AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON AUGUST 22, 2003
REGISTRATION NO. 333-________
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
PMC COMMERCIAL TRUST
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
TEXAS
(STATE OR OTHER JURISDICTION
OF INCORPORATION OR ORGANIZATION)
6798 75-6446078
(PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER IDENTIFICATION NO.)
CLASSIFICATION CODE NUMBER)
18111 PRESTON ROAD, SUITE 600
DALLAS, TEXAS 75252
(972) 349-3200
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA
CODE, OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
LANCE B. ROSEMORE
CHIEF EXECUTIVE OFFICER
PMC COMMERCIAL TRUST
18111 PRESTON ROAD, SUITE 600
DALLAS, TEXAS 75252
(972) 349-3200
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER,
INCLUDING AREA CODE, OF AGENT FOR SERVICE)
COPIES TO:
KENNETH L. BETTS STEVEN B. BOEHM
LOCKE LIDDELL & SAPP LLP CYNTHIA M. KRUS
2200 ROSS AVENUE, SUITE 2200 SUTHERLAND ASBILL & BRENNAN LLP
DALLAS, TEXAS 75201-6776 1275 PENNSYLVANIA AVENUE, N.W.
(214) 740-8000 WASHINGTON, D.C. 20004
(202) 383-0100
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable after this Registration Statement becomes effective and all
conditions to the proposed transaction have been satisfied or waived.
If the securities being registered on this form are being offered in
connection with the formation of a holding company and there is compliance with
General Instruction G, check the following box: [ ]
If this form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering: [ ]
If this form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering: [ ]
CALCULATION OF REGISTRATION FEE
=========================================================================================
TITLE OF EACH CLASS OF SECURITIES TO BE PROPOSED MAXIMUM
REGISTERED AMOUNT TO BE REGISTERED OFFERING PRICE PER UNIT
-----------------------------------------------------------------------------------------
Common Shares of Beneficial
Interest, par value $.01 per share 4,385,801(1) N/A
=========================================================================================
=========================================================================================
TITLE OF EACH CLASS OF SECURITIES TO BE PROPOSED MAXIMUM AMOUNT OF
REGISTERED AGGREGATE OFFERING PRICE REGISTRATION FEE (3)
-----------------------------------------------------------------------------------------
Common Shares of Beneficial
Interest, par value $.01 per share $55,711,525(2) $ 4,508
=========================================================================================
(1) The maximum number of common shares of beneficial interest of PMC
Commercial Trust to be issued in the merger of PMC Capital, Inc. with and
into PMC Commercial Trust, based on the exchange ratio of one share of PMC
Capital, Inc. common stock, par value $.01 per share, to be exchanged for
0.37 of a common share of beneficial interest of PMC Commercial Trust.
(2) Estimated solely for the purpose of calculating the registration fee
required by Section 6(b) of the Securities Act of 1933, as amended, and
calculated pursuant to Rule 457(f) under the Securities Act. Pursuant to
Rule 457(f)(1) under the Securities Act, the proposed maximum aggregate
offering price of PMC Commercial Trust common shares of beneficial interest
was calculated in accordance with Rule 457(c) under the Securities Act as
the product of (a) $4.70, the average of the high and low prices per share
of PMC Capital, Inc. common stock as reported on the American Stock
Exchange on August 20, 2003, multiplied by (b) 11,853,516, the aggregate
number of shares of PMC Capital, Inc. common stock to be converted into PMC
Commercial Trust common shares of beneficial interest in the merger.
(3) Determined in accordance with Section 6(b) of the Securities Act at a rate
equal to $80.90 per $1,000,000 of the proposed maximum offering price.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE
OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT
SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON
SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING PURSUANT TO SAID
SECTION 8(A), MAY DETERMINE.
SUBJECT TO COMPLETION, DATED AUGUST 22, 2003
[PMC CAPITAL LOGO] [PMC COMMERCIAL LOGO]
18111 Preston Road, Suite 600
Dallas, Texas 75252
A MERGER PROPOSAL - YOUR VOTE IS VERY IMPORTANT
To the shareholders of PMC Capital, Inc. and PMC Commercial Trust:
PMC Capital, Inc. and PMC Commercial Trust have entered into a merger
agreement pursuant to which PMC Commercial has agreed to acquire PMC Capital. If
the merger is completed, PMC Capital shareholders will receive 0.37 PMC
Commercial common shares of beneficial interest for each share of PMC Capital
common stock they own and will hold approximately 40.49% of PMC Commercial's
common shares after the merger. PMC Commercial shareholders will continue as
shareholders after the merger, holding approximately 59.51% of the outstanding
shares of PMC Commercial. Until the merger is completed, the value of PMC
Commercial's common shares to be received in the merger will continue to
fluctuate. Based upon the closing price of PMC Commercial's common shares on
March 27, 2003, 0.37 common shares of PMC Commercial had a value of $4.88, and
the aggregate value of the merger consideration would have been approximately
$57.9 million to PMC Capital shareholders.
PMC Commercial will hold an annual meeting of shareholders on
_____________, 2003 at __:__ _.m. Central time at the principal executive
offices of PMC Commercial, located at 18111 Preston Road, Suite 600, Dallas,
Texas 75252. At this meeting, shareholders of PMC Commercial will be asked to
(1) approve the merger agreement between PMC Commercial and PMC Capital and the
transactions contemplated by the merger agreement, including the merger of PMC
Capital into PMC Commercial, (2) approve certain amendments to PMC Commercial's
declaration of trust, (3) approve the election of seven members of PMC
Commercial's board of trust managers, (4) ratify the appointment of
PricewaterhouseCoopers LLP as PMC Commercial's independent public accountants,
and (5) approve the postponement or adjournment of the annual meeting for the
solicitation of additional votes, if necessary.
PMC Capital will hold an annual meeting of shareholders on
_____________, 2003 at __:__ _.m. Central time at the principal executive
offices of PMC Capital, located at 18111 Preston Road, Suite 600, Dallas, Texas
75252. At this meeting, shareholders of PMC Capital will be asked to (1) approve
the merger agreement between PMC Capital and PMC Commercial and the transactions
contemplated by the merger agreement, including the merger of PMC Capital into
PMC Commercial, (2) elect two directors of PMC Capital, (3) ratify the
appointment of PricewaterhouseCoopers LLP as PMC Capital's independent public
accountants, and (4) approve the postponement or adjournment of the annual
meeting for the solicitation of additional votes, if necessary.
Before the merger can be completed, holders of at least two-thirds of
the outstanding PMC Commercial common shares and holders of a majority of the
outstanding shares of PMC Capital common stock must vote in favor of the merger
agreement and the transactions contemplated by the merger agreement.
Holders of PMC Commercial common shares representing approximately __%
of the outstanding common shares of PMC Commercial as of the record date for the
annual meeting have agreed to vote the common shares of PMC Commercial owned by
them in favor of the merger. PMC Capital shareholders representing approximately
__% of the outstanding shares of PMC Capital common stock as of the record date
for the annual meeting have agreed to vote the shares of PMC Capital owned by
them in favor of the merger.
A special committee of disinterested, independent trust managers of PMC
Commercial has evaluated the merits and negotiated the terms of the merger. The
special committee has received a written opinion of U.S. Bancorp Piper Jaffray
Inc., the special committee's financial advisor, that, as of the date of the
opinion, and based upon and subject to the assumptions, factors and limitations
set forth in the written opinion, the exchange ratio was fair to PMC Commercial
from a financial point of view. A special committee of disinterested,
independent directors
of PMC Capital has evaluated the merits and negotiated the terms of the merger.
The special committee has received a written opinion of A.G. Edwards, the
special committee's financial advisor, that, subject to certain qualifications
contained in the opinion, the exchange ratio was fair to the holders of PMC
Capital common stock from a financial point of view.
The completion of the merger is subject to various other conditions.
The terms of the merger and related transactions are more fully described in the
enclosed joint proxy statement/prospectus.
PMC Commercial's common shares are traded on the American Stock
Exchange under the symbol "PCC," and the closing price of a PMC Commercial
common share on March 27, 2003 was $13.20 per share. PMC Capital's common stock
is traded on the American Stock Exchange under the symbol "PMC," and the closing
price of a share of PMC Capital common stock on March 27, 2003 was $4.02 per
share.
THE BOARD OF TRUST MANAGERS OF PMC COMMERCIAL HAS APPROVED THE MERGER
AND HAS DETERMINED THAT THE MERGER IS IN THE BEST INTEREST OF PMC COMMERCIAL'S
SHAREHOLDERS. THE BOARD OF TRUST MANAGERS RECOMMENDS THAT PMC COMMERCIAL
SHAREHOLDERS VOTE "FOR" THE MERGER, THE MERGER AGREEMENT AND THE OTHER
TRANSACTIONS CONTEMPLATED BY THE MERGER AGREEMENT, AND "FOR" APPROVAL OF ALL
OTHER ITEMS TO BE VOTED UPON AT THE ANNUAL MEETING.
THE BOARD OF DIRECTORS OF PMC CAPITAL HAS APPROVED THE MERGER AND HAS
DETERMINED THAT THE MERGER IS IN THE BEST INTEREST OF PMC CAPITAL'S
SHAREHOLDERS. THE BOARD OF DIRECTORS RECOMMENDS THAT PMC CAPITAL SHAREHOLDERS
VOTE "FOR" THE MERGER, THE MERGER AGREEMENT AND THE OTHER TRANSACTIONS
CONTEMPLATED BY THE MERGER AGREEMENT, AND "FOR" APPROVAL OF ALL OTHER ITEMS TO
BE VOTED UPON AT THE ANNUAL MEETING.
This joint proxy statement/prospectus provides PMC Commercial
shareholders and PMC Capital shareholders with detailed information about the
annual meetings and the proposed merger. You can also obtain information from
publicly available documents filed by PMC Capital and PMC Commercial with the
SEC. PMC COMMERCIAL AND PMC CAPITAL ENCOURAGE YOU TO READ THIS ENTIRE DOCUMENT
CAREFULLY, INCLUDING THE SECTION ENTITLED "RISK FACTORS" BEGINNING ON PAGE 20.
YOUR VOTE IS VERY IMPORTANT. Whether you plan to attend the annual
meeting, please take time to vote on the proposal by completing and mailing the
enclosed proxy card, or by voting over the telephone or via the Internet.
Sincerely,
/s/ Dr. Andrew S. Rosemore /s/ Dr. Fredric M. Rosemore
------------------------------------------ -----------------------------
Chairman of the Board, Executive Vice Chairman of the Board and
President and Chief Operating Officer Treasurer
PMC Commercial Trust PMC Capital, Inc.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION (THE "SEC") NOR ANY
STATE SECURITIES COMMISSION HAS APPROVED OR DISAPPROVED OF THE SECURITIES TO BE
ISSUED IN CONNECTION WITH THE MERGER OR DETERMINED IF THIS JOINT PROXY
STATEMENT/PROSPECTUS IS ACCURATE OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY
IS A CRIMINAL OFFENSE.
This joint proxy statement/prospectus is dated ___________, 2003
and is first being mailed to shareholders on or about _____________, 2003.
SOURCES OF ADDITIONAL INFORMATION
THIS JOINT PROXY STATEMENT/PROSPECTUS INCLUDES INFORMATION ALSO SET
FORTH IN DOCUMENTS FILED BY PMC COMMERCIAL AND PMC CAPITAL WITH THE SEC, AND
THOSE DOCUMENTS INCLUDE INFORMATION ABOUT OUR COMPANIES THAT IS NOT INCLUDED IN
OR DELIVERED WITH THIS DOCUMENT. IF YOU ARE A SHAREHOLDER OF PMC CAPITAL OR PMC
COMMERCIAL, YOU CAN OBTAIN ANY OF THOSE DOCUMENTS FILED WITH THE SEC FROM PMC
CAPITAL OR PMC COMMERCIAL, AS THE CASE MAY BE, OR THROUGH THE SEC OR THE SEC'S
WEB SITE. THE ADDRESS OF THAT SITE IS HTTP://WWW.SEC.GOV. DOCUMENTS FILED WITH
THE SEC ARE AVAILABLE FROM THE COMPANIES, WITHOUT CHARGE, EXCLUDING ALL EXHIBITS
UNLESS SPECIFICALLY INCORPORATED BY REFERENCE AS AN EXHIBIT TO THIS DOCUMENT.
SHAREHOLDERS OF PMC CAPITAL OR PMC COMMERCIAL MAY OBTAIN DOCUMENTS FILED WITH
THE SEC OR DOCUMENTS INCORPORATED BY REFERENCE IN THIS DOCUMENT BY REQUESTING
THEM IN WRITING OR BY TELEPHONE FROM THE APPROPRIATE COMPANY AT THE FOLLOWING
ADDRESSES:
PMC Capital, Inc. PMC Commercial Trust
18111 Preston Road, Suite 600 18111 Preston Road, Suite 600
Dallas, TX 75252 Dallas, TX 75252
Attention: Investor Relations Attention: Investor Relations
(972) 349-3256 (972) 349-3235
(800) 486-3223 ext. 3256 (800) 486-3223 ext. 3235
IF YOU WOULD LIKE TO REQUEST DOCUMENTS, IN ORDER TO ENSURE TIMELY
DELIVERY, YOU MUST DO SO AT LEAST FIVE BUSINESS DAYS BEFORE THE DATE OF YOUR
ANNUAL MEETING. THIS MEANS YOU MUST REQUEST THIS INFORMATION NO LATER THAN
____________, 2003. IF YOU REQUEST ANY DOCUMENTS, PMC CAPITAL OR PMC COMMERCIAL
WILL MAIL THEM TO YOU BY FIRST CLASS MAIL, OR ANOTHER EQUALLY PROMPT MEANS,
WITHIN ONE BUSINESS DAY AFTER IT RECEIVES YOUR REQUEST.
PMC COMMERCIAL TRUST
NOTICE OF ANNUAL MEETING OF SHAREHOLDERS
TO BE HELD ON _____________, 2003
To the shareholders of PMC Commercial Trust:
NOTICE IS HEREBY GIVEN that the annual meeting of shareholders of PMC
Commercial Trust, a Texas real estate investment trust ("PMC Commercial"), will
be held at _:__ _.m., Central time, on [day], _____________, 2003, at 18111
Preston Road, Suite 600, Dallas, Texas, for the following purposes:
1. To consider and approve the Agreement and Plan of Merger,
dated March 27, 2003, by and between PMC Commercial Trust and PMC Capital, Inc.,
a Florida corporation ("PMC Capital"), and the transactions contemplated by the
merger agreement, including without limitation, the merger of PMC Capital with
and into PMC Commercial.
2. To consider and approve the proposed amendments to PMC
Commercial's declaration of trust to:
- provide that the holders of PMC Commercial common shares
may vote on all matters presented at all meetings of
shareholders; and
- provide that the board of trust managers may amend,
repeal or adopt new bylaws.
3. To consider and elect seven members of PMC Commercial's board
of trust managers to hold office until the next annual meeting of shareholders
and until their respective successors have been elected and qualified.
4. To consider and ratify the appointment of
PricewaterhouseCoopers LLP as independent public accountants of PMC Commercial
for the year ending December 31, 2003.
5. To consider the postponement or adjournment of the annual
meeting for the solicitation of additional votes, if necessary.
6. To transact any other business as may properly come before the
annual meeting or any adjournments or postponements of that meeting.
Only PMC Commercial shareholders of record at the close of business on
____________, 2003, the record date for the annual meeting, may vote at the
annual meeting and any adjournments or postponements of the annual meeting. A
complete list of PMC Commercial shareholders of record entitled to vote at the
annual meeting will be available for the 10 days before the annual meeting at
our executive offices for inspection for proper purposes by PMC Commercial
shareholders during ordinary business hours.
YOUR VOTE IS VERY IMPORTANT. THE PMC COMMERCIAL BOARD OF TRUST MANAGERS
HAS UNANIMOUSLY APPROVED THE MERGER AGREEMENT AND THE MERGER OF PMC CAPITAL WITH
AND INTO PMC COMMERCIAL, AND RECOMMENDS THAT YOU VOTE "FOR" ALL OF THE PROPOSALS
SET FORTH ABOVE, INCLUDING THE MERGER AGREEMENT AND THE MERGER. Whether or not
you plan to attend the annual meeting, please sign, date and return the enclosed
proxy card as soon as possible to make sure that your shares are represented at
the annual meeting. You may also be able to vote by telephone or the Internet if
so instructed by a broker, bank or other nominee.
FOR MORE INFORMATION ABOUT THE MERGER DESCRIBED ABOVE AND THE OTHER
TRANSACTIONS CONTEMPLATED BY THE MERGER AGREEMENT, PLEASE REVIEW THE
ACCOMPANYING JOINT PROXY STATEMENT/PROSPECTUS AND THE MERGER AGREEMENT ATTACHED
TO IT AS ANNEX A.
By order of the PMC Commercial Trust
Board of Trust Managers
/s/ Lance B. Rosemore
---------------------------
LANCE B. ROSEMORE
Secretary
Dallas, Texas
_______________, 2003
PMC CAPITAL, INC.
NOTICE OF ANNUAL MEETING OF SHAREHOLDERS
TO BE HELD ON ________________, 2003
To the shareholders of PMC Capital, Inc.:
NOTICE IS HEREBY GIVEN that the annual meeting of shareholders of PMC
Capital, Inc., a Florida corporation ("PMC Capital"), will be held at __:__
_.m., Central time, on _____________, 2003, at 18111 Preston Road, Suite 600,
Dallas, Texas, for the following purposes:
1. To consider and approve the Agreement and Plan of Merger,
dated March 27, 2003, by and between PMC Capital, Inc. and PMC Commercial Trust,
a Texas real estate investment trust ("PMC Commercial"), and the transactions
contemplated by the merger agreement, including without limitation, the merger
of PMC Capital with and into PMC Commercial.
2. To consider and elect two members of PMC Capital's board of
directors, each to hold office for a term of three years and until their
respective successors have been elected and qualified.
3. To consider and ratify the appointment of
PricewaterhouseCoopers LLP as independent public accountants of PMC Capital for
the year ending December 31, 2003.
4. To approve the postponement or adjournment of the annual
meeting for the solicitation of additional votes, if necessary.
5. To transact any other business as may properly come before the
annual meeting or any adjournments or postponements of that meeting.
Only PMC Capital shareholders of record at the close of business on
____________, 2003, the record date for the annual meeting, may vote at the
annual meeting and any adjournments or postponements of the annual meeting. A
complete list of PMC Capital shareholders of record entitled to vote at the
annual meeting will be available for the 10 days before the annual meeting at
our executive offices for inspection for proper purposes by PMC Capital
shareholders during ordinary business hours.
YOUR VOTE IS VERY IMPORTANT. THE PMC CAPITAL BOARD OF DIRECTORS HAS
UNANIMOUSLY APPROVED THE MERGER AGREEMENT AND THE MERGER OF PMC CAPITAL WITH AND
INTO PMC COMMERCIAL, AND RECOMMENDS THAT YOU VOTE "FOR" ALL OF THE PROPOSALS SET
FORTH ABOVE, INCLUDING THE MERGER AGREEMENT AND THE MERGER. Whether or not you
plan to attend the annual meeting, please sign, date and return the enclosed
proxy card as soon as possible to make sure that your shares are represented at
the annual meeting. You may also be able to vote by telephone or the Internet if
so instructed by a broker, bank or other nominee.
FOR MORE INFORMATION ABOUT THE MERGER DESCRIBED ABOVE AND THE OTHER
TRANSACTIONS CONTEMPLATED BY THE MERGER AGREEMENT, PLEASE REVIEW THE
ACCOMPANYING JOINT PROXY STATEMENT/PROSPECTUS AND THE MERGER AGREEMENT ATTACHED
TO IT AS ANNEX A.
By order of the PMC Capital, Inc.
Board of Directors
/s/ Lance B. Rosemore
----------------------------
LANCE B. ROSEMORE
Secretary
Dallas, Texas
_______________, 2003
TABLE OF CONTENTS
PAGE
----
QUESTIONS AND ANSWERS ABOUT THE MERGER.......................................................................... 1
SUMMARY......................................................................................................... 8
RISK FACTORS.................................................................................................... 20
Risks Related to the Merger and the Combined Company....................................................... 20
Risks Related to the Business of Both PMC Commercial and PMC Capital....................................... 24
Risks Related to PMC Commercial............................................................................ 31
Risks Related to PMC Capital............................................................................... 33
SELECTED HISTORICAL FINANCIAL DATA.............................................................................. 35
Selected Historical Financial Data of PMC Commercial....................................................... 35
Selected Historical Financial Data of PMC Capital.......................................................... 37
SELECTED STATEMENT OF UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL DATA
AND COMPARATIVE PER SHARE DATA............................................................................. 39
Selected Unaudited Proforma Consolidated Financial Data.................................................... 39
Comparative Per Share Data................................................................................. 40
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS....................................................... 41
THE PMC COMMERCIAL ANNUAL MEETING............................................................................... 42
Date, Time and Place of PMC Commercial Annual Meeting...................................................... 42
Purpose of the PMC Commercial Annual Meeting............................................................... 42
Record Date................................................................................................ 42
Quorum and Adjournments.................................................................................... 43
Vote Required.............................................................................................. 43
Voting Agreements.......................................................................................... 43
Voting of Proxies.......................................................................................... 44
Revocability of Proxies.................................................................................... 44
Solicitation of Proxies.................................................................................... 44
Dissenters' Rights......................................................................................... 44
THE PMC CAPITAL ANNUAL MEETING.................................................................................. 45
Date, Time and Place of PMC Capital Annual Meeting......................................................... 45
Purpose of the PMC Capital Annual Meeting.................................................................. 45
Record Date................................................................................................ 45
Quorum and Adjournments.................................................................................... 45
Vote Required.............................................................................................. 46
Voting Agreements.......................................................................................... 46
Voting of Proxies.......................................................................................... 46
Revocability of Proxies.................................................................................... 47
Solicitation of Proxies.................................................................................... 47
Dissenters' Rights......................................................................................... 47
i
THE MERGER PROPOSAL............................................................................................. 48
General Description of the Merger.......................................................................... 48
Background of the Merger................................................................................... 48
PMC Commercial Reasons for the Merger...................................................................... 53
Recommendation of the PMC Commercial Special Committee and the PMC Commercial Board of Trust Managers...... 57
PMC Capital Reasons for the Merger......................................................................... 57
Recommendation of the PMC Capital Special Committee and the PMC Capital Board of Directors................. 61
Opinion of U.S. Bancorp Piper Jaffray...................................................................... 61
Opinion of A.G. Edwards.................................................................................... 69
Interests of Certain Persons in the Merger................................................................. 76
Equity Compensation Plans.................................................................................. 76
Listing of PMC Commercial Common Shares.................................................................... 76
Transfer Agent and Registrar............................................................................... 76
Dividends.................................................................................................. 76
Material U.S. Federal Income Tax Consequences of the Merger................................................ 77
Accounting Treatment....................................................................................... 79
Regulatory Matters......................................................................................... 79
Dissenters' Rights......................................................................................... 80
Resale of PMC Commercial Common Shares..................................................................... 80
DESCRIPTION OF THE MERGER AGREEMENT............................................................................. 81
Structure of the Merger.................................................................................... 81
Closing; Completion of the Merger.......................................................................... 81
Merger Consideration....................................................................................... 81
Exchange of PMC Capital Stock Certificates for PMC Commercial Share Certificates........................... 81
Treatment of PMC Capital Stock Options..................................................................... 82
Board of Trust Managers and Officers of PMC Commercial..................................................... 82
Representations and Warranties of PMC Capital and PMC Commercial........................................... 82
Conduct of Business of PMC Capital and PMC Commercial Pending the Merger................................... 83
Additional Covenants Pending Completion of the Merger...................................................... 84
Pre-Merger Dividends....................................................................................... 85
Conditions to the Merger................................................................................... 86
Termination of the Merger Agreement........................................................................ 89
Expenses; Termination Fees................................................................................. 90
Waiver and Amendment of the Merger Agreement............................................................... 92
Indemnification; Directors' and Officers' Insurance........................................................ 93
THE VOTING AGREEMENTS........................................................................................... 94
MARKET PRICE AND DIVIDEND INFORMATION........................................................................... 95
UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION.......................................................... 96
Unaudited Pro Forma Consolidated Balance Sheet June 30, 2003............................................... 97
Notes to Unaudited Pro Forma Consolidated Balance Sheet.................................................... 99
Unaudited Pro Forma Consolidated Statement of Income for the Six Months Ended June 30, 2003................ 104
Unaudited Pro Forma Consolidated Statement of Income for the Year Ended December 31, 2002.................. 105
Notes to Unaudited Pro Forma Consolidated Statements of Income............................................. 106
ii
PMC COMMERCIAL BUSINESS......................................................................................... 111
Introduction............................................................................................... 111
PMC Commercial's Business Following the Merger............................................................. 111
Lending Activities......................................................................................... 112
Property Ownership......................................................................................... 117
Structured Loan Transactions............................................................................... 117
Investment Management...................................................................................... 121
Tax Status................................................................................................. 122
Employees.................................................................................................. 122
Customers.................................................................................................. 122
Properties................................................................................................. 122
Legal Proceedings.......................................................................................... 123
PMC COMMERCIAL MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS............ 124
Business................................................................................................... 124
Portfolio Information...................................................................................... 127
Critical Accounting Policies and Estimates................................................................. 131
Results of Operations...................................................................................... 133
Cash Flow Analysis......................................................................................... 140
Liquidity and Capital Resources............................................................................ 141
Summarized Contractual Obligations, Commitments and Contingencies.......................................... 144
Impact of Recently Issued Accounting Pronouncements........................................................ 146
Related Party Transactions................................................................................. 147
Equity and Dividends....................................................................................... 148
Funds from Operations...................................................................................... 149
PMC COMMERCIAL QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK....................................... 150
Loans Receivable........................................................................................... 150
Notes Payable and Revolving Credit Facility................................................................ 150
Retained Interests......................................................................................... 152
PMC COMMERCIAL MANAGEMENT....................................................................................... 153
Trust Managers of PMC Commercial........................................................................... 153
Meetings and Committees of the PMC Commercial Board of Trust Managers...................................... 155
Executive Officers of PMC Commercial....................................................................... 155
Compensation of Trust Managers............................................................................. 156
Compensation Committee Interlocks and Insider Participation................................................ 156
Annual and Long-Term Compensation.......................................................................... 156
Option Grants.............................................................................................. 157
Option Exercises and Year End Option Values................................................................ 157
Section 16(a) Beneficial Ownership Reporting Compliance.................................................... 157
Certain Relationships and Related Transactions............................................................. 157
PMC COMMERCIAL SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT .................................. 159
Security Ownership of Certain Beneficial Owners............................................................ 159
Security Ownership of Management........................................................................... 159
iii
PMC COMMERCIAL PERFORMANCE GRAPH................................................................................ 160
APPROVAL OF PROPOSED AMENDMENTS TO PMC COMMERCIAL'S DECLARATION OF TRUST........................................ 161
Expansion of Shareholder Voting Rights..................................................................... 161
Amending, Repealing or Adopting Bylaws..................................................................... 162
Vote Required.............................................................................................. 162
Recommendation of PMC Commercial Board of Trust Managers................................................... 163
RATIFICATION OF PMC COMMERCIAL'S INDEPENDENT PUBLIC ACCOUNTANTS................................................. 164
Principal Accounting Firm Fees............................................................................. 164
Audit Committee Report..................................................................................... 164
Shareholder Proposals...................................................................................... 165
PMC CAPITAL BUSINESS............................................................................................ 166
Introduction............................................................................................... 166
Lending Activities......................................................................................... 167
Structured Loan Transactions............................................................................... 170
Advisory Services.......................................................................................... 174
Regulatory Overview........................................................................................ 174
Employees.................................................................................................. 178
Customers.................................................................................................. 179
Properties................................................................................................. 179
Legal Proceedings.......................................................................................... 179
PMC CAPITAL MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS............... 180
General.................................................................................................... 180
Operating Overview......................................................................................... 181
Economic Factors........................................................................................... 182
Portfolio Information...................................................................................... 184
Critical Accounting Policies and Estimates................................................................. 189
Results of Operations...................................................................................... 192
Cash Flow Analysis......................................................................................... 201
Liquidity and Capital Resources............................................................................ 201
Summarized Contractual Obligations, Commitments and Contingencies.......................................... 205
Impact of Recently Issued Accounting Pronouncements........................................................ 207
Related Party Transactions................................................................................. 207
Quarterly Results.......................................................................................... 210
Dividends.................................................................................................. 210
PMC CAPITAL QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.......................................... 211
Loans Receivable........................................................................................... 211
Notes and Debentures Payable and Revolving Credit Facility................................................. 211
Retained Interests......................................................................................... 213
iv
PMC CAPITAL MANAGEMENT ......................................................................................... 214
Board of Directors of PMC Capital.......................................................................... 214
Election of PMC Capital's Directors........................................................................ 215
Nominations for Election to the Board of Directors of PMC Capital.......................................... 215
Meetings and Committees of PMC Capital's Board of Directors................................................ 215
Executive Officers of PMC Capital.......................................................................... 216
Compensation of Directors.................................................................................. 216
Compensation Committee Interlocks and Insider Participation................................................ 217
Management Compensation.................................................................................... 217
Option Grants.............................................................................................. 217
Option Exercises and Year End Option Values................................................................ 218
Employment Agreements...................................................................................... 218
Section 16(a) Beneficial Ownership Reporting Compliance.................................................... 218
PMC CAPITAL SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT ..................................... 219
Dollar Range of Securities Beneficially Owned by Directors................................................. 220
RATIFICATION OF PMC CAPITAL'S INDEPENDENT PUBLIC ACCOUNTANTS.................................................... 221
Principal Accounting Firm Fees............................................................................. 221
Audit Committee Report..................................................................................... 221
Shareholder Proposals...................................................................................... 222
DESCRIPTION OF PMC COMMERCIAL SHARES OF BENEFICIAL INTEREST..................................................... 223
General.................................................................................................... 223
Restrictions on Transfer................................................................................... 224
COMPARISON OF SHAREHOLDER RIGHTS................................................................................ 226
U.S. FEDERAL INCOME TAX CONSEQUENCES............................................................................ 243
General.................................................................................................... 243
REIT Qualification......................................................................................... 244
Taxation as a REIT......................................................................................... 250
Failure to Qualify as a REIT............................................................................... 252
Taxable Mortgage Pools..................................................................................... 253
Recent Legislation to Reduce the Maximum Tax Rate on Certain Corporate Dividends........................... 253
Taxation of Taxable U.S. Shareholders...................................................................... 254
Backup Withholding......................................................................................... 256
Taxation of Tax-Exempt Entities............................................................................ 256
Taxation of Foreign Investors.............................................................................. 256
State and Local Taxes...................................................................................... 258
LEGAL MATTERS................................................................................................... 259
EXPERTS......................................................................................................... 260
OTHER MATTERS................................................................................................... 261
WHERE YOU CAN FIND MORE INFORMATION............................................................................. 262
v
INDEX TO FINANCIAL STATEMENTS................................................................................... F-1
ANNEXES
ANNEX A AGREEMENT AND PLAN OF MERGER, AS AMENDED
ANNEX B AMENDMENT TO DECLARATION OF TRUST OF PMC COMMERCIAL TRUST
ANNEX C OPINION OF U.S. BANCORP PIPER JAFFRAY INC.
ANNEX D OPINION OF A.G. EDWARDS & SONS, INC.
vi
QUESTIONS AND ANSWERS ABOUT THE MERGER
Q: WHEN AND WHERE ARE THE ANNUAL SHAREHOLDER MEETINGS?
A: The annual meeting of PMC Commercial shareholders will take place on
__________, _______, 2003, at _:__ _.m. Central time, at 18111 Preston
Road, Suite 600, Dallas, Texas 75252.
The annual meeting of PMC Capital shareholders will take place on
_________, __________, 2003, at _:__ _.m. Central time, at 18111
Preston Road, Suite 600, Dallas, Texas 75252.
Q: WHAT IS HAPPENING AT EACH ANNUAL MEETING?
A: PMC Commercial shareholders are being asked to vote on the following
items at the PMC Commercial annual meeting:
- The approval of the merger agreement between PMC Capital and
PMC Commercial and the transactions contemplated by the merger
agreement.
- The approval of proposed amendments to PMC Commercials'
declaration of trust to (i) provide that the holders of PMC
Commercial common shares may vote on all matters presented at
all meetings of shareholders; and (ii) provide that the board
of trust managers may amend, repeal or adopt new bylaws.
- The election of seven members of the PMC Commercial board of
trust managers.
- The ratification of PricewaterhouseCoopers LLP as the
independent public accountants of PMC Commercial for 2003.
- The consideration of the postponement or adjournment of the
PMC Commercial annual meeting for the solicitation of
additional votes, if necessary.
- Any other business that may properly come before the PMC
Commercial annual meeting or any adjournments or postponements
of that meeting.
PMC Capital shareholders are being asked to vote on the following items
at the PMC Capital annual meeting:
- The approval of the merger agreement between PMC Capital and
PMC Commercial and the transactions contemplated by the merger
agreement.
- The election of two members of the PMC Capital board of
directors.
- The ratification of PricewaterhouseCoopers LLP as the
independent public accountants of PMC Capital for 2003.
- The approval of the postponement or adjournment of the PMC
Capital annual meeting for the solicitation of additional
votes, if necessary.
- Any other business that may properly come before the PMC
Capital annual meeting or any adjournments or postponements of
that meeting.
1
As of the PMC Capital record date, PMC Capital directors and officers
held and were entitled to vote shares of PMC Capital common stock
representing approximately __% of the outstanding shares of common
stock of PMC Capital. Each of these directors and officers has agreed
to vote his or her PMC Capital shares in favor of the approval of the
merger agreement and the merger as long as the merger agreement is in
effect.
As of the PMC Commercial record date, PMC Commercial trust managers and
officers held and were entitled to vote approximately __% of PMC
Commercial common shares outstanding. Each of these trust managers and
officers has agreed to vote his or her PMC Commercial common shares in
favor of the approval of the merger agreement and the merger as long as
the merger agreement is in effect.
Q: WHAT WILL HAPPEN IN THE MERGER?
A: If the merger is approved and all other conditions to the merger have
been satisfied or waived, PMC Capital will merge with and into PMC
Commercial. As a result of the merger:
- PMC Capital will cease to exist; and
- PMC Commercial will survive the merger and own and operate the
businesses of PMC Capital and its subsidiaries under the name
"PMC Commercial Trust." Following the merger, PMC Commercial
intends to continue to qualify as a Texas real estate
investment trust ("REIT").
Q: WHY ARE PMC COMMERCIAL AND PMC CAPITAL PROPOSING TO MERGE?
A: PMC Commercial and PMC Capital believe that the merger will provide
important strategic and financial benefits to PMC Commercial and PMC
Capital and their shareholders.
From PMC Commercial's point of view, these benefits include:
- ADDITION OF NEW EQUITY CAPITAL - PMC Commercial expects that
the larger equity market capitalization of the combined
company would help create new business flexibility and
earnings stability.
- STABILIZATION OF CASH FLOW - PMC Commercial expects that the
merger would provide stability to cash flow available for
dividends and ultimately become accretive to PMC Commercial
cash available for distribution.
- SUPPORT FOR REVENUE STREAM - PMC Commercial believes that PMC
Commercial's greater size resulting from the merger would help
maintain PMC Commercial's revenue stream.
- INTERNAL MANAGEMENT - PMC Commercial anticipates that becoming
internally managed would provide cost savings opportunities
and lessen or eliminate any potential conflict of interest
with PMC Capital.
- FAIRNESS OPINION - The PMC Commercial special committee
received a written opinion from U.S. Bancorp Piper Jaffray
Inc. ("U.S. Bancorp Piper Jaffray"), its financial advisor,
that, as of March 27, 2003, based upon and subject to the
assumptions, factors and limitations set forth in the written
opinion, the exchange ratio of 0.37 was fair, from a financial
point of view, to PMC Commercial.
From PMC Capital's point of view, these benefits include:
- EXCHANGE RATIO - PMC Capital received a written opinion from
A.G. Edwards & Sons ("A.G. Edwards"), its financial advisor,
that, as of March 27, 2003, the exchange ratio of 0.37 of a
common share of PMC Commercial for each share of PMC Capital
common stock was fair, from
2
a financial point of view, to PMC Capital's shareholders. PMC
Capital also asked A.G. Edwards to analyze the financial
fairness of the merger against comparable transactions and
available strategic alternatives. PMC Capital considered this
information in light of the historical market prices of the
PMC Capital common stock and PMC Commercial common shares.
- FUTURE ENVIRONMENT OF THE SMALL BUSINESS LENDING INDUSTRY -
PMC Capital expects that the merger would mitigate some of the
present and possible future economic and competitive risks
relating to the small business lending industry in which PMC
Capital operates.
- NEED TO INCREASE CAPITAL BASE IN A COST-EFFECTIVE MANNER - PMC
Capital expects that the merger would allow PMC Capital to
increase its capital base at a reduced cost to achieve
operating efficiencies.
- NEED TO DIVERSIFY INVESTMENT PORTFOLIO - PMC Capital believes
that the merger would diversify PMC Capital's investment
assets to provide PMC Capital shareholders with greater
earnings performance and operating and dividend stability.
- OFFERING A STAKE IN A LARGER COMPANY - The combined company
would have a larger equity market capitalization, which could
generate greater research coverage and institutional investor
interest as well as potentially increase the trading volume of
the PMC Commercial common shares to be received by PMC Capital
shareholders in the merger, as compared to the trading volume
of PMC Capital common stock before the merger.
- REDUCTION IN COMPLEXITY OF CORPORATE STRUCTURE AND ELIMINATION
OF POTENTIAL CONFLICTS OF INTEREST - PMC Capital believes that
the merger would simplify PMC Capital's complex business
structure. It would also help to eliminate potential conflicts
of interest arising out of transactions between PMC Commercial
and PMC Capital and from having common members of management
and two common board members.
Q: WHAT WILL PMC CAPITAL SHAREHOLDERS RECEIVE IN THE MERGER?
A: Each PMC Capital shareholder will receive 0.37 of a common share of
beneficial interest of PMC Commercial for each share of PMC Capital
common stock owned. For example, if a PMC Capital shareholder currently
owns 100 shares of PMC Capital common stock, then, if the merger is
consummated, the shareholder will receive 37 common shares of
beneficial interest of PMC Commercial in exchange for the 100 shares of
PMC Capital common stock.
Until the merger is completed, the value of PMC Commercial common
shares to be received in the merger will continue to fluctuate. On
March 27, 2003, the last full trading day before the public
announcement of the proposed merger, the closing price of a PMC
Commercial common share of beneficial interest on the American Stock
Exchange was $13.20. Based upon this closing price, 0.37 common shares
of PMC Commercial had a value of $4.88, and the aggregate value of the
merger would have been approximately $57.9 million. On __________,
2003, the most recent practicable date prior to the printing of this
joint proxy statement/prospectus, the closing price of a PMC Commercial
common share of beneficial interest was $____, and the closing price of
a share of PMC Capital common stock on the American Stock Exchange was
$____.
Each existing shareholder of PMC Commercial will continue to own the
common shares of beneficial interest that such shareholder owned before
the merger.
Q: ARE SHAREHOLDERS ABLE TO EXERCISE DISSENTERS' RIGHTS?
A: No. Shareholders of PMC Commercial and PMC Capital will not be entitled
to exercise dissenters' rights with respect to any matter to be voted
upon at the annual meetings. Any shareholder may abstain from or vote
against any of the matters to be voted on at the annual meetings.
3
Q: WHEN DO YOU EXPECT TO COMPLETE THE MERGER?
A: We are working to complete the merger during the first quarter of 2004
and expect it to be effective as of January 1, 2004, but in no event
later than February 29, 2004. PMC Commercial and PMC Capital are
working towards a January 1, 2004 closing date to minimize certain tax
risks. See "PMC Commercial Business - PMC Commercial's Business
Following the Merger" and "U.S. Federal Income Tax Consequences."
Q: HOW WILL THE COMBINED COMPANY'S BUSINESS BE DIFFERENT?
A: PMC Commercial intends to continue the established businesses of PMC
Capital and its subsidiaries but believes the combined company will
have the size, economies of scale, financial resources and diversity of
business lines to compete more effectively in the marketplace. PMC
Commercial also will have the combined income streams of the merged
businesses.
Q: HOW WILL THE COMBINED COMPANY BE MANAGED?
A: Following the merger, PMC Commercial will be internally managed by the
same team that externally manages PMC Commercial today.
Q: WHAT WILL BE THE COMPOSITION OF THE PMC COMMERCIAL BOARD OF TRUST
MANAGERS FOLLOWING THE MERGER?
A: The post-merger board of trust managers of PMC Commercial will consist
of the trust managers elected by the shareholders at the annual meeting
and Thomas Hamill, Barry A. Imber, Fredric M. Rosemore and Theodore J.
Samuel, all of whom are currently directors of PMC Capital.
Q: WHAT ARE THE U.S. FEDERAL INCOME TAX CONSEQUENCES OF THE MERGER?
A: PMC Commercial and PMC Capital have structured the merger to be a
reorganization for U.S. Federal income tax purposes. PMC Capital and
PMC Commercial will not be obligated to complete the merger unless they
receive legal opinions to the effect that the merger qualifies as a
reorganization for U.S. Federal income tax purposes. Accordingly, PMC
Capital shareholders and PMC Commercial shareholders will not recognize
gain or loss for U.S. Federal income tax purposes in the transaction.
You are strongly urged to consult with your tax advisor to determine
the particular U.S. Federal, state, local and foreign income or other
tax consequences of the merger to you.
Q: WHO MUST APPROVE THE MERGER?
A: In addition to the approvals by the PMC Commercial board of trust
managers and the PMC Capital board of directors, each of which has
already been obtained, the merger must be approved by the PMC
Commercial shareholders, the PMC Capital shareholders and the U.S.
Small Business Administration ("SBA"). Also, PMC Capital must obtain
exemptive relief from the SEC. PMC Capital intends to submit filings to
the SEC and the SBA as soon as practicable.
Q: WHAT SHAREHOLDER VOTE IS REQUIRED TO APPROVE THE ITEMS TO BE VOTED ON
AT EACH ANNUAL MEETING, INCLUDING THE MERGER?
A: With respect to the PMC Commercial annual meeting:
- the affirmative vote of the holders of two-thirds of PMC
Commercial common shares outstanding and entitled to vote
(___________ shares) is required to approve the merger
agreement and the merger;
4
- the affirmative vote of the holders of two-thirds of PMC
Commercial common shares outstanding and entitled to vote
(__________ shares) is required to approve the amendments to
PMC Commercial's declaration of trust;
- the affirmative vote of two-thirds of PMC Commercial common
shares outstanding and entitled to vote (___________ shares)
is required to elect PMC Commercial trust managers; and
- on each other matter to be acted on, the approval vote of a
majority of PMC Commercial common shares represented and
voting at the meeting is required to approve such matter.
With respect to the PMC Capital annual meeting:
- the affirmative vote of the holders of a majority of the
shares of PMC Capital common stock outstanding and entitled to
vote (___________ shares) is required to approve the merger
agreement and the merger;
- the two nominees for director receiving the highest number of
votes cast by holders of shares of PMC Capital common stock
will be elected as directors; and
- on each other matter to be voted on, for the PMC Capital
shareholders to approve such matter, the number of votes cast
"for" such matter must exceed the number of votes cast
"against" such matter.
Q: DO THE BOARDS RECOMMEND APPROVAL OF THE MERGER PROPOSAL?
A: Yes. Based on the recommendation of their respective special
committees, the board of trust managers of PMC Commercial and the board
of directors of PMC Capital each unanimously approved and adopted the
merger agreement and the transactions contemplated by the merger
agreement and recommends that you vote "for" approval of these matters.
The board of trust managers of PMC Commercial formed a special
committee of four independent trust managers with no relationship to
PMC Capital, consisting of Nathan G. Cohen, Roy H. Greenberg, Irving
Munn and Ira Silver. The board of directors of PMC Capital also formed
a special committee of four PMC Capital directors, consisting of Irvin
M. Borish, Barry A. Imber, Thomas Hamill and Theodore J. Samuel, none
of whom was an employee or director of PMC Commercial or an employee of
PMC Capital or its affiliates. Both the board of trust managers of PMC
Commercial and the board of directors of PMC Capital adopted the
recommendation of their respective special committees and recommend
that shareholders approve the merger.
Q: WHY WERE SPECIAL COMMITTEES FORMED?
A: The PMC Commercial and PMC Capital special committees were formed to
protect the interests of their respective shareholders in the
evaluation and negotiation of the merger agreement and the merger from
potential conflicts of interest resulting from the common management of
PMC Commercial and PMC Capital and the fact that certain officers and
directors of PMC Capital also serve on the board of trust managers of
PMC Commercial.
Q: WHAT DO I NEED TO DO NOW?
A: We urge you to read carefully this joint proxy statement/prospectus,
including its annexes. You also may want to review the documents
referenced under "Where You Can Find More Information" and consult with
your accounting, legal and tax advisors.
5
Q: HOW DO I VOTE MY SHARES?
A: You may indicate how you want to vote on your proxy card and then sign
and mail your proxy card in the enclosed return envelope as soon as
possible so that your shares may be represented at the appropriate
annual meeting. You may also vote over the Internet or the telephone by
following the instructions provided with your proxy card. If you are a
record shareholder, you may also attend the annual meeting in person
instead of submitting a proxy.
Unless your shares are held in a brokerage account, if you sign, date
and send your proxy and do not indicate how you want to vote, your
proxy will be voted "for" the approval of the merger agreement and the
merger and "for" all other proposals to be voted on at the annual
meeting. If your shares are held in a brokerage account, please see the
answer to the next question.
If you fail either to return your proxy card or vote over the telephone
or via the Internet, or if you "abstain" with respect to the merger,
the amendments to PMC Commercial's declaration of trust, or the
election of trust managers or directors, the effect will be a vote
"against" the merger, the amendments and the trust managers or
directors.
With respect to any other matter to be voted on at the PMC Commercial
annual meeting, a vote to "abstain" will have no effect on the outcome
of such other matters.
With respect to all other matters to be acted on at the PMC Capital
annual meeting, a vote to "abstain" will have no effect on the outcome
of such other matters.
Q: IF MY PMC CAPITAL SHARES OR PMC COMMERCIAL SHARES ARE HELD IN A
BROKERAGE ACCOUNT OR IN "STREET NAME," WILL MY BROKER VOTE MY SHARES
FOR ME?
A: With respect to the merger proposal and the amendments to PMC
Commercial's declaration of trust, if you are a PMC Commercial
shareholder, or with respect to the merger proposal, if you are a PMC
Capital shareholder, and, in either case, you do not provide your
broker with instructions on how to vote your street name shares, your
broker will not be permitted to vote them. With respect to all other
matters to be approved at the annual meetings, if the broker has
indicated on the proxy that it does not have discretionary authority to
vote such street name shares, your broker will not be permitted to vote
them. Either of these situations results in a "broker non-vote."
A broker non-vote with respect to the merger, the amendments to PMC
Commercial's declaration of trust, or the election of PMC Commercial
trust managers, will have the effect of a vote "against" such matters.
With respect to all other matters to be voted on at each annual
meeting, a broker non-vote will not have any effect on the outcome of
such matters.
You should, therefore, provide your broker with instructions on how to
vote your shares or arrange to attend the annual meeting and vote your
shares in person to avoid a broker non-vote. Shareholders are urged to
utilize telephone or Internet voting if their broker has provided them
with the opportunity to do so. See your voting instruction form for
instructions. If your broker holds your shares and you attend the
annual meeting in person, please bring a letter from your broker
identifying you as the beneficial owner of the shares and authorizing
you to vote your shares at the meeting.
Q: WHAT DO I DO IF I WANT TO CHANGE MY VOTE?
A: You may change your vote at any time before the vote takes place at
your annual meeting. To do so, you may either complete and submit a new
proxy card or send a written notice stating that you would like to
revoke your proxy. You may also change your vote if you voted over the
telephone or via the Internet simply by revoting. The last recorded
vote will be what is counted at the annual meeting. In addition, you
may elect to attend the annual meeting and vote in person, as described
above.
6
Q: SHOULD I SEND IN MY PMC CAPITAL SHARE CERTIFICATES NOW?
A: No. If the merger is completed, written instructions will be sent to
you for exchanging your PMC Capital share certificates for the
appropriate number of PMC Commercial common share certificates.
Q: WHO CAN I CONTACT WITH ANY ADDITIONAL QUESTIONS?
A: You may call Investor Relations at PMC Commercial at (800) 486-3223,
extension 3235 or PMC Capital toll-free at (800) 486-3223, extension
3256.
Q: WHERE CAN I FIND MORE INFORMATION ABOUT THE COMPANIES?
A: You can find more information about PMC Commercial and PMC Capital in
the documents described under "Where You Can Find More Information" on
page 262.
7
SUMMARY
This summary highlights selected information from this joint proxy
statement/prospectus and may not contain all the information that is important
to you. To understand the merger proposal fully and for a more complete
description of the legal terms of the merger, you should read carefully this
entire document, including the annexes, and the other documents to which we have
referred you. For information on how to obtain the documents that we have filed
with the SEC, see "Where You Can Find More Information" on page 262.
PMC CAPITAL, INC. (PAGE 166)
PMC Capital, a Florida corporation, is a diversified, closed-end
management investment company that has elected to operate as a business
development company, or BDC, under the Investment Company Act of 1940, as
amended. Either directly or through its subsidiaries, PMC Capital is a national
lender to small businesses. PMC Capital's investment objective is to achieve
current income that is available to pay out to shareholders in the form of
quarterly dividends. PMC Capital's operations include originating, servicing and
selling commercial loans. PMC Capital operates under several licenses from the
SBA. In addition to its lending operations, PMC Capital earns income through its
wholly-owned subsidiary, PMC Advisers, Ltd., and its subsidiary, PMC Asset
Management, Inc., which evaluate and service loans receivable and other
investments pursuant to certain fee arrangements with PMC Commercial. PMC
Capital common stock trades on the American Stock Exchange under the symbol
"PMC." PMC Capital's executive offices are located at 18111 Preston Road, Suite
600, Dallas, Texas 75252 and its telephone number is (972) 349-3200.
PMC COMMERCIAL TRUST (PAGE 111)
PMC Commercial is a Texas real estate investment trust, or REIT, that
primarily originates loans to small businesses collateralized by first liens on
the real estate of the related business, principally in the hospitality
industry. PMC Commercial's investments also include the ownership of commercial
properties in the hospitality industry. PMC Commercial originates loans for
commercial real estate primarily in the service, retail, multi-family and
manufacturing industries. PMC Commercial generates revenue from the yield earned
on its investments, rental income from property ownership and other fee income
from its lending activities. PMC Commercial is externally managed by PMC
Advisers, Ltd., and its subsidiary, PMC Asset Management, Inc., both of which
are direct or indirect wholly-owned subsidiaries of PMC Capital. PMC Commercial
is structured to qualify as a REIT for U.S. Federal income tax purposes. PMC
Commercial common shares trade on the American Stock Exchange under the symbol
"PCC." PMC Commercial's executive offices are located at 18111 Preston Road,
Suite 600, Dallas, Texas 75252 and its telephone number is (972) 349-3200.
THE PMC COMMERCIAL ANNUAL MEETING (PAGE 42)
PMC Commercial will hold an annual meeting of its shareholders at _:__
_.m., Central time, on ___________, 2003, at the principal executive offices of
PMC Commercial located at 18111 Preston Road, Suite 600, Dallas, Texas 75252, to
vote upon the following items:
- The approval of the merger agreement between PMC Capital and
PMC Commercial and the transactions contemplated by the merger
agreement.
- The approval of proposed amendments to PMC Commercial's
declaration of trust to (i) provide that the holders of PMC
Commercial common shares may vote on all matters presented at
all meetings of shareholders, and (ii) provide that the board
of trust managers may amend, repeal or adopt new bylaws.
- The election of seven members of the PMC Commercial board of
trust managers.
- The ratification of PricewaterhouseCoopers LLP as the
independent public accountants of PMC Commercial for 2003.
8
- The consideration of the postponement or adjournment of the
PMC Commercial annual meeting for the solicitation of
additional votes, if necessary.
- Any other business that may properly come before the PMC
Commercial annual meeting or any adjournments or postponements
of that meeting.
You can vote at the PMC Commercial annual meeting only if you owned PMC
Commercial common shares at the close of business on ___________, 2003, which is
the record date for the meeting.
THE PMC CAPITAL ANNUAL MEETING (PAGE 45)
PMC Capital will hold an annual meeting of its shareholders at _:__
_.m., Central time, on ___________, 2003, at the principal executive offices of
PMC Capital located at 18111 Preston Road, Suite 600, Dallas, Texas 75252, to
vote upon the following items:
- The approval of the merger agreement between PMC Capital and
PMC Commercial and the transactions contemplated by the merger
agreement.
- The election of two members of the PMC Capital board of
directors.
- The ratification of PricewaterhouseCoopers LLP as the
independent public accountants of PMC Capital for 2003.
- The approval of the postponement or adjournment of the PMC
Capital annual meeting for the solicitation of additional
votes, if necessary.
- Any other business that may properly come before the PMC
Capital annual meeting or any adjournments or postponements of
that meeting.
You can vote at the PMC Capital annual meeting only if you owned PMC
Capital common stock at the close of business on ___________, 2003, which is the
record date for the meeting.
THE MERGER PROPOSAL (PAGE 48)
Under the terms of the merger, PMC Capital will be merged with and into
PMC Commercial, PMC Commercial will be the surviving entity, and PMC Capital
will no longer exist as a separate corporation. As a result of the merger, all
of the assets and liabilities of PMC Capital immediately before the merger will
become assets and liabilities of PMC Commercial immediately after the merger,
and all of the direct and indirect subsidiaries of PMC Capital will either be
dissolved or become direct and indirect subsidiaries of PMC Commercial.
After the merger, persons who owned shares of PMC Capital before the
merger will own approximately 40.49% of PMC Commercial common shares outstanding
immediately after the merger. As a result of the merger, PMC Commercial will
survive as an internally-managed company and will continue the operations
conducted by PMC Commercial and PMC Capital before the merger.
The merger agreement is attached as Annex A to this joint proxy
statement/prospectus and is incorporated by reference into this joint proxy
statement/prospectus. We encourage you to read the merger agreement carefully
and in its entirety, as it is the principal legal document governing the merger.
9
The following diagrams summarize the structure of PMC Commercial and
PMC Capital before and after the merger assuming that it is completed as
provided in the merger agreement:
CURRENT STRUCTURE:
[FLOW CHART]
10
PMC CAPITAL SHAREHOLDERS WILL RECEIVE PMC COMMERCIAL COMMON SHARES IN THE MERGER
(PAGE 223)
- PMC CAPITAL SHAREHOLDERS. If the merger is consummated, each
share of PMC Capital common stock will be converted into the
right to receive 0.37 of a common share of PMC Commercial.
The closing prices of the PMC Commercial common shares and the PMC
Capital common stock, as well as the value of the PMC Commercial common shares
to be received in the merger based on the exchange ratio of 0.37, were, on the
day before the merger was announced and on the record date, as follows:
PMC COMMERCIAL PMC CAPITAL IMPLIED VALUE OF EACH
DATE CLOSING SALE PRICE CLOSING SALE PRICE PMC CAPITAL SHARE
---------------------------------------------------------------------------------------
March 27, 2003 $13.20 $4.02 $4.88
_______, 2003
The value of the PMC Commercial common shares to be received in the
merger will continue to fluctuate and you will not know the value of the PMC
Commercial common shares you will receive in the merger at the time you vote.
Please do not send in your stock certificates at this time. You will
receive written instructions to do so after the merger is complete.
- PMC COMMERCIAL SHAREHOLDERS. If the merger is consummated,
each common share of PMC Commercial issued and outstanding
prior to the merger will remain outstanding without change.
COMPLETION OF THE MERGER (PAGE 81)
It is currently expected that the merger will be completed after
shareholders have approved the merger at the annual meetings, if regulatory
approvals and other required matters are completed by that time. PMC Commercial
and PMC Capital are working to complete the merger during the first quarter of
2004 and expect it to be effective as of January 1, 2004, but in any event, no
later than February 29, 2004. PMC Commercial and PMC Capital are targeting a
January 1, 2004 closing date to minimize certain tax risks, as described
elsewhere in this joint proxy statement/prospectus. See "Description of the
Merger Agreement - Closing; Completion of the Merger." The merger agreement
currently obligates the parties to complete the merger on or before February 29,
2004. If necessary or desirable, PMC Commercial and PMC Capital may agree to
complete the merger at a later date.
OWNERSHIP OF PMC COMMERCIAL AFTER THE MERGER (PAGE 48)
Following the merger, existing PMC Capital shareholders will own
approximately 40% of the outstanding common shares of PMC Commercial based on
the number of PMC Commercial common shares and shares of PMC Capital common
stock expected to be outstanding on _______________, 2003.
RECOMMENDATIONS OF THE SPECIAL COMMITTEES AND THE BOARDS OF TRUST MANAGERS AND
DIRECTORS (PAGE 61)
- SPECIAL COMMITTEE RECOMMENDATIONS. The board of trust managers
of PMC Commercial formed a special committee of four
independent PMC Commercial trust managers with no relationship
to PMC Capital. The board of directors of PMC Capital also
formed a special committee of four PMC Capital directors, none
of whom is an employee or director of PMC Commercial or an
employee of PMC Capital or its affiliates. The PMC Commercial
and PMC Capital special committees were formed to protect the
interests of their respective shareholders in the evaluation
and negotiation of the merger agreement and the merger from
potential conflicts of interest resulting from the common
management of PMC Commercial and PMC Capital and the fact that
certain officers and directors of PMC Capital also serve on
the board of trust managers of PMC Commercial. Each special
committee unanimously recommended to its respective board that
the merger proposal was advisable and fair to and in the best
interests of each company and its shareholders, and that the
merger should be approved.
11
- BOARD RECOMMENDATIONS. Both the board of trust managers of PMC
Commercial and the board of directors of PMC Capital
unanimously adopted the recommendation of their respective
special committees that the merger be approved and submitted
to shareholders for approval. THE PMC COMMERCIAL BOARD OF
TRUST MANAGERS AND THE PMC CAPITAL BOARD OF DIRECTORS BELIEVE
THAT THE MERGER IS ADVISABLE AND IN THE BEST INTERESTS OF
THEIR RESPECTIVE SHAREHOLDERS, AND THEY UNANIMOUSLY RECOMMEND
THAT THEIR RESPECTIVE SHAREHOLDERS VOTE "FOR" APPROVAL OF THE
MERGER PROPOSAL.
PMC COMMERCIAL'S REASONS FOR THE MERGER (PAGE 53)
In reaching their conclusion, the PMC Commercial special committee and
PMC Commercial board of trust managers approved the merger for the following
reasons, among others:
- ADDITION OF NEW EQUITY CAPITAL - PMC Commercial expects that
the larger equity market capitalization of the combined
company would help create new business flexibility and
earnings stability.
- STABILIZATION OF CASH FLOW - PMC Commercial expects that the
merger would provide stability to cash flow available for
dividends and ultimately become accretive to PMC Commercial
cash available for distribution.
- SUPPORT FOR REVENUE STREAM - PMC Commercial believes that PMC
Commercial's greater size resulting from the merger would help
maintain PMC Commercial's revenue stream.
- INTERNAL MANAGEMENT - PMC Commercial anticipates that becoming
internally managed would provide cost savings opportunities
and lessen or eliminate any potential conflict of interest
with PMC Capital.
- FAIRNESS OPINION - The PMC Commercial special committee
received a written opinion from U.S. Bancorp Piper Jaffray,
its financial advisor, that, as of March 27, 2003, based upon
and subject to the assumptions, factors and limitations set
forth in the written opinion, the exchange ratio of 0.37 was
fair, from a financial point of view, to PMC Commercial.
PMC CAPITAL'S REASONS FOR THE MERGER (PAGE 57)
In reaching their conclusion, the PMC Capital special committee and PMC
Capital board of directors approved the merger for the following reasons, among
others:
- EXCHANGE RATIO - PMC Capital received a written opinion from
A.G. Edwards, its financial advisor, that, as of March 27,
2003, the exchange ratio of 0.37 of a common share of PMC
Commercial for each share of PMC Capital common stock was
fair, from a financial point of view, to PMC Capital's
shareholders. PMC Capital also asked A.G. Edwards to analyze
the financial fairness of the merger against comparable
transactions and available strategic alternatives. PMC Capital
considered this information in light of the historical market
prices of the PMC Capital common stock and PMC Commercial
common shares.
- FUTURE ENVIRONMENT OF THE SMALL BUSINESS LENDING INDUSTRY -
PMC Capital expects that the merger would mitigate some of the
present and possible future economic and competitive risks of
the small business lending industry in which PMC Capital
operates.
- NEED TO INCREASE CAPITAL BASE IN A COST-EFFECTIVE MANNER - PMC
Capital expects that the merger would allow PMC Capital to
increase its capital base at a reduced cost to achieve
operating efficiencies.
12
- NEED TO DIVERSIFY INVESTMENT PORTFOLIO - PMC Capital believes
that the merger would diversify PMC Capital's investment
assets to provide PMC Capital shareholders with greater
earnings performance and operating and dividend stability.
- OFFERING A STAKE IN A LARGER COMPANY - The combined company
would have a larger equity market capitalization, which could
generate greater research coverage and institutional investor
interest as well as potentially increase the trading volume of
the PMC Commercial common shares to be received by PMC Capital
shareholders in the merger, as compared to the trading volume
of PMC Capital common stock before the merger.
- REDUCTION IN COMPLEXITY OF CORPORATE STRUCTURE AND ELIMINATION
OF POTENTIAL CONFLICTS OF INTEREST - PMC Capital believes that
the merger would simplify PMC Capital's complex business
structure. It would also help to eliminate potential conflicts
of interest arising out of transactions between PMC Commercial
and PMC Capital and from having common members of management.
FAIRNESS OPINIONS OF FINANCIAL ADVISORS (PAGES 61 AND 69)
- PMC COMMERCIAL. The PMC Commercial special committee engaged
U.S. Bancorp Piper Jaffray to act as financial advisor with
respect to evaluating strategic alternatives available to PMC
Commercial. On March 27, 2003, U.S. Bancorp Piper Jaffray
delivered its opinion to the PMC Commercial special committee
that, as of that date, and based upon and subject to the
assumptions, factors and limitations set forth in the written
opinion and described under the heading "The Merger Proposal -
Opinion of U.S. Bancorp Piper Jaffray," the exchange ratio in
the merger pursuant to the merger agreement was fair, from a
financial point of view, to PMC Commercial. U.S. Bancorp Piper
Jaffray's written opinion was directed to the PMC Commercial
special committee and does not constitute a recommendation to
any PMC Commercial shareholder as to how such shareholder
should vote with respect to the proposed merger. This opinion
addressed only the fairness, from a financial point of view,
of the exchange ratio in the merger to PMC Commercial. The
opinion does not address PMC Commercial's underlying business
decision to participate in the merger. In addition, U.S.
Bancorp Piper Jaffray did not express any opinion as to the
prices at which common shares of PMC Commercial or shares of
common stock of PMC Capital have traded or at which shares of
PMC Commercial, PMC Capital or the combined company may trade
in the future. A copy of the written opinion is attached to
this joint proxy statement/prospectus as Annex C. This opinion
has not been updated, revised or reissued since it was
delivered on March 27, 2003. PMC Commercial intends to request
a bring-down written opinion from U.S. Bancorp Piper Jaffray
prior to mailing this joint proxy statement/prospectus to
shareholders. PMC COMMERCIAL SHAREHOLDERS SHOULD READ THE
OPINION ATTACHED AS ANNEX C TO THIS JOINT PROXY
STATEMENT/PROSPECTUS CAREFULLY AND IN ITS ENTIRETY IN
CONJUNCTION WITH THIS JOINT PROXY STATEMENT/PROSPECTUS AND
SHOULD CAREFULLY CONSIDER THE ASSUMPTIONS MADE, MATTERS
CONSIDERED, AND LIMITS OF THE REVIEW UNDERTAKEN, BY U.S.
BANCORP PIPER JAFFRAY.
- PMC CAPITAL. A.G. Edwards served as financial advisor to the
PMC Capital special committee and the PMC Capital board of
directors. A.G. Edwards rendered an opinion as to the fairness
of the exchange ratio of the merger, from a financial point of
view, to PMC Capital's shareholders. A.G. Edwards provided its
opinion for the information and assistance of PMC Capital's
special committee and PMC Capital's board of directors in
connection with their consideration of the transactions
contemplated by the merger agreement. The opinion provided by
A.G. Edwards is not a recommendation as to how any holder of
PMC Capital common stock should vote with respect to the
transaction. In addition, the opinion provided by A.G. Edwards
does not express any opinion as to the prices at which PMC
Commercial common shares may trade following completion of the
merger. The full text of this opinion is attached as Annex D
to this joint proxy statement/prospectus. PMC CAPITAL
ENCOURAGES ITS SHAREHOLDERS TO READ THE OPINION PROVIDED BY
A.G. EDWARDS CAREFULLY AND IN ITS ENTIRETY.
13
INTERESTS OF PMC COMMERCIAL AND PMC CAPITAL MANAGEMENT IN THE MERGER (PAGE 76)
The trust managers of PMC Commercial and the officers and the directors
of PMC Capital have interests in the merger that are different in certain
respects from and may conflict with the interests of other PMC Commercial
shareholders and PMC Capital shareholders, respectively.
- Currently, Lance B. Rosemore, President and Chief Executive
Officer, a significant shareholder and a director of PMC
Capital, Andrew S. Rosemore, Executive Vice President and
Chief Operating Officer and a significant shareholder of PMC
Capital, and Martha R. Greenberg, a significant shareholder
and a director of PMC Capital, serve as trust managers of PMC
Commercial and are all children of Fredric M. Rosemore,
Chairman of the Board of PMC Capital.
- Upon the completion of the merger, the PMC Commercial board of
trust managers will be comprised of Nathan G. Cohen, Martha R.
Greenberg, Roy H. Greenberg, Irving Munn, Andrew S. Rosemore,
Lance B. Rosemore and Ira Silver, all of whom are current
trust managers of PMC Commercial, and Thomas Hamill, Barry A.
Imber, Fredric M. Rosemore and Theodore J. Samuel, all of whom
are current directors of PMC Capital.
- All executive officers of PMC Capital will become paid
employees of PMC Commercial upon completion of the merger.
- As of _________, 2003, directors and officers of PMC Capital
beneficially owned in the aggregate _____ shares of PMC
Capital common stock, representing __% of the total shares of
PMC Capital. Each of these directors and officers has agreed
to vote his or her PMC Capital shares in favor of the approval
of the merger agreement and the merger so long as the merger
agreement is in effect.
- Upon completion of the merger, trust managers and officers of
PMC Commercial will beneficially own in the aggregate
approximately _______ PMC Commercial common shares,
representing __% of PMC Commercial common shares that will be
outstanding after the merger is completed.
U.S. FEDERAL INCOME TAX CONSEQUENCES (PAGE 243)
PMC Commercial and PMC Capital will not be obligated to complete the
merger unless each has received an opinion from its counsel, based on certain
assumptions and factual representations made by PMC Commercial, PMC Capital and
others, to the effect that the merger will qualify as a tax-free reorganization
under the Internal Revenue Code of 1986, as amended and that, as a result,
neither PMC Capital nor its shareholders will recognize gain or loss for U.S.
Federal income tax purposes as a result of the merger. It is a condition to the
merger that each of PMC Commercial and PMC Capital receive this legal opinion
from its counsel. Tax matters are complicated, and the tax consequences of the
merger to you will depend on the facts of your own situation. We urge you to
contact your own tax advisor to understand fully how the merger will affect you,
including how any state, local or foreign tax laws may apply to you.
DIVIDENDS AND DISTRIBUTIONS (PAGE 76)
PMC COMMERCIAL. Under the merger agreement, (1) PMC Commercial is
permitted, but not obligated, to pay distributions to shareholders of regular
quarterly dividends up to $0.40 per PMC Commercial common share and (2) if PMC
Capital is required to make a special distribution prior to completion of the
merger, PMC Commercial is permitted and intends to make a similar distribution
to its shareholders, adjusted by the exchange ratio prior to completion of the
merger.
In order to qualify as a REIT for U.S. Federal income tax purposes, PMC
Commercial generally must distribute to its shareholders annually at least 90%
of its taxable income, excluding the retained earnings of its taxable REIT
subsidiaries and its net capital gains. It is anticipated that, after the
completion of the merger, PMC Commercial will maintain its existing dividend
policy. The payment of dividends by PMC Commercial, however,
14
will be subject to approval and declaration by the PMC Commercial board of trust
managers and will depend on a variety of factors, including business, financial
and regulatory considerations.
PMC CAPITAL. Under the merger agreement, (1) PMC Capital is permitted,
but not obligated, to pay distributions to its shareholders of regular quarterly
dividends up to $0.12 per share of PMC Capital common stock and (2) PMC Capital
may make distributions as required to cause PMC Capital to distribute 100% of
its taxable income for the taxable year ending on the closing date of the
merger.
DISSENTERS' RIGHTS (PAGE 80)
PMC Commercial and PMC Capital shareholders will not be entitled to
exercise dissenters' rights under Texas or Florida law, respectively.
VOTE REQUIRED TO APPROVE THE MERGER AND THE OTHER ANNUAL MEETING PROPOSALS
(PAGES 43 AND 46)
- MERGER PROPOSAL. The merger proposal requires the approval of
the holders of two-thirds of the outstanding PMC Commercial
common shares and the approval of the holders of a majority of
the outstanding PMC Capital common stock. If you abstain, do
not return your proxy or do not cast your vote either in
person, by proxy, by telephone or the Internet, it will have
the effect of a vote "against" the merger proposal. Brokers
who hold shares of stock in street name cannot vote those
shares unless you instruct them to vote in accordance with
their procedures, which would also have the effect of a vote
"against" the merger proposal.
- OTHER PMC COMMERCIAL PROPOSALS.
- Approval of amendments to PMC Commercial's
declaration of trust. The approval of the amendments
to PMC Commercial's declaration of trust requires the
affirmative vote of the holders of at least
two-thirds of the outstanding PMC Commercial common
shares. If you abstain, do not return your proxy or
do not cast your vote either in person, by proxy, by
telephone or the Internet, it will have the effect of
a vote "against" the amendments to PMC Commercial's
declaration of trust. Brokers who hold shares of
beneficial interest in street name cannot vote those
shares if the brokers are not provided with voting
instructions in accordance with their procedures, and
this would also be counted as a vote "against" the
amendments to PMC Commercial's declaration of trust.
- Election of board of trust managers. The election of
the members of the PMC Commercial board of trust
managers will require the approval of the holders of
two-thirds of the outstanding PMC Commercial common
shares. If you abstain, do not return your proxy or
do not cast your vote either in person, by proxy, by
telephone or the Internet, it will have the effect of
a vote "against" the election of trust managers.
Brokers who hold shares of beneficial interest in
street name cannot vote those shares if you have
withheld authority for them to do so. These shares
are referred to as "broker non-votes." Broker
non-votes would also have the effect of a vote
"against" the election of trust managers.
- Other proposals. The other proposals to be acted upon
at the PMC Commercial annual meeting will require the
approval of the holders of a majority of the PMC
Commercial common shares represented and voting at
the PMC Commercial annual meeting. Shares that are
not voted and broker non-votes will not have any
effect with respect to each of these proposals.
- OTHER PMC CAPITAL PROPOSALS.
- Election of board members. PMC Capital's board is
composed of seven members divided into three classes,
with each class serving a three-year term and one
class being elected by the shareholders annually. The
two nominees for election to the PMC Capital
15
board of directors who receive the highest number of
votes will be elected to a three-year term. Thus,
abstentions, failures to cast a vote and broker
non-votes will have no effect on the outcome of this
proposal.
- Other proposals. Each of the other proposals to be
voted upon at the PMC Capital annual meeting will be
approved if the number of votes cast in favor of the
proposal exceed the number of votes cast against the
proposal. Thus, abstentions, failures to vote and
broker non-votes will have no effect on the outcome
of these proposals.
VOTING POWER AND VOTING BY MANAGEMENT (PAGE 94)
On the record date, ________________ PMC Commercial common shares were
outstanding, of which ___________ shares, or __% of the total outstanding
shares, were owned by trust managers and executive officers of PMC Commercial.
On the record date, ______________ shares of PMC Capital common stock were
outstanding, of which ____________ shares, or ___% of the total outstanding
shares, were owned by directors and executive officers of PMC Capital. Each PMC
Commercial common share and each share of PMC Capital common stock entitles the
holder to one vote on all proposals.
So long as the merger agreement is in effect, each of the trust
managers and executive officers of PMC Commercial and each of the directors and
executive officers of PMC Capital has agreed to vote his or her shares in favor
of the merger proposal and the merger.
REVOKING PROXIES (PAGES 44 AND 47)
You can revoke a proxy previously given by you by:
- sending a written notice to the secretary of PMC Commercial or
PMC Capital, as appropriate, at the address shown on the proxy
card;
- completing and signing a new proxy card;
- revoting your shares over the telephone or via the Internet;
or
- attending the annual meeting and voting in person.
REGULATORY APPROVALS REQUIRED TO COMPLETE THE MERGER (PAGE 79)
PMC Commercial and PMC Capital must obtain certain approvals, including
approval of the SBA and exemptive relief from the SEC, before they can complete
the merger.
PMC Commercial and PMC Capital cannot predict whether all required
regulatory approvals for the merger will be obtained, or whether any approvals
will include conditions that may be detrimental to PMC Commercial or PMC
Capital.
CONDITIONS TO COMPLETION OF THE MERGER (PAGE 86)
The merger will be completed only if specific conditions, including,
among other things, the following, are met or waived:
- the merger agreement is approved by the required vote of PMC
Commercial shareholders and PMC Capital shareholders;
- no legal prohibition on completion of the merger is in effect;
16
- PMC Commercial common shares to be issued in the merger are
approved for listing on the American Stock Exchange;
- the registration statement, including this joint proxy
statement/prospectus, is declared effective by the SEC;
- all approvals, consents and authorizations of, filings and
registrations with, and applications and notifications to all
third parties and regulatory authorities required for the
completion of the merger are obtained or made and are in full
force and effect and all waiting periods required by
applicable law have expired;
- the representations and warranties made by each party continue
to be accurate except for inaccuracies that would not have a
material adverse effect;
- covenants of the parties are performed in all material
respects;
- each of PMC Commercial and PMC Capital receives an opinion of
its respective tax counsel to the effect that the merger will
qualify as a reorganization under the Internal Revenue Code;
- each of PMC Commercial and PMC Capital receives an opinion of
tax counsel to the effect that PMC Capital was organized and
has operated in conformity with the requirements for
qualification as a regulated investment company under the
Internal Revenue Code;
- each of PMC Commercial and PMC Capital receives an opinion of
tax counsel to the effect that PMC Commercial was organized
and operated in conformity with the requirements for
qualification and taxation as a REIT under the Internal
Revenue Code; and
- since the date of the merger agreement, there has been no
change that would have had a material adverse effect on PMC
Commercial.
TERMINATION OF THE MERGER AGREEMENT (PAGE 89)
Even if shareholders of PMC Commercial and PMC Capital approve the
merger, PMC Commercial and PMC Capital can jointly agree to terminate the merger
agreement at any time. Either PMC Commercial or PMC Capital may also terminate
the merger agreement if, among other things, any of the following occurs:
- the merger is not completed on or before February 29, 2004, as
long as the failure to complete the merger before that date is
not the result of the failure by the terminating company to
fulfill any of its obligations under the merger agreement;
- a court or other governmental authority prohibits the merger;
- either the PMC Commercial shareholders or the PMC Capital
shareholders do not approve the merger agreement;
- the other company's board of directors or trust managers
withdraws or changes its recommendation that the shareholders
approve the merger in connection with a superior proposal as
provided in the merger agreement; or
- prior to the receipt of the approval of shareholders, either
PMC Commercial or PMC Capital terminates the merger agreement
in connection with a superior proposal as provided in the
merger agreement.
17
PMC Commercial will pay a termination fee to PMC Capital in the amount
of $870,000 in cash to the extent set forth in the merger agreement if the
merger agreement is terminated because PMC Commercial withdraws or changes its
recommendation that the shareholders approve this merger or terminates the
merger agreement in connection with a superior proposal.
PMC Capital will pay a termination fee to PMC Commercial in the amount
of $870,000 in cash to the extent set forth in the merger agreement if the
merger agreement is terminated because PMC Capital withdraws or changes its
recommendation that the shareholders approve this merger or terminates the
merger agreement in connection with a superior proposal.
In the event that the merger agreement is terminated for any other
reason, no termination fees will be payable, but under certain circumstances
termination expenses of up to $750,000 may be payable by either company to the
other.
THE PARTIES CANNOT SOLICIT OTHER OFFERS (PAGE 86)
The merger agreement contains provisions prohibiting PMC Commercial and
PMC Capital from actively seeking an alternative transaction. The no
solicitation covenant generally prohibits PMC Commercial and PMC Capital, as
well as their officers, trust managers, directors, subsidiaries, employees,
agents and representatives, from taking any action to solicit an acquisition
proposal. The merger agreement does not, however, prohibit either PMC Commercial
or PMC Capital or its respective board of trust managers or directors from
considering, and potentially recommending, an unsolicited written superior
proposal from a third party under certain circumstances.
TERMINATION OF EXCHANGE ACT REGISTRATION (PAGE 81)
PMC Commercial common shares and shares of PMC Capital common stock are
listed on the American Stock Exchange. Following the merger, PMC Capital common
stock will be delisted and will no longer trade on the American Stock Exchange
or any other exchange. PMC Capital intends to terminate the registration of its
common stock under the Securities Exchange Act of 1934 promptly upon completion
of the merger.
FLUCTUATIONS IN MARKET PRICE (PAGE 30)
The value of the PMC Commercial common shares that PMC Capital
shareholders will receive in the merger will depend on the market value of the
PMC Commercial common shares at the time the merger is completed. The market
value of PMC Commercial common shares is likely to change, both before and after
the PMC Capital annual shareholders meeting and the merger. No one can
accurately predict what the market value will be for these shares at any
particular time.
LISTING OF PMC COMMERCIAL COMMON SHARES (PAGE 76)
PMC Commercial will have the common shares to be issued in the merger
listed on the American Stock Exchange and intends that its common shares will
continue to be listed on the American Stock Exchange.
RISK FACTORS (PAGE 20)
Shareholders voting on the merger should consider, among other things,
the risks associated with ownership of PMC Commercial common shares and the
other risks set forth in the section "Risk Factors" of this joint proxy
statement/prospectus.
COMPARISON OF SHAREHOLDER RIGHTS (PAGE 226)
The rights of PMC Capital shareholders are currently governed by
Florida law, PMC Capital's articles of incorporation and PMC Capital's bylaws.
When the merger is completed, shareholders of PMC Capital will become
shareholders of PMC Commercial, a Texas REIT, and their rights will be governed
by Texas law, PMC
18
Commercial's declaration of trust and its bylaws. The rights of PMC Capital
shareholders and the rights of PMC Commercial shareholders differ in many
respects.
Furthermore, for PMC Commercial to qualify as a REIT under the Internal
Revenue Code, among other things:
- not more than 50% in value of its outstanding shares may be
owned, directly or indirectly, by five or fewer individuals,
as defined in the Internal Revenue Code, during the last half
of a taxable year; and
- the shares must be beneficially owned by 100 or more persons
during at least 335 days of a taxable year of 12 months or
during a proportionate part of a shorter taxable year.
PMC Commercial's declaration of trust, subject to certain exceptions,
provides that no holder other than any person approved by the trust managers, at
their option and in their discretion, may own, or be deemed to own by virtue of
the attribution provisions of the Internal Revenue Code, more than 9.8% of the
lesser of the number or value, as determined in good faith by the trust
managers, of the total outstanding shares of PMC Commercial.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
This document and the documents to which we refer you in this document
include various forward-looking statements about PMC Commercial and PMC Capital
that are subject to risks and uncertainties. Forward-looking statements include
information concerning future results of operations of PMC Commercial and PMC
Capital. Also, statements that use the words "anticipate," "believe," "could,"
"estimate," "expect," "forecast," "intend," "plan," "may," "possible,"
"project," "should," "will" or similar expressions are forward-looking
statements. Many factors, some of which are discussed elsewhere in this document
and in documents to which we have referred you, could affect the future
financial results of PMC Commercial and PMC Capital. These factors could cause
actual results to differ materially from those expressed in the forward-looking
statements contained in this document or related documents. These factors
include adverse changes in economic conditions and in the markets served by PMC
Commercial and PMC Capital and a significant delay in the completion of the
merger, as well as the factors, risks and uncertainties discussed in "Risk
Factors."
MARKET PRICE AND DIVIDEND INFORMATION
The PMC Commercial common shares and the shares of PMC Capital common
stock are each listed on the American Stock Exchange. The following table sets
forth the periods indicated the high and low per share closing sale prices of
the PMC Commercial common shares and the shares of PMC Capital common stock and
the cash dividends declared per share:
PMC COMMERCIAL PMC CAPITAL
-------------------------------- ---------------------------------
High Low Dividend High Low Dividend
------- ------- -------- -------- ------- --------
2000 (Calendar Year)........... $ 12.63 $ 8.69 $ 1.745 $ 10.38 $ 7.75 $ 1.000
2001 (Calendar Year)........... $ 15.24 $ 9.00 $ 1.520 $ 9.50 $ 6.75 $ 0.850
2002 (Calendar Year)........... $ 15.50 $ 11.25 $ 1.620 $ 8.00 $ 3.20 $ 0.560
2003:
First Quarter............... $ 13.57 $ 12.49 $ 0.400 $ 5.30 $ 3.90 $ 0.120
Second Quarter.............. $ 14.20 $ 11.67 $ 0.380 $ 5.22 $ 4.08 $ 0.120
Third Quarter through
August 20, 2003........... $ 13.97 $ 13.06 $ __.___ $ 5.05 $ 4.67 $ __.___
Listing on the American Stock Exchange of the PMC Commercial common
shares issuable in connection with the merger is a condition to the completion
of the merger.
19
RISK FACTORS
In considering whether to vote in favor of the merger, you should
consider all of the information included in this joint proxy
statement/prospectus, including the matters addressed in "Cautionary Statement
Regarding Forward-Looking Statements." In addition, you should carefully
consider the following risk factors considered by PMC Commercial and PMC
Capital, based on the information available to them, to be material to the
approval of the merger agreement and the merger and/or inherent in the business
of the combined company and in the ownership of the combined company's shares.
These factors are important, and PMC Commercial and PMC Capital have not
attempted to quantify their potential effects on the combined company that will
result from the merger.
RISKS RELATED TO THE MERGER AND THE COMBINED COMPANY
PMC CAPITAL AND PMC COMMERCIAL HAVE AGREED TO A FIXED EXCHANGE RATIO, AND, AS A
RESULT, THE PMC COMMERCIAL COMMON SHARES TO BE ISSUED IN THE MERGER MAY HAVE A
MARKET VALUE THAT IS LOWER THAN EXPECTED.
