directors may classify or reclassify any unissued shares of common stock or preferred stock and may set the preferences, rights and other terms of the classified or reclassified shares |
| As a result, our board may establish a series of preferred stock that could delay or prevent a transaction or a change in control that might involve a premium price for our common stock or otherwise be in the best interest of our stockholders |
| Our stockholder rights plan could inhibit a change in our control |
| We have adopted a stockholder rights agreement |
| Under the terms of the rights agreement, in general, if a person or group acquires more than 15prca of the outstanding shares of our common stock, all of our other common stockholders will have the right to purchase securities from us at a discount to such securities &apos fair market value, thus causing substantial dilution to the acquiring person |
| The rights agreement may have the effect of inhibiting or impeding a change in control not approved by our board of directors and, therefore, could adversely affect our stockholders &apos ability to realize a premium over the then-prevailing market price for our common stock in connection with such a transaction |
| In addition, since our board of directors can prevent the rights agreement from operating, in the event our board approves of an acquiring person, the rights agreement gives our board of directors significant discretion over whether a potential acquirerapstas efforts to acquire a large interest in us will be successful |
| Because the rights agreement contains provisions that are designed to assure that the executive officers, our manager and its affiliates will never, alone, be considered a group that is an acquiring person, the rights agreement provides the executive officers, our manager and its affiliates with certain advantages under the rights agreement that are not available to other stockholders |
| Our staggered board and other provisions of our charter and bylaws may prevent a change in our control |
| Our board of directors is divided into three classes of directors |
| Directors of each class are chosen for three-year terms upon the expiration of their current terms, and each year one class of directors is elected by the stockholders |
| The staggered terms of our directors may reduce the possibility of a tender offer or an attempt at a change in control, even though a tender offer or change in control might be in the best interest of our stockholders |
| In addition, our charter and bylaws also contain other provisions that may delay or prevent a transaction or a change in control that might involve a premium price for our common stock or otherwise be in the best interest of our stockholders |
| Readers are cautioned not to place undue reliance on any of these forward-looking statements, which reflect our management’s views as of the date of this report |
| The factors noted above could cause our actual results to differ significantly from those contained in any forward-looking statement |
| For a discussion of our critical accounting policies see “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Application of Critical Accounting Policies |
| ” Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements |
| We are under no duty to update any of the forward-looking statements after the date of this report to conform these statements to actual results |