The exchange ratio of 0.37 of a common share of PMC Commercial for each
share of PMC Capital common stock was fixed on March 27, 2003, the time of the
signing of the merger agreement, and is not subject to adjustment based on
changes in the trading price of the PMC Commercial or the PMC Capital common
shares before the closing of the merger. It is the parties' intention, subject
to shareholder approval, to complete the merger effective as of January 1, 2004,
but in no event later than February 29, 2003; however, if other conditions to
close the merger are not satisfied or duly waived at that time, there may be a
significant amount of time between the date of the two annual meetings and the
date when the merger is completed. As a result, the market price of the PMC
Commercial common shares at the time of the merger may vary significantly from
the price on the date the merger agreement was signed or from the price on
either the date of this joint proxy statement/prospectus or the date of the
annual meetings. These variances may arise due to, among other things:
- changes in the business, operations and prospects of PMC
Commercial or PMC Capital;
- the financial condition of current or prospective borrowers of
PMC Commercial or PMC Capital or tenants of PMC Commercial;
- interest rates, general market and economic conditions and
other factors;
- market assessments of the likelihood that the merger will be
completed and the timing of the merger; and
- market perception of the future profitability of the combined
company.
Substantially all of these factors are beyond the control of PMC
Commercial and PMC Capital. It should be noted that during the 12-month period
ending ____________, 2003, the day prior to the date of this joint proxy
statement/prospectus, the closing per common share price of PMC Commercial
varied from a low of $____ to a high of $_____. Historical trading prices are
not necessarily indicative of future performance.
THE MERGER IS SUBJECT TO THE RECEIPT OF CONSENTS AND APPROVALS FROM GOVERNMENT
ENTITIES AND THIRD PARTY LENDERS THAT COULD DELAY COMPLETION OF THE MERGER OR
IMPOSE CONDITIONS THAT COULD HAVE A MATERIAL ADVERSE EFFECT ON PMC CAPITAL OR
PMC COMMERCIAL OR CAUSE ABANDONMENT OF THE MERGER, WHICH MAY ADVERSELY AFFECT
THE VALUE OF THE COMMON SHARES OF PMC CAPITAL OR PMC COMMERCIAL.
Completion of the merger is conditioned upon the issuance by the SEC of
an order exempting the merger from the provisions of Sections 17(a) and 57(a) of
the 1940 Act. In addition, the SBA must consent to the merger prior to its
consummation. A substantial delay in obtaining exemptive relief from the SEC or
consent from the SBA or the imposition of unfavorable terms or conditions by the
SEC or SBA could have an adverse effect on the business, financial condition or
results of operations of PMC Capital or PMC Commercial, or may cause the
abandonment of the merger.
20
Completion of the merger is also subject to approval by certain third
party lenders to PMC Capital and PMC Commercial. A substantial delay in
obtaining such approvals, the failure to obtain such approvals or the imposition
of unfavorable terms or conditions could have an adverse effect on the business,
financial condition or results of operations of PMC Capital or PMC Commercial,
or may cause the abandonment of the merger.
THE INTENDED BENEFITS OF THE MERGER MAY NOT BE REALIZED, WHICH COULD HAVE A
NEGATIVE IMPACT ON THE MARKET PRICE OF PMC COMMERCIAL'S COMMON SHARES AFTER
COMPLETION OF THE MERGER.
No assurance can be given that the anticipated expense reductions or
other operating synergies will be realized by PMC Commercial following the
merger or that unanticipated costs will not arise as a result of the merger. For
example, transaction costs, such as increased transfer taxes, consent fees or
professional expenses, could exceed PMC Commercial's original estimates or
future operating expenses, such as increased personnel costs, could be higher
than anticipated, all of which could have a material adverse effect on the
results of operations and financial condition of the combined company after the
merger. In addition, U.S. Federal income taxes incurred by PMC Commercial
following the merger could be higher than anticipated. If the expected savings
are not realized or unexpected costs are incurred, the merger could have a
significant dilutive effect on PMC Commercial's per share operating results.
In addition, the completion of the merger poses risks for the ongoing
operations of the combined company, including the fact that PMC Commercial's
portfolio may not perform as well as anticipated due to various factors,
including the financial condition of significant borrowers or tenants and
changes in macro-economic conditions.
YOU WILL EXPERIENCE A REDUCTION IN PERCENTAGE OWNERSHIP AND VOTING POWER WITH
RESPECT TO YOUR SHARES AS A RESULT OF THE MERGER.
PMC Commercial shareholders and PMC Capital shareholders will
experience a substantial reduction in their respective percentage ownership
interests and effective voting power relative to their respective percentage
ownership interests in PMC Commercial and PMC Capital prior to the merger. If
the merger is consummated, PMC Capital shareholders will own approximately 40%
of PMC Commercial's outstanding common stock and current shareholders of PMC
Commercial will own approximately 60% of the combined entity. In the future, PMC
Commercial may issue additional common shares in public offerings, mergers and
acquisitions or otherwise, all of which would further reduce your percentage
ownership of PMC Commercial.
UNDER CERTAIN CIRCUMSTANCES, PMC CAPITAL IS OBLIGATED TO PAY PMC COMMERCIAL A
TERMINATION FEE UPON TERMINATION OF THE MERGER AGREEMENT, AND VICE VERSA.
No assurance can be given that the merger will be completed. The merger
agreement provides for the payment by PMC Capital of a break-up fee of $870,000
or break-up expenses of $750,000 if the merger is terminated by PMC Capital
under certain circumstances; the merger agreement likewise provides that PMC
Commercial will pay the same break-up fees or expenses under certain
circumstances. The obligation to make that payment may adversely affect the
ability of the terminating company to engage in another transaction in the event
the merger is not completed and may have an adverse impact on the financial
condition of that company. See "Description of the Merger Agreement
--Termination of the Merger Agreement" and "--Expenses; Termination Fees" and
"The Merger Proposal -- PMC Commercial Reasons for the Merger" and "--PMC
Capital Reasons for the Merger."
FAILURE OF PMC COMMERCIAL TO QUALIFY AS A REIT COULD RESULT IN A SIGNIFICANT TAX
LIABILITY FOR THE COMBINED COMPANY, WHICH WOULD ADVERSELY AFFECT ITS RESULTS OF
OPERATIONS.
PMC Commercial believes that it has operated in a manner that allows it
to qualify as a REIT under the Internal Revenue Code, and it intends to continue
to so operate through and including the effective time of the merger. If the
merger is consummated, PMC Commercial intends to operate the combined business
in a manner so that it will continue to qualify as a REIT. Although PMC
Commercial believes that it is organized and operates as a REIT, no assurance
can be given that PMC Commercial will remain qualified as a REIT following the
merger. Qualification as a REIT involves the application of technical and
complex provisions of the Internal Revenue Code
21
for which there are limited judicial or administrative interpretations and
involves the determination of various factual matters and circumstances not
entirely within PMC Commercial's control. In addition, no assurance can be given
that new legislation, regulations, administrative interpretations or court
decisions will not significantly change the tax laws with respect to
qualification as a REIT or the federal income tax consequences of such
qualification.
If the combined company fails to qualify as a REIT, it may, among other
things:
- not be allowed a deduction for distributions to shareholders
in computing its taxable income;
- be subject to U.S. Federal income tax, including any
applicable alternative minimum tax, on its taxable income at
regular corporate rates;
- be subject to increased state and local taxes; and
- unless entitled to relief under certain statutory provisions,
be disqualified from treatment as a REIT for the taxable year
in which it lost its qualification and the four taxable years
following the year during which it lost its qualification.
As a result of these factors, the failure of PMC Commercial to qualify
as a REIT following the merger also could impair its ability to expand its
business and raise capital, substantially reduce the funds available for
distribution to its shareholders and reduce the trading price of its common
shares following the merger.
THE TRUST MANAGERS AND EXECUTIVE OFFICERS OF PMC COMMERCIAL AND THE DIRECTORS
AND EXECUTIVE OFFICERS PMC CAPITAL HAVE INTERESTS IN THE COMPLETION OF THE
MERGER THAT MAY DIFFER FROM OR CONFLICT WITH THE INTERESTS OF THE SHAREHOLDERS
OF THEIR RESPECTIVE COMPANIES
PMC Commercial shareholders and PMC Capital shareholders should note
that the trust managers and officers of PMC Commercial and the directors and
officers of PMC Capital have interests in the merger that are different in
certain respects from and may conflict with the interests of other PMC
Commercial shareholders and PMC Capital shareholders. If re-elected, all current
trust managers of PMC Commercial will remain as trust managers of the merged
company. In addition, certain directors of PMC Capital will become trust
managers, and all existing officers of PMC Capital will become paid employees,
of the merged company. PMC Commercial is currently managed by two wholly-owned
subsidiaries of PMC Capital. The executive officers of PMC Commercial are the
same as the executive officers of PMC Capital. Two trust managers of PMC
Commercial, Lance B. Rosemore and Andrew S. Rosemore, also serve as executive
officers of PMC Capital, and two trust managers of PMC Commercial, Lance B.
Rosemore and Martha R. Greenberg, also serve as directors of PMC Capital. See
"The Merger Proposal -- Interests of Certain Persons in the Merger".
The directors and executive officers of PMC Capital, who hold
approximately __% of the beneficial and record ownership of PMC Capital as of
the day prior to the date of this joint proxy statement/prospectus, have agreed
to vote their shares in favor of the merger agreement and the transactions
contemplated by the merger. The trust managers (of which Lance B. Rosemore and
Martha R. Greenberg are directors of PMC Capital) and executive officers of PMC
Commercial (all of whom are executive officers of PMC Capital), who hold
approximately ____% of the beneficial and record ownership of PMC Commercial as
of the day prior to the date of this joint proxy statement/prospectus, have
agreed to vote their shares in favor of the merger agreement and the
transactions contemplated by the merger.
As of the day prior to the date of this joint proxy
statement/prospectus, assuming the merger is completed, the directors and
officers of PMC Capital and trust managers and officers of PMC Commercial will
beneficially own in the aggregate approximately ____________ shares of PMC
Commercial, representing _____% of the outstanding common shares of PMC
Commercial.
THE OWNERSHIP LIMITATION APPLICABLE TO PMC COMMERCIAL'S COMMON SHARES AS A
RESULT OF ITS REIT STATUS MAY DISCOURAGE THIRD PARTIES FROM ATTEMPTING TO
ACQUIRE PMC COMMERCIAL AND PREVENT SHAREHOLDERS OF PMC COMMERCIAL FROM RECEIVING
ANY PREMIUM ABOVE MARKET PRICE FOR THEIR SHARES.
22
PMC Capital and PMC Commercial anticipate that PMC Commercial will
continue to qualify as a REIT if the merger is consummated. PMC Commercial's
declaration of trust includes a provision preventing any shareholder from owning
more than 9.8% of PMC Commercial's outstanding common shares without approval by
PMC Commercial's board of trust managers. This ownership limitation provision in
PMC Commercial's declaration of trust may have the effect of discouraging offers
to acquire control of PMC Commercial and may preclude holders of PMC Commercial
common shares from receiving any premium above market price for their shares
that might otherwise be offered in connection with any attempt to acquire
control of PMC Commercial.
FINANCIAL FORECASTS AND PROJECTIONS CONSIDERED BY THE PARTIES MAY NOT BE
REALIZED, WHICH MAY ADVERSELY AFFECT THE MARKET PRICE OF PMC CAPITAL OR PMC
COMMERCIAL COMMON SHARES.
Neither PMC Capital nor PMC Commercial generally makes, as a matter of
course, public forecasts or projections as to future revenues, earnings or other
financial statement data, and none of the projections relating to future
financial results of PMC Capital or PMC Commercial prepared by management and
considered by the parties to the transaction were prepared with a view to public
disclosure or compliance with the published guidelines of the SEC or the
American Institute of Certified Public Accountants regarding projections and
forecasts. These projections are inherently based on various estimates and
assumptions that are subject to the judgment of those preparing them. These
projections are also subject to significant economic, competitive, industry and
other uncertainties and contingencies, all of which are difficult or impossible
to predict and many of which are beyond the control of PMC Capital or PMC
Commercial. Accordingly, there can be no assurance that PMC Capital's or PMC
Commercial's financial results will not be significantly higher or lower than
those set forth in such projections. Significantly lower financial results could
have a material adverse effect on the market price of PMC Capital and PMC
Commercial common shares.
THE RESPECTIVE FINANCIAL ADVISERS TO THE PMC CAPITAL SPECIAL COMMITTEE AND THE
PMC COMMERCIAL SPECIAL COMMITTEE REVIEWED AND RELIED ON, AMONG OTHER THINGS,
CERTAIN PROJECTED FINANCIAL FORECASTS AND COSTS SAVINGS AND OPERATIONAL
SYNERGIES AS OF MARCH 27, 2003, THE DATE OF THEIR RESPECTIVE OPINIONS, AND A
FAILURE OF PMC COMMERCIAL TO ACHIEVE THESE RESULTS COULD HAVE A MATERIAL ADVERSE
EFFECT ON THE MARKET PRICE OF PMC COMMERCIAL'S COMMON SHARES.
In performing their financial analyses and rendering their opinions
regarding the fairness from a financial point of view of the exchange ratio in
the merger, the respective financial advisors to the PMC Capital special
committee and the PMC Commercial special committee reviewed and relied on, among
other things, internal financial analyses and forecasts for PMC Capital and PMC
Commercial available as of March 27, 2003, the date of their respective
opinions, including certain pro forma financial analyses and forecasts for PMC
Commercial after the merger and cost savings and operating synergies projected
to result from the merger. The respective financial advisors to the PMC Capital
special committee and the PMC Commercial special committee also assumed that the
pro forma financial analyses and forecasts for PMC Commercial and projected cost
savings and operational synergies as a result of the merger will be achieved
within certain time frames. These pro forma financial analyses and forecasts and
projected cost savings and operational synergies may not be achieved in full, at
all, or within the projected time frames, and a failure of PMC Commercial to
realize these pro forma financial analyses and forecasts and projected cost
savings and operational synergies could have a material adverse effect on the
earnings per share of the combined company, which could in turn have an adverse
effect on the market price of PMC Commercial's common shares.
A SALE OF ASSETS ACQUIRED FROM PMC CAPITAL WITHIN TEN YEARS AFTER THE MERGER
WOULD RESULT IN FEDERAL CORPORATE INCOME TAX, WHICH WOULD REDUCE THE CASH
AVAILABLE FOR DISTRIBUTION TO ITS SHAREHOLDERS.
As a result of the merger, certain subsidiaries of PMC Capital that are
currently taxed as C corporations will become qualified REIT subsidiaries of PMC
Commercial. As a result, these subsidiaries will be deemed liquidated into PMC
Commercial for U.S. Federal income tax purposes. If PMC Commercial sells any
assets of these subsidiaries within ten years after the merger and recognizes a
taxable gain on the sale, PMC Commercial will be taxed at the highest corporate
rate on an amount equal to the lesser of:
- the amount of gain that PMC Commercial recognizes at the time
of the sale; or
23
- the amount of gain that PMC Commercial would have recognized
if it had sold the asset at the time of the merger for its
then fair market value.
This rule potentially could inhibit PMC Commercial from selling such
other assets within ten years after the merger.
PMC COMMERCIAL'S OWNERSHIP OF AND RELATIONSHIP WITH ITS TAXABLE REIT
SUBSIDIARIES WILL BE LIMITED, AND A FAILURE TO COMPLY WITH THE LIMITS WOULD
JEOPARDIZE PMC COMMERCIAL'S REIT STATUS AND MAY RESULT IN THE APPLICATION OF A
100% EXCISE TAX.
Subject to certain restrictions, a REIT may own up to 100% of the stock
of one or more taxable REIT subsidiaries. A taxable REIT subsidiary may earn
income that would not be qualifying income if earned directly by the parent
REIT. Both the subsidiary and the REIT must jointly elect to treat the
subsidiary as a taxable REIT subsidiary. A corporation of which a taxable REIT
subsidiary directly or indirectly owns more than 35% of the voting power or
value of the stock will automatically be treated as a taxable REIT subsidiary.
Overall, no more than 20% of the value of a REIT's assets may consist of stock
or securities of one or more taxable REIT subsidiaries. A taxable REIT
subsidiary generally will pay income tax at regular corporate rates on any
taxable income that it earns. In addition, the taxable REIT subsidiary rules
limit the deductibility of interest paid or accrued by a taxable REIT subsidiary
to its parent REIT to assure that the taxable REIT subsidiary is subject to an
appropriate level of corporate taxation. The rules also impose a 100% excise tax
on certain transactions between a taxable REIT subsidiary and its parent REIT
that are not conducted on an arm's-length basis. See "U.S. Federal Income Tax
Consequences."
PMC Capital and PMC Commercial believe that, as of the closing date of
the merger, the aggregate value of the taxable REIT subsidiary stock and
securities owned by PMC Commercial will be less than 20% of the value of PMC
Commercial's total assets (including the taxable REIT subsidiary stock and
securities). Furthermore, PMC Commercial will monitor at all times the value of
its investments in its taxable REIT subsidiaries for the purpose of ensuring
compliance with the rule that no more than 20% of the value of its assets may
consist of taxable REIT subsidiary stock and securities (which is applied at the
end of each calendar quarter). In addition, PMC Commercial will scrutinize all
of its transactions with its taxable REIT subsidiaries for the purpose of
ensuring that they are entered into on arm's-length terms in order to avoid
incurring the 100% excise tax described above. There can be no assurance,
however, that PMC Commercial will be able to comply with the 20% limitation on
ownership of taxable REIT subsidiary stock and securities on an ongoing basis so
as to maintain REIT status or to avoid application of the 100% excise tax
imposed on certain non-arm's-length transactions.
PMC COMMERCIAL OPERATES IN A HIGHLY REGULATED ENVIRONMENT WHICH COULD ADVERSELY
AFFECT ITS RESULTS, WHICH MAY, IN TURN, AFFECT THE MARKET PRICE OF ITS SHARES
AND ITS ABILITY TO DISTRIBUTE DIVIDENDS.
Changes in the laws or regulations governing REITs may significantly
affect PMC Commercial's business. As a company whose common shares are publicly
traded, PMC Commercial is subject to the rules and regulations of the SEC. In
addition, the lending operations of certain of PMC Capital's subsidiaries are
regulated by the SBA. If the merger is consummated, such subsidiaries will
continue to be regulated by the SBA, and changes in laws that govern these
entities may significantly affect PMC Commercial's business. Laws and
regulations may be changed from time to time, and the interpretations of the
relevant laws and regulations are also subject to change. Any change in the laws
or regulations governing PMC Commercial's business could have a material impact
on its financial condition or its results of operations.
RISKS RELATED TO THE BUSINESS OF BOTH PMC COMMERCIAL AND PMC CAPITAL
Set forth below are risks applicable to both PMC Commercial and PMC
Capital which will continue to be applicable to the combined company if the
merger is completed and may be exacerbated by virtue of the operations of PMC
Commercial and PMC Capital being combined.
24
PMC COMMERCIAL AND PMC CAPITAL HAVE A CONCENTRATION OF INVESTMENTS IN THE
HOSPITALITY INDUSTRY AND IN TEXAS, WHICH MAY NEGATIVELY IMPACT THE MARKET PRICE
OF THEIR RESPECTIVE SHARES AND THEIR ABILITY TO MAKE DISTRIBUTIONS.
Substantially all of PMC Commercial's revenue is generated from lending
to, and leasing of, limited service hospitality properties. Its loans receivable
were 100% concentrated in the hospitality industry at December 31, 2002. PMC
Capital has a fundamental policy regarding investment in the hospitality
industry. At December 31, 2002, PMC Capital's investment in loans to businesses
in the hospitality industry comprised approximately 81% and 85% of its total
assets and loans receivable, respectively. Any economic factors that negatively
impact the hospitality industry could have a material adverse effect on its
financial condition and results of operations. For example, the events of
September 11th caused significant strain on travel related businesses in the
United States. Military actions against terrorists, new terrorist attacks or
other political events, including the impact of war, could cause additional
strain on the hospitality industry and negatively impact PMC Commercial's or PMC
Capital's financial condition and results of operations. See "PMC Commercial
Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Business -- Hospitality Industry Factors."
At December 31, 2002, approximately 27% of PMC Commercial's loans
receivable were collateralized by properties in Texas and approximately 29% of
PMC Capital's loans receivable were from businesses in Texas. No other state had
a concentration of 10% or greater of PMC Commercial's or PMC Capital's loans
receivable at December 31, 2002. Approximately 21% and 27% of the loans
receivable underlying PMC Commercial's and PMC Capital's retained interests,
respectively, are concentrated in Texas. A decline in economic conditions in
Texas could have a material adverse effect on PMC Commercial's or PMC Capital's
financial condition and results of operations.
THE MARKET FOR STRUCTURED LOAN TRANSACTIONS MAY DECLINE, WHICH WOULD DECREASE
THE AVAILABILITY OF AND INCREASE THE COST OF WORKING CAPITAL AND NEGATIVELY
AFFECT THE POTENTIAL FOR GROWTH AND CASH AVAILABLE FOR DISTRIBUTION TO
SHAREHOLDERS.
PMC Commercial and PMC Capital will continue to need capital to fund
loans. PMC Commercial's and PMC Capital's ability to continue to grow depends,
to a large extent, on its ability to complete structured loan sale transactions.
In certain economic markets the availability of funds may be diminished or the
"spread" charged for funds may increase causing PMC Commercial or PMC Capital to
delay a structured loan sales transaction. Terrorist attacks or political
events, including the impact of war, could impact the availability and cost of
PMC Commercial's or PMC Capital's capital. See "PMC Commercial Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Business -- Asset-Backed Structured Loan Sale Transaction Market" and "PMC
Capital Management's Discussion and Analysis of Financial Condition and Results
of Operations -- Business -- Asset-Backed Structured Loan Sale Transaction
Market."
It is anticipated that both PMC Commercial's and PMC Capital's working
capital needs for 2003 will require it to complete a variable-rate structured
loan sale transaction during the third quarter of 2003. Due to the current
economic and interest rate environments, the companies may experience
difficulties in selling its variable-rate loans receivable at an acceptable
"spread." Certain economic conditions may cause investors in the type of
asset-backed securities that PMC Commercial and PMC Capital place to widen the
"spreads" they require in order to purchase asset-backed securities.
A reduction in the availability or an increased cost of this source of
funds could have a material adverse effect on PMC Commercial's or PMC Capital's
financial condition and results of operations because working capital may not be
available or available at acceptable "spreads" to fund the companies' respective
current commitments, future loan originations or to acquire real estate.
PREPAYMENT RATES COULD NEGATIVELY AFFECT THE VALUE OF LOANS RECEIVABLE, WHICH
COULD RESULT IN LOSSES OR REDUCED EARNINGS AND NEGATIVELY AFFECT THE CASH
AVAILABLE FOR DISTRIBUTION TO ITS SHAREHOLDERS.
Prepayments of fixed-rate loans generally increase during times of
declining interest rates. The proceeds from the prepayments PMC Commercial and
PMC Capital receive are invested initially in temporary investments and have
generally been re-loaned or committed to be re-loaned at lower interest rates
than the prepaid loans receivable. The lower interest rates the companies
receive on these new loans receivable have had an adverse effect
25
on each of the company's results of operations and depending upon the rate of
future prepayments may further affect their results of operations. The impact of
the lower lending rates on PMC Commercial's and PMC Capital's net income may be
partially offset by the reduced cost of its variable-rate borrowings in a lower
interest rate environment. In addition, when loans receivable are repaid prior
to their maturity, PMC Commercial and PMC Capital often receive prepayment fees.
Prepayments of loans receivable may affect the companies' "spread" on
the pool of loans receivable sold in its structured loan sale transactions.
Prepayments of loans receivable which have higher interest rates negatively
impact the value of PMC Commercial's and PMC Capital's retained interests to a
greater extent than prepayments of loans receivable which have lower interest
rates. Prepayments in excess of assumptions will cause a decline in the value of
the companies' retained interests primarily relating to the excess funds (the
"interest-only strip receivable") expected from PMC Commercial's and PMC
Capital's structured loan sale transactions. For example, if a $1.0 million loan
with an interest rate of 10% prepays and the "all-in cost" of the structured
notes that such loan was securing was 7%, PMC Commercial or PMC Capital would
lose the 3% spread expected on that loan in future periods. The companies'
"all-in costs" include interest, servicing, trustee and other ongoing costs. The
"spread" that is lost may be offset in part or in whole by the prepayment fee
that PMC Commercial or PMC Capital collects.
One of PMC Capital's subsidiaries, First Western SBLC, Inc. ("First
Western"), sells the guaranteed portion of most of its originated loans through
private placements. These sales are included in PMC Capital's retained interests
and are especially sensitive to prepayments. PMC Capital's retained interest in
these loan sales consists only of the spread between the interest it collects
from the borrower and the interest it pays the purchaser of the guaranteed
portion of the loan. Therefore, to the extent the prepayments of these loans
exceed estimates, there is a significant impact on the value of the associated
retained interests.
CHANGES IN INTEREST RATES COULD NEGATIVELY AFFECT LENDING OPERATIONS, WHICH
COULD RESULT IN REDUCED EARNINGS AND NEGATIVELY AFFECT THE CASH AVAILABLE FOR
DISTRIBUTION TO SHAREHOLDERS.
The net income of PMC Commercial's lending operations is materially
dependent upon the "spread" between the rate at which PMC Commercial borrows
funds (historically either short-term at variable rates or long-term at fixed
rates) and the rate at which PMC Commercial loans these funds. During periods of
changing interest rates, interest rate mismatches could negatively impact PMC
Commercial's net income, dividend yield, and the market price of its common
shares.
As a result of PMC Commercial's and PMC Capital's dependence on
variable-rate loans, PMC Commercial's and PMC Capital's interest income has
been, and will continue to be, reduced by the low interest rate environment. In
addition, to the extent that rates remain at these historically low levels, or
LIBOR decreases from current levels, interest income on PMC Commercial's and PMC
Capital's currently outstanding loans receivable will decline.
PMC Capital's net interest margin is affected by changes in the spread
between the rate at which it borrows funds and the rate at which it loans these
funds. PMC Capital and two of its subsidiaries, Western Financial Capital
Corporation ("Western Financial") and PMC Investment Corporation ("PMCIC"),
currently originate primarily variable interest rate loans and the borrowed
funds of these companies are typically long-term and at fixed interest rates.
First Western originates variable interest rate loans and has utilized both
advances from PMC Capital and the sale of its loans receivable to obtain funds
necessary to originate loans. If the yield on loans originated by PMC Capital
with funds obtained from borrowings or preferred stock fails to cover the cost
of such funds, its cash flow will be reduced. During periods of changing
interest rates, interest rate mismatches on its loans receivable could
negatively impact its net investment income, dividend yield and the market price
of its common stock.
Changes in interest rates do not have an immediate impact on interest
income with regard to fixed-rate loans receivable. PMC Commercial's and PMC
Capital's interest rate risk on fixed-rate loans receivable is primarily due to
loan prepayments and maturities. The average maturity of its loans receivable is
less than their average contractual terms because of prepayments. The average
life of mortgage loans tends to increase when the current mortgage loan rates
are substantially higher than rates on existing mortgage loans and, conversely,
decrease when the current mortgage loan rates are substantially lower than rates
on existing mortgage loans (due to refinancings of fixed-rate loans).
26
ECONOMIC SLOWDOWNS, OTHER NEGATIVE POLITICAL EVENTS AND CHANGES IN THE
COMPETITIVE ENVIRONMENT COULD ADVERSELY AFFECT OPERATING RESULTS AND THE ABILITY
TO DISTRIBUTE DIVIDENDS.
Several factors may impact the ability of PMC Commercial's and PMC
Capital's borrowers to meet their contractual payment obligations or its hotel
properties to generate sufficient cash flow to support their monthly lease
payments. During economic downturns, there may be reductions in business travel
and consumers generally take fewer vacations. Another factor which affects the
limited service sector of the hospitality industry is a significant rise in
gasoline prices within a short period of time. Most of the limited service
hospitality properties collateralizing PMC Commercial's and PMC Capital's loans
receivable are located on interstate highways. As seen in the past, when gas
prices sharply increase, occupancy rates for properties located on interstate
highways decrease. These factors may cause a reduction in revenue per available
room ("RevPar"). If RevPar for the limited service sector of the hospitality
industry were to experience significant sustained reductions, the ability of PMC
Commercial's or PMC Capital's borrowers to meet their obligations could be
impaired, and loan losses could increase. In addition, the ability of the
operator of PMC Commercial's properties, Arlington, to meet its obligations
could be impaired.
Economic recessions or downturns could impair PMC Commercial's or PMC
Capital's borrowers and harm the companies' operating results. Many of the
companies in which PMC Commercial and PMC Capital have made or will make loans
may be susceptible to economic slowdowns or recessions. Terrorism, bankruptcies
or other political events, including the impact of war, could affect PMC
Commercial's or PMC Capital's borrowers. PMC Commercial's and PMC Capital's
non-performing assets are likely to increase during these periods. These
conditions could lead to losses in PMC Commercial's or PMC Capital's portfolio
and a decrease in the companies' respective interest income, net income and
assets.
PMC Commercial's and PMC Capital's primary competition for lending
opportunities has come from banks, financial institutions and other lending
companies. Many of these competitors have greater financial and managerial
resources than PMC Commercial or PMC Capital and are able to provide services
PMC Commercial and PMC Capital are not able to provide (i.e., depository
services). As a result of these competitors' greater financial resources, they
may be better able to withstand the impact of economic downturns than PMC
Commercial or PMC Capital.
THERE IS VOLATILITY IN THE VALUE OF THE RETAINED INTERESTS, WHICH MAY ADVERSELY
AFFECT CASH AVAILABLE FOR DISTRIBUTION TO SHAREHOLDERS.
Due to the limited number of entities that conduct transactions with
similar assets, the relatively small size of PMC Commercial's and PMC Capital's
retained interests in transferred assets and the limited number of buyers for
such assets, no readily ascertainable market exists for PMC Commercial's or PMC
Capital's retained interests. Therefore, PMC Commercial's and PMC Capital's
determination of the fair value may vary significantly from what a willing buyer
would pay for these assets. If PMC Commercial or PMC Capital were forced to
immediately liquidate some or all of its retained interests, the proceeds of
such liquidation may be significantly less than the current value of such
retained interests.
The value of PMC Commercial's and PMC Capital's retained interests is
determined based on certain assumptions including, but not limited to,
anticipated defaults, prepayment speeds and discount rates. PMC Commercial and
PMC Capital each retain a portion of the default and prepayment risk associated
with the underlying transferred loans receivable of their retained interests. As
more fully described below, actual defaults and prepayments with respect to
estimating future cash flows for purposes of valuing the retained interests may
vary from assumptions, possibly to a material degree, and slower (faster) than
anticipated prepayments of principal or lower (higher) than anticipated loan
losses will increase (decrease) the fair value of its retained interests and the
related estimated cash flows. The discount rates utilized are determined for
each of the assets comprising the retained interests based upon an estimate of
the inherent risks associated with each asset.
The following is a sensitivity analysis of PMC Commercial's retained
interests as of June 30, 2003 to highlight the volatility that results when
prepayments, loan losses and discount rates are different than PMC Commercial's
assumptions:
27
CHANGED ASSUMPTION PRO FORMA VALUE ASSET CHANGE
-------------------------------------------------- --------------- ------------
(In thousands)
Losses increase by 50 basis points per annum (1) $21,004 ($1,682)
Losses increase by 100 basis points per annum (1) $19,386 ($3,300)
Rate of prepayment increases by 5% per annum (2) $21,960 ($ 726)
Rate of prepayment increases by 10% per annum (2) $21,455 ($1,231)
Discount rates increase by 100 basis points $21,685 ($1,001)
Discount rates increase by 200 basis points $20,747 ($1,939)
------------------
(1) If PMC Commercial experiences significant losses (i.e., in excess of
anticipated losses), the effect on its retained interests would first
reduce the value of the PMC Commercial interest-only strip receivables. To
the extent the PMC Commercial interest-only strip receivables could not
fully absorb the losses, the effect would then be to reduce the value of
the reserve (the "PMC Commercial reserve funds") funds and then the value
of its required overcollateralization (the "PMC Commercial required
overcollateralization").
(2) For example, an 8% assumed rate of prepayment would be increased to 13% or
18% based on increases of 5% or 10% per annum, respectively.
The following is a sensitivity analysis of PMC Capital's retained
interests as of June 30, 2003 to highlight the volatility that results when
prepayments, loan losses and discount rates are different than its assumptions:
ASSET AND NET
CHANGED ASSUMPTION PRO FORMA VALUE INCOME CHANGE
-------------------------------------------------- --------------- -------------
(In thousands)
Losses increase by 50 basis points per annum (1) $ 35,140 ($ 2,504)
Losses increase by 100 basis points per annum (1) $ 32,717 ($ 4,927)
Rate of prepayments increases by 5% per annum (2) $ 36,352 ($ 1,292)
Rate of prepayments increases by 10% per annum (2) $ 35,411 ($ 2,233)
Discount rates increase by 100 basis points $ 36,133 ($ 1,511)
Discount rates increase by 200 basis points $ 34,712 ($ 2,932)
------------------
(1) If PMC Capital experiences significant losses (i.e., in excess of
anticipated losses), the effect on its retained interests would first
reduce the value of the interest-only strip receivables (the "PMC Capital
interest-only strip receivables"). To the extent the PMC Capital
interest-only strip receivables could not fully absorb the losses, the
effect would then be to reduce the value of its reserve funds (the "PMC
Capital reserve funds") and then the value of its required
overcollateralization (the "PMC Capital required overcollateralization").
(2) For example, an 8% assumed rate of prepayment would be increased to 13% or
18% based on increases of 5% or 10% per annum, respectively.
These sensitivities are hypothetical and should be used with caution.
Pro forma values based on changes in these assumptions generally cannot be
extrapolated since the relationship of the change in assumptions to the change
in fair value is not linear. The effect of a variation in a particular
assumption on the fair value of PMC Commercial's or PMC Capital's retained
interests is calculated without changing any other assumption. In reality,
changes in one factor are not isolated from changes in another, which might
magnify or counteract the sensitivities.
Changes in any of these assumptions or actual results which deviate
from assumptions affect the value of PMC Commercial's or PMC Capital's retained
interests, possibly to a material degree. There can be no assurance as to the
accuracy of these estimates.
28
PMC COMMERCIAL AND PMC CAPITAL ARE LEVERAGED, WHICH COULD ADVERSELY AFFECT THEIR
OPERATIONS AND NEGATIVELY AFFECT CASH AVAILABLE FOR DISTRIBUTION TO THEIR
SHAREHOLDERS.
PMC Commercial and PMC Capital have borrowed funds. PMC Commercial
intends to obtain additional funds through advances under its revolving credit
facility and through the issuance of mortgage notes payable, and PMC Capital
intends to obtain additional funds through advances on its revolving credit
facility and discretionary guidance line and through the issuance of notes
payable or SBA debentures, if available. As a result, both companies use
leverage to fund their capital needs. Private lenders, and in the case of PMC
Capital, the SBA, have fixed dollar claims on PMC Commercial's and PMC Capital's
assets superior to the claims of the holders of its common shares. Leverage
magnifies the effect that rising or falling interest rates have on PMC
Commercial's and PMC Capital's earnings. Any increase in the interest rate
earned by PMC Commercial or PMC Capital on investments in excess of the interest
rate on the funds obtained from borrowings would cause its net income and
earnings per share to increase more than they would without leverage, while any
decrease in the interest rate earned by PMC Commercial or PMC Capital on
investments would cause net income and earnings per share to decline by a
greater amount than they would without leverage. Leverage is thus generally
considered a speculative investment technique. In order for PMC Commercial or
PMC Capital to repay indebtedness on a timely basis, PMC Commercial or PMC
Capital may be required to dispose of assets when it would not otherwise do so
and at prices which may be below the net book value of such assets. Dispositions
of assets could have a material adverse effect on PMC Commercial's or PMC
Capital's financial condition and results of operations.
THERE ARE SIGNIFICANT RISKS IN LENDING TO SMALL BUSINESSES, WHICH COULD
ADVERSELY AFFECT OPERATIONS AND NEGATIVELY AFFECT CASH AVAILABLE FOR
DISTRIBUTION TO PMC COMMERCIAL AND PMC CAPITAL SHAREHOLDERS.
PMC Commercial's and PMC Capital's loans receivable consist primarily
of loans to small, privately-owned companies. There is no publicly available
information about these companies; therefore, PMC Commercial and PMC Capital
must rely on the due diligence of the Investment Manager or employees to obtain
information regarding investment decisions. PMC Commercial's and PMC Capital's
borrowers may not meet net income, cash flow and other coverage tests typically
imposed by bank lenders. A borrower's ability to repay its loan may be adversely
impacted by numerous factors, including a downturn in its industry or other
negative economic conditions. Deterioration in a borrower's financial condition
and prospects may be accompanied by deterioration in the collateral for the
loan. In addition, small businesses depend on the management talents and efforts
of one person or a small group of people for their success. The loss of services
of one or more of these persons could have an adverse impact on the operations
of the small business. Small companies are typically more vulnerable to customer
preferences, market conditions and economic downturns and often need additional
capital to expand or compete. These factors may have an impact on the ultimate
recovery of PMC Commercial's or PMC Capital's loans receivable to such
businesses. Loans to small businesses, therefore, involve a high degree of
business and financial risk, which can result in substantial losses and
accordingly should be considered speculative.
THERE IS VOLATILITY IN PMC COMMERCIAL'S AND PMC CAPITAL'S LOANS RECEIVABLE,
WHICH MAY ADVERSELY AFFECT THEIR OPERATIONS AND NEGATIVELY AFFECT CASH AVAILABLE
FOR DISTRIBUTION TO SHAREHOLDERS.
There is typically no public market or established trading market for
the loans PMC Commercial originates. The illiquid nature of PMC Commercial's
loans receivable may adversely affect its ability to dispose of such loans
receivable at times when it may be advantageous for PMC Commercial to liquidate
such investments. Changes to the facts and circumstances of the borrower, the
hospitality industry and the economy may require the establishment of additional
loan loss reserves.
PMC Commercial's provision for loan losses was 0.09% (nine basis
points) of its weighted average outstanding loans receivable during 2002. It may
be difficult to maintain such a low loss rate on PMC Commercial's loans
receivable. To the extent one or several of PMC Commercial's loans experience
significant operating difficulties and PMC Commercial is forced to liquidate the
loan, future losses may be substantial. The determination of whether significant
doubt exists and whether a loan loss reserve is necessary for each loan requires
judgment and consideration of the facts and circumstances existing at the
evaluation date. Changes to the facts and circumstances of its borrower, the
hospitality industry and the economy may require the establishment of
significant additional loan loss reserves.
29
The valuation of PMC Capital's loans receivable and assets acquired in
liquidation are determined in good faith by its board of directors. There is
typically no public market or established trading market for the loans PMC
Capital originates. The illiquid nature of PMC Capital's loans receivable and
assets acquired in liquidation may adversely affect its ability to dispose of
these investments at times when it may be advantageous for it to liquidate them.
The valuation of PMC Capital's loans receivable and assets acquired in
liquidation is adjusted on a quarterly basis to reflect the good faith
determination of its board of directors as to its current fair value. The
determination of fair value requires judgment and consideration of the facts and
circumstances existing at the evaluation date. Adverse changes to the facts and
circumstances of the collateral, borrower, industry and/or the economy will
impact the board of director's determination of value and may require valuation
losses which may be material to PMC Capital's results of operations. In the
absence of a readily ascertainable market, the value of the loans receivable may
differ from the values that would be placed if a ready market existed. If PMC
Capital was forced to immediately liquidate some or all of its loans receivable,
the proceeds of such liquidation may be significantly less than the current
value of such loans receivable.
Losses on PMC Capital's loans (realized and unrealized) were 0.56% (56
basis points) of its weighted average outstanding loans receivable during the
year ended December 31, 2002. To the extent PMC Capital is forced to liquidate
one or several of its loans, future losses may be substantial. The change in
assets and net income if the valuation of its loan portfolio were to decline is
as follows:
CHANGE IN ASSETS AND NET INCOME
-------------------------------
(In thousands)
Loan portfolio valuation declines by 1% ($ 885)
Loan portfolio valuation declines by 2% ($ 1,770)
PMC COMMERCIAL AND PMC CAPITAL HAVE AN ONGOING NEED FOR ADDITIONAL CAPITAL AND
THE FAILURE TO PROCURE ADEQUATE CAPITAL WOULD ADVERSELY AFFECT PMC COMMERCIAL'S
AND PMC CAPITAL'S RESULTS AND MAY, IN TURN, NEGATIVELY AFFECT THE MARKET PRICE
OF ITS SHARES AND ITS ABILITY TO DISTRIBUTE DIVIDENDS.
PMC Commercial and PMC Capital will continue to need working capital to
fund loans. Historically, the companies have sold loans receivable, borrowed
from financial institutions and issued equity securities to raise working
capital. A reduction in the availability of funds from financial institutions or
the asset-backed securities market could have a material adverse effect on the
companies' financial condition and results of operations. PMC Commercial must
distribute at least 90% of its REIT taxable income to its shareholders to
maintain its REIT status under the Internal Revenue Code. As a result, that
income will not be available to fund loan originations or acquire real estate.
PMC Commercial expects to be able to borrow from financial institutions and sell
loans receivable in the asset-backed securities market.
PMC Capital must distribute at least 90% of its investment company
taxable income to its shareholders to maintain its regulated investment company
("RIC") status under the Internal Revenue Code. As a result, such earnings are
not available to fund loan originations. PMC Capital expects to be able to
borrow from financial institutions and sell loans receivable in the asset-backed
securities market. It does not anticipate selling additional equity securities
at its current market price. If PMC Capital fails to obtain funds from such
sources or from other sources to fund its loans and pay dividends, it could have
a material adverse effect on PMC Capital's financial condition and results of
operations. In addition, as a BDC, PMC Capital is generally required to maintain
a ratio of at least 200% of total assets to total borrowings, which restricts
its ability to borrow in certain circumstances.
PMC COMMERCIAL AND PMC CAPITAL MAY EXPERIENCE SIGNIFICANT FLUCTUATIONS IN THEIR
QUARTERLY RESULTS DUE TO FACTORS BEYOND THEIR CONTROL, SUCH AS FLUCTUATIONS IN
INTEREST RATES, AND THEY MAY THEREFORE FAIL TO MEET PROFITABILITY AND/OR
DIVIDEND EXPECTATIONS, WHICH MAY, IN TURN, AFFECT THE MARKET PRICE OF THEIR
COMMON SHARES.
PMC Commercial's and PMC Capital's quarterly operating results will
fluctuate based on a number of factors, including, among others:
- The completion of a structured loan sale transaction in a
particular period;
30
- Interest rate changes;
- The volume and timing of loan originations and prepayments of
PMC Commercial's and PMC Capital's loans receivable;
- The recognition of gains or losses on investments;
- The level of competition in each companies' markets; and
- General economic conditions, especially those which affect the
hospitality industry.
As a result of the above factors, quarterly results should not be
relied upon as being indicative of performance in future quarters.
To the extent a structured loan sale transaction is completed, (i) PMC
Commercial's and PMC Capital's interest income on loans receivable in future
periods will be reduced until the proceeds received are reinvested in new loan
originations, (ii) interest expense will be reduced if PMC Commercial or PMC
Capital repays outstanding debt with the proceeds and (iii) PMC Commercial and
PMC Capital will earn income from their ownership of the retained interests in
the loans receivable sold. Until the proceeds are fully reinvested, the net
impact of a structured loan sale transaction on future operating periods should
be a reduction in interest income, net of interest expense.
RISKS RELATED TO PMC COMMERCIAL
PMC COMMERCIAL IS DEPENDENT ON THIRD PARTY MANAGEMENT OF ITS HOTEL PROPERTIES,
WHICH COULD RESULT IN ADDITIONAL COSTS OR LOSSES AND NEGATIVELY AFFECT THE CASH
AVAILABLE FOR DISTRIBUTION TO ITS SHAREHOLDERS.
As a REIT, PMC Commercial cannot operate the hotel properties it owns.
As a result, PMC Commercial is dependent upon a third party operator, Arlington
Inns, Inc., a wholly-owned subsidiary of Arlington Hospitality, Inc.
("Arlington") to operate and manage its hotel properties under a master lease
agreement. The operating results of its hotel properties are subject to a
variety of risks which could affect its ability to generate sufficient cash flow
to support the payment obligations under the master lease agreement. In the
event Arlington defaults on the master lease agreement, there can be no
assurance that PMC Commercial would be able to find a new operator for its hotel
properties, negotiate to receive the same amount of lease income or that PMC
Commercial would be able to collect on the guarantee of the parent of Arlington.
In addition, in the event Arlington defaults, PMC Commercial may incur costs
including holding costs, legal fees and costs to re-franchise the properties.
FAILURE TO QUALIFY AS A REIT WOULD SUBJECT PMC COMMERCIAL TO U.S. FEDERAL INCOME
TAX, WHICH WOULD REDUCE THE CASH AVAILABLE FOR DISTRIBUTION TO ITS SHAREHOLDERS.
If a company meets certain income, asset diversification and income
distribution requirements under the Internal Revenue Code, it can qualify as a
REIT and be entitled to pass-through tax treatment. PMC Commercial would cease
to qualify for pass-through tax treatment if PMC Commercial were unable to
comply with these requirements. PMC Commercial would also be subject to a
nondeductible 4% excise tax (and, in certain cases, corporate level income tax)
if PMC Commercial were to fail to make certain distributions. Failure to qualify
as a REIT would subject PMC Commercial to U.S. Federal income tax as if PMC
Commercial were an ordinary corporation, resulting in a substantial reduction in
both its net assets and the amount of income available for distribution to PMC
Commercial's shareholders. PMC Commercial anticipates that it will continue to
qualify as a REIT under the Internal Revenue Code.
OWNERSHIP LIMITATION MAY RESTRICT CHANGE OF CONTROL OR BUSINESS COMBINATION
OPPORTUNITIES IN WHICH SHAREHOLDERS OF PMC COMMERCIAL MIGHT RECEIVE A PREMIUM
FOR THEIR SHARES.
In order for PMC Commercial to qualify as a REIT, no more than 50% in
value of its outstanding capital shares may be owned, directly or indirectly, by
five or fewer individuals during the last half of any calendar year.
"Individuals" include natural persons, private foundations, some employee
benefit plans and trusts, and some
31
charitable trusts. In order to preserve PMC Commercial's REIT status, its
declaration of trust generally prohibits any shareholder from directly or
indirectly owning more than 9.8% of any class or series of PMC Commercial's
outstanding common shares or preferred shares.
The ownership limitation could have the effect of discouraging a
takeover or other transaction in which holders of PMC Commercial's common shares
might receive a premium for their shares over the then prevailing market price
or which holders might believe to be otherwise in their best interests. See
"Description of PMC Commercial Shares of Beneficial Interest" and "U.S. Federal
Income Tax Consequences -- REIT Qualification."
U.S. FEDERAL INCOME TAX REQUIREMENTS MAY RESTRICT PMC COMMERCIAL'S OPERATIONS,
WHICH COULD RESTRICT PMC COMMERCIAL'S ABILITY TO TAKE ADVANTAGE OF ATTRACTIVE
INVESTMENT OPPORTUNITIES, WHICH COULD NEGATIVELY AFFECT THE CASH AVAILABLE FOR
DISTRIBUTION TO ITS SHAREHOLDERS.
PMC Commercial believes it has operated and, following the merger, if
completed, PMC Commercial intends to continue to operate in a manner that is
intended to cause it to qualify as a REIT for U.S. Federal income tax purposes.
However, the U.S. Federal income tax laws governing REITs are extremely complex,
and interpretations of the U.S. Federal income tax laws governing qualification
as a REIT are limited. Qualifying as a REIT will require PMC Commercial to meet
various tests regarding the nature of its assets and its income, the ownership
of its outstanding shares, and the amount of its distributions on an ongoing
basis.
At any time, new laws, interpretations, or court decisions may change
the federal tax laws regarding, or the U.S. Federal income tax consequences of,
qualification as a REIT. In addition, compliance with the REIT qualification
tests could restrict PMC Commercial's ability to take advantage of attractive
investment opportunities in non-qualifying assets, which would negatively affect
the cash available for distribution to its shareholders.
FAILURE TO MAKE REQUIRED DISTRIBUTIONS WOULD SUBJECT PMC COMMERCIAL TO TAX,
WHICH WOULD REDUCE THE CASH AVAILABLE FOR DISTRIBUTION TO ITS SHAREHOLDERS.
In order to qualify as a REIT, an entity generally must distribute to
its shareholders, each taxable year, at least 90% of its taxable income, other
than any net capital gain and excluding any retained earnings of taxable REIT
subsidiaries. To the extent that a REIT satisfies the 90% distribution
requirement, but distributes less than 100% of its taxable income, it will be
subject to federal corporate income tax on its undistributed income. In
addition, the REIT will incur a 4% nondeductible excise tax on the amount, if
any, by which its distributions in any calendar year are less than the sum of:
- 85% of its ordinary income for that year;
- 95% of its capital gain net income for that year; and
- 100% of its undistributed taxable income from prior years.
PMC Commercial has paid out, and intends to continue to pay out, its
REIT taxable income to its shareholders in a manner intended to satisfy the 90%
distribution requirement and to avoid both federal corporate income tax and the
4% excise tax. See "U.S. Federal Income Tax Consequences -- REIT Qualification."
PMC Commercial's taxable income may substantially exceed its net income
as determined based on generally accepted accounting principles ("GAAP")
because, for example, capital losses will be deducted in determining its GAAP
income, but may not be deductible in computing its taxable income. In addition,
PMC Commercial may invest in assets that generate taxable income in excess of
economic income or in advance of the corresponding cash flow from the assets,
referred to as excess non-cash income. Although some types of non-cash income
are excluded in determining the 90% distribution requirement, PMC Commercial
will incur federal corporate income tax and the 4% excise tax with respect to
any non-cash income items if it does not distribute those items on an annual
basis. See "U.S. Federal Income Tax Consequences -- REIT Qualification." As a
result of the foregoing, PMC Commercial may generate less cash flow than taxable
income in a particular year. In that event, PMC Commercial may be required to
use cash reserves, incur debt, or liquidate non-cash assets at rates or times
that
32
it regards as unfavorable in order to satisfy the distribution requirement and
to avoid federal corporate income tax and the 4% excise tax in that year.
ADVERSE LEGISLATIVE OR REGULATORY TAX CHANGES MAY AFFECT THE TAX TREATMENT OF
PMC COMMERCIAL OR ITS SHAREHOLDERS.
At any time, the U.S. Federal income tax laws governing REITs or the
administrative interpretations of those laws may be amended. Any of those new
laws or interpretations thereof may take effect retroactively and could
adversely affect PMC Commercial or you, as a shareholder. On May 28, 2003,
President Bush signed into law the Jobs and Growth Tax Relief Reconciliation Act
of 2003, which reduces the tax rate on both dividends and long-term capital
gains for most non-corporate taxpayers to 15% until 2008. This reduced maximum
tax rate generally does not apply to ordinary REIT dividends, which continue to
be subject to tax at the higher tax rates applicable to ordinary income (a
maximum rate of 35% under the new legislation). However, the new 15% maximum tax
rate does apply to certain REIT distributions. See "U.S. Federal Income Tax
Consequences - Recent Legislation to Reduce the Maximum Tax Rate on Certain
Corporate Dividends." This legislation may cause shares in non-REIT corporations
to be a more attractive investment to individual investors than shares in REITs
and may adversely affect the market price of the common shares of PMC
Commercial.
PMC COMMERCIAL IS SUBJECT TO THE AMERICANS WITH DISABILITIES ACT, WHICH MAY
ADVERSELY AFFECT PMC COMMERCIAL'S CASH FLOW AND MAY, IN TURN, NEGATIVELY AFFECT
ITS ABILITY TO DISTRIBUTE DIVIDENDS TO ITS SHAREHOLDERS.
The Americans with Disabilities Act of 1990 ("ADA") requires all public
accommodations and commercial facilities to meet federal requirements related to
access and use by disabled persons. Compliance with the ADA requirements could
require removal of access barriers, and noncompliance could result in imposition
of fines by the U.S. Government or an award of damages to private litigants.
Although PMC Commercial believes that the properties that it owns or finances
are substantially in compliance with these requirements, a determination that
the properties are not in compliance with the ADA could result in the imposition
of fines or an award of damages to private litigants. Pursuant to the master
lease agreements relating to the hotel properties, costs and fines associated
with the ADA are the responsibility of the tenant. However, a substantial
expense may affect the borrowers' or tenants' ability to pay their obligations,
and consequently, PMC Commercial's cash flow and the amounts available for
distributions to shareholders may be adversely affected.
RISKS RELATED TO PMC CAPITAL
NO READILY ASCERTAINABLE MARKET EXISTS FOR VALUING PMC CAPITAL'S INVESTMENTS AND
THE VALUE OF ITS INVESTMENTS MAY DIFFER MATERIALLY FROM THE VALUE THAT WOULD
HAVE BEEN DERIVED IF A READY MARKET EXISTED FOR PMC CAPITAL'S INVESTMENTS.
Pursuant to the requirements of the 1940 Act, PMC Capital values its
investments at fair value on a quarterly basis as determined in good faith by
its board of directors. Since there is typically no readily ascertainable market
value for the investments in its portfolio, PMC Capital's board of directors
determines the fair value of these investments pursuant to a valuation policy
and a consistently applied valuation process.
There is no single standard for determining fair value. As a result,
determining fair value requires that judgment be applied to the specific facts
and circumstances of each portfolio investment while employing a consistently
applied valuation process for the types of investments PMC Capital makes. Unlike
banks, it is not permitted to provide a general reserve for anticipated losses.
Instead, PMC Capital is required by the 1940 Act to specifically value each
individual investment and record unrealized depreciation for an investment that
it believes has become impaired or where collection of a loan is in doubt.
Conversely, PMC Capital will record unrealized appreciation if it has an
indication that the underlying assets in the portfolio have appreciated in value
and therefore, its security has also appreciated in value, as appropriate. Due
to the inherent uncertainty of valuation, fair value of PMC Capital's
investments determined in good faith by its board of directors may differ from
the values that would have been used had a ready market existed for the
investments and the differences could be material.
33
PMC CAPITAL IS SUBJECT TO GOVERNMENT REGULATIONS AFFECTING ITS ASSETS ACQUIRED
IN LIQUIDATION, WHICH MAY ADVERSELY AFFECT ITS CASH FLOW AND MAY IN TURN,
NEGATIVELY AFFECT THE ABILITY TO DISTRIBUTE DIVIDENDS TO SHAREHOLDERS.
In conjunction with its assets acquired in liquidation, PMC Capital is
subject to numerous Federal, state and local laws and government regulations
including environmental, occupational health and safety, state and local taxes
and laws relating to access for disabled persons.
Under various Federal, state and local laws, ordinances and
regulations, a current or former owner or operator of real estate may be
considered liable for the costs of remediating or removing hazardous substances
found on its property, regardless of whether or not the property owner or
operator was responsible for its presence. Such liability may be imposed
regardless of fault and may be joint and several. PMC Capital has not been
informed by the Environmental Protection Agency or any state or local government
authority of any non-compliance likely to be material to its financial condition
or results of operations.
PMC Capital is also subject to the ADA, which requires all public
accommodations and commercial facilities to meet federal requirements related to
access and use by disabled persons. Compliance with ADA requirements could
require removal of access barriers, and noncompliance could result in imposition
of fines by the United States government or an award of damages to private
litigants. Although PMC Capital believes that the properties it owns are
substantially in compliance with these requirements, a determination that the
properties are not in compliance with the ADA could result in the imposition of
fines or an award of damages to private litigants.
ADVERSE LEGISLATIVE OR REGULATORY TAX CHANGES MAY AFFECT THE TAX TREATMENT OF
PMC CAPITAL OR ITS SHAREHOLDERS.
At any time, the U.S. Federal income tax laws governing RICs or the
administrative interpretations of those laws may be amended. Any of those new
laws or interpretations thereof may take effect retroactively and could
adversely affect PMC Capital or you, as a shareholder. On May 28, 2003,
President Bush signed into law the Jobs and Growth Tax Relief Reconciliation Act
of 2003, which reduces the tax rate on both dividends and long-term capital
gains for most non-corporate taxpayers to 15% until 2008. This reduced maximum
tax rate generally does not apply to ordinary RIC dividends, which continue to
be subject to tax at the higher tax rates applicable to ordinary income (a
maximum rate of 35% under the new legislation). However, the new 15% maximum tax
rate does apply to certain RIC distributions. See "U.S. Federal Income Tax
Consequences - Recent Legislation to Reduce the Maximum Tax Rate on Certain
Corporate Dividends." This legislation may cause shares in non-RIC corporations
to be a more attractive investment to individual investors than shares in RICs
and may adversely affect the market price of the common shares of PMC Capital.
FAILURE TO QUALIFY AS A REGULATED INVESTMENT COMPANY WOULD SUBJECT PMC CAPITAL
TO U.S. FEDERAL INCOME TAX, WHICH WOULD REDUCE THE CASH AVAILABLE FOR
DISTRIBUTION TO SHAREHOLDERS.
PMC Capital intends to continue to qualify as a RIC under the Internal
Revenue Code. If a company meets certain income, asset diversification and
income distribution requirements under the Internal Revenue Code, it can qualify
for pass-through tax treatment. PMC Capital would cease to qualify for
pass-through tax treatment if it was unable to comply with these requirements or
if it ceased to qualify as an investment company under the 1940 Act. PMC Capital
would also be subject to a nondeductible 4% excise tax (and, in certain cases,
corporate level income tax) if PMC Capital was to fail to make certain
distributions. Failure to qualify as a RIC would subject PMC Capital to Federal
income tax as if it were an ordinary corporation, resulting in a substantial
reduction in both its net assets and the amount of income available for
distribution to its shareholders.
34
SELECTED HISTORICAL FINANCIAL DATA
SELECTED HISTORICAL FINANCIAL DATA OF PMC COMMERCIAL
The following tables set forth selected historical consolidated
financial information for PMC Commercial. The selected historical information is
presented as of and for the years ended December 31, 1998, 1999, 2000, 2001 and
2002 and as of and for the six months ended June 30, 2002 and 2003. PMC
Commercial derived the historical information for the years ended December 31,
1998, 1999, 2000, 2001 and 2002 from its consolidated financial statements and
the notes thereto, audited by PricewaterhouseCoopers LLP, independent
accountants. The selected historical financial information as of and for the six
months ended June 30, 2002 and 2003 has been derived from the unaudited
financial statements which have been prepared by PMC Commercial's management on
the same basis as the audited financial statements and, in the opinion of PMC
Commercial's management, include all adjustments consisting of normal recurring
accruals that are considered necessary for a fair presentation of the results
for those periods. The results of operations for the six months ended June 30,
2002 and 2003 are not necessarily indicative of results to be anticipated for
the entire year. The selected information set forth below should be read in
conjunction with PMC Commercial's consolidated financial statements and related
footnotes, as well as the disclosure under the heading "PMC Commercial
Management's Discussion and Analysis of Financial Condition and Results of
Operations," in this joint proxy statement/prospectus.
Years Ended December 31, Six Months Ended June 30,
------------------------------------------------ -------------------------
1998 1999 2000 2001 2002 2002 2003
------- ------- ------- ------- ------- -------- ---------
(Dollars in thousands, except per share information)
Total revenues ....... $18,939 $21,261 $19,038 $16,407 $16,036 $ 8,365 $ 7,415
Total expenses ....... $ 7,805 $11,466 $11,559 $ 8,230 $ 7,640 $ 3,985 $ 3,874
Income from
continuing
operations ......... $11,134 $ 9,795 $ 7,479 $ 8,177 $ 8,396 $ 4,380 $ 3,541
Discontinued
operations ......... $ 237 $ 469 $ 465 $ 475 $ 978 $ 870 $ 110
Gain on sales of
assets ............. $ -- $ -- $ 1,421 $ 2,783 $ 562 $ 562 $ --
Net income ........... $11,371 $10,264 $ 9,365 $11,435 $ 9,936 $ 5,812 $ 3,651
Basic weighted
average common
shares outstanding.. 6,498 6,530 6,520 6,431 6,444 6,442 6,447
Basic and diluted
earnings per
common share:
Income from
continuing
operations and
gain on sale of
assets ........... $ 1.71 $ 1.50 $ 1.37 $ 1.71 $ 1.39 $ 0.77 $ 0.55
Net income ......... $ 1.75 $ 1.57 $ 1.44 $ 1.78 $ 1.54 $ 0.90 $ 0.57
Dividends declared,
common ............. $11,592 $12,016 $11,367 $ 9,789 $10,440 $ 5,155 $ 5,029
Dividends declared
per common share ... $ 1.78 $ 1.84 $ 1.75 $ 1.52 $ 1.62 $ 0.80 $ 0.78
35
At December 31, At June 30,
---------------------------------------------------- -------------------
1998 1999 2000 2001 2002 2002 2003
-------- -------- -------- -------- -------- -------- --------
(In thousands)
Loans receivable, net.. $119,712 $115,265 $ 65,645 $ 78,486 $ 71,992 $ 56,065 $ 89,614
Real estate
investments, net .... $ 61,774 $ 70,683 $ 65,674 $ 52,718 $ 44,928 $ 45,618 $ 44,283
Real estate
investments, held
for sale, net ....... $ -- $ -- $ -- $ -- $ 1,877 $ 1,877 $ 1,877
Retained interests
in transferred
assets .............. $ -- $ -- $ 11,203 $ 17,766 $ 23,532 $ 23,267 $ 22,686
Total assets .......... $196,690 $197,237 $151,399 $156,347 $149,698 $143,519 $165,085
Notes payable and
revolving credit
facility ............ $ 95,387 $ 97,757 $ 53,235 $ 57,070 $ 48,491 $ 44,068 $ 64,588
Beneficiaries' equity.. $ 93,437 $ 91,932 $ 89,785 $ 92,771 $ 93,929 $ 94,330 $ 92,292
Total liabilities
and beneficiaries'
equity .............. $196,690 $197,237 $151,399 $156,347 $149,698 $143,519 $165,085
36
SELECTED HISTORICAL FINANCIAL DATA OF PMC CAPITAL
The following tables set forth selected historical consolidated
financial information for PMC Capital. The selected historical information is
presented as of and for the years ended December 31, 1998, 1999, 2000, 2001 and
2002 and as of and for the six months ended June 30, 2002 and 2003. PMC Capital
derived the historical information for the years ended December 31, 1998, 1999,
2000, 2001 and 2002 from its consolidated financial statements and the notes
thereto, audited by PricewaterhouseCoopers LLP, independent accountants. The
selected historical financial information as of and for the six months ended
June 30, 2002 and 2003 has been derived from the unaudited financial statements
which have been prepared by PMC Capital's management on the same basis as the
audited financial statements and, in the opinion of PMC Capital's management,
include all adjustments consisting of normal recurring accruals that are
considered necessary for a fair presentation of the results for those periods.
The results of operations for the six months ended June 30, 2002 and 2003 are
not necessarily indicative of results to be anticipated for the entire year. The
selected information set forth below should be read in conjunction with PMC
Capital's consolidated financial statements and related footnotes, as well as
the disclosure under the heading "PMC Capital Management's Discussion and
Analysis of Financial Condition and Results of Operations," in this joint proxy
statement/prospectus.
37
As of and for the Six Months
As of and for the Years Ended December 31, Ended June 30,
---------------------------------------------------- ----------------------------
1998 1999 2000 2001 2002 2002 2003
-------- -------- -------- -------- -------- -------- --------
(In thousands, except per share information)
Operating Data:
Total investment
income ................. $ 24,314 $ 22,627 $ 21,584 $ 20,752 $ 16,662 $ 8,753 $ 7,456
Net investment income..... $ 13,223 $ 11,487 $ 10,304 $ 9,344 $ 5,956 $ 3,340 $ 2,345
Sale of assets ........... $ 925 $ 2,564 $ 564 $ 2,732 $ 1,446 $ 1,463 $ --
Net income ............... $ 13,949 $ 13,420 $ 11,253 $ 10,567 $ 5,983 $ 4,144 $ 1,746
Dividends declared,
common ................. $ 14,473 $ 12,007 $ 11,846 $ 10,076 $ 6,638 $ 3,794 $ 2,845
Basic and diluted
earnings per
common share:
Net investment income .... $ 1.10 $ 0.95 $ 0.85 $ 0.77 $ 0.48 $ 0.27 $ 0.19
Net income ............... $ 1.16 $ 1.11 $ 0.93 $ 0.87 $ 0.48 $ 0.34 $ 0.14
Dividends declared
per common share ....... $ 1.23 $ 1.02 $ 1.00 $ 0.85 $ 0.56 $ 0.32 $ 0.24
Basic weighted
average common
shares outstanding ..... 11,800 11,829 11,841 11,854 11,854 11,854 11,854
Balance Sheet Data:
Loans receivable ......... $116,711 $106,325 $100,353 $107,392 $ 87,245 $ 67,193 $ 94,976
Retained interests
in transferred
assets ................. $ 20,151 $ 28,423 $ 32,341 $ 33,537 $ 40,003 $ 40,138 $ 37,644
Total assets ............. $163,349 $165,191 $161,478 $162,698 $140,266 $162,528 $144,803
Current and
long-term debt ......... $ 74,790 $ 73,973 $ 72,977 $ 76,310 $ 54,310 $ 76,310 $ 60,568
Cumulative preferred
stock of subsidiary .... $ 7,000 $ 7,000 $ 7,000 $ 7,000 $ 7,000 $ 7,000 $ 7,000
Common shareholders'
equity ................. $ 72,151 $ 73,314 $ 72,667 $ 72,908 $ 72,003 $ 71,508 $ 70,779
Number of common
shares outstanding ..... 11,829 11,829 11,854 11,854 11,854 11,854 11,854
Other Data:
Loans funded ............. $ 66,450 $ 84,264 $ 44,158 $ 65,977 $ 46,138 $ 19,468 $ 19,561
38
SELECTED STATEMENT OF UNAUDITED PRO FORMA CONSOLIDATED
FINANCIAL DATA AND COMPARATIVE PER SHARE DATA
SELECTED UNAUDITED PROFORMA CONSOLIDATED FINANCIAL DATA
The following tables set forth unaudited pro forma condensed
consolidated financial data for PMC Commercial and PMC Capital as a consolidated
entity, giving effect to the merger as if it had occurred on the dates indicated
and after giving effect to the pro forma adjustments. The unaudited pro forma
condensed consolidated operating data are presented as if the merger had been
completed on January 1, 2002. The unaudited pro forma condensed consolidated
balance sheet data at June 30, 2003 is presented as if the merger had occurred
on June 30, 2003. In the opinion of management of PMC Commercial, all
adjustments necessary to reflect the effect of these transactions have been
made. The merger will be accounted for under the purchase method of accounting
as provided by Statement of Financial Accounting Standard No. 141. Based on PMC
Commercial's current estimate of value for the PMC Capital assets to be acquired
in the amount of approximately $143.2 million, and liabilities and preferred
stock to be assumed in the amount of approximately $71.0 million, PMC Commercial
will record an extraordinary gain in the amount of approximately $13.9 million.
The unaudited pro forma condensed consolidated financial data should be
read together with the respective historical audited and unaudited consolidated
financial statements and financial statement notes of PMC Commercial and PMC
Capital in this joint proxy statement/prospectus and the "Unaudited Pro Forma
Consolidated Financial Information." The unaudited pro forma condensed
consolidated financial data are presented for comparative purposes only and does
not necessarily indicate what the future operating results or financial position
of PMC Commercial will be following completion of the merger. The unaudited pro
forma condensed consolidated financial data does not include adjustments to
reflect any cost savings or other operational efficiencies that may be realized
as a result of the merger of PMC Commercial and PMC Capital or any future merger
related restructuring or integration expenses.
PRO FORMA
(UNAUDITED)
---------------------------------------
YEAR ENDED SIX MONTHS
DECEMBER 31, ENDED JUNE 30,
2002 2003
------------- --------------
(In thousands)
STATEMENTS OF INCOME DATA:
Total revenues........................................... $ 30,500 $ 13,806
Total expenses........................................... 18,187 7,543
Income from continuing operations........................ 12,313 6,263
Earnings per share data:
Basic weighted average
common shares outstanding............................. 10,830 10,833
Income from continuing operations....................... $ 1.11 $ 0.56
PRO FORMA
(UNAUDITED)
JUNE 30, 2003
---------------------
(In thousands)
BALANCE SHEET DATA:
Loans receivable, net.................................... $ 184,590
Retained interests in transferred assets................. $ 60,330
Real estate investments, net............................. $ 44,283
Real estate investments, held for sale, net.............. $ 1,877
Total assets............................................. $ 307,330
Debt - current and long-term............................. $ 125,677
Cumulative preferred stock of subsidiary................. $ 4,250
Total beneficiaries' equity.............................. $ 162,987
39
COMPARATIVE PER SHARE DATA
The following tables set forth certain per common share information for
PMC Commercial and PMC Capital on a historical basis, pro forma basis for PMC
Commercial and an equivalent pro forma basis for PMC Capital. The PMC Capital
equivalent pro forma per share amounts are calculated by multiplying the pro
forma per share amounts for PMC Commercial by the common stock exchange ratio of
0.37.
The following information should be read together with the historical
and pro forma financial statements in this joint proxy statement/prospectus.
SIX MONTHS ENDED JUNE 30, 2003
------------------------------------------------------------
PMC
PMC PMC PMC CAPITAL
COMMERCIAL CAPITAL COMMERCIAL EQUIVALENT
HISTORICAL HISTORICAL PRO FORMA PRO FORMA
---------- ---------- --------- ----------
Basic and diluted income from
continuing operations per common
share............................ $ 0.55 $ 0.14(1) $ 0.56 $ 0.21
Cash distributions per common share. $ 0.78 $ 0.24 $ 0.78(2) $ 0.29
Book value per common share......... $ 14.32 $ 5.97 $ 15.05 $ 5.57
------------------
(1) PMC Capital's historical financial statements do not include discontinued
operations. Accordingly, the amount represents net increase in net assets
resulting from operations (e.g. "net income") per share. As a historical
fair value reporter, this amount includes both valuation increases and
valuation decreases of its investment portfolio.
(2) PMC Commercial does not anticipate that there will be any change from its
historical distribution policy as a result of the merger.
YEAR ENDED DECEMBER 31, 2002
------------------------------------------------------------
PMC
PMC PMC PMC CAPITAL
COMMERCIAL CAPITAL COMMERCIAL EQUIVALENT
HISTORICAL HISTORICAL PRO FORMA PRO FORMA
---------- ---------- --------- ----------
Basic and diluted income from
continuing operations per common
share............................ $ 1.30 $ 0.48(1) $ 1.11 $ 0.41
Cash distributions per common share. $ 1.62(3) $ 0.56 $ 1.62(2)(3) $ 0.60
Book value per common share......... $ 14.57 $ 6.07 $ -- $ --
------------------
(1) PMC Capital's historical financial statements do not include discontinued
operations. Accordingly, the amount represents net increase in net assets
resulting from operations (e.g. "net income") per share. As a historical
fair value reporter, this amount includes both valuation increases and
valuation decreases of its investment portfolio.
(2) PMC Commercial does not anticipate that there will be any change from its
historical distribution policy as a result of the merger.
(3) Includes a $0.02 year-end special dividend.
40
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
This joint proxy statement/prospectus contains "forward looking
statements." These statements may be made directly in this joint proxy
statement/prospectus by reference to other documents filed with the SEC by PMC
Commercial or PMC Capital, and they also may be incorporated by reference into
this joint proxy statement/prospectus. These statements may include statements
regarding the period following the completion of the merger and the transactions
contemplated by the merger agreement.
Some of the forward-looking statements can be identified by the use of
forward-looking words such as "believes," "expects," "may," "will," "should,"
"seeks," "approximately," "intends," "plans," "estimates" or "anticipates" or
the negative of those words or other comparable terminology. Statements
concerning projections, future performance, developments, events, market
forecasts, revenues, expenses, earnings, run rates and any other guidance on
present or future periods constitute forward-looking statements. These
forward-looking statements are subject to a number of factors, risks and
uncertainties that might cause actual results to differ materially from stated
expectations or current circumstances. These factors include, but are not
limited to, the overall environment for interest rates, prepayment speeds, risk
associated with equity investments, competition for business and personnel and
general economic, political, and market conditions. In addition to the risks
related to the business of PMC Commercial and PMC Capital, the factors related
to the merger and PMC Commercial discussed under "Risk Factors," among others,
could cause actual results to differ materially from those described in the
forward-looking statements. Shareholders are cautioned not to place undue
reliance on the forward-looking statements, which speak only as of the date of
this joint proxy statement/prospectus or as of the date of any document
incorporated by reference in this joint proxy statement/prospectus, as
applicable. Neither PMC Commercial nor PMC Capital is under any obligation, and
each expressly disclaims any obligation, to update or alter any forward-looking
statements, whether as a result of new information, future events or otherwise.
All forward-looking statements in this joint proxy statement/prospectus
attributable to PMC Commercial and PMC Capital or any person acting on their
behalf are expressly qualified in their entirety by the cautionary statements
contained or referred to in this section.
41
THE PMC COMMERCIAL ANNUAL MEETING
PMC Commercial is furnishing this joint proxy statement/prospectus and
the accompanying Notice of Annual Meeting and proxy card to PMC Commercial
shareholders as part of the solicitation of proxies by the PMC Commercial board
of trust managers for use at the PMC Commercial annual meeting.
DATE, TIME AND PLACE OF PMC COMMERCIAL ANNUAL MEETING
PMC Commercial will hold the PMC Commercial annual meeting on ______,
__________, 2003, at __:____ _.m., local time, at 18111 Preston Road, Suite 600,
Dallas, Texas 75252.
PURPOSE OF THE PMC COMMERCIAL ANNUAL MEETING
At the PMC Commercial annual meeting, PMC Commercial is asking holders
of record of PMC Commercial common shares to consider and vote on the following
proposals:
- The approval of the merger agreement by and between PMC
Commercial and PMC Capital and the transactions contemplated
by the merger agreement.
- The approval of proposed amendments to PMC Commercial's
declaration of trust to (i) provide that the holders of PMC
Commercial common shares may vote on all matters presented at
all meetings of shareholders, and (ii) provide that the board
of trust managers may amend, repeal or adopt new bylaws.
- The election of seven trust managers to serve until the next
annual meeting of shareholders or until their respective
successors have been duly elected and qualified.
- The ratification of PricewaterhouseCoopers LLP as the
independent public accountants of PMC Commercial for 2003.
- The consideration of the postponement or adjournment of the
PMC Commercial annual meeting for the solicitation of
additional votes, if necessary.
- As determined by the holder of the proxy in his or her
discretion with respect to any other business that may
properly come before the PMC Commercial annual meeting or any
adjournments or postponements of that meeting.
See "The Merger Proposal" and "Description of the Merger Agreement."
THE PMC COMMERCIAL BOARD OF TRUST MANAGERS UNANIMOUSLY RECOMMENDS THAT
PMC COMMERCIAL SHAREHOLDERS VOTE "FOR" APPROVAL OF THE MERGER AGREEMENT AND THE
TRANSACTIONS CONTEMPLATED BY THE MERGER AGREEMENT, "FOR" APPROVAL OF THE
PROPOSED AMENDMENTS TO PMC COMMERCIAL'S DECLARATION OF TRUST, "FOR" THE ELECTION
OF THE TRUST MANAGERS, "FOR" THE RATIFICATION OF PRICEWATERHOUSECOOPERS LLP, AND
"FOR" THE APPROVAL OF THE POSTPONEMENT OR ADJOURNMENT OF THE PMC COMMERCIAL
ANNUAL MEETING, IF NECESSARY.
RECORD DATE
Only holders of record of PMC Commercial common shares at the close of
business on __________, 2003, the PMC Commercial record date, are entitled to
notice of and to vote at the PMC Commercial annual meeting. On the PMC
Commercial record date, approximately __________ PMC Commercial common shares
were issued and outstanding and held by approximately __ holders of record.
42
QUORUM AND ADJOURNMENTS
A quorum is required to be present in order to conduct business at the
PMC Commercial annual meeting. A quorum will be present if a majority of the
votes entitled to be cast are present, in person or by proxy. Proxies properly
executed and marked with a positive vote, a negative vote or an abstention, as
well as broker non-votes, will be considered to be present at the PMC Commercial
annual meeting for purposes of determining whether a quorum is present for the
transaction of all business at the PMC Commercial annual meeting. Broker
non-votes exist where a broker proxy indicates that the broker is not authorized
to vote on a particular proposal.
The PMC Commercial shareholders will also be asked to consider a
proposal to adjourn or postpone of the meeting for the solicitation of
additional votes, if necessary. Any such adjournment will only be permitted if
approved by the holders of shares representing a majority of the votes present
in person or by proxy at the meeting, whether or not a quorum exists.
Abstentions and broker non-votes will be treated for purposes of the adjournment
vote as votes cast "against" the adjournment.
VOTE REQUIRED
Holders of record of PMC Commercial common shares on the PMC Commercial
record date are entitled to one vote per share.
Merger proposal. The merger proposal requires the affirmative vote of
the holders of two-thirds of the outstanding PMC Commercial common shares
entitled to vote on the merger. If you abstain, do not return your proxy or do
not cast your vote either in person, by proxy, by telephone or the Internet, it
will have the effect of a vote "against" the merger proposal. Brokers who hold
shares of stock in street name cannot vote those shares if the brokers are not
provided with voting instructions in accordance with their procedures, and this
would also be counted as a vote "against" the merger proposal.
Proposed amendments to PMC Commercial's declaration of trust. The
approval of the amendments to PMC Commercial's declaration of trust requires the
affirmative vote of the holders of at least two-thirds of the outstanding PMC
Commercial common shares entitled to vote on the amendments. If you abstain, do
not return your proxy or do not cast your vote either in person, by proxy, by
telephone or the Internet, it will have the effect of a vote "against" the
amendments to PMC Commercial's declaration of trust. Brokers who hold shares of
stock in street name cannot vote those shares if the brokers are not provided
with voting instructions in accordance with applicable procedures, and such a
broker non-vote would also be counted as a vote "against" the amendments to PMC
Commercial's declaration of trust.
Election of board of trust managers. The election of the members of the
PMC Commercial board of trust managers will require the affirmative vote of the
holders of two-thirds of the outstanding PMC Commercial common shares entitled
to vote at the annual meeting. If you abstain, do not return your proxy or do
not cast your vote either in person, by proxy, by telephone or the Internet, it
will have the effect of a vote "against" the election of trust managers. Broker
non-votes would also have the effect of a vote "against" this proposal.
Other proposals. The other proposals to be acted upon at the PMC
Commercial annual meeting will require the affirmative vote of the holders of a
majority of the PMC Commercial common shares represented and voting at the PMC
Commercial annual meeting. Shares that are not voted and broker non-votes will
not have any effect with respect to each of these proposals.
VOTING AGREEMENTS
At the close of business on ___________, 2003, PMC Commercial trust
managers and executive officers owned and were entitled to vote _________ PMC
Commercial common shares, representing __% of the outstanding PMC Commercial
common shares on that date. Each PMC Commercial trust manager and executive
officer has agreed to vote his or her PMC Commercial common shares in favor of
the approval of the merger and the merger agreement as long as the merger
agreement is in effect.
43
VOTING OF PROXIES
All shares represented by properly executed proxies received in time
for the PMC Commercial annual meeting will be voted at the PMC Commercial annual
meeting in the manner specified by the shareholders giving those proxies.
Properly executed proxies that do not contain voting instructions will be voted
"for" the approval of each matter to be voted on at the PMC Commercial annual
meeting, including approval of the merger and the merger agreement.
Also, under American Stock Exchange rules applicable to PMC Commercial,
brokers that hold PMC Commercial common shares in street name for customers that
are the beneficial owners of those shares may not give a proxy to vote those
shares with respect to the merger proposal or the proposal to amend PMC
Commercial's declaration of trust without specific instructions from those
customers. If a PMC Commercial shareholder owns shares through a broker and
desires to attend the PMC Commercial annual meeting, the shareholder must obtain
proper authorization from that shareholder's broker to vote the shares held by
the broker.
PMC Commercial does not expect that any matters other than those
discussed above will be brought before the PMC Commercial annual meeting. If,
however, other matters are properly presented at the PMC Commercial annual
meeting, the individuals named as proxies will vote on such matters in their
discretion.
REVOCABILITY OF PROXIES
Submitting a proxy on the enclosed form does not preclude a PMC
Commercial shareholder from voting in person at the PMC Commercial annual
meeting. A PMC Commercial shareholder may revoke a proxy at any time before it
is voted by filing with PMC Commercial a duly executed revocation of proxy, by
submitting a duly executed proxy to PMC Commercial with a later date, by
revoting by telephone or the Internet, or by appearing at the PMC Commercial
annual meeting and voting in person. PMC Commercial shareholders may revoke a
proxy by any of these methods, regardless of the method used to deliver a
shareholder's previous proxy. Attendance at the PMC Commercial annual meeting
without voting will not itself revoke a proxy.
SOLICITATION OF PROXIES
PMC Commercial and PMC Capital will share equally the expenses incurred
in connection with the printing and mailing of this joint proxy
statement/prospectus. In addition to solicitation by mail, the trust managers,
officers and employees of PMC Commercial and its subsidiaries, who will not be
specially compensated, may solicit proxies from PMC Commercial shareholders by
telephone, facsimile, telegram or other electronic means or in person.
Arrangements may also be made with brokerage houses and other custodians,
nominees and fiduciaries for the forwarding of solicitation materials to the
beneficial owners of shares held of record by these persons, and PMC Commercial
will reimburse them for their reasonable out-of-pocket expenses.
PMC Commercial will mail a copy of this joint proxy
statement/prospectus, including the Notice of Annual Meeting and the proxy card
included in these materials, to each holder of record of PMC Commercial common
shares on the PMC Commercial record date.
DISSENTERS' RIGHTS
PMC Commercial shareholders do not have the right to exercise
dissenters' rights with respect to any matter to be voted upon at the PMC
Commercial annual meeting.
44
THE PMC CAPITAL ANNUAL MEETING
PMC Capital is furnishing this joint proxy statement/prospectus and the
accompanying Notice of Annual Meeting and proxy card to PMC Capital shareholders
as part of the solicitation of proxies by the PMC Capital board of directors for
use at the PMC Capital annual meeting.
DATE, TIME AND PLACE OF PMC CAPITAL ANNUAL MEETING
PMC Capital will hold the PMC Capital annual meeting on ______,
__________, 2003, at __:__ __.m., local time, at 18111 Preston Road, Suite 600,
Dallas, Texas 75252.
PURPOSE OF THE PMC CAPITAL ANNUAL MEETING
At the PMC Capital annual meeting, PMC Capital is asking holders of
record of PMC Capital common stock to consider and vote on the following
proposals:
- The approval of the merger agreement by and between PMC
Commercial and PMC Capital and the transactions contemplated
by the merger agreement.
- The election of two directors to serve a term of three years
or until their respective successors have been duly elected
and qualified.
- The ratification of PricewaterhouseCoopers LLP as the
independent public accountant of PMC Capital for 2003.
- The approval of the postponement or adjournment of the PMC
Capital annual meeting for the solicitation of additional
votes, if necessary.
- As determined by the holder of the proxy in his or her
discretion with respect to any other business that may
properly come before the PMC Capital annual meeting or any
adjournments or postponements of that meeting.
See "The Merger Proposal" and "Description of the Merger Agreement."
THE PMC CAPITAL BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS THAT PMC
CAPITAL SHAREHOLDERS VOTE "FOR" APPROVAL OF THE MERGER AGREEMENT AND THE
TRANSACTIONS CONTEMPLATED BY THE MERGER AGREEMENT, "FOR" THE ELECTION OF TWO
DIRECTORS, "FOR" THE RATIFICATION OF PRICEWATERHOUSECOOPERS LLP, AND "FOR" THE
APPROVAL OF THE POSTPONEMENT OR ADJOURNMENT OF THE PMC CAPITAL ANNUAL MEETING,
IF NECESSARY.
RECORD DATE
Only holders of record of PMC Capital common stock at the close of
business on __________, 2003, the PMC Capital record date, are entitled to
notice of and to vote at the PMC Capital annual meeting. On the PMC Capital
record date, approximately __________ shares of PMC Capital common stock were
issued and outstanding and held by approximately __ holders of record.
QUORUM AND ADJOURNMENTS
A quorum is required to be present in order to conduct business at the
PMC Capital annual meeting. A quorum will be present if a majority of the votes
entitled to be cast are present, in person or by proxy. Proxies properly
executed and marked with a positive vote, a negative vote or an abstention, as
well as broker non-votes, will be considered to be present at the PMC Capital
annual meeting for purposes of determining whether a quorum is present for the
transaction of all business at the PMC Capital annual meeting. Broker non-votes
exist where a broker proxy indicates that the broker is not authorized to vote
on a particular proposal.
45
The PMC Capital shareholders will also be asked to consider and vote on
a proposal to grant discretionary authority to vote in favor of an adjournment
or postponement of the meeting for the solicitation of additional votes, if
necessary. Any adjournment may be made from time to time by approval of the
holders of shares representing a majority of the votes present in person or by
proxy at the meeting, whether or not a quorum exists. Abstentions and broker
non-votes will be treated for purposes of the adjournment vote as votes cast
"against" the adjournment.
VOTE REQUIRED
Holders of record of shares of PMC Capital common stock on the PMC
Capital record date are entitled to one vote per share.
Merger proposal. The merger proposal requires the affirmative vote of
the holders of a majority of the outstanding shares of PMC Capital common stock.
If you abstain, do not return your proxy or do not cast your vote either in
person, by proxy, by telephone or the Internet, it will have the effect of a
vote "against" the merger proposal. Brokers who hold shares of stock in street
name cannot vote those shares if the brokers are not provided with voting
instructions in accordance with their procedures, and this would also be counted
as a vote "against" the merger proposal.
Election of two directors. PMC Capital's board of directors is composed
of seven members divided into three classes, with each class serving a
three-year term and one class being elected by the shareholders annually. The
two nominees for election to the PMC Capital board of directors who receive the
highest number of votes will be elected to a three-year term. Thus, abstentions,
failures to cast a vote and broker non-votes will have no effect on the outcome
of this proposal.
Other proposals. Each of the other proposals to be voted upon at the
PMC Capital annual meeting will be approved if the number of votes cast in favor
of the proposal exceed the number of votes cast against the proposal. Thus,
abstentions, failures to vote and broker non-votes will have no effect on the
outcome of these proposals.
VOTING AGREEMENTS
At the close of business on ___________, 2003, PMC Capital directors
and executive officers owned and were entitled to vote _________ shares of PMC
Capital common stock, representing __% of the outstanding shares of PMC Capital
common stock on that date. Each PMC Capital director and executive officer has
agreed to vote his or her shares of PMC Capital common stock in favor of the
approval of the merger and the merger agreement as long as the merger agreement
is in effect.
VOTING OF PROXIES
All shares represented by properly executed proxies received in time
for the PMC Capital annual meeting will be voted at the PMC Capital annual
meeting in the manner specified by the shareholders giving those proxies.
Properly executed proxies that do not contain voting instructions will be voted
"for" the approval of each matter to be voted on at the PMC Capital annual
meeting, including approval of the merger and the merger agreement.
Also, under American Stock Exchange rules, brokers that hold shares of
PMC Capital common stock in street name for customers that are the beneficial
owners of those shares may not give a proxy to vote those shares with respect to
the merger proposal without specific instructions from those customers. If a PMC
Capital shareholder owns shares through a broker and desires to attend the PMC
Capital annual meeting, the shareholder must obtain proper authorization from
that shareholder's broker to vote the shares held by the broker.
PMC Capital does not expect that any matters other than those discussed
above will be brought before the PMC Capital annual meeting. If, however, other
matters are properly presented at the PMC Capital annual meeting, the
individuals named as proxies will vote on such matters in their discretion.
46
REVOCABILITY OF PROXIES
Submitting a proxy on the enclosed form does not preclude a PMC Capital
shareholder from voting in person at the PMC Capital annual meeting. A PMC
Capital shareholder may revoke a proxy at any time before it is voted by filing
with PMC Capital a duly executed revocation of proxy, by submitting a duly
executed proxy to PMC Capital with a later date, by revoting by telephone or the
Internet, or by appearing at the PMC Capital annual meeting and voting in
person. PMC Capital shareholders may revoke a proxy by any of these methods,
regardless of the method used to deliver a shareholder's previous proxy.
Attendance at the PMC Capital annual meeting without voting will not itself
revoke a proxy.
SOLICITATION OF PROXIES
PMC Commercial and PMC Capital will share equally the expenses incurred
in connection with the printing and mailing of this joint proxy
statement/prospectus. In addition to solicitation by mail, the directors,
officers and employees of PMC Capital and its subsidiaries, who will not be
specially compensated, may solicit proxies from PMC Capital shareholders by
telephone, facsimile, telegram or other electronic means or in person.
Arrangements will be made with brokerage houses and other custodians, nominees
and fiduciaries for the forwarding of solicitation materials to the beneficial
owners of shares held of record by these persons, and PMC Capital will reimburse
them for their reasonable out-of-pocket expenses.
PMC Capital will mail a copy of this joint proxy statement/prospectus,
including the Notice of Annual Meeting and the proxy card included in these
materials, to each holder of record of PMC Capital common stock on the PMC
Capital record date.
DISSENTERS' RIGHTS
PMC Capital shareholders do not have the right to exercise dissenters'
rights with respect to any matter to be voted upon at the PMC Capital annual
meeting.
47
THE MERGER PROPOSAL
The discussion in this joint proxy statement/prospectus of the merger
and the principal terms of the merger agreement is subject to, and is qualified
in its entirety by reference to, the merger agreement, a copy of which is
attached as Annex A to this joint proxy statement/prospectus and is incorporated
by reference in this joint proxy statement/prospectus.
GENERAL DESCRIPTION OF THE MERGER
Pursuant to the merger agreement, PMC Capital will merge with and into
PMC Commercial with PMC Commercial as the surviving entity and PMC Capital no
longer existing as a separate corporation. In the merger, each outstanding share
of PMC Capital common stock will be converted into the right to receive 0.37 of
a common share of beneficial interest of PMC Commercial.
If the merger is consummated, all the assets and liabilities of PMC
Capital immediately before the merger will become assets and liabilities of PMC
Commercial immediately after the merger, and all of the direct and indirect
subsidiaries of PMC Capital will either become direct and indirect subsidiaries
of PMC Commercial after the merger or be dissolved. Former PMC Capital
shareholders will hold approximately 40% of the outstanding common shares of PMC
Commercial and current shareholders of PMC Commercial will own 60% of the
outstanding common shares of PMC Commercial following completion of the merger.
BACKGROUND OF THE MERGER
PMC Capital, through its wholly-owned subsidiary PMC Advisers, Ltd.,
has managed PMC Commercial pursuant to management agreements since PMC
Commercial's formation in December 1993. Lance B. Rosemore, President and Chief
Executive Officer and a director of PMC Capital, and Andrew S. Rosemore,
Executive Vice President and Chief Operating Officer of PMC Capital serve as
trust managers of PMC Commercial.
In the course of their regular strategic planning, members of PMC
Capital management have periodically reviewed and considered PMC Capital's
relationship with PMC Commercial, and in June 2002 they began to consider
whether a combination of PMC Capital and PMC Commercial might be beneficial to
both companies. At a regularly scheduled meeting of the PMC Commercial board of
trust managers held on June 14, 2002, management of PMC Commercial's external
advisor, PMC Advisers, Ltd., indicated that a transaction between PMC Capital
and PMC Commercial might be mutually beneficial and should be evaluated by PMC
Commercial. The PMC Commercial board of trust managers determined that it would
be prudent and appropriate to consider such a transaction and established a
special committee of trust managers with no relationship to PMC Capital,
consisting of Nathan G. Cohen, Roy H. Greenberg, Irving Munn and Ira Silver, to
determine whether such a transaction would be in the best interests of the PMC
Commercial shareholders and to report its findings back to the full board. In
reaching its decision to create a special committee, the PMC Commercial board
considered the fact that Lance B. Rosemore, Andrew S. Rosemore and Martha R.
Greenberg are significant shareholders of PMC Capital, Lance B. Rosemore and
Martha R. Greenberg are directors of PMC Capital, Lance B. Rosemore and Andrew
S. Rosemore are officers of PMC Commercial and officers of PMC Capital and that
all three are children of Fredric M. Rosemore, the Chairman of the Board of PMC
Capital.
On June 18, 2002, the PMC Commercial special committee held its initial
meeting, at which Locke Liddell & Sapp LLP ("Locke Liddell & Sapp"), PMC
Commercial's and PMC Capital's regular outside counsel, made a presentation
about the fiduciary duties of trust managers of a Texas REIT in general, and the
fiduciary duties of PMC Commercial trust managers in the context of a possible
business combination transaction. At this meeting, the PMC Commercial special
committee elected Ira Silver to serve as chairman and engaged Locke Liddell &
Sapp to act as the special committee's legal counsel.
After the June 18, 2002 meeting, the PMC Commercial special committee
met several times to discuss the selection and hiring of a financial advisor in
connection with the PMC Commercial special committee's evaluation of a possible
transaction. The PMC Commercial special committee agreed that the potential
financial advisor candidates should have specific knowledge of and recent
experience with investment companies and REITs and
48
industry experience comparable to PMC Capital and PMC Commercial. The special
committee developed a list of potential candidates and after interviewing
several potential financial advisors, the PMC Commercial special committee hired
U.S. Bancorp Piper Jaffray on August 27, 2002.
During June and early July 2002, management of PMC Commercial and PMC
Capital held preliminary discussions with a third party regarding the
possibility of long-term financings, joint ventures or the acquisition of both
companies by the third party. These discussions were terminated by the third
party in July based on its industry concerns at that time.
On September 3, 2002, the PMC Commercial special committee met with its
legal and financial advisors to discuss the proposed transaction and potential
strategic alternatives to the proposed transaction. At this meeting, the PMC
Commercial special committee and U.S. Bancorp Piper Jaffray agreed as to the
scope of the analysis to be undertaken by U.S. Bancorp Piper Jaffray.
After the September 3, 2002 meeting, U.S. Bancorp Piper Jaffray
conducted extensive due diligence and met with members of PMC Commercial and PMC
Capital management about the business and operations of PMC Commercial and PMC
Capital, and had discussions with management of PMC Commercial about possible
strategic alternatives to the proposed transaction.
On October 15, 2002, the PMC Commercial special committee met with its
financial and legal advisors to review the status of U.S. Bancorp Piper
Jaffray's analysis. During this meeting, U.S. Bancorp Piper Jaffray presented
the PMC Commercial special committee with its preliminary analysis of the
proposed transaction and possible strategic alternatives, including a sale of
PMC Commercial to a third party, entering into a joint venture relationship with
a third party or remaining a stand-alone company.
After the October 15, 2002 meeting, the PMC Commercial special
committee held several meetings at which it discussed the preliminary analysis
presented by U.S. Bancorp Piper Jaffray. During these meetings, discussions were
held as to the possible strategic alternatives to the proposed business
combination with PMC Capital, including the legal and financial implications of
each of the alternatives. At these meetings, the PMC Commercial special
committee also discussed the proposed transaction and the preliminary financial
analysis of the transaction presented by U.S. Bancorp Piper Jaffray.
On October 17, 2002 and October 24, 2002, the PMC Commercial special
committee held telephonic meetings with its legal and financial advisors. At
these meetings, the PMC Commercial special committee evaluated the financial
analysis presented by U.S. Bancorp Piper Jaffray, including specific discussions
regarding the assumptions generated by U.S. Bancorp Piper Jaffray underlying the
projected financial performance of the merged company.
On October 29, 2002, the PMC Commercial special committee met with its
financial and legal advisors. At this meeting, U.S. Bancorp Piper Jaffray
presented to the PMC Commercial special committee its final analysis as to the
three strategic alternatives outlined on October 15, 2002, as well as the
possible combination of PMC Commercial and PMC Capital. The PMC Commercial
special committee, after discussions with its legal and financial advisors,
determined that a proposed business combination with PMC Capital would enhance
shareholder value. In addition, after receiving the advice of its financial
advisors, the PMC Commercial special committee determined that the exchange
ratio to be proposed would need to result in a transaction that would ultimately
be accretive to PMC Commercial on a cash available for distribution basis.
Following a full discussion of the merits of the proposed business combination,
including proposed terms of the transaction, and taking into consideration the
advice of its legal and financial advisors, the PMC Commercial special committee
decided to recommend to the full PMC Commercial board of trust managers that PMC
Commercial propose to PMC Capital that PMC Commercial acquire PMC Capital in a
merger transaction with an exchange ratio between 0.34 and 0.37 of a PMC
Commercial common share for each outstanding share of PMC Capital common stock.
On October 29, 2002, the full board of PMC Commercial met, together
with U.S. Bancorp Piper Jaffray and Locke Liddell & Sapp. At this meeting, U.S.
Bancorp Piper Jaffray presented its analysis of the possible business
combination between PMC Commercial and PMC Capital, as well as its analysis of
the alternative strategic
49
transactions. Following this presentation, the meeting was adjourned to provide
the trust managers an opportunity to evaluate the various alternatives.
On November 1, 2002, the PMC Commercial board reconvened and
unanimously approved the PMC Commercial special committee's recommendation to
propose a business combination with PMC Capital. At this meeting, the PMC
Commercial board also unanimously adopted resolutions, proposed by the PMC
Commercial special committee, to expand the authority of the PMC Commercial
special committee to permit it to make the offer to PMC Capital and to negotiate
the terms of any such business combination, subject to the ultimate approval of
the PMC Commercial board of trust managers of the final terms and conditions
thereof.
On November 4, 2002, the PMC Commercial special committee submitted an
indication of interest to the PMC Capital board of directors, indicating the
interest of PMC Commercial to pursue a proposed business combination. This
indication of interest requested a response from PMC Capital no later than the
close of business on November 18, 2002. The PMC Commercial special committee
ultimately extended the deadline to respond to January 24, 2003.
On November 8, 2002, having received and reviewed PMC Commercial's
indication of interest, the PMC Capital board called and held a special meeting.
The board noted that two of its seven members were also officers and/or trust
managers of PMC Commercial and had, or may be deemed to have, actual or
potential conflicts of interest in evaluating the proposed merger with PMC
Commercial.
At that same meeting, the PMC Capital board then appointed a special
committee composed of four of the remaining PMC Capital directors, Irvin M.
Borish, Barry A. Imber, Thomas Hamill and Theodore J. Samuel, none of whom was
an employee or trust manager of PMC Commercial or an employee of PMC Capital or
any affiliate thereof.
The PMC Capital special committee was empowered to determine whether
PMC Commercial's proposal and the proposed merger would be in the best interests
of PMC Capital's shareholders and to make a recommendation to the PMC Capital
board of directors with respect thereto. The PMC Capital special committee was
also authorized to, among other things:
- retain legal and financial advisors of its own choosing;
- review documents and otherwise perform due diligence with
respect to PMC Commercial; and
- prepare and negotiate the terms of the proposal and all
documents necessary to effect the merger.
On November 8, 2002, at the first meeting of the PMC Capital special
committee, the PMC Capital special committee appointed Thomas Hamill as its
chairman and engaged Sutherland Asbill & Brennan LLP ("Sutherland") as the PMC
Capital special committee's legal counsel. Sutherland also served as special
regulatory and securities counsel to PMC Capital. The PMC Capital special
committee retained Sutherland based upon a number of factors, including
Sutherland's experience in transactions similar to the merger. The PMC Capital
special committee decided that it would engage a financial advisor to assist it
in its review of the terms of the proposed merger and determination of the
fairness of the merger, from a financial point of view, to PMC Capital
shareholders. The special committee appointed Thomas Hamill to serve as chairman
of the special committee and designated him to negotiate the terms of the merger
along with the financial advisor.
On November 13, 2002, the PMC Capital special committee held its
initial meeting with its legal advisors to discuss the financial advisor
selection process and to generate a list of financial advisor candidates. The
PMC Capital special committee agreed that potential candidates should have
specific knowledge of, and recent experience with companies operating in, the
BDC and REIT industries and companies of similar size and market capitalization
as PMC Capital and PMC Commercial.
During the next few weeks, members of the PMC Capital special committee
interviewed a number of financial advisor candidates. On December 3, 2002, the
PMC Capital special committee met, and, based on the
50
interviews and the materials provided, agreed to appoint A.G. Edwards as its
financial advisor, subject to A.G. Edwards' agreement to evaluate alternative
offers. A.G. Edwards had no previous relationship with PMC Capital or PMC
Commercial or any of their respective affiliates. The PMC Capital special
committee authorized Thomas Hamill, as chairman, together with legal counsel, to
negotiate the terms and conditions of the engagement letter with A.G. Edwards
and to submit a proposed engagement letter to the PMC Capital special committee
for its review and approval.
On December 6, 2002, the PMC Capital special committee engaged A.G.
Edwards as its financial advisor in connection with the proposed merger.
From December 9, 2002 to January 6, 2003, the PMC Capital special
committee, Sutherland and A.G. Edwards, conducted extensive due diligence
investigations of PMC Capital and PMC Commercial. During this time,
representatives of A.G. Edwards met with senior management of both PMC Capital
and PMC Commercial also to conduct due diligence.
On January 6, 2003, representatives of the PMC Capital special
committee, Sutherland and A.G. Edwards met to discuss the results of the due
diligence process and to discuss the terms of the indication of interest. At
this meeting, A.G. Edwards presented to the PMC Capital special committee a
comprehensive review of the terms of the proposal and several possible strategic
alternatives thereto, including a REIT conversion and recapitalization, a
partial asset liquidation and share repurchase, and an equity financing. The PMC
Capital special committee discussed the indication of interest with its legal
and financial advisors, and evaluated the legal and financial implications of
each of the alternatives discussed by A.G. Edwards. The PMC Capital special
committee also evaluated the financial analysis provided by A.G. Edwards and
held specific discussions with A.G. Edwards regarding its assumptions and the
projected financial performance of the combined company. As a result of these
discussions and considerations, the PMC Capital special committee determined at
this meeting to pursue the indication of interest with an exchange ratio range
of 0.34 to 0.41, among other modifications.
On January 10, 2003, the chairman of the PMC Capital special committee
contacted the chairman of the PMC Commercial special committee to discuss and
deliver proposed modifications to the indication of interest originally
submitted by PMC Commercial.
Following the receipt of PMC Capital's proposed modification to the
indication of interest, the PMC Commercial special committee met with its legal
and financial advisors on January 14, 2003 and agreed, after receiving advice
from its financial advisor, to discuss a possible exchange ratio of between 0.34
to 0.41 of a PMC Commercial common share for each outstanding share of PMC
Capital common stock.
On January 21, 2003, the special committees of PMC Commercial and PMC
Capital executed the indication of interest. Pursuant to its terms, PMC
Commercial and PMC Capital had 30 days in which to execute a definitive
agreement with respect to the proposed transaction, which was ultimately
extended until March 31, 2003. The indication of interest also contained a
90-day exclusivity period, pursuant to which both parties agreed not to solicit
offers from or negotiate with any other party for the purpose of determining an
interest in acquiring either of such entities.
Between January 21, 2003 and March 24, 2003, the PMC Commercial special
committee's and the PMC Capital special committee's legal and financial advisors
completed legal due diligence, negotiated the proposed exchange ratio and the
terms of the merger agreement, including the scope of each company's
representations, warranties and operational covenants, board composition,
termination rights and fees and no solicitation covenants, and the voting
agreements. During the course of these negotiations, the legal and financial
advisors consulted with PMC Commercial management and PMC Capital management and
the PMC Commercial special committee and the PMC Capital special committee. At
the conclusion of these negotiations, the two financial advisors and special
committees agreed upon an exchange ratio of 0.35 of a PMC Commercial common
share for each outstanding share of PMC Capital common stock.
On March 24, 2003, the PMC Commercial special committee met and
reviewed the terms of the merger agreement and the related documents with its
legal and financial advisors. At the meeting, Locke Liddell & Sapp reiterated
its previous advice regarding the fiduciary obligations of the PMC Commercial
special committee and
51
reviewed with the PMC Commercial special committee a summary of the merger
agreement and voting agreements. U.S. Bancorp Piper Jaffray then delivered its
oral opinion to the PMC Commercial special committee that, as of that date,
based upon and subject to the assumptions, factors and limitations to be set
forth in the written opinion, the exchange ratio of 0.35 was fair, from a
financial point of view, to PMC Commercial. The PMC Commercial special committee
unanimously voted to recommend to the PMC Commercial board of trust managers
that:
- the merger agreement and the transactions contemplated thereby
were fair to and in the best interests of the holders of PMC
Commercial common shares; and
- the merger, the merger agreement and the transactions
contemplated thereby be approved and recommended to PMC
Commercial's shareholders.
The PMC Capital special committee also met during the evening of March
24, 2003 to review the terms of the merger agreement and related documents with
its legal and financial advisors. Sutherland made a presentation to the PMC
Capital special committee regarding Sutherland's due diligence examination of
PMC Capital and PMC Commercial and a legal review of the terms of the merger
agreement and the fiduciary duties of the members of the PMC Capital special
committee regarding the merger proposal. A.G. Edwards delivered its oral opinion
to the PMC Capital special committee that, based on and subject to the various
assumptions and qualifications to be set forth in its written opinion as of
March 24, 2003, the exchange ratio of 0.35 was fair, from a financial point of
view, to the shareholders of PMC Capital. The PMC Capital special committee then
unanimously voted to recommend to the PMC Capital board of directors that:
- the merger and the transactions contemplated thereby were fair
to and in the best interest of, from a financial and
procedural point of view, the PMC Capital shareholders; and
- the merger, the merger agreement and the transactions
contemplated thereby be approved and recommended to PMC
Capital's shareholders.
Following their meetings on March 24, 2003, the PMC Commercial special
committee and the PMC Capital special committee distributed the merger agreement
and related documents to the full boards of PMC Commercial and PMC Capital for
their review in advance of the board meetings scheduled for March 27, 2003.
During the course of this review, directors of PMC Capital and trust managers of
PMC Commercial held further discussions with their respective financial advisors
regarding the exchange ratio. On March 26, 2003 and the morning of March 27,
2003, PMC Commercial special committee's and PMC Capital special committee's
financial advisors negotiated a new exchange ratio of 0.37. During the course of
these negotiations, the PMC Commercial special committee and the PMC Capital
special committee consulted with their respective financial advisors.
On March 27, 2003, the PMC Commercial special committee met with its
legal and financial advisors. Locke Liddell & Sapp informed the PMC Commercial
special committee that, other than the exchange ratio, no material changes had
been made to the merger agreement. U.S. Bancorp Piper Jaffray then delivered its
oral opinion to the PMC Commercial special committee that, as of that date,
based upon and subject to the assumptions, factors and limitations to be set
forth in the written opinion, the exchange ratio of 0.37 was fair to PMC
Commercial from a financial point of view. The PMC Commercial special committee
then unanimously voted to recommend to the PMC Commercial board of trust
managers that:
- the merger, the merger agreement and the transactions
contemplated thereby were fair to and in the best interest of
the holders of PMC Commercial common shares; and
- the merger, the merger agreement and the transactions
contemplated thereby be approved and recommended to PMC
Commercial's shareholders.
On March 27, 2003, the PMC Capital special committee met with its legal
and financial advisors to discuss the revised exchange ratio. A.G. Edwards
delivered its oral opinion to the PMC Capital special committee that, based on
and subject to the various assumptions and qualifications to be set forth in its
written opinion as of March 27, 2003, the exchange ratio of 0.37 was fair to PMC
Capital shareholders from a financial point of view.
52
The PMC Capital special committee then unanimously voted to recommend to the PMC
Capital board of directors that:
- the merger and the transactions contemplated thereby were fair
to and in the best interest of PMC Capital shareholders from a
financial and procedural point of view; and
- the merger, the merger agreement and the transactions
contemplated thereby be approved and recommended to PMC
Capital shareholders.
On March 27, 2003, the board of trust managers of PMC Commercial met.
At this meeting, Locke Liddell & Sapp reviewed with the board a summary of the
merger agreement and voting agreements. U.S. Bancorp Piper Jaffray then informed
the PMC Commercial board of trust managers that on March 27, 2003 it had
delivered an oral opinion to the PMC Commercial special committee that, as of
that date and based upon and subject to the various assumptions, factors and
limitations to be set forth in the written opinion, the exchange ratio of 0.37
was fair to PMC Commercial from a financial point of view. The board of trust
managers then, based on the information and factors described in this joint
proxy statement/prospectus and the unanimous recommendation of the PMC
Commercial special committee, unanimously approved the merger agreement and the
transactions contemplated thereby.
On March 27, 2003, the full PMC Capital board of directors met to
consider the merger, the merger agreement and the transactions contemplated
thereby. Sutherland reviewed the terms of the merger agreement with the board
and discussed the fiduciary duties to which the board members were subject. A.G.
Edwards delivered its oral opinion that, based on and subject to the various
assumptions and qualifications to be set forth in its written opinion as of
March 27, 2003, the exchange ratio of 0.37 was fair, from a financial point of
view, to PMC Capital shareholders. The chairman of the PMC Capital special
committee presented the unanimous recommendation of the PMC Capital special
committee that:
- the merger and the transactions contemplated thereby were fair
to and in the best interest of PMC Capital shareholders from a
financial and procedural point of view; and
- the merger, the merger agreement and the transactions
contemplated thereby should be approved and recommended to PMC
Capital shareholders.
Based on the information and factors considered by the PMC Capital
special committee and the unanimous recommendation of the PMC Capital special
committee, the PMC Capital board of directors:
- determined that the merger and the transactions contemplated
thereby were fair to and in the best interest of the PMC
Capital shareholders from a financial and procedural point of
view; and
- approved the merger, the merger agreement and the transactions
contemplated thereby and recommended such matters to PMC
Capital's shareholders.
Following an approval by each of the boards, on the evening of March
27, 2003, the parties executed the merger agreement and the voting agreements
and issued a joint press release announcing the transaction.
PMC COMMERCIAL REASONS FOR THE MERGER
The following discussion of the information and factors considered by
the PMC Commercial special committee and the PMC Commercial board of trust
managers is not intended to be exhaustive, but includes all material factors
considered by the PMC Commercial special committee and the PMC Commercial board
of trust managers.
53
PMC COMMERCIAL SPECIAL COMMITTEE
In reaching its decision to approve the terms of the merger agreement
and the transactions contemplated by the merger agreement and to recommend that
the PMC Commercial board of trust managers approve the merger agreement and the
transactions contemplated by the merger agreement and declare the advisability
of the same, the PMC Commercial special committee consulted with its legal
counsel and financial advisor and carefully considered the following material
factors:
- the expectation that the larger equity market capitalization
of the combined company would help create new business
flexibility and help stabilize earnings;
- the potential for the transaction to broaden PMC Commercial's
investor base;
- the continued viability of PMC Commercial as a stand-alone
entity in the highly competitive economic environment of the
small business lending industry;
- the expectation that the resulting book equity would improve
PMC Commercial's visibility and market presence, enhancing
overall growth opportunities;
- the expectation that the merger would ultimately be accretive
to PMC Commercial cash available for distribution;
- by merging with PMC Capital, PMC Commercial will become
internally managed, thereby eliminating any potential
conflicts of interest between PMC Commercial and its external
manager;
- possible cost synergies to be created by merging with PMC
Capital, including eliminating management fees currently paid
by PMC Commercial to PMC Capital;
- that the combined company would have a larger equity market
capitalization, which could generate greater research coverage
and institutional investor interest as well as potentially
increase the trading volume of PMC Commercial's common shares;
- the expectation that the merger would generally be a tax-free
transaction for U.S. Federal income tax purposes;
- the terms and conditions of the merger agreement, including
the right of PMC Commercial to terminate the merger agreement
prior to its approval by PMC Commercial shareholders in the
exercise of its fiduciary duty in connection with a superior
proposal, subject to a termination fee;
- the proposed composition of the board of trust managers and
executive officers of PMC Commercial following the merger,
which would facilitate the integration of PMC Commercial and
PMC Capital following the completion of the merger;
- the analysis and presentation of U.S. Bancorp Piper Jaffray
and the opinion of U.S. Bancorp Piper Jaffray, that as of
March 27, 2003, and based upon and subject to the assumptions,
factors and limitations set forth in the opinion, the exchange
ratio of 0.37 of a common share of PMC Commercial to be
exchanged for each share of PMC Capital common stock is fair,
from a financial point of view, to PMC Commercial (the written
opinion of U.S. Bancorp Piper Jaffray is attached as Annex C
to this joint proxy statement/prospectus);
- the expectation that unification of the businesses of PMC
Commercial and PMC Capital would remove some of the confusion
in the marketplace resulting from two separate public
companies having similar names and management; and
54
- the likelihood that the transactions contemplated by the
merger agreement would be successfully completed.
The PMC Commercial special committee considered the following negative
factors relating to the merger:
- uncertainty regarding how the transaction would affect the
trading in PMC Commercial's common shares before the
completion of the merger;
- the risk of a third party offering PMC Capital a superior
proposal which, if accepted by PMC Capital, would result in
the termination of the merger agreement;
- the potential or actual conflicts of interest of the trust
managers and officers of PMC Commercial, including conflicts
related to the common officers and directors of PMC Capital
and the familial relationships among certain of these
individuals;
- the termination fee of $870,000 payable by PMC Commercial to
PMC Capital under certain circumstances, which may discourage
other proposals to acquire PMC Commercial by a third party
because of the increased price that the acquiror would have to
pay;
- the risk that certain PMC Commercial shareholders might view
the combined company as a different and less desirable
investment vehicle for their capital and that sales of shares
by such shareholders could temporarily depress the share price
of PMC Commercial common shares; and
- the timing of receipt and the terms of approvals from
appropriate government entities, including the possibility of
delay in obtaining satisfactory approvals or the imposition of
unfavorable terms or conditions in the approvals.
The PMC Commercial special committee also considered the following
factors relating to the merger:
- the review and analysis of each of PMC Commercial's and PMC
Capital's business, financial condition, earnings, risks and
prospects;
- the historical market prices and trading information with
respect to the PMC Commercial common shares and PMC Capital
common stock;
- the comparisons of historical financial measures for PMC
Commercial and PMC Capital, including earnings, return on
capital and cash flow, and comparisons of historical
operational measures for PMC Commercial and PMC Capital; and
- the current industry, economic and market conditions.
This discussion of the information and factors that the PMC Commercial
special committee considered in making its decision is not intended to be
exhaustive but includes all material factors considered by the PMC Commercial
special committee. In view of the wide variety of factors considered in
connection with its evaluation of the transaction and the complexity of those
matters, the PMC Commercial special committee did not find it useful to, and did
not attempt to, quantify, rank or otherwise assign relative weights to these
factors. In addition, the individual members of the PMC Commercial special
committee may have given different weights to different factors.
The PMC Commercial special committee believed that, overall, the
positive factors of the transaction to PMC Commercial and its shareholders
substantially outweighed the risks related to the merger, and, therefore,
unanimously recommended to the PMC Commercial board of trust managers that the
merger agreement and the transactions contemplated by the merger agreement be
adopted and approved.
55
PMC COMMERCIAL BOARD OF TRUST MANAGERS
In reaching its decision to adopt and approve the merger agreement and
the transactions contemplated by the merger agreement, and recommend that PMC
Commercial shareholders approve the merger agreement, the PMC Commercial board
of trust managers consulted with PMC Commercial's management, with Locke Liddell
& Sapp, its legal counsel, and with U.S. Bancorp Piper Jaffray, financial
advisor to the PMC Commercial special committee, and carefully considered the
following material factors:
- the conclusions and recommendation of the PMC Commercial
special committee;
- the factors referred to above as having been taken into
account by the PMC Commercial special committee; and
- the PMC Commercial special committee having received the
opinion of U.S. Bancorp Piper Jaffray that, as of March 27,
2003, and based upon and subject to the assumptions, factors
and limitations set forth in the opinion, the exchange ratio
of 0.37 of a common share of PMC Commercial for each share of
PMC Capital common stock is fair, from a financial point of
view, to PMC Commercial (the written opinion of U.S. Bancorp
Piper Jaffray is attached as Annex C to this joint proxy
statement/prospectus).
This discussion of the information and factors that the PMC Commercial
board of trust managers considered in making its decision is not intended to be
exhaustive but includes all material factors considered by the PMC Commercial
board of trust managers. In view of the wide variety of factors considered in
connection with its evaluation of the transaction and the complexity of those
matters, the PMC Commercial board of trust managers did not find it useful to,
and did not attempt to, quantify, rank or otherwise assign relative weights to
these factors. In addition, the individual members of the PMC Commercial board
of trust managers may have given different weight to different factors.
The PMC Commercial board of trust managers believed that, overall, the
potential benefits of the transaction to PMC Commercial and its shareholders
outweighed the risks related to the merger.
The PMC Commercial board of trust managers believes that the merger,
the transactions contemplated by the merger agreement and the manner in which
they were negotiated and agreed to is procedurally fair to the holders of PMC
Commercial common shares based on the following factors:
- the PMC Commercial special committee consisted of independent
trust managers appointed to represent the interests of holders
of PMC Commercial common shares;
- the PMC Commercial special committee, at the expense of PMC
Commercial, retained its own financial advisor, U.S. Bancorp
Piper Jaffray, and its own legal advisor, Locke Liddell &
Sapp, to, among other things, assist in the negotiation of the
merger agreement and the transactions contemplated by the
merger agreement and, in the case of U.S. Bancorp Piper
Jaffray, render a fairness opinion relating to the fairness,
from a financial point of view, of the exchange ratio in the
merger to PMC Commercial;
- the PMC Commercial special committee, with the assistance of
its advisors, undertook an extensive evaluation of PMC
Commercial and PMC Capital, met numerous times between the
time of its formation and the execution of the merger
agreement and engaged in meetings and negotiations with the
PMC Capital special committee and its representatives; and
- the merger consideration and other terms of the merger were
the result of extensive negotiations between the PMC
Commercial special committee, and the PMC Capital special
committee.
56
RECOMMENDATION OF THE PMC COMMERCIAL SPECIAL COMMITTEE AND THE PMC COMMERCIAL
BOARD OF TRUST MANAGERS
PMC COMMERCIAL SPECIAL COMMITTEE
On March 27, 2003, the PMC Commercial special committee unanimously
voted to recommend to the PMC Commercial board of trust managers that:
- the merger agreement and the transactions contemplated by the
merger agreement are advisable and fair to and in the best
interests of PMC Commercial and the PMC Commercial
shareholders; and
- the PMC Commercial board of trust managers approve the merger
agreement and the transactions contemplated by the merger
agreement, and that the PMC Commercial board of trust managers
declare the advisability of the same.
PMC COMMERCIAL BOARD OF TRUST MANAGERS
On March 27, 2003, and based on the information and factors considered
by the PMC Capital special committee and the unanimous recommendation of the PMC
Commercial special committee, the PMC Commercial board of trust managers:
- determined that the merger agreement and the other
transactions contemplated by the merger agreement are
advisable and fair to and in the best interests of PMC
Commercial and its shareholders;
- approved the merger and approved and adopted the merger
agreement and the transactions contemplated by the merger
agreement;
- directed that the merger agreement and the transactions
contemplated by the merger agreement be submitted to a vote at
a meeting of the PMC Commercial shareholders; and
- recommended that the PMC Commercial shareholders approve the
merger agreement and the transactions contemplated by the
merger agreement.
THE PMC COMMERCIAL BOARD OF TRUST MANAGERS UNANIMOUSLY RECOMMENDS THAT
HOLDERS OF PMC COMMERCIAL COMMON SHARES VOTE FOR THE APPROVAL OF THE MERGER
AGREEMENT AND THE TRANSACTIONS CONTEMPLATED BY THE MERGER AGREEMENT.
Certain trust managers of PMC Commercial will receive financial and
other benefits in connection with the merger. For a discussion of the interests
of certain persons in the merger, see "--Interests of Certain Persons in the
Merger."
PMC CAPITAL REASONS FOR THE MERGER
The following discussion of the information and factors considered by
the PMC Capital special committee is not intended to be exhaustive, but includes
all material factors considered by the PMC Capital special committee and the PMC
Capital board of directors.
PMC CAPITAL SPECIAL COMMITTEE
In reaching its decision to approve the merger, the terms of the merger
agreement and the transactions contemplated thereby and to recommend that the
PMC Capital board of directors approve and recommend such matters to PMC
Capital's shareholders, the PMC Capital special committee consulted with PMC
Capital
57
management as well as its legal counsel and financial advisor and carefully
considered the following material factors:
- the PMC Capital special committee's review and knowledge of
the business, financial condition, results of operations and
prospects of PMC Capital, and its general familiarity with and
knowledge about PMC Capital's affairs;
- the present and possible future economic and competitive
environment of the small business lending industry in which
PMC Capital operates;
- the written opinion of A.G. Edwards as of March 27, 2003 that
the exchange ratio of 0.37 of a common share of PMC Commercial
for each share of PMC Capital common stock was fair, from a
financial point of view, to PMC Capital's shareholders, and
the analyses presented to the PMC Capital special committee by
A.G. Edwards;
- the need to increase the capital base of PMC Capital at a
reduced cost to achieve operating efficiencies, which the
merger of PMC Capital with PMC Commercial could offer;
- the need to diversify PMC Capital's investment assets in an
effort to provide PMC Capital shareholders with greater
earnings performance and operating and dividend stability;
- the belief of the PMC Capital special committee that any
transaction with PMC Commercial should result in maximizing
shareholder value;
- after conducting a review of strategic alternatives, the
belief of the PMC Capital special committee that the proposed
merger provided the best method of maximizing shareholder
value;
- the negotiations conducted by the PMC Capital special
committee and its financial and legal advisors with the PMC
Commercial special committee and its financial and legal
advisors;
- the nature of the parties' representations and warranties
contained in the merger agreement;
- the other terms and conditions in the merger agreement,
including the right of PMC Capital to terminate the merger
agreement prior to its approval by PMC Capital shareholders in
the exercise of its fiduciary duty in connection with a
superior proposal, subject to a termination fee;
- that the combined company would have a larger equity market
capitalization, which could generate greater research coverage
and institutional investment as well as potentially increase
the trading volume of the PMC Commercial common shares to be
received by PMC Capital shareholders in the merger as compared
to the trading volume of PMC Capital's common stock before the
merger;
- the historical market prices and trading information with
respect to the PMC Capital common stock and PMC Commercial
common shares;
- the comparisons of historical financial measures for PMC
Capital and PMC Commercial, including earnings, return on
capital and cash flow, and comparisons of historical
operational measures for PMC Commercial and PMC Capital;
- the expectation that the merger would be a tax-free
transaction for U.S. Federal income tax purposes;
58
- the proposed composition of the management of PMC Commercial
following the merger, which would facilitate the integration
of both companies and assist the continuation of the best
practices of PMC Capital and PMC Commercial following the
completion of the merger;
- the expectation that unification of the businesses of PMC
Capital and PMC Commercial would remove some of the confusion
in the marketplace resulting from having two separate public
companies with similar names and management;
- the timing of receipt and the terms of approvals from
appropriate governmental entities, including the possibility
of delay in obtaining satisfactory approvals or the imposition
of unfavorable terms or conditions in the approvals;
- the desire to simplify PMC Capital's complex business and
regulatory structure;
- the likelihood that the transactions contemplated by the
merger would be successfully completed; and
- the current industry, economic, market and other relevant
conditions.
The PMC Capital special committee considered the following negative
factors relating to the merger:
- the potential or actual conflicts of interest of the directors
and officers of PMC Capital, including conflicts related to
the common officers and trust managers of PMC Commercial and
the familial relationships among certain of these individuals,
including the chairman of PMC Capital;
- the risk that the per share value of PMC Commercial common
shares actually received by PMC Capital shareholders might be
less than the per share price implied by the exchange ratio
prior to the announcement of the merger proposal because the
exchange ratio will not be adjusted for changes in the market
price of PMC Capital common stock or PMC Commercial common
shares;
- uncertainty regarding the effect of the announcement of the
merger on the trading price of PMC Capital's common stock;
- the character and amount of increased risk that would be
assumed by PMC Capital's shareholders as a result of the
merger, including the risk associated with PMC Commercial's
owned hotel portfolio;
- the risk of a third party offering PMC Capital a superior
proposal, which, if accepted by PMC Capital, would result in
the termination of the merger agreement and the payment by PMC
Capital to PMC Commercial of an $870,000 termination fee;
- the timing of the receipt of and the terms of approvals from
appropriate governmental and regulatory entities, including
the possibility of delay in obtaining satisfactory approvals
or the imposition of unfavorable terms or conditions in the
approvals;
- the risk that some or all of the benefits sought in the merger
may not be achieved; and
- the risk that the merger may not be consummated.
This discussion of the information and factors that the PMC Capital
special committee considered in making its decision is not intended to be
exhaustive but includes all material factors considered by the PMC Capital
special committee. In view of the wide variety of factors considered in
connection with its evaluation of the merger and the complexity of those
matters, the PMC Capital special committee did not find it useful to, and did
not attempt
59
to quantify, rank or otherwise assign relative weights to these factors. In
addition, the individual members of the PMC Capital special committee may have
given different weights to different factors.
The PMC Capital special committee believed that, overall, the positive
factors of the merger to PMC Capital and its shareholders substantially
outweighed the risks to the merger, and, therefore, unanimously voted to
recommend to the PMC Capital board of directors that:
- the merger and the transactions contemplated thereby were fair
to and in the best interest of PMC Capital shareholders from a
financial and procedural point of view; and
- the merger, the merger agreement and the transactions
contemplated thereby be approved and recommended to PMC
Capital shareholders.
PMC CAPITAL BOARD OF DIRECTORS
In reaching its decision to approve the merger, the merger agreement
and the transactions contemplated thereby and recommend such matters to PMC
Capital's shareholders, the PMC Capital board of directors consulted with PMC
Capital's management, as well as with Sutherland, its legal counsel, and A.G.
Edwards, the financial advisor to the PMC Capital special committee, and
carefully considered the following material factors:
- the conclusions and recommendations of the PMC Capital special
committee;
- the factors set forth above considered by the PMC Capital
special committee;
- the written opinion of A.G. Edwards as of March 27, 2003 that
the exchange ratio of 0.37 of a common share of PMC Commercial
for each share of PMC Capital common stock was fair, from a
financial point of view, to PMC Capital's shareholders (the
written opinion of A.G. Edwards is attached as Annex D to this
joint proxy statement/prospectus); and
- the analyses presented to the PMC Capital special committee by
A.G. Edwards.
This discussion of the information and factors that the PMC Capital
board of directors considered in making its decision is not intended to be
exhaustive but includes all material factors considered by the PMC Capital board
of directors. In view of the wide variety of factors considered in connection
with its evaluation of the merger and the complexity of those matters, the PMC
Capital board of directors did not find it useful to, and did not attempt to
quantify, rank or otherwise assign relative weights to these factors. In
addition, the individual members of the PMC Capital board of directors may have
given different weights to different factors.
The PMC Capital board of directors believed that, overall, the positive
factors of the merger to PMC Capital and its shareholders substantially
outweighed the risks of the merger.
The PMC Capital board of directors believes that the merger and the
transactions contemplated thereby and the manner in which they were negotiated
and agreed to is procedurally fair to PMC Capital shareholders based on the
following factors:
- the PMC Capital special committee consisted of independent
directors appointed to represent the interests of shareholders
of PMC Capital;
- the PMC Capital special committee, at the expense of PMC
Capital, retained A.G. Edwards as its financial advisor, to,
among other things, assist in the negotiation of the merger
agreement and engage in meetings and negotiations with the PMC
Commercial special committee and its representatives and
advisors;
60
- the PMC Capital special committee, at the expense of PMC
Capital, retained, and was advised by, Sutherland, its own
legal counsel, and A.G. Edwards to assist it in analyzing and
negotiating a transaction in the best interests of the PMC
Capital shareholders;
- the PMC Capital special committee, with the assistance of its
legal and financial advisors, undertook an extensive
evaluation of PMC Capital and PMC Commercial, met several
times between the time of its formation and the execution of
the merger agreement, and engaged in meetings and negotiations
with the PMC Commercial special committee and its
representatives and advisors;
- the merger consideration and other terms of the merger were
the result of extensive negotiations between the PMC Capital
special committee, and the PMC Commercial special committee;
and
- the PMC Capital special committee and its representatives and
advisors had unrestricted access to information concerning PMC
Capital and PMC Commercial and their businesses and
operations, thereby acquiring significant information to
consider and reach an informed business decision on PMC
Commercial's proposal.
RECOMMENDATION OF THE PMC CAPITAL SPECIAL COMMITTEE AND THE PMC CAPITAL BOARD
OF DIRECTORS
PMC CAPITAL SPECIAL COMMITTEE
On March 27, 2003, the PMC Capital special committee unanimously voted
to recommend to the PMC Capital board of directors that:
- the merger and the transactions contemplated thereby were fair
to and in the best interest of PMC Capital shareholders from a
financial and procedural point of view; and
- the merger, the merger agreement and the transactions
contemplated thereby be approved and recommended to PMC
Capital shareholders.
PMC CAPITAL BOARD OF DIRECTORS
On March 27, 2003, and based on the unanimous recommendation of the PMC
Capital special committee, the PMC Capital board of directors:
- determined that the merger and the transactions contemplated
thereby were fair to and in the best interest of PMC Capital
shareholders from a financial and procedural point of view;
and
- approved the merger, the merger agreement and the transactions
contemplated thereby and recommended such matters to PMC
Capital shareholders.
THE PMC CAPITAL BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS THAT HOLDERS
OF PMC CAPITAL COMMON STOCK VOTE FOR THE APPROVAL OF THE MERGER, THE MERGER
AGREEMENT AND THE TRANSACTIONS CONTEMPLATED THEREBY.
Certain members of the PMC Capital board of directors and executive
officers will receive financial and other benefits in connection with the
merger. For a discussion of the interests of certain persons in the merger, see
"-Interests of Certain Persons in the Merger."
OPINION OF U.S. BANCORP PIPER JAFFRAY
In August 2002, the PMC Commercial special committee engaged U.S.
Bancorp Piper Jaffray to act as its financial advisor with respect to evaluating
strategic alternatives available to PMC Commercial, including a possible
transaction with PMC Capital. Pursuant to this engagement, U.S. Bancorp Piper
Jaffray agreed to render to the
61
PMC Commercial special committee, if requested, a fairness opinion in connection
with any transaction that might result from one of the strategic alternatives.
On March 27, 2003, U.S. Bancorp Piper Jaffray delivered its written opinion to
the PMC Commercial special committee that, as of that date, and based upon and
subject to the assumptions, factors and limitations set forth in the written
opinion and described below, the exchange ratio in the proposed merger pursuant
to the merger agreement was fair, from a financial point of view, to PMC
Commercial. A copy of the written opinion is attached to this joint proxy
statement/prospectus as Annex C and is incorporated by reference into this joint
proxy statement/prospectus. PMC Commercial shareholders should read the opinion
carefully in its entirety in conjunction with this joint proxy
statement/prospectus and should carefully consider the assumptions made, matters
considered, and limits of the review undertaken, by U.S. Bancorp Piper Jaffray.
The written opinion delivered by U.S. Bancorp Piper Jaffray to the PMC
Commercial special committee on March 27, 2003 has not been updated, revised or
reissued since that time. This opinion was based upon and is subject to
information available to or provided to U.S. Bancorp Piper Jaffray on or prior
to March 27, 2003, including the types of information summarized below. Much of
this information has changed with the passage of time, including without
limitation historical financial and stock market information of PMC Commercial,
PMC Capital and certain other publicly held companies. The written opinion of
U.S. Bancorp Piper Jaffray expresses a view as to the fairness of the exchange
ratio in the proposed merger agreement as of March 27, 2003, based on the
information available on that date and without regard to any changes in such
information.
U.S. Bancorp Piper Jaffray's written opinion, which was directed to the
PMC Commercial special committee, addresses only the fairness to PMC Commercial,
from a financial point of view, of the exchange ratio pursuant to the merger
agreement. The opinion does not address PMC Commercial's underlying business
decision to participate in the merger, and does not constitute a recommendation
to any PMC Commercial shareholder as to how the shareholder should vote with
respect to the merger.
In connection with its opinion, U.S. Bancorp Piper Jaffray, among other
things:
- reviewed the terms of a draft of the merger agreement dated
March 24, 2003;
- reviewed a draft copy of the annual report on Form 10-K for
each of PMC Commercial and PMC Capital for the year ended
December 31, 2002;
- reviewed and analyzed certain publicly available business and
financial information relating to PMC Commercial and PMC
Capital;
- reviewed and analyzed certain other financial information
relating to PMC Commercial and PMC Capital prepared by
management of each company, including projected financial data
of each company for the years ending December 31, 2003 through
2005;
- met with members of management of PMC Commercial and PMC
Capital to discuss the financial condition, operating
performance, balance sheet characteristics and prospects of
PMC Commercial and PMC Capital and the background and
rationale of the proposed merger;
- considered the historical stock prices and trading activity of
the common shares of PMC Commercial and the common stock of
PMC Capital;
- considered publicly available financial and stock market data
of selected publicly held companies;
- considered, to the extent publicly available, the financial
terms of certain other recent merger and acquisition
transactions; and
- considered such other information, financial studies and
analyses and investigations and financial, economic and market
criteria which U.S. Bancorp Piper Jaffray deemed relevant for
the purpose of rendering its opinion.
62
The following is a summary of selected analyses performed by U.S.
Bancorp Piper Jaffray in connection with the preparation of its opinion and
reviewed with the PMC Commercial special committee at a meeting held on March
27, 2003. It does not purport to be a complete description of the analyses
performed by U.S. Bancorp Piper Jaffray or of its presentation to the PMC
Commercial special committee on March 27, 2003. This summary includes
information presented in tabular format. In order to fully understand the
financial analyses presented by U.S. Bancorp Piper Jaffray, these tables must be
read together with the text of each analysis summary and considered as a whole.
The tables alone do not constitute a complete summary of the analyses. The order
in which these analyses are presented below, and the results of those analyses,
should not be taken as any indication of the relative importance or weight given
to these analyses by U.S. Bancorp Piper Jaffray or the PMC Commercial special
committee. Except as otherwise noted, the following quantitative information, to
the extent that it is based upon market data, is based upon market data as it
existed on or before March 27, 2003, and is not necessarily indicative of
current market conditions.
IMPLIED CONSIDERATION
U.S. Bancorp Piper Jaffray calculated the implied value of the per
share consideration to be paid by PMC Commercial to the holders of common stock
of PMC Capital to be approximately $5.01, based upon an exchange ratio of 0.37
PMC Commercial common shares for each share of PMC Capital common stock and the
$13.54 closing price of PMC Commercial's common shares on March 26, 2003. Based
upon the number of fully diluted outstanding shares of common stock of PMC
Capital on March 26, 2003, U.S. Bancorp Piper Jaffray calculated the implied
value of the total consideration to be paid by PMC Commercial to the holders of
common stock of PMC Capital as of March 26, 2003 to be approximately $59.4
million, using the closing price of PMC Commercial's common shares on that date.
U.S. Bancorp Piper Jaffray also calculated that the shareholders of PMC Capital
would be issued an aggregate of 40.5% of PMC Commercial's fully diluted common
shares outstanding after the consummation of the proposed merger.
EXCHANGE RATIO ANALYSIS
U.S. Bancorp Piper Jaffray reviewed selected historical closing stock
prices for the common shares of PMC Commercial and shares of common stock of PMC
Capital, for purposes of comparing the exchange ratio for the merger with the
"implied" exchange ratio based upon historical closing stock prices for the two
entities. U.S. Bancorp Piper Jaffray examined the exchange ratio implied by the
closing stock prices for PMC Commercial and PMC Capital on March 26, 2003 as
well as the exchange ratio implied by the 10-, 30- and 60-day average closing
stock prices for PMC Commercial and PMC Capital. In addition, U.S. Bancorp Piper
Jaffray looked at the exchange ratio implied by the average closing stock prices
for PMC Commercial and PMC Capital since September 12, 2002, the date on which
PMC Capital announced a dividend reduction. This analysis produced the following
implied historical exchange ratios for the periods indicated:
IMPLIED HISTORICAL
PERIOD EXCHANGE RATIO
------------------------------------------- ------------------
March 26, 2003 closing price............... 0.316
10-day period.............................. 0.319
30-day period.............................. 0.326
60-day period.............................. 0.343
September 12, 2002 - March 26, 2003........ 0.333
U.S. Bancorp Piper Jaffray's analysis concerning PMC Commercial common
shares and PMC Capital common stock was based upon information available as of
March 26, 2003. U.S. Bancorp Piper Jaffray did not and does not express any
opinion as to the actual value of PMC Commercial common shares or PMC Capital
common stock on March 26, 2003 or the actual relative value of PMC Commercial
common shares and PMC Capital common stock.
63
MARKET ANALYSIS
U.S. Bancorp Piper Jaffray reviewed selected market information
concerning PMC Commercial common shares and PMC Capital common stock. Among
other things, U.S. Bancorp Piper Jaffray noted the following with respect to the
trading of PMC Commercial common shares:
Closing market price as of March 26, 2003................. $13.54
30-trading day average ended March 26, 2003............... $13.17
60-trading day average ended March 26, 2003............... $13.11
90-trading day average ended March 26, 2003............... $12.89
180-trading day average ended March 26, 2003.............. $13.14
52-week period ended March 26, 2003
High............................................. $15.50
Low.............................................. $11.25
U.S. Bancorp Piper Jaffray also presented additional stock price and
volume performance data for PMC Commercial's common shares for the 52-week
period ended March 26, 2003. This review by U.S. Bancorp Piper Jaffray showed
that the average daily volume for PMC Commercial's common shares was 7,198. U.S.
Bancorp Piper Jaffray also noted PMC Commercial's market capitalization as of
March 26, 2003, which was $87.3 million.
Among other things, U.S. Bancorp Piper Jaffray noted the following with
respect to the trading of PMC Capital's common stock:
Closing market price as of March 26, 2003................. $4.28
30-trading day average ended March 26, 2003............... $4.35
60-trading day average ended March 26, 2003............... $4.51
90-trading day average ended March 26, 2003............... $4.28
180-trading day average ended March 26, 2003.............. $4.67
52-week period ended March 26, 2003
High............................................. $7.30
Low.............................................. $3.40
U.S. Bancorp Piper Jaffray also presented additional stock price and
volume performance data of PMC Capital's common stock for the 52-week period
ended March 26, 2003. This review by U.S. Bancorp Piper Jaffray showed that the
average daily volume for the shares of PMC Capital's common stock was 12,234.
U.S. Bancorp Piper Jaffray also noted PMC Capital's market capitalization as of
March 26, 2003, which was $50.7 million.
PRO FORMA ANALYSIS
U.S. Bancorp Piper Jaffray analyzed, on a pro forma basis, the relative
contribution of the two entities and the accretive/dilutive impact of the
proposed merger. U.S. Bancorp Piper Jaffray performed this analysis using
estimates provided to it by the management of each of PMC Commercial and PMC
Capital. These estimates have been updated in the ordinary course since they
were provided to U.S. Bancorp Piper Jaffray and will continue to be updated in
the ordinary course. U.S. Bancorp Piper Jaffray's pro forma analysis included
examining the expected contribution of PMC Capital to the anticipated revenues,
net operating income ("NOI") and net income of the combined company for the
fiscal years 2003, 2004 and 2005, both with and without attributing any
synergies that the combined company may realize following consummation of the
merger. This analysis also included examining the expected contribution of PMC
Capital to the anticipated net receivables, total assets and book value of the
combined company for the fiscal years 2003, 2004 and 2005 without attributing
any synergies that the combined company may realize following consummation of
the merger. This contribution analysis indicated the following expected
contributions of PMC Capital to the operating results of the combined company:
64
2003 2004 2005
---- ---- ----
Revenues
With synergies................................. N/A 51.2% 53.9%
Without synergies.............................. 48.9% 50.6% 52.0%
NOI
With synergies................................. N/A 43.3% 46.9%
Without synergies.............................. 39.4% 41.2% 42.0%
Net Income
With synergies................................. N/A 46.8% 50.7%
Without synergies.............................. 44.4% 42.9% 44.0%
Net Receivables (without synergies)................. 46.2% 53.2% 55.2%
Total Assets (without synergies).................... 50.2% 55.5% 44.3%
Book Value (without synergies)...................... 43.4% 44.6% 44.4%
U.S. Bancorp Piper Jaffray's pro forma analysis also included examining
the impact of the proposed merger on the projected stand-alone cash flow
available for distribution, NOI, earnings per share, and book value per share of
PMC Commercial for the last two fiscal quarters of 2003, each fiscal quarter of
2004 and for the fiscal years 2004 and 2005 without attributing any synergies
that the combined company may realize following consummation of the merger. This
analysis revealed that with respect to PMC Commercial's projected stand-alone
cash flow available for distribution, the merger would be dilutive for the third
quarter of 2003 but would be accretive for the fourth quarter of 2003 and the
fiscal years 2004 and 2005. U.S. Bancorp Piper Jaffray's pro forma analysis also
indicated that the merger would be dilutive to the projected stand-alone NOI and
earnings per share of PMC Commercial for the third and fourth quarters of 2003
and accretive to projected stand-alone NOI and earnings per share for the fiscal
years 2004 and 2005.
U.S. Bancorp Piper Jaffray's pro forma analysis also indicated that the
merger would be accretive to PMC Commercial's projected stand-alone book value
per share for all of the periods it analyzed if the combined company took an
extraordinary gain to account for the negative goodwill that would result from
the merger, but would be dilutive to PMC Commercial's projected stand-alone book
value per share for all of the periods analyzed if the combined company wrote
down the book value of certain of its assets to account for the negative
goodwill that would result from the merger.
PREMIUMS PAID ANALYSIS
U.S. Bancorp Piper Jaffray reviewed and analyzed two different groups
of merger and acquisition transactions which it deemed comparable to the
proposed merger, including:
- a broad group of 52 transactions which, among other criteria,
involved a merger-of-equals between two companies; and
- a selected group of 20 transactions which, among other
criteria, involved a merger-of-equals between two financial
services companies.
All of the transactions involved in this analysis were announced after
January 1, 1996. This analysis was based upon information obtained from SEC
filings, public company disclosures, press releases, industry and popular press
reports, databases and other sources. U.S. Bancorp Piper Jaffray analyzed the
selected transactions and compared the implied premium to be paid by PMC
Commercial in the merger to the premiums that the acquiring companies in the
selected transactions agreed to pay based upon the closing stock prices of the
target companies during the 1-, 30-, 60- and 90-day periods preceding the
announcement of the selected transactions. This analysis revealed the following:
65
PMC FINANCIAL SERVICES
CAPITAL BROAD GROUP TRANSACTION PREMIUMS GROUP TRANSACTION PREMIUMS
IMPLIED ------------------------------------- --------------------------------------
PREMIUM* MEAN MEDIAN MAX MIN MEAN MEDIAN MAX MIN
-------- ---- ------ ----- ----- ---- ------ ---- ----
1 day....... 16.0% 12.8% 7.8% 89.0% (56.0%) 11.9% 8.8% 31.4% (5.2%)
30 days..... 13.9% 10.7% 6.3% 76.2% (63.6%) 11.7% 12.7% 34.1% (6.1%)
60 days..... 6.4% 11.2% 11.5% 86.8% (67.9%) 14.6% 14.5% 35.8% (8.2%)
90 days..... 13.9% 12.3% 11.6% 103.6% (74.0%) 15.4% 12.9% 42.5% (5.2%)
* Implied premium calculated utilizing a 0.37 exchange ratio, which equates
to an implied purchase price of $5.01 per share based upon the closing
price of PMC Commercial's common shares on March 26, 2003.
COMPARABLE COMPANY ANALYSIS
U.S. Bancorp Piper Jaffray reviewed selected financial data and market
information for PMC Commercial and compared them to corresponding data and
information for publicly traded REITs. U.S. Bancorp Piper Jaffray also reviewed
selected financial data and market information for PMC Capital and compared them
to corresponding data and information for publicly traded companies engaged
primarily in business development. The specific businesses that U.S. Bancorp
Piper Jaffray used in this analysis and that it believes are engaged in
businesses similar to the business of PMC Capital and PMC Commercial,
respectively, are:
PMC CAPITAL PMC COMMERCIAL
------------------------------------ -----------------------------------
- Allied Capital Corporation - Annaly Mortgage Management, Inc.
- American Capital Strategies, Ltd. - Anthracite Capital, Inc.
- Gladstone Capital Corporation - iStar Financial, Inc.
- MCG Capital Corporation - RAIT Investment Trust
- Medallion Financial Corp. - Thornburg Mortgage, Inc.
The financial data and market information of each of PMC Commercial and
PMC Capital that was considered as part of this analysis included, among other
things, closing stock price on March 26, 2003, NOI for the last twelve months
("LTM"), projected earnings per share for 2003 (in the case of PMC Commercial),
projected NOI for 2003 (in the case of PMC Capital) and dividend yield. This
analysis produced multiples of selected valuation data as follows:
COMPARABLE COMPANIES
PMC ------------------------------------
COMMERCIAL LOW MEAN MEDIAN HIGH
---------- --- ---- ------ ----
Price/LTM NOI........................ 10.4x 6.9x 9.5x 9.2x 13.0x
Price/Calendar Year 2003 earnings
per share......................... 9.9x 7.6x 8.2x 8.0x 9.0x
Dividend Yield....................... 11.8% 8.6% 11.4% 11.2% 14.7%
PMC CAPITAL COMPARABLE COMPANIES
------------------------ ----------------------------------------
IMPLIED (1) MARKET (2) LOW MEAN MEDIAN HIGH
----------- ---------- -------------- ------ -----
Price/LTM NOI..................... 10.0x 8.5x 5.5x 11.0x 10.0x 18.7x
Price/Calendar Year 2003 NOI...... 11.0x 9.4x 5.7x 11.3x 11.1x 17.3x
Dividend Yield.................... 9.6% 11.2% 3.5% 9.9% 11.5% 17.2%
(1) Based on implied value of merger consideration.
(2) Based on market value as of March 26, 2003. The earnings projections for
PMC Commercial and PMC Capital used in the foregoing analysis have been updated
in the ordinary course since they were provided to U.S. Bancorp Piper Jaffray
and will continue to be updated in the ordinary course.
66
DISCOUNTED CASH FLOW ANALYSIS
Using a discounted cash flow analysis, U.S. Bancorp Piper Jaffray
calculated a range of theoretical values for each of PMC Commercial and PMC
Capital based upon (1) the net present value of implied future cash flows of the
business of each company through 2005 and (2) the net present value of a
terminal value of each of PMC Commercial and PMC Capital, which is an estimate
of the future value of each company's business. U.S. Bancorp Piper Jaffray used
internal projected financial planning data prepared by management of each of PMC
Commercial and PMC Capital for 2003, 2004 and 2005. U.S. Bancorp Piper Jaffray
calculated the range of net present values for PMC Commercial based upon a range
of discount rates of 12% to 18% and a range of terminal multiples of 8.0x to
11.0x applied to the projected 2005 net income of PMC Commercial before gain on
sale of assets. U.S. Bancorp Piper Jaffray calculated the range of net present
values for PMC Capital based upon a range of discount rates of 16% to 22% and a
range of terminal multiples of 8.0x to 11.0x applied to the projected 2005 NOI
of PMC Capital. This analysis yielded a range of estimated present values for
PMC Commercial of between $11.71 per share and $16.45 per share and a range of
estimated present values for PMC Capital of between $3.59 per share and $5.35
per share.
Although the summary set forth above does not purport to be a complete
description of the analyses performed by U.S. Bancorp Piper Jaffray, the
material analyses performed by U.S. Bancorp Piper Jaffray in rendering its
opinion have been summarized above. The preparation of a fairness opinion is a
complex process and is not necessarily susceptible to partial analysis or
summary description. U.S. Bancorp Piper Jaffray believes that its analyses and
the summary set forth above must be considered as a whole and that selecting
portions of its analyses or of the summary, without considering the analyses as
a whole or all of the factors included in its analyses, would create an
incomplete view of the processes underlying the analyses set forth in the U.S.
Bancorp Piper Jaffray opinion. In arriving at its opinion, U.S. Bancorp Piper
Jaffray considered the results of all of its analyses and did not attribute any
particular weight to any factor or analysis considered by it. Instead, U.S.
Bancorp Piper Jaffray made its determination as to the fairness of the exchange
ratio, from a financial point of view, to PMC Commercial on the basis of its
experience and professional judgment after considering the results of all of its
analyses. The fact that any specific analysis has been referred to in the
summary above is not meant to indicate that such analysis was given greater
weight than any other analysis. No company or transaction used in the above
analyses as a comparison is directly comparable to PMC Commercial, PMC Capital
or the merger.
The analyses were prepared solely for purposes of U.S. Bancorp Piper
Jaffray providing its opinion on March 27, 2003 to the PMC Commercial special
committee that, as of such date, and based upon and subject to the assumptions,
factors and limitations set forth in the written opinion, the exchange ratio set
forth in the merger agreement was fair, from a financial point of view, to PMC
Commercial. These analyses do not purport to be appraisals or to reflect the
price at which a company might actually be sold or the prices at which any
securities of PMC Commercial or PMC Capital or any other company may trade at
the present time or at any time in the future. In performing its analyses, U.S.
Bancorp Piper Jaffray made numerous assumptions with respect to industry
performance, general business and economic conditions and other matters. The
analyses performed by U.S. Bancorp Piper Jaffray are based upon forecasts of
future results, which are not necessarily indicative of actual values or actual
future results and may be significantly more or less favorable than suggested by
such analyses. These analyses are inherently subject to uncertainty, being based
upon numerous factors or events beyond the control of the parties or their
respective advisors. U.S. Bancorp Piper Jaffray does not assume responsibility
if future results are materially different from those forecasted.
U.S. Bancorp Piper Jaffray relied upon and assumed the accuracy,
completeness and fairness of the financial statements and other information
provided to it by PMC Commercial and PMC Capital or otherwise made available to
U.S. Bancorp Piper Jaffray, and did not attempt to independently verify, or
assume the responsibility for the independent verification, of such information.
U.S. Bancorp Piper Jaffray also assumed, in reliance upon the assurances of the
management of PMC Commercial and PMC Capital, respectively, that the information
provided to U.S. Bancorp Piper Jaffray was prepared on a reasonable basis in
accordance with industry practice and, with respect to financial planning data
and other business outlook information, reflected the best currently available
estimates and judgments of the management of PMC Commercial and PMC Capital,
respectively, and that the management of neither PMC Commercial nor PMC Capital
was aware of any information or facts that would make the information provided
by such management to U.S. Bancorp Piper Jaffray incomplete or misleading. U.S.
Bancorp Piper Jaffray assumed that there had been no material changes in the
assets, financial condition, results of operations, business or prospects of PMC
Commercial or PMC Capital since the date of the last financial statements
67
made available to U.S. Bancorp Piper Jaffray. U.S. Bancorp Piper Jaffray also
assumed that neither PMC Commercial nor PMC Capital was a party to any material
pending transaction, including external financing, recapitalizations,
acquisitions or merger discussions, other than the proposed merger and
securitization transactions in the ordinary course of business.
U.S. Bancorp Piper Jaffray did not undertake any independent analysis
of any pending or threatened litigation, material claims, possible unasserted
claims or other contingent liabilities, to which either PMC Commercial, PMC
Capital or any of their affiliates is a party or may be subject. U.S. Bancorp
Piper Jaffray also did not undertake any independent analysis of any
governmental investigation of any possible unasserted claims or other contingent
liabilities to which either PMC Commercial, PMC Capital or any of their
affiliates is a party or may be subject. At the direction of the PMC Commercial
special committee, and with its consent, U.S. Bancorp Piper Jaffray's opinion
made no assumption concerning, and therefore did not consider, the potential
effects of such litigation, claims, investigations, or possible assertions of
claims, outcomes or damages arising out of any such matters.
In arriving at its opinion, U.S. Bancorp Piper Jaffray assumed that all
necessary regulatory approvals and consents required for the merger would be
obtained and that no limitations, restrictions or conditions would be imposed
that would have a material adverse effect on PMC Commercial, PMC Capital or the
contemplated benefits to PMC Commercial of the proposed merger or will otherwise
change the consideration to be paid by PMC Commercial for PMC Capital. U.S.
Bancorp Piper Jaffray assumed that the merger would qualify as a reorganization
under the Internal Revenue Code. In rendering its opinion that the exchange
ratio of 0.37 set forth in the merger agreement was fair, from a financial point
of view, to PMC Commercial, U.S. Bancorp Piper Jaffray also assumed that the
final form of the merger agreement would be substantially similar to the draft
merger agreement dated March 24, 2003 reviewed by U.S. Bancorp Piper Jaffray,
without modification of material terms or conditions.
In arriving at its opinion, U.S. Bancorp Piper Jaffray did not perform
nor was furnished any appraisals or valuations of the specific assets or
liabilities of PMC Commercial or PMC Capital. U.S. Bancorp Piper Jaffray
expresses no opinion regarding the liquidation value of PMC Commercial or PMC
Capital. The analyses U.S. Bancorp Piper Jaffray performed in connection with
its opinion were going concern analyses. U.S. Bancorp Piper Jaffray was not
requested to opine, and did not render any opinion, as to whether any analysis
of an entity, other than as a going concern, is appropriate in the circumstances
and, accordingly, U.S. Bancorp Piper Jaffray did not perform any such analysis.
The PMC Commercial special committee did not request that U.S. Bancorp
Piper Jaffray solicit, and U.S. Bancorp Piper Jaffray did not solicit, any
expression of interest from any other parties with respect to any alternative
transaction. U.S. Bancorp Piper Jaffray's opinion addresses solely the fairness,
from a financial point of view, to PMC Commercial of the exchange ratio and does
not address any other terms or agreement relating to the transaction. U.S.
Bancorp Piper Jaffray's opinion does not address, nor should it be construed to
address, the relative merits of the transaction with PMC Capital, on the one
hand, or any alternative business strategies or alternative transactions that
may be available to PMC Commercial, on the other hand. U.S. Bancorp Piper
Jaffray expressed no opinion as to the prices at which common shares of PMC
Commercial or shares of PMC Capital have traded or at which the shares of PMC
Commercial, PMC Capital or the combined entity may trade at any future time.
U.S. Bancorp Piper Jaffray's opinion was necessarily based upon the
information available to it, the facts and circumstances known by it on the date
of the opinion and the economic, market or other conditions as they existed and
were subject to evaluation as of the date of the opinion. Events occurring after
that date could materially affect the assumptions used in preparing the opinion.
To the extent the PMC Commercial special committee so requests, U.S. Bancorp
Piper Jaffray has agreed to deliver a bring-down opinion on one occasion. U.S.
Bancorp Piper Jaffray has not otherwise undertaken to, and is not obligated to,
update, revise or reaffirm its opinion or otherwise comment on any events
occurring after the date of the opinion.
As described above, U.S. Bancorp Piper Jaffray's opinion to the PMC
Commercial special committee was one of many factors taken into consideration by
the PMC Commercial special committee in making its determination to recommend to
the PMC Commercial board of trust managers that such board approve the merger
agreement. The foregoing summary does not purport to be a complete description
of the analyses performed by U.S.
68
Bancorp Piper Jaffray in connection with the opinion and is qualified by
reference to the written opinion of U.S. Bancorp Piper Jaffray set forth in
Annex C.
U.S. Bancorp Piper Jaffray, as a customary part of its investment
banking business, is regularly engaged in the valuation of businesses and their
securities in connection with mergers and acquisitions, underwritings and
secondary distributions of securities, private placements and valuations for
estate, corporate and other purposes. The PMC Commercial special committee
selected U.S. Bancorp Piper Jaffray to render its fairness opinion in connection
with the proposed merger on the basis of its experience and reputation in
valuing securities in connection with mergers and acquisitions. The exchange
ratio was determined by arms-length negotiations between the PMC Commercial
special committee and the PMC Capital special committee after consultation by
each special committee with their respective financial advisors as to various
matters, including preliminary ranges of value.
In the ordinary course of business, U.S. Bancorp Piper Jaffray and its
affiliates may actively trade securities of PMC Commercial and PMC Capital for
their own accounts or the accounts of their customers and, accordingly, may at
any time hold a long or short position in such securities.
U.S. Bancorp Piper Jaffray was retained pursuant to an engagement
letter dated August 27, 2002 to render a fairness opinion to the PMC Commercial
special committee. Under the terms of this engagement letter, PMC Commercial has
paid U.S. Bancorp Piper Jaffray an advisory fee in the amount of $100,000 and an
additional fee of $375,000, of which $150,000 was paid upon delivery of the
opinion and was not contingent upon consummation of the proposed merger and the
remainder of which is contingent upon consummation of the proposed merger. Such
fees are customary amounts for transactions of this type. Whether or not the
proposed merger is consummated, PMC Commercial has also agreed to reimburse U.S.
Bancorp Piper Jaffray for its reasonable out-of-pocket expenses. In addition,
PMC Commercial has agreed to indemnify U.S. Bancorp Piper Jaffray against
certain liabilities, including liabilities under the federal securities laws,
arising out of services performed by U.S. Bancorp Piper Jaffray in rendering its
opinion to the PMC Commercial special committee and acting as financial advisor
to the PMC Commercial special committee.
OPINION OF A.G. EDWARDS
Pursuant to a letter agreement dated December 6, 2002, A.G. Edwards
provided to the PMC Capital special committee and the PMC Capital board of
directors, financial advisory services and a fairness opinion in connection with
the proposed merger. A.G. Edwards was selected by the PMC Capital special
committee to act as its financial advisor and financial advisor to the PMC
Capital board of directors based on A.G. Edwards' qualifications, expertise and
reputation. A.G. Edwards assisted the PMC Capital special committee in
negotiating the significant business terms contained in the merger agreement
and, at the meetings of the PMC Capital special committee and the PMC Capital
board of directors on March 27, 2003, A.G. Edwards delivered its oral opinion
and rendered an opinion as to the fairness of the exchange ratio of the merger,
from a financial point of view, to PMC Capital's shareholders (the "A.G. Edwards
Opinion"), as of that date, based upon and subject to the various considerations
set forth in the A.G. Edwards Opinion, the exchange ratio was fair from a
financial point of view to the PMC Capital shareholders.
The full text of the A.G. Edwards Opinion which sets forth, among other
things, assumptions made, procedures followed, matters considered and
limitations of the scope of the review undertaken by A.G. Edwards in rendering
such opinion, is attached as Annex D to this joint proxy statement/prospectus.
PMC Capital shareholders are urged to, and should, read the A.G. Edwards Opinion
carefully and in its entirety. The A.G. Edwards Opinion was directed to the PMC
Capital Special Committee and the PMC Capital Board and addresses only the
fairness of the exchange ratio from a financial point of view as of the date of
the opinion, and does not constitute a recommendation as to how any shareholder
of PMC Capital should vote on any matter relating to the merger. The summary of
the A.G. Edwards Opinion set forth in this joint proxy statement/prospectus is
qualified in its entirety by reference to the full text of such opinion.
In arriving at the A.G. Edwards Opinion, A.G. Edwards, among other
things:
- reviewed the financial terms and conditions of the merger
agreement;
69
- analyzed certain historical business and financial information
relating to PMC Capital and PMC Commercial, including but not
limited to the annual reports on Form 10-K and the included
audited financial statements of PMC Capital and PMC Commercial
for the four years ending December 31, 2001, the draft annual
report on Form 10-K and the draft audited financial statements
of PMC Capital and PMC Commercial for the year ended December
31, 2002, and certain interim reports and quarterly reports on
Form 10-Q;
- reviewed various financial forecasts and other data provided
by PMC Capital and PMC Commercial relating to their respective
businesses;
- held discussions with members of the senior management of PMC
Capital, who are also management of PMC Commercial pursuant to
an investment management agreement between PMC Capital and PMC
Commercial, with respect to the business and prospects of PMC
Capital and PMC Commercial, respectively, and the strategic
objectives of each, including information relating to the
strategic, financial and operational benefits and costs
anticipated from the merger;
- reviewed an appraisal performed by a nationally recognized
hospitality appraisal firm of a sample of PMC Commercial's
owned hotels;
- reviewed public information with respect to certain other
companies in lines of businesses A.G. Edwards believes to be
generally comparable to the businesses of PMC Capital and PMC
Commercial;
- reviewed the financial terms of certain business combinations
which A.G. Edwards believes to be generally comparable to the
merger;
- reviewed the historical stock prices and trading volumes of
PMC Capital common stock and PMC Commercial common shares; and
- completed such other analyses that A.G. Edwards considered
appropriate.
In preparing the A.G. Edwards Opinion, A.G. Edwards relied upon and
assumed the accuracy and completeness of all financial and other information
publicly available, furnished to, or otherwise discussed with A.G. Edwards
including financial statements and financial projections as provided by the
management of PMC Capital and PMC Commercial. A.G. Edwards was not engaged to,
and therefore did not verify the accuracy or completeness of any of such
information. A.G. Edwards was informed and assumed that the financial
projections supplied to, discussed with or otherwise made available to it
reflect the best currently available estimates and judgments of the management
of PMC Capital and PMC Commercial as to the expected future financial
performance of PMC Capital and PMC Commercial, in each case on a stand-alone
basis and after giving effect to the merger, including, without limitation, the
projected cost savings and operational synergies resulting from the merger. A.G.
Edwards did not independently verify such information or assumptions, nor does
it express any opinion with respect thereto. Other than as noted above, A.G.
Edwards did not make any independent valuation or appraisal of the assets or
liabilities of PMC Capital or PMC Commercial, nor was it furnished with any such
valuations or appraisals. Further, A.G. Edwards was not engaged to and did not
independently attempt to assess or value any of PMC Capital's or PMC
Commercial's intangible assets (including goodwill, if any); therefore A.G.
Edwards did not make any independent assumptions with respect to their
application in the merger. A.G. Edwards relied upon the assurances of the
management of PMC Capital and PMC Commercial that they were not aware of any
facts that would make any of such information inaccurate or misleading.
In performing its analyses, A.G. Edwards made numerous assumptions with
respect to the industries in which PMC Capital and PMC Commercial operate,
general business and economic conditions and government regulations, which are
beyond the control of PMC Capital and PMC Commercial. The analyses performed by
A.G. Edwards are not necessarily indicative of actual values or actual future
results, which may be significantly more or less favorable than suggested by
such analyses. Such analyses were prepared solely as part of A.G. Edwards'
analysis of the fairness, from a financial point of view, to the PMC Capital
shareholders, of the exchange ratio, and
70
were provided to the PMC Capital special committee and the PMC Capital board of
directors in connection with the delivery of the fairness opinion.
In rendering the A.G. Edwards Opinion, A.G. Edwards also assumed that
the merger will be accounted for in accordance with generally accepted
accounting principles, that the merger generally will be treated as a tax-free
reorganization pursuant to the Internal Revenue Code, and that the merger will
be consummated on the terms contained in the merger agreement without any waiver
of any material terms or conditions by PMC Capital.
The A.G. Edwards Opinion is necessarily based on economic, market and
other conditions as in effect on, and the information made available to it as
of, the date hereof. The A.G. Edwards Opinion as summarized herein, in any
event, is limited to the fairness, from a financial point of view, to PMC
Capital shareholders, of the exchange ratio.
The following is a summary of certain of the analyses performed by A.G.
Edwards in arriving at the A.G. Edwards Opinion.
RELATIVE TOTAL RETURN ANALYSIS
A.G. Edwards reviewed the recent total return performance of each of
PMC Capital common stock and PMC Commercial common shares. A.G. Edwards compared
such performance of PMC Capital with that of a group of five BDC/RIC companies
and three mortgage REIT companies (collectively, the "PMC Capital Comparable
Companies"), weighted by equity market capitalization, and such performance of
PMC Commercial with that of a group of five BDC/RIC companies, three mortgage
REIT companies and five equity REIT companies (collectively, the "PMC Commercial
Comparable Companies"), weighted by equity market capitalization, over the
period from January 1, 1998 to March 24, 2003. The following table illustrates
such performances during the period:
TOTAL RETURN FROM JANUARY 1, 1998 TO MARCH 24, 2003
PMC CAPITAL PMC COMMERCIAL
COMPARABLE COMPARABLE
PMC CAPITAL COMPANIES PMC COMMERCIAL COMPANIES
----------- ----------- -------------- --------------
(49.1%) 41.4% 27.5% 47.9%
EXCHANGE RATIO ANALYSIS
A.G. Edwards performed an analysis of the ratios of the closing price
of PMC Capital common stock to the closing price of PMC Commercial common shares
on average over various periods ended March 24, 2003 as compared to the exchange
ratio. Based on the arithmetic average prices of PMC Capital and PMC Commercial
shares over a range of periods, A.G. Edwards used these formulas to calculate
the following implied exchange ratios:
IMPLIED EXCHANGE RATIOS
-----------------------
March 24, 2003 0.320
10 Days 0.320
30 Days 0.329
60 Days 0.344
180 Days 0.353
One Year 0.385
Based on the closing stock prices of PMC Capital and PMC Commercial on
March 24, 2003, A.G. Edwards observed that the exchange ratio represented a
premium to the implied exchange ratio on that date and to the 10 day-, 30 day-,
60 day- and 180 day-periods ended on that date. A.G. Edwards also observed that
the exchange ratio represented a discount to the implied exchange ratio to the
one year period ended March 24, 2003.
71
PREMIUM ANALYSIS
Using the closing prices of PMC Capital common stock and PMC Commercial
common shares, A.G. Edwards analyzed the exchange ratio and historical actual
trading data for each of PMC Capital and PMC Commercial to derive the
transaction premium or discount as of March 24, 2003, and the averages over the
10 days, 30 days, 60 days, 180 days and one year prior to March 24, 2003, for
shares of PMC Capital and PMC Commercial. The results of this analysis are set
forth below:
AVERAGE PREMIUM (DISCOUNT)
--------------------------
March 24, 2003 15.6%
10 Days 15.8%
30 Days 12.4%
60 Days 7.6%
180 Days 4.4%
One Year (4.8%)
PRO FORMA CONTRIBUTION ANALYSIS
A.G. Edwards analyzed the relative pro forma contribution of each of
PMC Capital and PMC Commercial to the pro forma combined entity based on PMC
Capital and PMC Commercial's historical results from operations and the
respective companies' projections:
PMC CAPITAL PMC COMMERCIAL
----------- --------------
2002 Revenues.................................................... 51.0% 49.0%
2003 Revenues.................................................... 49.0% 51.0%
2004 Revenues.................................................... 50.6% 49.4%
2002 NOI......................................................... 41.5% 58.5%
2003 NOI......................................................... 39.5% 60.5%
2004 NOI......................................................... 42.0% 58.0%
2002 Net Income.................................................. 37.6% 62.4%
2003 Net Income(1)............................................... 44.5% 55.5%
2004 Net Income.................................................. 43.8% 56.2%
Common Shareholders Equity....................................... 43.4% 56.6%
Dividend Discount Model Equity Value............................. 41.7% 58.3%
---------------------
(1) Excludes extraordinary gain to eliminate negative goodwill as a result
of the merger.
A.G. Edwards also noted that PMC Capital's and PMC Commercial's
relative contributions to certain non-GAAP results of operations, in particular
income available for distribution and cash available for distribution
("IAD/CAD") in each of 2002, 2003 and 2004, were comparable to the GAAP results
of operations noted above.
A.G. Edwards noted that, on a pro forma basis, PMC Capital shareholders
would own 40.5% of the combined entity following the merger and PMC Commercial
shareholders would own 59.5% of the combined entity following the merger. A.G.
Edwards compared the pro forma ownership of the combined entity to each of the
pro forma contributions and noted that PMC Capital contribution to the combined
entity exceeded PMC Capital shareholders' pro forma ownership of the combined
entity in all instances other than relative contribution to Net Income for the
year ended December 31, 2002.
72
DIVIDEND DISCOUNT MODEL ANALYSIS
A.G. Edwards performed a two-stage dividend discount model to analyze
the present value of PMC Capital's and PMC Commercial's future dividends, in
each case on a stand-alone basis, as projected by management of PMC Capital and
PMC Commercial, using discount rates, reflecting the cost of equity, ranging
from 15.5% to 17.5% for PMC Capital and 12.1% to 14.1% for PMC Commercial and
second stage growth rates ranging from (3.0%) to 4.0% for both companies. Based
on this analysis: (a) A.G. Edwards estimated the present value of the equity of
PMC Capital to range from $4.52 to $4.80, which range included the March 24,
2003 closing price per share of PMC Capital common stock and was less than the
implied equity share price obtained by multiplying the exchange ratio by the
March 24, 2003 closing price per share of PMC Commercial common shares, and (b)
A.G. Edwards estimated the present value of the equity of PMC Commercial to
range from $11.17 to $12.87 per share, which range was less than the March 24,
2003 closing price of PMC Commercial common shares.
PUBLIC COMPANY TRADING ANALYSIS
A.G. Edwards compared certain financial information of PMC Capital with
that of PMC Commercial and with that of a group of five selected BDC/RIC
companies and with that of a group of three selected mortgage REIT companies. No
company used in the "Public Company Trading Analysis" is identical to either PMC
Capital or PMC Commercial. The companies included in this analysis were:
BDC/RIC Companies:
- Allied Capital Corporation
- American Capital Strategies, Ltd.
- MCG Capital Corporation
- Gladstone Capital Corporation
- Medallion Financial Corp.
Mortgage REIT Companies:
- iStar Financial Inc.
- Anthracite Capital, Inc.
- Capstead Mortgage Corporation
Using publicly available information and market data as of March 24,
2003, A.G. Edwards calculated the following multiples:
EQUITY MARKET CAPITALIZATION
-------------------------------------------------------
2002 NOI 2002 EARNINGS BOOK VALUE
-------- ------------- ----------
PMC Capital...................... 8.0x 8.3x 0.71x
PMC Commercial................... 10.2x 8.6x 0.92x
BDC/RIC Companies
Mean........................ 11.7x 25.0x 1.07x
Median...................... 10.9x 18.5x 1.24x
Mortgage REIT Companies
Mean........................ 7.4x 8.4x 1.49x
Median...................... 6.8x 7.1x 1.47x
73
A.G. Edwards noted that as of March 24, 2003, on a 2002 NOI multiple
basis, PMC Capital traded at a discount to PMC Commercial and the BDC/RIC
companies and at a premium to the mortgage REIT companies. On a 2002 earnings
multiple basis, PMC Capital traded at a discount to PMC Commercial and the
BDC/RIC companies and at a premium to the mortgage REIT companies. On a book
value multiple basis, PMC Capital traded at a discount to PMC Commercial, the
BDC/RIC companies and the mortgage REIT companies.
PRO FORMA FINANCIAL ANALYSIS
A.G. Edwards analyzed the pro forma impact of the merger on PMC
Capital's estimated per share NOI, net income before extraordinary item, net
income, IAD/CAD and adjusted IAD/CAD for the years ended December 31, 2003 and
2004, assuming completion of the merger prior to January 1, 2003. This analysis
was based on the projections of management of PMC Capital and PMC Commercial for
the years ended December 31, 2003 and 2004. A.G. Edwards' analysis indicated the
following results:
PER SHARE ACCRETION/(DILUTION)
-------------------------------------
2003 PROJECTED 2004 PROJECTED
-------------- --------------
PMC Commercial NOI........................................ (0.1%) 4.6%
PMC Capital NOI........................................... 13.6% 7.3%
PMC Commercial net income before extraordinary item to
eliminate negative goodwill as a result of the merger... 8.6% 7.7%
PMC Capital net income before extraordinary item to
eliminate negative goodwill as a result of the merger... 0.7% 2.8%
PMC Commercial net income................................. 97.3% 7.7%
PMC Capital net income.................................... 83.0% 2.8%
PMC Capital Shareholders Equity........................... 1.0% 0.5%
PMC Commercial Beneficiaries Equity....................... 5.9% 6.4%
A.G. Edwards noted that the merger would be accretive on a per share
basis to PMC Capital shareholders across all observed metrics in 2003 and 2004.
A.G. Edwards further noted that the merger would be neutral on a per share basis
to PMC Commercial shareholders with respect to 2003 projected NOI, dilutive on a
per share basis to PMC Commercial shareholders with respect to 2003 projected
IAD/CAD and 2003 projected adjusted IAD/CAD, (adjusted to exclude a PMC Capital
non-recurring tax item) and accretive on a per share basis to PMC Commercial
shareholders across all other observed metrics in 2003 and 2004.
ANALYSIS OF SELECTED PRECEDENT TRANSACTIONS
A.G. Edwards reviewed publicly available information regarding eleven
completed and one announced, but not completed, transactions involving the
acquisition of selected loan origination companies since January 1998. A.G.
Edwards compared certain financial measures for these precedent transactions to
the same financial measures for PMC Capital based on the value of PMC Capital
assuming the closing price for PMC Capital common stock as of March 24, 2003 and
the exchange ratio. In connection with this analysis, A.G. Edwards reviewed the
following transactions:
ACQUIROR TARGET
--------------------------------- ----------------------------------------
HSBC Holdings plc Household International, Inc.
GE Capital Corporation Heller Financial, Inc.
GE Capital Corporation Franchise Finance Corporation of America
Sterling Financial Corporation Source Capital Corporation
Tyco International CIT Group
Allied Capital Corporation BLC Financial Services Inc.
Medallion Financial Corp. Freshstart Venture Capital Corp.
Bay View Capital Corporation Franchise Mortgage Acceptance Company
CIT Group Newcourt Credit Group Inc.
Heller Financial, Inc. Healthcare Financial Partners
American Express Company Rockford Industries, Inc.
Fidelity National Financial, Inc. Granite Financial, Inc.
74
Using publicly available information, A.G. Edwards compared the
transaction value of the selected precedent transactions as a multiple of LTM
revenue and total assets and the equity value to LTM net income, LTM NOI and
book value:
TRANSACTION VALUE EQUITY VALUE
------------------ ------------------------
LTM TOTAL LTM NET LTM BOOK
REVENUE ASSETS INCOME NOI VALUE
------- ------ ------ --- -----
MEAN 8.2x 1.2x 18.5x 12.1x 1.87x
MEDIAN 8.2x 1.0x 15.1x 11.1x 1.74x
In certain cases, the ranges for the precedent transaction multiples
excluded certain multiples deemed not meaningful by A.G. Edwards due to unusual
factors associated with one or more specific transaction(s). No transaction used
in the Analysis of Selected Precedent Transactions is identical to the proposed
merger. Because of the nature of the merger as a merger-of-equals between PMC
Capital and PMC Commercial, A.G. Edwards gave lesser weight to the precedent
transactions and observed multiples in its analysis.
The foregoing summary does not purport to be a complete description of
all the analyses performed by A.G. Edwards in arriving at its opinion. The
preparation of a fairness opinion is a complex process and is not susceptible to
partial analysis or summary description. In rendering the A.G. Edwards Opinion,
A.G. Edwards applied its judgment to a variety of complex analyses and
assumptions, considered the results of all of its analyses as a whole and did
not attribute any particular weight to any analysis or factor considered by it.
Furthermore, selecting any portion of its analyses, without considering all
analyses, would create an incomplete view of the process underlying the A.G.
Edwards Opinion. In addition, A.G. Edwards may have given various analyses and
factors more or less weight than other analyses and factors, and may have deemed
various assumptions more or less probable than other assumptions, so that the
ranges of valuations resulting from any particular analysis described above
should not be taken to be A.G. Edwards' view of the actual value of PMC Capital
and PMC Commercial. In performing its analyses, A.G. Edwards made numerous
assumptions with respect to industry performance, general business and economic
conditions and other matters, many of which are beyond the control of PMC
Capital or PMC Commercial. The assumptions made and judgments applied by A.G.
Edwards in rendering its opinion are not readily susceptible to description
beyond that set forth in the written text of the A.G. Edwards Opinion itself.
Any estimates contained in this section are not necessarily indicative of future
results or actual values, which may be significantly more or less favorable than
those suggested by such estimates. A.G. Edwards does not assume responsibility
if future results are different from those projected. The analyses performed
were prepared solely as part of A.G. Edwards' analysis of the fairness of the
exchange ratio, from a financial point of view, to PMC Capital shareholders and
were conducted in connection with the delivery of the A.G. Edwards Opinion. The
analyses do not purport to be appraisals or to reflect the prices at which PMC
Capital or PMC Commercial might actually be sold. As described above under "--
PMC Capital Reasons for the Merger" the A.G. Edwards Opinion to the PMC Capital
special committee and the PMC Capital board of directors was one of many factors
taken into consideration by the PMC Capital special committee and the PMC
Capital board of directors in making their recommendation and determination to
approve and adopt the merger agreement. Although A.G. Edwards provided advice to
the PMC Capital special committee during the course of the merger negotiations,
the decision to enter into the merger agreement and to accept the exchange ratio
was solely that of the PMC Capital board of directors. A.G. Edwards did not
recommend any specific exchange ratio to PMC Capital or that any specific
exchange ratio constituted the only appropriate exchange ratio for the merger.
A.G. Edwards, as part of its investment banking business, is regularly
engaged in the valuation of businesses and their securities in connection with
mergers and acquisitions, negotiated underwritings, competitive biddings,
secondary distributions of listed and unlisted securities, private placements
and valuations for estate, corporate and other purposes. A.G. Edwards is not
aware of any present or contemplated relationship between A.G. Edwards, PMC
Capital, PMC Capital's directors and officers or its shareholders, or PMC
Commercial, which in its opinion would affect its ability to render a fair and
independent opinion in this matter.
PMC Capital has agreed to pay A.G. Edwards a fee of $250,000 in
connection with the issuance of its opinion, of which $150,000 has been paid and
$100,000 is payable upon issuance of an updated opinion contemporaneous with the
consummation of the merger. In addition, PMC Capital has agreed to pay A.G.
Edwards
75
a fee for continuing advisory assistance in connection with the merger of
$25,000 per quarter, payable in advance, commencing April 1, 2003, and
terminating at such time as the merger is consummated or the engagement is
otherwise terminated. PMC Capital has also agreed to reimburse A.G. Edwards for
reasonable out-of-pocket expenses incurred in performing its services. In
addition, PMC Capital has agreed to indemnify A.G. Edwards and its affiliates,
their respective directors, officers, agents and employees and each person, if
any, controlling A.G. Edwards or any of its affiliates against certain
liabilities and expenses, including certain liabilities under the federal
securities laws, related to A.G. Edwards' engagement.
INTERESTS OF CERTAIN PERSONS IN THE MERGER
Members of PMC Capital's management, and the members of the PMC
Commercial board of trust managers and the members of the PMC Capital board of
directors, have interests in the merger that are different from or in addition
to or that may conflict with the interests they share with you as PMC Commercial
or PMC Capital shareholders. Currently, Lance B. Rosemore, President and Chief
Executive Officer, a significant shareholder and a director of PMC Capital,
Andrew S. Rosemore, Executive Vice President and Chief Operating Officer and a
significant shareholder of PMC Capital, and Martha R. Greenberg, a significant
shareholder and a director of PMC Capital, all currently serve as trust managers
of PMC Commercial and are all children of Fredric M. Rosemore, Chairman of the
Board of PMC Capital. Each of the current trust managers of PMC Commercial will
remain trust managers of the combined entity following the merger. In addition,
certain directors of PMC Capital will become trust managers of PMC Commercial
following the merger. All current executive officers of PMC Capital will become
employees of PMC Commercial following the merger.
As of _________, 2003, trust managers and officers of PMC Commercial
beneficially owned in the aggregate __________ shares of PMC Commercial,
representing __% of the outstanding PMC Commercial common shares. As of
_________, 2003, directors and officers of PMC Capital beneficially owned in the
aggregate _______ shares of PMC Capital common stock, representing ____% of the
outstanding shares. Upon completion of the merger, trust managers and officers
of PMC Commercial will beneficially own in the aggregate approximately
__________ common shares of PMC Commercial, representing __% of the outstanding
shares. The PMC Commercial and PMC Capital boards of trust managers and
directors were aware of these different interests and considered them, among
other matters, in approving the merger agreement and the merger.
EQUITY COMPENSATION PLANS
The merger agreement provides that, upon the completion of the merger,
each outstanding and unexercised stock option to purchase shares of PMC Capital
common stock granted under The PMC Capital Option Plan, will be converted into
an option to acquire common shares of PMC Commercial. Appropriate adjustments
will be made to the exercise price of, and number of shares subject to, each
stock option, in accordance with the exchange ratios. Following completion of
the merger, PMC Commercial plans to continue granting equity-based awards.
LISTING OF PMC COMMERCIAL COMMON SHARES
It is a condition to the completion of the merger that PMC Commercial
common shares issuable to PMC Capital shareholders pursuant to the merger
agreement be approved for listing on the American Stock Exchange.
TRANSFER AGENT AND REGISTRAR
The American Stock Transfer & Trust Company is the transfer agent and
registrar for PMC Commercial common shares as of the date of this joint proxy
statement/prospectus. The American Stock Transfer & Trust Company will continue
to be the transfer agent and registrar for PMC Commercial common shares
following completion of the merger.
DIVIDENDS
The most recent quarterly dividend declared by PMC Capital was $0.12
per share of PMC Capital common stock payable on July 14, 2003 to PMC Capital
shareholders of record as of June 30, 2003. The most recent
76
quarterly dividend declared by PMC Commercial was $0.38 per common share payable
on July 14, 2003 to PMC Commercial shareholders of record on June 30, 2003.
Under the merger agreement, (1) PMC Commercial is permitted, but not
obligated, to pay distributions to shareholders of regular quarterly dividends
up to $0.40 per PMC Commercial common share and (2) if PMC Capital is required
to make a special distribution prior to completion of the merger, PMC Commercial
is permitted and intends to make a similar distribution to its shareholders
adjusted by the exchange ratio prior to completion of the merger. Under the
merger agreement, (1) PMC Capital is permitted, but not obligated, to pay
distributions to its shareholders of regular quarterly dividends up to $0.12 per
share of PMC Capital common stock and (2) PMC Capital is obligated to make
sufficient distributions to cause PMC Capital to distribute 100% of its taxable
income for the taxable year ending on the closing date of the merger.
In order to qualify as a REIT for U.S. Federal income tax purposes, PMC
Commercial must distribute to its shareholders annually at least 90% of its
taxable income, excluding the retained earnings of its taxable REIT subsidiaries
and its net capital gain. It is anticipated that, after the completion of the
merger, PMC Commercial will maintain its existing dividend policy. The payment
of dividends by PMC Commercial, however, will be subject to approval and
declaration by the PMC Commercial board of trust managers, and will depend on a
variety of factors, including business, financial and regulatory considerations.
MATERIAL U.S. FEDERAL INCOME TAX CONSEQUENCES OF THE MERGER
The following general discussion summarizes the anticipated material
U.S. Federal income tax consequences of the merger to holders of shares of PMC
Capital common stock that exchange their shares for PMC Commercial common shares
in the merger. This discussion addresses only those PMC Capital shareholders
that hold their shares as a capital asset, and does not address all the U.S.
Federal income tax consequences that may be relevant to particular PMC Capital
shareholders in light of their individual circumstances or to PMC Capital
shareholders that are subject to special rules, such as:
- financial institutions;
- mutual funds;
- tax-exempt organizations;
- insurance companies;
- dealers in securities or foreign currencies;
- traders in securities that elect to apply a mark-to-market
method of accounting;
- foreign holders;
- persons that hold their shares as a hedge against currency
risk or as part of a straddle, constructive sale or conversion
transaction; or
- holders that acquired their shares upon the exercise of stock
options or otherwise as compensation.
The following discussion is not binding on the Internal Revenue Service
("IRS"). It is based upon the Internal Revenue Code, laws, regulations, rulings
and decisions in effect as of the date of this joint proxy statement/prospectus,
all of which are subject to change, possibly with retroactive effect. Tax
consequences under state, local and foreign laws, and U.S. federal laws other
than U.S. Federal income tax laws, are not addressed.
77
HOLDERS OF PMC CAPITAL COMMON STOCK ARE STRONGLY URGED TO CONSULT THEIR
TAX ADVISORS AS TO THE SPECIFIC TAX CONSEQUENCES TO THEM OF THE MERGER,
INCLUDING THE APPLICABILITY AND EFFECT OF U.S. FEDERAL, STATE AND LOCAL AND
FOREIGN INCOME AND OTHER TAX LAWS IN THEIR PARTICULAR CIRCUMSTANCES.
The parties have structured the merger so that it is anticipated that
the merger will be a reorganization for U.S. Federal income tax purposes. It is
a condition to the completion of the merger that PMC Commercial receive an
opinion from Locke Liddell & Sapp and PMC Capital receive an opinion of
Sutherland, in each case dated the closing date of the merger, to the effect
that the merger of PMC Capital with and into PMC Commercial will qualify as a
reorganization within the meaning of Section 368(a) of the Internal Revenue
Code. The opinions will be based on customary assumptions and customary
representations made by, among others, PMC Capital and PMC Commercial. An
opinion of counsel represents counsel's best legal judgment and is not binding
on the IRS or any court. No ruling has been, or will be, sought from the IRS as
to the U.S. Federal income tax consequences of the merger. If any of the factual
assumptions or representations relied upon in the opinions of counsel are
inaccurate, the opinions may not accurately describe the tax treatment of the
merger, and this discussion may not accurately describe the tax consequences of
the merger.
Assuming that the merger qualifies as a reorganization, holders of
shares of PMC Capital common stock that exchange their shares for PMC Commercial
common shares in the merger will not recognize gain or loss for U.S. Federal
income tax purposes (except with respect to any cash received by holders of
shares of PMC Capital common stock instead of a fractional PMC Commercial common
share). Each holder's aggregate tax basis in PMC Commercial common shares
received in the merger will be the same as that holder's aggregate tax basis in
PMC Capital common stock surrendered in the merger in exchange therefor,
decreased by the amount of any tax basis allocable to any fractional share
interest for which cash is received. The holding period of the PMC Commercial
common shares received in the merger by a holder of PMC Capital common stock
will include the holding period of PMC Capital common stock that the holder
surrendered in the merger in exchange therefor. Neither PMC Commercial nor PMC
Capital will recognize gain or loss solely as a result of the merger.
A holder of PMC Capital common stock that receives cash in lieu of a
fractional share of PMC Capital common stock will recognize gain or loss equal
to the difference between the amount of cash received and that holder's tax
basis in PMC Capital common stock that is allocable to the fractional share of
PMC Capital common stock. That gain or loss generally will constitute capital
gain or loss. In the case of an individual shareholder, any capital gain
generally will be long-term capital gain, subject to tax at a maximum rate of
15%, if the individual has held his or her PMC Capital common stock for more
than one year on the closing date of the merger. The deductibility of capital
losses is subject to limitations for both individuals and corporations.
A successful IRS challenge to the reorganization status of the merger
would result in a holder of PMC Capital common stock recognizing gain or loss
with respect to each share of PMC Capital common stock surrendered equal to the
difference between the shareholder's basis in such share and the fair market
value, as of the effective time, of the PMC Commercial common shares received in
exchange therefor. In that case, a shareholder's aggregate basis in the PMC
Commercial common shares so received would equal such fair market value and his
or her holding period for such stock would begin the day after the merger.
Holders of PMC Capital common stock will be required to attach a
statement to their tax returns for the year of the merger that contains the
information listed in Treasury Regulation Section 1.368-3(b). Such statement
must include the shareholder's tax basis in the shareholder's PMC Capital common
stock and a description of the PMC Commercial common shares received.
Payments to holders of PMC Capital common stock in connection with the
merger may be subject to "backup withholding" at a rate of 28%, unless a holder
(1) provides a correct taxpayer identification number (which, for an individual
shareholder, is the shareholder's social security number) and any other required
information to the exchange agent, or (2) is a corporation or comes within
certain exempt categories and, when required, demonstrates that fact and
otherwise complies with applicable requirements of the backup withholding rules.
A PMC Capital shareholder who does not provide a correct taxpayer identification
number may be subject to penalties imposed by the IRS. Any amount paid as backup
withholding does not constitute an additional tax and will be creditable against
the shareholder's U.S. Federal income tax liability.
78
ACCOUNTING TREATMENT
The merger will be accounted for as a purchase of PMC Capital by PMC
Commercial in accordance with SFAS No. 141, "Business Combinations" ("SFAS No.
141"). In accordance with the purchase method of accounting, the purchase price
is allocated to the assets acquired and liabilities assumed based on their
estimated fair values at the date of acquisition. The excess of purchase price
over the net assets acquired and separately recognized intangible assets, if
any, is allocated to goodwill. If the net assets acquired exceed the purchase
price, that excess is allocated as a pro rata reduction of amounts that
otherwise would have been assigned to certain acquired assets and the remaining
excess, if any, will be recognized as an extraordinary gain in the period the
merger is completed. In connection with the merger of PMC Capital and PMC
Commercial, the net assets acquired exceed the purchase price, and accordingly,
an extraordinary gain will be recorded. Based on PMC Commercial's preliminary
purchase price allocation as of June 30, 2003, an extraordinary gain in the
amount of approximately $14 million will be recorded by PMC Commercial in the
period the merger is completed.
PMC Commercial's allocation of purchase price may change depending upon
whether PMCIC continues to maintain its current capital structure, which
includes preferred stock. As described under "PMC Commercial Business--PMC
Commercial's Business Following the Merger" in this joint proxy
statement/prospectus, management is currently exploring several alternatives
relating to the preferred stock of PMCIC.
REGULATORY MATTERS
Certain regulatory requirements imposed by U.S. regulatory authorities,
including the SBA, must be complied with before the merger is completed. PMC
Commercial and PMC Capital are not aware of any material governmental consents
or approvals that are required prior to the completion of the merger other than
those described below. PMC Commercial and PMC Capital have agreed that, if any
additional governmental consents and approvals are required, PMC Commercial and
PMC Capital each will use commercially reasonable efforts to obtain these
consents and approvals.
SBA regulations require the prior written consent of the SBA to the
extent a change of control will occur. Certain subsidiaries of PMC Capital are
subject to SBA regulation, and to the extent required, will seek the consent of
the SBA. There can be no assurance that the SBA consent will be received or that
it will contain requirements and conditions that are acceptable to PMC
Commercial and PMC Capital.
In addition, the merger is contingent upon the SEC granting certain
exemptive relief under the 1940 Act that will be requested in an application to
be submitted to the SEC (the "Application"). In the Application, PMC Capital,
PMC Commercial, PMC Advisers, Ltd., PMCIC, Western Financial, and First Western,
which are affiliated parties, request an order (the "Order") from the SEC
permitting these entities to engage in a series of transactions that will result
in the merger.
The exemptive relief requested in the Application is expected to be
granted only after the solicitation of proxies from the stockholders of PMC
Capital and PMC Commercial has begun. However, the board of trust managers of
PMC Commercial and the board of directors of PMC Capital expect that the relief
requested will be granted. The SEC previously has granted relief to permit
mergers that are similar to the proposed merger, and although there can be no
assurance that such relief will be granted in this case, there is no indication
that they will decline to grant such relief.
The merger is also subject to the approval of or notice to certain
state and self-regulating authorities. PMC Commercial and PMC Capital conduct
operations in a number of jurisdictions where other regulatory filings or
approvals may be required or advisable in connection with the completion of the
merger. Under the merger agreement, PMC Commercial and PMC Capital are required
to obtain these approvals prior to completing the merger, unless the failure to
obtain the approvals would not have a material adverse effect on PMC Capital and
PMC Commercial after completion of the merger. PMC Commercial and PMC Capital
are currently reviewing whether filings or approvals may be required or
advisable in those jurisdictions that may be material to PMC Commercial and PMC
Capital and have made or will make regulatory filings in those jurisdictions.
79
It is possible that any of the regulatory authorities with which
filings are made may seek regulatory concessions as conditions for granting
approval of the merger. Under the merger agreement, each of PMC Commercial and
PMC Capital agreed to use its commercially reasonable efforts to complete the
merger, including to obtain other required approvals. However, neither PMC
Commercial nor PMC Capital nor any of their respective subsidiaries is required
to hold separate or divest any of their businesses or assets, or to take, or to
agree to take, any action or agree to any limitation that could reasonably be
expected to have a material adverse effect on their respective companies after
giving effect to the merger or to impair substantially the benefits that PMC
Commercial and PMC Capital expected to realize from the merger at the time they
entered into the merger agreement.
Although PMC Commercial and PMC Capital do not expect regulatory
authorities to raise any significant objections in connection with their review
of the merger, PMC Commercial and PMC Capital cannot assure you that they will
obtain all required regulatory approvals or that these regulatory approvals will
not contain terms, conditions or restrictions that would be detrimental to PMC
Capital and PMC Commercial after the completion of the merger.
DISSENTERS' RIGHTS
Under Texas and Florida law, neither PMC Commercial shareholders, nor
PMC Capital shareholders will have any dissenters' rights as a result of the
merger or any other proposal to be voted upon at the annual meetings.
RESALE OF PMC COMMERCIAL COMMON SHARES
The PMC Commercial common shares issued in the merger will not be
subject to any restrictions on transfer arising under the Securities Act, except
for shares of the PMC Commercial common shares issued to any PMC Capital
shareholder that is, or is expected to be, an "affiliate" of PMC Capital, as
applicable, for purposes of Rule 145 under the Securities Act. Persons that may
be deemed to be affiliates of PMC Capital for those purposes generally include
individuals or entities that control, are controlled by, or are under common
control with, PMC Capital, and include the directors of PMC Capital. PMC
Commercial common shares issued to an affiliate generally must be sold in
compliance with all of the requirements of Rule 145, or pursuant to another
exemption from registration under the Securities Act. Rule 145 restricts the
sale of PMC Commercial common shares received in the merger by such affiliates
of PMC Capital and certain of the family members and related entities.
This joint proxy statement/prospectus does not cover resales of the PMC
Commercial common shares received by any person upon completion of the merger,
and no person is authorized to make any use of this joint proxy
statement/prospectus in connection with any resale.
80
DESCRIPTION OF THE MERGER AGREEMENT
The following summary of the merger agreement is qualified by reference
to the complete text of the merger agreement, which is attached as Annex A to
this joint proxy statement/prospectus and is incorporated by reference in this
joint proxy statement/prospectus.
STRUCTURE OF THE MERGER
Subject to the terms and conditions of the merger agreement, PMC
Capital will be merged with and into PMC Commercial and the separate corporate
existence of PMC Capital will cease. PMC Commercial will be the surviving entity
and will succeed to and assume all of the rights and obligations of PMC Capital.
CLOSING; COMPLETION OF THE MERGER
The completion of the merger, if approved, will occur no later than the
second business day after the satisfaction or waiver of the conditions set forth
in the merger agreement or at another date or time as may be agreed to in
writing by PMC Commercial and PMC Capital. If the merger agreement is approved
at the annual meetings, PMC Commercial and PMC Capital expect to complete the
merger during the first quarter of 2004 to be effective as of January 1, 2004,
but in no event later than February 29, 2004. PMC Commercial and PMC Capital are
working towards a January 1, 2004 closing date to minimize certain tax risks.
MERGER CONSIDERATION
If the merger is completed, holders of shares of PMC Capital common
stock will receive, for each share of PMC Capital common stock issued and
outstanding immediately before completion of the merger at the time of
completion of the merger, 0.37 shares of common stock and cash in lieu of
fractional shares.
Holders of shares of PMC Capital common stock will not receive
certificates representing fractional shares of PMC Commercial. Instead, each PMC
Capital common shareholder otherwise entitled to a fractional share interest in
PMC Commercial will be paid an amount in cash equal to the holder's
proportionate interest in the net proceeds from the sale or sales in the open
market by the exchange agent, on behalf of all those holders, of the aggregate
fractional shares of common beneficial interest in PMC Commercial that would
have otherwise been issued.
After the effective time of the merger, there will be no further
registration of transfers on the stock transfer books of PMC Capital or its
transfer agent of the PMC Capital common shares that were outstanding
immediately prior to the effective time of the merger. Upon completion of the
merger, the outstanding shares of PMC Capital common stock will evidence only
the right to receive the merger consideration, and shares of PMC Capital will be
cancelled and will cease to exist.
EXCHANGE OF PMC CAPITAL STOCK CERTIFICATES FOR PMC COMMERCIAL SHARE CERTIFICATES
PMC Commercial and PMC Capital have appointed The American Stock
Transfer & Trust Company to act as exchange agent for the purpose of paying the
merger consideration in the merger. PMC Commercial will make available to the
exchange agent, upon or before the completion of the merger, PMC Commercial
common shares for that purpose.
As soon as practicable after the completion of the merger, the exchange
agent will mail to each holder of record of outstanding PMC Capital common
stock, a letter of transmittal describing (1) the merger consideration to be
issued to the holder and (2) the procedures for surrendering stock certificates
in exchange for new certificates representing PMC Commercial common shares.
Following completion of the merger, PMC Commercial will not make any
distributions to any holder of record of PMC Capital common stock until such
holder surrenders such holder's stock certificates in exchange for new
certificates representing PMC Commercial common shares.
81
TREATMENT OF PMC CAPITAL STOCK OPTIONS
Upon completion of the merger, each outstanding and unexercised option
to purchase PMC Capital common stock will be automatically converted into an
option to purchase PMC Commercial common shares. The substituted PMC Commercial
share option will permit its holder to purchase a number of PMC Commercial
common shares equal to the number of shares of PMC Capital common stock that
could have been purchased under the corresponding PMC Capital stock option
multiplied by 0.37 (rounded down to the nearest whole share). The exercise price
per share of PMC Commercial common shares of the substituted option will be
equal to the per-share option exercise price specified in the PMC Capital stock
option divided by 0.37 (rounded up to the nearest whole cent).
BOARD OF TRUST MANAGERS AND OFFICERS OF PMC COMMERCIAL
The trust managers of PMC Commercial immediately following completion
of the merger will consist of the following current members of the PMC
Commercial and PMC Capital boards of trust managers or directors, as the case
may be: Nathan G. Cohen, Martha R. Greenberg, Roy H. Greenberg, Thomas Hamill,
Barry A. Imber, Irving Munn, Andrew S. Rosemore, Fredric M. Rosemore, Lance B.
Rosemore, Theodore J. Samuel and Ira Silver. Each of these individuals will hold
office until the earlier of the trust manager's resignation or removal or until
a successor is duly elected and qualified, as the case may be. The officers of
PMC Commercial immediately prior to the completion of the merger will be the
initial officers of PMC Commercial following completion of the merger, each to
hold office until the earlier of the officer's resignation or removal or until a
successor is duly elected and qualified, as the case may be.
REPRESENTATIONS AND WARRANTIES OF PMC CAPITAL AND PMC COMMERCIAL
The merger agreement contains customary representations and warranties
by each of PMC Capital and PMC Commercial relating to, among other things:
- due organization, valid existence and, with respect to PMC
Capital, good standing;
- authorization to enter into the merger agreement and required
shareholder approvals to complete the merger;
- enforceability of the merger agreement;
- compliance with SEC reporting requirements;
- required governmental consents;
- no breach of organizational documents or material agreements
as a result of the merger agreement or the completion of the
merger;
- receipt of opinion of financial advisors;
- payment of fees of brokers, finders and investment bankers;
- accuracy of information contained in the documents to be filed
with the SEC;
- capital structure and subsidiaries;
- absence of defaults under certain contracts;
- exemption from anti-takeover statutes;
82
- tax matters (including qualification as a REIT for PMC
Commercial and qualification as a RIC for PMC Capital);
- permits and licenses;
- compliance with laws;
- no changes since December 31, 2002 that would have a material
adverse effect;
- no material legal proceedings;
- environmental matters;
- ownership of real property;
- disclosure of related party transactions; and
- no material undisclosed liabilities.
The merger agreement also contains additional customary representations
and warranties made by PMC Capital relating to, among other things: employee
matters, including appropriate funding of employee benefit plans, compliance
with applicable regulations and no payments to employees, officers or directors
on a change of control.
CONDUCT OF BUSINESS OF PMC CAPITAL AND PMC COMMERCIAL PENDING THE MERGER
Under the merger agreement, each of PMC Capital and PMC Commercial has
agreed that, during the period before the completion of the merger, except as
expressly contemplated by the merger agreement, it will, and will cause (or in
the case of subsidiaries that PMC Capital or PMC Commercial, as applicable, does
not control, will use commercially reasonable efforts to cause) its subsidiaries
to:
- conduct its operations only in the ordinary course of business
consistent with past practice; and
- seek to preserve intact its current business organizations,
goodwill and ongoing businesses.
In addition, pending the merger, each of PMC Capital and PMC Commercial
has agreed that, without the other party's written consent or except as
otherwise expressly contemplated by the merger agreement, it will not, and will
cause (or in the case of subsidiaries that PMC Capital or PMC Commercial, as
applicable, does not control, will use commercially reasonable efforts to cause)
its subsidiaries not to, among other things:
- amend its organizational documents;
- except as required pursuant to the exercise of options or the
issuance of shares pursuant to share rights or warrants
outstanding on the date of the merger agreement, issue,
deliver or sell or grant any option or other right in respect
of, any capital shares, any other voting securities or any
securities convertible into, or any rights, warrants or
options to acquire, any such shares, voting securities or
convertible securities except to itself or one of its
subsidiaries;
- split, combine or reclassify any of its shares or partnership
interests or issue or authorize the issuance of any other
securities in respect of, in lieu of or in substitution for
such shares or partnership interests or purchase, redeem or
otherwise acquire any of its shares or options, warrants or
rights to acquire, or security convertible into, such shares;
- declare, set aside or pay any dividend or make any other
distribution in respect of its capital stock, except that PMC
Capital may make distributions equal to (1) PMC Capital's
regular quarterly
83
dividends not in excess of $0.12 per share of PMC Capital
common stock in each case with the same record and payment
dates as the record and payment dates relating to dividends on
the PMC Commercial common shares during such calendar
quarters, and (2) such distributions as may be required to
cause PMC Capital to eliminate any federal tax liability for
its taxable year ending on the closing date of the merger;
- declare, set aside or pay any dividend or make any other
distribution in respect of its shares, except that PMC
Commercial may make distributions equal to (1) PMC
Commercial's regular quarterly dividends not in excess of
$0.40 per share of PMC Commercial common shares, and (2) in
the event that PMC Capital declares a final dividend to
eliminate any U.S. Federal income tax liability for its
taxable year ending on the closing date of the merger, PMC
Commercial will declare a dividend per common share in an
amount per share equal to the quotient obtained by dividing
(a) the final dividend per share to be paid by PMC Capital by
(b) 0.37, the merger exchange ratio;
- take any action, or omit to take any action, which action or
omission would result in PMC Capital no longer qualifying as a
RIC or PMC Commercial no longer qualifying as a REIT or would
subject PMC Capital or PMC Commercial to any U.S. Federal
income or excise tax;
- sell or otherwise dispose of any asset or property except in
the ordinary course of business consistent with past practice;
- amend any material contract, instrument or other agreement;
- acquire any assets other than in the ordinary course of
business or merge or consolidate with any person;
- incur in any transaction or series of related transactions,
any liabilities in excess of $5,000,000;
- settle any shareholder derivative or class action claims
arising out of or in connection with the merger or
transactions contemplated by the merger agreement; or
- adopt any new employee benefit plan, incentive plan, severance
plan, stock option or similar plan, grant new stock
appreciation rights or amend any existing plans or rights,
except such changes as are required by law or which are not
more favorable to participants than provisions presently in
effect.
ADDITIONAL COVENANTS PENDING COMPLETION OF THE MERGER
Each of PMC Capital and PMC Commercial has agreed that it will, among
other things:
- use commercially reasonable efforts to cause the completion of
the merger;
- take all necessary actions in case at any time after the
completion of the merger any further action is necessary to
carry out the purposes of the merger agreement;
- use commercially reasonable efforts to obtain in writing any
consents required from third parties necessary to effectuate
the merger and take, or cause to be taken, all other action
and do, or cause to be done, all other things necessary,
proper or appropriate to consummate and make effective the
transactions contemplated by the merger agreement;
- cooperate with each other with respect to determining what
filings are required and what consents, approvals and
authorizations of regulatory authorities and other third
parties are necessary or
84
advisable to consummate the transactions contemplated by the
merger agreement and timely making all such filings and
seeking such consents, approvals and authorizations;
- consult with each other and give each other reasonable advance
notice and opportunity to review and comment upon any press
release or other public statements with respect to the
transactions contemplated by the merger agreement;
- cooperate in the prompt preparation and the filing with the
SEC of the registration statement on Form S-4 of which this
joint proxy statement/prospectus forms a part;
- take all actions necessary in accordance with applicable law
and its articles of incorporation and bylaws to convene a
meeting of its shareholders as promptly as practicable to
consider and vote upon the transactions contemplated by the
merger agreement;
- use reasonable best efforts to cause the merger to qualify as
a reorganization under the provisions of Section 368(a) of the
Internal Revenue Code;
- PMC Commercial will take all actions necessary to increase the
number of trust managers of PMC Commercial from seven trust
managers to eleven trust managers; and
- promptly advise the other party if (1) any of its
representations or warranties contained in the merger
agreement that is qualified as to materiality becomes untrue
or inaccurate in any respect or any representation or warranty
that is not so qualified becomes untrue or inaccurate in any
material respect or (2) its failure to comply with or satisfy
in any material respect any covenant, condition or agreement
to be complied with or satisfied by it under the merger
agreement.
PMC Capital has agreed further that it will, among other things:
include in this joint proxy statement/prospectus the recommendation of the PMC
Capital board of directors that PMC Capital shareholders approve the merger
agreement and the transactions contemplated by the merger agreement, provided
that the recommendation of PMC Capital's board of directors may be withdrawn if
the board of directors has accepted a proposal for a superior competing
transaction (as discussed below).
PMC Commercial has agreed further that it will, among other things:
- include in this joint proxy statement/prospectus the
recommendation of the PMC Commercial board of trust managers
that PMC Commercial shareholders approve the merger agreement
and the transactions contemplated by the merger agreement,
provided that the recommendation of PMC Commercial's board of
trust managers may be withdrawn if the board of trust managers
has accepted a proposal for a superior competing transaction
(as discussed below);
- declare and pay to its shareholders any dividend in an amount
sufficient to comply with Section 857(a)(2) of the Internal
Revenue Code for its 2003 taxable year;
- take all actions necessary and appropriate to complete the
merger, including, causing the PMC Commercial shares to be
issued in the merger to be approved for listing on the
American Stock Exchange; and
- assume the bonus, pension, profit sharing, deferred
compensation, incentive compensation, stock ownership, stock
purchase, stock option, phantom stock, retirement, vacation,
severance, disability, death benefit, medical and other
employee benefit plans of PMC Capital.
PRE-MERGER DIVIDENDS
Under the merger agreement, (1) PMC Capital is permitted to pay its
regular quarterly dividends not in excess of $0.12 per share of PMC Capital
common stock, and (2) PMC Capital is obligated to make sufficient
85
distributions to eliminate any U.S. Federal income tax liability for its taxable
year ending on the closing date of the merger. On June 18, 2003, PMC Capital
declared a quarterly dividend of $0.12 per share of PMC Capital common stock
payable on July 14, 2003 to PMC Capital shareholders of record as of June 30,
2003. PMC Capital expects to continue to pay regular quarterly dividends for
additional quarterly periods ending before the completion of the merger.
Under the merger agreement, (1) PMC Commercial is permitted to make its
regular quarterly distributions not in excess of $0.40 per share of PMC
Commercial common shares, and (2) in the event that PMC Capital declares a final
dividend to eliminate any federal tax liability for its taxable year ending on
the closing date of the merger, PMC Commercial is permitted and intends to
declare a dividend per common share in an amount per share equal to the quotient
obtained by dividing (a) the final dividend per share to be paid by PMC Capital
by (b) 0.37, the merger exchange ratio. On June 18, 2003, PMC Commercial
declared a quarterly dividend of $0.38 per PMC Commercial common share payable
on July 14, 2003 to PMC Commercial shareholders of record as of June 30, 2003.
PMC Commercial expects to continue to pay regular quarterly dividends for
additional quarterly periods ending before the completion of the merger.
CONDITIONS TO THE MERGER
CONDITIONS TO EACH PARTY'S OBLIGATIONS TO EFFECT THE MERGER
The obligations of PMC Capital and PMC Commercial to complete the
merger are subject to the satisfaction or, where permissible, waiver of the
following conditions:
- approval of the merger agreement by PMC Capital shareholders
and PMC Commercial shareholders;
- each of PMC Capital and PMC Commercial will have received an
opinion from Locke Liddell & Sapp, dated the closing date of
the merger, (1) relating to the REIT status of PMC Commercial
for all taxable years of PMC Commercial for which the U.S.
Federal income tax statutory periods of limitations have not
expired, and (2) that the merger will qualify as a
reorganization under the provisions of Section 368(a) of the
Internal Revenue Code;
- the registration statement on Form S-4 of which this joint
proxy statement/prospectus forms a part will have become
effective and will not be the subject of any stop order or
proceedings by the SEC seeking a stop order;
- the American Stock Exchange will have approved for listing the
shares of PMC Commercial to be issued in the merger;
- the PMC Capital voting agreement and the PMC Commercial voting
agreement will remain in full force and effect and the
respective transactions contemplated thereby will have been
consummated prior to, or are being consummated simultaneously
with, the merger;
- all approvals, consents and authorizations of, filings and
registrations with, and applications and notifications to all
third parties and regulatory authorities required for the
completion of the merger will have been obtained or made and
will be in full force and effect and all waiting periods
required by applicable law will have expired; and
- no temporary restraining order, preliminary or permanent
injunction or other order issued by any court of competent
jurisdiction or other legal restraint or prohibition
preventing the consummation of the merger or any of the other
transactions shall be in effect.
As used in the merger agreement, "material adverse effect," when used
in reference to PMC Capital or PMC Commercial, means any change or effect that,
individually or in the aggregate, would have a material adverse effect on the
business, properties, assets, financial condition or results of operations of
PMC Capital or PMC
86
Commercial, as the case may be, and its subsidiaries taken as a whole, but
excluding therefrom any such change, effect, event, occurrence or state of facts
resulting from or arising in connection with (a) changes or conditions generally
affecting the industries in which PMC Capital or PMC Commercial, as the case may
be, operates, (b) the merger agreement, the transactions contemplated thereby or
the announcement thereof or (c) any change or effect resulting from any change
in general economic conditions.
CONDITIONS TO THE OBLIGATIONS OF PMC CAPITAL TO EFFECT THE MERGER
The obligations of PMC Capital to complete the merger are subject to
the satisfaction or, where permissible, waiver of the following conditions:
- material accuracy of the representations and warranties of PMC
Commercial contained in the merger agreement. This condition
will be deemed satisfied unless any or all breaches of PMC
Commercial's representations and warranties in the merger
agreement (without giving effect to any materiality
qualification or limitation) is reasonably expected to have a
material adverse effect on PMC Commercial;
- PMC Commercial shall have performed in all material respects
all obligations required to be performed by it under the
merger agreement at or prior to the effective time of the
merger, and PMC Capital shall have received a certificate of
PMC Commercial signed on behalf of PMC Commercial by the chief
executive officer or chief financial officer of PMC Commercial
to such effect;
- since the date of the merger agreement, there shall have been
no change that would have a material adverse effect on PMC
Commercial, and PMC Capital shall have received a certificate
of PMC Commercial signed on behalf of PMC Commercial by the
chief executive officer or chief financial officer of PMC
Commercial to such effect; and
- all consents and waivers (including, without limitation,
waivers or rights of first refusal) from third parties
necessary in connection with the consummation of the merger
and related transactions shall have been obtained, other than
such consents and waivers from third parties, which, if not
obtained, would not have a material adverse effect on PMC
Commercial.
CONDITIONS TO THE OBLIGATIONS OF PMC COMMERCIAL TO EFFECT THE MERGER
The obligations of PMC Commercial to complete the merger are subject to
the satisfaction or, where permissible, waiver of the following conditions:
- material accuracy of the representations and warranties of PMC
Capital contained in the merger agreement. This condition
shall be deemed satisfied unless any or all breaches of PMC
Capital's representations and warranties in the merger
agreement (without giving effect to any materiality
qualification or limitation) is reasonably expected to have a
material adverse effect on PMC Capital;
- PMC Capital shall have performed in all material respects all
obligations required to be performed by it under the merger
agreement at or prior to the effective time of the merger, and
PMC Commercial shall have received a certificate of PMC
Capital signed on behalf of PMC Capital by the chief executive
officer or chief financial officer of PMC Capital to such
effect;
- since the date of the merger agreement, there shall have been
no change that would have a material adverse effect on PMC
Capital, and PMC Commercial shall have received a certificate
of PMC Capital signed on behalf of PMC Capital by the chief
executive officer or chief financial officer of PMC Capital to
such effect;
87
- PMC Commercial shall have received an opinion of Sutherland,
dated as of the closing date of the merger, as to the RIC
status of PMC Capital for all taxable years of PMC Capital for
which the applicable U.S. Federal income tax statutory periods
of limitations have not expired; and
- all consents and waivers from third parties necessary in
connection with the consummation of the merger transactions
shall have been obtained, other than such consents and waivers
from third parties, which, if not obtained, would not result,
individually or in the aggregate, in a material adverse effect
on PMC Capital.
NO SOLICITATION BY PMC CAPITAL OR PMC COMMERCIAL
Each of PMC Capital and PMC Commercial has agreed that, except as
described below, it will not, and will use its commercially reasonable efforts
to cause its officers, directors, employees, affiliates, agents and
representatives not to, initiate, solicit or encourage (including by way of
furnishing non-public information or assistance) any inquiries or the making of
any proposal that constitutes, or may reasonably be expected to lead to any
competing transaction. PMC Capital and PMC Commercial have each agreed to
immediately cease and cause to be terminated any existing activities,
discussions or negotiations with any parties previously conducted with respect
to any competing transaction and have agreed to take the steps necessary to
inform such parties of the obligations undertaken under the merger agreement in
respect of any competing transaction. PMC Capital and PMC Commercial have each
agreed to notify the other in writing (as promptly as practicable) if it
receives any inquiries, proposals or requests for information relating to such
matters.
For purposes of the merger agreement, a "competing transaction" means
any of the following (other than the transactions contemplated by the merger
agreement) with respect to PMC Capital or PMC Commercial, as applicable, or any
of its material subsidiaries:
- any sale, lease, exchange, mortgage, pledge, transfer or other
disposition of 20% or more of the assets or equity securities
in a single transaction or series of related transactions
other than pursuant to the joint structured loan sale
transaction PMC Capital and PMC Commercial propose to complete
during the third quarter of 2003;
- any tender offer or exchange offer for 20% or more of the
outstanding shares of its capital stock or shares;
- any transaction resulting in the issuance of shares
representing 20% or more of its outstanding capital stock or
shares, or the filing of a registration statement under the
Securities Act in connection with the proposed transaction; or
- any public announcements of a proposal, plan or intention to
do any of the foregoing or any agreement to engage in any of
the foregoing.
However, to the extent required by the fiduciary obligations of its
board of directors or board of trust managers, as applicable, as determined in
good faith after consultation with its outside legal counsel and financial
advisors, PMC Capital or PMC Commercial, or its board of directors or board of
trust managers, as applicable, may:
- take and disclose to its shareholders, a position complying
with Rule 14e-2(a) promulgated under the Exchange Act with
respect to a competing transaction;
- make any disclosure to its shareholders, if, in the opinion of
its board of directors or its board of trust managers, as
applicable, after receiving advice of outside legal counsel,
such disclosure is required to be made under applicable law;
- in response to an unsolicited request, participate in
discussions or negotiations with, or furnish information to a
third party pursuant to a confidentiality agreement with the
third party on terms not materially less favorable to it than
the terms of the confidentiality provisions contained in the
88
merger agreement (as determined by outside counsel) or
otherwise respond to or deal with any person in connection
with a competing transaction proposed by such person; and
- approve or recommend (and in connection therewith withdraw or
modify its approval or recommendation of the merger agreement
or the merger) a superior competing transaction (as defined
below) and enter into an agreement with respect to such
superior competing transaction.
For purposes of the merger agreement, a "superior competing
transaction" means, with respect to PMC Capital or PMC Commercial, any bona fide
proposal relating to a competing transaction made by a third party which has not
been solicited or initiated by PMC Capital or PMC Commercial, as applicable,
that is on terms which its board of directors or its board of trust managers, as
applicable, determines, in its good faith judgment, (1) to be more favorable to
its shareholders from a financial point of view than the merger and (2) is
reasonably capable of being consummated.
However, prior to or concurrently with the execution of any agreement
relating to a superior competing transaction, PMC Capital or PMC Commercial, as
applicable, must terminate the merger agreement under the terms of the merger
agreement and pay, or cause to be paid, to the other party the termination fee
discussed under "-- Expenses; Termination Fees."
TERMINATION OF THE MERGER AGREEMENT
RIGHT TO TERMINATE
The merger agreement may be terminated at any time before completion of
the merger, whether before or after approval of the merger agreement and the
merger by PMC Capital shareholders or PMC Commercial shareholders, as follows:
- by mutual written consent of PMC Capital and PMC Commercial;
- by either PMC Capital or PMC Commercial if:
- any regulatory authority of competent jurisdiction
issues a judgment, injunction, order, decree, or
action permanently restraining, enjoining or
otherwise prohibiting the merger, and the judgment,
injunction, order, decree or other action becomes
final and nonappealable;
- the merger is not completed prior to February 29,
2004, except that neither PMC Capital nor PMC
Commercial may terminate the merger agreement if its
willful and material breach is the reason that the
merger has not been completed; or
- the required approval of the merger agreement by PMC
Capital shareholders or PMC Commercial shareholders
is not obtained at the applicable special meeting.
- by PMC Capital:
- if, prior to the PMC Capital shareholders meeting,
the PMC Capital board of directors has withdrawn or
modified in any manner adverse to PMC Commercial its
approval or recommendation of the merger or the
merger agreement in connection with, or approved or
recommended, a superior competing transaction and PMC
Capital has paid to PMC Commercial the termination
fee discussed under "-- Expenses; Termination Fees --
PMC Capital Termination Fee;
- if, prior to the PMC Commercial shareholders meeting,
the PMC Commercial board of trust managers has
withdrawn or modified in any manner adverse to PMC
Commercial its approval or recommendation of the
merger or the merger agreement in connection with,
89
or approved or recommended, a superior competing
transaction or PMC Commercial shall have entered into
a definitive agreement with respect to any competing
transaction; or
- upon a violation or breach by PMC Commercial of any
agreement, covenant, representation or warranty or if
any representation or warranty of PMC Commercial
shall have become untrue, in either case so that the
conditions to the completion of the merger would be
incapable of being satisfied by the closing date and
such violation or breach has not been waived by PMC
Capital; or
- by PMC Commercial:
- if, prior to the PMC Commercial shareholders meeting,
the PMC Commercial board of trust managers has
withdrawn or modified in any manner adverse to PMC
Capital its approval or recommendation of the merger
or the merger agreement in connection with, or
approved or recommended a superior competing
transaction or PMC Commercial has paid PMC Capital
the termination fee discussed under "-- Expenses;
Termination Fees -- PMC Commercial Termination Fee;"
- if, prior to the PMC Capital shareholders meeting,
the PMC Capital board of directors has withdrawn or
modified in any manner adverse to PMC Commercial its
approval or recommendation of the merger or the
merger agreement in connection with, or approved or
recommended, a superior competing transaction or PMC
Capital shall have entered into a definitive
agreement with respect to any competing transaction;
or
- upon a violation or breach by PMC Capital of any
agreement, covenant, representation or warranty
contained in the merger agreement or if any
representation or warranty of PMC Capital shall have
become untrue, in either case so that the conditions
to the completion of the merger would be incapable of
being satisfied by the closing date and such
violation or breach has not been waived by PMC
Commercial.
Because the parties expect that all conditions to the merger other than
shareholder approval are likely to be satisfied prior to the special meetings,
the parties anticipate that in the event either party is entitled to terminate
the agreement pursuant to the provisions described above, such party would
decide whether to exercise or waive that termination right as soon as possible
following the special meetings, or, if later, as soon as possible following the
satisfaction of all of the other conditions to closing contained in the merger
agreement.
EFFECT OF TERMINATION
Except for provisions in the merger agreement regarding confidentiality
and payment of fees and expenses, the effect of termination and specified
miscellaneous provisions, if the merger agreement is terminated as described
above, the merger agreement will become void and have no effect. In addition, if
the merger agreement is so terminated, there will be no liability on the part of
PMC Capital, PMC Commercial or their respective affiliates, directors, officers
or shareholders, except to the extent that the termination results from a
material breach by a party of its representations, warranties, covenants or
agreements set forth in the merger agreement.
EXPENSES; TERMINATION FEES
Except as described below, each party to the merger agreement will bear
its own fees and expenses in connection with the transactions contemplated by
the merger agreement, whether or not the merger is completed.
PMC CAPITAL TERMINATION FEES AND EXPENSES
PMC Capital will pay to PMC Commercial a termination fee in the amount
of $870,000, if the merger agreement is terminated:
90
- by PMC Commercial upon a breach by PMC Capital of any
agreement, covenant, representation or warranty contained in
the merger agreement or if any representation or warranty of
PMC Capital has become untrue, in either case so that the
conditions to the completion of the merger would be incapable
of being satisfied by the closing date and such breach has not
been waived by PMC Commercial and PMC Capital has entered into
an agreement to consummate a competing transaction; or
- by PMC Commercial if, prior to the PMC Capital shareholders
meeting, the PMC Capital board of directors has withdrawn or
modified in any manner adverse to PMC Commercial its approval
or recommendation of the merger or the merger agreement in
connection with, or approved or recommended, a superior
competing transaction or PMC Capital shall have entered into a
definitive agreement with respect to any competing
transaction; or
- by PMC Capital if, prior to the PMC Capital shareholders
meeting, the PMC Capital board of directors has withdrawn or
modified in any manner adverse to PMC Commercial its approval
or recommendation of the merger or the merger agreement in
connection with, or approved or recommended, a superior
competing transaction and PMC Capital has entered into an
agreement to consummate a competing transaction; or
- by PMC Commercial upon a breach by PMC Capital of any
agreement, covenant, representation or warranty contained in
the merger agreement or if any representation or warranty of
PMC Capital has become untrue, in either case so that the
conditions to the completion of the merger would be incapable
of being satisfied by the closing date and such breach has not
been waived by PMC Commercial and within one year from the
date of termination, PMC Capital consummates a competing
transaction limited to negotiations prior to termination or
enters into an agreement to consummate such a competing
transaction that is subsequently consummated; provided,
however, that PMC Commercial was not in material breach of any
of its representations, warranties or covenants set forth in
the merger agreement at the time of termination.
- by either PMC Capital or PMC Commercial if the merger is not
completed prior to February 29, 2004 and within one year from
the date of termination, PMC Capital consummates a competing
transaction limited to negotiations prior to termination or
enters into an agreement to consummate such a competing
transaction that is subsequently consummated; provided that a
party that has willfully and materially breached a
representation, warranty or covenant of such party set forth
in the merger agreement shall not be entitled to exercise its
right to terminate.
PMC Capital will pay termination expenses in an amount equal to
$750,000, if the following occurs:
- the merger agreement is terminated by PMC Commercial upon a
breach by PMC Capital of any agreement, covenant,
representation or warranty contained in the merger agreement
or if any representation or warranty of PMC Capital has become
untrue, in either case so that the conditions to the
completion of the merger would be incapable of being satisfied
by the closing date and such breach has not been waived by PMC
Commercial and PMC Commercial has not entered into an
agreement for a competing transaction.
Under no circumstances will PMC Capital be required to pay to PMC
Commercial both the termination fee and the termination expenses.
PMC COMMERCIAL TERMINATION FEE AND EXPENSES
PMC Commercial will pay to PMC Capital a termination fee in the amount
of $870,000, if the merger agreement is terminated:
- by PMC Capital upon a breach by PMC Commercial of any
agreement, covenant, representation or warranty contained in
the merger agreement or if any representation or warranty of
PMC
91
Commercial has become untrue, in either case so that the
conditions to the completion of the merger would be incapable
of being satisfied by the closing date and such breach has not
been waived by PMC Capital and PMC Commercial has entered into
an agreement to consummate a competing transaction; or
- by PMC Capital if, prior to the PMC Commercial shareholders
meeting, the PMC Commercial board of trust managers has
withdrawn or modified in any manner adverse to PMC Commercial
its approval or recommendation of the merger or the merger
agreement in connection with, or approved or recommended, a
superior competing transaction or PMC Commercial shall have
entered into a definitive agreement with respect to any
competing transaction; or
- by PMC Commercial if, prior to the PMC Commercial shareholders
meeting, the PMC Commercial board of trust managers has
withdrawn or modified in any manner adverse to PMC Capital its
approval or recommendation of the merger or the merger
agreement in connection with, or approved or recommended, a
superior competing transaction and PMC Commercial has entered
into an agreement to consummate a competing transaction; or
- by PMC Capital upon a breach by PMC Commercial of any
agreement, covenant, representation or warranty contained in
the merger agreement or if any representation or warranty of
PMC Commercial has become untrue, in either case so that the
conditions to the completion of the merger would be incapable
of being satisfied by the closing date and such breach has not
been waived by PMC Capital and within one year from the date
of termination, PMC Commercial consummates a competing
transaction limited to negotiations prior to termination or
enters into an agreement to consummate such a competing
transaction that is subsequently consummated; provided,
however, that PMC Capital was not in material breach of its
representations, warranties or covenants set forth in the
merger agreement at the time of termination.
- by either PMC Capital or PMC Commercial if the merger is not
completed prior to February 29, 2004 and within one year from
the date of termination, PMC Commercial consummates a
competing transaction limited to negotiations prior to
termination or enters into an agreement to consummate such a
competing transaction that is subsequently consummated;
provided that a party that has willfully and materially
breached a representation, warranty or covenant of such party
set forth in the merger agreement shall not be entitled to
exercise its right to terminate.
PMC Commercial will pay termination expenses in an amount equal to
$750,000, if the following occurs:
- the merger agreement is terminated by PMC Capital upon a
breach by PMC Commercial of any agreement, covenant,
representation or warranty contained in the merger agreement
or if any representation or warranty of PMC Commercial has
become untrue, in either case so that the conditions to the
completion of the merger would be incapable of being satisfied
by the closing date and such breach has not been waived by PMC
Capital and PMC Commercial has not entered into an agreement
for a competing transaction.
Under no circumstances will PMC Commercial be required to pay to PMC
Capital both the termination fee and the termination expenses.
WAIVER AND AMENDMENT OF THE MERGER AGREEMENT
The merger agreement may be amended in writing by action of the board
of directors of PMC Capital and the board of trust managers of PMC Commercial
any time before or after approval of the merger by PMC Capital shareholders and
PMC Commercial shareholders. However, after shareholder approvals are obtained,
no amendment may be made which by law requires the further approval of
shareholders without obtaining such further approval. If the merger agreement is
amended after the mailing of this joint proxy statement/prospectus and your vote
is required to such amendment, PMC Commercial and PMC Capital will resolicit
your vote.
92
At any time before the completion of the merger, the parties may, in
writing:
- extend the time for the performance of any of the obligations
or other acts of the other parties;
- waive any inaccuracies in the representations and warranties
of the other parties contained in the merger agreement or in
any document delivered under the merger agreement; or
- waive compliance with any of the agreements or conditions of
the other parties contained in the merger agreement.
INDEMNIFICATION; DIRECTORS' AND OFFICERS' INSURANCE
Under the merger agreement, from and after the effective time of the
merger, PMC Commercial will indemnify, defend and hold harmless the officers and
directors of PMC Capital against all losses, claims, damages, costs, expenses
(including attorneys' fees and expenses), liabilities or judgments or amounts
that are paid in settlement of, or otherwise in connection with any threatened
or actual claim, action, suit, proceeding or investigation based on or arising
out of the fact that such person is or was a director or officer of PMC Capital
or any PMC Capital subsidiary at or prior to the effective time of the merger,
whether asserted or claimed prior to, or at or after, the effective time,
including all such indemnified liabilities based on, or arising out of, or
pertaining to the merger agreement or the transactions contemplated by the
merger agreement, in each case to the full extent permitted under applicable
law.
PMC Commercial is obligated to maintain in effect for not less than six
years after the closing date of the merger (1) PMC Capital's existing directors'
and officers' liability insurance coverage (or a policy providing coverage on
the same or better terms and conditions) for matters occurring prior to the
closing date of the merger for the same persons who are currently covered by
such insurance or (2) add such persons to the existing trust managers' and
officers' liability insurance policy of PMC Commercial; provided that such
insurance provides the same coverage as maintained for similarly situated
officers and trust managers of PMC Commercial.
If PMC Commercial or any of its respective successors or assigns
consolidates with or merges into another person and is not the continuing or
surviving entity, or transfers or conveys all or substantially all of its
properties and assets to another person, then the successors and assigns of the
surviving entity will assume the obligations regarding indemnification and
insurance described above.
93
THE VOTING AGREEMENTS
The following summary of the voting agreements is qualified by
reference to the complete text of the agreements; which are incorporated by
reference in this joint proxy statement/prospectus.
Irvin M. Borish, Martha R. Greenberg, Thomas Hamill, Barry A. Imber,
Fredric M. Rosemore, Lance B. Rosemore, Theodore J. Samuel, Barry N. Berlin,
Mary J. Brownmiller, Cheryl T. Murray, Andrew S. Rosemore and Jan F. Salit, each
of whom is an officer and/or director of PMC Capital, solely in his or her
respective capacity as a shareholder of PMC Capital, have each entered into a
voting agreement with PMC Commercial. Nathan G. Cohen, Martha R. Greenberg, Roy
H. Greenberg, Irving Munn, Andrew S. Rosemore, Lance B. Rosemore, Ira Silver,
Barry N. Berlin, Mary J. Brownmiller, Cheryl T. Murray and Jan F. Salit, each of
whom is an officer and/or trust manager of PMC Commercial, solely in his or her
respective capacity as a shareholder of PMC Commercial, have each entered into a
voting agreement with PMC Capital.
Under the terms of these voting agreements, until the date on which the
merger is completed or the merger agreement is terminated according to its
terms, each of these shareholders has agreed among other things, to cast, or
cause to be cast, all votes attributable to shares of PMC Capital and/or PMC
Commercial owned beneficially or of record by such person, at any annual or
special meeting of shareholders of PMC Capital or PMC Commercial, as the case
may be:
- in favor of approval of the merger agreement and the
transactions contemplated by the merger agreement; and
- against approval or adoption of any action or agreement (other
than the merger agreement or the transactions contemplated by
the merger agreement) that would impede, interfere with,
delay, postpone or attempt to discourage the merger.
Until the date on which the merger is completed or the merger agreement
is terminated according to its terms, each shareholder signing a voting
agreement has further agreed, directly or indirectly:
- not to sell, transfer, pledge, encumber, assign or otherwise
dispose of, or enter into, any contract, option or other
agreement or understanding with respect to any disposition of
any common shares of PMC Capital and/or PMC Commercial owned
beneficially or of record by that shareholder, except for
transfers to independent charitable foundations or
institutions and except for transfers approved in writing by
PMC Capital or PMC Commercial, as applicable;
- not to grant any proxies or deposit any common shares of PMC
Capital or PMC Commercial owned beneficially or of record by
that shareholder into a voting trust or enter into a voting
agreement with respect to the common shares of PMC Capital or
PMC Commercial owned beneficially or of record by that
shareholder; and
- not to take any action that would have the effect of
preventing or disabling that shareholder from performing his
or her obligations under his or her respective voting
agreement.
By entering into these voting agreements, as of the record date the
holders of approximately ___% of the voting power of the issued and outstanding
shares of common stock of PMC Capital and ___% of the voting power of the issued
and outstanding shares of beneficial interest of PMC Commercial entitled to vote
at the PMC Capital or PMC Commercial special meeting have agreed to vote in
favor of approval of the merger and against any approval or adoption of any
action or agreement that would impede, interfere with, delay, postpone or
attempt to discourage the merger and the transactions contemplated thereby.
94
MARKET PRICE AND DIVIDEND INFORMATION
The PMC Commercial common shares and the shares of PMC Capital common
stock are each listed on the American Stock Exchange. The following table sets
forth the periods indicated the high and low per share closing sale prices of
the PMC Commercial common shares and the shares of PMC Capital common stock and
the cash dividends declared per share:
PMC COMMERCIAL PMC CAPITAL
--------------------------------- ---------------------------------
High Low Dividend High Low Dividend
------- ------- -------- -------- ------- --------
2000 (Calendar Year)........... $ 12.63 $ 8.69 $ 1.745 $ 10.38 $ 7.75 $ 1.000
2001 (Calendar Year)........... $ 15.24 $ 9.00 $ 1.520 $ 9.50 $ 6.75 $ 0.850
2002 (Calendar Year)........... $ 15.50 $ 11.25 $ 1.620 $ 8.00 $ 3.20 $ 0.560
2003
First Quarter............... $ 13.57 $ 12.49 $ 0.400 $ 5.30 $ 3.90 $ 0.120
Second Quarter.............. $ 14.20 $ 11.67 $ 0.380 $ 5.22 $ 4.08 $ 0.120
Third Quarter through
August 20, 2003........... $ 13.97 $ 13.06 $ _.___ $ 5.05 $ 4.67 $ _.___
Listing on the American Stock Exchange of the PMC Commercial common
shares issuable in connection with the merger is a condition to the completion
of the merger.
95
UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION
On March 27, 2003, PMC Commercial and PMC Capital announced that they
had signed a merger agreement, under which PMC Capital, subject to certain
conditions and approvals, will merge with and into PMC Commercial, an affiliate
by common management. Under the merger agreement, each holder of PMC Capital
common stock will receive 0.37 of a share of PMC Commercial common stock for
each share of PMC Capital common stock. Shares of PMC Commercial common stock
were valued at $13.10, which is the average closing price of PMC Commercial's
common stock for the three days preceding the date of the announcement less a
$0.40 per share declared but unpaid dividend that was paid to shareholders of
record on March 31, 2003.
PMC Capital is a diversified closed-end management investment company
that has elected to operate as a BDC under the 1940 Act. PMC Capital's financial
statements are reported using the accounting policies applicable to investment
companies; certain of these accounting policies differ significantly from the
accounting policies used by PMC Commercial. Subsequent to the merger, PMC
Capital's accounting policies will conform to those policies used by PMC
Commercial. The most significant of those differences are described below:
- Certain wholly-owned subsidiaries of PMC Capital (consisting
of PMC Funding Corp., PMC Asset Holding, LLC and PMC Advisers,
Ltd. (the "Unconsolidated Subsidiaries")) are accounted for
using the equity method of accounting; while these entities
will be consolidated by PMC Commercial. This adjustment is
reflected in the PMC Capital, as Adjusted column in the
accompanying pro forma consolidated financial statements and
is further described in the notes to the pro forma financial
statements.
- PMC Capital records loans receivable and assets acquired in
liquidation at fair value as determined in good faith by the
board of directors pursuant to the 1940 Act; while PMC
Commercial records loans receivable at net realizable value
and assets acquired in liquidation at the lower of cost or
fair value.
- PMC Capital records realized and unrealized gains and losses
from changes in the fair values of its investments in its
statement of income in the period of the change; while PMC
Commercial records impairments of loans receivable and assets
acquired in liquidation as losses in its statement of income
and does not record subsequent increases in value in excess of
previously recorded impairment losses. Additionally, PMC
Commercial records unrealized appreciation in the fair value
of its retained interests in transferred assets in its balance
sheet as a component of beneficiaries' equity while any
depreciation in the fair value of its retained interests in
transferred assets is either included in its statement of
income as a realized loss (if there is a reduction in expected
future cash flows) or in beneficiaries' equity as an
unrealized loss.
- PMC Capital recognizes all fees and costs associated with
originating loans in income when incurred; while PMC
Commercial recognizes such amounts into income over the life
of the loan.
The following Pro Forma Consolidated Balance Sheet as of June 30, 2003
and Pro Forma Consolidated Statements of Income for the six months ended June
30, 2003 and the year ended December 31, 2002 (the "Pro Forma Financial
Statements") are based upon the consolidated financial statements of PMC
Commercial and PMC Capital included in this joint proxy statement/prospectus.
The Pro Forma Consolidated Balance Sheet assumes that the merger transaction
occurs on June 30, 2003. The Pro Forma Consolidated Statements of Income assume
that the merger transaction occurs on January 1, 2002 at which time PMC
Commercial issued 4,385,801 shares of its common stock to the shareholders of
PMC Capital in exchange for 100% of the outstanding shares of PMC Capital.
In the opinion of PMC Commercial's management, all material adjustments
necessary to reflect the effects of the merger transaction have been made. The
Pro Forma Consolidated Financial Statements are presented for illustrative
purposes only and are not necessarily indicative of what the actual financial
position or results of operations would have been had the merger transaction
occurred on the indicated dates, nor do they purport to represent PMC
Commercial's results of operations for future periods.
96
UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
JUNE 30, 2003
ELIMINATION
AND
PMC RECLASSIFICA-
PMC CAPITAL, AS TION
COMMERCIAL ADJUSTED ADJUSTMENTS MERGER PRO FORMA
(A) (B) (C) ADJUSTMENTS TOTAL
------------- ----------- ------------- ----------- ---------
(In thousands)
ASSETS
INVESTMENTS:
Loans receivable, net.................. $ 89,614 $ 94,976 $ -- $ -- $ 184,590
Retained interests in transferred
assets............................... 22,686 37,644 -- -- 60,330
Real estate investments, net........... 44,283 -- -- -- 44,283
Real estate investment held for sale,
net.................................. 1,877 -- -- -- 1,877
Cash equivalents....................... 473 2,461 -- -- 2,934
Mortgage-backed security of affiliate.. -- 1,345 -- -- 1,345
Restricted investments................. 3,455 36 -- -- 3,491
Assets acquired in liquidation......... 333 6,237 -- -- 6,570
------------- ----------- ------------- ----------- ---------
TOTAL INVESTMENTS........................ 162,721 142,699 -- -- 305,420
------------- ----------- ------------- ----------- ---------
OTHER ASSETS:
Due from affiliates.................... 800 712 (1,427) -- 85
Deferred charges, deposits and other
assets............................... 231 667 -- (162) (E) 389
-- (347) (D)
Deferred tax asset, net................ -- -- -- 193 (I) 193
Accrued interest receivable............ 285 271 -- -- 556
Cash................................... 72 329 -- -- 401
Other assets........................... 976 108 -- (108) (E) 286
(690) (F)
------------- ----------- ------------- ----------- ---------
Total other assets..................... 2,364 2,087 (1,427) (1,114) 1,910
------------- ----------- ------------- ----------- ---------
TOTAL ASSETS............................. $ 165,085 $ 144,786 $ (1,427) $ (1,114) $ 307,330
============= =========== ============= =========== =========
97
UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
JUNE 30, 2003
(CONTINUED)
ELIMINATION
AND
PMC RECLASSIFICA-
PMC CAPITAL, AS TION
COMMERCIAL ADJUSTED ADJUSTMENTS MERGER PRO FORMA
(A) (B) (C) ADJUSTMENTS TOTAL
------------- ----------- ------------- ----------- ---------
LIABILITIES AND
BENEFICIARIES' EQUITY
LIABILITIES:
Notes and debentures payable....... $ 37,188 $ 10,000 $ 44,310 $ 529 (D) $ 92,027
Revolving credit facility.......... 27,400 6,250 -- -- 33,650
Dividends payable.................. 2,450 1,484 -- -- 3,934
Borrower advances.................. 2,566 1,255 -- -- 3,821
Accrued interest payable........... 253 709 -- -- 962
Unearned fees...................... 330 -- 137 -- 467
Accounts payable................... -- 1,037 464 1,191 (F) 2,692
Due to affiliates.................. 656 823 (1,427) -- 52
Other liabilities.................. 1,950 1,139 (601) -- 2,488
------------- ----------- ------------- ----------- ---------
Total current liabilities.......... 72,793 22,697 42,883 1,720 140,093
Notes and debentures payable....... -- 44,310 (44,310) -- --
------------- ----------- ------------- ----------- ---------
TOTAL LIABILITIES.................... 72,793 67,007 (1,427) 1,720 140,093
------------- ----------- ------------- ----------- ---------
Commitments and contingencies
Cumulative preferred stock of
subsidiary...................... -- 7,000 -- (2,750) (J) 4,250
------------- ----------- ------------- ----------- ---------
BENEFICIARIES' EQUITY:
Common stock....................... 66 119 -- (75) (G) 110
Additional paid-in capital......... 94,735 71,508 -- (14,773) (G) 151,470
Retained earnings (dividends in
excess of retained earnings)..... (4,720) (3,229) 2,381 13,916 (E) 9,196
848 (H)
Net unrealized appreciation on
investments...................... 3,496 2,381 (2,381) -- 3,496
------------- ----------- ------------- ----------- ---------
93,577 70,779 -- (84) 164,272
Less: Treasury stock.............. (1,285) -- -- -- (1,285)
------------- ----------- ------------- ----------- ---------
92,292 70,779 -- (84) 162,987
------------- ----------- ------------- ----------- ---------
TOTAL LIABILITIES AND BENEFICIARIES'
EQUITY............................. $ 165,085 $ 144,786 $ (1,427) $ (1,114) $ 307,330
============= =========== ============= =========== =========
98
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
(A) Represents PMC Commercial's historical balance sheet.
(B) Represents PMC Capital's historical balance sheet as adjusted to
reflect the Unconsolidated Subsidiaries on a consolidated basis. The
historical financial statements of PMC Capital reflect the
Unconsolidated Subsidiaries accounted for using the equity method of
accounting. The Unconsolidated Subsidiaries will be consolidated in the
financial statements of PMC Commercial subsequent to the merger. The
following presents the adjustments made to PMC Capital's historical
balance sheet to consolidate the Unconsolidated Subsidiaries as of June
30, 2003.
Unconsolidated Elimination
PMC Capital Subsidiaries Adjustments PMC Capital,
June 30, 2003 (Unaudited) (1) (2) (3) as Adjusted
------------------------------ ------------- -------------- ----------- ------------
(In thousands)
ASSETS
Investments:
Loans receivable.............. $ 94,976 $ -- $ -- $ 94,976
Retained interests in
transferred assets.......... 37,644 -- -- 37,644
Cash equivalents.............. 2,461 -- -- 2,461
Mortgage-backed security of
affiliate................... 1,345 -- -- 1,345
Restricted investments........ 36 -- -- 36
Investment in Unconsolidated
Subsidiaries................ 246 -- (246) --
Assets acquired in liquidation 3,212 3,025 -- 6,237
------------- -------------- ----------- ------------
Total investments............... 139,920 3,025 (246) 142,699
------------- -------------- ----------- ------------
Other assets:
Due from affiliates........... 3,632 949 (3,869) 712
Deferred charges, deposits
and other assets............ 651 16 -- 667
Accrued interest receivable... 271 -- -- 271
Cash.......................... 251 78 -- 329
Other assets.................. 78 30 -- 108
------------- -------------- ----------- ------------
Total other assets............ 4,883 1,073 (3,869) 2,087
------------- -------------- ----------- ------------
Total assets.................... $ 144,803 $ 4,098 $ (4,115) $ 144,786
============= ============== =========== ============
LIABILITIES AND
SHAREHOLDERS' EQUITY
Liabilities:
Notes and debentures payable.. $ 10,000 $ -- $ -- $ 10,000
Revolving credit facility..... 6,250 -- -- 6,250
Dividends payable............. 1,484 -- -- 1,484
Borrower advances............. 1,255 -- -- 1,255
Accrued interest payable...... 709 -- -- 709
Unearned fees................. -- -- -- --
Accounts payable.............. 993 44 -- 1,037
Due to affiliates............. 1,137 3,555 (3,869) 823
Other liabilities............. 886 253 -- 1,139
------------- -------------- ----------- ------------
Total current liabilities..... 22,714 3,852 (3,869) 22,697
Notes and debentures payable.. 44,310 -- -- 44,310
------------- -------------- ----------- ------------
Total liabilities............... 67,024 3,852 (3,869) 67,007
------------- -------------- ----------- ------------
99
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
Unconsolidated Elimination
PMC Capital Subsidiaries Adjustments PMC Capital,
(1) (2) (3) as Adjusted
------------- -------------- ----------- ------------
(In thousands)
Commitments and contingencies
Cumulative preferred stock of
subsidiary.................... 7,000 -- -- 7,000
------------- -------------- ----------- ------------
Shareholders' equity:
Common stock.................. 119 1 (1) 119
Additional paid-in capital.... 71,508 626 (626) 71,508
Dividends in excess of
retained earnings........... (3,229) (381) 381 (3,229)
Net unrealized appreciation
on investments.............. 2,381 -- -- 2,381
------------- -------------- ----------- ------------
70,779 246 (246) 70,779
Less: Treasury stock......... -- -- -- --
------------- -------------- ----------- ------------
70,779 246 (246) 70,779
------------- -------------- ----------- ------------
Total liabilities and
shareholders' equity.......... $ 144,803 $ 4,098 $ (4,115) $ 144,786
============= ============== =========== ============
----------------------
(1) Represents PMC Capital's historical balance sheet as of June 30,
2003.
(2) Represents the combined balance sheet of the Unconsolidated
Subsidiaries at June 30, 2003.
(3) Represents the elimination of PMC Capital's investment in
Unconsolidated Subsidiaries and intercompany payables and
receivables between the Unconsolidated Subsidiaries and PMC
Capital.
(C) Represents the elimination of intercompany amounts between PMC Capital
and PMC Commercial and reclassifications made to conform PMC Capital's
balance sheet presentation to that used by PMC Commercial. The
reclassifications are as follows:
- Reclassification of PMC Capital's non-current portion of notes
and debentures payable since PMC Commercial does not segregate
debt obligations between current and non-current;
- Reclassification of PMC Capital's historical net unrealized
appreciation on investments to dividends in excess of retained
earnings; and
- Reclassification of certain amounts included in other
liabilities to unearned fees and accounts payable.
(D) Represents the purchase accounting adjustment to write-off PMC
Capital's capitalized borrowing costs and adjust the historical
carrying value of PMC Capital's notes and debentures payable to fair
value.
100
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
(E) Because the fair value of assets acquired and liabilities assumed
exceeds the cost of PMC Capital, the excess will first be allocated as
a reduction in the amounts assigned to certain acquired assets and the
remaining excess, after reducing to zero the amounts that otherwise
would have been assigned to certain acquired assets, will be recognized
as an extraordinary gain in the period the merger is completed. The
computation of the excess of the fair value of assets acquired, and
allocation of the excess to reduce the value of acquired assets and the
resulting amount of extraordinary gain is as follows (dollars in
thousands, except per share data):
- Issuance of 4,385,801 common shares of PMC Commercial valued at $13.10 per share in exchange for
all 11,853,516 shares of PMC Capital............................... $ 57,454
- Assumption of PMC Capital's liabilities and preferred stock (1).................................. 70,955
- Transaction costs (see note F)................................................................... 610
----------
- Total merger acquisition costs................................................................... 129,019
Less:
- Fair value of assets acquired (2)............................................................ (143,205)
----------
- Excess of fair value of assets acquired over acquisition costs................................... $ (14,186)
==========
- Recorded as follows:
Write-down of certain deferred charges, deposits and other assets to zero.................... $ 162
==========
Write-down of PMC Capital's property and equipment to zero................................... $ 108
==========
Amount recorded as extraordinary gain........................................................ $ (13,916)
==========
(1) The assumption of PMC Capital's liabilities and preferred stock was
computed as follows:
PMC Capital historical amounts................................................................... $ 74,007
Elimination of intercompany amounts.............................................................. (1,427)
Fair value adjustment of notes and debentures payable (see note D)............................... 529
Fair value adjustment of preferred stock (see note J)............................................ (2,750)
Adjustment to accrue PMC Capital's
remaining estimated merger costs (see note F)................................................ 596
----------
Total............................................................................................ $ 70,955
==========
(2) The fair value of assets acquired was computed as follows:
PMC Capital historical amounts................................................................... $ 144,786
Elimination of intercompany amounts.............................................................. (1,427)
Purchase accounting adjustment to write-off capitalized borrowing costs
(see note D)............................................................................ (347)
Purchase accounting adjustment to record deferred taxes at the acquisition date
(see note I)............................................................................ 193
----------
Total............................................................................................ $ 143,205
==========
101
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
(F) These adjustments are to accrue all remaining estimated costs
associated with the merger of PMC Capital into PMC Commercial as of
June 30, 2003 as follows (in thousands):
Estimated transaction costs (1).................................................................. $ 1,725
Estimated costs of equity offering (1)........................................................... 675
Less amounts reflected in the historical financial
statements at June 30, 2003................................................................... (1,209)
----------
$ 1,191
==========
Reclassification, as part of purchase accounting, of transaction costs
and costs of equity offering capitalized by
PMC Commercial as of June 30, 2003 ........................................................... $ (690)
==========
--------------------------
(1) Amounts represent total estimated merger costs to be incurred by
PMC Commercial and PMC Capital allocated between the costs of the
transaction and the costs of PMC Commercial's equity offering (in
thousands) detailed as follows:
Transaction costs Costs of equity offering
----------------- ------------------------
Financial advisory fees $ 800 $ --
Legal fees 575 300
Printing and filing fees 150 150
Accounting fees 100 100
Other 100 125
----------------- ------------------------
Total merger costs (a) $ 1,725 $ 675
================= ========================
Incurred by:
PMC Commercial $ 610 $ 675
PMC Capital $ 1,115 $ --
-------------------------
(a) At June 30, 2003, PMC Capital has accrued and expensed a total of
$519 and PMC Commercial has accrued and capitalized a total of
$690.
(G) Represents the net adjustments resulting from the merger as follows
(dollars in thousands, except share and per share data):
Common Additional
Stock Paid-In Capital
---------- ---------------
Issuance of 4,385,801 shares of PMC Commercial
common stock, $0.01 par value per share................ $ 44 $ 57,410
Elimination of PMC Capital's historical balances............ (119) (71,508)
Estimated costs of the equity offering recorded as a
reduction of additional paid in capital
(see note F)........................................... -- (675)
---------- ---------------
$ (75) $ (14,773)
========== ===============
(H) Represents the elimination of PMC Capital's historical balances.
102
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
(I) Subsequent to the merger, First Western will become a wholly-owned
taxable REIT subsidiary of PMC Commercial. Additionally, as described
under "PMC Commercial Business--PMC Commercial's Business Following the
Merger" in this joint proxy statement/prospectus, management is
currently exploring an alternative structure relating to PMCIC. Based
on the current structure, PMCIC will also be organized as a taxable
REIT subsidiary of PMC Commercial. Accordingly, the pro forma financial
statements have assumed that both First Western and PMCIC will be
organized as taxable REIT subsidiaries. This adjustment represents the
purchase accounting adjustment to record deferred taxes to reflect the
tax consequences on future years of differences between the tax basis
of assets and liabilities and their financial reporting amounts at June
30, 2003.
If management successfully restructures PMCIC such that it will not be
organized as a taxable REIT subsidiary, the net deferred tax assets of
PMCIC in the amount of $226 may be eliminated.
(J) As discussed in Note 7 to PMC Capital's consolidated financial
statements as of and for the year ended December 31, 2002, included in
this joint proxy statement/prospectus, PMCIC has two outstanding issues
of preferred stock. The following represents the purchase accounting
adjustment to adjust the historical carrying value of PMCIC's preferred
stock to estimated fair value (dollars in thousands):
- 30,000 shares of $100 par value,
3% cumulative (the "3% Preferred Stock")....... $ (2,100)
- 40,000 shares of $100 par value,
4% cumulative (the "4% Preferred Stock")....... (650)
-----------
$ (2,750)
===========
Effective July 1, 2003, PMCIC adopted the provisions of SFAS No. 150,
"Accounting For Certain Financial Investments with Characteristics of
both Liabilities and Equity" ("SFAS 150"). In accordance with the
provisions of SFAS No. 150, the 4% Preferred Stock was reclassified, at
the estimated fair value of $3,350 to a liability. Subsequent to July
1, 2003, the preferred dividend requirement of $160 per year will be
reflected as interest expense. In addition, the $650 fair value
adjustment will be accreted to interest expense over the remaining term
of the preferred stock issue using the effective interest method. The
accretion of the fair value adjustment will increase interest expense
by approximately $100 per year.
As discussed under "PMC Commercial Business--PMC Commercial's Business
Following the Merger" in this joint proxy statement/prospectus,
management is currently exploring an alternative structure relating to
the preferred stock of PMCIC.
103
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF INCOME
FOR THE SIX MONTHS ENDED JUNE 30, 2003
(IN THOUSANDS, EXCEPT PER SHARE DATA)
PMC
PMC CAPITAL, AS ELIMINATION AND
COMMERCIAL ADJUSTED RECLASSIFICATION MERGER PRO FORMA
(A) (B) ADJUSTMENTS ADJUSTMENTS TOTAL
------------- ----------- ---------------- ----------- ---------
REVENUES:
Interest income..................... $ 3,047 $ 3,242 $ -- $ (197)(H) $ 6,092
Lease income........................ 2,893 -- -- -- 2,893
Income from retained interests
in transferred assets............. 1,376 2,267 -- 64(I) 3,707
Advisory fee income................. -- 1,149 (1,149)(C) -- --
Premium income...................... -- 344 -- -- 344
Other income........................ 99 513 158 (C) -- 770
------------- ----------- ---------------- ----------- ---------
TOTAL REVENUES........................ 7,415 7,515 (991) (133) 13,806
------------- ----------- ---------------- ----------- ---------
EXPENSES:
Interest............................ 1,712 1,563 -- (22)(J) 3,253
Salaries and related benefits....... -- 2,117 (81)(D) (108)(K) 1,928
Depreciation........................ 939 8 31 (E) (39)(L) 939
Advisory and servicing fees to
affiliate, net.................... 902 -- (902)(D) -- --
Loss from operations of assets
acquired in liquidation........... -- 151 (151)(F) -- --
General and administrative.......... 188 590 (31)(E) (43)(M) 704
Merger related costs................ -- 519 -- (519)(N) --
Provision for loan losses........... -- -- 75 (G) -- 75
Professional fees................... 66 181 -- -- 247
Impairment loss on assets
acquired in liquidation held
for sale.......................... 67 -- -- -- 67
Realized losses on retained
interests in transferred assets... -- -- 129 (G) -- 129
------------- ----------- ---------------- ----------- ---------
Total expenses...................... 3,874 5,129 (930) (731) 7,342
------------- ----------- ---------------- ----------- ---------
Income from continuing
operations before income taxes.... 3,541 2,386 (61) 598 6,464
Income tax expense.................. -- -- -- (201)(O) (201)
------------- ----------- ---------------- ----------- ---------
INCOME FROM CONTINUING OPERATIONS..... $ 3,541 $ 2,386 $ (61) $ 397 $ 6,263
============= =========== ================ =========== =========
WEIGHTED AVERAGE SHARES
OUTSTANDING:
Basic............................... 6,447 4,386(P) 10,833
============= =========== =========
Diluted............................. 6,455 4,386(P) 10,841
============= =========== =========
BASIC AND DILUTED EARNINGS PER
SHARE:
Income from continuing operations... $ 0.55 $ 0.56(S)
============= =========
104
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 2002
(IN THOUSANDS, EXCEPT PER SHARE DATA)
PMC
PMC CAPITAL, AS ELIMINATION AND
COMMERCIAL ADJUSTED RECLASSIFICATION MERGER PRO FORMA
(A) (B) ADJUSTMENTS ADJUSTMENTS TOTAL
------------- ----------- ---------------- ----------- ---------
REVENUES:
Interest income..................... $ 6,236 $ 7,507 $ -- $ (375)(H) $ 13,368
Lease income........................ 5,743 -- -- -- 5,743
Income from retained interests
in transferred assets............ 2,893 5,202 -- 78(I) 8,173
Advisory fee income................. -- 2,328 (2,328)(Q) -- --
Premium income...................... -- 650 -- -- 650
Other income........................ 1,164 1,104 298(Q) -- 2,566
------------- ----------- ---------------- ----------- ---------
TOTAL REVENUES........................ 16,036 16,791 (2,030) (297) 30,500
------------- ----------- ---------------- ----------- ---------
EXPENSES:
Interest............................ 3,445 4,599 -- (186)(J) 7,858
Salaries and related benefits....... -- 4,160 (135)(R) (202)(K) 3,823
Depreciation........................ 1,845 32 93(E) (125)(L) 1,845
Advisory and servicing fees to
affiliate, net................... 1,793 -- (1,793)(R) -- --
Loss from operations of assets
acquired in liquidation.......... -- 391 (391)(F) -- --
General and administrative.......... 255 1,328 (93)(E) (70)(M) 1,420
Provision for loan losses........... 65 -- 483(G) -- 548
Professional fees................... 130 325 -- -- 455
Impairment loss on assets
acquired in liquidation held
for sale.......................... 54 -- -- -- 54
Realized losses on retained
interests in transferred assets... 53 -- 1,981(G) -- 2,034
------------- ----------- ---------------- ----------- ---------
Total expenses...................... 7,640 10,835 145 (583) 18,037
------------- ----------- ---------------- ----------- ---------
Income from continuing
operations before income taxes.... 8,396 5,956 (2,175) 286 12,463
Income tax expense.................. -- -- -- (150)(O) (150)
------------- ----------- ---------------- ----------- ---------
INCOME FROM CONTINUING
OPERATIONS.......................... $ 8,396 $ 5,956 $ (2,175) $ 136 $ 12,313
============= =========== ================ =========== =========
WEIGHTED AVERAGE SHARES
OUTSTANDING:
Basic............................... 6,444 4,386(P) 10,830
============= =========== =========
Diluted............................. 6,456 4,386(P) 10,842
============= =========== =========
BASIC AND DILUTED EARNINGS PER
SHARE:
Income from continuing operations... $ 1.30 $ 1.11(S)
============= =========
105
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(A) Represents PMC Commercial's historical income from continuing
operations.
(B) Represents PMC Capital's historical income from continuing operations,
which is comprised of net investment income including the loss from
operations of assets acquired in liquidation and is adjusted to reflect
the Unconsolidated Subsidiaries on a consolidated basis. The historical
financial statements of PMC Capital reflect the operations of the
Unconsolidated Subsidiaries accounted for using the equity method of
accounting. The Unconsolidated Subsidiaries will be consolidated in the
financial statements of PMC Commercial subsequent to the merger. The
following presents the adjustments made to PMC Capital's historical
income from continuing operations to consolidate the Unconsolidated
Subsidiaries.
FOR THE SIX MONTHS ENDED JUNE 30, 2003 (Unaudited)
Unconsolidated
PMC Capital Subsidiaries Elimination PMC Capital,
(1) (2) (3) as Adjusted
------------- -------------- ----------- ------------
Revenues:
Interest income..................... $ 3,242 $ -- $ -- $ 3,242
Lease income........................ -- -- -- --
Income from retained interests
in transferred assets............. 2,267 -- -- 2,267
Advisory fee income................. 928 1,149 (928) 1,149
Premium income...................... 344 -- -- 344
Equity in income of
Unconsolidated Subsidiaries,
net............................... 167 -- (167) --
Other income........................ 508 5 -- 513
------------- -------------- ----------- ------------
Total revenues....................... 7,456 1,154 (1,095) 7,515
------------- -------------- ----------- ------------
Expenses:
Interest............................ 1,563 -- -- 1,563
Salaries and related benefits....... 2,117 -- -- 2,117
Depreciation........................ -- 8 -- 8
Advisory and servicing fees to
affiliate, net.................... -- -- -- --
Loss from operations of assets
acquired in liquidation........... 151 -- -- 151
General and administrative.......... 580 938 (928) 590
Merger related costs................ 519 -- -- 519
Provision for loan losses........... -- -- -- --
Professional fees................... 181 -- -- 181
Impairment loss on assets
acquired in liquidation held
for sale.......................... -- -- -- --
Realized losses on retained
interests in transferred
assets............................ -- -- -- --
------------- -------------- ----------- ------------
Total expenses........................ 5,111 946 (928) 5,129
------------- -------------- ----------- ------------
Income from continuing operations..... $ 2,345 $ 208 $ (167) $ 2,386
============= ============== =========== ============
106
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Unconsolidated
PMC Capital Subsidiaries Elimination PMC Capital,
(1) (2) (3) as Adjusted
------------- -------------- ----------- ------------
Weighted average shares
outstanding:
Basic........................... 11,854 11,854
============= ============
Diluted......................... 11,854 11,854
============= ============
Basic and diluted earnings per
share:
Income from continuing
operations.................... $ 0.19 $ 0.19
============= ============
FOR THE YEAR ENDED DECEMBER 31, 2002 (Unaudited)
Unconsolidated
PMC Capital Subsidiaries Elimination PMC Capital,
(1) (2) (3) as Adjusted
------------- -------------- ----------- ------------
Revenues:
Interest income.................. $ 7,507 $ -- $ -- $ 7,507
Lease income..................... -- -- -- --
Income from retained interests
in transferred assets.......... 5,202 -- -- 5,202
Advisory fee income.............. 1,927 2,328 (1,927) 2,328
Premium income................... 650 -- -- 650
Equity in income of
Unconsolidated Subsidiaries,
net............................ 307 -- (307) --
Other income..................... 1,069 35 -- 1,104
------------- -------------- ----------- ------------
Total revenues..................... 16,662 2,363 (2,234) 16,791
------------- -------------- ----------- ------------
Expenses:
Interest......................... 4,588 11 -- 4,599
Salaries and related benefits.... 4,160 -- -- 4,160
Depreciation..................... -- 32 -- 32
Advisory and servicing fees to
affiliate, net................. -- -- -- --
Loss from operations of assets
acquired in liquidation........ 391 -- -- 391
General and administrative....... 1,242 2,013 (1,927) 1,328
Provision for loan losses........ --
Professional fees................ 325 -- -- 325
Impairment loss on assets
acquired in liquidation held
for sale....................... -- -- -- --
Realized losses on retained
interests in transferred
assets......................... -- -- -- --
------------- -------------- ----------- ------------
Total expenses..................... 10,706 2,056 (1,927) 10,835
------------- -------------- ----------- ------------
Income from continuing operations.. $ 5,956 $ 307 $ (307) $ 5,956
============= ============== =========== ============
107
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Unconsolidated
PMC Capital Subsidiaries Elimination PMC Capital,
(1) (2) (3) as Adjusted
------------- -------------- ----------- ------------
Weighted average shares
outstanding:
Basic.............................. 11,854 11,854
============= ============
Diluted............................ 11,854 11,854
============= ============
Basic and diluted earnings per
share:
Income from continuing operations.. $ 0.48 $ 0.48
============= ============
-----------------------
(1) Represents PMC Capital's historical net investment income.
(2) Represents the combined historical income from continuing
operations of the Unconsolidated Subsidiaries.
(3) Represents the elimination of equity in income of Unconsolidated
Subsidiaries and the elimination of intercompany income and
expense between the Unconsolidated Subsidiaries and PMC Capital.
For the six months ended June 30, 2003, PMC Capital's equity in
income of Unconsolidated Subsidiaries is $41 less than the
Unconsolidated Subsidiaries income from continuing operations due
to $41 of net losses on assets reported as discontinued operations
by the Unconsolidated Subsidiaries. For the year ended December
31, 2002, the Unconsolidated Subsidiaries did not report
discontinued operations.
(C) Represents the elimination of $991 in fees billed to PMC Commercial by
PMC Capital and the reclassification of $158 in fees billed to the
special purpose entities ("SPEs") formed in connection with PMC
Commercial's securitization transactions from advisory fee income to
other income.
(D) Represents the elimination of advisory and servicing fees expensed by
PMC Commercial in the amount of $902 that were billed by PMC Capital.
Additionally, the $81 reduction in salaries and related benefits
represents fees capitalized as loan origination costs by PMC Commercial
that were billed by PMC Capital. The difference between advisory fee
income eliminated in the amount of $991 as discussed in (C) above, and
the aggregate $983 in fees eliminated in this note is $8 and relates to
fees expensed by PMC Commercial and reported below income from
continuing operations.
(E) Represents the reclassification of depreciation expense reported by PMC
Capital as part of general and administrative expenses to depreciation
expense to conform to PMC Commercial's presentation.
(F) Represents the reclassification of losses from the operations of PMC
Capital's assets acquired in liquidation to discontinued operations, to
conform to PMC Commercial's presentation.
(G) As an investment company, PMC Capital records realized and unrealized
gains and losses on investments in its income statement below income
from continuing operations. Subsequent to the merger with PMC
Commercial, certain of these items will be reported as a component of
income from continuing operations. The adjustments related to these
items are as follows:
For the Six
Months Ended For the Year Ended
June 30, 2003 December 31, 2002
------------- ------------------
Provision for loan losses............... $ 75 $ 483
============= ==================
Realized losses on retained interests
in transferred assets................. $ 129 $ 1,981
============= ==================
108
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(H) As an investment company, PMC Capital records fees collected on loan
originations as interest income upon the completion of funding of the
loan. Subsequent to the merger, these amounts will be capitalized and
amortized into interest income in accordance with SFAS No. 91,
"Accounting for Nonrefundable Fees and Costs Associated with
Originating or Acquiring Loans and Initial Direct Costs of Leases."
Accordingly, this adjustment represents a reduction in interest income
for the loan origination fees collected and recorded as interest income
by PMC Capital during the period presented net of any accretion of the
deferred fees subsequent to January 1, 2002.
(I) At the date of completion of a securitization transaction, PMC
Commercial records the relative fair value of the present value of
estimated future cash flows as retained interests in transferred
assets; whereas, PMC Capital records the present value of estimated
future cash flows as retained interests in transferred assets. This
adjustment is a reclassification between PMC Capital's gain on sale of
loans, which is presented below income from continuing operations, and
income from retained interests in transferred assets relating to the
securitization transaction completed by PMC Capital in April 2002.
(J) Represents the elimination of the historical amortization of PMC
Capital's capitalized borrowing costs as these assets were assigned no
value in purchase accounting.
(K) As an investment company, PMC Capital records direct costs of loan
originations as incurred. Post merger, direct loan origination costs
will be capitalized and amortized in accordance with SFAS No. 91. This
adjustment represents a reduction in PMC Capital's salaries and related
benefits expense to reflect direct loan origination costs incurred and
capitalized in accordance with SFAS No. 91.
(L) Represents the elimination of the historical depreciation expense of
PMC Capital's fixed assets, as these assets were assigned no value in
purchase accounting.
(M) Represents the elimination of certain of PMC Capital's Texas franchise
taxes. As a Texas REIT, PMC Commercial is exempt from Texas franchise
taxes.
(N) Represents the elimination of costs expensed by PMC Capital in
connection with the merger of PMC Capital into PMC Commercial.
(O) Subsequent to the merger, First Western will become a wholly-owned
taxable REIT subsidiary of PMC Commercial. Additionally, as discussed
under "PMC Commercial Business--PMC Commercial's Business Following the
Merger" in this joint proxy statement/prospectus, management is
currently exploring an alternative structure relating to PMCIC. Based
on the current structure, PMCIC will also be organized as a taxable
REIT subsidiary. Accordingly, the pro forma financial statements have
assumed that both First Western and PMCIC will be organized as taxable
REIT subsidiaries. Accordingly, taxable income generated by First
Western and PMCIC will be subject to U.S. Federal income taxes. This
adjustment represents the purchase accounting adjustment to record
estimated current and deferred tax expense at 35% of PMCIC's and First
Western's taxable income.
If management successfully restructures PMCIC such that it will not be
organized as a taxable REIT subsidiary, the tax expense (benefit)
associated with PMCIC of approximately $114 and ($65) for the six
months ended June 30, 2003 and for the year ended December 21, 2002,
respectively, may be eliminated.
(P) Represents the adjustment related to the issuance of 4,386 shares of
PMC Commercial's common stock.
109
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(Q) Represents the elimination of $2,030 in fees billed to PMC Commercial
by PMC Capital and the reclassification of $298 in fees billed to the
SPEs formed in connection with PMC Commercial's securitization
transactions from advisory fee income to other income.
(R) Represents the elimination of advisory and servicing fees expensed by
PMC Commercial in the amount of $1,793 that were billed by PMC Capital.
Additionally, the $135 reduction in salary and related benefits
represents fees capitalized as loan origination costs by PMC Commercial
that were billed by PMC Capital. The difference between advisory fee
income eliminated in the amount of $2,030 as discussed in (Q) above,
and the aggregate $1,928 in fees eliminated in this note amounts to
$102 and relates to fees expensed by PMC Commercial and reported below
income from continuing operations.
(S) Basic and diluted earnings per share are calculated by reducing income
from continuing operations by (i) the preferred dividend requirements
associated with the preferred stock issued by PMCIC and (ii) the
accretion of the fair value adjustment for the 4% preferred stock (see
Note J to the Unaudited Pro Forma Consolidated Balance Sheet), divided
by pro forma basic and diluted shares outstanding. The historical
preferred dividend requirements were $125 and $250 for the six months
ended June 30, 2003 and for the year ended December 31, 2002,
respectively. The accretion of the fair value adjustment for the 4%
preferred stock was $41 and $82 for the six months ended June 30, 2003
and the year ended December 31, 2002, respectively.
110
PMC COMMERCIAL BUSINESS
INTRODUCTION
PMC Commercial primarily originates loans to small businesses
collateralized by first liens on the real estate of the related business. In
addition, its investments include the ownership of commercial properties in the
hospitality industry. PMC Commercial's loans receivable are primarily to
borrowers in the hospitality industry. It also originates loans for commercial
real estate primarily in the service, retail, multi-family and manufacturing
industries.
PMC Commercial generates revenue from the yield earned on its
investments, rental income from property ownership and other fee income from its
lending activities.
PMC Commercial seeks to maximize shareholder value through long-term
growth in dividends paid to shareholders. As a REIT, PMC Commercial must
distribute at least 90% of its REIT taxable income to shareholders. See "U.S.
Federal Income Tax Consequences." PMC Commercial pays dividends from the funds
generated from operations, commonly referred to as "FFO." Its ability to
maintain or increase its FFO is dependent on many factors. Some of the more
critical factors are described under "PMC Commercial Management's Discussion and
Analysis of Financial Condition and Results of Operations - Funds From
Operations."
In order to fund new loans or real estate investments, PMC Commercial
needs to issue new equity, borrow funds or sell loans. Since 1996, its primary
source of funds has been structured loan transactions. See "- Structured Loan
Transactions."
PMC Commercial's investments are managed pursuant to investment
management agreements with the Investment Manager. See "--Investment
Management." PMC Commercial operates from the headquarters of the Investment
Manager in Dallas, Texas, and through its loan production office in Arizona.
As of June 30, 2003 and December 31, 2002 and 2001, PMC Commercial's
total assets were approximately $165.1 million, $149.7 million and $156.3
million, respectively. During the six months ended June 30, 2003 and the years
ended December 31, 2002 and 2001, PMC Commercial's total revenues were
approximately $7.4 million, $16.0 million and $16.4 million, respectively and
net income was approximately $3.7 million, and $9.9 million and $11.4 million,
respectively.
PMC Commercial operates in two reportable segments: (i) the lending
division, which originates loans receivable to small businesses primarily in the
hospitality industry and (ii) the property division which owns hotel properties.
See PMC Commercial Historical Financial Statements appearing elsewhere in this
joint proxy statement/prospectus.
PMC COMMERCIAL'S BUSINESS FOLLOWING THE MERGER
Upon completion of the merger, PMC Capital will be merged with and into
PMC Commercial, and the operations of PMC Commercial will include the
continuation of the businesses of PMC Capital. A substantial part of PMC
Capital's activities are undertaken by its wholly-owned subsidiaries, First
Western, PMCIC and Western Financial. Each of these subsidiaries will remain in
existence following the merger, and will be wholly-owned by PMC Commercial.
Following the merger, the parent company of these subsidiaries will be a REIT
and not a RIC.
Following the merger, PMC Commercial intends to:
- Continue to operate its business in a manner that should
enable it to maintain its REIT status;
- Continue to predominately originate loans to the limited
service hospitality industry;
- Be internally managed instead of externally managed through an
investment advisory relationship;
111
- Evaluate the prospect of alternative loan products including
originating loans with shorter maturities similar to
"mini-perm" loans offered by banks or establishing a
fixed-rate loan product;
- Utilize the SBA 7(a) license owned by First Western;
- Evaluate alternative leverage to its current revolving credit
facility, such as warehouse facilities or medium-term debt;
and
- Identify possible expansion of lines of business that would be
complimentary to the REIT structure.
Subsequent to the merger, First Western intends to elect, effective as
of the closing date of the merger, to be treated as a taxable REIT subsidiary,
and will cease to be a pass-through entity for tax purposes. As a result, First
Western earnings will be subject to U.S. Federal income tax.
PMC Capital is currently considering restructuring PMCIC to convert it
to a partnership structure in order to allow it to, subject to SBA approval,
maintain its existing capital structure, which includes SBA preferred stock. As
a limited partnership, PMCIC would be able to retain its pass-through tax
treatment following the merger; however, in the absence of a restructuring,
PMCIC would elect to be a taxable REIT subsidiary following the merger and its
earnings will also be subject to U.S. Federal income tax
LENDING ACTIVITIES
OVERVIEW
PMC Commercial's net loans receivable were $89.6 million, $72.0 million
and $78.5 million at June 30, 2003 and December 31, 2002 and 2001, respectively.
As of June 30, 2003 and December 31, 2002, PMC Commercial had $59.9 million
(67%) and $42.1 million (58%), respectively, of variable-rate loans receivable
and $30.6 million (33%) and $29.9 million (42%), respectively, of fixed-rate
loans receivable and the weighted average interest rate on its loans receivable
was 6.9% and 7.5%, respectively.
PMC Commercial's lending program is generally concentrated on potential
borrowers who meet its underwriting criteria and who (i) require funds in excess
of $1.3 million or (ii) exceed the net worth, asset, income, number of employees
or other limitations applicable to borrowers under lending programs administered
by the SBA. Pursuant to the terms of its loan origination agreement with the
Investment Manager, smaller loan opportunities are first presented to PMC
Capital. In addition to first liens on real estate of the related business, PMC
Commercial's loans receivable are generally personally guaranteed by the
principals of the entities obligated on the loans receivable.
PMC Commercial's loan origination opportunities are provided to it by
the Investment Manager who identifies these opportunities through personal
contacts, internet referrals, attendance at trade shows and meetings,
correspondence with local chambers of commerce, direct mailings, advertisements
in trade publications and other marketing methods. In addition, the Investment
Manager has generated a significant percentage of loans through referrals from
lawyers, accountants, real estate and loan brokers and existing borrowers. In
some instances, PMC Commercial may make payments to non-affiliated individuals
who assist in generating loan applications, with such payments generally not
exceeding 1% of the principal amount of the originated loan.
LIMITED SERVICE HOSPITALITY INDUSTRY
PMC Commercial's loans in the hospitality industry are generally
collateralized by first liens on limited service hospitality properties and are
generally made to owner-operated facilities operating under national franchises.
PMC Commercial believes that franchise operations offer attractive lending
opportunities because such businesses generally employ proven business concepts,
have national reservation systems, have consistent product quality, are screened
and monitored by franchisors and generally have a higher rate of success when
compared to other independently operated hospitality businesses.
112
Reductions in business and discretionary travel have caused a
moderation in demand for hotel rooms and a slowdown in construction of
hospitality properties (including limited service hospitality properties).
However, the limited service segment of the hospitality industry has been less
impacted and has continued to outperform the luxury and upscale sectors which
experienced the weakest performance. Another factor which affects the limited
service sector of the hospitality industry is a significant rise in gasoline
prices within a short period of time. Most of the limited service hospitality
properties collateralizing PMC Commercial's loans receivable are located on
interstate highways. As seen in the past, when gas prices sharply increase,
occupancy rates for properties located on interstate highways decrease.
LOAN ORIGINATIONS AND UNDERWRITING
The underwriting criteria PMC Commercial applies to evaluate
prospective borrowers generally requires the borrowers to (i) provide first-lien
mortgages on real estate having an appraised value or cost, whichever is lower,
in an amount such that the loan-to-value ratio is not greater than 70% unless
credit enhancements such as additional collateral or third party guarantees are
obtained, (ii) provide proven management capabilities, (iii) meet historical or
projected debt coverage tests determined on a case-by-case basis, and (iv) have
principals with satisfactory credit histories and provide personal guarantees,
as applicable. PMC Commercial evaluates a number of factors to determine the
credit worthiness of the prospective borrower and the amount of required debt
coverage for the borrower, including:
- The components and value of the borrower's collateral
(primarily real estate);
- The ease with which the collateral can be liquidated;
- The industry and competitive environment in which the borrower
operates;
- The financial strength of the guarantors;
- The existence of any secondary repayment sources; and
- The existence of a franchise relationship.
PMC Commercial's variable interest rate loans receivable generally
require payments of principal and interest, reset on a quarterly basis to
amortize the principal over ten to 20 years. Fixed interest rate loans
receivable generally require level payments of principal and interest calculated
to amortize the principal over ten to 20 years.
Upon receipt of a completed loan application, the Investment Manager's
credit department conducts: (i) a detailed analysis of the loan, which typically
includes an appraisal and a valuation by the credit department of the property
that will collateralize the loan to assure compliance with loan-to-value
percentages, (ii) a site inspection for real estate collateralized loans, (iii)
a review of the borrower's business experience, (iv) a review of the borrower's
credit history, and (v) an analysis of the borrower's debt-service-coverage and
debt-to-equity ratios. All appraisals must be performed by an approved licensed
third party appraiser and based on the market value, replacement cost and cash
flow value approaches. The Investment Manager generally utilizes nationwide
independent appraisal firms and seeks local market economic information to the
extent available.
PMC Commercial's typical loan is distinguished from those of some of
its competitors by the following characteristics:
- Substantial down payments are required. PMC Commercial usually
requires an initial down payment of not less than 20% of the
value of the property which is collateral for the loan at the
time of such loan. PMC Commercial's experience has shown that
the likelihood of full repayment of a loan increases if the
owner/operator is required to make an initial and substantial
financial commitment to the property which is collateral for
the loan.
113
- "Cash outs" are typically not permitted. Generally, PMC
Commercial will not make a loan in an amount greater than
either the cost of the property which is collateral for the
loan or the current appraised value of the property which is
collateral for the loan. For example, a hotel property may
have been originally constructed for a cost of $2,000,000,
with the owner/operator borrowing $1,600,000 of that amount.
At the time of the borrower's loan refinancing request, the
property securing the loan is appraised at $4,000,000. Some of
PMC Commercial's competitors might loan from 70% to 90% or
more of the new appraised value of the property and permit the
owner/operator to receive a cash distribution from the
proceeds. Generally, PMC Commercial would not permit this type
of "cash-out" distribution.
- The obligor is personally liable for the loan. PMC Commercial
generally requires the principals of the borrower to guarantee
the loan.
LOAN ACTIVITY
The following table details PMC Commercial's loan activity for the
years indicated:
Years Ended December 31,
---------------------------------------------------------------------
2002 2001 2000 1999 1998
--------- --------- --------- --------- ---------
(In thousands)
Loans receivable, net - beginning of year.. $ 78,486 $ 65,645 $ 115,265 $ 119,712 $ 109,132
Loans originated .......................... 32,776 51,683 22,508 17,478 42,968
Principal collections (1) ................. (11,637) (4,965) (15,135) (19,650) (28,519)
Repayments of SBA 504 program loans ....... (631) (970) (973) (2,542) (3,607)
Loan transferred to assets acquired in
liquidation (2) ......................... -- -- (1,181) -- --
Loans sold (3) ............................ (27,286) (32,662) (55,675) -- --
Other adjustments (4) ..................... 284 (245) 836 267 (262)
--------- --------- --------- --------- ---------
Loans receivable, net - end of year ....... $ 71,992 $ 78,486 $ 65,645 $ 115,265 $ 119,712
========= ========= ========= ========= =========
-----------------------------
(1) Includes scheduled payments and prepayments.
(2) A loan receivable was transferred to asset acquired in liquidation.
(3) PMC Commercial sold loans receivable as part of structured loan sale
transactions.
(4) Includes the change in the loan loss reserve and the change in deferred
commitment fees.
QUARTERLY LOAN ORIGINATIONS
The following table is a breakdown of loans originated on a quarterly
basis during the years indicated:
Years Ended December 31,
---------------------------------------------------------------------
2002 2001 2000 1999 1998
--------- --------- --------- --------- ---------
(In thousands)
First Quarter.......................... $ 6,346 $ 9,761 $ 301 $ 7,061 $ 9,437
Second Quarter......................... 6,506 22,567 3,924 3,576 16,271
Third Quarter.......................... 10,044 10,097 7,340 3,808 8,417
Fourth Quarter......................... 9,880 9,258 10,943 3,033 8,843
--------- --------- --------- --------- ---------
Total........................... $ 32,776 $ 51,683 $ 22,508 $ 17,478 $ 42,968
========= ========= ========= ========= =========
During the six months ended June 30, 2003 PMC Commercial originated $21.1
million of loans.
114
LOAN PORTFOLIO STATISTICS
Information on PMC Commercial's loans receivable, loans which have been
sold, and on which PMC Commercial has retained interests (the "Sold Loans"), or
sold loans, and loans receivable combined with Sold Loans (the "Aggregate
Portfolio") was as follows:
DECEMBER 31, 2002 DECEMBER 31, 2001
------------------------------------- -------------------------------------
LOANS LOANS
AGGREGATE SOLD RECEIVABLE AGGREGATE SOLD RECEIVABLE
PORTFOLIO LOANS (1) PORTFOLIO LOANS (1)
--------- ---------- ---------- --------- ---------- ----------
(Dollars in thousands)
Portfolio outstanding ......... $ 178,567 $ 105,751 $ 72,816 $ 162,137 $ 82,612 $ 79,525
Weighted average
interest rate ............. 8.7% 9.6% 7.5% 9.6% 9.6% 9.6%
Annualized average yield
(2) (3) ................... 10.0% 9.8% 10.3% 10.6% 10.7% 10.5%
Weighted average
contractual maturity
(in years) ................ 15.4 16.2 14.2 14.7 16.5 12.7
Provision for loan
losses(3) ................. $ 65 $ -- $ 65 $ 200 $ -- $ 200
Loan loss reserves ........... $ 365 $ -- $ 365 $ 300 $ -- $ 300
Delinquent and impaired
loans (4) ................. $ 1,756 $ -- $ 1,756 $ 1,370 $ -- $ 1,370
Lodging industry
concentration % ........... 94.8% 93.4% 99.7% 94.3% 97.9% 90.6%
Texas concentration %
(5) ....................... 23.0% 20.7% 26.5% 22.7% 21.7% 23.7%
----------------------------
(1) Portfolio outstanding before reserves and deferred commitment fees.
Includes the principal balance remaining on underlying loans receivable in
the 1998 structured loan financing transaction of $30.7 million and $39.4
million at December 31, 2002 and 2001, respectively.
(2) The calculation of annualized average yield divides interest, loan fees and
prepayment fees earned, less the loan loss reserve, by the average
outstanding portfolio.
(3) For the applicable year ended.
(4) Includes loans receivable which are either past due greater than 60 days or
the collection of the balance of principal and interest is considered
impaired and a loan loss reserve has been established ("PMC Commercial
Impaired Loans"). The balance does not include the principal balance of
loans which have been identified as potential problem loans for which it is
expected that a full recovery of the principal balance will be received
through either collection efforts or liquidation of collateral ("PMC
Commercial Special Mention Loans"). Problem loans are classified into two
categories: PMC Commercial Impaired Loans and PMC Commercial Special
Mention Loans (collectively, "PMC Commercial Problem Loans").
(5) No other concentrations greater than 10% existed as of December 31, 2002
except for a concentration of 10.2% of sold loans in Arizona.
115
FRANCHISE SCHEDULE
The following table is a breakdown of franchise affiliation by the
principal balance outstanding on the Aggregate Portfolio and loans receivable:
At December 31, 2002
----------------------------------------------------------------------------
Aggregate Portfolio Loans Receivable
------------------------------------ -------------------------------------
(Dollars in thousands)
Percentage
of Percentage
Number of Principal Aggregate Number of Principal of Loans
Franchise Properties Outstanding Portfolio Properties Outstanding Receivable
--------- ---------- ----------- --------- ---------- ----------- ----------
Comfort Inn/Suites............. 17 $ 28,845 16.2% 7 $ 10,010 13.8%
Holiday Inn/Express............ 18 24,768 13.9% 8 10,823 14.9%
Days Inn....................... 14 20,143 11.3% 3 1,723 2.4%
Ramada Inn..................... 12 17,953 10.1% 8 12,241 16.8%
Best Western................... 11 16,525 9.3% 7 10,084 13.8%
Quality Inn.................... 7 10,969 6.2% 2 2,578 3.5%
Sheraton Four Points........... 2 6,113 3.4% 2 6,113 8.4%
Econolodge..................... 5 4,436 2.5% 2 1,924 2.6%
Super 8........................ 4 4,319 2.4% 3 3,050 4.2%
Travelodge..................... 3 4,090 2.3% 1 1,353 1.9%
Amerihost Inn.................. 2 4,061 2.3% 2 4,061 5.6%
Country Hearth Inn............. 3 3,943 2.2% -- -- --
Howard Johnson................. 3 3,481 1.9% 1 640 0.9%
Sleep Inn...................... 2 3,281 1.8% 1 1,233 1.7%
Country Inn & Suites........... 1 2,898 1.6% -- -- --
Springhill Suites (Marriott)... 1 2,748 1.5% -- -- --
Hampton Inn.................... 3 2,649 1.5% 2 1,444 2.0%
Microtel Inn................... 2 2,514 1.4% 1 1,164 1.6%
Park Inn & Suites.............. 1 1,696 0.9% 1 1,696 2.3%
Budgetel....................... 1 1,336 0.7% -- -- --
Fairfield Inn (Marriott)....... 1 1,264 0.7% 1 1,264 1.7%
Shoney's Inn................... 1 1,196 0.7% 1 1,196 1.6%
------ --------- ------- ------ --------- --------
114 169,228 94.8% 53 72,597 99.7%
Independent hospitality
properties.................. 4 2,403 1.3% 1 219 0.3%
Commercial real estate......... 5 6,936 3.9% -- -- --
------ --------- ------- ------ --------- --------
Total.......................... 123 $ 178,567 100.0% 54 $ 72,816 100.0%
====== ========= ======= ====== ========= ========
SBA SECTION 504 PROGRAM
PMC Commercial participates as a private lender in the SBA 504 Program.
Participation in the SBA 504 Program offers PMC Commercial an opportunity to
enhance the collateral status of loans receivable by allowing it to originate
loans with lower loan-to-value ratios. The SBA 504 Program assists small
businesses in obtaining subordinated, long-term financing by guaranteeing
debentures available through certified development companies for the purpose of
acquiring land, building, machinery and equipment and for modernizing,
renovating or restoring existing facilities and sites. A typical finance
structure for an SBA 504 Program project would include a first mortgage covering
50% of the project cost from a private lender, a second mortgage obtained
through the SBA 504 Program covering up to 40% of the project cost and a
contribution of at least 10% of the project cost by the principals of the small
businesses being assisted. PMC Commercial typically requires at least 20% of the
equity in a project to be contributed by the principals of the borrower. The SBA
does not guarantee the first mortgage. Although the total sizes of projects
utilizing the SBA 504 Program guarantees are unlimited, the maximum amount of
subordinated debt in any individual project generally is $750,000 (or $1 million
for certain projects). Typical project costs range in size from $500,000 to $3
million.
116
PROPERTY OWNERSHIP
At June 30, 2003, PMC Commercial owned 22 limited service hospitality
properties (hotel properties) that were purchased in 1998 and 1999 through a
sale/leaseback agreement with Arlington. Arlington is the operator of the
properties through a master lease agreement that provides for base rent ($5.5
million per year as of June 30, 2003) and percentage rent of 4% of the gross
room revenues generated by the hotel properties. The lease agreement runs
through June 2008 with two renewal options of five years each and a third option
for 27 months. The first renewal is either at PMC Commercial's or Arlington's
option. The second five year renewal and the third 27 month renewal are solely
at Arlington's option. Each renewal requires extension of all of the then owned
hotel properties. The base rent is adjusted to increase each year based on the
consumer price index up to a maximum increase of 2% per year. Arlington operates
the hotel properties as "Amerihost Inns" which is a brand name franchised by
Cendant Corporation, the largest franchisor of hospitality properties.
During the three years ended December 31, 2002, PMC Commercial sold
eight properties for $21.3 million resulting in net gains totaling $2.3 million.
Five of these property sales were completed as a result of an agreement entered
into with Arlington to sell up to eight properties to Arlington or a third party
prior to June 2004. There were no sales during the six months ended June 30,
2003. To the extent the remaining purchases by Arlington are not completed in
the agreed upon time frame, the lease agreement provides for rent increases on
the remaining hotel properties.
STRUCTURED LOAN TRANSACTIONS
GENERAL
Structured loan sale transactions are PMC Commercial's primary method
of obtaining funds for new loan originations. In a structured loan sale
transaction, PMC Commercial contributes loans receivable to an SPE in exchange
for an ownership interest in that entity. The SPE issues notes payable (usually
through a private placement) to third parties and then distributes a portion of
the notes payable proceeds to PMC Commercial. The notes payable are
collateralized solely by the assets of the SPE. The terms of the notes payable
issued by the SPEs provide that the owners of these SPEs are not liable for any
payment on the notes. Accordingly, if the SPEs fail to pay the principal or
interest due on the notes, the sole recourse of the holders of the notes is
against the assets of the SPEs. PMC Commercial has no obligation to pay the
notes, nor do the holders of the notes have any recourse against PMC
Commercial's assets.
PMC Commercial accounts for structured loan sale transactions as sales
of loans receivable and the SPE meets the definition of a qualifying SPE; as a
result, neither the loans receivable contributed to the SPE nor the notes
payable issued by the SPE are included in PMC Commercial's consolidated
financial statements. When a structured loan sale transaction is completed: (1)
the ownership interests in the SPEs are accounted for as retained interests and
are recorded at the present value of the estimated future cash flows to be
received from the SPE and (2) the difference between (i) the carrying value of
the loans receivable sold and (ii) the relative fair value of the sum of (a) the
cash received and (b) the present value of estimated future cash flows from the
retained interests, constitutes the gain or loss on sale. Gains or losses on
these sales may represent a material portion of PMC Commercial's net income in
the period in which the transactions occur.
A structured loan financing is similar to a structured loan sale, with
the exception that the transaction is not treated as a sale for financial
reporting purposes. Therefore, the loans receivable contributed to the SPE and
the notes payable issued by the SPE are included in PMC Commercial's
consolidated financial statements. Even though the loans receivable and the
notes payable are included on its balance sheets from the structured loan
financing transaction completed in 1998, PMC Commercial has no obligation to pay
the notes, nor do the holders of the notes have any recourse against PMC
Commercial's assets.
Since PMC Commercial relies on structured loan transactions as its
primary source of operating capital to fund new loan originations, any adverse
changes in its ability to complete this type of transaction, including any
negative impact on the asset-backed securities market for the type of product
PMC Commercial generates, could have a detrimental effect on its ability to
generate funds to originate loans.
117
PMC Commercial's retained interests consist of (i) the required
over-collateralization, which is the retention of a portion of each of the sold
loans, (ii) the reserve fund, which is required cash balances owned by the SPE
and (iii) the interest-only strip receivable, which is the future excess funds
to be generated by the SPE after payment of all obligations of the SPE. The
value of PMC Commercial's retained interests is determined based on the present
value of estimated future cash flows that it will receive from the SPEs. The
estimated future cash flows are calculated based on assumptions concerning,
among other things, loan losses and prepayment speeds. On a quarterly basis, PMC
Commercial measures the fair value of, and records income relating to, the
retained interests based upon the future anticipated cash flows discounted based
on an estimate of market interest rates for investments of this type. Any
appreciation of the retained interests is included in PMC Commercial's balance
sheet in beneficiaries' equity while any depreciation of retained interests is
either included in PMC Commercial's statement of income as either a realized
loss (if there is a reduction in expected future cash flows) or on the balance
sheet in beneficiaries' equity as an unrealized loss.
PMC Commercial retains a portion of the default and prepayment risk
associated with the underlying transferred loans receivable of PMC Commercial's
retained interests. Actual defaults and prepayments with respect to estimating
future cash flows for purposes of valuing retained interests will vary from
assumptions, possibly to a material degree, and slower (faster) than anticipated
prepayments of principal or lower (higher) than anticipated loan losses will
increase (decrease) the fair value of retained interests and related cash flows.
See "Risk Factors - Risks Related to the Business of Both PMC Commercial and PMC
Capital." PMC Commercial regularly measures loan loss, prepayment and other
assumptions against the actual performance of the loans receivable sold.
Although PMC Commercial believes that assumptions made as to the future cash
flows are reasonable, actual rates of loss or prepayments will vary from those
assumed and the assumptions may be revised based upon changes in facts or
circumstances.
In connection with structured loan sale transactions, joint ventures
have been formed as SPEs to hold the loans receivable sold and issue notes
payable collateralized by the loans receivable. As of June 30, 2003, PMC
Commercial's SPEs consisted of:
- PMC Joint Venture, L.P. 2000 (the "2000 Joint Venture") and
its related general partner;
- PMC Joint Venture, L.P. 2001 (the "2001 Joint Venture") and
its related general partner; and
- PMC Joint Venture, L.P. 2002-1 (the "2002 Joint Venture," and
together with the 2000 Joint Venture and the 2001 Joint
Venture, the "Joint Ventures") and its related general
partner.
At June 30, 2003, PMC Commercial owned approximately 68%, 40% and 39%,
respectively, of the 2000 Joint Venture, the 2001 Joint Venture and the 2002
Joint Venture with the remainder owned by PMC Capital. PMC Commercial's share of
the cash flows from the Joint Ventures is allocated based on the cash flows from
the underlying loans receivable contributed by PMC Commercial to the respective
Joint Venture less allocated costs based on the remaining principal on the
underlying loans receivable contributed by PMC Commercial divided by all loans
receivable held by the respective Joint Venture.
118
Information relating to PMC Commercial's structured loan sale
transactions are as follows:
2000 JOINT 2001 JOINT 2002 JOINT
VENTURE VENTURE VENTURE
---------- ---------- ----------
(Dollars in thousands)
Principal amount of loans sold:
At time of sale..................................... $ 55,675 $ 32,662 $ 27,286
At December 31, 2002................................ 49,975 28,951 26,825
At June 30, 2003.................................... 47,864 28,331 26,505
Structured notes:
At time of sale..................................... 49,550 30,063 24,557
At December 31, 2002................................ 44,572 26,384 24,135
At June 30, 2003.................................... 42,473 26,086 23,815
Weighted average interest rate on loans:
At time of sale..................................... 9.63% 9.62% 9.23%
At December 31, 2002................................ 9.64% 9.60% 9.23%
At June 30, 2003.................................... 9.62% 9.59% 9.19%
Interest rate on the SPE notes payable (fixed).......... 7.28% 6.36% 6.67%
Required initial over-collateralization (1)............. 11.0% 8.0% 10.0%
PMC Commercial required over-collateralization (2):
At December 31, 2002................................ 11.1% 9.0% 10.2%
Rating of structured notes (3).......................... "Aaa" "Aaa" "Aaa"
Cash reserve requirement................................ 6.0% 6.0% 6.0%
(1) The required initial over-collateralization percentage represents the
portion of PMC Commercial's sold loans receivable retained by the SPEs
whose value is included in retained interests.
(2) The PMC Commercial required over-collateralization percentage is larger
than the initial required over-collateralization percentage since all
principal payments received on the underlying loans receivable are paid to
the noteholders.
(3) Structured notes issued by the SPEs were rated by Moody's Investors
Service, Inc.
STRUCTURED LOAN SALE TRANSACTION COMPLETED DURING 2002
On April 12, 2002, PMC Commercial completed a structured loan sale
transaction of a pool of primarily fixed-rate loans receivable. PMC Commercial
and PMC Capital contributed loans receivable of $27.3 million and $43.2 million,
respectively, to the 2002 Joint Venture. The 2002 Joint Venture issued, through
a private placement, approximately $63.5 million of its 2002 Loan-Backed Fixed
Rate Notes (the "2002 L.P. Notes") of which approximately $24.6 million (the
"2002 PMCT L.P. Notes") was allocated to PMC Commercial based on its ownership
percentage in the 2002 Joint Venture. The 2002 L.P. Notes, issued at par, have a
stated maturity in 2023, bear interest at 6.67% and are collateralized by the
loans receivable contributed by PMC Commercial and PMC Capital to the 2002 Joint
Venture. PMC Commercial accounted for this transaction as a sale, recorded a
gain of $562,000 and recorded the retained interests at an initial amount of
$5,293,000 during 2002.
The net proceeds from the issuance of the 2002 PMCT L.P. Notes
(approximately $24.0 million) were distributed to PMC Commercial. These proceeds
are net of issuance costs and prior to funding the required reserve balance. At
inception of the 2002 Joint Venture and at June 30, 2003, PMC Commercial owned a
39% limited partnership interest based on its share of the capital.
STRUCTURED LOAN SALE TRANSACTION COMPLETED DURING 2001
On June 27, 2001, PMC Commercial completed a structured loan sale
transaction of a pool of fixed-rate loans receivable. PMC Commercial and PMC
Capital contributed loans receivable of $32.7 million and $49.2 million,
respectively, to the 2001 Joint Venture. The 2001 Joint Venture issued, through
a private placement, approximately $75.4 million of its 2001 Loan-Backed Fixed
Rate Notes (the "2001 L.P. Notes") of which approximately $30.1 million (the
"2001 PMCT L.P. Notes") was allocated to PMC Commercial based on its ownership
percentage in the 2001 Joint Venture. The 2001 L.P. Notes, issued at par, have a
stated maturity in 2021,
119
bear interest at 6.36% and are collateralized by the loans receivable
contributed by PMC Commercial and PMC Capital to the 2001 Joint Venture. PMC
Commercial accounted for this transaction as a sale, recorded a gain of
$1,433,000 and recorded the retained interests at an initial amount of
$5,871,000 during 2001.
The net proceeds from the issuance of the 2001 PMCT L.P. Notes
(approximately $29.5 million) were distributed to PMC Commercial. These proceeds
are net of issuance costs and prior to funding the required reserve balance. At
inception of the 2001 Joint Venture and at June 30, 2003, PMC Commercial owned a
40% limited partnership interest based on its share of the capital.
STRUCTURED LOAN SALE TRANSACTION COMPLETED DURING 2000
On December 18, 2000, PMC Commercial completed its first structured
loan sale transaction with PMC Capital. It completed the structured loan sale of
a pool of fixed-rate loans receivable. PMC Commercial and PMC Capital
contributed loans receivable of $55.7 million and $28.0 million, respectively,
to the 2000 Joint Venture. The 2000 Joint Venture issued, through a private
placement, approximately $74.5 million of its 2000 Loan-Backed Fixed Rate Notes
(the "2000 L.P. Notes") of which approximately $49.6 million (the "2000 PMCT
L.P. Notes") was allocated to PMC Commercial based on its ownership percentage
in the 2000 Joint Venture. The 2000 L.P. Notes, issued at par, have a stated
maturity in 2024, bear interest at 7.28% and are collateralized by the loans
receivable contributed by PMC Commercial and PMC Capital to the 2000 Joint
Venture. PMC Commercial accounted for this transaction as a sale, recorded a
gain of $1,117,000 and recorded the retained interests at an initial amount of
$11,174,000 during 2000.
The net proceeds from the issuance of the 2000 PMCT L.P. Notes
(approximately $49.2 million) were distributed to PMC Commercial. These proceeds
are net of issuance costs and prior to funding the required reserve balance. At
inception of the 2000 Joint Venture and at June 30, 2003, PMC Commercial owned a
68% limited partnership interest based on its share of the capital.
JOINT STRUCTURED LOAN SALE TRANSACTIONS - GENERAL
The terms of the 2002 L.P. Notes, the 2001 L.P. Notes and the 2000 L.P.
Notes (the "JV Notes") provide that each of the partners of the respective Joint
Ventures is not liable for any payments on the JV Notes. Accordingly, if the
Joint Ventures fail to pay the JV Notes, the sole recourse of the holders of the
JV Notes is against the assets of the respective Joint Venture. Accordingly, PMC
Commercial has no obligation to pay the JV Notes, nor do the holders of the JV
Notes have any recourse against its assets.
PMC Commercial and PMC Capital have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the Joint Ventures. To the extent that poor performance by either PMC
Commercial's or PMC Capital's sold loans receivable (the "Underperforming
Company") is pervasive enough to cause the other company (the "Performing
Company") not to receive cash flow that it otherwise would have received, then
the Underperforming Company must make the Performing Company whole. If the cash
flow reduction is considered to be temporary, then interest will be paid as
compensation to the Performing Company. In general, when a loan is liquidated,
it may cause a deferral of cash flow to the Performing Company and, as a result,
interest would be charged to the Underperforming Company until the cash flow
from the Joint Venture repays the Performing Company. If the reduction of cash
flows is deemed permanent (i.e., to the extent that the Underperforming Company
will not be able to satisfy the shortfall with the assets it has contributed to
the related structured loan sale transaction), the balance of reduction to cash
flows must be paid to the Performing Company by the Underperforming Company. At
June 30, 2003 and December 31, 2002, the maximum potential amount of future
payments to PMC Capital (undiscounted and without consideration of any proceeds
from the collateral underlying the loans receivable) PMC Commercial could be
required to make under these cross indemnification agreements was approximately
$34.0 million and $36.3 million, respectively, and the discounted amount was
$23.6 million and $25.2 million, respectively, which represents the estimated
fair value of the retained interests reflected on PMC Capital's consolidated
balance sheet for the Joint Ventures. Upon completion of a joint securitization
and on each subsequent quarterly reporting date, management evaluates the need
to recognize a liability associated with these cross indemnification agreements.
Based on present cash flow assumptions, including stress test analyses of
increasing the anticipated losses on each of the loan pools, it does not appear
that the loans receivable sold by PMC Commercial will cause any permanent cash
flow reductions to PMC Capital nor does it appear that the loans
120
receivable sold by PMC Capital will cause any permanent cash flow reduction to
PMC Commercial. Accordingly, PMC Commercial believes that the fair value of
these cross indemnification agreements at inception of the Joint Ventures and as
of June 30, 2003 and December 31, 2002 and 2001 was zero; thus, no liability was
recorded. If the performance of sold loans receivable significantly
deteriorates, it could be necessary for PMC Commercial to perform under these
cross indemnification agreements.
When structured loan sale transactions were completed, the transaction
documents that the SPE entered into contained provisions (the "Credit
Enhancement Provisions") that govern the assets and the flow of funds in and out
of the SPE formed as part of the structured loan sale transaction. Generally,
the Credit Enhancement Provisions include specified limits on the delinquency,
default and loss rates on loans receivable included in each SPE. If, at any
measurement date, the delinquency, default or loss rate with respect to any SPE
were to exceed the specified limits, provisions of the Credit Enhancement
Provisions would automatically increase the level of credit enhancement
requirements for that SPE. During the period in which the specified delinquency,
default or loss rate was exceeded, excess cash flow from the SPE, if any, would
be used to fund the increased credit enhancement levels instead of being
distributed to PMC Commercial, which would delay or reduce its distribution.
INVESTMENT MANAGEMENT
PMC Commercial's loans receivable are managed by PMC Advisers (either
directly or through its subsidiary) pursuant to an investment management
agreement and its properties, including the hotel properties, are supervised by
PMC Advisers pursuant to a separate agreement (the "Lease Supervision
Agreement," and together with the investment management agreements, the
"Advisory Agreements"). Both agreements are renewable on an annual basis.
During the six months ended June 30, 2003 and the years ended December
31, 2002 and 2001, pursuant to the investment management agreement PMC
Commercial was charged fees between 0.40% and 1.55% annually, based upon the
average principal outstanding of PMC Commercial loans receivable. In addition,
PMC Advisers earns fees for its assistance with the issuance of PMC Commercial's
debt and equity securities. Such compensation includes a consulting fee equal to
(i) 12.5% of any offering fees (underwriting or placement fees) incurred by PMC
Commercial pursuant to the public offering or private placement of common
shares, and (ii) 50% of any issuance or placement fees incurred by PMC
Commercial pursuant to the issuance of debt securities or preferred shares of
beneficial interest. In the event the investment management agreement with PMC
Advisers is terminated or not renewed by PMC Commercial (other than as a result
of a material breach by PMC Advisers) or terminated by PMC Advisers (as a result
of a material breach by PMC Commercial), PMC Capital would enter into a
non-compete agreement for a period of seven years from the termination date. A
fee would be paid to PMC Advisers each year by PMC Commercial in consideration
of the non-compete agreement until the non-compete agreement is terminated. Upon
termination, the fee would be calculated as 1% (less loan losses as a percentage
of average outstanding invested assets) multiplied by the average invested
assets.
The Lease Supervision Agreement provides for an annual fee of 0.70% of
the original cost of the hotel properties to be paid to PMC Advisers for
providing services relating to leases on PMC Commercial's properties. In
addition, the Lease Supervision Agreement provides for a fee relating to any
acquisition of properties of 0.75% of the acquisition cost, a fee of $10,000
upon the sale of each hotel property and an annual loan origination fee equal to
five basis points of loans funded for the first $20 million in loans and 2.5
basis points thereafter. In the event the Lease Supervision Agreement with PMC
Advisers is terminated or not renewed by PMC Commercial (other than as a result
of a material breach by PMC Advisers) or terminated by PMC Advisers (as a result
of a material breach by PMC Commercial), PMC Advisers would be entitled to
receive the lease supervision fee for a period of five years from the
termination date. Pursuant to the Advisory Agreements, PMC Commercial incurred
an aggregate of approximately $1.1 million, $2.3 million and $2.3 million in
management fees during the six months ended June 30, 2003 and the years ended
December 31, 2002 and 2001, respectively.
PMC Capital is primarily engaged in the business of originating loans
to small businesses under loan guarantee and funding programs sponsored by the
SBA. PMC Commercial provides loans to persons or entities whose borrowing needs
and/or strength and stability exceed the limitations set for SBA approved loan
programs. As a result, PMC Commercial generally pursues different prospective
borrowers than PMC Capital. In order to further mitigate the potential for
conflicts of interest, PMC Commercial has entered into a loan origination
agreement with
121
PMC Capital and PMC Advisers. Pursuant to the loan origination agreement, all
loans that meet PMC Commercial's underwriting criteria are presented to PMC
Commercial first for funding. If PMC Commercial does not have available
uncommitted funds, origination opportunities presented to PMC Commercial may be
originated by PMC Capital or its subsidiaries. Many of PMC Commercial's existing
and potential borrowers have other projects that are currently financed by PMC
Capital.
TAX STATUS
PMC Commercial has elected to be taxed as a REIT under the Internal
Revenue Code. As a REIT, PMC Commercial generally is not subject to U.S. Federal
income tax (including any applicable alternative minimum tax) on any income
(including net capital gain) it distributes to its shareholders, provided that
it distributes at least 90% of its REIT taxable income to shareholders. PMC
Commercial may, however, be subject to certain Federal excise taxes and state
and local taxes on its income and property. REITs are subject to a number of
organizational and operational requirements under the Internal Revenue Code. See
"U.S. Federal Income Tax Consequences."
EMPLOYEES
PMC Commercial has no salaried employees. The Investment Manager
provides all personnel required for PMC Commercial's operations.
CUSTOMERS
In relation to its lending division, PMC Commercial is not dependent
upon a single borrower, or a few borrowers, whose loss would have a material
adverse effect on it. In addition, PMC Commercial has not loaned more than 10%
of its assets to any single borrower.
PMC Commercial's property division is dependent upon Arlington to
operate the hotel properties. Lease income from Arlington represents 100% of the
revenue in this segment. The loss of Arlington would have a material adverse
effect on PMC Commercial until another operator could be put into place for the
hotel properties.
PROPERTIES
PMC Commercial operates from the headquarters of the Investment Manager
in Dallas, Texas, and through their loan production office in Arizona.
At June 30, 2003, PMC Commercial owned 22 hotel properties (not
including the limited service hospitality property it acquired through
foreclosure on the real estate securing a loan receivable). The hotel properties
are leased to a wholly-owned subsidiary of Arlington pursuant to individual
property leases which are subject to the terms of a master lease agreement.
Pursuant to the master lease agreement, aggregate base rent is paid to PMC
Commercial based on the number of hotel properties it owns. The master lease and
the underlying individual property leases expire in June 2008, but each can be
extended by either Arlington or PMC Commercial for one five-year period, and
thereafter by Arlington for a five-year period and a subsequent 27 month period.
If fully extended, the term of the master lease would continue until September
2020. Arlington has guaranteed the payment of the rent due under the terms of
the master lease agreement and the individual property leases. In addition, the
master lease requires a deposit of two months base rent (approximately $900,000
at December 31, 2002). If Arlington defaults under the master lease, PMC
Commercial has the right to, among other things, terminate the master lease.
Lease income represented approximately 36% of PMC Commercial's total revenues
during 2002.
122
The following table describes the location, number of rooms, year built
and annual base rent for 2003 relating to each of these properties:
Rooms Annual Base
City State in Hotel Year Built Rent (1)
------------------ ----------- -------- ---------- -----------
Eagles Landing Georgia 60 1995 $ 237,180
La Grange (2) Georgia 59 1995 216,560
Smyrna Georgia 60 1996 226,870
Rochelle Illinois 61 1997 247,490
Macomb Illinois 60 1995 268,120
Sycamore Illinois 60 1996 268,120
Plainfield Indiana 60 1992 247,490
Mt. Pleasant Iowa 63 1997 226,870
Storm Lake Iowa 61 1997 216,560
Coopersville Michigan 60 1996 247,490
Grand Rapids North Michigan 60 1995 278,430
Grand Rapids South Michigan 61 1997 278,430
Monroe Michigan 63 1997 257,800
Port Huron Michigan 61 1997 257,800
Tupelo Mississippi 61 1997 237,180
Ashland Ohio 62 1996 309,370
Marysville Ohio 79 1990 329,990
Wooster East Ohio 58 1994 206,250
Wooster North Ohio 60 1995 206,250
Jackson Tennessee 61 1998 257,800
McKinney Texas 61 1997 257,800
Mosinee Wisconsin 53 1993 175,310
-------- -----------
1,344 $ 5,455,160
======== ===========
--------------------------------
(1) Annual base rent includes a CPI adjustment (2.0% increase) which was
effective January 1, 2003.
(2) Represents PMC Commercial's real estate investment held for sale at June
30, 2003.
LEGAL PROCEEDINGS
In the normal course of business, PMC Commercial is subject to various
proceedings and claims, the resolution of which will not, in management's
opinion, have a material adverse effect on its financial position or results of
operations.
123
PMC COMMERCIAL MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion and analysis in conjunction
with PMC Commercial's consolidated financial statements and related notes
appearing elsewhere in this joint proxy statement/prospectus.
BUSINESS
GENERAL
PMC Commercial is primarily a commercial lender that originates loans
to small businesses that are principally collateralized by first liens on the
real estate of the related business. PMC Commercial sells loans receivable
through privately-placed structured loan sale transactions. Historically, PMC
Commercial has retained residual interests in all loans receivable sold through
its ownership in the related SPEs.
PMC Commercial's revenues and realized gains include the following:
- Interest earned on loans receivable including the effect of
commitment fees collected at the inception of the loan;
- Lease payments on hotel properties;
- Earnings on retained interests;
- Interest earned on temporary (short-term) investments;
- Gains relating to structured loan sale transactions;
- Gains relating to sales of hotel properties; and
- Other fees, including late fees, prepayment fees, construction
monitoring fees and site visit fees.
PMC Commercial's ability to generate interest income, as well as other
revenue sources, is dependent on economic, regulatory and competitive factors
that influence interest rates and loan originations, and its ability to secure
financing for its investment activities. The amount of other income earned will
vary based on volume of loans funded, the timing and amount of financings, the
volume of loans receivable which prepay, the mix of loans (construction versus
non-construction), the rate and type of loans originated (whether fixed or
variable) as well as the general level of interest rates. For a more detailed
description of the risks affecting PMC Commercial's financial condition and
results of operations, see "Risk Factors."
Commencing in the latter half of 2001, PMC Commercial's ability to
compete for fixed-rate lending opportunities declined. Interest rates have
remained at historically low levels for a prolonged period of time providing the
banking industry with the ability to offer fixed-rate "mini-perm" loans (i.e.,
five-year maturity, 20-year amortization) based on these low short-term rates.
In contrast, the interest rates on PMC Commercial's fixed-rate loan products are
based on a longer term (10-year U.S. Treasuries) which remained at
disproportionately higher levels than shorter term financial indices. As a
result, the fixed interest rates PMC Commercial offered were higher than the
banks and its lending opportunities decreased. However, PMC Commercial is able
to compete more effectively when offering a LIBOR-based variable-rate loan
product.
At June 30, 2003 and December 31, 2002, PMC Commercial's variable-rate
loans receivable were $59.9 million (67%) and $42.1 million (58%), respectively,
of its loans receivable. At June 30, 2003, all of its commitments were for
variable-rate loans, and given the current interest rate market, PMC Commercial
expects to continue to originate primarily variable-rate loans. At June 30,
2003, PMC Commercial had approximately $21.4 million of total loan commitments
and approvals outstanding with interest rates based on spreads over LIBOR
ranging from 4.0% to 4.5%. The weighted average interest rate on loan
commitments at June 30, 2003 was 5.3%
124
which is lower than PMC Commercial's historical weighted average interest rate
on loan commitments because PMC Commercial is currently originating primarily
variable-rate interest loans. Commitments have fixed expiration dates and
require payment of a fee to PMC Commercial.
The weighted average interest rate on loans receivable declined to 6.9%
at June 30, 2003 from 7.5% at December 31, 2002 and 9.6% at December 31, 2001
primarily as a result of a decrease in the average quarterly LIBOR (244 basis
points) during 2002 which is utilized in the determination of quarterly variable
rates and an increase in variable-rate lending.
CURRENT OPERATING OVERVIEW
Due to geopolitical uncertainty and general economic conditions, PMC
Commercial has seen a slowdown in potential lending opportunities and some
funding commitments have been terminated. In addition, PMC Commercial did not
complete a structured loan sale transaction on favorable terms that it had
expected to be completed prior to June 30, 2003. While PMC Commercial believes
it could have completed a transaction during the second quarter of 2003, it
delayed the securitization since the terms of the transactions available in the
market were not considered favorable to it (i.e. the transaction size and cost
did not reflect the value of the transaction). As a result, PMC Commercial's
anticipated fundings during the remainder of 2003 most likely will not meet its
prior expectation. When fundings are reduced, PMC Commercial's net interest
income does not increase as it would have if these fundings were completed, and
may be reduced to the extent principal repayments exceed amounts funded or
interest rates decline. The market for the type of asset-backed securities PMC
Commercial originates was relatively inefficient during the first half of 2003
as a result of uncertainties in the market place due to the sluggishness of the
economy, geopolitical uncertainties and the impact of the ongoing conflict in
the Middle East. PMC Commercial is in the process of finalizing a loan pool for
its current structured loan sale transaction and now anticipates that the
structured loan sale transaction will be completed late in September 2003,
unless additional delays are encountered.
Since the majority of PMC Commercial's loans receivable have variable
rates of interest, the continuation of the low interest rate environment has had
a negative impact on net income. During late 2002, PMC Commercial expected that
interest rates would gradually increase during 2003 and 2004; however interest
rates decreased during the first half of 2003. PMC Commercial expects that
short-term interest rates will remain at current levels or possibly decrease
during the remainder of 2003. Interest rate increases will generally cause
valuation decreases in its retained interests in transferred assets while
interest rate decreases cause valuation increases in its retained interests in
transferred assets; however, these changes have no impact on its cash flow from
operations, the cash available for distribution to PMC Commercial shareholders
or the determination by the PMC Commercial board of trust managers of the level
of quarterly dividend distributions.
In addition, the following provides a summary of other significant
economic factors that may have an impact on PMC Commercial's financial condition
and results of operations. The factors described below could impact the volume
of loan originations, the income PMC Commercial earns on assets, its ability to
complete a securitization, the performance of loans and/or the performance of
SPEs.
ASSET-BACKED STRUCTURED LOAN SALE TRANSACTION MARKET
Problems in the asset-backed securities market that could impact PMC
Commercial's ability or alter its decision to complete a structured loan
transaction on a timely basis or cause it to sell loans receivable on less
favorable terms include, but are not limited to, the following:
- As a result of certain economic conditions, investors in the
type of asset-backed securities that PMC Commercial places may
increase its cost of capital by widening the "spreads" they
require in order to purchase asset-backed securities or cease
acquiring the type of asset backed security issued by PMC
Commercial;
- The deterioration in the performance of either PMC
Commercial's loan portfolio or the portfolio of PMC Capital
may deter potential investors from purchasing its asset-backed
securities;
125
- The deterioration in the operations of the limited service
sector of the hospitality industry which may deter potential
investors from purchasing PMC Commercial's asset-backed
securities or lower the available rating from the rating
agencies;
- A reduction in the performance of the loans receivable of
prior transactions or of similar transactions (for example,
higher than expected loan losses or delinquencies) may deter
potential investors from purchasing PMC Commercial's
asset-backed securities; and
- A change in the underlying criteria utilized by the rating
agencies may cause transactions to receive lower ratings than
previously issued thereby increasing the cost of capital on
PMC Commercial's transactions.
Significant changes in any of these criteria may result in PMC
Commercial temporarily suspending its structured loan sale program and seeking
other sources of financing. See "Risk Factors - Risks Related to the Business of
Both PMC Commercial and PMC Capital."
INTEREST INCOME AND RATES
As a result of PMC Commercial's increasing dependence on variable-rate
loans, the continued prolonged low interest rate environment has caused interest
income to be reduced. To the extent that rates remain at these historically low
levels, or LIBOR decreases from current levels, PMC Commercial will earn less
interest income. Alternatively, when rates rise in the future, the interest PMC
Commercial earns on performing variable-rate loans will increase. In addition,
the decreased loan origination volume during 2002 (compared to 2001) affected
interest income. Interest income can continue to be reduced if (i) principal
payments on outstanding loans receivable exceed loan originations, (ii) interest
rates continue to decrease, or (iii) PMC Commercial Problem Loans increase.
INTEREST RATE SPREADS
PMC Commercial's net interest margin is dependent upon the difference
between the cost of borrowed funds and the rate at which PMC Commercial invests
these funds (the "spread differential"). A significant reduction in spread
differential may have a material adverse effect on PMC Commercial's results of
operations. Over the past few years the spread differential has been reduced
causing decreased income from continuing operations. There can be no assurance
that the spread differential will not continue to decrease. PMC Commercial
believes that its LIBOR-based loan program will provide it with a spread
differential (resulting from structured loan sale transactions) that
approximates the spread differential it has historically received on fixed-rate
transactions due to management's belief that there is a more favorable market
for LIBOR-based structured loan sale transactions compared to fixed-rate
structured loan sale transactions.
LOAN ORIGINATION TREND
During the latter part of 2001, PMC Commercial commenced marketing and
selling a variable-rate loan product based on LIBOR which presently provides a
lower cost variable interest rate alternative to its borrowers as a result of
market conditions. During the first half of 2002, PMC Commercial experienced
decreases in lending opportunities, loans funded and loan commitments compared
to the prior year due to competition resulting from the interest rate
environment and the economic uncertainty which specifically had an impact on the
hospitality sector. As a result of the continuation of low short-term interest
rates, banks continue to offer their "mini-perm" short-term loans at rates
considerably lower than PMC Commercial's long-term fixed-rate loans and often
with less down payment requirements. In addition, as a result of the economic
uncertainty following the tragic events of September 11th, fewer hospitality
properties were marketed to be sold; therefore, fewer property sales required
financing. During 2002, there was a positive trend in loan origination
activities and PMC Commercial's commitments were increasing.
During the six months ended June 30, 2003, PMC Commercial primarily
originated variable-rate loans based on LIBOR which presently provides a lower
cost variable interest rate alternative to its borrowers than fixed-rate loan
products. As a result of the uncertainties in the marketplace due to the
sluggishness of the economy
126
and the impact of the ongoing conflict in the Middle East, fewer hospitality
properties are being marketed to be sold or refinanced; therefore, fewer
property sales are requiring financing. In addition, PMC Commercial did not
complete a structured loan sale transaction that was expected to be completed
prior to June 30, 2003. PMC Commercial's commitments at June 30, 2003 were less
than commitments at December 31, 2002. In addition, several commitments
outstanding were cancelled. PMC Commercial expects that its commitments will
continue to decrease until the market for limited service hospitality properties
improves and a structured loan sale transaction is completed.
HOSPITALITY INDUSTRY FACTORS
Reductions in business and discretionary travel cause a moderation in
demand for hotel rooms and a slowdown in construction of hospitality properties
(including limited service hospitality properties). These reductions were
primarily caused by (i) traveler concerns about the safety and convenience of
air travel, (ii) a general reluctance to be away from home and (iii) a downturn
in corporate profits, investments and transactions which led to aggressive
business travel reductions. Although the Federal Reserve lowered interest rates
the last three years to aid in stimulating the economy and to provide liquidity,
consumer and business confidence declined. This lack of confidence, which
continued into early 2003, caused a significant strain on the travel and hotel
industries as well as numerous other industries in the United States. Political
uncertainties have impeded a rebound in consumer and investor confidence and
spending. However, the limited service segment of the hospitality industry has
been less impacted and has continued to outperform the luxury and upscale
sectors which experienced the weakest performance.
Another factor which affects the limited service sector of the
hospitality industry is a significant rise in gasoline prices within a short
period of time. Most of the limited service hospitality properties
collateralizing PMC Commercial's loans receivable are located on interstate
highways. Historically, when gas prices sharply increase, occupancy rates
decrease for properties located on interstate highways.
DEPENDENCY ON THIRD PARTY MANAGEMENT OF PMC COMMERCIAL'S HOTEL
PROPERTIES
As a REIT, PMC Commercial cannot operate its hotel properties. As a
result, PMC Commercial is dependent upon Arlington to operate and manage its
hotel properties. The operating results of PMC Commercial's hotel properties are
subject to a variety of risks which could affect Arlington's ability to generate
sufficient cash flow to support the payment obligations under the master lease
agreement. In the event Arlington defaults on the master lease agreement, there
is no assurance that PMC Commercial would be able to find a new operator for its
hotel properties, negotiate to receive the same amount of lease income or that
it would be able to collect on Arlington's guarantee. In addition, in the event
Arlington defaults, PMC Commercial may incur costs, including holding costs,
legal fees and costs to re-franchise the properties.
PORTFOLIO INFORMATION
LENDING ACTIVITIES
General
PMC Commercial's lending activities consist primarily of originating
loans to borrowers who operate in the hospitality industry. PMC Commercial's net
loans receivable were $89.6 million, $72.0 million and $78.5 million at June 30,
2003 and December 31, 2002 and 2001, respectively. During 2002 and 2001, PMC
Commercial originated loans totaling $32.8 million and $51.7 million and
received repayments of $12.3 million (of which approximately $9.6 million
represented prepayments) and $5.9 million (of which approximately $2.7 million
represented prepayments), respectively. During the six months ended June 30,
2003 and 2002, PMC Commercial originated $21.1 million and $12.8 million of
loans, respectively, and principal collections on PMC Commercial's loans
receivable were $3.4 million (including $1.4 million of scheduled maturities)
and $8.3 million (including $6.6 million of prepayments and $0.6 million of
scheduled maturities) during the six months ended June 30, 2003 and 2002,
respectively. When originating a loan, PMC Commercial charges a commitment fee.
During 2002 and 2001,
127
PMC Commercial collected commitment fees of $575,000 and $521,000, respectively.
These fees are deferred and recognized as an adjustment of yield over the life
of the related loan receivable.
At June 30, 2003 and December 31, 2002, approximately $59.9 million and
$42.1 million of PMC Commercial's loans receivable, respectively, had a variable
interest rate (reset on a quarterly basis) based primarily on LIBOR with a
weighted average interest rate of approximately 5.2% and 5.4%, respectively. The
LIBOR rate used in determining interest rates charged PMC Commercial's borrowers
during the third quarter of 2003 (set on July 1, 2003) was 1.11%. In comparison,
the LIBOR used in determining interest rates charged to PMC Commercial's
borrowers during the second quarter of 2003 (set on April 1, 2003) was 1.29%.
The spread that PMC Commercial charges over LIBOR generally ranges from 3.5% to
4.5%. To the extent LIBOR changes, PMC Commercial will see changes in interest
income from its variable-rate loans receivable. In addition, at June 30, 2003
and December 31, 2002, approximately $30.6 million and $29.9 million,
respectively, of PMC Commercial's loans receivable had a fixed interest rate
with a weighted average interest rate of 10.2% and 10.4%, respectively. See "PMC
Commercial Quantitative and Qualitative Disclosures About Market Risk."
At June 30, 2003, PMC Commercial had approximately $21.4 million of
loan commitments outstanding. All of PMC Commercial's current commitments are
based on LIBOR. At June 30, 2003, all of PMC Commercial's commitments were for
variable-rate loans, and given the current interest rate market, PMC Commercial
expects to continue to originate primarily variable-rate loans. It is
anticipated that new commitments will have an interest rate floor of 6%. The
weighted average interest rate on loan commitments at June 30, 2003 was 5.3%.
See "--Liquidity and Capital Resources."
PMC Commercial sold loans in structured loan sale transactions
completed in April 2002, June 2001 and December 2000. Since the cash flows from
these sold loans will impact PMC Commercial's profitability and PMC Commercial's
cash available for dividend distributions, PMC Commercial provides information
on both the Retained Portfolio and the Aggregate Portfolio. Accordingly, at June
30, 2003, PMC Commercial's Retained Portfolio does not include $102.7 million of
aggregate principal balance remaining on the loans sold in these structured loan
sale transactions. PMC Commercial's Aggregate Portfolio outstanding was $193.2
million at June 30, 2003. The weighted average contractual interest rate on PMC
Commercial's Aggregate Portfolio was 8.3%, 8.7% and 9.3% at June 30, 2003,
December 31, 2002 and June 30, 2002, respectively.
Information on PMC Commercial's Retained Portfolio was as follows:
As of and for the Period Ended
----------------------------------------------
June 30, December 31, June 30,
2003 2002 2002
-------- ------------ --------
Weighted Average Interest Rate................... 6.9% 7.5% 8.8%
Annualized Average Yield (1)..................... 7.5% 10.3% 10.9%
-----------------
(1) In addition to interest income, the yield includes all fees earned and is
reduced by the provision for loan losses.
PREPAYMENT ACTIVITY
Prepayment activity on fixed-rate loans receivable has increased as a
result of the current low interest rate environment (the prime rate, LIBOR and
the interest rates on treasury notes decreased substantially during 2001 and
2002). PMC Commercial believes that it may continue to see increased prepayment
activity at high levels (particularly in relation to fixed-rate loans
receivable) during the remainder of 2003. Many of the prepayment fees for
fixed-rate loans receivable are based upon a yield maintenance premium which
provides for greater fees as interest rates decrease. In addition, certain loans
receivable have prepayment prohibitions of up to five years.
The timing and volume of prepayment activity for both variable and
fixed-rate loans receivable fluctuate and are impacted by numerous factors
including the following:
128
- The competitive lending environment (i.e., availability of
alternative financing);
- The current and anticipated interest rate environment (i.e.,
if interest rates are expected to rise or fall);
- The market for limited service hospitality property sales; and
- The amount of the prepayment fee and the length of prepayment
prohibition.
When loans receivable are repaid prior to their maturity, PMC
Commercial generally receives prepayment fees. Prepayment fees result in
one-time increases in income. The proceeds from the prepayments PMC Commercial
receives are invested initially in temporary investments and have generally been
re-loaned or committed to be re-loaned at lower interest rates than the prepaid
loans receivable. These lower interest rates have had an adverse effect on
interest income and depending upon the rate of future prepayments may further
impact PMC Commercial's interest income. It is difficult to accurately predict
the volume or timing of prepayments since the factors listed above are not
all-inclusive and changes in one factor are not isolated from changes in another
which might magnify or counteract the rate or volume of prepayment activity.
PROBLEM LOANS
Senior management closely monitors the PMC Commercial Problem Loans,
which are classified into two categories: Impaired Loans and Special Mention
Loans. PMC Commercial Impaired Loans are loans which the collection of the
balance of principal and interest is considered impaired and a loan loss reserve
has been established. PMC Commercial Special Mention Loans are those loans
receivable that are not complying with their contractual terms but PMC
Commercial expects a full recovery of the principal balance through either
collection efforts or liquidation of collateral. There can be no assurance that
PMC Commercial Special Mention Loans will not become Impaired Loans in the
future if there is a deterioration in the value of the collateral.
PMC Commercial's Problem Loans were as follows:
December 31,
June 30, -----------------------
2003 2002 2001
-------- ------ --------
(In thousands)
PMC Commercial Impaired Loans:
Loans receivable ....................................... $1,739 $1,756 $ 1,370
Sold loans of SPEs ..................................... -- -- --
------ ------ --------
$1,739 $1,756 $ 1,370
====== ====== ========
PMC Commercial Special Mention Loans:
Loans receivable ....................................... $ -- $ -- $ 1,174
Sold loans of SPEs ..................................... 1,365 1,362 1,868
------ ------ --------
$1,365 $1,362 $ 3,042
====== ====== ========
Percentage of PMC Commercial Impaired
Loans:
Loans receivable ....................................... 1.9% 2.4% 1.7%
Sold loans of SPEs ..................................... -- -- --
Percentage of PMC Commercial Special
Mention Loans:
Loans receivable ....................................... -- -- 1.4%
Sold loans of SPEs ..................................... 1.3% 1.3% 1.2%
There were no provisions for loss during the six months ended June 30,
2003. PMC Commercial's provision for loan losses as a percentage of weighted
average outstanding loans receivable was 0.09% (9 basis
129
points) and 0.27% (27 basis points) during 2002 and 2001, respectively. At June
30, 2003, December 31, 2002 and 2001, PMC Commercial had reserves in the amount
of $365,000, $365,000 and $300,000, respectively, against loans receivable that
it has determined to be PMC Commercial Problem Loans.
RETAINED INTERESTS
At June 30, 2003, December 31, 2002 and 2001, the estimated fair value
of PMC Commercial's retained interests was $22.7 million, $23.5 million and
$17.8 million, respectively. PMC Commercial's retained interests consist of (i)
the retention of a portion of each of the sold loans, (ii) the contractually
required cash balances owned by the SPE and (iii) future excess funds to be
generated by the SPE after payment of all obligations of the SPE.
The value of PMC Commercial's retained interests is based on estimates
of the present value of future cash flows PMC Commercial expects to receive from
the SPEs. Estimated future cash flows are based in part upon estimates of
prepayment speeds and loan losses on the loans receivable transferred to the
SPEs. Prepayment speeds and loan losses are estimated based on the current and
anticipated interest rate and competitive environments and PMC Commercial's
historical experience with these and similar loans receivable. The discount
rates utilized are determined for each of the components of retained interests
as estimates of market rates based on interest rate levels considering the risks
inherent in the transaction. Changes in any of PMC Commercial's assumptions, or
actual results which deviate from PMC Commercial's assumptions, may materially
affect the value of PMC Commercial's retained interests.
The net unrealized appreciation on PMC Commercial's retained interests
at June 30, 2003, December 31, 2002 and 2001 was $3.5 million, $3.8 million and
$2.2 million, respectively. Any appreciation of PMC Commercial's retained
interests is included in the accompanying balance sheet in beneficiaries' equity
while any depreciation of PMC Commercial's retained interests is either included
in the accompanying statement of income as a realized loss (if there is a
reduction in expected future cash flows) or on PMC Commercial's balance sheet in
beneficiaries' equity as an unrealized loss. Reductions in expected future cash
flows generally occur as a result of decreases in expected yields, increases in
anticipated loan losses or increases in prepayment speed assumptions.
PROPERTY OWNERSHIP
PMC Commercial's hotel properties are operated by Arlington pursuant to
the sale/leaseback agreement. The following table summarizes statistical data
regarding the 22 hotel properties (1):
Six Months Ended
June 30, Years Ended December 31,
----------------------------------- ------------------------------------------------------------
2003 2002 2002 2001 2000
------------- ------------- -------------- -------------- --------------
Occupancy 54.95% 58.70% 58.74% 57.32% 59.58%
ADR (2) $ 53.27 $ 54.33 $ 54.60 $ 53.24 $ 55.48
RevPar (3) $ 29.27 $ 31.89 $ 32.02 $ 32.23 $ 32.74
Revenue $ 7,088,807 $ 7,733,831 $ 15,655,627 $ 15,772,935 $ 16,222,702
Rooms Rented 133,088 142,359 287,190 280,482 292,507
Rooms Available 242,203 242,510 488,921 489,356 491,093
-----------------------
(1) Arlington has provided all data (only includes properties owned as of June
30, 2003).
(2) "ADR" is defined as the average daily room rate.
(3) "RevPar" is defined as revenue per available room.
Income related to the hotel properties is from lease payments. The
lease is a "triple net" lease; therefore, all expenses of operation including
insurance and real estate taxes are the obligation of Arlington. The data
provided above is for informational purposes only. All revenues and expenses
from operation of the properties belong to Arlington.
130
A summary of financial information for the lessee of PMC Commercial's
properties, Arlington, which has been derived from its public filings as of June
30, 2003 and December 31, 2002 is as follows:
ARLINGTON HOSPITALITY, INC.
December 31,
------------------------
June 30, 2003 2002 2001
------------- -------- --------
(In thousands)
BALANCE SHEET DATA:
Investment in hotel assets $ 91,756 $103,903 $ 98,300
Cash and short-term investments 4,204 3,970 4,748
Total assets 108,866 119,934 115,174
Total liabilities 96,210 102,564 96,107
Shareholders' equity 12,656 17,370 19,067
Six Months Ended June 30, Years Ended December 31,
------------------------- -----------------------------------------
2003 2002 2002 2001 2000
-------- -------- -------- -------- --------
(In thousands)
INCOME STATEMENT DATA:
Total revenue $ 33,586 $ 34,353 $ 76,531 $ 77,153 $ 76,151
Operating income (loss) (3,666) 2,125 1,992 5,547 4,653
Net income (loss) (4,840) (524) (1,710) 755 4,010
Arlington is a public entity that files periodic reports with the SEC.
Additional information about Arlington can be obtained from the SEC's website at
www.sec.gov.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The discussion and analysis of PMC Commercial's financial condition and
results of operations is based upon its consolidated financial statements, which
have been prepared in accordance with generally accepted accounting principles.
The preparation of these financial statements requires PMC Commercial to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues and expenses and related disclosure of contingent assets and
liabilities. PMC Commercial's management has discussed the development and
selection of these critical accounting policies and estimates with the audit
committee of PMC Commercial's board of trust managers and the audit committee
has reviewed the disclosures relating to these policies and estimates included
in this joint proxy statement/prospectus.
PMC Commercial believes the following critical accounting
considerations and significant accounting policies represent the more
significant judgments and estimates used in the preparation of the consolidated
financial statements.
VALUATION OF LOANS RECEIVABLE
Loan loss reserves are established based on a determination, through an
evaluation of the recoverability of individual loans receivable, that
significant doubt exists as to the ultimate realization of the loan receivable.
PMC Commercial monitors the loan portfolio on an ongoing basis and evaluates the
adequacy of its loan loss reserves. In its analysis, PMC Commercial reviews
various factors, including the value of the collateral securing the loan
receivable and the borrower's payment history. The determination of whether
significant doubt exists and whether a loan loss reserve is necessary for each
loan requires judgment and consideration of the facts and circumstances existing
at the evaluation date. Changes to the facts and circumstances of the borrower,
the hospitality industry and the economy may require the establishment of
significant additional loan loss reserves. If a determination is made that
significant doubt exists as to the ultimate collection of loans receivable, the
effect on results of operations may be material.
131
The provision for loan losses was 0.09% (nine basis points) and 0.27%
(27 basis points) of PMC Commercial's weighted average outstanding loans
receivable during 2002 and 2001, respectively. It may be difficult to maintain
such a low loss rate on loans receivable. To the extent one or several of the
loans experiences significant operating difficulties and PMC Commercial is
forced to liquidate the loans, future losses may be substantial.
VALUATION OF RETAINED INTERESTS
Due to the limited number of entities that conduct transactions with
similar assets, the relatively small size of the retained interests and the
limited number of buyers for such assets, no readily ascertainable market exists
for the retained interests. Therefore, PMC Commercial's determination of value
may vary significantly from what a willing buyer would pay for these assets.
The valuation of the retained interests is the most volatile critical
accounting estimate because the valuation is dependent upon estimates of future
cash flows that are dependent upon the performance of the underlying loans
receivable. Prepayments or losses in excess of estimates will cause unrealized
depreciation and ultimately realized losses. The value of the retained interests
is determined based on the present value of estimated future cash flows from the
SPEs. The estimated future cash flows are calculated based on assumptions
including, among other things, prepayment speeds and loan losses. PMC Commercial
regularly measures loan loss and prepayment assumptions against the actual
performance of the loans receivable sold and to the extent adjustments to PMC
Commercial's assumptions are deemed necessary, they are made on a quarterly
basis. If prepayment speeds occur at a faster rate than anticipated, or future
loan losses occur quicker than expected, or in amounts greater than expected,
the value of the retained interests will decline and total income in future
periods would be reduced. If prepayments occur slower than anticipated, or
future loan losses are less than expected, cash flows would exceed estimated
amounts, the value of the retained interests would increase and total income in
future periods would be enhanced. Although PMC Commercial believes that
assumptions as to the future cash flows of the structured loan sale transactions
are reasonable, actual rates of loss or prepayments may vary significantly from
those assumed and other assumptions may be revised based upon anticipated future
events. These assumptions are updated on a quarterly basis. Over the past three
years, there has been no significant change in the methodology employed in
valuing these assets. The discount rates utilized in computing the net present
value of future cash flows are based on an estimate of the inherent risks
associated with each cash flow stream.
Significant estimates related to retained interests were as follows at
December 31, 2002:
Constant Aggregate
Prepayment Losses Range of
Rate (1) Assumed (2) Discount Rates
----------- -------------- --------------
2000 Joint Venture......... 9.5% 2.65% 6.7% to 11.4%
2001 Joint Venture......... 9.5% 3.38% 6.7% to 11.4%
2002 Joint Venture......... 9.5% 3.38% 7.1% to 11.8%
-----------------------------
(1) Based on anticipated principal prepayments considering the loans sold and
other similar loans.
(2) As a percentage of the outstanding principal balance of the underlying
loans receivable as of December 31, 2002 based upon per annum losses that
ranged from 0.4% to 0.8%.
There were no significant changes in the above assumptions as of June
30, 2003.
Future annualized loan losses of 40 basis points or greater were
estimated on all of structured loan sale transactions. At December 31, 2002, PMC
Commercial identified one sold loan ($1.4 million) that it considers a PMC
Commercial Special Mention Loan. If PMC Commercial has to liquidate this loan,
losses may exceed estimates and the value of the retained interests will
decline.
In addition, prepayments in excess of assumptions will cause a decline
in the value of the retained interests relating to the excess funds (PMC
Commercial interest-only strip receivable) expected from structured loan sale
transactions. For example, if a $1.0 million loan with an interest rate of 10%
prepays and the "all-in cost" of that
132
Joint Venture's structured notes was 7%, PMC Commercial would lose the 3% spread
it had expected to receive on that loan in future periods. The "spread" that is
lost may be offset in part or in whole by the prepayment fee that PMC Commercial
collects.
The following is a sensitivity analysis of the retained interests as of
June 30, 2003 and December 31, 2002 to highlight the volatility that results
when prepayments, loan losses and discount rates are different than the
assumptions:
June 30, 2003 December 31, 2002
--------------------- ---------------------
Asset Asset
Pro and Net Pro and Net
Forma Income Forma Income
Changed Assumption Value Change Value Change
--------------------------------------------------------------------- ------- ------- ------- -------
(In thousands)
Losses increase by 50 basis points per annum (1) .................... $21,004 ($1,682) $21,751 ($1,781)
Losses increase by 100 basis points per annum (1) ................... $19,386 ($3,300) $20,040 ($3,492)
Rate of prepayment increases by 5% per annum (2) .................... $21,960 ($ 726) $22,714 ($ 818)
Rate of prepayment increases by 10% per annum (2) ................... $21,445 ($1,231) $22,178 ($1,354)
Discount rates increase by 100 basis points ......................... $21,685 ($1,001) $22,481 ($1,051)
Discount rates increase by 200 basis points ......................... $20,747 ($1,939) $21,500 ($2,032)
--------------------------------------
(1) If PMC Commercial experiences significant losses (i.e., in excess of
anticipated losses), the effect on the retained interests would first
reduce the value of the interest-only strip receivables. To the extent the
interest-only strip receivables could not fully absorb the losses, the
effect would then be to reduce the value of the reserve funds and then the
value of the required over-collateralization.
(2) For example, an 8% assumed rate of prepayment would be increased to 13% or
18% based on increases of 5% or 10% per annum, respectively.
These sensitivities are hypothetical and should be used with caution.
Pro forma values based on changes in these assumptions generally cannot be
extrapolated since the relationship of the change in assumptions to the change
in fair value is not linear. The effect of a variation in a particular
assumption on the fair value of the retained interests is calculated without
changing any other assumption. In reality, changes in one factor are not
isolated from changes in another which might magnify or counteract the
sensitivities.
RESULTS OF OPERATIONS
SIX MONTHS ENDED JUNE 30, 2003 COMPARED TO THE SIX MONTHS ENDED JUNE
30, 2002
Overview
Income from continuing operations decreased by $839,000 (19%), to
$3,541,000 during the six months ended June 30, 2003 from $4,380,000 during the
six months ended June 30, 2002. Net income decreased by $2,161,000 (37%), to
$3,651,000 during the six months ended June 30, 2003 from $5,812,000 during the
six months ended June 30, 2002. Earnings per share decreased $0.33 (37%), to
$0.57 per share during the six months ended June 30, 2003 from $0.90 per share
during the six months ended June 30, 2002. The decrease in net income is
primarily due to:
- a decrease in the gain on sale of PMC Commercial's real estate
investments of $663,000 as there were no hotel properties sold
during the six months ended June 30, 2003, while two hotel
properties were sold during the six months ended June 30,
2002;
- a decrease in the gain on sale of loans receivable of $562,000
as there were no loans sold during the six months ended June
20, 2003 while PMC Commercial sold loans in a structured loan
sale transaction completed during April 2002;
133
- a decrease in other income of $568,000 due to decreased
prepayment fees received; and
- a decrease in interest income of $399,000 due to an increase
in variable-rate lending with lower variable interest rates
than PMC Commercial's fixed-rate loans;
Significant changes in PMC Commercial's revenues and expenses are
further described below.
Revenues
Interest income decreased by $399,000 (12%), to $3,047,000 during the
six months ended June 30, 2003 from $3,446,000 during the six months ended June
30, 2002. The decrease was primarily attributable to a decrease in PMC
Commercial's weighted average interest rate from 8.8% at June 30, 2002 to 6.9%
at June 30, 2003, primarily resulting from lower variable interest rates,
increased variable rate lending and the sale of the majority of PMC Commercial's
fixed-rate loans receivable in its April 2002 structured loan sale transaction.
PMC Commercial's effective LIBOR decreased by 61 basis points from the six
months ended June 30, 2002 to the six months ended June 30, 2003.
Income from retained interests decreased $8,000 (1%), to $1,376,000
during the six months ended June 30, 2003 compared to $1,384,000 during the six
months ended June 30, 2002. The income from PMC Commercial's retained interests
is comprised of the yield on its retained interests. The yield on PMC
Commercial's retained interests declined to 11.7% during the six months ended
June 30, 2003 from 13.8% during the six months ended June 30, 2002 while the
weighted average balance of its retained interests increased due to the
completion of its April 2002 structured loan sale transaction. Approximately 67%
and 34% of PMC Commercial's loans receivable had variable rates of interest as
of June 30, 2003 and 2002, respectively. The weighted average of PMC
Commercial's Effective LIBOR (the LIBOR base rate used in the determination of
quarterly interest rates) decreased by 61 basis points from the six months ended
June 30, 2002 to the six months ended June 30, 2003.
Other income decreased $568,000 (85%), to $99,000 during the six months
ended June 30, 2003 compared to $667,000 during the six months ended June 30,
2002 due to decreased prepayment fees. During the first half of 2002, several
loans receivable were prepaid which had significant prepayment penalties.
Interest Expense
Interest expense decreased by $138,000 (7%), to $1,712,000 during the
six months ended June 30, 2003 from $1,850,000 during the six months ended June
30, 2002. The decrease was primarily attributable to a decrease in the principal
balance of the structured notes payable from PMC Commercial's 1998 structured
loan financing ($22.2 million outstanding at June 30, 2003 compared to $29.7
million outstanding at June 30, 2002. This decrease was partially offset by an
increase in PMC Commercial's weighted average borrowings outstanding under the
revolving credit facility which increased to $18.0 million during the six months
ended June 30, 2003 from $6.5 million during the six months ended June 30, 2002.
The weighted average interest rate on PMC Commercial's revolving credit facility
decreased to 3.1% during the six months ended June 30, 2003 from 3.8% during the
six months ended June 30, 2002.
Interest expense consisted of the following:
Six Months Ended
June 30,
-------------------
2003 2002
------ ------
(In thousands)
Structured Notes ............................ $ 803 $1,077
Mortgages on hotel properties ............... 576 568
Revolving credit facility ................... 311 200
Other ....................................... 22 5
------ ------
$1,712 $1,850
====== ======
134
Other Expenses
Fees associated with the Advisory Agreements consisted of the
following:
Six Months Ended
June 30,
----------------------
2003 2002
------- -------
(In thousands)
Lease supervision fee ..................................................... $ 185 $ 199
Investment management fee ................................................. 964 955
------- -------
Total fees incurred ....................................................... 1,149 1,154
Less:
Management fees included in discontinued operations ..................... (8) (17)
Cost of structured loan sale transactions ............................... -- (57)
Fees incurred by the SPEs ............................................... (158) (137)
Fees capitalized as cost of originating loans ........................... (81) (45)
------- -------
Advisory and servicing fees to affiliate, net ............................. $ 902 $ 898
======= =======
General and administrative expenses increased $51,000 (37%) to $188,000
during the six months ended June 30, 2003 from $137,000 during the six months
ended June 30, 2002. The increase in general and administrative expenses is
primarily due to carrying costs related to PMC Commercial's asset acquired in
liquidation held for sale.
Realized losses on retained interests in transferred assets were
$53,000 for the six months ended June 30, 2002 which was the result of a
reduction in expected future cash flows resulting from prepayments. There were
no realized losses on PMC Commercial's retained interests during the six months
ended June 30, 2003.
Impairment loss from asset acquired in liquidation held for sale was
$67,000 for the six months ended June 30, 2003. During July 2003, PMC Commercial
sold its asset acquired in liquidation held for sale for net cash proceeds of
approximately $333,000. Accordingly, PMC Commercial reduced its basis in this
asset from $400,000 at December 31, 2002. There was no impairment loss from
asset acquired in liquidation held for sale during the six months ended June 30,
2002.
PMC Commercial's provision for loan losses was $65,000 during the six
months ended June 30, 2002. PMC Commercial had no provision for loan losses
during the six months ended June 30, 2003. During the twelve-month period ended
June 30, 2002, PMC Commercial's provision for loan losses was 0.09% (nine basis
points) of its weighted average outstanding loans receivable. PMC Commercial had
no provision for loan losses during the twelve-month period ended June 30, 2003.
Discontinued operations
Gain on sale of real estate investments was $663,000 during the six
months ended June 30, 2002 due to the sale of two hotel properties for $5.2
million. No properties were sold during the six months ended June 30, 2003.
PMC Commercial's profit from discontinued operations decreased by
$97,000 (47%), to a net profit of $110,000 during the six months ended June 30,
2003 from a net profit of $207,000 during the six months ended June 30, 2002.
Results of operations for the two properties sold during 2002 and the property
held for sale at June 30, 2003 are included in discontinued operations for the
six months ended June 30, 2002.
135
YEAR ENDED DECEMBER 31, 2002 COMPARED TO THE YEAR ENDED DECEMBER 31,
2001
Overview
Net income decreased by $1,499,000 (13%), to $9,936,000 during 2002
from $11,435,000 during 2001. Basic earnings per share decreased $0.24 (13%), to
$1.54 per share during 2002 from $1.78 per share during 2001. The decrease in
net income is primarily due to:
- decreased interest income of $1,545,000 due to the sale of
loans receivable and an increase in variable-rate lending with
lower variable interest rates than fixed interest rate loans;
- a reduction in the gain on sale of loans receivable of
$871,000 due to a smaller volume of loans sold and decreased
anticipated cash flows due to reduced net interest spread;
- a reduction in the gain on sale of real estate investments of
$687,000 as a result of the sale of five properties during
2001 compared to two properties sold during 2002; and
- decreased lease income of $528,000 as a result of the sale of
hotel properties.
Partially offsetting these decreases in net income were:
- increased income from retained interests of $1,078,000 due
primarily to the completion of structured loan sale
transactions;
- increased other income of $624,000 due primarily to increased
prepayment fees received; and
- decreased interest expense of $575,000 due to reduced balances
outstanding on structured notes payable from the 1998
structured loan financing and a decrease in the weighted
average balance and interest rate on the revolving credit
facility.
Significant changes in revenues and expenses are further described
below.
Revenues
Interest income decreased by $1,545,000 (20%), to $6,236,000 during
2002 from $7,781,000 during 2001. The decrease was primarily attributable to (i)
a decrease in weighted average loans receivable outstanding of $3.9 million
(5%), to $69.1 million during 2002 from $73.0 million during 2001 (due primarily
to the sale of $27.3 million in loans receivable in a structured loan sale
transaction completed in April 2002) and (ii) a decrease in weighted average
interest rate to 7.5% at December 31, 2002 from 9.6% at December 31, 2001,
primarily resulting from lower variable interest rates and increased variable
rate lending. Average quarterly LIBOR decreased by 244 basis points from 2001 to
2002.
Lease income decreased by $528,000 (8%), to $5,743,000 during 2002 from
$6,271,000 during 2001. Lease income decreased primarily due to the sale of five
hotel properties during 2001 and two hotel properties during 2002. Lease income
will continue to decrease as additional properties are sold.
Income from retained interests increased $1,078,000 (59%), to
$2,893,000 during 2002 compared to $1,815,000 during 2001. The income from
retained interests is comprised of the yield on retained interests. The increase
was the result of (i) an increase in the balance of retained interests due to
the completion of the structured loan sale transactions and (ii) an increase in
the yield on retained interests to 13.2% during 2002 from 12.7% during 2001
resulting from better than anticipated performance and cash flows related to the
loans receivable included in the structured loan sale transactions.
Other income increased $624,000 (116%), to $1,164,000 during 2002
compared to $540,000 during 2001. The increase is primarily attributable to
increased prepayment fees received during 2002.
136
Interest Expense
Interest expense decreased by $575,000 (14%), to $3,445,000 during 2002
from $4,020,000 during 2001. The decrease was primarily attributable to (i) a
decrease in interest expense on the structured notes payable from the 1998
structured loan financing due to a declining principal balance ($26.0 million
outstanding at December 31, 2002 compared to $33.8 million outstanding at
December 31, 2001), (ii) a decrease in the weighted average borrowings
outstanding under the revolving credit facility to $4.2 million during 2002
compared to $6.5 million during 2001 and (iii) a decrease in the weighted
average interest rate on revolving credit facility to 3.6% during 2002 from 5.6%
during 2001.
Interest expense consisted of the following:
Years Ended December 31,
------------------------
2002 2001
------ ------
(In thousands)
Structured Notes ....................... $1,982 $2,314
Mortgages on hotel properties .......... 1,156 1,175
Revolving credit facility .............. 296 516
Other .................................. 11 15
------ ------
$3,445 $4,020
====== ======
Other Expenses
Advisory and servicing fees to affiliate, net, increased by $64,000
(4%), to $1,793,000 during 2002 from $1,729,000 during 2001.
Fees associated with the Advisory Agreements consisted of the
following:
Years Ended December 31,
------------------------
2002 2001
------- -------
(In thousands)
Lease supervision fee ........................................... $ 381 $ 441
Investment management fee ....................................... 1,927 1,803
------- -------
Total fees incurred ............................................. 2,308 2,244
Less:
Management fees included in discontinued operations ........... (25) (49)
Fees incurred by the SPEs ..................................... (298) (198)
Cost of structured loan sale transactions ..................... (57) (60)
Fees capitalized as cost of originating loans ................. (135) (208)
------- -------
Advisory and servicing fees to affiliate, net ................... $ 1,793 $ 1,729
======= =======
Impairment loss on assets held for sale was $54,000 during 2002. The
impairment loss resulted from a write-down of the carrying value of an asset
acquired in liquidation held for sale as a result of management's estimate of
the fair value of the property.
Realized losses on retained interests decreased $28,000 (35%), to
$53,000 during 2002 from $81,000 during 2001 resulting from reductions in
expected future cash flows primarily related to lower than anticipated income on
the PMC Commercial reserve funds.
Provision for loan losses decreased $135,000 (68%), to $65,000 during
2002 from $200,000 during 2001. The reserves established during 2001 were
related to two loans that were identified as potential PMC Commercial Problem
Loans. At December 31, 2002, no loans were delinquent greater than 31 days;
however, PMC Commercial's management identified a reserve on one loan on which
significant doubt existed as to the ultimate realization of the loan.
137
Discontinued operations
Profit from discontinued operations increased by $503,000 (106%), to a
net profit of $978,000 during 2002 from a net profit of $475,000 during 2001.
During 2002, PMC Commercial sold two hotel properties for $5.2 million resulting
in a net gain on sale of $663,000. In addition, in accordance with SFAS No. 144,
results of operations from the hotel properties sold during 2002 are included in
discontinued operations for the years ended December 31, 2002 and 2001; however,
the corresponding gain on sale and operations of real estate investments sold
during 2001 were not reclassified to discontinued operations.
Gain on sale of assets
Gain on sale of real estate investments was $1,350,000 during 2001 due
to the sale of five hotel properties for $13.0 million.
Gain on sale of loans receivable was $562,000 and $1,433,000 during 2002
and 2001, respectively. The decrease in gain is primarily the result of (i) a
decrease in the amount of loans sold from $32.7 million in June 2001 to $27.3
million during April 2002 and (ii) a decrease in the spread earned at the time
the transactions were completed to 2.56% for the structured loan sale
transaction completed in April 2002 compared to 3.26% for the structured loan
sale transaction completed in June 2001.
YEAR ENDED DECEMBER 31, 2001 COMPARED TO THE YEAR ENDED DECEMBER 31,
2000
Overview
Net income increased by $2,070,000 (22%), to $11,435,000 during 2001
from $9,365,000 during 2000. Basic earnings per share increased $0.34 (24%), to
$1.78 per share during 2001 from $1.44 per share during 2000. The increase in
net income is primarily due to:
- a decrease in interest expense of $2,762,000 as a result of
the repayment of borrowings outstanding under the revolving
credit facility and a reduction in the weighted average
interest rate on the revolving credit facility;
- an increase in income from retained interests of $1,742,000
due primarily to the structured loan sale transactions
completed in June 2001 and December 2000;
- an increase in the gain on sale of real estate investments of
$1,046,000 as a result of the sale of five properties during
2001 compared to one property sold during 2000; and
- an increase in the gain on sale of loans receivable of
$316,000 due to increased anticipated cash flows due to
increased net interest spread.
Partially offsetting these increases in net income were decreased
interest income of $3,763,000 due to the sale of loans receivable and an
increase in variable-rate lending with lower variable interest rates than fixed
interest rate loans.
Significant changes in revenues and expenses are further described
below.
Revenues
Interest income on loans receivable decreased by $3,763,000 (33%), to
$7,781,000 during 2001 from $11,544,000 during 2000. This decrease in interest
income was primarily attributable to the sale of $32.7 million of loans
receivable in the June 2001 structured loan sale transaction and the sale of
$55.7 million of loans receivable in the December 2000 structured loan sale
transaction. As a result, the weighted average loans receivable outstanding
decreased by $35.6 million (33%), to $73.0 million during 2001 from $108.6
million during 2000. In addition, primarily as a result of a decrease in
variable interest rates, the weighted average interest rate on loans receivable
138
outstanding declined to 9.6% at December 31, 2001 compared to 10.0% at December
31, 2000. During 2001, PMC Commercial commenced originating loans with a
variable interest rate and at December 31, 2001, it had variable-rate loans
receivable of $11.5 million outstanding with a weighted average interest rate of
6.8%.
Lease income decreased by $573,000 (8%), to $6,271,000 during 2001 from
$6,844,000 during 2000. Lease income decreased primarily due to the sale of five
hotel properties in 2001 and one property during 2000. This decrease was
partially offset by increased percentage rent from 2% to 4% of room revenue
effective January 2001 on the hotel property portfolio.
Income from retained interests increased $1,742,000 to $1,815,000
during 2001 compared to $73,000 during 2000. The income from retained interests
is comprised of the yield accreted on retained interests. The increase in income
from retained interests was the result of an increase in retained interests from
the structured loan sale transactions completed in December 2000 and June 2001.
Interest Expense
Interest expense decreased by $2,762,000 (41%), to $4,020,000 during
2001 from $6,782,000 during 2000. The decrease was attributable to (i) a
reduction in the weighted average borrowings outstanding under the revolving
credit facility to $6.5 million during 2001 compared to $12.2 million during
2000 resulting from the use of proceeds from the December 2000 and June 2001
structured loan sale transactions used to repay these borrowings and (ii) a
reduction in the weighted average interest rate on the revolving credit facility
to 5.6% at December 31, 2001 from 7.9% at December 31, 2000.
Interest expense consisted of the following:
Years Ended December 31,
------------------------
2001 2000
------ ------
(In thousands)
Structured Notes ....................... $2,314 $2,699
Mortgages on hotel properties .......... 1,175 1,250
Revolving credit facility .............. 516 2,805
Other .................................. 15 28
------ ------
$4,020 $6,782
====== ======
Other Expenses
Advisory and servicing fees to affiliate, net decreased by $176,000
(9%), to $1,729,000 during 2001 from $1,905,000 during 2000.
Fees associated with the Advisory Agreements consisted of the
following:
Years Ended December 31,
------------------------
2001 2000
------- -------
(In thousands)
Lease supervision fee ...................................... $ 441 $ 500
Investment management fee .................................. 1,803 1,699
------- -------
Total fees incurred ........................................ 2,244 2,199
Less:
Management fees included in discontinued operations ...... (49) (49)
Fees incurred by the SPEs ................................ (198) --
Fees capitalized as cost of originating loans ............ (208) (145)
Cost of structured loan sale transactions ................ (60) (100)
------- -------
Advisory and servicing fees to affiliate, net .............. $ 1,729 $ 1,905
======= =======
139
General and administrative expenses increased by $80,000 (55%), to
$226,000 during 2001 from $146,000 during 2000. The increase was primarily due
to increases in insurance expense, printing costs and bank fees.
Realized losses on retained interests were $81,000 during 2001
resulting from a reduction in expected future cash flows resulting from lower
than anticipated income on the PMC Commercial reserve funds. PMC Commercial had
no realized losses on retained interests during 2000.
Provision for loan losses was $200,000 and $600,000 during 2001 and
2000, respectively. These loan loss provisions were established based on the
determination, through an evaluation of the recoverability of individual loans
receivable, by the PMC Commercial board of trust managers that significant doubt
exists as to the ultimate realization of the specific loan receivable. The
determination of whether significant doubt exists and whether a loan loss
reserve is necessary for each loan receivable requires judgment and
consideration of the facts and circumstances existing at the evaluation date.
The $200,000 provision for loan losses recorded during 2001 was related to two
loans receivable that were identified as Impaired Loans during 2001.
The provision for loan losses recorded in 2000 was primarily
attributable to one loan receivable. During 2000, PMC Commercial foreclosed on
the collateral underlying the loan receivable and determined that the collateral
was impaired as a result of the general condition of the building and fixtures.
Based on an updated appraisal and the available information on the condition of
collateral at that time, a $600,000 loss was recorded relating to the property.
PMC Commercial was not in the process of liquidating any loans receivable as of
December 31, 2001 nor were there any delinquent loans.
Discontinued operations
Profit from discontinued operations increased by $10,000 (2%), to a net
profit of $475,000 during 2001 from a net profit of $465,000 during 2000.
Gain on sale of assets
Gain on sale of assets increased by $1,362,000 (96%), to $2,783,000
during 2001 from $1,421,000 during 2000. The primary reason for the increase was
the sale of five of hotel properties for $13.0 million resulting in a net gain
of $1.4 million during 2001. During 2000, PMC Commercial sold one hotel property
for $3.2 million resulting in a net gain of $304,000. In addition, gains from
structured loan sale transactions increased to $1.4 million from $1.1 million
related to the June 2001 and December 2000 transactions, respectively.
CASH FLOW ANALYSIS
SIX MONTHS ENDED JUNE 30, 2003 COMPARED TO THE SIX MONTHS ENDED JUNE
30, 2002
PMC Commercial generated $4,961,000 and $4,387,000 from operating
activities during the six months ended June 30, 2003 and 2002, respectively. The
primary source of funds from operating activities is its net income which was
$3,651,000 and $5,812,000 (a decrease of $2,161,000) during the six months ended
June 30, 2003 and 2002, respectively. PMC Commercial's cash flows from operating
activities are also affected by the change in its current assets and current
liabilities which increased by $1,485,000.
PMC Commercial's investing activities reflect a net use of funds of
$15,303,000 and a net source of funds of $22,354,000 during the six months ended
June 30, 2003 and 2002, respectively. The $37,657,000 decrease in net cash flows
provided during the six months ended June 30, 2003 primarily resulted from the
reduction of proceeds from structured loan sale transactions and an increase in
loans funded less principal collected. PMC Commercial completed its 2002
structured loan sale transaction and received proceeds of $24,040,000 during the
six months ended June 30, 2002 while no structured loan sale transaction was
completed during the six months ended June 30, 2003. During the first half of
2003, PMC Commercial's net loans funded were $17,726,000 which is $15,223,000
greater than the first half of 2002. The increase was primarily due to increased
loans funded of $10,304,000 and reduced principal payments of $4,919,000 for the
six months ended June 30, 2003 compared to the six months ended June 30, 2002.
In addition, (i) PMC Commercial did not sell any hotel properties during the
first half of 2003 while
140
PMC Commercial received net proceeds from the sale of two hotel properties of
$3,017,000 during the first half of 2002 and (ii) PMC Commercial's investment in
retained interests in transferred assets decreased by $1,474,000 due to the
completion of its 2002 structured loan sale transaction and the funding of its
reserve during the six months ended June 30, 2002. Partially offsetting the
above decreases in the funds provided from investing activities was a increase
in funds provided by PMC Commercial's restricted investments of $3,034,000
related primarily to its 1998 structured loan financing transaction.
PMC Commercial's financing activities reflect a net source of funds of
$10,837,000 and a net use of funds of $18,090,000 during the six months ended
June 30, 2003 and 2002, respectively. The increase in funds from financing
activities of $28,927,000 was primarily due to an increase in proceeds from PMC
Commercial's revolving credit facility of $28,800,000. PMC Commercial has
increased borrowing on its revolving credit facility due in part to the delay in
completing a structured loan sale transaction.
YEAR ENDED DECEMBER 31, 2002 COMPARED TO THE YEAR ENDED DECEMBER 31,
2001
PMC Commercial generated $11,213,000 and $9,198,000 in cash from
operating activities during 2002 and 2001, respectively. The primary source of
funds from operating activities is net income. The increase in cash flows from
operating activities of $2,015,000 primarily relates to the change in other
operating assets and liabilities of $995,000 and a decrease in payments made to
affiliates of $1,088,000. PMC Commercial pays dividends from the cash flow
generated by operating activities.
PMC Commercial's investing activities reflect a net source of funds of
$7,104,000 and net use of funds of $3,434,000 during 2002 and 2001,
respectively. This increase in source of funds of $10,538,000 provided by
investing activities is primarily due to a decrease in loans funded net of
principal collected of $27,284,000 offset in part by (i) a decrease in proceeds
from sale of properties of $9,678,000, (ii) a decrease of $5,489,000 in net
proceeds received from the April 2002 structured loan sale transaction compared
to the June 2001 structured loan sale transaction and (iii) an increase in the
investment in restricted investments of $1,911,000 due to funds received on the
1998 structured loan financing transaction which have not yet been paid to the
structured noteholders.
PMC Commercial's financing activities reflect a net use of funds of
$18,825,000 and $5,694,000 during 2002 and 2001, respectively. The decrease of
$13,131,000 was due primarily to (i) a decrease in net proceeds from the
revolving credit facility from a net source of funds of $8,700,000 to a net use
of funds of $1,400,000, (ii) an increase in use of funds of $2,314,000 from
principal payments on notes payable due primarily to prepayments on the 1998
structured loan financing transaction and (iii) an increase in dividends paid of
$749,000.
LIQUIDITY AND CAPITAL RESOURCES
SOURCES AND USES OF FUNDS
Overview
At June 30, 2003, PMC Commercial had $0.5 million of cash and cash
equivalents and availability of $12.6 million under its revolving credit
facility with a current borrowing base (the maximum amount that PMC Commercial
can have outstanding at any time based on its eligible loans receivable) of
$40.0 million, until the earlier of October 28, 2003 or when PMC Commercial's
next structured loan sale transaction is completed, when the revolving credit
facility will be reduced to $30.0 million. PMC Commercial's outstanding
commitments to fund loans were $21.4 million and $40.9 million at June 30, 2003
and December 31, 2002, respectively. At December 31, 2002, PMC Commercial had
(i) $49,000 of cash and cash equivalents and (ii) availability of $21.2 million
under its revolving credit facility with a current borrowing base of $28.5
million. Commitments have fixed expiration dates and require payment of a fee to
PMC Commercial. Since some commitments expire without the proposed loan closing,
the total committed amounts do not necessarily represent future cash
requirements.
Historically, cash flows provided by operating activities have
approximated the dividends paid to PMC Commercial shareholders. In 2003, PMC
Commercial anticipates that this relationship will continue and substantially
all of the cash flows from operating activities will be sufficient to pay the
anticipated 2003 dividend
141
distributions. As a result, cash flows from operating activities are generally
not available to fund portfolio growth or debt service. During 2002, loans
funded ($30.7 million) and debt repayments ($8.6 million) were primarily funded
by:
- Principal collections on loans receivable of $12.3 million;
- Net proceeds from the sale of hotel properties of $3.0
million; and
- Proceeds from a structured loan sale transaction of $24.0
million.
During the remaining half of 2003, PMC Commercial anticipates loan
originations will range from $8 million to $12 million. PMC Commercial expects
that its loan originations anticipated to be funded during the next twelve
months, including those on which it has commitments at June 30, 2003, to be
funded through (i) advances under its revolving credit facility, (ii) a
structured loan sale transaction and (iii) sales of its hotel properties. PMC
Commercial is currently in the process of co-securitizing a pool of loans with
PMC Capital and expects the transaction to be completed in September of 2003,
unless additional delays are encountered.
SOURCES OF FUNDS
General
PMC Commercial expects that the sources of funds described below should
be adequate to meet its working capital needs. However, there can be no
assurance that it will be able to raise funds through these financing sources.
If these sources are not available, PMC Commercial may have to originate loans
at reduced levels and may have to refer commitments back to PMC Advisers, or
sell additional assets. Pursuant to PMC Commercial's loan origination agreement
with PMC Advisers and PMC Capital, if it does not have available capital to fund
outstanding commitments, PMC Advisers will refer such commitments to PMC
Commercial's affiliates and PMC Commercial will receive no income from those
outstanding commitments.
To meet liquidity requirements, including origination of new loans, PMC
Commercial primarily generates funds from the following sources:
- Structured loan sales;
- Borrowings under its short-term revolving credit facility;
- Borrowings collateralized by hotel properties; and/or
- The sale of hotel properties.
A reduction in the availability of these sources of funds could have a
material adverse effect on PMC Commercial's financial condition and results of
operations.
Additional sources of funds include principal and interest collected on
loans receivable, rent collected on hotel properties and the cash flows from
retained interests. To the extent these sources represent REIT taxable income,
such amounts have historically been distributed to shareholders. As a result,
those earnings are generally not available to fund future investments.
STRUCTURED LOAN SALE TRANSACTIONS
PMC Commercial's primary source of funds has been structured loan sale
transactions. PMC Commercial generated net proceeds of $24.0 million, $29.5
million and $49.2 million from the completion of its 2002, 2001 and 2000
structured loan sale transactions, respectively. It is anticipated that the
primary source of working capital during 2003 will again be a structured loan
sale transaction. PMC Commercial expected to complete a structured loan sale
transaction during the first half of 2003. While PMC Commercial believes it
could have completed a
142
transaction during the second quarter of 2003, PMC Commercial delayed its
transaction since the terms of the transactions available in the market were not
considered favorable to PMC Commercial (i.e., the transaction size and cost did
not reflect the value of the transaction). The market for the type of
asset-backed securities that PMC Commercial originates was relatively
inefficient during the first half of 2003 as a result of the uncertainties in
the marketplace due to sluggishness of the economy, geopolitical concerns and
the impact of the ongoing conflict in the Middle East. PMC Commercial
anticipates co-securitizing with PMC Capital approximately $45.3 million of its
variable-rate loans receivable, which PMC Commercial expects to complete in
September 2003. Changes in market conditions may have an impact on the timing of
completion of this transaction. While PMC Commercial has been successful in
completing its past structured loan transactions in a timely manner, due to the
risky nature of these transactions and the many factors which could cause it to
further delay or postpone a transaction, there can be no assurance of a
successful outcome.
Since PMC Commercial relies on structured loan sale transactions as its
primary source of operating capital to fund new loan receivable originations,
any adverse changes in its ability to complete this type of transaction,
including any negative impact on the asset-backed securities market for the type
of product PMC Commercial generates, could have a detrimental effect on its
ability to sell loans receivable thereby reducing its ability to originate
loans. The delay in completing PMC Commercial's current structured loan sale
transaction has had a negative impact on its ability to originate loans and its
financial condition and results of operations.
DEBT
For its short-term working capital needs, at June 30, 2003, PMC
Commercial had a $40 million revolving credit facility which provides funds to
originate loans. The revolving credit facility will be reduced to $30 million
upon the earlier of the completion of a securitization or October 28, 2003. The
maximum amount (the "Borrowing Base") that PMC Commercial can have outstanding
at any time is based on eligible loans receivable used as collateral. The
Borrowing Base available on each loan receivable is the lesser of (a) 60% of the
value of the project underlying the loan receivable collateralizing the
borrowing or (b) 85% of the amount of the loan receivable outstanding. At June
30, 2003, based on eligible loans receivable, the Borrowing Base was $40
million. PMC Commercial is charged interest on the balance outstanding under the
Revolver at its election of either the prime rate of the lender or 162.5 basis
points over the 30, 60 or 90-day LIBOR. As of June 30, 2003, PMC Commercial had
$27.4 million outstanding under this facility with a weighted average interest
rate of 2.9%. The facility matures in May 2004.
With regard to the hotel properties, PMC Commercial continues to pursue
mortgages on individual properties owned by it. As of June 30, 2003, PMC
Commercial had eleven mortgages on the hotel properties for an aggregate
remaining outstanding principal balance of $15.0 million at a weighted average
interest rate of 7.2%. The related notes have interest rates ranging from 5.4%
to 8.5% and maturities ranging from June 2004 to August 2019.
USES OF FUNDS
General
The primary use of funds is to originate loans to small businesses in
the limited service hospitality industry. PMC Commercial also uses funds for
payment of dividends to shareholders, management and advisory fees (in lieu of
salaries and other administrative overhead), general corporate overhead and
interest and principal payments on borrowed funds. As a REIT, PMC Commercial
must distribute to its shareholders at least 90% of its REIT taxable income to
maintain its tax status under the Internal Revenue Code. As a result, those
earnings will not be available to fund future investments.
To the extent funds are available, PMC Commercial management believes
that there may be alternative investment opportunities including investment in
real estate. While PMC Commercial has historically been a lender to the limited
service hospitality industry, it is not necessarily focusing solely on
hospitality properties. PMC Commercial believes that there may be attractive
acquisition opportunities in either retail shopping centers or commercial office
buildings. It is attempting to identify properties that it intends to leverage
up to 75% of their value. Without leverage, it is unlikely that the return on
net equity investment will provide PMC Commercial with
143
adequate investment returns. There can be no assurance that any properties will
be identified or, to the extent identified, will be acquired. To date, no
opportunities have been identified.
Loan Originations
At June 30, 2003, PMC Commercial's commitments to originate loans were
approximately $21.4 million. PMC Commercial anticipates that its loan
origination volume (which averaged approximately $8.2 million per quarter in
2002) will range from $8 million to $12 million during the remainder of 2003.
At December 31, 2002, commitments to originate loans of $40.9 million
were greater than commitments outstanding at December 31, 2001 of $23.6 million.
The increase in commitments is primarily the result of borrower acceptance of
PMC Commercial's LIBOR-based lending program. See "-Business." As discussed
above, these commitments will be funded primarily through (i) advances under the
revolving credit facility, (ii) structured loan sale transactions, (iii) sales
of hotel properties and (iv) borrowings utilizing hotel properties as
collateral.
Impact of Inflation
To the extent PMC Commercial originates fixed-rate loans while it
borrows funds at variable rates, PMC Commercial would have an interest rate
mismatch. In an inflationary environment, if variable-rates were to rise
significantly and PMC Commercial was originating fixed-rate loans, its net
interest margin would be reduced. PMC Commercial is originating variable-rate
loans and $27.4 million of its debt has variable rates of interest; therefore,
PMC Commercial does not believe inflation will have a significant impact on it
in the near future. To the extent costs of operations rise while the economy
prevents a matching rise in revenue rates (i.e., room rates, menu prices,
gasoline prices, etc.), borrowers would be negatively impacted and loan losses
could result. Accordingly, PMC Commercial's borrowers can be impacted by
inflation. In addition, in an inflationary environment PMC Commercial could
experience pressure to increase income and dividend yield to maintain its stock
price.
Operators of hotels, including Arlington, can be impacted by inflation.
To the extent costs of operations rise while the economy prevents a matching a
rise in room and other amenity rates, Arlington's results of operations can be
negatively impacted and PMC Commercial's lease income could be affected.
SUMMARIZED CONTRACTUAL OBLIGATIONS, COMMITMENTS AND CONTINGENCIES
PMC Commercial's contractual obligations at June 30, 2003 are
summarized as follows:
Payments Due by Period
-----------------------------------------------------------
Less than 1 1 to 3 4 to 5 After 5
Contractual Obligations Total year years years years
-------------------------------------------------- ------- ----------- ------- ------- -------
(In thousands)
Notes payable (1) ................................ $37,188 $ 4,837 $13,938 $ 7,673 $10,740
Revolving credit facility (2) .................... 27,400 27,400 -- -- --
Advisory agreements (3) .......................... 577 577 -- -- --
------- ------- ------- ------- -------
Total contractual cash obligations ............... $65,165 $32,814 $13,938 $ 7,673 $10,740
======= ======= ======= ======= =======
-------------------------------------
(1) Maturities of PMC Commercial's 1998 structured notes payable ($22.2 million
at June 30, 2003) are dependent upon cash flows received from the
underlying loans receivable. PMC Commercial's estimate of their repayment
is based on scheduled principal payments on the underlying loans
receivable. PMC Commercial's estimate will differ from actual amounts to
the extent PMC Commercial experiences prepayments and/or loan losses.
(2) PMC Commercial's Borrowing Base on its revolving credit facility at June
30, 2003 was $40 million.
(3) Represents amounts due to PMC Advisers under PMC Commercial's Investment
Management Agreement and Lease Supervision Agreement for the second quarter
of 2003.
144
PMC Commercial's commitments at June 30, 2003 are summarized as
follows:
Amount of Commitment Expiration Per Period
Total ----------------------------------------------
Amounts Less than 1 1 to 3 4 to 5 After 5
Other Commitments Committed year years years years
--------------------------------------------- --------- ----------- ------ ------- -------
(In thousands)
Indemnification (1) ......................... $ -- $ -- $ -- $ -- $ --
Other commitments (2) ....................... 21,392 21,392 -- -- --
------- ------- ----- ------- -------
Total commitments ........................... $21,392 $21,392 $ -- $ -- $ --
======= ======= ===== ======= =======
----------------------------
(1) Represents PMC Commercial's cross indemnification agreements with PMC
Capital related to the SPEs created in conjunction with its structured loan
sale transactions completed in 2002, 2001 and 2000 with a maximum exposure
at June 30, 2003 of $34.0 million. PMC Commercial has valued its
obligations pursuant to these cross indemnification agreements at zero.
(2) Represents PMC Commercial's loan commitments outstanding.
PMC Commercial's contractual obligations at December 31, 2002 are
summarized as follows:
Payments Due by Period
-----------------------------------------------------------
Less than 1 to 3 4 to 5 After 5
Contractual Obligations Total 1 year years years years
-------------------------------------------------- ------- --------- ------- ------- -------
(In thousands)
Notes payable (1) ................................ $41,191 $ 1,691 $ 9,871 $ 4,221 $25,408
Revolving credit facility (2) .................... 7,300 7,300 -- -- --
------- ------- ------- ------- -------
Total contractual cash obligations ............... $48,491 $ 8,991 $ 9,871 $ 4,221 $25,408
======= ======= ======= ======= =======
---------------------------------
(1) Maturities of PMC Commercial's 1998 structured notes payable ($26.0 million
at December 31, 2002) are dependent upon cash flows received from the
underlying loans receivable. PMC Commercial's estimate of their repayment
is based on scheduled principal payments on the underlying loans
receivable. PMC Commercial's estimate will differ from actual amounts to
the extent PMC Commercial experiences prepayments and loans losses.
(2) PMC Commercial's Borrowing Base on its revolving credit facility at
December 31, 2002 was $28.5 million.
PMC Commercial's commitments at December 31, 2002 are summarized as
follows:
Amount of Commitment Expiration Per Period
Total -------------------------------------------------
Amounts Less than 1 to 3 4 to 5 After 5
Other Commitments Committed 1 year years years years
--------------------------------------- --------- --------- ------ ------- ----------
(In thousands)
Indemnification (1) ................... $ -- $ -- $ -- $ -- $ --
Other commitments (2) ................. 40,867 40,867 -- -- --
------- ------- ------ ------- ----------
Total commitments ..................... $40,867 $40,867 $ -- $ -- $ --
======= ======= ====== ======= ==========
----------------------------------
(1) Represents PMC Commercial's cross indemnification agreements with PMC
Capital related to the SPEs created in conjunction with its structured loan
sale transaction completed in 2002, 2001 and 2000 with a maximum exposure
at December 31, 2002 of $36.3 million. PMC Commercial has valued these
indemnification agreements at zero.
(2) Represents PMC Commercial's the loan commitments outstanding.
145
PMC Commercial and PMC Capital have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the Joint Ventures. See "--Related Party Transactions--Cross Indemnification
Agreements."
When a structured loan sale transaction is completed, the transaction
documents that the SPE enters into contain Credit Enhancement Provisions that
govern the assets and the flow of funds in and out of the SPE formed as part of
the structured loan sale transaction. See "--Related Party Transactions--Credit
Enhancement Provisions."
In addition, PMC Commercial has credit enhancement agreements relating
to the structured loan financing transaction completed in 1998. Distributions
related to this transaction are limited and restricted. The required reserve
amount ($1.9 million at December 31, 2002), included in restricted investments
in the consolidated balance sheets, is calculated as the outstanding principal
balance of the underlying loans receivable which are delinquent 180 days or more
plus the greater of 6% of the current outstanding principal balance of the
underlying loans receivable or 2% of the underlying loans receivable at
inception ($1.4 million). As of June 30, 2003, December 31, 2002 and 2001, none
of the loans receivable in the 1998 Partnership were delinquent 180 days or
more. In April 2003, approximately $1.7 million was repaid to the Noteholders
from cash in the reserve fund (i.e., restricted cash and structured notes
payable were reduced) as a result of a loan, with a principal amount of $1.7
million which was not repaid at its original maturity. As a consequence, future
excess cash flows relating to the 1998 Partnership will be deposited into the
reserve fund until the reserve fund is equal to the reserve requirement. Based
on current cash flow assumptions, management anticipates that the excess cash
flows will be received in future periods. At June 30, 2003, the cash balance in
the reserve fund, included in restricted investments on PMC Commercial's
consolidated balance sheet, was approximately $330,000.
In the normal course of business, PMC Commercial is subject to various
proceedings and claims, the resolution of which will not, in PMC Commercial
management's opinion, have a material adverse effect on financial position or
results of operations.
IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
FASB issued FASB Interpretation No. 46, "Consolidation of Variable
Interest Entities, an interpretation of ARB 51" ("FIN 46") in January 2003. The
primary objectives of FIN 46 are to provide guidance on the identification of
entities for which control is achieved through means other than voting rights,
Variable Interest Entities ("VIEs"), and how to determine when and which
business enterprise should consolidate the VIE ("the primary beneficiary"). This
new model for consolidation applies to an entity which either (i) the equity
investors, if any, do not have a controlling financial interest or (ii) the
equity investment at risk is insufficient to finance that entity's activities
without receiving additional subordinated financial support from other parties.
In addition, FIN 46 requires that both the primary beneficiary and all other
enterprises with a significant variable interest in a VIE make additional
disclosures. FIN 46 will not impact PMC Commercial's consolidated financial
statements since it is not applicable to qualifying SPEs accounted for in
accordance with SFAS No. 140.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133
on Derivative Instruments and Hedging Activities." The statement, which is
effective for contracts entered into or modified after June 30, 2003 and hedging
relationships designated after June 30, 2003, amends and clarifies financial
accounting and reporting for derivative instruments embedded in other contracts
and for hedging activities under SFAS No. 133. The statement requires that
contracts with comparable characteristics be accounted for similarly.
Specifically, the statement (i) clarifies under what circumstances a contract
with an initial net investment meets the characteristic of a derivative, (ii)
clarifies when a derivative contains a financing component, (iii) amends the
definition of an underlying to conform it to FASB Interpretation No. 45 and (iv)
amends certain other related existing pronouncements. SFAS No. 149 will not
impact PMC Commercial's consolidated financial statements since it does not have
derivatives.
In May 2003, SFAS No. 150, "Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equity" was issued. SFAS No. 150,
which is effective for financial instruments entered into or modified after May
31, 2003, and otherwise is effective at the beginning of the first interim
period beginning after June 15, 2003, will be implemented by reporting the
cumulative effect of a change in accounting principle for financial instruments
created before the issuance date of the statement and still existing at the
beginning of the
146
interim period of adoption. The statement requires that a financial instrument
which falls within the scope of the statement to be classified and measured as a
liability. The following financial instruments are required to be classified as
liabilities: (i) shares that are mandatorily redeemable, (ii) an obligation to
repurchase the issuer's equity shares or one indexed to such an obligation and
that requires or may require settlement by transferring assets and (iii) the
embodiment of an unconditional obligation that the issuer may or may not settle
by issuing a variable number of equity shares if, at inception, the monetary
value of the obligation is based on certain measurements defined in the
statement. SFAS No. 150 will not impact PMC Commercial's consolidated financial
statements since it does not have any financial instruments with characteristics
of both liabilities and equity.
RELATED PARTY TRANSACTIONS
PMC CAPITAL
PMC Commercial is managed by the same executive officers as PMC Capital
and PMC Advisers. Three of its trust managers are directors or officers of PMC
Capital. PMC Capital is primarily engaged in the business of originating loans
to small businesses under loan guarantee and funding programs sponsored by the
SBA. PMC Commercial was organized to provide loans to entities whose borrowing
needs and/or strength and stability exceed the limitations set for SBA approved
loan programs. As a result, PMC Commercial generally pursues different
prospective borrowers than PMC Capital. In order to further mitigate the
potential for conflicts of interest, PMC Commercial has entered into the loan
origination agreement with PMC Capital and PMC Advisers. Pursuant to the loan
origination agreement, all loans that meet PMC Commercial's underwriting
criteria are presented to PMC Commercial first for funding. If PMC Commercial
does not have available uncommitted funds, origination opportunities presented
to it may be originated by PMC Capital or it subsidiaries. Many of PMC
Commercial's existing and potential borrowers have other projects that are
currently financed by PMC Capital.
ADVISORY AGREEMENTS
During the six months ended June 30, 2003 and the years ended December
31, 2002 and 2001, pursuant to the investment management agreement, PMC
Commercial was charged fees between 0.40% and 1.67% annually, based upon the
average principal outstanding of its loans receivable. In addition, PMC Advisers
earns fees for its assistance with the issuance of PMC Commercial's debt and
equity securities. Such compensation includes a consulting fee equal to (i)
12.5% of any offering fees (underwriting or placement fees) incurred by PMC
Commercial pursuant to the public offering or private placement of PMC
Commercial's common shares, and (ii) 50% of any issuance or placement fees
incurred by it pursuant to the issuance of debt securities or preferred shares
of beneficial interest. In the event the investment management agreement with
PMC Advisers is terminated or not renewed by PMC Commercial (other than as a
result of a material breach by PMC Advisers) or terminated by PMC Advisers (as a
result of a material breach by PMC Commercial), PMC Capital would enter into a
non-compete agreement for a period of seven years from the termination date. A
fee would be paid to PMC Advisers each year by PMC Commercial in consideration
of the non-compete agreement until the non-compete agreement is terminated. Upon
termination, the fee would be calculated as 1% (less loan losses as a percentage
of average invested assets) multiplied by the average outstanding invested
assets. The investment management agreement is renewable on an annual basis.
In addition, the Lease Supervision Agreement provides for an annual fee
of 0.70% of the original cost of the properties to be paid to PMC Advisers for
providing services relating to leases on PMC Commercial's properties, a fee of
$10,000 upon the sale of each hotel property and an annual loan origination fee
equal to five basis points of the first $20 million in loans receivable funded
and 2.5 basis points thereafter. In the event the Lease Supervision Agreement
with PMC Advisers is terminated or not renewed by PMC Commercial (other than as
a result of a material breach by PMC Advisers) or terminated by PMC Advisers (as
a result of a material breach by PMC Commercial), PMC Advisers would be entitled
to receive the lease supervision fee for a period of five years from the
termination date. The Lease Supervision Agreement is renewable on an annual
basis.
Pursuant to the Advisory Agreements, PMC Commercial incurred an
aggregate of approximately $1.1 million, $2.3 million and $2.3 million in
management fees during the six months ended June 30, 2003 and the years ended
December 31, 2002 and 2001, respectively.
147
CROSS INDEMNIFICATION AGREEMENTS
PMC Commercial and PMC Capital have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the Joint Ventures. To the extent that poor performance of the
Underperforming Company is pervasive enough to cause the Performing Company not
to receive cash flow that it otherwise would have received, then the
Underperforming Company must make the Performing Company whole. If the cash flow
reduction is considered to be temporary, then interest will be paid as
compensation to the Performing Company. In general, when a loan is liquidated,
it may cause a deferral of cash flow to the Performing Company and, as a result,
interest would be charged to the Underperforming Company until the cash flow
from the Joint Venture repays the Performing Company. As a result of the Credit
Enhancement Provisions described below, PMC Commercial had a cash flow deferral,
and was paid compensation by PMC Capital of less than $1,000. If the reduction
of cash flows is deemed permanent (i.e., to the extent that the Underperforming
Company will not be able to satisfy the shortfall with the assets it has
contributed to the related structured loan sale transaction), the balance of
reduction to cash flows must be paid to the Performing Company by the
Underperforming Company. At June 30, 2003 and December 31, 2002, the maximum
potential amount of future payments to PMC Capital (undiscounted and without
consideration of any recoveries from the underlying loans receivable) PMC
Commercial could be required to make under these cross indemnification
agreements was approximately $34.0 million and $36.3 million, respectively, and
the discounted amount was $23.6 million and $25.2 million, respectively, which
represents the estimated fair value of the retained interests reflected on PMC
Capital's consolidated balance sheet for the Joint Ventures. All of PMC
Commercial's loans are collateralized; however, the maximum potential amount of
future payments PMC Commercial could be required to make under these cross
indemnification agreements has not considered any proceeds from the liquidation
of collateral underlying these loans. Upon completion of a joint securitization
and on each subsequent quarterly reporting date, management evaluates the need
to recognize a liability associated with these cross indemnification agreements.
Based on present cash flow assumptions, including stress test analyses of
increasing the anticipated losses on each of the loan pools, it does not appear
that the loans receivable sold by PMC Commercial will cause any permanent cash
flow reductions to PMC Capital nor does it appear that the loans receivable sold
by PMC Capital will cause any permanent cash flow reduction to PMC Commercial.
Accordingly, PMC Commercial believes that the fair value of these cross
indemnification agreements at inception of the Joint Ventures and as of June 30,
2003, December 31, 2002 and 2001 was zero; thus, no liability was recorded. If
the performance of PMC Commercial's sold loans receivable significantly
deteriorates, it could be necessary for PMC Commercial to perform under these
cross indemnification agreements.
CREDIT ENHANCEMENT PROVISIONS
When PMC Commercial's structured loan sale transactions were completed,
the transaction documents that the SPE entered into contained Credit Enhancement
Provisions that govern the assets and the flow of funds in and out of the SPE
formed as part of the structured loan sale transactions. The Credit Enhancement
Provisions include specified limits on the delinquency, default and loss rates
on loans receivable included in each SPE. If, at any measurement date, the
delinquency, default or loss rate with respect to any SPE were to exceed the
specified limits, the Credit Enhancement Provisions would automatically increase
the level of credit enhancement requirements for that SPE. During the period in
which the specified delinquency, default or loss rate was exceeded, excess cash
flow from the SPE, if any, would be used to fund the increased credit
enhancement levels instead of being distributed to PMC Commercial, which would
delay or reduce PMC Commercial's distribution. As a result of the problem loans
in the 2000 Joint Venture (contributed by PMC Capital), a Credit Enhancement
Provision was triggered in November 2002. As a consequence, cash flows relating
to this transaction were deferred and utilized to fund the increased reserve
requirements. PMC Commercial's cash flow deferral at December 31, 2002 was
approximately $270,000.
EQUITY AND DIVIDENDS
During April, July and October 2002 and January 2003 PMC Commercial
paid $0.40 per share in dividends to common shareholders of record on March 28,
2002, June 28, 2002, September 30, 2002 and December 31, 2002, respectively. In
addition, during December 2002, PMC Commercial declared a $0.02 per share
special dividend to common shareholders of record on December 31, 2002. During
March 2003, PMC Commercial declared a $0.40 per share dividend to common
shareholders of record on March 31, 2003. PMC Commercial declared a $0.38 per
share dividend to common shareholders of record on June 30, 2003, which was paid
on July 14, 2003. The dividend
148
reduction was the result of reduced earnings and continued low interest rates.
The PMC Commercial board of trust managers may amend the level of quarterly
dividends as warranted by actual and/or anticipated earnings.
PMC Commercial board of trust managers considers many factors
including, but not limited to, expectations for future earnings and FFO, taxable
income, the interest rate environment, competition, PMC Commercial's ability to
obtain leverage and its loan portfolio activity in determining dividend policy.
In addition, as a REIT, PMC Commercial is required to pay out 90% of taxable
income. Consequently, the dividend rate on a quarterly basis will not
necessarily correlate directly to any singular factor such as quarterly FFO or
earnings expectations.
To the extent excess FFO is retained and not paid out as quarterly
dividends, these funds will be used to originate loans, to reduce debt or to
possibly pay year-end special dividends.
On May 28, 2003, President Bush signed into law the Jobs and Growth Tax
Relief Reconciliation Act of 2003, which reduced the tax rate on both dividends
and long-term capital gains for most non-corporate taxpayers to 15% until 2008.
This reduced maximum tax rate generally does not apply to ordinary REIT
dividends, which continue to be subject to tax at the higher rates applicable to
ordinary income (a maximum rate of 35% under the new legislation). The new 15%
maximum tax rate, however, does apply to certain REIT distributions. This
legislation may cause shares in non-REIT corporations to be a more attractive
investment to individual investors than shares in REITs and may adversely affect
the market price of PMC Commercial's common shares.
FUNDS FROM OPERATIONS
FFO (i) does not represent cash flows from operations as defined by
generally accepted accounting principles, (ii) is not indicative of cash
available to fund all cash flow needs and liquidity, including PMC Commercial's
ability to make distributions, and (iii) should not be considered as an
alternative to net income (as determined in accordance with generally accepted
accounting principles) for purposes of evaluating PMC Commercial's operating
performance. For a complete discussion of cash flows from operations, see "Cash
Flow Analysis." PMC Commercial considers FFO to be an appropriate measure of
performance for an equity or hybrid REIT that provides a relevant basis for
comparison among REITs. FFO, as defined by the National Association of Real
Estate Investment Trusts (NAREIT), means income (loss) before minority interest
determined in accordance with generally accepted accounting principles,
excluding gains (losses) from debt restructuring and sales of property, plus
real estate depreciation and after adjustments for unconsolidated partnerships
and joint ventures. FFO is presented to assist investors in analyzing
performance and is a measure that is presented quarterly to the PMC Commercial
board of trust managers and is utilized in the determination of dividends to be
paid to shareholders. PMC Commercial's method of calculating FFO may be
different from the methods used by other REITs and, accordingly, may be not be
directly comparable to such other REITs. PMC Commercial's formulation of FFO set
forth below is consistent with the NAREIT White Paper definition of FFO.
PMC Commercial's FFO for the years ended December 31, 2002, 2001 and
2000 and six months ended June 30, 2003 and 2002 was computed as follows:
Six Months Ended
June 30, Years Ended December 31,
---------------------- --------------------------------------
2003 2002 2002 2001 2000
-------- -------- -------- -------- --------
(In thousands)
Net income .................................. $ 3,651 $ 5,812 $ 9,936 $ 11,435 $ 9,365
Less gains on sale of assets ................ -- (1,225) (1,225) (2,783) (1,421)
Add depreciation ............................ 939 974 1,903 2,101 2,250
-------- -------- -------- -------- --------
FFO ......................................... $ 4,590 $ 5,561 $ 10,614 $ 10,753 $ 10,194
======== ======== ======== ======== ========
149
PMC COMMERCIAL QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Since PMC Commercial's consolidated balance sheet consists of items
subject to interest rate risk, it is subject to market risk associated with
changes in interest rates as described below. Although management believes that
the analysis below is indicative of PMC Commercial's sensitivity to interest
rate changes, it does not adjust for potential changes in credit quality, size
and composition of PMC Commercial's balance sheet and other business
developments that could affect its financial position and net income.
Accordingly, no assurances can be given that actual results would not differ
materially from the potential outcome simulated by these estimates.
LOANS RECEIVABLE
PMC Commercial's variable-rate loans receivable are generally at
spreads over LIBOR consistent with the market. Increases or decreases in
interest rates will not generally have a material impact on the fair value of
its variable-rate loans receivable. At June 30, 2003, December 31, 2002 and
2001, PMC Commercial had $59.9 million, $42.1 million and $11.5 million of
variable-rate loans receivable, respectively, and $27.4 million, $7.3 million
and $8.7 million of variable-rate debt, respectively. On the differential
between PMC Commercial's variable-rate loans receivable outstanding and its
variable-rate debt ($32.5 million, $34.8 million and $2.8 million at June 30,
2003, December 31, 2002 and 2001, respectively) PMC Commercial has interest rate
risk. To the extent variable rates continue to decrease, PMC Commercial's
interest income net of interest expense would decrease.
The sensitivity of variable-rate loans receivable and debt to changes
in interest rates is regularly monitored and analyzed by measuring the
characteristics of PMC Commercial's assets and liabilities. PMC Commercial
assesses interest rate risk in terms of the potential effect on interest income
net of interest expense in an effort to ensure that it is insulated from any
significant adverse effects from changes in interest rates. Based on PMC
Commercial's analysis of the sensitivity of interest income and interest expense
at June 30, 2003, if the consolidated balance sheet were to remain constant and
no actions were taken to alter the existing interest rate sensitivity, each
hypothetical 100 basis point reduction in interest rates would reduce net income
by approximately $325,000. In comparison, based on PMC Commercial's analysis of
the sensitivity of interest income and interest expense at December 31, 2002, if
the consolidated balance sheet were to remain constant and no actions were taken
to alter the existing interest rate sensitivity, each hypothetical 100 basis
point reduction in interest rates would reduce net income by approximately
$348,000.
Changes in interest rates do not have an immediate impact on interest
income with respect to PMC Commercial's fixed-rate loans receivable. PMC
Commercial's interest rate risk on fixed-rate loans receivable is primarily
related to loan prepayments and maturities. The average maturity of PMC
Commercial's loan portfolio is less than their average contractual terms because
of prepayments. The average maturity of PMC Commercial's loans portfolio tends
to increase when the current mortgage rates are substantially higher than rates
on existing mortgage loans receivable and, conversely, decrease when the current
mortgage rates are substantially lower than rates on existing mortgage loans
receivable (due to refinancings of fixed-rate loans receivable at lower rates).
See "Risk Factors."
PMC Commercial's loans receivable are recorded at cost and adjusted by
deferred commitment fees (recognized as an adjustment of yield over the life of
the loan) and loan loss reserves. The fair value of PMC Commercial's fixed
interest rate loans receivable is dependent upon several factors including
changes in interest rates and the market for the types of loans that PMC
Commercial has originated. If PMC Commercial was required to sell loans at a
time it would not otherwise do so, its losses may be substantial. At June 30,
2003, December 31, 2002 and 2001, the fair value of fixed-rate loans receivable
generally approximates the remaining unamortized principal balance of the loans
receivable, less any valuation reserves.
NOTES PAYABLE AND REVOLVING CREDIT FACILITY
Since PMC Commercial's fixed-rate debt has coupon rates that are
currently higher (in general) than market rates, the fair value of these
financial instruments is higher than their cost thus decreasing PMC Commercial's
net worth. The majority of this debt is the structured notes payable from PMC
Commercial's 1998 structured loan financing which cannot be repaid other than
through collections of principal on the underlying loans receivable. As of June
30, 2003, of its fixed-rate hotel property mortgages, $6.2 million have
significant penalties
150
for prepayment, $4.7 million have no prepayment penalties and the remaining $4.1
million have prepayment penalties of 2% of the prepaid amount.
The following tables present the principal amounts and weighted average
interest rates and fair values required by year of expected maturity to evaluate
the expected cash flows and sensitivity to interest rate changes of PMC
Commercial's outstanding debt at June 30, 2003 and December 31, 2002 and 2001.
Market risk disclosures related to PMC Commercial's outstanding debt as
of June 30, 2003 were as follows:
Twelve Month Period Ending June 30,
--------------------------------------------------- Carrying Fair
2004 2005 2006 2007 2008 Thereafter Value Value (1)
------- ------ ------- ------- ------- ---------- -------- ---------
(In thousands)
Fixed-rate debt (2) ................ $ 4,837 $ 6,862 $ 7,076 $ 6,614 $ 1,059 $10,740 $37,188 $39,190
Variable-rate debt (primarily
LIBOR-based)(3) .................. 27,400 -- -- -- -- -- 27,400 27,400
------- ------- ------- ------- ------- ------- ------- -------
Totals ............................. $32,237 $ 6,862 $ 7,076 $ 6,614 $ 1,059 $10,740 $64,588 $66,590
======= ======= ======= ======= ======= ======= ======= =======
-----------------------------
(1) The estimated fair value is based on a present value calculation based on
prices of the same or similar instruments after considering risk, current
interest rates and remaining maturities.
(2) The weighted average interest rate of PMC Commercial's fixed-rate debt at
June 30, 2003 was 6.7%.
(3) The weighted average interest rate of PMC Commercial's variable-rate debt
at June 30, 2003 was 2.9%.
Market risk disclosures related to PMC Commercial's outstanding debt as
of December 31, 2002 were as follows:
Year Ending December 31,
--------------------------------------------------- Carrying Fair
2003 2004 2005 2006 2007 Thereafter Value Value (1)
------- ------- ------- ------- ------- ---------- -------- ---------
(In thousands)
Fixed-rate debt (2) ............... $ 1,691 $ 7,103 $ 2,768 $ 2,006 $ 2,215 $25,408 $41,191 $43,520
Variable-rate debt (primarily
LIBOR-based)(3) ................. 7,300 -- -- -- -- -- 7,300 7,300
------- ------- ------- ------- ------- ------- ------- -------
Totals ............................ $ 8,991 $ 7,103 $ 2,768 $ 2,006 $ 2,215 $25,408 $48,491 $50,820
======= ======= ======= ======= ======= ======= ======= =======
--------------------------
(1) The estimated fair value is based on a present value calculation based on
prices of the same or similar instruments after considering risk, current
interest rates and remaining maturities.
(2) The weighted average interest rate of PMC Commercial's fixed-rate debt at
December 31, 2002 was 6.9%.
(3) The weighted average interest rate of PMC Commercial's variable-rate debt
at December 31, 2002 was 3.1%.
Market risk disclosures related to PMC Commercial's outstanding debt as
of December 31, 2001 were as follows:
Year Ending December 31,
--------------------------------------------------- Carrying Fair
2002 2003 2004 2005 2006 Thereafter Value Value (1)
------- ------- ------- ------- ------- ---------- -------- ---------
(In thousands)
Fixed-rate debt (2) ................... $ 1,755 $ 1,935 $ 8,233 $ 2,121 $ 2,345 $31,981 $48,370 $48,481
Variable-rate debt
(primarily LIBOR-based)(3) .......... 8,700 -- -- -- -- -- 8,700 8,700
------- ------- ------- ------- ------- ------- ------- -------
Totals ................................ $10,455 $ 1,935 $ 8,233 $ 2,121 $ 2,345 $31,981 $57,070 $57,181
======= ======= ======= ======= ======= ======= ======= =======
-----------------------------
(1) The estimated fair value is based on a present value calculation based on
prices of the same or similar instruments after considering risk, current
interest rates and remaining maturities.
(2) The weighted average interest rate of PMC Commercial's fixed-rate debt at
December 31, 2001 was 6.8%.
(3) The weighted average interest rate of PMC Commercial's variable-rate debt
at December 31, 2001 was 3.6%.
151
As of June 30, 2003 and December 31, 2002 and 2001, approximately $37.2
million (58%), $41.2 million (85%) and $48.4 million (85%) of PMC Commercial's
consolidated debt had fixed rates of interest and therefore were not affected by
changes in interest rates. Currently, market rates of interest are below the
rates PMC Commercial is obligated to pay on the majority of its fixed-rate debt.
The amount outstanding on the revolving credit facility is based on the prime
rate and/or LIBOR and thus subject to adverse changes in market interest rates.
Assuming there were no increases or decreases in the balance outstanding under
the revolving credit facility at June 30, 2003 and December 31, 2002 and 2001,
each hypothetical 100 basis points increase in interest rates would increase
interest expense and decrease net income by approximately $274,000, $73,000 and
$87,000, respectively.
RETAINED INTERESTS
PMC Commercial has an investment in retained interests that is valued
based on various factors including estimates of appropriate discount rates.
Changes in the discount rates used in determining the fair value of the retained
interests will impact their carrying value. Any appreciation of retained
interests is included in the accompanying balance sheet in beneficiaries' equity
while any depreciation of retained interests is either included in the
accompanying statement of income as a realized loss (if there is a reduction in
expected future cash flows) or on the balance sheet in beneficiaries' equity as
an unrealized loss. Assuming all other factors (i.e., prepayments, losses, etc.)
remained unchanged, if discount rates were 100 basis points and 200 basis points
higher than rates estimated at June 30, 2003, the value of PMC Commercial's
retained interests would have decreased by approximately $1.0 million and $1.9
million, respectively. Assuming all other factors (i.e., prepayments, losses,
etc.) remained unchanged, if discount rates were 100 basis points and 200 basis
points higher than rates estimated at December 31, 2002, the value of PMC
Commercial's retained interests would have decreased by approximately $1.1
million and $2.0 million, respectively.
152
PMC COMMERCIAL MANAGEMENT
TRUST MANAGERS OF PMC COMMERCIAL
The PMC Commercial board of trust managers currently consists of seven
members. At the effective time of the merger, PMC Commercial's board of trust
managers will be expanded to consist of eleven members upon the appointment of
Thomas Hamill, Barry A. Imber, Fredric M. Rosemore and Theodore J. Samuel, (or
such persons mutually designated by PMC Commercial and PMC Capital in the event
any of the foregoing are unable or unwilling to serve), each of whom is
currently a director of PMC Capital, as members of PMC Commercial's board of
trust managers. At the PMC Commercial annual meeting, holders of PMC
Commercial's common shares will consider and vote upon the election of the
current members of PMC Commercial's board of trust managers, to hold office
until the next annual meeting of shareholders and until their successors have
been elected and qualified. Each trust manager must be elected by the
affirmative vote of the holders of two-thirds of the outstanding PMC Commercial
common shares present in person or represented by proxy at the annual meeting.
Each of the nominees has consented to serve as a trust manager if elected. If
any of the nominees become unable to stand for election as a trust manager at
the annual meeting (an event not now anticipated by the board of trust
managers), proxies will be voted for such substitute as will be designated by
the board of trust managers. The following table sets forth for each nominee for
election to the board of trust managers his or her age, principal occupation,
position with PMC Commercial, if any, and certain other information.
153
THE BOARD OF TRUST MANAGERS OF PMC COMMERCIAL UNANIMOUSLY RECOMMENDS
THAT THE PMC COMMERCIAL SHAREHOLDERS VOTE FOR EACH OF THE NOMINEES.
NAME AGE PRINCIPAL OCCUPATION TRUST MANAGER SINCE
---- --- -------------------- -------------------
Nathan G. Cohen 57 Mr. Cohen has been President of Consultants Unlimited, May 1994
a management and financial consulting firm, since
August 2001. From November 1984 to 2001, he was the
Controller of Atco Rubber Products, Inc.
Martha R. Greenberg 51 Dr. Greenberg has practiced optometry for 29 years in May 1996
Russellville, Alabama and currently serves on the Board
of Trustees of Southern College of Optometry. Dr.
Greenberg has been a director of PMC Capital since
1984. Dr. Greenberg is not related to Roy H. Greenberg,
but is the sister of Lance B. Rosemore and Andrew S.
Rosemore and the daughter of Fredric M. Rosemore.
Roy H. Greenberg 45 Mr. Greenberg has been the President of Whitehall Real September 1993
Estate, Inc., a real estate management firm, since
December 1989. From June 1985 to December 1989, he was
Vice President of GHR Realty Holding Group, Inc., a
real estate management company.
Irving Munn 54 Mr. Munn is a financial advisor and has been the September 1993
President of Munn & Morris Financial Advisors, Inc.
since July 1999. Previously, he was a registered
representative with Raymond James Financial Services
since 1997. As a certified public accountant, he was a
principal of Kaufman, Munn and Associates, P.C., a
public accounting firm, from 1990 to 1997 and served as
President from 1993 to November 2000. He has also
practiced as a sole proprietor since November 2000.
Andrew S. Rosemore 56 Dr. Rosemore has been Chairman of the Board of Trust June 1993
Managers since January 1994 and has been Executive Vice
President, Chief Operating Officer and Treasurer of PMC
Commercial since June 1993. He has also been the Chief
Operating Officer of PMC Capital since May 1992 and
Executive Vice President of PMC Capital since 1990.
From 1988 to May 1990, Dr. Rosemore was Vice President
of PMC Capital and from 1989 to August 1999 was a
director of PMC Capital. Dr. Rosemore is the brother of
Martha R. Greenberg and Lance B. Rosemore and the son
of Fredric M. Rosemore.
Lance B. Rosemore 54 Mr. Rosemore has been President, Chief Executive June 1993
Officer and Secretary of PMC Commercial since June
1993. He has also been Chief Executive Officer of PMC
Capital since May 1992 and President of PMC Capital
since 1990. From 1990 to May 1992, Mr. Rosemore was
Chief Operating Officer of PMC Capital. Mr. Rosemore
has been Secretary of PMC Capital since 1983 and an
employee of PMC Capital since 1979. Mr. Rosemore has
been a director of PMC Capital since 1983. Mr. Rosemore
is the brother of Martha R. Greenberg and Andrew S.
Rosemore and the son of Fredric M. Rosemore.
Ira Silver 58 Dr. Silver is Associate Professor of Professional May 1996
Practice in Managerial Economics at TCU's Neeley School
of Business and owner of IASBusEcon, an economic and
business consulting firm. Formerly, he was Assistant
Director of Planning and Analysis and Chief Economist
at JCPenney where he spent 22 years. Dr. Silver was a
director of PMC Capital from 1992 through 1994. Dr.
Silver holds a Ph.D. in Economics from the City
University of New York.
154
MEETINGS AND COMMITTEES OF THE PMC COMMERCIAL BOARD OF TRUST MANAGERS
During the year ended December 31, 2002, the board of trust managers
held four regular meetings and one special meeting. Each of the trust managers
attended at least 75% of all meetings held by the board of trust managers. The
board of trust managers has an audit committee but does not have an executive
committee, compensation committee or nominating committee.
The audit committee is comprised of Nathan G. Cohen, Irving Munn and
Ira Silver. The function of the audit committee is to review with management and
the independent public accountants the quarterly and annual results of
operations, the accounting and reporting policies and the adequacy of internal
controls. The audit committee also recommends to the board of trust managers the
independent public accountants to serve for the following year, approves the
type and scope of services to be performed by the public accountants and reviews
the related costs. The audit committee holds meetings at such times as may be
required for the performance of its functions and, during the year ended
December 31, 2002, held four meetings.
EXECUTIVE OFFICERS OF PMC COMMERCIAL
The following table sets forth the names and ages of the executive
officers of PMC Commercial, all positions held with PMC Commercial by each
individual and a description of the business experience of each individual for
at least the past five years.
NAME AGE TITLE
---- --- -----
Andrew S. Rosemore 56 Chairman of the Board, Executive Vice President, Chief
Operating Officer and Treasurer
Lance B. Rosemore 54 President, Chief Executive Officer and Secretary
Jan F. Salit 53 Executive Vice President, Chief Investment Officer and
Assistant Secretary
Barry N. Berlin 43 Chief Financial Officer
Mary J. Brownmiller 48 Senior Vice President
Cheryl T. Murray 36 General Counsel
For a description of the business experience of Andrew S. Rosemore and
Lance B. Rosemore, see "--Trust Managers of PMC Commercial" above.
JAN F. SALIT has been Executive Vice President of PMC Commercial since
June 1993, and Chief Investment Officer and Assistant Secretary since January
1994. He has also been Executive Vice President of PMC Capital since May 1993
and Chief Investment Officer and Assistant Secretary of PMC Capital since March
1994. From 1979 to 1992, Mr. Salit was employed by Glenfed Financial Corporation
and its predecessor company Armco Financial Corporation, a commercial finance
company, holding various positions including Executive Vice President and Chief
Financial Officer.
BARRY N. BERLIN has been Chief Financial Officer of PMC Commercial
since June 1993. Mr. Berlin has also been Chief Financial Officer of PMC Capital
since November 1992. From August 1986 to November 1992, he was an audit manager
with Imber and Company, Certified Public Accountants. Mr. Berlin is a certified
public accountant.
MARY J. BROWNMILLER has been Senior Vice President of PMC Commercial
since June 1993. Ms. Brownmiller has also been Senior Vice President of PMC
Capital since 1992 and Vice President of PMC Capital since November 1989. From
1987 to 1989, she was Vice President for Independence Mortgage, Inc., an SBA
lender. From 1976 to 1987, Ms. Brownmiller was employed by the SBA, holding
various positions including senior loan officer. Ms. Brownmiller is a certified
public accountant.
CHERYL T. MURRAY has been General Counsel of PMC Commercial since March
1994. Ms. Murray has also been General Counsel of PMC Capital since March 1994.
From 1992 to 1994 she was associated with the law
155
firm of Johnson & Gibbs, P.C. and practiced in the financial services
department. Ms. Murray earned her law degree from Northwestern University School
of Law.
COMPENSATION OF TRUST MANAGERS
During 2002, the non-employee members of the board of trust managers
received a retainer of $3,750 and a fee for attending meetings of the board of
trust managers and audit committee. The board members are provided an annual
retainer on an on-going basis of $5,000, payable quarterly. The non employee
trust managers will be reimbursed by PMC Commercial for their expenses related
to attending board or committee meetings. For the year ended December 31, 2002,
Ira Silver received $14,500, Nathan G. Cohen received $14,000 and Irving Munn
received $12,250, Roy H. Greenberg received $9,750 and Martha R. Greenberg
received $7,250 for services rendered as trust managers.
PMC Commercial's 1993 Trust Managers Share Option Plan, as amended (the
"Trust Managers Plan"), automatically grants options to purchase 2,000 common
shares of PMC Commercial to each non employee trust manager on the first
business day of June after such trust manager takes office and additional
options to purchase 1,000 common shares are granted on the first business day of
June thereafter so long as such trust manager is re-elected to serve as a trust
manager. Such options are priced at the fair market value of the common shares
(the closing price) on the date of grant. The options granted under the Trust
Managers Plan become exercisable one year after date of grant and expire if not
exercised on the earlier of (i) thirty (30) days after the option holder no
longer holds office as a trust manager for any reason and (ii) five (5) years
after the date of grant. Each of Nathan G. Cohen, Roy H. Greenberg, Irving Munn,
Martha R. Greenberg and Ira Silver was granted an option to acquire 1,000 common
shares on June 3, 2002 and June 11, 2003, at an exercise price of $14.90 and
$13.78 per share, respectively.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
PMC Commercial has no compensation committee and no salaried employees.
ANNUAL AND LONG-TERM COMPENSATION
PMC Commercial's direction and policies are established by its board of
trust managers and implemented by the President and Chief Executive Officer. To
assist in such implementation, PMC Commercial has retained the Investment
Manager. The Investment Manager, under the supervision of the trust managers,
identifies, evaluates, structures and closes the investments to be made by PMC
Commercial, arranges debt financing for PMC Commercial, subject to the approval
of the non-employee trust managers, and is responsible for monitoring the
investments made by PMC Commercial. See "--Certain Relationships and Related
Transactions." All of the officers of PMC Commercial are officers of the
Investment Manager. Accordingly, executive officers of PMC Commercial are not
paid directly by PMC Commercial for their services as officers of PMC
Commercial. However, in accordance with the terms of PMC Commercial's 1993
Employee Share Option Plan (the "Employee Plan"), each of PMC Commercial's
executive officers may be awarded options to purchase common shares of PMC
Commercial. The option grants set forth below were the only form of compensation
paid to the executive officers of PMC Commercial by PMC Commercial for services
to PMC Commercial during the fiscal year ended December 31, 2002.
156
OPTION GRANTS
The following table sets forth information regarding stock options
granted to each of the executive officers under the Employee Plan in the fiscal
year ended December 31, 2002.
Potential Realizable
Value at Assumed
% of Total Annual Rates of Share
Number of Securities Options Final Price Appreciation for
Underlying Options Granted to Exercise Price Option Term
Granted Employees in Price Exercise ----------------------
Name (#) Fiscal Year ($/Share) Date (5%) (10%)
------------------ -------------------- ------------ --------- -------- ----------------------
Andrew S. Rosemore 7,500 15.1% $ 13.13 12/10/07 $ 27,207 $ 60,120
Lance B. Rosemore 7,500 15.1% 13.13 12/10/07 27,207 60,120
Jan F. Salit 7,500 15.1% 13.13 12/10/07 27,207 60,120
Barry N. Berlin 7,500 15.1% 13.13 12/10/07 27,207 60,120
Mary J. Brownmiller 2,000 4.0% 13.13 12/10/07 7,255 16,032
Cheryl T. Murray 4,000 8.0% 13.13 12/10/07 14,510 32,064
OPTION EXERCISES AND YEAR END OPTION VALUES
The following table sets forth, for each of the executive officers,
information regarding exercise of stock options during the fiscal year ended
December 31, 2002 and the value of unexercised stock options as of December 31,
2002. The closing price for the common shares, as reported by the American Stock
Exchange, on December 31, 2002 (the last trading day of the fiscal year) was
$12.45.
Shares
Acquired Number of Securities
on Value Underlying Unexercised Value of Unexercised In-the-Money
Exercise Realized Options at December 31, 2002 Options at December 31, 2002
Name (#) ($) (exercisable/unexercisable)(#) (exercisable/unexercisable) ($)
------------------ -------- -------- ------------------------------ ---------------------------------
Andrew S. Rosemore -- -- 28,750 (e)/- (u) $10,731 (e)/- (u)
Lance B. Rosemore -- -- 28,750 (e)/- (u) 10,731 (e)/- (u)
Jan F. Salit -- -- 28,250 (e)/- (u) 10,731 (e)/- (u)
Barry N. Berlin -- -- 28,250 (e)/- (u) 10,731 (e)/- (u)
Mary J. Brownmiller -- -- 9,276 (e)/- (u) 4,208 (e)/- (u)
Cheryl T. Murray -- -- 16,750 (e)/- (u) 11,450 (e)/- (u)
-------------------
(u) Options are not exercisable within 60 days of the date hereof.
(e) Options are currently exercisable.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
To PMC Commercial's knowledge, based solely on the review of the copies
of such reports filed with the SEC furnished to PMC Commercial and written
representations of its incumbent trust managers and officers that no other
reports were required, during the fiscal year ended December 31, 2002, all
Section 16(a) filing requirements were complied with.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
PMC Commercial's investments are managed by the Investment Manager.
Each of PMC Commercial's executive officers is an executive officer of both PMC
Capital and the Investment Manager. Additionally, two of PMC Commercial's trust
managers are also directors of PMC Capital. The Investment Manager manages PMC
Commercial's assets through two separate investment management agreements, the
first relates to PMC Commercial's loans, and the second relates to its real
properties.
During 2002 and for the first six months of 2003, pursuant to one of
the investment management agreements, PMC Commercial paid fees between 0.40% and
1.55% annually, based upon the average principal
157
outstanding of its loans. In addition, PMC Advisers earns fees for its
assistance with the issuance of PMC Commercial's debt and equity securities.
Such compensation includes a consulting fee equal to (i) 12.5% of any offering
fees (underwriting or placement fees) incurred by PMC Commercial pursuant to the
public offering or private placement of its common shares, and (ii) 50% of any
issuance or placement fees incurred by PMC Commercial pursuant to the issuance
of its debt securities or preferred shares of beneficial interest.
The other investment management agreement relates to hotel properties
and provides for an annual fee of 0.70% of the original cost of the properties
to be paid to PMC Advisers for providing services relating to leases on PMC
Commercial's properties. In addition, this agreement provides for a fee relating
to any acquisition of properties of 0.75% of the acquisition cost, a fee of
$10,000 upon the sale of each hotel property and an annual loan origination fee
equal to five basis points of loans funded for the first $20 million in loans
and 2.5 basis points thereafter. PMC Commercial paid an aggregate of
approximately $2.3 million in management fees under these agreements for the
year ended December 31, 2002.
PMC Capital is primarily engaged in the business of originating loans
to small businesses under loan guarantee and funding programs sponsored by the
SBA. PMC Commercial provides loans to persons or entities whose borrowing needs
and/or strength and stability exceed the limitations set for SBA approved loan
programs. As a result, PMC Commercial generally pursues different prospective
borrowers than PMC Capital. In order to further mitigate the potential for
conflicts of interest, PMC Commercial has entered into a loan origination
agreement with PMC Capital and PMC Advisers. Pursuant to the loan origination
agreement, all loans that meet PMC Commercial's underwriting criteria are
presented to PMC Commercial first for funding. If PMC Commercial does not have
available uncommitted funds, origination opportunities presented to PMC
Commercial may be originated by PMC Capital or its subsidiaries. Many of PMC
Commercial's existing and potential borrowers have other projects that are
currently financed by PMC Capital.
158
PMC COMMERCIAL SECURITY OWNERSHIP OF
CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
As of August 22, 2003, the only shareholder known to the management of
PMC Commercial to own beneficially more than 5% of the outstanding common shares
was as follows:
NAME AND ADDRESS OF BENEFICIAL OWNER AMOUNT AND NATURE OF BENEFICIAL OWNERSHIP PERCENT OF CLASS
------------------------------------ ----------------------------------------- ----------------
Peter B. Cannell & Co., Inc. 523,000 shares (1) 8.1%
645 Madison Avenue
New York, New York 10022
------------------------------------
(1) The information is based on a statement on Schedule 13G filed with the SEC
on February 4, 2003. Peter B. Cannell & Co., Inc. is a registered
investment adviser and the shares reported on the Schedule 13G are held in
client discretionary investment advisory accounts. While Peter B. Cannell &
Co., Inc. may be deemed to be the beneficial owner of these shares under
the rules of the SEC, Peter B. Cannell & Co., Inc. disclaims any beneficial
interest of all such common shares.
SECURITY OWNERSHIP OF MANAGEMENT
On August 22, 2003, PMC Commercial had 6,448,291 outstanding common
shares. The following table sets forth the number of outstanding common shares
beneficially owned, directly or indirectly, by each trust manager, each
executive officer and all trust managers and executive officers of PMC
Commercial as a group, and the components of such beneficial ownership, at
August 22, 2003. Each trust manager or executive officer has sole voting and
investment power over the common shares indicated below as being beneficially
owned by such person. The address of each trust manager and executive officer is
18111 Preston Road, Suite 600, Dallas, Texas 75252.
PERCENT OF
UNEXERCISED COMMON SHARES COMMON SHARES
COMMON OPTIONS OWNED OWNED
NAME SHARES OWNED EXERCISABLE BENEFICIALLY BENEFICIALLY
---------------------------- ------------ ----------- ------------ ------------
Andrew S. Rosemore(1) 218,175 28,750 246,925 3.8%
Lance B. Rosemore(2) 79,880 28,750 108,630 1.7%
Jan F. Salit 10,653 28,250 38,903 *
Barry N. Berlin(3) 9,382 28,250 37,632 *
Mary J. Brownmiller 1,474 9,276 10,750 *
Cheryl T. Murray 2,200 16,750 18,950 *
Nathan G. Cohen(4) 5,600 5,000 10,600 *
Martha Greenberg(5) 80,602 3,000 83,602 1.3%
Roy H. Greenberg 6,000 5,000 11,000 *
Irving Munn(6) 3,000 5,000 8,000 *
Ira Silver 3,000 3,000 6,000 *
Trust Managers and Executive
Officers as a group
(11 persons) 419,966 161,026 580,992 9.0%
---------------------------
* Less than 1%.
(1) Includes 155,140 shares held in his individual retirement accounts, 4,770
shares held in a trust of which Dr. Rosemore is the beneficiary, 25,275
shares held by a partnership of which Dr. Rosemore and his wife are general
partners and 1,290 shares held in the name of his children.
(2) Includes 3,781 shares held in the name of his minor children, 5,100 shares
held in a trust of which Mr. Rosemore is the beneficiary, 537 shares held
in an individual retirement account and 82 shares held in the name of his
wife.
(3) Includes 147 shares held in the name of his minor child.
(4) Includes 1,500 shares held in the name of his wife.
(5) Includes 3,000 shares held in an individual retirement account and 3,363
shares held in the name of her children. Does not include 300 shares held
by her husband.
(6) Includes 200 shares held in the name of his children.
159
PMC COMMERCIAL PERFORMANCE GRAPH
Set forth below is a line graph comparing the percentage change in the
cumulative total shareholder return on the PMC Commercial common shares with the
cumulative total return of the S&P 500 Index, the SNL All Hybrid REITs index and
the PMC Commercial's peer group which consists of the publicly traded mortgage
REITs listed on the New York Stock Exchange, the American Stock Exchange and the
Nasdaq Stock Market's National Market for the period from January 1, 1997
through December 31, 2002 assuming an investment of $100 on January 1, 1997 and
the reinvestment of dividends. The SNL All Hybrid REITs index consists of those
REITs identified by SNL Financial LC1 which own both mortgage loans and equity
interests in real estate and are traded on the New York Stock Exchange, the
American Stock Exchange and the Nasdaq Stock Market's National Market. The
entities included in the SNL All Hybrid REITs index include substantially all of
the members of PMC Commercial's peer group as identified in its 1998 Proxy
Statement. The share price performance shown on the graph is not necessarily
indicative of future price performance.
The graph shall not be deemed to be soliciting material or to be filed
with the SEC under the Securities Act of 1933, or the Securities Exchange Act of
1934, or incorporated by reference in any document so filed.
[TOTAL RETURN PERFORMANCE GRAPH]
PERIOD ENDING
--------------------------------------------------------------------
INDEX 12/31/97 12/31/98 12/31/99 12/31/00 12/31/01 12/31/02
-----------------------------------------------------------------------------------------------------------------
PMC Commercial Trust 100.00 92.29 64.64 66.16 114.41 118.49
S&P 500 100.00 128.55 155.60 141.42 124.63 96.95
SNL All Hybrid REITs 100.00 69.62 43.94 33.12 65.52 68.12
PMC Commercial Trust Peer Group* 100.00 92.21 45.75 55.66 97.66 126.36
160
APPROVAL OF PROPOSED AMENDMENTS TO PMC COMMERCIAL'S
DECLARATION OF TRUST
At PMC Commercial's annual meeting, PMC Commercial shareholders will be
asked to approve two amendments to PMC Commercial's declaration of trust. The
specific language of each amendment is attached as Annex B to this joint proxy
statement/prospectus and is incorporated by reference in this joint proxy
statement/prospectus. Set forth below is a general description of each of the
amendments and the PMC Commercial board of trust managers' reasons for proposing
the amendments. On August 4, 2003, the PMC Commercial board of trust managers
directed that these proposed amendments be submitted to a vote of PMC Commercial
shareholders at the PMC Commercial annual meeting. PMC Capital shareholders will
not be asked or permitted to vote on this proposal.
EXPANSION OF SHAREHOLDER VOTING RIGHTS
PMC Commercial's board of trust managers has approved and proposes
deleting Article Eight, clause (f) of its declaration of trust in its entirety
and replacing it with the following text:
(f) Except as otherwise specifically required by law or
this Declaration of Trust or as specifically provided in any resolution
or resolutions of the Trust Managers providing for the issuance of any
particular series of Preferred Shares, the Common Shares shall have the
exclusive right to vote on all matters (as to which common shareholders
shall be entitled to vote pursuant to applicable law) at all meetings
of the shareholders of the Trust. Subject to the provisions of the
Texas REIT Act and this Declaration of Trust that may require a greater
voting requirement, at any meeting of the holders of the Common Shares
at which a quorum is present: (1) a trust manager shall be elected only
if the trust manager receives the affirmative vote of a majority of the
votes cast by the holders of Common Shares, and (2) with respect to any
other matter to be voted upon, such matter shall be approved if the
matter receives the affirmative vote of the holders of at least a
majority of the Common Shares entitled to vote on, and that voted for
or against or expressly abstained with respect to, such matter.
This amendment would give the holders of PMC Commercial's common shares
the right to vote on any matter presented for shareholder approval or required
to be approved by shareholders under the Texas Real Estate Investment Trust Act
(the "Texas REIT Act"), at an annual or special meeting of shareholders, subject
to the rights (if any) of holders of PMC Commercial's preferred shares and
applicable law. If PMC Commercial's declaration of trust is amended as proposed,
a trust manager shall be elected upon receiving the affirmative vote of a
majority of the votes cast by the holders of common shares at a meeting of the
shareholders at which a quorum is present. With respect to any other matter to
be voted upon, such matter shall be approved if it receives the affirmative vote
of the holders of at least a majority of the common shares entitled to vote on,
and that voted for or against or expressly abstained with respect to, such
matter, at a meeting of shareholders at which a quorum is present.
Currently, PMC Commercial's declaration of trust provides that the PMC
Commercial shareholders are entitled to vote only on the following matters: (i)
election or removal of trust managers, (ii) amendment of the declaration of
trust; (iii) termination of PMC Commercial; (iv) reorganization of PMC
Commercial; (v) merger or consolidation of PMC Commercial or the sale or
disposition of all or substantially all of PMC Commercial's assets; and (vi)
termination of PMC Commercial's investment management agreement with the
Investment Manager. Each of these matters requires the approval of at least
two-thirds of the outstanding common shares of PMC Commercial entitled to vote
at a meeting of shareholders at which a quorum is present. Except with respect
to the foregoing matters, no action taken by the PMC Commercial shareholders is
binding on the trust managers.
PMC Commercial's trust managers have approved this amendment to expand
the voting rights of PMC Commercial's shareholders as permitted by the Texas
REIT Act and to harmonize such rights with the common stock voting rights
established by the vast majority of publicly-traded companies. Moreover, this
amendment would make PMC Commercial's declaration of trust consistent with PMC
Commercial's past practice of allowing shareholders to vote on certain matters,
such as the ratification of PMC Commercial's independent public accountants.
161
AMENDING, REPEALING OR ADOPTING BYLAWS
PMC Commercial's board of trust managers has also approved an amendment
to PMC Commercial's declaration of trust to provide that the PMC Commercial
board of trust managers, as well as PMC Commercial shareholders, may amend,
repeal or adopt bylaws. The Texas REIT Act provides, among other things, that
the trust managers of a Texas REIT may amend or repeal the Texas REIT's bylaws
or adopt new bylaws unless the Texas REIT's declaration of trust or the Texas
REIT Act reserves the power exclusively to the shareholders in whole or in part.
Further, the Texas REIT Act provides that unless the declaration of trust or a
bylaw adopted by the shareholders provides otherwise as to all or some portion
of a Texas REIT's bylaws, a Texas REIT's shareholders may amend, repeal or adopt
the Texas REIT's bylaws even though the bylaws may also be amended, repealed or
adopted by its trust managers.
PMC Commercial's declaration of trust currently has no provision
addressing the procedures for amending, repealing or adopting bylaws. PMC
Commercial's bylaws currently provide that except as provided by applicable law
or PMC Commercial's declaration of trust, the power to alter, amend, repeal or
adopt bylaws is vested in the shareholders, and any such action requires the
affirmative vote of a majority of PMC Commercial's outstanding shares. However,
it is unclear whether the language of such provision would be sufficient under
the Texas REIT Act to act as an exclusive reservation to the shareholders of the
power to amend, repeal or adopt bylaws. Furthermore, even if the language of the
bylaw provision is sufficient to act as an exclusive reservation of power to the
shareholders, it is not clear whether the bylaw provision would be valid under
the Texas REIT Act, which requires such exclusive reservation of power to be
included in the declaration of trust, and not the bylaws.
For these reasons, the PMC Commercial board of trust managers has
proposed this amendment to clarify the rights of PMC Commercial's board of trust
managers and shareholders with respect to the amendment, repeal and adoption of
bylaws, and to bring PMC Commercial's governing documents up to date with
current Texas REIT law. Moreover, the amendment will harmonize the bylaw
amendment provisions of PMC Commercial's governing documents with those of other
Texas REITs and of public corporations generally, the vast majority of which
permit the board of directors to amend, repeal and adopt bylaws. In fact, while
the amendment would continue to permit PMC Commercial shareholders to amend,
repeal and adopt bylaws (subject to the requirements, if any, contained in PMC
Commercial's governing documents and applicable law with respect to shareholder
proposals), some public companies do not allow shareholders to do so, and thus
this provision, as amended, would give PMC Commercial shareholders greater
rights than those afforded by such public companies.
If the bylaw provision described above is sufficient to act as an
exclusive reservation of power to PMC Commercial's shareholders to amend, repeal
or adopt PMC Commercial's bylaws and the bylaw provision would not be deemed
invalid under the Texas REIT Act, this amendment could be construed to have a
negative effect upon PMC Commercial shareholders by eliminating the exclusive
power of the shareholders to effect changes in PMC Commercial's bylaws. However,
PMC Commercial believes that the language of the bylaw provision is not
sufficient to act as an exclusive reservation of power as required under the
Texas REIT Act. Thus, PMC Commercial believes that this amendment will not have
any practical negative effect on PMC Commercial's shareholders. Further, the
amendment would clarify the provisions of PMC Commercial's governing documents
with respect to bylaw changes and to bring such provisions in line with modern
corporate governance trends.
VOTE REQUIRED
The approval of the amendments to PMC Commercial's declaration of trust
requires the affirmative vote of the holders of at least two-thirds of the
outstanding PMC Commercial common shares entitled to vote on the amendments. If
you abstain, do not return your proxy or do not cast your vote either in person,
by proxy, by telephone or the Internet, it will have the effect of a vote
"against" the amendments to PMC Commercial's declaration of trust. Brokers who
hold shares of stock in street name cannot vote those shares if the brokers are
not provided with voting instructions in accordance with applicable procedures,
and such a broker non-vote would also be counted as a vote "against" the
amendments to PMC Commercial's declaration of trust.
162
RECOMMENDATION OF PMC COMMERCIAL BOARD OF TRUST MANAGERS
For all of the foregoing reasons, the PMC Commercial board of trust
managers has unanimously adopted and approved the proposed amendments to PMC
Commercial's declaration of trust, has determined that the proposed amendments
are advisable and in the best interests of PMC Commercial and its shareholders
and has directed that the amendments be submitted to a vote of PMC Commercial
shareholders at the PMC Commercial annual meeting. The PMC Commercial board of
trust managers unanimously recommends that PMC Commercial shareholders vote FOR
approval of the proposed amendments to PMC Commercial's declaration of trust.
163
RATIFICATION OF PMC COMMERCIAL'S INDEPENDENT PUBLIC ACCOUNTANTS
PMC Commercial's board of trust managers recommends that shareholders
ratify the board of trust managers' selection of PricewaterhouseCoopers LLP as
the independent public accountants of PMC Commercial for the year ending
December 31, 2003. PricewaterhouseCoopers LLP has examined the accounts of PMC
Commercial since its organization in 1993. Representatives of
PricewaterhouseCoopers LLP will be in attendance at the annual meeting, will
have the opportunity to make a statement if they desire to do so and will be
available to respond to shareholder questions.
PRINCIPAL ACCOUNTING FIRM FEES
Aggregate fees billed to PMC Commercial and its subsidiaries for the
fiscal year ended December 31, 2002 by PMC Commercial's principal accounting
firm, PricewaterhouseCoopers LLP, are set forth below:
Audit Fees and Quarterly Reviews........ $ 104,737
Tax Returns and Compliance.............. $ 33,847(a)
-----------------------
(a) The audit committee has considered whether the provision of theses services
by PricewaterhouseCoopers LLP is compatible with maintaining the principal
accountant's independence.
THE BOARD OF TRUST MANAGERS OF PMC COMMERCIAL RECOMMENDS SHAREHOLDERS
VOTE FOR THE RATIFICATION OF PRICEWATERHOUSECOOPERS LLP AS PMC COMMERCIAL'S
INDEPENDENT PUBLIC ACCOUNTANTS.
AUDIT COMMITTEE REPORT
In accordance with its written charter adopted by the board of
directors, the audit committee of the board of trust managers assists the board
of trust managers in fulfilling its responsibility for oversight of the quality
and integrity of the accounting, auditing and financial reporting practices of
PMC Commercial.
In discharging its oversight responsibility as to the audit process,
the audit committee obtained from the independent accountants a formal written
statement describing all relationships between the accountants and PMC
Commercial that might bear on the accountants' independence consistent with
Independence Standards Board Standard No. 1, "Independence Discussions with
Audit Committees," discussed with the accountants any relationships that may
impact their objectivity and independence and satisfied itself as to the
accountants' independence. The audit committee also discussed with management
and the independent accountants the quality and adequacy of PMC Commercial's
internal controls and budget and staffing. The audit committee reviewed with the
independent accountants their audit plans, audit scope and identification of
audit risks.
The audit committee discussed and reviewed with the independent
accountants all communications required by generally accepted auditing
standards, including those described in Statement on Auditing Standards No. 61,
as amended, "Communication with Audit Committees" and, with management present,
discussed and reviewed the results of the independent accountants' examination
of the financial statements.
The audit committee reviewed the audited financial statements of PMC
Commercial as of and for the fiscal year ended December 31, 2002, with
management and the independent accountants. Management has the responsibility
for the preparation of PMC Commercial's financial statements and the independent
accountants have the responsibility for the examination of those statements.
164
Based on the above-mentioned review and discussions with management and
the independent accountants, the audit committee recommended to the board of
trust managers that PMC Commercial's audited financial statements be included in
its annual report on Form 10-K for the fiscal year ended December 31, 2002, for
filing with the SEC. The audit committee also recommended the reappointment,
subject to shareholder approval, of the independent accountants and the board of
trust managers concurred in such recommendation.
AUDIT COMMITTEE OF THE
PMC COMMERCIAL
BOARD OF TRUST MANAGERS
Nathan G. Cohen
Irving Munn
Ira Silver
SHAREHOLDER PROPOSALS
Any shareholder who intends to present a proposal at the annual meeting
in 2004, and who wishes to have the proposal included in the proxy statement for
that meeting must deliver the proposal to PMC Commercial's corporate secretary
at 18111 Preston Road, Suite 600, Dallas, Texas 75252 by December 19, 2003. All
proposals must meet the requirements set forth in the rules and regulations of
the SEC in order to be eligible for inclusion in the proxy statement for that
meeting.
Any shareholder who intends to bring business to the annual meeting in
the year 2004 but does not intend to include the proposal in the proxy
statement, or to nominate a person to the PMC Commercial board of trust
managers, must give written notice to PMC Commercial's corporate secretary,
18111 Preston Road, Suite 600, Dallas, Texas 75252 by December 19, 2003.
165
PMC CAPITAL BUSINESS
INTRODUCTION
PMC Capital, Inc., a Florida corporation, is a diversified, closed-end
management investment company that has elected to operate as a BDC under the
1940 Act. PMC Capital is a national lender to small businesses either directly
or through its three 1940 Act subsidiaries. These subsidiaries are First
Western, PMCIC and Western Financial. First Western, PMCIC and Western Financial
are registered under the 1940 Act as diversified, closed-end management
investment companies. PMC Capital's common stock is traded on the American Stock
Exchange under the symbol "PMC." PMC Capital's investment objective is to
achieve current income that is available to pay out to shareholders in the form
of quarterly dividends. PMC Capital has elected to be taxed as a RIC under the
Internal Revenue Code and thus distributes substantially all of its taxable
income as dividends to its shareholders, thereby incurring no U.S. Federal
income tax liability on such income.
PMC Capital's operations are centralized in Dallas, Texas and include
originating, servicing and selling commercial loans. PMC Capital also has a
business development office in Arizona. PMC Capital operates under several
licenses from the SBA. First Western is licensed as a small business lending
company ("SBLC") that originates loans through the SBA's 7(a) Guaranteed Loan
Program. PMCIC is a licensed specialized small business investment company under
the Small Business Investment Act of 1958, as amended ("SBIA"). PMCIC uses
long-term funds provided by the SBA, together with its own capital, to provide
long-term collateralized loans to eligible small businesses owned by
"disadvantaged" persons, as defined under SBA regulations. Western Financial is
a licensed small business investment company ("SBIC") under the SBIA that
provides loans to borrowers whether or not they qualify as "disadvantaged."
PMC Capital is either directly or indirectly the sole shareholder or a
partner of several non-investment company subsidiaries: PMC Advisers; PMC
Funding Corp. ("PMC Funding") and its subsidiary; PMC Asset Holding, LLC ("Asset
Holding") and several SPEs established to facilitate structured loan
transactions. PMC Capital's consolidated financial statements include the
accounts of PMC Capital and its wholly-owned RIC subsidiaries. PMC Advisers and
PMC Funding are accounted for using the equity method of accounting in
conformity with the requirements of Federal securities laws. PMC Capital's
interests in the SPEs are accounted for as retained interests in transferred
assets.
In addition to its lending operations, PMC Capital earns income through
PMC Advisers which evaluates and services loans receivable and other investments
pursuant to fee arrangements through the investment management agreements with
PMC Commercial.
PMC Commercial provides loans to entities whose borrowing needs and/or
strength and stability exceed the limitations set by the SBA for PMC Capital's
SBA approved loan programs. As a result, PMC Capital generally pursues different
prospective borrowers than PMC Commercial. In order to further mitigate the
potential for conflicts of interest, PMC Capital, PMC Commercial and PMC
Advisers have entered into a loan origination agreement. Pursuant to the loan
origination agreement, loans that are greater than $1.3 million that meet PMC
Commercial's underwriting criteria are first presented to PMC Commercial for
funding. If PMC Commercial does not have available funds, PMC Capital may
originate those lending opportunities as long as they meet its lending criteria.
As of June 30, 2003 and December 31, 2002 and 2001, PMC Capital's total
assets were approximately $144.8 million, $140.3 million and $162.7 million,
respectively. During the six months ended June 30, 2003 and the years ended
December 31, 2002 and 2001, PMC Capital's total investment income was
approximately $7.5 million, $16.7 million and $20.8 million, respectively and
its net increase in net assets resulting from operations, or net income, was
approximately $1.7 million, $6.0 million and $10.6 million, respectively.
166
LENDING ACTIVITIES
OVERVIEW
The fair value of PMC Capital's loans receivable was $95.0 million,
$87.2 million and $107.4 million at June 30, 2003 and December 31, 2002 and
2001, respectively. As of June 30, 2003 and December 31, 2002 and 2001, PMC
Capital had $83.4 million (8.8%), $71.3 million (82%) and $38.5 million (36%),
respectively, of variable-rate loans receivable and $11.6 million (12%), $15.9
million (18%) and $68.9 million (64%), respectively, of fixed-rate loans
receivable and the weighted average interest rate on its loans receivable was
6.1%, 7.1% and 9.0%, respectively.
PMC Capital primarily originates loans to small business concerns in
the limited service sector of the hospitality industry. PMC Capital has a
fundamental policy with respect to loan concentration that requires it to have
at least 25% of its total assets invested in the hospitality industry, and at
December 31, 2002 its concentration was approximately 81%. PMC Capital also
emphasizes lending to the convenience store and gas station, restaurant,
service, retail and commercial real estate industries. PMC Capital is a national
lender that primarily lends to businesses in the southeast and southwest regions
of the United States.
LIMITED SERVICE HOSPITALITY INDUSTRY
PMC Capital's loans in the hospitality industry are generally
collateralized by first liens on limited service hospitality properties and are
generally made to owner-operated facilities operating under national franchises.
PMC Capital believes that franchise operations offer attractive lending
opportunities because such businesses generally employ proven business concepts,
have national reservation systems, have consistent product quality, are screened
and monitored by franchisors and generally have a higher rate of success when
compared to other independently operated hospitality businesses. See "PMC
Capital Management's Discussion and Analysis of Financial Condition and Results
of Operations - Economic Factors - Hospitality Industry Factors."
LOAN ORIGINATIONS AND UNDERWRITING
PMC Capital originates mortgage loans to small businesses primarily
collateralized by commercial real estate. PMC Capital believes that it
successfully competes in the commercial real estate finance market due to its
understanding of borrowers' businesses, the flexible loan terms that it offers
and its responsive customer service. PMC Capital's approach to assessing new
commercial mortgage loans requires an analysis of the replacement cost of the
collateral, its liquidation value and an analysis of local market conditions.
PMC Capital also considers the underlying cash flow of the tenant or
owner-occupant as well as more traditional real estate loan underwriting
criteria.
PMC Capital's variable-rate loans receivable require payments of
principal and interest, reset on a quarterly basis, to amortize the principal
over ten to 20 years. Fixed interest rate loans receivable primarily require
level payments of principal and interest calculated to amortize the principal
over ten to 25 years.
PMC Capital has business development offices in Texas and Arizona and
solicits loan applications from potential borrowers through personal contacts
and public appearances, direct mailings, advertisements in trade publications
and other marketing vehicles. In addition, a significant percentage of new loans
is generated through referrals from existing borrowers, lawyers, accountants,
real estate brokers and loan brokers. In certain cases, PMC Capital makes
referral payments to persons who assist in generating loan applications. Such
referral payments generally are in amounts not exceeding 1% of the principal
amount of the related loan. PMC Capital's loan committee, comprised primarily of
senior management, makes the final determination on whether or not to approve
each loan application.
Upon receipt of a completed loan application, PMC Capital's credit
department conducts: (i) a detailed analysis of the loan, which typically
includes an appraisal and a valuation by the credit department of the property
that will collateralize the loan to assure compliance with loan-to-value
percentages, (ii) a site inspection for real estate collateralized loans, (iii)
a review of the borrower's business experience, (iv) a review of the borrower's
credit
167
history, and (v) an analysis of the borrower's debt-service-coverage and
debt-to-equity ratios. All appraisals must be performed by an approved licensed
third party appraiser and based on the market value, replacement cost and cash
flow value approaches. PMC Capital generally utilizes nationwide independent
appraisal firms and seeks local market economic information to the extent
available.
PMC Capital's typical loan is distinguished from those of some of its
competitors by the following characteristics:
- Substantial down payments are required. PMC Capital usually
requires an initial down payment of not less than 20% of the
value of the property which is collateral for the loan at the
time of such loan. PMC Capital's experience has shown that the
likelihood of full repayment of a loan increases if the
owner/operator is required to make an initial and substantial
financial commitment to the property which is collateral for
the loan.
- "Cash outs" are typically not permitted. Generally, PMC
Capital will not make a loan in an amount greater than either
the cost or the current appraised value of the property which
is collateral for the loan. For example, a hotel property may
have been originally constructed for a cost of $2,000,000,
with the owner/operator borrowing $1,600,000 of that amount.
At the time of the borrower's loan refinancing request, the
property which is collateral for the loan is appraised at
$4,000,000. Some of PMC Capital's competitors might loan from
70% to 90% or more of the new appraised value of the property
and permit the owner/operator to receive a cash distribution
from the proceeds. Generally, PMC Capital will not permit this
type of "cash-out" distribution.
- The obligor is personally liable for the loan. PMC Capital
generally requires the principals of the borrower to guarantee
the loan.
LOAN ACTIVITY
The following table details PMC Capital's loan activity for the years
indicated:
Years Ended December 31,
-----------------------------------------------------
2002 2001 2000 1999 1998
-------- -------- -------- -------- ---------
(In thousands)
Loans receivable - beginning of year........ $107,392 $100,353 $106,325 $116,711 $ 127,240
Loans originated............................ 46,138 65,977 44,158 84,264 66,450
Principal collections (1)................... (13,891) (10,063) (11,233) (15,431) (23,538)
Structured loan sales (2)................... (43,218) (49,194) (28,046) (60,481) (43,144)
Loans sold (3).............................. (6,146) (7,778) (9,584) (19,152) (9,978)
Loans transferred to assets acquired in
liquidation (4).......................... (2,629) (314) -- -- --
Loans assumed by affiliate (5).............. (885) -- -- -- --
Loans purchased (6)......................... 1,176 8,634 -- -- --
Other adjustments (7)....................... (692) (223) (1,267) 414 (319)
-------- -------- -------- -------- ---------
Loans receivable - end of year.............. $ 87,245 $107,392 $100,353 $106,325 $ 116,711
======== ======== ======== ======== =========
-------------------
(1) Includes scheduled payments and prepayments.
(2) PMC Capital sold loans receivable as part of structured loan sale
transactions.
(3) First Western sells the guaranteed portion of its loans receivable through
private placements to either dealers in government guaranteed loans or
institutional investors.
(4) During 2001 and 2002, PMC Capital transferred loans to assets acquired in
liquidation.
(5) During 2002, PMC Funding acquired assets and assumed notes payable to PMC
Capital and First Western.
(6) Represents the value of loans purchased through the exercise of optional
redemption provisions from affiliated SPEs.
(7) Includes the change in unrealized appreciation (depreciation) in loans
receivable, loans written-off and discounts.
168
QUARTERLY LOAN ORIGINATIONS
The following table is a breakdown of PMC Capital's loans originated on
a quarterly basis during the years indicated:
Years Ended December 31,
-----------------------------------------------------
2002 2001 2000 1999 1998
-------- -------- -------- -------- ---------
(In thousands)
First Quarter............................... $ 11,772 $ 15,628 $ 13,190 $ 17,231 $ 10,937
Second Quarter.............................. 7,696 32,850 10,943 16,534 11,739
Third Quarter............................... 8,226 9,903 10,453 27,687 16,887
Fourth Quarter.............................. 18,444 7,596 9,572 22,812 26,887
-------- -------- -------- -------- ---------
Total................................. $ 46,138 $ 65,977 $ 44,158 $ 84,264 $ 66,450
======== ======== ======== ======== =========
During the six months ended June 30, 2003, PMC Capital originated loans totaling
$19.6 million.
LOAN PORTFOLIO STATISTICS
Information on PMC Capital's loans receivable, and combined with loans
receivable which have been sold and which PMC Capital services and has retained
interests (the "Serviced Loan Portfolio") was as follows, broken down by
division:
Years Ended December 31,
---------------------------------------------------------------------
2002 2001
--------------------------------- ---------------------------------
Commercial Commercial
Total SBA 7(a) Loans Total SBA 7(a) Loans
--------- -------- ---------- --------- -------- ----------
(Dollars in thousands, except footnote)
Principal balance:
Loans receivable (1)........ $ 88,476 $ 15,220 $ 73,256 $ 108,357 $ 17,510 $ 90,847
Sold loans of SPEs.......... 176,296 3,590 172,706 158,002 4,907 153,095
Sold SBA 7(a)
guaranteed loans.......... 48,181 48,181 -- 55,409 55,409 --
--------- -------- ---------- --------- -------- ----------
Serviced Loan Portfolio.... $ 312,953 $ 66,991 $ 245,962 $ 321,768 $ 77,826 $ 243,942
========= ======== ========== ========= ======== ==========
Weighted average interest rate:
Loans receivable............ 7.1% 6.6% 7.2% 9.0% 7.9% 9.2%
Sold loans of SPEs.......... 9.0% 7.1% 9.1% 9.1% 8.4% 9.1%
Sold SBA 7(a)
guaranteed loans.......... 6.8% 6.8% -- 8.0% 8.0% --
Serviced Loan Portfolio..... 8.2% 6.7% 8.6% 8.9% 8.1% 9.2%
--------------------
(1) Balances represent the principal outstanding on PMC Capital's loans
receivable before discounts aggregating $520,000 and $552,000 and unrealized
depreciation of $711,000 and $443,000 at December 31, 2002 and 2001,
respectively.
PROBLEM LOANS
Senior management closely monitors problem loans which are classified
into two categories: impaired loans ("PMC Capital Impaired Loans") and special
mention loans ("PMC Capital Special Mention Loans") (together, "PMC Capital
Problem Loans"). PMC Capital Impaired Loans are loans which are not complying
with their contractual terms, the collection of the balance of the principal is
considered impaired and on which its fair value is less than the remaining
unamortized principal balance. PMC Capital Special Mention Loans are those loans
receivable that are not complying with their contractual terms but PMC Capital
expects a full recovery of the principal balance through either collection
efforts or liquidation of collateral. See "PMC Capital Management's
169
Discussion and Analysis of Financial Condition and Results of Operations -
Portfolio Information - Lending Activities - Problem Loans."
INDUSTRY INFORMATION ON PMC CAPITAL'S LOAN PORTFOLIO
The distribution of PMC Capital's loans receivable and Serviced Loan
Portfolio by industry were as follows at December 31, 2002:
Loans Receivable
--------------------------------------------------
Number of
Loans Value % Cost %
--------- --------- ------ --------- ------
(Dollars in thousands)
Hotels and motels............. 104 $ 74,098 84.9% $ 74,063 84.8%
Services...................... 28 2,732 3.1% 2,773 3.2%
Restaurants................... 21 1,259 1.4% 1,274 1.5%
Retail, other................. 21 4,147 4.8% 4,176 4.7%
Gasoline/service stations..... 15 2,407 2.8% 2,440 2.8%
Other......................... 31 2,602 3.0% 2,690 3.0%
--- --------- ----- --------- -----
Total.................... 220 $ 87,245 100.0% $ 87,956 100.0%
=== ========= ===== ========= =====
Serviced Loan Portfolio
-----------------------------
Number of
Loans Cost %
--------- --------- ------
(Dollars in thousands)
Hotels and motels............. 264 $ 263,624 84.2%
Services...................... 46 10,179 3.2%
Restaurants................... 29 8,763 2.8%
Retail, other................. 24 6,904 2.2%
Gasoline/service stations..... 28 12,452 4.0%
Other......................... 47 11,031 3.6%
--- --------- -----
Total.................... 438 $ 312,953 100.0%
=== ========= =====
STRUCTURED LOAN TRANSACTIONS
GENERAL
Structured loan sale transactions are PMC Capital's primary method of
obtaining funds for new loan originations. In a structured loan sale
transaction, PMC Capital contributes loans receivable to an SPE in exchange for
an ownership interest in that entity. The SPE issues notes payable (usually
through a private placement) to third parties and then distributes a portion of
the notes payable proceeds to PMC Capital. The notes payable are collateralized
solely by the assets of the SPE which means that, should the SPE fail to make
payments on the debt, the noteholders have no recourse to PMC Capital. PMC
Capital has no obligation to pay the notes, nor do the holders of the notes have
any recourse against its assets.
PMC Capital accounts for structured loan sale transactions as sales of
loans receivable and the SPE meets the definition of a qualifying SPE; as a
result, neither the loans receivable contributed to the SPE nor the notes
payable issued by the SPE are included in PMC Capital's consolidated financial
statements. When a structured loan sale transaction is completed: (1) the
ownership interests in the SPEs are accounted for as retained interests and are
recorded at the present value of the estimated future cash flows to be received
from the SPE and (2) the difference between (i) the carrying value of the loans
receivable sold and (ii) the sum of (a) cash received and (b) the initial value
of the estimated future cash flows from the retained interests constitutes the
gain or loss on sale. Gains or losses on these sales may represent a material
portion of PMC Capital's net income in the period in which the transactions
occur. These gains or losses also cause timing differences between net income
determined in accordance with generally accepted accounting principles and
investment company taxable income. See "Risk
170
Factors" and "PMC Capital Management's Discussion and Analysis of Financial
Condition and Results of Operations - Liquidity and Capital Resources."
Because PMC Capital relies on structured loan sale transactions as its
primary source of operating capital to fund new loan originations, any adverse
changes in its ability to complete this type of transaction, including any
negative impact on the asset-backed securities market for the type of product it
generates, could have a detrimental effect on its ability to generate funds to
originate loans. See "PMC Capital Management's Discussion and Analysis of
Financial Condition and Results of Operations - Economic Factors."
PMC Capital's retained interests consist of (i) the required
over-collateralization, which is the retention of a portion of each of the sold
loans, (ii) the reserve fund, which is required cash balances owned by the SPE
and (iii) the interest-only strip receivable, which is the future excess funds
to be generated by the SPE after payment of all obligations of the SPE. The
value of PMC Capital's retained interests is determined based on the present
value of estimated future cash flows that PMC Capital will receive from the
SPEs. The estimated future cash flows are calculated based on assumptions
concerning, among other things, loan losses and prepayment speeds. On a
quarterly basis, PMC Capital measures the fair value of, and records income
relating to, the retained interests based upon the future anticipated cash flows
discounted based on an estimate of market interest rates for investments of this
type. Any appreciation (depreciation) of PMC Capital's retained interests is
included in the accompanying statement of operations as either a realized loss
(if there is a reduction in expected future cash flows) or unrealized gain
(loss) on investments.
PMC Capital retains a portion of the default and prepayment risk
associated with the underlying transferred loans receivable of its retained
interests. Actual defaults and prepayments with respect to estimating future
cash flows for purposes of valuing the retained interests will vary from
assumptions, possibly to a material degree, and slower (faster) than anticipated
prepayments of principal or lower (higher) than anticipated loan losses will
increase (decrease) the fair value of PMC Capital's retained interests and the
related cash flows. See "Risk Factors - Risks Related to the Business of Both
PMC Commercial and PMC Capital." PMC Capital regularly measures loan loss,
prepayment and other assumptions against the actual performance of the loans
receivable sold. Although PMC Capital believes that reasonable assumptions as to
the future cash flows have been made, actual rates of loss or prepayments will
vary from those assumed and these assumptions may be revised based upon changes
in facts or circumstances.
In connection with structured loan sale transactions, limited
partnerships and joint ventures have been formed as SPEs to hold the loans
receivable sold and issue certificates or notes payable collateralized by the
loans receivable. As of June 30, 2003, PMC Capital's SPEs consisted of:
- FW 97 L.L.C. ("First Western 1997");
- PMC Capital, L.P. 1998-1 (the "1998 Partnership") and its
related general partner;
- PMC Capital, L.P. 1999-1 (the "1999 Partnership") and its
related general partner;
- The 2000 Joint Venture and its related general partner;
- The 2001 Joint Venture and its related general partner; and
- The 2002 Joint Venture and its related general partner.
At June 30, 2003, PMC Capital owned 100% of First Western 1997, the
1998 Partnership and the 1999 Partnership. In addition, PMC Capital owned
approximately 32% of the 2000 Joint Venture, 60% of the 2001 Joint Venture and
61% of the 2002 Joint Venture as of June 30, 2003. The balance of the Joint
Ventures is owned by PMC Commercial. PMC Capital's share of the cash flows from
the Joint Ventures is allocated based on the cash flows from the underlying
loans receivable contributed by PMC Capital to the respective Joint Venture less
allocated costs based on the remaining principal on the underlying loans
receivable contributed by PMC Capital divided by all loans receivable held by
the respective Joint Venture.
171
Information relating to PMC Capital's structured loan sale transactions
is as follows:
First
Western 1998 1999 2000 Joint 2001 Joint 2002 Joint
1997 (1) Partnership Partnership Venture Venture Venture
---------- ----------- ----------- ---------- ---------- ----------
(Dollars in thousands)
Principal amount of loans sold:
At time of sale........................... $ 22,810 $ 43,144 $ 60,481 $ 28,046 $ 49,194 $ 43,218
At December 31, 2002...................... $ 3,590 $ 26,099 $ 39,216 $ 20,783 $ 44,409 $ 42,199
At June 30, 2003.......................... $ 3,400 $ 25,254 $ 35,527 $ 18,957 $ 43,837 $ 40,984
Structured notes/certificates:
At time of sale........................... $ 22,810 $ 39,646 $ 55,648 $ 24,955 $ 45,233 $ 38,897
At December 31, 2002...................... $ 3,590 $ 24,806 $ 35,907 $ 18,086 $ 42,762 $ 38,017
At June 30, 2003.......................... $ 3,400 $ 24,065 $ 33,333 $ 17,713 $ 39,979 $ 36,787
Weighted average interest rate on loans (2):
At time of sale........................... P+2.48% P+1.26% 9.59% 9.54% 9.78% 9.53%
At December 31, 2002...................... P+2.38% P+1.22% 9.44% 9.21% 9.73% 9.54%
At June 30, 2003.......................... P+2.37% P+1.23% 9.40% 9.28% 9.73% 9.50%
Interest rate on the SPE notes/certificates P-1.90% P-1.00% 6.60% 7.28% 6.36% 6.67%
Subordinated interest owned (3).............. -- 5.0% -- -- -- --
Required initial overcollaterization (4)..... -- 5.5% 8.0% 11.0% 8.0% 10.0%
PMC Capital required overcollaterization (5):
At December 31, 2002....................... -- 5.5% 9.1% 13.2% 8.9% 10.2%
Rating of certificates/notes (2)(6).......... "Aaa"/"A" "Aaa" "Aaa" "Aaa" "Aaa" "Aaa"
Cash reserve requirement/minimum (7)......... $ 912 8.0% 6.0% 6.0% 6.0% 6.0%
-----------------------
(1) The transaction had both the primary and a subordinated portion of the
transaction rated and sold.
(2) Variable interest rates are denoted by the spread over (under) the prime
rate ("P"). The interest rate for the "A" rated subordinated certificates of
First Western 1997 is P-1.55%.
(3) The subordinated interest owned represents PMC Capital's mortgage-backed
security of affiliate owned by PMC Capital.
(4) The initial required over-collateralization percentage represents the
portion of sold loans receivable retained by the SPEs whose value is
included in retained interests.
(5) The PMC Capital required over-collateralization percentage is larger than
the initial PMC Capital required over-collateralization percentage since all
principal payments received on the underlying loans receivable are paid to
the noteholders.
(6) Structured notes issued by the SPEs were rated by Moody's Investors Service,
Inc.
(7) Transactions all have minimum reserve requirements of 2% of the principal
balance sold at the time of the sale. First Western 1997 is currently at its
minimum requirement.
In addition to the transactions described above, the SBA guaranteed
portion of First Western's loans receivable are sold to either dealers in
government guaranteed loans receivable or institutional investors ("Secondary
Market") as the loans are funded. On all Secondary Market transactions, PMC
Capital retains an excess spread between the interest rate paid to it from its
borrowers and the rate PMC Capital pays to the purchaser of the guaranteed
portion of the note.
STRUCTURED LOAN SALE TRANSACTION COMPLETED DURING 2002
On April 12, 2002, PMC Capital completed a structured loan sale
transaction of a pool of primarily fixed-rate loans receivable. PMC Capital and
PMC Commercial contributed loans receivable of $43.2 million and $27.3 million,
respectively, to the 2002 Joint Venture. The 2002 Joint Venture issued, through
a private placement, approximately $63.5 million the 2002 L.P. Notes of which
approximately $38.9 million (the "2002 PMC L.P. Notes") was allocated to PMC
Capital based on its ownership percentage in the 2002 Joint Venture. The 2002
L.P. Notes, issued at par, have a stated maturity in 2023, bear interest at
6.67% and are collateralized by the loans receivable contributed by PMC Capital
and PMC Commercial to the 2002 Joint Venture. PMC Capital accounted for this
transaction as a sale, recorded a gain of $1,463,000 and recorded the retained
interests at an initial amount of $8,772,000 during 2002.
The net proceeds from the issuance of the 2002 PMC L.P. Notes
(approximately $37.9 million) were distributed to PMC Capital. These proceeds
were net of issuance costs and prior to funding the required reserve
172
balance. At inception of the 2002 Joint Venture and at June 30, 2003, PMC
Capital owned a 61% limited partnership interest based on its share of the
capital.
STRUCTURED LOAN SALE TRANSACTION COMPLETED DURING 2001
On June 27, 2001, PMC Capital completed a structured loan sale
transaction of a pool of fixed-rate loans receivable. PMC Capital and PMC
Commercial contributed loans receivable of $49.2 million and $32.7 million,
respectively, to the 2001 Joint Venture. The 2001 Joint Venture issued, through
a private placement, approximately $75.4 million of the 2001 L.P. Notes of which
approximately $45.2 million (the "2001 PMC L.P. Notes") was allocated to PMC
Capital based on its ownership percentage in the 2001 Joint Venture. The 2001
L.P. Notes, issued at par, have a stated maturity in 2021, bear interest at
6.36% and are collateralized by the loans receivable contributed by PMC Capital
and PMC Commercial to the 2001 Joint Venture. PMC Capital accounted for this
transaction as a sale, recorded a gain of $2,732,000 and recorded the retained
interests at an initial amount of $9,186,000 during 2001.
The net proceeds from the issuance of the 2001 PMC L.P. Notes
(approximately $44.5 million) were distributed to PMC Capital. These proceeds
are net of issuance costs and prior to funding the required reserve balance. At
inception of the 2001 Joint Venture and at June 30, 2003, PMC Capital owned a
60% limited partnership interest based on its share of the capital.
STRUCTURED LOAN SALE TRANSACTION COMPLETED DURING 2000
On December 18, 2000, PMC Capital completed a structured loan sale
transaction of a pool of fixed-rate loans receivable. PMC Capital and PMC
Commercial contributed loans receivable of $28.0 million and $55.7 million,
respectively, to the 2000 Joint Venture. The 2000 Joint Venture issued, through
a private placement, approximately $74.5 million of the 2000 L.P. Notes of which
approximately $25.0 million (the "2000 PMC L.P. Notes") was allocated to PMC
Capital based on its ownership percentage in the 2000 Joint Venture. The 2000
L.P. Notes, issued at par, have a stated maturity in 2024, bear interest at
7.28% and are collateralized by the loans receivable contributed by PMC Capital
and PMC Commercial to the 2000 Joint Venture. PMC Capital accounted for this
transaction as a sale, recorded a gain of $564,000 and recorded the retained
interests at an initial amount of $5,573,000 during 2000.
The net proceeds from the issuance of the 2000 PMC L.P. Notes
(approximately $24.7 million) were distributed to PMC Capital. These proceeds
are net of issuance costs and prior to funding the required reserve balance. At
inception of the 2000 Joint Venture and at June 30, 2003, PMC Capital owned a
32% limited partnership interest based on its share of the capital.
JOINT STRUCTURED LOAN SALE TRANSACTIONS - GENERAL
The terms of the JV Notes provide that each of the partners of the
respective Joint Ventures is not liable for any payments on the JV Notes.
Accordingly, if the Joint Ventures fail to pay the JV Notes, the sole recourse
of the holders of the JV Notes is against the assets of the respective Joint
Venture. Accordingly, PMC Capital has no obligation to pay the JV Notes, nor do
the holders of the JV Notes have any recourse against its assets.
PMC Capital and PMC Commercial have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the Joint Ventures. To the extent that poor performance of the
Underperforming Company is pervasive enough to cause the Performing Company not
to receive cash flow that it otherwise would have received, then the
Underperforming Company must make the Performing Company whole. If the cash flow
reduction is considered to be temporary, then interest will be paid as
compensation to the Performing Company. In general, when a loan is liquidated,
it may cause a deferral of cash flow to the Performing Company and, as a result,
interest would be charged to the Underperforming Company until the cash flow
from the Joint Venture repays the Performing Company. If the reduction of cash
flows is deemed permanent (i.e., to the extent that the Underperforming Company
will not be able to satisfy the shortfall with the assets it has contributed to
the related structured loan sale transaction), the balance of reduction to cash
flows must be paid to the Performing Company by the Underperforming Company. At
June 30, 2003 and December 31, 2002, the maximum potential
173
amount of future payments to PMC Commercial (undiscounted and without
consideration of any proceeds from the collateral underlying the loans
receivable) PMC Capital could be required to make under these cross
indemnification agreements was approximately $32.8 million and $34.3 million,
respectively, and the discounted amount was $22.7 million and $23.5 million,
respectively, which represents the estimated fair value of the PMC Capital
retained interests reflected on PMC Commercial's consolidated balance sheet for
the Joint Ventures. Upon completion of a joint securitization and on each
subsequent quarterly reporting date, PMC Capital management evaluates the need
to recognize a liability associated with the indemnification agreements. Based
on present cash flow assumptions, including stress test analyses of increasing
the anticipated losses on each of the loan pools, it does not appear that the
loans receivable sold by PMC Capital will cause any permanent cash flow
reductions to PMC Commercial nor does it appear that the loans receivable sold
by PMC Commercial will cause any permanent cash flow reduction to PMC Capital.
Accordingly, PMC Capital believes that the fair value of these cross
indemnification agreements at inception of the Joint Ventures, as of June 30,
2003 and as of December 31, 2002 and 2001 was zero; thus, no liability was
recorded. If the performance of PMC Capital's sold loans receivable
significantly deteriorates, it could be necessary for it to perform under these
cross indemnification agreements.
When structured loan sale transactions were completed, the transaction
documents that the SPE entered into contained the Credit Enhancement Provisions.
The Credit Enhancement Provisions include specified limits on the delinquency,
default and loss rates on loans receivable included in each SPE. If, at any
measurement date, the delinquency, default or loss rate with respect to any SPE
were to exceed the specified limits, the Credit Enhancement Provisions would
automatically increase the level of credit enhancement requirements for that
SPE. During the period in which the specified delinquency, default or loss rate
was exceeded, excess cash flow from the SPE, if any, would be used to fund the
increased credit enhancement levels instead of being distributed to PMC Capital,
which would delay or reduce its distribution.
ADVISORY SERVICES
As the investment advisor for PMC Commercial, PMC Advisers has earned
$1.1 million, $2.3 million, $2.3 million and $2.2 million in advisory fees
during the three months ended June 30, 2003 and the years ended December 31,
2002, 2001 and 2000, respectively. The fees of PMC Advisers (pursuant to the
investment management agreements) are primarily based on the value of PMC
Commercial's assets. As a result, any increases in the dollar amount of PMC
Commercial's assets will benefit PMC Advisers, and PMC Advisers may have a
potential conflict in determining whether to advise PMC Commercial to acquire
assets or write-down the value of any assets. In order to mitigate the risk to
PMC Commercial from increasing its asset base through leveraged transactions,
the investment management agreements provide PMC Advisers with a reduced fee for
any loans originated with capital obtained through borrowings. The investment
management agreements are renewable on an annual basis.
Pursuant to the investment management agreements entered into between
PMC Commercial and PMC Advisers, fees of between 0.40% and 1.55%, annually, are
charged by PMC Advisers based upon the average principal outstanding of PMC
Commercial's loans. In addition, the investment management agreements include
compensation to PMC Advisers for its assistance in the issuance of PMC
Commercial's debt and equity securities and the acquisition by PMC Commercial of
limited service hospitality properties. The investment management agreements
also provide for (i) an annual fee of 0.70% of the original cost of the
hospitality properties to be paid to PMC Advisers relating to leases entered
into by PMC Commercial, (ii) a fee of $10,000 upon the sale of each limited
service hospitality property and (iii) an annual loan origination fee equal to
five basis points of loans funded for the first $20 million in loans and 2.5
basis points thereafter.
REGULATORY OVERVIEW
INVESTMENT COMPANY ACT REGULATIONS
PMC Capital is in compliance with the requirement to maintain a minimum
of 200% asset coverage of debt as defined in Sections 18 and 61 of the 1940 Act
as modified by exemptive orders obtained from the SEC.
174
PMC Capital may not sell shares of common stock below net asset value
unless it obtains approval from a "majority of the outstanding voting"
securities as defined in the 1940 Act. PMC Capital may sell shares of common
stock in a rights offering at a price below its net asset value without
shareholder approval under the 1940 Act.
PMC Capital may be prohibited under the 1940 Act from knowingly
participating in certain transactions with affiliates without the prior approval
of its board of directors who are not interested persons and, in some cases,
prior approval by the SEC. PMC Capital has been granted an exemptive order by
the SEC permitting it to engage in certain transactions that would be permitted
if PMC Capital and its subsidiaries were one company and permitting certain
transactions among the subsidiaries, subject to certain conditions and
limitations. One of its exemptive orders permits PMC Capital to establish SPEs
owned by PMC Capital and PMC Commercial to engage in joint securitizations.
As with other companies regulated by the 1940 Act, a BDC must adhere to
certain substantive regulatory requirements. A majority of PMC Capital's
directors must be persons who are not interested persons, as that term is
defined in the 1940 Act. Additionally, PMC Capital is required to provide and
maintain a bond issued by a reputable fidelity insurance company to protect the
BDC. Furthermore, as a BDC, PMC Capital is prohibited from protecting any
director or officer against any liability to PMC Capital or its shareholders
arising from willful misfeasance, bad faith, gross negligence or reckless
disregard of the duties involved in the conduct of such person's office.
PMC Capital maintains a code of ethics that establishes procedures for
personal investment and restricts certain transactions by its personnel. PMC
Capital's code of ethics does not permit investment by PMC Capital's employees
in securities that may be purchased or held by PMC Capital.
BDC REGULATIONS
PMC Capital has elected to be regulated as a BDC. BDCs must have a
class of securities registered under Section 12 of the Exchange Act, and are
subject to the Exchange Act's periodic reporting requirements rather than the
1940 Act's reporting requirements. BDCs have greater operating flexibility than
other investment companies relating to capital structure, portfolio
diversification, transactions with downstream affiliates, executive stock
options and the frequency which they may make distributions from capital gains.
A BDC's focus is on investing in or lending to small private companies and
making managerial assistance available to them. A BDC may use capital provided
by public shareholders and from other sources to invest in long-term, private
investments in growing small businesses. A BDC provides shareholders the ability
to retain the liquidity of a publicly traded stock, while sharing in the
benefits, if any, of investing in privately owned companies. As a BDC, PMC
Capital may not acquire any asset other than "Qualifying Assets" unless, at the
time it makes the acquisition, its Qualifying Assets represent at least 70% of
the value of its total assets (the "70% test"). The principal categories of
Qualifying Assets relevant to its business are:
(1) Securities purchased in transactions not involving any public
offering, the issuer of which is an eligible portfolio company. An eligible
portfolio company is defined to include any issuer that:
a. is organized and has its principal place of business
in the United States,
b. is not an investment company other than an SBIC
wholly-owned by a BDC (PMC Capital's investments in PMCIC and Western Financial
are Qualifying Assets), and
c. does not have any class of publicly traded securities
with respect to which a broker may extend margin credit;
(2) Securities received in exchange for or distributed with
respect to securities described in (1) above or pursuant to the exercise of
options, warrants, or rights relating to such securities; and
(3) Cash, cash items, government securities, or high quality debt
securities (within the meaning of the 1940 Act), maturing in one year or less
from the time of investment.
175
To include certain securities described above as Qualifying Assets for
the purpose of the 70% test, a BDC must make available to the issuer of those
securities significant managerial assistance such as providing guidance and
counsel concerning the management, operations, or business objectives and
policies of a portfolio company, or making loans to a portfolio company. PMC
Capital will provide managerial assistance on a continuing basis to any
portfolio company upon request.
As a BDC, PMC Capital is entitled to issue senior securities in the
form of stock or senior securities representing indebtedness, as long as each
class of senior security has an asset coverage of at least 200% immediately
after each such issuance (the "Asset Coverage Test"). This limitation is not
applicable to borrowings by PMC Capital's SBIC or SBLC subsidiaries, and
therefore any borrowings by these subsidiaries are not included in the Asset
Coverage Test. PMC Capital may not change the nature of its business so as to
cease to be, or withdraw its election as, a BDC unless authorized by vote of a
"majority of the outstanding voting securities," as defined in the 1940 Act. A
majority of the outstanding voting securities of a company is defined under the
1940 Act as the lesser of (i) 67% or more of such company's shares present at a
meeting if more than 50% of the outstanding shares of such company are present
and represented by proxy, or (ii) more than 50% of the outstanding shares of
such company.
RIC REGULATIONS
PMC Capital's status as a RIC enables it to avoid the cost of U.S.
Federal and state income taxation and, as a result, achieve pre-tax investment
returns. PMC Capital believes that this tax advantage enables it to achieve
strong equity returns without having to aggressively leverage its balance sheet.
In order to qualify as a RIC, PMC Capital must, among other things:
(1) Derive at least 90% of its gross income from dividends,
interest, payments with respect to securities loans, gains from the sale of
stock or other securities or other income derived with respect to its business
of investing in such stock or securities; and
(2) Diversify its holdings so that, as of the end of each quarter
of its tax year:
a. at least 50% of the value of its assets consists of
cash, cash items, government securities, securities of other RICs and other
securities if such other securities of any one issuer do not represent more than
5% of its assets and 10% of the outstanding voting securities of the issuer; and
b. no more than 25% of the value of its assets are
invested in securities of one issuer (other than U.S. government securities or
securities of other RICs), or of two or more issuers that are controlled by PMC
Capital and that are engaged in the same or similar businesses.
If a corporation qualifies as a RIC and distributes to its shareholders
with respect to a tax year at least 90% of its investment company taxable income
for such year, then the RIC will not be subject to U.S. Federal income tax on
the income (including net capital gain) it distributes (or treats as deemed
distributed) for such year. In addition, if a RIC distributes in a timely manner
with respect to a calendar year (or treats as deemed distributed) at least the
sum of 98% of its capital gain net income for the one-year period ending on
October 31 of such year and 98% of its ordinary income for such calendar year,
it will not be subject to the 4% nondeductible Federal excise tax on certain
undistributed income of RICs.
FUNDAMENTAL AND OTHER POLICIES OF PMC CAPITAL AND ITS SUBSIDIARIES
PMC Capital has established a core set of fundamental policies. PMC
Capital and each of its investment company subsidiaries have designated certain
investment policies as "fundamental policies."
The following investment policies of PMC Capital and its investment
company subsidiaries are fundamental policies and may not be changed without the
approval of the lesser of (i) more than 50% of PMC Capital's outstanding voting
securities, or (ii) 67% or more of PMC Capital's voting securities present at a
meeting
176
of security holders at which a quorum is present. PMC Capital's board of
directors may change any other investment policies of PMC Capital at any time.
(1) PMC Capital will not purchase or sell commodities or commodity
contracts.
(2) PMC Capital will not engage in short sales, purchase
securities on margin or trade in contracts commonly called puts or calls or in
combinations thereof, except that it may acquire warrants, options or other
rights to subscribe to or sell securities in furtherance of its investment
objectives.
(3) PMC Capital will not underwrite securities of other issuers,
except that it may acquire portfolio securities under circumstances where, if
sold, it might be deemed an underwriter for purposes of the Securities Act. PMC
Capital may purchase "restricted securities" as to which there are substantial
restrictions on resale under the Securities Act.
(4) PMC Capital will not purchase any securities of a company if
any of the directors or officers of PMC Capital owns more than 0.5% of such
company and such persons owning more than 0.5% together own 5% or more of the
shares of such company.
(5) PMC Capital may issue senior securities in the form of
debentures, reverse repurchase agreements and preferred stock and may borrow
monies from banks and other lenders, all on an unsecured basis. The 1940 Act
limits PMC Capital to the issuance of one class of senior debt securities and
one class of senior equity securities (as such terms are defined in the 1940
Act).
(6) PMC Capital will not invest more than 25% of its total assets
in any one industry except in the lodging industry which may constitute 100% of
PMC Capital's portfolio. PMC Capital will invest at least 25% of its total
assets in the lodging industry.
(7) PMC Capital may invest in real estate development companies,
may make real estate acquisition loans and real estate improvement loans and may
further make other loans secured by real estate.
(8) PMC Capital may make loans and purchase debt securities in
furtherance of its investment objectives. It will not make loans to its
officers, directors or other affiliated persons.
(9) PMCIC will perform the functions and conduct the activities
contemplated under the SBIA, and will provide assistance solely to small
business concerns which will contribute to a well-balanced national economy by
facilitating ownership of such concerns by persons whose participation in the
free enterprise system is hampered because of social or economic disadvantages.
These fundamental policies of PMCIC may not be changed without the prior written
consent of the SBA.
SBA REGULATIONS
The lending operations of First Western, PMCIC and Western Financial
are regulated by the SBA, which establishes, among OTHER things, maximum
interest rates that borrowers may be charged and minimum and maximum maturities
for loans receivable (which generally range from seven to 25 years). The maximum
interest rates which PMCIC and Western Financial can charge may not exceed the
greater of 19% per annum or 11% above PMC Capital's cost of funds from the SBA
and was 19% at December 31, 2002. Borrowers must satisfy certain criteria
established by the SBA to qualify for loans originated by PMC Capital under SBA
sponsored programs, including limitations on the net worth and net income of
potential borrowers or alternative criteria that focus upon the number of
employees of the borrower and its gross revenues. In addition, the SBA generally
limits the aggregate amount of guaranties that can be provided to any single
borrower and restricts the use to which the loan proceeds can be employed by the
borrower. Effective October 1, 2002, the SBA temporarily changed its policy on
origination of loans under the SBA 7(a) Guaranteed Loan Program to limit the
maximum amount of a loan to $500,000 (the "Loan Cap"). As a result of
legislation that Congress passed in February 2003, the SBA discontinued the Loan
Cap.
177
SBICs are intended to stimulate the flow of private equity capital to
eligible small businesses. Under present SBA regulations, eligible small
businesses include businesses that have a net worth not exceeding $18 million
and have average annual fully taxed net income not exceeding $6 million for the
most recent two fiscal years. In addition, an SBIC must devote 20% of its
investment activity to "smaller" concerns as defined by the SBA. A smaller
concern is one that has a net worth not exceeding $6 million and has average
annual fully taxed net income not exceeding $2 million for the most recent two
fiscal years. SBA regulations also provide alternative size standard criteria to
determine eligibility, which depend on the industry in which the business is
engaged and are based on such factors as the number of employees and gross
sales. According to SBA regulations, SBICs may make long-term loans to small
businesses, invest in the equity securities of such businesses, and provide them
with consulting and advisory services.
Both Western Financial and PMCIC provide long-term loans to qualifying
small businesses. As of June 30, 2003, Western Financial and PMCIC had the
opportunity to borrow up to an additional aggregate principal amount of $37.2
million of SBA debentures, based on their regulatory capital. Under SBA
regulations, an SBIC may borrow up to $111.7 million from the SBA as governed by
SBA regulations. This limit generally applies to all financial assistance
provided by the SBA to an SBIC licensee and its "associates," as the term is
defined by SBA regulations. As of June 30, 2003, Western Financial and PMCIC had
outstanding $14.3 million of SBA debentures and PMCIC had $7.0 million of
preferred stock investments from the SBA. At June 30, 2003, PMC Capital had an
outstanding commitment from the SBA to purchase up to $12.2 million ($4.2
million expiring September 2003, $1.0 million expiring September 2004 and $7.0
million expiring in 2007) in additional SBA debentures. As leveraged SBIC's,
PMCIC and Western Financial are subject to certain regulatory restrictions such
as change in control provisions.
First Western is licensed to operate as an SBLC. The SBA guarantees 75%
of qualified loans over $150,000 with such individual guarantees not exceeding
$1.0 million. While the eligibility requirements of the SBA 7(a) Program vary by
the industry of the borrower and other factors, the general eligibility
requirements are that: (i) gross sales of the borrower cannot presently exceed
$6 million, (ii) liquid assets or real estate equity of the borrower and
affiliates cannot exceed specified limits, and (iii) the maximum aggregate SBA
loan guarantees to a borrower cannot exceed $1.0 million. Maximum maturities for
SBA 7(a) loans are 25 years for real estate and 15 years for the purchase of
machinery and equipment. In order to operate as an SBLC, a licensee is required
to maintain a minimum net worth (as defined by SBA regulations) of the greater
of (i) 10% of the outstanding loans receivable of First Western or (ii) $1.0
million, as well as certain other regulatory restrictions such as change in
control provisions.
First Western, PMCIC and Western Financial are periodically examined
and audited by the SBA to determine compliance with SBA regulations.
EMPLOYEES
At December 31, 2002, PMC Capital employed 47 individuals including
marketing professionals, investment professionals, operations professionals and
administrative staff. Its loan processing is centralized in its Dallas, Texas
office. In addition, PMC Capital has a loan production office in Arizona. PMC
Capital management believes the relationship with its employees is good.
All of PMC Capital's operating assets acquired in liquidation are
managed for it by third party management companies. All persons employed in the
day-to-day operations of PMC Capital's assets acquired in liquidation are
employees of the management companies engaged by PMC Capital and are not its
employees.
At December 31, 2002, PMC Capital's non-consolidated subsidiary, PMC
Funding, employed 14 individuals in relation to the operation of its assisted
care living facility. During January 2003, PMC Funding sold the assisted care
living facility.
178
CUSTOMERS
PMC Capital is not dependent upon a single borrower, or a few
borrowers, whose loss would have a material adverse effect on it. In addition,
PMC Capital has not loaned more than 10% of its assets to any single borrower.
PROPERTIES
PMC Capital's headquarters are located at 18111 Preston Road, Suite
600, Dallas, Texas 75252. PMC Capital leases approximately 13,000 square feet in
an office building pursuant to a five-year lease which commenced in December
1998. In addition, at December 31, 2002, it leased office space in Missouri,
which it closed in April 2003. The aggregate annual lease payments for the year
ended December 31, 2002 were approximately $328,000.
LEGAL PROCEEDINGS
PMC Capital is a party to certain lawsuits in the normal course of its
business, including the operation of its assets acquired in liquidation. While
the outcome of these legal proceedings cannot at this time be predicted with
complete certainty, it does not expect that any of these actions either
individually or in the aggregate will have a material effect upon its financial
condition or results of operations.
179
PMC CAPITAL MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion and analysis in conjunction
with PMC Capital's consolidated financial statements and related notes appearing
elsewhere in this joint proxy statement/prospectus.
GENERAL
PMC Capital is a national small business lender. Its operations include
originating, servicing and selling commercial loans. PMC Capital primarily
originates loans to small business concerns in the limited service sector of the
hospitality industry. PMC Capital sells certain of its loans receivable through
privately-placed structured loan transactions and sells the government
guaranteed portion of its loans originated under the SBA 7(a) Program.
Historically, PMC Capital has retained servicing rights and residual interests
in all loans sold. Servicing rights include the right to collect payments on
behalf of the loan purchaser, monitor the loan receivable for any defaults and
address any problems in collecting the required principal and interest payments.
PMC Capital retains a residual interest in the sold loans receivable either
directly or through its ownership in the related SPEs. In addition, PMC Capital
operates as an investment manager to evaluate properties and loans receivable
and to service loans receivable and lease contracts pursuant to fee arrangements
with PMC Commercial.
PMC Capital's investment income and realized gains include the
following:
- Interest earned on loans receivable which includes commitment
fees collected at the inception of the loan;
- Gains relating to structured loan transactions;
- Earnings on retained interests;
- Fee income from the management of PMC Commercial's property
and loans receivable;
- Equity interests in the income of its non-investment company
unconsolidated subsidiaries;
- Premiums recognized from the sale of the government guaranteed
portion of SBA 7(a) Program loans into the Secondary Market;
- Interest earned on temporary (short-term) investments; and
- Other fees, including late fees, prepayment fees, construction
monitoring fees and site visit fees.
PMC Capital's ability to generate investment income is dependent on (i)
economic, regulatory and competitive factors that influence interest rates and
loan originations and (ii) its ability to secure financing for its investment
activities. The amount of investment income earned will vary based on volume of
loans funded, the timing and amount of financings, the volume of loans
receivable which prepay, the mix of loans receivable (construction versus
non-construction), the rate and type of loans originated (whether fixed or
variable) as well as the general level of interest rates. For a more detailed
description of the risks affecting PMC Capital's financial condition and results
of operations, see "Risk Factors - Risks Related to the Business of Both PMC
Commercial and PMC Capital."
Expenses primarily consist of interest expense, salaries and related
benefits and overhead. PMC Capital's overhead expenditures consist primarily of
insurance, advertising and promotional expense, telephone services, corporate
printing costs, directors and shareholders costs and general office expenses. In
addition, PMC Capital has other administrative costs which consist of profit
sharing plan, rent and professional fees. PMC Capital's operations are
centralized in Dallas, Texas where its headquarters are located. PMC Capital
also has an additional business development offices located in Arizona.
180
At June 30, 2003 and December 31, 2002, PMC Capital's variable-rate
loans receivable were $83.4 million (88%) and $71.3 million (82%) of its loans
receivable, respectively. At June 30, 2003, all of its outstanding commitments
were for variable-rate loans, and given the current interest rate market, PMC
Capital expects to continue to originate primarily variable-rate loans. At June
30, 2003, PMC Capital had approximately $20.9 million of total loan commitments
outstanding with interest rates based on spreads over prime ranging from 2.0% to
2.75% and over LIBOR ranging from 3.5% to 4.5%. Commitments have fixed
expiration dates and require payment of a fee to PMC Capital.
The weighted average interest rate on PMC Capital's loans receivable
declined to 7.1% at December 31, 2002 from 9.0% at December 31, 2001 primarily
as a result of a decrease in the average quarterly LIBOR (244 basis points) and
prime rate (281 basis points) during 2002 which are utilized in the
determination of quarterly variable rates and an increase in variable-rate
lending.
PMC Capital primarily funds its commitments through structured loan
sale transactions. The proceeds received from the completion of structured loan
sale transactions are invested initially in temporary investments which generate
less interest income and, as a result of the declining interest rate
environment, have generally been re-loaned or committed to be re-loaned
initially at lower interest rates. To the extent LIBOR or the prime rate
increases (decreases), PMC Capital would receive the benefit (reduction) from
this increase (decrease) in variable interest rates. In addition, due to the
decreased loan originations during the first nine months of 2002, the funds from
PMC Capital's most recent transaction were invested for a longer period of time
than the proceeds from the prior structured loan sale transactions and its
interest income, cash flows and financial condition were negatively impacted.
However, during the fourth quarter of 2002, PMC Capital's loan originations
increased. During the first three quarters of 2002 PMC Capital funded $27.7
million in loans while in the fourth quarter of 2002 it funded $18.4 million in
loans. See "-Liquidity and Capital Resources-Uses of Funds-Loan Originations."
PMC Capital's investment losses during 2002 consist primarily of
realized losses on retained interests due primarily to loans in the 2000 Joint
Venture which were in default and unrealized losses on assets acquired in
liquidation due to devaluation of collateral, additional capital expenditures
and expected holding costs. See "-Results of Operations" for a detailed
discussion of PMC Capital's operations.
OPERATING OVERVIEW
PMC Capital's results of operations during 2002 were negatively
impacted by a combination of factors including: the low interest rate
environment, investment losses, diminished loan origination volume, general
economic conditions, lower earnings on variable-rate loans compared to
fixed-rate loans, the costs of operating foreclosed properties and reduced
income on the cash and cash equivalents invested from the April 2002 structured
loan sale transaction.
Prior to 2001, other than loans originated under the SBA 7(a) Program,
PMC Capital primarily originated fixed-rate loans. Commencing in the latter half
of 2001, its ability to compete for fixed-rate lending opportunities declined.
Interest rates have remained at historically low levels for a prolonged period
of time providing the banking industry with the ability to offer fixed-rate
"mini-perm" loans (i.e., five-year maturity, 20-year amortization) based on
these low short-term rates. In contrast, the interest rates on PMC Capital's
fixed-rate loan products are based on a longer term (10-year U.S. Treasuries)
which remained at disproportionately higher levels than shorter term financial
indices. As a result, the fixed interest rates PMC Capital offered were higher
than the banks and its lending opportunities decreased. Accordingly, PMC Capital
began marketing variable-rate loan products with interest rates based on LIBOR.
PMC Capital has been able to compete more effectively by offering this
LIBOR-based variable-rate loan product.
Due to geopolitical uncertainty and general economic conditions, PMC
Capital has seen a slowdown in potential lending opportunities and some funding
commitments have been terminated. In addition, PMC Capital did not complete a
structured loan sale transaction on favorable terms that it had expected to be
completed prior to June 30, 2003. While PMC Capital believes that it could have
completed the transaction during the second quarter of 2003, the terms of the
transactions available in the market were not considered favorable to it as the
transaction size and cost did not reflect the value of the transaction. As a
result, PMC Capital's expected fundings during the first half of 2003 did not
meet its expectations and anticipated fundings during the remaining half of 2003
more than
181
likely will not meet its prior expectations. During the remaining half of 2003,
PMC Capital anticipates loan originations will range from $12 million to $20
million. When fundings are reduced, PMC Capital's net interest income does not
increase as it would have if these fundings were completed and may be reduced to
the extent principal repayments exceed amounts funded or interest rates decline.
The market for the type of asset-backed structured loan sale
transactions PMC Capital originates was relatively inefficient during the first
half of 2003 as a result of uncertainties in the marketplace due to the
sluggishness of the economy, geopolitical uncertainty and the impact of the
ongoing conflict in the Middle East. PMC Capital is in the process of finalizing
a loan pool for its current structured loan sale transaction and anticipates
that the transaction will be completed in September 2003, unless other
unforeseen delays are encountered.
PMC Capital anticipates co-securitizing with PMC Commercial
approximately $57.6 million of its variable-rate loans receivable. Changes in
market conditions may have an impact on the timing of completion of this
transaction. While PMC Capital has been successful in completing its past
structured loan transactions in a timely manner, due to the risky nature of
these transactions and the many factors which could cause PMC Capital to further
delay or postpone a transaction, there can be no assurance of a successful
outcome.
Since PMC Capital relies on structured loan sale transactions as its
primary source of operating capital to fund new loan originations, any adverse
changes in its ability to complete this type of transaction, including any
negative impact on the asset-backed securities market for the type of loans it
originates, could have a detrimental effect on its ability to sell loans
receivable thereby reducing its ability to originate loans. The delay in
completing PMC Capital's current structured loan sale transaction has had a
negative impact on its ability to originate loans and its financial condition
and results of operations. See "--Economic Factors - Asset-Backed Structured
Loan Sale Transaction Market."
Since the majority of PMC Capital's loans receivable have variable
rates of interest, the continuation of the low interest rate environment has had
a negative impact on revenue and net income. During late 2002, PMC Capital
expected that interest rates would gradually increase during 2003 and 2004;
however, interest rates decreased during the first half of 2003. PMC Capital
expects that short-term interest rates will remain at current levels or possibly
decrease during the remainder of 2003.
Interest rate increases will generally cause valuation decreases in PMC
Capital's portfolio while interest rate decreases generally cause valuation
increases. However, these valuation changes have no impact on PMC Capital's cash
flow from operations, the cash available for distribution to PMC Capital
shareholders or the determination by the PMC Capital board of directors of the
level of quarterly dividend distributions.
ECONOMIC FACTORS
The following provides a summary of the more significant economic
factors that may have an impact on PMC Capital's financial condition and results
of operations. The factors described below could impact the volume of loan
originations, the income PMC Capital earns on investments, its ability to
complete a securitization, the performance of its loan portfolio and/or the
performance of SPEs.
ASSET-BACKED STRUCTURED LOAN SALE TRANSACTION MARKET
A number of factors could impair PMC Capital's ability or alter its
decision to complete a structured loan transaction. These factors include, but
are not limited to:
- As a result of certain economic conditions, investors in the
type of asset-backed securities that PMC Capital places may
increase PMC Capital's cost of capital by widening the
"spreads" they require in order to purchase asset-backed
securities or cease acquiring the type of asset-backed
security that PMC Capital originates;
182
- A deterioration in the performance of either PMC Capital's
loans receivable or the loans receivable of PMC Commercial may
deter potential investors from purchasing PMC Capital's
asset-backed securities;
- A deterioration in the operations of the limited service
sector of the hospitality industry which may deter potential
investors from purchasing PMC Capital's asset-backed
securities or lower the available rating from the rating
agencies;
- A reduction in the performance of the loans receivable of PMC
Capital's prior transactions or of similar transactions (for
example, higher than expected loan losses or delinquencies)
may deter potential investors from purchasing PMC Capital's
asset-backed securities; and
- A change in the underlying criteria utilized by the rating
agencies may cause transactions to receive lower ratings than
previously issued thereby increasing the cost of capital on
PMC Capital's transactions.
In the event a structured loan sale transaction is delayed or unable to
be completed, PMC Capital will either have to increase the capacity under its
revolving credit facility, enter into new debt agreements, cease or reduce
originating new loans until a structured loan sale transaction is completed or
sell assets, potentially on unfavorable terms. In addition, PMC Capital may
choose to sell the pool of loans receivable on unfavorable terms (reducing its
future cash flows) including:
- Increased interest rate spreads;
- Increased cash reserve requirements;
- Increased subordinated portions of loans receivable; or
- Decreased transaction size.
INTEREST INCOME AND RATES
As a result of PMC Capital's increasing dependence on variable-rate
loans, the continued prolonged low interest rate environment has caused interest
income to be reduced. To the extent that rates remain at these historically low
levels, or LIBOR or the prime rate decreases from current levels, PMC Capital
will earn less interest income. Alternatively, when rates rise in the future,
the interest PMC Capital earns on performing variable-rate loans will increase.
In addition, the decreased loan origination volume during the first nine months
of 2002 affected interest income. Interest income can continue to be reduced if
(i) principal payments on outstanding loans receivable exceed loan originations,
(ii) interest rates continue to decrease, or (iii) PMC Capital Problem Loans
increase.
INTEREST RATE SPREADS
PMC Capital's net interest margin is dependent upon the spread
differential. A significant reduction in spread differential may have a material
adverse effect on results of operations. Over the past few years the spread
differential has been reduced causing decreased net investment income. There can
be no assurance that the spread differential will not continue to decrease. PMC
Capital believes that its LIBOR-based loan program will provide it with a spread
differential (resulting from structured loan sale transactions) that
approximates the spread differential it has historically received on fixed-rate
transactions due to management's belief that there is a more favorable market
for LIBOR-based structured loan sale transactions compared to fixed-rate
structured loan sale transactions.
LOAN ORIGINATION TREND
During the latter part of 2001, PMC Capital commenced marketing and
selling a variable-rate loan product based on LIBOR which presently provides a
lower cost variable interest rate alternative to its borrowers as a result
183
of market conditions. During the first half of 2002, PMC Capital experienced
decreases in lending opportunities, loans funded and loan commitments compared
to the prior year. This decrease was due to competition resulting from the
interest rate environment and the economic uncertainty which specifically had an
impact on the hospitality sector. As a result of the continuation of low
short-term interest rates, banks continue to offer their "mini-perm" short-term
loans at rates considerably lower than PMC Capital's long-term fixed-rate loans
and often with less down payment requirements. In addition, as a result of the
economic uncertainty following the tragic events of September 11th, as well as
the impact of war, fewer hospitality properties were marketed to be sold;
therefore, fewer property sales required financing. However, during 2002, there
was a positive trend in loan origination activities and PMC Capital's
commitments were increasing. While its commitments at June 30, 2003 were less
than commitments at December 31, 2002, PMC Capital experienced a reduction in
opportunities commencing just prior to the initiation of war. In addition,
several commitments outstanding were cancelled. PMC Capital expects that its
commitments will continue to decrease until the market for limited service
hospitality properties improves. Most of its current commitments are based on
LIBOR.
HOSPITALITY INDUSTRY FACTORS
Reductions in business and discretionary travel continue to cause a
moderation in demand for hotel rooms and a slowdown in construction of
hospitality properties (including limited service hospitality properties). These
reductions were primarily caused by (i) traveler concerns about the safety and
convenience of air travel, (ii) a general reluctance to be away from home and
(iii) a downturn in corporate profits, investments and transactions which led to
aggressive business travel reductions. Although the Federal Reserve lowered
interest rates during the last three years to aid in stimulating the economy and
to provide liquidity, consumer and business confidence declined. This lack of
confidence, which continued into the beginning of 2003, caused a significant
strain on the travel and hotel industries as well as numerous other industries.
Political uncertainties have impeded a rebound in consumer and investor
confidence and spending. However, the limited service segment of the hospitality
industry has been less impacted and has continued to outperform the luxury and
upscale sectors which experienced the weakest performance.
Another factor which affects the limited service sector of the
hospitality industry is a significant rise in gasoline prices within a short
period of time. Most of the limited service hospitality properties
collateralizing PMC Capital's loans receivable are located on interstate
highways. Historically, when gas prices sharply increase, occupancy rates for
properties located on interstate highways decrease.
PORTFOLIO INFORMATION
LENDING ACTIVITIES
General
The fair value of PMC Capital's loans receivable was $87.2 million and
$107.4 million at December 31, 2002 and 2001, respectively. During 2002 and
2001, PMC Capital originated loans totaling $46.1 million and $66.0 million and
received repayments, including proceeds from the sale of guaranteed SBA 7(a)
Program loans, of $20.0 million (of which approximately $9.9 million represented
prepayments) and $17.8 million (of which approximately $4.2 million represented
prepayments), respectively. During 2002 and 2001, principal collections
(including prepayments), as an annualized percentage of loans receivable, were
16% and 9%, respectively. PMC Capital's Serviced Loan Portfolio decreased by
$8.8 million (3%) to $313.0 million at December 31, 2002 from $321.8 million at
December 31, 2001.
The fair value of PMC Capital's loans receivable was $95.0 million at
June 30, 2003. During the six months ended June 30, 2003 and 2002, PMC Capital
originated loans totaling $19.6 million and $19.5 million, respectively, and
received repayments, including proceeds from the sale of its guaranteed SBA 7(a)
program loans, of $9.8 million (of which approximately $2.8 million represented
prepayments and $1.6 million represented scheduled maturities) and $13.9 million
(of which approximately $8.8 million represented loan prepayments),
respectively. PMC Capital's commitments to fund new loans decreased to $20.9
million at June 30, 2003 from $29.4 million at December 31, 2002. At June 30,
2003, all of PMC Capital's outstanding commitments were for variable-rate loans,
and given the current interest rate market, PMC Capital expects to continue to
originate
184
primarily variable-rate loans. PMC Capital's Serviced Loan Portfolio, decreased
by $2.1 million (0.7%) to $310.9 million at June 30, 2003 from $313.0 million at
December 31, 2002.
At June 30, 2003 and December 31, 2002, PMC Capital had approximately
$83.4 million and $71.3 million, respectively, of loans receivable with a
variable interest rate (reset on a quarterly basis) based upon either LIBOR or
the prime rate. The spread that PMC Capital charges over LIBOR generally ranges
from 3.5% to 4.5%. The spread that it charges over the prime rate generally
ranges from 2.0% to 2.75%. It is anticipated that new commitments will have an
interest rate floor of 6%. The LIBOR and prime rate used in determining interest
rates charged to PMC Capital's borrowers for the third quarter of 2003 (set on
July 1, 2003) were 1.11% and 4.00%, respectively. In comparison, the LIBOR and
prime rate used in determining interest rates charged to PMC Capital's borrowers
during the second quarter of 2003 (set on April 1, 2003) were 1.29% and 4.25%,
respectively.
Prepayment Activity
PMC Capital has experienced increased prepayment activity as a result
of the current low interest rate environment (the prime rate, LIBOR and yield on
treasury notes decreased substantially during 2001 and 2002) and PMC Capital
believes that it may continue to experience increased prepayment activity at
high levels (particularly in relation to fixed-rate loans receivable) in 2003.
Many of the prepayment fees for fixed-rate loans receivable are based upon a
yield maintenance premium which provides for greater fees as interest rates
decrease. In addition, certain loans receivable have prepayment prohibitions of
up to five years. In accordance with SBA policy, SBA 7(a) loans receivable (all
variable interest rate) did not have prepayment fees for loans originated prior
to January 2001. Effective for loans originated after January 1, 2001, the SBA
changed its policy on prepayment fees to allow the SBA to collect a 5% fee for
loans prepaid in the first year, 3% in the second year and 1% in the third year.
This change in SBA policy may lessen the amount of prepayments received during
the first three years after the origination of an SBA guaranteed loan.
The timing and volume of prepayment activity for both variable and
fixed-rate loans receivable fluctuate and are impacted by numerous factors
including the following:
- The competitive lending environment (i.e., availability of
alternative financing);
- The current and anticipated interest rate environment (i.e.,
if interest rates are expected to rise or fall);
- The market for limited service hospitality property sales; and
- The amount of the prepayment fee and length of prepayment
prohibition.
When loans receivable are paid-off prior to their maturity, PMC Capital
generally receives prepayment fees. Prepayment fees result in one-time increases
in income. The proceeds from the prepayments PMC Capital receives are invested
initially in temporary investments and are generally re-loaned or committed to
be re-loaned at lower interest rates than the prepaid loans receivable. These
lower interest rates have had an adverse effect on interest income and depending
upon the rate of future prepayments may further impact interest income. It is
difficult to accurately predict the volume or timing of prepayments since the
factors listed above are not all-inclusive and changes in one factor are not
isolated from changes in others which might magnify or counteract the rate or
volume of prepayment activity.
Problem Loans
PMC Capital's policy with respect to loans receivable which are in
arrears as to interest payments for a period in excess of 60 days is generally
to discontinue the accrual of interest income and reverse previously recorded
interest income which is deemed uncollectible. PMC Capital will deliver a
default notice and begin foreclosure and liquidation proceedings when it
determines that pursuit of these remedies is the most appropriate course of
action.
Senior management closely monitors PMC Capital Problem Loans which are
classified into two categories: PMC Capital Impaired Loans and PMC Capital
Special Mention Loans. PMC Capital Impaired Loans are loans which are not
complying with their contractual terms, the collection of the balance of the
principal is considered
185
impaired and on which its fair value is less than the remaining unamortized
principal balance. PMC Capital Special Mention Loans are those loans receivable
that are not complying with their contractual terms but PMC Capital expects a
full recovery of the principal balance through either collection efforts or
liquidation of collateral.
There can be no assurance that PMC Capital Special Mention Loans will
not become PMC Capital Impaired Loans in the future if there is deterioration of
the value of the collateral. The value of loans receivable at June 30, 2003 and
December 31, 2002 has been reduced by unrealized depreciation of $333,000 and
$711,000, respectively. Each PMC Capital Problem Loan is valued by PMC Capital's
board of directors based upon a determination of fair value of the collateral
and other collections since PMC Capital Problem Loans are all collateral
dependent.
Historically, PMC Capital has not had a significant amount of PMC
Capital Problem Loans nor has it had a significant amount of charged-off loans.
However, during 2001 and 2002 PMC Capital experienced a trend of increasing PMC
Capital Problem Loans and, as a result, an increase in unrealized and realized
losses. This unfavorable trend in PMC Capital Problem Loans was primarily a
result of economic conditions. In addition, the increased unrealized and
realized losses are partially a result of the reduced value of distressed
properties in the limited service hospitality industry. Due to the increased
number of properties being marketed, the value of the collateral for PMC Capital
Problem Loans has decreased.
Information on PMC Capital Problem Loans was as follows:
December 31,
------------------------
June 30, 2003 2002 2001
------------- ---------- -----------
(Dollars in thousands, except footnotes)
PMC Capital Impaired Loans (1):
Loans receivable (2)........................... $ 1,736 $ 5,728 $ 6,152
Sold loans of SPEs............................. -- 2,343 1,799
------------- ---------- -----------
Total...................................... $ 1,736 $ 8,071 $ 7,951
============= ========== ===========
PMC Capital Special Mention Loans (1):
Loans receivable............................... $ 4,267 $ 3,248 $ 1,549
Sold loans of SPEs............................. 4,806 5,226 6,456
------------- ---------- -----------
Total...................................... $ 9,073 $ 8,474 $ 8,005
============= ========== ===========
Percentage of PMC Capital Impaired Loans (3):
Loans receivable............................... 1.8% 6.5% 5.7%
Sold loans of SPEs............................. -- 1.3% 1.1%
Loans receivable and sold loans of SPEs........ 0.7% 3.0% 3.0%
Percentage of PMC Capital Special Mention Loans (3):
Loans receivable............................... 4.5% 3.7% 1.4%
Sold loans of SPEs............................. 2.9% 3.0% 4.1%
Loans receivable and sold loans of SPEs........ 3.5% 3.2% 3.0%
-----------------
(1) Since sold SBA 7(a) guaranteed loans are secured by a government guarantee,
PMC Capital does not have exposure to loss. Accordingly, PMC Capital
Impaired Loans and PMC Capital Special Mention Loan statistics for SBA 7(a)
guaranteed loans have not been presented.
(2) As of December 31, 2002 the balance included two loans that PMC Capital
acquired through foreclosure during the first half of 2003. One of the loans
was collateralized by a golf facility that PMC Capital repurchased from an
SPE during December 2002. The golf facility was acquired through foreclosure
during the first quarter of 2003 by a non-investment company subsidiary. The
second loan was a limited service hospitality property acquired through
foreclosure during the second quarter of 2003. The fair value of these loans
receivable was estimated to be $2.3 million. As of December 31, 2001 the
balance included two limited service hospitality properties PMC Capital
acquired through foreclosure during the first quarter of 2002. The fair
value of the loans receivable was estimated to be $2.1 million.
(3) The denominator does not include SBA 7(a) guaranteed loans that have been
sold.
186
Realized losses and the change in unrealized (appreciation)
depreciation of PMC Capital's loans was as follows:
Years ended December 31,
------------------------------
2002 2001 2000
-------- -------- --------
(In thousands)
SBIC commercial loans............... $ 422 $ 344 $ 122
Other commercial loans.............. (2) 2 14
SBA 7(a) loans...................... 63 463 350
-------- -------- --------
$ 483 $ 809 $ 486
======== ======== ========
RETAINED INTERESTS
At June 30, 2003 and December 31, 2002, the recorded value of PMC
Capital's retained interests was $37.6 million and $40.0 million, respectively.
Retained interests represent PMC Capital's ownership interest in loans
receivable that have been contributed to SPEs and have been recorded as sold.
PMC Capital's retained interests consist of (i) the retention of a portion of
each of the sold loans, (ii) required cash balances owned by the SPE and (iii)
future excess funds to be generated by the SPE after payment of all obligations
of the SPE.
The fair value of retained interests is determined in good faith by the
PMC Capital board of directors based on the present value of future cash flows
PMC Capital expects to receive from the SPEs. The future cash flows are based in
part upon PMC Capital's estimates of prepayment speeds and loan losses on the
loans receivable transferred to the SPEs. Prepayment speeds and loan losses were
estimated based on the current and anticipated interest rate environment and
competitive environment and PMC Capital's historical experience with these and
similar loans receivable. The discount rates utilized are determined for each of
the components of retained interests as estimates of market rates based on
interest rate levels considering the risks inherent in the transaction. Changes
in any of PMC Capital's assumptions, or actual results which deviate from its
assumptions, may materially affect the value of retained interests.
The net unrealized appreciation on PMC Capital's retained interests at
June 30, 2003 and December 31, 2002 was $3.2 million and $3.5 million,
respectively, primarily relating to valuation increases resulting from the
current interest rate environment. Any appreciation (depreciation) of retained
interests is included in the accompanying statements of operations as either a
realized loss (if there is a reduction in expected future cash flows) or an
unrealized gain (loss) on investments. Reductions in expected future cash flows
generally occur as a result of decreases in expected yields, increases by
anticipated loan losses or increases in prepayment speed assumptions. Changes in
any of PMC Capital's assumptions, or actual results which deviate from its
assumptions may materially affect the value of its retained interests.
With the exception of the 2000 Joint Venture which has had aggregate
losses of 4.27% to date, PMC Capital's SPEs have experienced positive results
with no loan losses and minimal 60-day delinquencies. There can be no assurance
that PMC Capital will continue to achieve these types of results in future
periods. The 2000 Joint Venture had two impaired loans emerge during 2002. The
first impaired loan resulted in the acquisition of a limited service hospitality
property by the 2000 Joint Venture. PMC Capital is currently marketing this
asset and expects the sale to occur in 2003. The second impaired loan, with a
principal balance of $2.3 million, was deemed a "charged-off" loan (in
accordance with the transaction documents) during December 2002. At that time,
PMC Capital exercised its option to repurchase the loan from the 2000 Joint
Venture for $2.3 million plus accrued interest. The aggregate value of this
property (and PMC Capital's estimate of the underlying loan receivable), as
reduced for anticipated holding and selling costs, was estimated to be $1.2
million. Primarily as a result of these two impaired loans, PMC Capital recorded
realized losses on its retained interests of $2.0 million during 2002.
ASSETS ACQUIRED IN LIQUIDATION
Detailed below are assets repurchased by PMC Capital and recorded on
its balance sheet as assets acquired in liquidation and assets repurchased by
PMC Capital's non-investment company subsidiaries.
187
With regard to properties acquired through foreclosure, deferred
maintenance issues must be addressed prior to operation of the property or it
may not be economically justifiable to operate the property prior to its sale.
To the extent keeping the property operating is deemed to assist in attaining a
higher value upon sale, PMC Capital will take steps to do so including hiring
third party management companies to operate the property.
On an ongoing basis, PMC Capital monitors revenue generation and
growth, expense controls, working capital projections, capital needs, marketing
plans and sales opportunities for its assets acquired in liquidation. PMC
Capital is marketing these assets while implementing new operating plans to
stimulate revenue at the properties. Marketing efforts include the use of PMC
Capital's marketing personnel, advertising through use of its website, direct
mail, the use of third party brokers and dealers and word of mouth with current
borrowers and other contacts.
Owned by PMC Capital and Subsidiaries
At June 30, 2003, the aggregate recorded value of PMC Capital's assets
acquired in liquidation on its consolidated balance sheet was approximately $3.2
million and consisted primarily of three limited service hospitality properties,
one of which was sold subsequent to June 30, 2003.
During the six months ended June 30, 2003 and 2002, PMC Capital
incurred losses from operating its assets acquired in liquidation of
approximately $151,000 and $107,000, respectively. PMC Capital sold one of these
properties in July 2003. In addition, effective April 1, 2003, another property
was leased under an operating lease to one of PMC Capital's non-consolidated
non-investment company subsidiaries. The remaining property is currently being
operated by a third party management company on behalf of PMC Capital. There can
be no assurance that PMC Capital will be able to sell its remaining properties
in the near future.
In May 2003, PMC Capital acquired a limited service hospitality
property through foreclosure. The estimated value of the property at June 30,
2003 was approximately $1.1 million. In July 2003, PMC Capital sold the property
for net proceeds of approximately $1.1 million; therefore, no gain or loss was
recorded on the sale. PMC Capital financed the sale through the origination of a
loan of $900,000 at an interest rate of LIBOR plus 4.5%. The loan matures in
2023.
Owned by Non-Consolidated Subsidiaries and SPEs
Assets have been acquired by, transferred to or leased to PMC Capital's
non-consolidated subsidiaries or acquired by or transferred to its SPEs: (i) to
reduce liability exposure, (ii) to reduce the risk of non-compliance with
revenue requirements of the Internal Revenue Code or (iii) if the acquisition
was required by an SPE's transaction documents.
In October 2002, PMC Capital's affiliate, PMC Funding, acquired two
assisted care living facilities with an estimated fair value of approximately
$1.2 million for $101,000 in cash and the assumption of notes payable to PMC
Capital and First Western. As of December 31, 2002, the underlying loan
receivable held by PMC Capital related to these facilities was valued at
approximately $788,000 and PMC Capital classified the receivable from PMC
Funding as due from affiliate on its consolidated balance sheet (i.e., they were
not included as assets acquired in liquidation). PMC Funding operated one of the
two assisted care living facilities while the other facility was vacant. During
January, 2003, PMC Funding sold the operating assisted care living facility for
$975,000. The proceeds were used to repay in full the mortgage held by PMC
Capital, including additional costs incurred prior to liquidation and accrued
interest. The remaining funds were used to repay a portion of the receivable due
to First Western and no gain or loss was recorded on the sale.
In January 2003, PMC Capital's non-investment company subsidiary, Asset
Holding, acquired a golf facility that was collateral for a loan receivable held
by PMC Capital. The property was valued at $1.4 million at June 30, 2003, based
on PMC Capital's estimate of the net proceeds expected from the sale of the
property and reduced for taxes, anticipated holding costs and selling costs.
Subsequent to June 30, 2003, PMC Capital received a $100,000 non-refundable
deposit in conjunction with the sale of this property.
188
In May 2003, a limited service hospitality property with an aggregate
estimated value of $1.5 million at June 30, 2003, was transferred from the 2000
Joint Venture to Asset Holding, LLC. PMC Capital is currently marketing this
property for sale.
PMC Capital's non-consolidated non-investment company subsidiaries have
incurred costs, primarily operating losses and capital expenditures, on their
assets acquired in liquidation, including operating losses. During the six
months ended June 30, 2003, PMC Capital's non-consolidated subsidiaries incurred
operating losses of approximately $57,000. These losses were recorded as
reductions in PMC Capital's equity in income of unconsolidated subsidiaries, net
and advisory fee income in its consolidated statements of operations. There can
be no assurance that PMC Capital will be able to sell these properties in the
near future; therefore, operating losses will likely continue and may be
substantial.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
PMC Capital's discussion and analysis of financial condition and
results of operations are based upon its consolidated financial statements,
which have been prepared in accordance with generally accepted accounting
principles. The preparation of these financial statements requires PMC Capital
to make estimates and judgments that affect the reported amounts of assets,
liabilities, income and expenses and related disclosure of contingent assets and
liabilities. PMC Capital management has discussed the development and selection
of these critical accounting policies and estimates with the audit committee of
the PMC Capital board of directors and the audit committee has reviewed the
disclosure relating to these policies and estimates included in this joint proxy
statement/prospectus.
PMC Capital believes the following critical accounting considerations
and significant accounting policies represent its more significant policies,
judgments and estimates used in the preparation of its consolidated financial
statements.
PRINCIPLES OF CONSOLIDATION
PMC Capital's consolidated financial statements include the accounts of
PMC Capital and its wholly-owned RIC subsidiaries, First Western, PMCIC and
Western Financial. PMC Advisers, PMC Funding and Asset Holding are accounted for
using the equity method of accounting in conformity with Federal securities
laws. SPEs created in conjunction with structured loan sale transactions are
accounted for in accordance with Statement of Financial Accounting Standards No.
140, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities" ("SFAS No. 140"). Under SFAS No. 140, interests
in the SPEs are accounted for as retained interests.
FAIR VALUE ACCOUNTING
PMC Capital board of directors determines, in good faith, the fair
value of PMC Capital's investments, with the resulting unrealized gains and
losses being recorded through earnings. Fair value in accordance with generally
accepted accounting principles for investment companies includes the "current
sale" concept meaning "orderly disposition over a reasonable period of time
between willing parties other than in a forced or liquidation sale."
The determination of fair value requires judgment and consideration of
the facts and circumstances existing at the evaluation date. Adverse changes to
the facts and circumstances will impact the PMC Capital board of directors'
determination of value and may require valuation losses which may be material to
PMC Capital's results of operations.
Below PMC Capital discusses the valuation of its loans receivable,
retained interests and assets acquired in liquidation.
189
VALUATION OF LOANS RECEIVABLE
The valuation of loans receivable is adjusted on a quarterly basis to
reflect the good faith determination of the PMC Capital board of directors as to
the current fair value of its loans. There is typically no public market or
established trading market for the loans PMC Capital originates. The illiquid
nature of PMC Capital's loans receivable may adversely affect its ability to
dispose of such loans at times when it may be advantageous for PMC Capital to
liquidate such investments. In the absence of a readily ascertainable market,
the value of PMC Capital's loans receivable may differ from the values that
would be placed on the loans receivable if a ready market existed. Therefore, if
PMC Capital were forced to immediately liquidate some or all of its loans
receivable, the proceeds of such liquidation may be significantly less than the
current value of such loans receivable.
On an ongoing basis, the PMC Capital board of directors values PMC
Capital's loans receivable through an assessment of the recoverability of
individual loans. The PMC Capital board of directors values an individual loan
based on the borrower's payment history, collateral value, guarantor support and
other factors. If significant doubt exists as to the ultimate realization of a
loan, the PMC Capital board of directors will reduce the fair value accordingly.
The determination of whether significant doubt exists regarding the ultimate
realization of a loan requires judgment and consideration of the facts and
circumstances existing at the valuation date. Changes to the facts and
circumstances of the borrower, the hospitality industry and the economy may
cause a decline in the fair value of the loan, and ultimately unrealized and
realized losses which may be material to PMC Capital's results of operations.
The fair value of PMC Capital's loans receivable generally approximates the
remaining unamortized principal of the loan, unless there is doubt as to the
realization of the loan receivable. When doubt exists, the fair value of the
loan receivable is then based upon the value of the collateral which may involve
(i) cash flow/revenue multiples, (ii) property tax assessments, (iii) historical
information and (iv) updated appraisals in certain circumstances. In addition,
as part of the evaluation of the collateral, PMC Capital generally reviews all
loan origination underwriting documentation including the appraisal used during
the loan origination process.
Losses on PMC Capital's loans (realized and unrealized) were 0.56% (56
basis points) and 0.76% (76 basis points) of its weighted average outstanding
loans receivable during 2002 and 2001, respectively. To the extent PMC Capital
is forced to liquidate one or several of its loans, future losses may be
substantial. The change in assets and net income if the valuation of PMC
Capital's loan portfolio were to decline is as follows:
Change in Assets and Net Income
-------------------------------
(In thousands)
Loan portfolio valuation declines by 1% ($ 885)
Loan portfolio valuation declines by 2% ($1,770)
VALUATION OF RETAINED INTERESTS
The valuation of retained interests is adjusted on a quarterly basis to
reflect the good faith determination of the PMC Capital board of directors as to
the current fair value of retained interests. Due to the limited number of
entities that conduct transactions with similar assets, the relatively small
size of the retained interests and the limited number of buyers for such assets,
no readily ascertainable market exists for the retained interests. Therefore,
the PMC Capital board of directors' determination of the fair value may vary
significantly from values that would be placed on the retained interests if a
ready market existed. If PMC Capital was forced to immediately liquidate some or
all of the retained interests, the proceeds of such liquidation may be
significantly less than the current value of such retained interests.
The valuation of PMC Capital's retained interests is its most volatile
critical accounting estimate because the valuation is dependent upon estimates
of future cash flows that are dependent upon the performance of the underlying
loans receivable. Prepayments or losses in excess of estimates will cause it to
incur losses. The fair value of retained interests is determined based on the
present value of estimated future cash flows from the SPEs. The estimated future
cash flows are calculated based on assumptions concerning, among other things,
loan losses and prepayment speeds. PMC Capital regularly measures loan loss,
prepayment and other assumptions against the actual performance of the loans
receivable sold and to the extent adjustments to its assumptions are deemed
necessary, they are made on a quarterly basis. If the prepayment speeds occur at
a faster rate than anticipated or future loan losses occur quicker than expected
or in amounts greater than expected, the value of the retained interests
190
will decline and total income in future periods would be reduced. If prepayments
occur slower than anticipated or future loan losses are less than expected, cash
flows would exceed estimated amounts, the value of PMC Capital's retained
interests would increase and total income in future periods would be enhanced.
Actual prepayments and loan losses may vary significantly from PMC Capital's
assumptions. Although PMC Capital believes that it has made reasonable
assumptions as to the future cash flows of the structured loan transactions,
actual rates of loss or prepayments may vary significantly from those assumed
and other assumptions may be revised based upon anticipated future events. These
assumptions are updated on a quarterly basis by the PMC Capital board of
directors. Over the past three years, there has been no significant change in
the methodology employed in valuing these investments. The discount rates
utilized in computing the net present value of future cash flows are based on an
estimate of the inherent risks associated with each cash flow stream.
Significant estimates related to PMC Capital's retained interests were
as follows at December 31, 2002:
Constant Prepayment Aggregate Losses Range of Discount
Rate (1) Assumed (2) Rates
------------------- ---------------- -----------------
Secondary Market (3).............. 20.0% -- 11.7%
FW 97............................. 30.0% 0.30% 6.0% to 11.6%
1998 Partnership.................. 11.0% 2.87% 4.3% to 11.5%
1999 Partnership.................. 10.0% 2.40% 6.8% to 11.5%
2000 Joint Venture................ 14.0% 3.02% 7.3% to 12.0%
2001 Joint Venture................ 9.5% 3.09% 6.7% to 11.4%
2002 Joint Venture................ 9.5% 3.13% 6.8% to 11.5%
----------------
(1) Based on anticipated principal prepayments considering the loans sold and
similar loans.
(2) As a percentage of the outstanding principal balance of the underlying loans
receivable as of December 31, 2002 based upon per annum losses that ranged
from 0.3% to 1.0%.
(3) There are no losses on Secondary Market sales as the SBA has guaranteed
payment of principal on these loans.
There were no significant changes in the above assumptions as of June
30, 2003.
Future annualized loan losses of between 35 to 100 basis points were
estimated on all structured loan transactions. At December 31, 2002, PMC Capital
has identified two sold loans ($2.3 million) that it considers PMC Capital
Impaired Loans and five sold loans ($5.2 million) that it considers PMC Capital
Special Mention Loans. If PMC Capital has to liquidate these loans, losses may
exceed estimates and the value of retained interests will decline.
In addition, prepayments in excess of assumptions will cause a decline
in the value of retained interests relating to the excess funds, or the
interest-only strip receivable, expected from structured loan sale transactions.
For example, if a $1.0 million loan with an interest rate of 10% prepays and the
"all-in cost" of that joint venture's structured notes was 7%, PMC Capital would
lose the 3% spread it had expected to receive on that loan in future periods.
The "spread' that is lost may be offset in part or in whole by the prepayment
fee that PMC Capital collects.
The value of PMC Capital's retained interests includes an assets
acquired in liquidation with an estimated value of $1.4 million that is owned by
the 2000 Joint Venture. PMC Capital is currently marketing this asset and
expects it to be sold in 2003. In addition, during December 2002, PMC Capital
exercised its option to repurchase a charged-off loan from the 2000 Joint
Venture with a principal balance of $2.3 million. PMC Capital recorded realized
losses of $2.0 million on its retained interests during 2002 primarily related
to these assets.
The following is a sensitivity analysis of PMC Capital's retained
interests as of June 30, 2003 and December 31, 2002 to highlight the volatility
that results when prepayments, loan losses and discount rates are different than
the assumptions:
June 30, 2003 December 31, 2002
------------------------ ------------------------
Pro Forma Asset and Net Pro Forma Asset and Net
Changed Assumption Value Income Change Value Income Change
-------------------------------------------------- --------- ------------- --------- -------------
(In thousands)
Losses increase by 50 basis points per annum (1) $ 35,140 ($2,504) 37,297 ($2,706)
Losses increase by 100 basis points per annum (1) $ 32,717 ($4,927) 34,714 ($5,289)
191
Rate of prepayments increases by 5% per annum (2) $ 36,352 ($1,292) 38,642 ($1,361)
Rate of prepayments increases by 10% per annum (2) $ 35,411 ($2,233) 37,688 ($2,315)
Discount rates increase by 100 basis points $ 36,133 ($1,511) 38,408 ($1,595)
Discount rates increase by 200 basis points $ 34,712 ($2,932) 37,002 ($3,001)
-----------------------
(1) If PMC Capital experiences significant losses (i.e., in excess of
anticipated losses), the effect on PMC Capital's retained interests would
first reduce the value of the interest-only strip receivables. To the extent
the interest-only strip receivables could not fully absorb the losses, the
effect would then be to reduce the value of the reserve funds and then the
value of the required over-collateralization.
(2) For example, an 8% assumed rate of prepayment would be increased to 13% or
18% based on increases of 5% or 10% per annum, respectively.
These sensitivities are hypothetical and should be used with caution.
Pro forma values based on changes in these assumptions generally cannot be
extrapolated since the relationship of the change in assumption to the change in
fair value is not linear. The effect of a variation in a particular assumption
on the fair value of the retained interests is calculated without changing any
other assumption. In reality, changes in one factor are not isolated from
changes in another which might magnify or counteract the sensitivities.
VALUATION OF ASSETS ACQUIRED IN LIQUIDATION
The valuation of PMC Capital's assets acquired in liquidation is
adjusted on a quarterly basis to reflect the good faith determination of the PMC
Capital board of directors as to the current fair value of PMC Capital's assets
acquired in liquidation. The PMC Capital board of directors' valuation of assets
acquired in liquidation is based upon the value of the collateral, necessary
capital improvements and expected holding costs. The fair value of the
collateral is determined on an individual asset basis and may involve (i)
discussions with brokers, (ii) cash flow/revenue multiples, (iii) property tax
assessments, (iv) historical information and (v) updated appraisals in certain
circumstances. In addition, PMC Capital reviews all loan origination
underwriting documentation including the appraisal and generally conducts a site
visit. This value is then reduced by expected holding costs, including, but not
limited to, legal fees, appraisal costs, delinquent property taxes and capital
expenditures related to improvements or replacements of capital assets.
Adverse changes to the facts and circumstances for PMC Capital's assets
acquired in liquidation will impact the PMC Capital board of directors'
determination of value and may require valuation losses which may be material to
its results of operations.
RESULTS OF OPERATIONS
SIX MONTHS ENDED JUNE 30, 2003 COMPARED TO THE SIX MONTHS ENDED JUNE
30, 2002
Overview
Net investment income decreased by $995,000 (30%), to $2,345,000 during
the six months ended June 30, 2003 from $3,340,000 during the six months ended
June 30, 2002. Net income decreased by $2,398,000 (58%), to $1,746,000 during
the six months ended June 30, 2003 from $4,144,000 during the six months ended
June 30, 2002. Earnings per share decreased $0.20 (59%), to $0.14 per share
during the six months ended June 30, 2003 from $0.34 per share during the six
months ended June 30, 2002. The decrease in net income is primarily due to:
- a decrease in the gain on sale of assets of $1,463,000 as there
were no loans sold during the six months ended June 30, 2003 while
PMC Capital sold loans in a structured loan sale transaction
completed during April 2002;
- decreased interest income of $1,015,000 primarily due to an
increase in variable-rate lending with lower variable interest
rates than PMC Capital's fixed interest rate loans; and
- expensing of merger related costs of $519,000, required to be
expensed as incurred.
Partially offsetting these decreases in net income was a decrease in
interest expense of $858,000 due primarily to the repayment during 2002 of
debentures due the SBA ($17.0 million) and notes payable ($5.0 million).
192
Significant changes in PMC Capital's income and expenses are further
described below.
Investment Income
Interest income decreased by $1,015,000 (24%), to $3,242,000 for the
six months ended June 30, 2003 from $4,257,000 for the six months ended June 30,
2002. Interest income consisted of the following:
Six Months Ended June 30, Increase (Decrease)
-------------------------- -----------------------
2003 2002 Amount Percentage
------------ ------------ ----------- ----------
(Dollars in thousands)
Interest income - loans................ $ 3,042 $ 3,865 $ (823) (21.3%)
Commitment fees collected.............. 189 134 55 41.0%
Interest income - other investments.... 11 258 (247) (95.7%)
------------ ------------ ----------- ----
$ 3,242 $ 4,257 $ (1,015) (23.8%)
============ ============ =========== ====
The decrease in PMC Capital's interest income was primarily the result
of a decrease in variable interest rates, a decrease in its weighted average
loans receivable and an increase in variable-rate loans. The weighted average of
PMC Capital's effective LIBOR and effective prime rate decreased by 61 basis
points and 50 basis points, respectively, from the six months ended June 30,
2002 to the six months ended June 30, 2003. The effective rates are the rates
used in determining the variable rates to be charged to borrowers on PMC
Capital's variable-rate loans. PMC Capital's weighted average loans receivable
outstanding decreased $5.2 million (5%) to $93.7 million during the six months
ended June 30, 2003 from $98.9 million during the six months ended June 30,
2002. Approximately 88% and 76% of PMC Capital's loans receivable had variable
rates of interest as of June 30, 2003 and 2002, respectively. Accordingly, the
weighted average interest rate on PMC Capital's loans receivable at June 30,
2003 was 6.1% compared to 7.1% at June 30, 2002, a reduction of 1.0%. In
addition, interest income on PMC Capital's idle funds decreased by $247,000 due
to decreasing interest rates and its reduced cash balances.
Income from retained interests decreased by $251,000 (10%), to
$2,267,000 during the six months ended June 30, 2003 from $2,518,000 during the
six months ended June 30, 2002. The income from retained interests consists of
the yield on PMC Capital's retained interests which is determined based on
estimates of future cash flows and includes any fees collected by the SPEs in
excess of anticipated fees. The annualized yield on PMC Capital's retained
interests decreased to 11.8% during the six months ended June 30, 2003 from
14.0% during the six months ended June 30, 2002; however, the weighted average
balance of PMC Capital's retained interests increased from $35.9 million during
the six months ended June 30, 2002 to $38.5 million during the six months ended
June 30, 2003 due primarily to the April 2002 structured loan sale transaction.
Interest expense
Interest expense decreased by $858,000 (35%), to $1,563,000 during the
six months ended June 30, 2003 from $2,421,000 during the six months ended June
30, 2002. Interest expense results primarily from interest on (i) PMC Capital's
notes payable ($40.0 million and $45.0 million outstanding as of June 30, 2003
and 2002, respectively) with a weighted average interest rate of 4.6% and
weighted average remaining maturity of 1.7 years as of June 30, 2003, (ii)
debentures due the SBA ($14.3 million outstanding as of June 30, 2003 and $31.3
million outstanding as of June 30, 2002), with a weighted average interest rate
of 7.7% and weighted average remaining maturity of 4.7 years as of June 30, 2003
and (iii) advances under PMC Capital's revolving credit facility ($6.3 million
outstanding as of June 30, 2003 with a weighted average interest rate of 2.9%).
The primary reasons for the decrease in interest expense were the repayment
during September and December 2002 of $17.0 million in debentures and $5.0
million in notes payable and a reduction in the average interest rates on PMC
Capital's LIBOR-based notes payable of 61 basis points ($25.0 million in
variable-rate notes payable outstanding as of both June 30, 2003 and 2002) from
the six months ended June 30, 2002 to the six months ended June 30, 2003.
193
Interest expense consisted of the following:
Six Months Ended
June 30,
------------------------
2003 2002
------------ ----------
(In thousands)
Notes payable........................ $ 938 $ 1,185
SBA debentures....................... 556 1,229
Revolving credit facility and other.. 69 7
------- --------
$ 1,563 $ 2,421
======= ========
Merger related costs
Merger related costs of $519,000 were expensed during the six months
ended June 30, 2003 representing primarily external investment banker and legal
fees which were incurred in conjunction with the ongoing activities related to
PMC Capital's proposed merger with PMC Commercial. PMC Capital's merger related
costs are required to be expensed as they are incurred.
Realized and unrealized gain (loss) on investments
Realized and unrealized gain (loss) on investments decreased $1,403,000
to a loss of $599,000 during the six months ended June 30, 2003 compared to a
gain of $804,000 during the six months ended June 30, 2002. The primary reason
for the decrease was a gain of $1,463,000 on PMC Capital's structured loan sale
transaction ($43.2 million of loans receivable) completed in the second quarter
of 2002. There was no structured loan sale transaction completed during the six
months ended June 30, 2003. PMC Capital's realized and unrealized loss on
investments consisted of the following:
Six Months Ended June 30, 2003
----------------------------------------------------
Retained Assets Acquired Loans
Interests (1) in Liquidation Receivable Total
------------- --------------- ---------- --------
(In thousands)
Realized losses............................ $ (129) $ -- $ (453) $ (582)
Change in unrealized appreciation
(depreciation) on investments............ (223) (172) 378 (17)
--------- ---------- ------- ------
Total realized and unrealized
loss on investments...................... $ (352) $ (172) $ (75) $ (599)
========= ========== ======= ======
Six Months Ended June 30, 2002
----------------------------------------------------
Retained Assets Acquired Loans
Interests (1) in Liquidation Receivable Total
------------- --------------- ---------- --------
(In thousands)
Realized losses............................ $ (302) $ -- $ (163) $ (465)
Sale of assets............................. -- -- 1,463 1,463
Change in unrealized appreciation
(depreciation) on investments............ 350 (460) (84) (194)
--------- ---------- ------- ------
Total realized and unrealized loss on
investments.............................. $ 48 $ (460) $ 1,216 $ 804
========= ========== ======= ======
---------------------
(1) Includes the mortgage-backed security of PMC Capital's affiliate.
194
Retained Interests: The primary reason for the unrealized depreciation
of $223,000 and the realized losses of $129,000 on PMC Capital's retained
interests during the three months ended June 30, 2003 was a reduction in PMC
Capital's expectation of future cash flows from the interest to be received on
its underlying loans receivable and reserve funds.
The primary reason for the unrealized appreciation of $350,000 during
the six months ended June 30, 2002 was a decrease in the discount rates used to
value PMC Capital's retained interests. The decrease in discount rates caused
unrealized depreciation of approximately $594,000 during the six months ended
June 30, 2002. The decrease in discount rates was a result of the lower interest
rate environment at June 30, 2002 compared to December 31, 2001. The realized
losses of $302,000 were primarily a result of (i) higher than anticipated
prepayment activity and (ii) lower than anticipated income on PMC Capital's
underlying loans receivable and reserve funds.
Loans Receivable: PMC Capital recognized a net loss of $75,000
consisting of unrealized appreciation and realized losses on its loans
receivable during the six months ended June 30, 2003 compared to a net loss of
$247,000 consisting of realized losses and unrealized losses on its loans
receivable during the six months ended June 30, 2002. Net losses on PMC
Capital's loans (realized and unrealized) were 0.37% and 0.75% of its weighted
average outstanding loans receivable during the twelve-month periods ended June
30, 2003 and 2002, respectively.
Assets Acquired in Liquidation: PMC Capital recorded $172,000 in
unrealized losses on its assets acquired in liquidation during the six months
ended June 30, 2003 related primarily to devaluation of collateral. PMC Capital
recorded $460,000 in unrealized losses on its assets acquired in liquidation
during the six months ended June 30, 2002 due primarily to devaluation of
collateral, additional capital expenditures and increased expected holding
costs.
YEAR ENDED DECEMBER 31, 2002 COMPARED TO THE YEAR ENDED DECEMBER 31,
2001
Overview
Net income decreased by $4,584,000 (43%), to $5,983,000 during 2002
from $10,567,000 during 2001. Earnings per share decreased $0.39 (45%), to $0.48
per share during 2002 from $0.87 per share during 2001. The decrease in net
income is primarily due to:
- decreased interest income of $4,061,000 due to the sale of
loans receivable and an increase in variable-rate lending with
lower variable interest rates than fixed interest rate loans;
- a reduction in the gain on sale of assets of $1,286,000 due to
a smaller volume of loans sold and decreased anticipated cash
flows due to reduced net interest spread;
- realized and unrealized losses from retained interests
(excluding the benefit from the change in discount rates
described below) increased by approximately $1.3 million from
approximately $1.4 million during 2001 to approximately $2.7
million during 2002;
- an increase of $421,000 in unrealized losses from PMC
Capital's assets acquired in liquidation due primarily to
collateral devaluation, greater than anticipated capital
expenditures and increases in expected holding costs related
to these assets; and
- a loss from operations of assets held for sale of $391,000 as
a result of operating losses associated with two operating
hotel properties included in assets acquired in liquidation
during 2002.
Partially offsetting these decreases in net income were:
- a benefit from the change in discount rates utilized in the
valuation on retained interests of approximately $1.5 million
from a valuation increase of approximately $700,000 during
2001 to a valuation increase of approximately $2.2 million
during 2002;
195
- a decrease in interest expense of $901,000 due to decreasing
variable rates of interest on LIBOR based notes payable and
the repayment in 2002 of debentures due the SBA and notes
payable; and
- a decrease in salaries and related benefits of $259,000.
Significant changes in income and expenses are further described below.
Income
Interest income decreased by $4,061,000 (35%), to $7,507,000 during
2002 from $11,568,000 during 2001. Interest income consisted of the following:
Year Ended December 31, Increase (Decrease)
------------------------ ------------------------
2002 2001 Amount Percentage
----------- ----------- ----------- ----------
(Dollars in thousands)
Interest income - loans................ $ 6,629 $ 10,515 $ (3,886) (37.0%)
Commitment fees collected.............. 339 523 (184) (35.2%)
Interest income - other investments.... 539 530 9 1.7%
----------- ----------- ----------- -----
$ 7,507 $ 11,568 $ (4,061) (35.1%)
=========== =========== =========== =====
The decrease in interest income was primarily a result of the sale of
approximately $49.2 million and $43.2 million of loans receivable in structured
loan sale transactions completed in June 2001 and April 2002, respectively,
which reduced the weighted average loans receivable outstanding by $19.5 million
(18%) to $86.8 million during 2002 from $106.3 million during 2001. In addition,
the average quarterly prime rate and LIBOR (utilized in the determination of
quarterly variable rates) decreased by 281 basis points and 244 basis points,
respectively, during 2002 causing the weighted average interest rate to decline
to 7.1% at December 31, 2002 from 9.0% at December 31, 2001. Approximately 82%
and 36% of the loans receivable had variable rates of interest as of December
31, 2002 and 2001, respectively. The sharp rise in the percentage of
variable-rate loans receivable at December 31, 2002 is a result of new
variable-rate loan originations and the sale of fixed-rate loans receivable in
the April 2002 structured loan sale transaction. In addition, commitment fees
collected decreased due to a decrease in loan originations.
Income from retained interests decreased by $138,000 (3%), to
$5,202,000 during 2002 from $5,340,000 during 2001. Income from retained
interests is comprised of the yield on retained interests. The annualized yield
on retained interests decreased to 13.7% during 2002 from 14.9% during 2001;
however, the weighted average retained interests increased due primarily to the
structured loan sale transaction completed in April 2002.
Advisory fee income increased by $124,000 (7%), to $1,927,000 during
2002 from $1,803,000 during 2001. Advisory fees relate to the investment
management agreements with PMC Commercial. The increase was primarily a result
of the increased loan portfolio of PMC Commercial.
Interest expense
Interest expense decreased by $901,000 (16%), to $4,588,000 during 2002
from $5,489,000 during 2001. Interest expense results primarily from interest on
(i) notes payable ($40.0 million outstanding as of December 31, 2002 and $45.0
million outstanding as of December 31, 2001) with a weighted average interest
rate of 4.9% and a weighted average remaining maturity of 2.1 years as of
December 31, 2002 and (ii) debentures due the SBA ($14.3 million outstanding as
of December 31, 2002 and $31.3 million outstanding as of December 31, 2001),
with a weighted average interest rate of approximately 7.7% and a weighted
average remaining maturity of 5.2 years as of December 31, 2002. The primary
reasons for the decrease in interest expense were (i) a reduction in the average
quarterly interest rates on LIBOR-based notes payable of 244 basis points ($25.0
million in variable rate debt outstanding as of both December 31, 2002 and 2001)
from the year ended December 31, 2001 to the year ended December 31, 2002 and
(ii) the repayment during the last half of 2002 of $17.0 million in debentures
due the SBA with a weighted average interest rate of approximately 7.6% and the
repayment of $5.0 million in notes payable during December 2002 with an interest
rate of 7.0%.
196
Other expenses
Other expenses increased by $199,000 (3%), to $6,118,000 during 2002
from $5,919,000 during 2001. Other operating expenses are comprised of salaries
and related benefits, general and administrative, loss from operations of assets
acquired in liquidation, profit sharing plan, rent, and professional fees. The
primary reason for the increase was the loss from operations of assets acquired
in liquidation of $391,000 during 2002. Assets acquired in liquidation held at
December 31, 2002 were not operated by PMC Capital during 2001. The increase was
partially offset by a reduction in salaries and related benefits which decreased
$259,000 (6%), to $3,940,000 during 2002 from $4,199,000 during 2001. The
decrease was mainly a result of a decrease in the number of employees and a
reduction in bonuses.
Realized and unrealized gain (loss) on investments
Realized and unrealized gain (loss) on investments decreased $1,196,000
to a gain of $27,000 during 2002 compared to a gain of $1,223,000 during 2001.
Realized and unrealized gain (loss) on investments consisted of the following:
Year Ended December 31, 2002
-----------------------------------------------------
Retained Assets Acquired Loans
Interests (1) in Liquidation Receivable Total
------------- --------------- ---------- ---------
(In thousands)
Realized losses ................... $ (1,981) $ -- $ (215) $ (2,196)
Sale of assets .................... -- (17) 1,463 1,446
Change in unrealized appreciation
(depreciation) on investments ... 1,466 (421) (268) 777
-------- ------- --------- --------
Total realized and unrealized
gain (loss) on investments ...... $ (515) $ (438) $ 980 $ 27
======== ======= ========= ========
Year Ended December 31, 2001
-----------------------------------------------------
Assets
Retained Acquired in Loans
Interests (1) Liquidation Receivable Total
------------- ----------- ---------- ---------
(In thousands)
Realized losses ................... $ (1,303) $ -- $ (1,025) $ (2,328)
Sale of assets .................... -- -- 2,732 2,732
Change in unrealized appreciation
(depreciation) on investments ... 603 -- 216 819
-------- ----------- --------- --------
Total realized and unrealized
gain (loss) on investments ...... $ (700) $ -- $ 1,923 $ 1,223
======== =========== ========= ========
--------------
(1) Includes the mortgage-backed security of PMC Capital's affiliate.
During April 2002, PMC Capital sold $43.2 million of loans receivable
and recognized a gain of $1,463,000. During June 2001, PMC Capital sold $49.2
million of loans receivable and recognized a gain of $2,732,000. The decrease in
gain recognized of $1,269,000 was primarily due to the smaller pool of sold
loans and a reduced "net interest spread." The net interest spread is the
difference between the weighted average interest rate on the sold loans
receivable compared to the coupon rate on the debt issued by the SPE. At the
time the transactions were completed, the net interest rate spread was 2.86%
related to the 2002 Joint Venture compared to PMC Capital's net interest rate
spread of 3.42% related to the 2001 Joint Venture as a result of the interest
rate market and the market for the purchase of asset-backed securities.
The unrealized appreciation of $1,466,000 on retained interests during
2002 primarily relates to a decrease in the discount rates used to value
retained interests. Unrealized gains of approximately $2,174,000 were recorded
during 2002 as a result of a decrease in the discount rates. The decrease in
discount rates was a result of the lower
197
interest rate environment at December 31, 2002 compared to December 31, 2001.
Offsetting a portion of these unrealized gains from the reduction in discount
rates were unrealized losses of $708,000 and realized losses of $1,981,000
resulting primarily from (i) increased losses related primarily to the 2000
Joint Venture, (ii) lower than anticipated income on underlying loans receivable
and the PMC Capital reserve funds and (iii) increased anticipated prepayments.
Realized losses of approximately $1.9 million relate to reductions in actual and
anticipated future cash flows from the 2000 Joint Venture as a result of PMC
Capital Impaired Loans.
The unrealized appreciation of $603,000 during 2001 primarily relates
to a decrease in the discount rates used to value retained interests. Unrealized
appreciation of approximately $668,000 was recorded during 2001 as a result of
the decrease in discount rates. The decrease in discount rates was a result of
the lower interest rate environment at December 31, 2001 compared to December
31, 2000. Offsetting a portion of these unrealized gains from the reduction in
discount rates were realized losses of $1,303,000 resulting primarily from (i) a
reduction in expected future cash flows resulting from higher than anticipated
prepayment activity and (ii) lower than anticipated income on the PMC Capital
reserve funds and underlying loans receivable.
PMC Capital recognized $483,000 of realized losses and unrealized
depreciation on its loans during 2002 compared to $809,000 in realized losses
and unrealized depreciation on its loans during 2001. Losses on its loans were
0.56% and 0.76% of its weighted average outstanding loans receivable during 2002
and 2001, respectively.
PMC Capital recorded $421,000 in unrealized losses on assets acquired
in liquidation during 2002. The loss is primarily related to devaluation of
collateral, additional capital expenditures and increased expected holding costs
related to assets acquired in liquidation. There were no realized or unrealized
losses on assets acquired in liquidation during 2001.
PMC Capital generated a net loss on sale of assets of $17,000 from
assets acquired in liquidation during 2002. During December 2002, PMC Capital
sold one limited service hospitality property for approximately $500,000
resulting in a net gain of approximately $113,000 and First Western sold four
retail establishments during 2002 for proceeds of approximately $350,000
resulting in a loss of approximately $130,000.
YEAR ENDED DECEMBER 31, 2001 COMPARED TO THE YEAR ENDED DECEMBER 31,
2000
Overview
Net income decreased by $686,000 (6%), to $10,567,000 during 2001 from
$11,253,000 during 2000. Earnings per share decreased $0.06 (6%), to $0.87 per
share during 2001 from $0.93 per share during 2000. The decrease in net income
is primarily due to:
- decreased interest income of $1,972,000 due to the sale of
loans receivable and an increase in variable rate lending with
lower variable interest rates than fixed interest rate loans;
- realized and unrealized losses from retained interests
(excluding the benefit from the change in discount rates
described below) increased by approximately $2.3 million from
unrealized gains of approximately $900,000 during 2000 to
realized and unrealized losses of approximately $1.4 million
during 2001.
Partially offsetting these decreases in net income were:
- a benefit from the change in discount rates utilized in the
valuation on retained interests of approximately $700,000; and
- an increase in the gain on sale of assets of $2,168,000 due to
a larger volume of loans sold and increased anticipated cash
flows due to increased net interest spread.
Significant changes in income and expenses are further described below.
198
Income
Interest income decreased by $1,972,000 (15%), to $11,568,000 during
2001 from $13,540,000 during 2000. Interest income consisted of the following:
Years Ended December 31, Increase (Decrease)
------------------------ ----------------------
2001 2000 Amount Percentage
--------- --------- ---------- ----------
(Dollars in thousands)
Interest income - loans ............... $ 10,515 $ 12,628 $ (2,113) (16.7%)
Commitment fees collected ............. 523 432 91 21.1%
Interest income - other investments ... 530 480 50 10.4%
--------- --------- --------- -----
$ 11,568 $ 13,540 $ (1,972) (14.6%)
========= ========= ========= =====
The decrease in interest income was primarily a result of the sale of
approximately $49.2 million and $28.0 million of loans receivable in structured
loan sale transactions completed in June 2001 and December 2000, respectively,
which decreased the weighted average loans receivable outstanding by $11.5
million (10%) to $106.3 million during 2001 from $117.8 million during 2000. In
addition, the prime rate decreased by 350 basis points during 2001 causing the
weighted average interest rate to decline to 9.0% at December 31, 2001 from
10.4% at December 31, 2000. Approximately 36% and 30% of PMC Capital's loans
receivable had variable rates of interest based on the prime rate as of December
31, 2001 and 2000, respectively.
Income from retained interests increased by $1,320,000 (33%), to
$5,340,000 during 2001 from $4,020,000 during 2000. Income from retained
interests is comprised of the yield accreted on retained interests. The increase
in income from retained interests was the result of an increase in the weighted
average retained interests outstanding primarily due to the structured loan sale
transactions completed in June 2001 and December 2000. In addition, the
annualized yield on retained interests increased to 14.9% during 2001 from 14.2%
during 2000.
Advisory fee income increased by $104,000 (6%), to $1,803,000 during
2001 from $1,699,000 during 2000. Advisory fees relate to the investment
management agreements with PMC Commercial. The increase was primarily a result
of the increased loan portfolio of PMC Commercial.
Interest expense
Interest expense increased by $29,000 (1%), to $5,489,000 during 2001
from $5,460,000 during 2000. Interest expense remained relatively flat, since
the effect of the weighted average debt outstanding increasing to $75.3 million
in 2001 compared to $70.8 million in 2000, was offset by a decline in the
weighted average cost of funds to 7.2% for 2001 compared to 7.6% in 2000.
Interest expense results primarily from interest on (i) notes payable ($45.0
million and $41.7 million outstanding as of December 31, 2001 and 2000,
respectively) with a weighted average interest rate of 5.4% and a weighted
average remaining maturity of 2.9 years as of December 31, 2001, (ii) debentures
due the SBA (as of both December 31, 2001 and 2000 the outstanding balances were
$31.3 million), with a weighted average interest rate of approximately 7.6% and
a weighted average remaining maturity of 4.6 years as of December 31, 2001, and
(iii) balances outstanding on the revolving credit facility.
Other expenses
Operating expenses increased by $99,000 (2%), to $5,919,000 during 2001
from $5,820,000 during 2000. Operating expenses are comprised of salaries and
related benefits, general and administrative, profit sharing plan, rent and
professional fees. The primary reason for the increase was general and
administrative expenses which increased $68,000 (8%), to $884,000 during 2001
from $816,000 during 2000. The increase was mainly due to increased insurance
expense, advertising and bank fees.
Realized and unrealized gain (loss) on investments
Realized and unrealized gain (loss) on investments increased $274,000
to a gain of $1,223,000 during 2001 compared to a gain of $949,000 during 2000.
Realized and unrealized gain (loss) on investments consisted of the following:
199
Year Ended December 31, 2001
-------------------------------------------------
Assets
Retained Acquired in Loans
Interests (1) Liquidation Receivable Total
------------- ----------- ---------- ---------
(In thousands)
Realized losses ........................ $ (1,303) $ -- $ (1,025) $ (2,328)
Sale of assets ......................... -- -- 2,732 2,732
Change in unrealized appreciation
(depreciation) on investments ........ 603 -- 216 819
--------- ------- --------- --------
Total realized and unrealized
gain (loss) on investments ........... $ (700) $ -- $ 1,923 $ 1,223
========= ======= ========= ========
Year Ended December 31, 2000
-------------------------------------------------
Assets
Retained Acquired in Loans
Interests (1) Liquidation Receivable Total
------------- ----------- ---------- ---------
(In thousands)
Realized losses......................... $ -- $ -- $ (17) $ (17)
Sale of assets.......................... -- -- 564 564
Change in unrealized appreciation
(depreciation) on investments......... 871 -- (469) 402
---------- --------- --------- --------
Total realized and unrealized
gain (loss) on investments............ $ 871 $ -- $ 78 $ 949
========== ======= ========= ========
------------------
(1) Includes the mortgage-backed security of PMC Capital's affiliates.
During 2001 PMC Capital recognized a gain of approximately $2,732,000
relating to the sale of $49.2 million of loans receivable during June 2001
compared to a gain of $564,000 recognized from the structured loan sale of $28.0
million of loans receivable during December 2000. The increase was due to an
increase in the principal sold of approximately $21.2 million and the increased
"net interest spread." The net interest spread is the difference between the
weighted average interest rate on the sold loans receivable compared to the
coupon rate on the debt issued by the SPE. PMC Capital generated a net interest
spread of 3.42% related to the 2001 Joint Venture compared to a net interest
spread of 2.26% related to the 2000 Joint Venture as a result of the interest
rate market and the market for purchases of asset-backed securities.
The unrealized appreciation of $603,000 on retained interests during
2001 primarily relates to a decrease in the discount rates used to value
retained interests. Unrealized appreciation of approximately $668,000 was
recorded during 2001 as a result of the decrease in discount rates. The decrease
in discount rates was a result of the lower interest rate environment at
December 31, 2001 compared to December 31, 2000. Offsetting these unrealized
gains from the reduction in discount rates were realized losses of $1,303,000
resulting primarily from a reduction in expected future cash flows resulting
from higher than anticipated prepayment activity and lower than anticipated
income on the PMC Capital reserve funds. During 2000 PMC Capital recognized
$871,000 in valuation gains relating to retained interests. The primary reason
for the unrealized appreciation of $871,000 during 2000 was the lower than
anticipated rate of prepayment activity and less than anticipated loan losses.
PMC Capital recognized $809,000 of realized losses and unrealized
appreciation on its loans during 2001 compared to $486,000 in realized losses
and unrealized depreciation on its loans during 2000. The change was primarily a
result of unrealized depreciation on impaired loans recorded during the third
and fourth quarter of 2001 including $460,000 related to two limited service
hospitality properties PMC Capital acquired through foreclosure in January and
February 2002. Losses on loans were 0.76% (76 basis points) and 0.41% (41 basis
points) of its weighted average outstanding loans receivable during 2001 and
2000, respectively.
200
CASH FLOW ANALYSIS
SIX MONTHS ENDED JUNE 30, 2003 COMPARED TO THE SIX MONTHS ENDED JUNE
30, 2002
PMC Capital generated cash flows from operating activities of
$1,892,000 and $2,898,000 during the six months ended June 30, 2003 and 2002,
respectively. The primary source of funds from operating activities is PMC
Capital's net investment income which was $2,345,000 and $3,340,000 (a decrease
of $995,000) during the six months ended June 30, 2003 and 2002, respectively.
PMC Capital's cash flows from operating activities are also affected by the
change in PMC Capital's current assets and current liabilities and its SBA 7(a)
lending activity. Funds available from PMC Capital's SBA 7(a) lending activity
increased $1,348,000 while PMC Capital's other operating assets and liabilities
decreased by $1,347,000.
PMC Capital used cash of $7,869,000 and generated cash of $33,040,000
from investing activities during the six months ended June 30, 2003 and 2002,
respectively. This $40,909,000 decrease in cash flows provided from investing
activities relates primarily to a decrease in proceeds from structured loan sale
transactions of $37,901,000 and a net increase in loans funded less principal
collected of $5,572,000. PMC Capital completed its 2002 structured loan sale
transaction during the six months ended June 30, 2002 while no structured loan
sale transaction was completed during the six months ended June 30, 2003.
Partially offsetting the reduced cash flow from investing activities were an
increase in PMC Capital's advances from affiliates, net, of $981,000 and a
decrease in investment in retained interests of $2,484,000 relating primarily to
its investment in the 2002 structured loan sale transaction.
PMC Capital generated cash of $3,211,000 and used cash of $4,391,000 in
financing activities during the six months ended June 30, 2003 and 2002,
respectively. This $7,602,000 increase in cash flows from financing activities
primarily relates to an increase in proceeds from PMC Capital's revolving credit
facility, net, of $6,250,000 and a reduction in dividends paid on its common
stock of $1,423,000. The increased use of PMC Capital's revolving credit
facility was due in part to the delay in completing a structured loan sale
transaction.
YEAR ENDED DECEMBER 31, 2002 COMPARED TO THE YEAR ENDED DECEMBER 31,
2001
PMC Capital generated cash flows from operating activities of
$7,503,000 and $9,959,000 during the years ending December 31, 2002 and 2001,
respectively. The decrease in cash flows from operating activities of $2,456,000
primarily relates to (i) a decrease in PMC Capital's net income of $4,584,000
and (ii) decreased funds available from its SBA 7(a) loan activity of
$2,030,000. This decrease was partially offset by a $2,812,000 increase in cash
flows from other operating assets and liabilities due primarily to increased
other liabilities due to the SBA and borrower advances. PMC Capital pays
dividends from the cash flows generated by its operating activities.
PMC Capital generated cash of $10,493,000 and used cash of $6,965,000
from investing activities during the years ending December 31, 2002 and 2001,
respectively. This $17,458,000 increase in cash from investing activities
relates primarily to (i) a net decrease in loans funded less principal collected
of $25,486,000 and (ii) a decrease of $6,610,000 in net proceeds from the debt
issued by the 2002 Joint Venture of $37,901,000 compared to $44,511,000 in net
proceeds from the debt issued by the 2001 Joint Venture.
PMC Capital used cash of $29,836,000 from financing activities during
the year ended December 31, 2002 compared to $7,585,000 from financing
activities during the year ended December 31, 2001. This $22,251,000 increase in
cash flows used in financing activities relates primarily to (i) $22,000,000 in
debt repayments in the year ended December 31, 2002 compared to $3,333,000 in
net proceeds from borrowings during the year ended December 31, 2001 and (ii) a
reduction in dividends paid of $3,082,000.
LIQUIDITY AND CAPITAL RESOURCES
SOURCES AND USES OF FUNDS
Overview
At June 30, 2003, PMC Capital had approximately $2.7 million of cash
and cash equivalents, availability of $8.7 million under its revolving credit
facility and $12.2 million in outstanding commitments from the SBA to
201
provide additional SBA debentures. PMC Capital's outstanding commitments to fund
loans were $20.9 million at June 30, 2003. Commitments have fixed expiration
dates and require payment of a fee to PMC Capital. Since some commitments expire
without the proposed loan closing, the total committed amounts do not
necessarily represent future cash requirements.
At December 31, 2002, PMC Capital had approximately $5.5 million of
cash and cash equivalents, availability of $10 million under its revolving
credit facility and $5 million under its discretionary guidance line facility
compared to approximately $29.4 million of total loan commitments and approvals
outstanding.
Historically, PMC Capital's cash flows provided by operating activities
have been paid to its shareholders as dividends. In 2003, PMC Capital
anticipates that its cash flows from operating activities will be sufficient to
pay 2003 dividend distributions. As a result, PMC Capital's cash flows from
operating activities are generally not available to fund loan originations or
debt service. During the six months ended June 30, 2003 and the year ended
December 31, 2002 PMC Capital's investment in loans ($19.6 million and $47.0
million, respectively) and debt repayments ($22.0 million during the year ended
December 31, 2002) were primarily funded by:
- Principal collections on loans receivable of $6.1 million and
$13.9 million, respectively;
- Net proceeds from structured loan sale transaction of $37.9
million during April 2002;
- Borrowings of approximately $6.3 million on PMC Capital's
revolving credit facility during the six months ended June 30,
2003; and
- Use of cash on hand.
During the remaining half of 2003, PMC Capital anticipates loan
originations will range from $12 million to $20 million, which PMC Capital
expects to be funded primarily through (i) a structured loan sale transaction,
(ii) issuance of SBA debentures and (iii) advances under its revolving credit
facility. PMC Capital is currently in the process of co-securitizing a pool of
loans with PMC Commercial and expects the transaction to be completed in
September 2003, unless other unforeseen delays are encountered.
PMC Capital repaid $5.0 million in notes payable with an interest rate
of 8.6% at maturity in July 2003 through an advance on its revolving credit
facility.
SOURCES OF FUNDS
General
PMC Capital's ability to continue to originate loans will depend on its
ability to borrow funds, sell assets, complete structured loan sale transactions
and/or issue equity on acceptable terms. A reduction in the availability of
these sources of funds could have a material adverse effect on its financial
condition and results of operations.
PMC Capital expects that the sources of funds described below should be
sufficient to meet its existing working capital needs. However, there can be no
assurance that it will be able to raise funds through these financing sources.
If these sources are not available, PMC Capital may have to originate loans at
reduced levels, refer commitments to PMC Commercial, or sell assets.
To meet its liquidity requirements, including origination of new loans,
PMC Capital primarily generates funds from the following sources:
- Structured loan sales;
- Issuance of SBA debentures; and
- Borrowings under its short-term, unsecured revolving credit
facility and/or guidance line.
202
A reduction in the availability of these sources of funds could have a
material adverse effect on PMC Capital's financial condition and results of
operations.
Additional sources of capital include principal and interest collected
on existing loans receivable, the cash flows from retained interests and
proceeds from the sale of SBA 7(a) loans receivable in the Secondary Market.
However, to the extent these sources represent taxable income (i.e., interest
income, etc.), such amounts have historically been distributed to shareholders
as dividends. As a result, those earnings are generally not available to fund
future investments.
As a BDC, PMC Capital is generally required to maintain the limitations
of the Asset Coverage Test, which may restrict its ability to borrow in certain
circumstances. Leverage for PMC Capital's SBICs (PMC Investment and Western
Financial) is not considered leverage for purposes of the Asset Coverage Test.
STRUCTURED LOAN SALE TRANSACTIONS
PMC Capital's primary source of funds has been structured loan sale
transactions. PMC Capital generated net proceeds of $37.9 million, $44.5 million
and $24.7 million from the completion of its 2002, 2001 and 2000 structured loan
sale transactions, respectively. It is anticipated that its primary source of
working capital during 2003 will be a structured loan sale transaction. PMC
Capital expected to complete this structured loan sale transaction during the
first half of 2003. While PMC Capital believes it could have completed a
transaction during the second quarter of 2003, the terms of the transactions
available in the market were not considered favorable to it (i.e., the
transaction size did not reflect the value of the transaction). The market for
the type of asset-backed securities that PMC Capital originates was relatively
inefficient during the first half of 2003 as a result of the sluggishness of the
economy, geopolitical uncertainty and the impact of the ongoing conflict in the
Middle East.
PMC Capital anticipates co-securitizing with PMC Commercial
approximately $57.6 million of its variable-rate loans receivable which is
expected to be completed in September 2003, unless unforeseen delays are
encountered. Changes in market conditions may have an impact on the timing of
completion of this transaction. While PMC Capital has been successful in
completing its past structured loan transactions in a timely manner, due to the
risky nature of these transactions and the many factors which could cause PMC
Capital to delay or postpone a transaction, there can be no assurance of a
successful outcome. See " -- Economic Factors - Asset-Backed Structured Loan
Sale Transaction Market."
DEBT
For PMC Capital's short-term working capital needs, it has a revolving
credit facility. The aggregate amount outstanding pursuant to this facility
cannot exceed $15 million through the earlier of the closing of PMC Capital's
next structured loan sale transaction or October 28, 2003, and $10 million
thereafter. When the revolving credit facility reverts to $10 million, PMC
Capital will also have a guidance line facility of $5 million, subject to bank
approval. Advances pursuant to the credit facility bear interest at PMC
Capital's option at either the lender's prime rate less 50 basis points or LIBOR
plus 175 basis points. The credit facility requires that PMC Capital meet
certain covenants (terms as defined in the agreement), the most restrictive of
which provides that (i) the ratio of net charge-offs to net loans receivable may
not exceed 2%, (ii) the ratio of assets to debt may not fall below 110% for PMC
Capital and 135% including its consolidated subsidiaries and (iii) the problem
loans percentage cannot exceed 10% of PMC Capital's serviced loan portfolio. At
June 30, 2003, PMC Capital was in compliance with all covenants of this
facility. As of June 30, 2003, PMC Capital had approximately $6.3 million
outstanding under this facility with interest based primarily on LIBOR. The
facility matures in May 2004.
PMC Capital has $40.0 million of notes payable which requires it to
meet certain covenants, the most restrictive of which require (i) that net loans
receivable exceed 150% of funded debt, (ii) loan losses for any twelve-month
period must not exceed 3% of net loans receivable and (iii) PMC Capital's
consolidated earnings plus interest expense must exceed 150% of interest
expense. At June 30, 2003, PMC Capital was in compliance with all of the
covenants of these notes.
203
Included in notes payable are $5.0 million with an interest rate of
8.60% that matured and was repaid in July 2003 through an advance on its
revolving credit facility.
At June 30, 2003, PMC Capital had an outstanding commitment from the
SBA to provide up to $12.2 million ($4.2 million expiring September 2003, $1.0
million expiring September 2004 and $7.0 million expiring September 2007) in
additional SBA debentures. PMC Capital currently anticipates utilizing $5.2
million of these commitments during the third quarter of 2003, subject to SBA
approval.
USES OF FUNDS
General
PMC Capital's primary use of funds is to originate loans to small
businesses in the limited service hospitality industry. PMC Capital also uses
funds primarily for payment of dividends to shareholders, principal payments on
borrowings, interest and salaries and other general and administrative expenses.
As a RIC, pursuant to the Internal Revenue Code, PMC Capital is
required to pay out substantially all of its net investment company taxable
income to its common shareholders. See " -- Dividends."
Loan Originations
At June 30, 2003, commitments to originate loans were approximately
$20.9 million. PMC Capital anticipates that the loan origination volume (which
averaged approximately $11.5 million per quarter during 2002) will range from
$12 million to $20 million during the second half of 2003. As discussed above,
these commitments will be funded primarily through (i) structured loan
transactions, (ii) advances under the revolving credit facility and guidance
line facility or (iii) issuance of SBA debentures.
At December 31, 2002, commitments to originate loans of approximately
$29.4 million were greater than commitments of $19.5 million at December 31,
2001. The increase in outstanding commitments was primarily the result of
borrower acceptance of PMC Capital's LIBOR-based lending program. See " --
Economic Factors - Loan Origination Trend."
Impact of Inflation
To the extent PMC Capital originates fixed-rate loans while it borrows
funds at variable rates, PMC Capital would have an interest rate mismatch. In an
inflationary environment, if variable-rates were to rise significantly and PMC
Capital was originating fixed-rate loans, its net interest margin would be
reduced. Currently, PMC Capital is primarily originating variable-rate loans and
$31.3 million of its debt has variable rates of interest; therefore, PMC Capital
does not believe inflation will have a significant impact on it in the near
future. To the extent costs of operations rise while the economy prevents a
matching rise in revenue rates (i.e., room rates, menu prices, gasoline prices,
etc.), PMC Capital's borrowers would be negatively impacted and valuation losses
could result. Accordingly, PMC Capital's borrowers can be impacted by inflation.
In addition, in an inflationary environment PMC Capital could experience
pressure to increase its income and dividend yield to maintain its stock price.
204
SUMMARIZED CONTRACTUAL OBLIGATIONS, COMMITMENTS AND CONTINGENCIES
PMC Capital's contractual obligations at June 30, 2003 are summarized
as follows:
Payments Due by Period
-----------------------------------------------------
Less than 1 to 3 4 to 5 After 5
Contractual Obligations Total 1 year years years years
----------------------------------------------- --------- --------- --------- --------- ---------
(In thousands)
Notes and debentures payable .................. $ 54,310 $ 10,000 $ 27,000 $ 10,000 $ 7,310
Revolving credit facility ..................... 6,250 6,250 -- -- --
Cumulative preferred stock of subsidiary (1) .. 4,000 -- -- -- 4,000
Operating leases (2) .......................... 166 166 -- -- --
Employment agreements (3) ..................... 2,116 1,182 934 -- --
--------- --------- --------- --------- ---------
Total contractual cash obligations ............ $ 66,842 $ 17,598 $ 27,934 $ 10,000 $ 11,310
========= ========= ========= ========= =========
------------------
(1) The 4% preferred stock of PMC Capital's subsidiary was issued in 1994 ($2.0
million) and 1995 ($2.0 million) and must be redeemed at par no later than
15 years from the date of issuance.
(2) Represents future minimum lease payments under PMC Capital's lease for
office space.
(3) PMC Capital has employment agreements with certain of its officers.
PMC Capital's commitments at June 30, 2003 are summarized as follows:
Amount of Commitment Expiration Per Period
-----------------------------------------------------
Total
Amounts Less than 1 to 3 4 to 5 After 5
Other Commitments Committed 1 year years years years
----------------------------------------------- --------- --------- --------- --------- ---------
(In thousands)
Indemnification (1)............................ $ -- $ -- $ -- $ -- $ --
Environmental (2).............................. -- -- -- -- --
Other commitments (3).......................... 20,879 20,879 -- -- --
--------- --------- --------- --------- ---------
Total commitments............................ $ 20,879 $ 20,879 $ -- $ -- $ --
========= ========= ========= ========= =========
------------------
(1) Represents PMC Capital's cross indemnification agreements with PMC
Commercial related to the SPEs created in conjunction with its structured
loan sale transactions completed in 2002, 2001 and 2000 with a maximum
exposure at June 30, 2003 of $32.8 million. PMC Capital has valued its
obligations pursuant to these cross indemnification agreements at zero.
(2) PMC Funding, PMC Capital's non-consolidated, non-investment company act
subsidiary, has recorded a liability of approximately $250,000 for the
estimated remaining costs to remediate an environmental obligation related
to an asset acquired through liquidation and subsequently sold during 1999
by PMC Funding. PMC Capital cannot currently estimate when or if the
obligation may be required to be paid. There can be no assurance of the
accuracy of this estimate.
(3) Represents PMC Capital's loan commitments outstanding.
205
The following summarizes PMC Capital's contractual obligations at
December 31, 2002:
Payments Due by Period
-----------------------------------------------------
Less than 1 to 3 4 to 5 After 5
Contractual Obligations Total 1 year years years years
----------------------------------------------- --------- --------- --------- --------- ---------
(In thousands)
Long-term debt (1)............................. $ 54,310 $ 5,000 $ 32,000 $ 10,000 $ 7,310
Preferred stock (2)............................ 4,000 -- -- -- 4,000
Operating leases (3)........................... 308 284 24 -- --
Employment agreements (4)...................... 2,707 1,182 1,525 -- --
--------- --------- --------- --------- ---------
Total contractual cash obligations........... $ 61,325 $ 6,466 $ 33,549 $ 10,000 $ 11,310
========= ========= ========= ========= =========
------------------
(1) In addition, PMC Capital has a $10 million revolving credit facility and a
$5 million guidance line facility. No amounts are outstanding under either
of these facilities as of December 31, 2002.
(2) The 4% preferred stock of PMC Capital's subsidiary was issued in 1994 ($2.0
million) and 1995 ($2.0 million) and must be redeemed at par no later than
15 years from the date of issuance.
(3) Represents future minimum lease payments under leases for office space.
(4) PMC Capital has employment agreements with certain of its officers.
PMC Capital's commitments at December 31, 2002 are summarized as
follows:
Amount of Commitment Expiration Per Period
-----------------------------------------------------
Total
Amounts Less than 1 to 3 4 to 5 After 5
Other Commitments Committed 1 year years years years
----------------------------------------------- --------- --------- --------- --------- ---------
(In thousands)
Indemnification (1)............................ $ -- $ -- $ -- $ -- $ --
Environmental (2).............................. -- -- -- -- --
Other commitments (3).......................... 29,427 29,427 -- -- --
--------- --------- --------- --------- ---------
Total commitments............................ $ 29,427 $ 29,427 $ -- $ -- $ --
========= ========= ========= ========= =========
------------------
(1) Represents cross indemnification agreements with PMC Commercial related to
the Joint Ventures with a maximum exposure at December 31, 2002 of $34.3
million as discussed in detail below. PMC Capital has valued these
indemnification agreements at zero.
(2) Represents a liability of $0.3 million reflected on the balance sheet of
PMC Funding, PMC Capital's non-consolidated, non-investment company
subsidiary. The liability represents the estimated remaining costs to
remediate an environmental obligation relating to an asset acquired through
liquidation and subsequently sold during 1999 by PMC Funding. PMC Capital
cannot currently estimate when or if the obligation may be required to be
paid. There can be no assurance of the accuracy of this estimate.
(3) Represents loan commitments outstanding.
PMC Capital and PMC Commercial have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the SPEs created in conjunction with structured loan sale transactions
completed in 2002, 2001 and 2000. See " -- Related Party Transactions - Cross
Indemnification Agreements."
When a structured loan sale transaction is completed, the transaction
documents that the SPE enters into contain Credit Enhancement Provisions that
govern the assets and the flow of funds in and out of the SPE formed as part of
the structured loan sale transaction. See " -- Related Party Transactions -
Credit Enhancement Provisions."
In the normal course of business, including the operation of assets
acquired in liquidation, PMC Capital is subject to various proceedings and
claims, the resolution of which will not, in management's opinion, have a
material adverse effect on consolidated financial position or results of
operations.
206
IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
FASB issued FIN 46 in January 2003. The primary objectives of FIN 46
are to provide guidance on the identification of entities for which control is
achieved through means other than voting rights, VIEs, and how to determine the
primary beneficiary. This new model for consolidation applies to an entity which
either (i) the equity investors, if any, do not have a controlling financial
interest or (ii) the equity investment at risk is insufficient to finance that
entity's activities without receiving additional subordinated financial support
from other parties. In addition, FIN 46 requires that both the primary
beneficiary and all other enterprises with a significant variable interest in a
VIE make additional disclosures. FIN 46 will not impact PMC Capital's
consolidated financial statements since it is not applicable to registered
investment companies or qualifying SPEs accounted for in accordance with SFAS
No. 140.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement
133 on Derivative Instruments and Hedging Activities." The statement, which is
effective for contracts entered into or modified after June 30, 2003 and hedging
relationships designated after June 30, 2003, amends and clarifies financial
accounting and reporting for derivative instruments embedded in other contracts
and for hedging activities under SFAS No. 133. The statement requires that
contracts with comparable characteristics be accounted for similarly.
Specifically, the statement (i) clarifies under what circumstances a contract
with an initial net investment meets the characteristic of a derivative, (ii)
clarifies when a derivative contains a financing component, (iii) amends the
definition of an underlying to conform it to FASB Interpretation No. 45 and (iv)
amends certain other related existing pronouncements. SFAS No. 149 will not
impact PMC Capital's consolidated financial statements since it does not have
derivatives.
In May 2003, SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity" was issued.
SFAS No. 150, is effective upon issuance for financial instruments entered into
or modified after May 31, 2003, and otherwise is effective at the beginning of
the first interim period beginning after June 15, 2003. The statement requires
that a financial instrument which falls within the scope of the statement to be
classified as a liability and initially measured at fair value. The following
financial instruments are required to be classified as liabilities: (i) shares
that are mandatorily redeemable, (ii) an obligation to repurchase the issuer's
equity shares or one indexed to such an obligation and that requires or may
require settlement by transferring assets and (iii) the embodiment of an
unconditional obligation that the issuer may or may not settle by issuing a
variable number of equity shares if, at inception, the monetary value of the
obligation is based on certain measurements defined in the statement. PMC
Capital will adopt SFAS No. 150 effective July 1, 2003. Upon adoption, the $4.0
million of 4% cumulative preferred stock of subsidiary with mandatory redemption
in 2009 and 2010 will be reclassified to a liability at an estimated value of
$3,350,000. Subsequent to adoption, the 4% cumulative preferred stock of
subsidiary will be accreted to redemption value using the interest method with
the resulting change included as a component of interest expense. In addition,
the preferred dividends of $160,000 per year will also be included as a
component of interest expense.
RELATED PARTY TRANSACTIONS
ADVISORY AGREEMENTS
PMC Capital's executive officers are also the executive officers of PMC
Commercial and three of PMC Capital directors or officers are members of the
board of trust managers of PMC Commercial. PMC Advisers provides investment
advisory services to PMC Commercial pursuant to the investment management
agreements. As the investment advisor for PMC Commercial, PMC Advisers has
earned $1.1 million, $2.3 million, $2.3 million and $2.2 million in advisory
fees during the six months ended June 30, 2003 and the years ended December 31,
2002, 2001 and 2000, respectively. Pursuant to the investment management
agreements entered into between PMC Commercial and PMC Advisers, fees of between
0.40% and 1.55%, annually, are charged by PMC Advisers based upon the average
principal outstanding of PMC Commercial's loans. In addition, the investment
management agreements include compensation to PMC Advisers for its assistance in
the issuance of PMC Commercial's debt and equity securities and the acquisition
by PMC Commercial of limited service hospitality properties.
Pursuant to the loan origination agreement, loans that are greater than
$1.3 million ($1.1 million prior to July 1, 2002) that meet PMC Commercial's
underwriting criteria are first presented to PMC Commercial for
207
funding. If PMC Commercial does not have available funds, PMC Capital may
originate those lending opportunities as long as they meet its lending criteria.
In the event the loan origination agreement is terminated or not renewed by PMC
Commercial (other than as a result of a material breach by PMC Advisers) or
terminated by PMC Advisers (as a result of a material breach by PMC Commercial),
PMC Capital would enter into a non-compete agreement for a period of seven years
from the termination date. A fee would be paid to PMC Advisers each year by PMC
Commercial in consideration of the non-compete agreement until the non-compete
agreement is terminated. Upon termination, the fee would be calculated as 1%
(less loan losses as a percentage of average invested assets) multiplied by the
average outstanding invested assets. The loan origination agreement is renewable
on an annual basis.
The Lease Supervision Agreement provides for (i) an annual fee of 0.70%
of the original cost of the hospitality properties to be paid to PMC Advisers
relating to leases entered into by PMC Commercial, (ii) a fee of $10,000 upon
the sale of each limited service hospitality property and (iii) an annual loan
origination fee equal to five basis points of loans funded for the first $20
million in loans and 2.5 basis points thereafter. In the event the Lease
Supervision Agreement is terminated or not renewed by PMC Commercial (other than
as a result of a material breach by PMC Advisers) or terminated by PMC Advisers
(as a result of a material breach by PMC Commercial), PMC Advisers would be
entitled to receive the Lease Supervision Fee for a period of five years from
the termination date. The Lease Supervision Agreement is renewable on an annual
basis.
CROSS INDEMNIFICATION AGREEMENTS
PMC Capital and PMC Commercial have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the Joint Ventures. To the extent that poor performance of the
Underperforming Company is pervasive enough to cause the Performing Company not
to receive cash flow that it otherwise would have received, then the
Underperforming Company must make the Performing Company whole. If the cash flow
reduction is considered to be temporary, then interest will be paid as
compensation to the Performing Company. In general, when a loan is liquidated,
it may cause a deferral of cash flow to the Performing Company and, as a result,
interest would be charged to the Underperforming Company until the cash flow
from the Joint Venture repays the Performing Company. As a result of the Credit
Enhancement Provisions described below, PMC Commercial had a cash flow deferral,
and PMC Capital paid compensation to PMC Commercial of less than $1,000. If the
reduction of cash flows is deemed permanent, (i.e., to the extent that the
Underperforming Company will not be able to satisfy the shortfall with the
assets it has contributed to the related structured loan sale transaction), the
reduction in cash flows must be paid to the Performing Company by the
Underperforming Company. At June 30, 2003 and December 31, 2002, the maximum
potential amount of future payments to PMC Commercial (undiscounted and without
consideration of any proceeds from the collateral underlying the loans
receivable) PMC Capital could be required to make under these cross
indemnification agreements was approximately $32.8 million and $34.3 million,
respectively, and the discounted amount was $22.7 million and $23.5 million,
respectively, which represents the estimated fair value of the retained
interests reflected on PMC Commercial's consolidated balance sheet for the Joint
Ventures. Upon completion of a joint securitization and on each subsequent
quarterly reporting date, PMC Capital management evaluates the need to recognize
a liability associated with these cross indemnification agreements. Based on PMC
Capital's present cash flow assumptions, including stress test analyses of
increasing the anticipated losses on each of the loan pools, it does not appear
that the loans receivable sold by PMC Capital will cause any permanent cash flow
reductions to PMC Commercial nor will the loans receivable sold by PMC
Commercial cause any permanent cash flow reductions to PMC Capital. Accordingly,
PMC Capital believes that the fair value of these cross indemnification
agreements at inception of the Joint Ventures and as of December 31, 2002 and
2001 was zero; thus, no liability was recorded. If the performance of PMC
Capital's sold loans receivable deteriorates, it may be necessary for PMC
Capital to perform under these cross indemnification agreements.
CREDIT ENHANCEMENT PROVISIONS
When PMC Capital's structured loan sale transactions were completed,
the transaction documents that the SPE entered into contained Credit Enhancement
Provisions that govern the assets and the flow of funds in and out of the SPE
formed as part of the structured loan sale transactions. The Credit Enhancement
Provisions include specified limits on the delinquency, default and loss rates
on loans receivable included in each SPE. If, at any measurement date, the
delinquency, default or loss rate with respect to any SPE were to exceed the
specified limits,
208
the Credit Enhancement Provisions would automatically increase the level of
credit enhancement requirements for that SPE. During the period in which the
specified delinquency, default or loss rate was exceeded, excess cash flow from
the SPE, if any, would be used to fund the increased credit enhancement levels
instead of being distributed to PMC Capital, which would delay or reduce PMC
Capital's distribution. As a result of PMC Capital Impaired Loans in the 2000
Joint Venture, a Credit Enhancement Provision was triggered in November 2002. As
a consequence, cash flows relating to this transaction were deferred and
utilized to fund the increased reserve requirements. The reserve requirement was
fully funded during the six months ended June 30, 2003.
OTHER TRANSACTIONS
Assets have been acquired by, transferred to, or leased to PMC
Capital's non-consolidated subsidiaries or secured by or transferred to its
SPEs: (i) to reduce liability exposure, (ii) to reduce the risk of
non-compliance with revenue requirements of the Internal Revenue Code or (iii)
if the acquisition was required by an SPE's transaction documents.
In October 2002, PMC Capital's affiliate, PMC Funding, acquired two
assisted care living facilities with an estimated fair value of approximately
$1.2 million for $101,000 in cash and the assumption of notes payable to PMC
Capital and First Western. As of December 31, 2002, the underlying loan
receivable held by PMC Capital related to these facilities was valued at
approximately $788,000 and PMC Capital classified the receivable from PMC
Funding as due from affiliate on its consolidated balance sheet (i.e., they were
not included as assets acquired in liquidation). PMC Funding operated one of the
two assisted care living facilities while the other facility was vacant. During
January 2003, PMC Funding sold the operating assisted care living facility for
$975,000. The proceeds were used to repay in full the mortgage held by PMC
Capital, including additional costs incurred prior to liquidation and accrued
interest. The remaining funds were used to repay a portion of the receivable due
to First Western and no gain or loss was recorded on the sale.
In January 2003, PMC Capital's non-investment company subsidiary, Asset
Holding, acquired a golf facility that was collateral for a loan receivable held
by PMC Capital. The property was valued at $1.4 million at June 30, 2003, based
on PMC Capital's estimate of the net proceeds expected from the sale of the
property and reduced for taxes, anticipated holding costs and selling costs.
Subsequent to June 30, 2003, PMC Capital received a $100,000 non-refundable
deposit in conjunction with the sale of this property.
In May 2003, a limited service hospitality property with an aggregate
estimated value of $1.5 million at June 30, 2003, was transferred from the 2000
Joint Venture to Asset Holding, LLC. PMC Capital is currently marketing this
property for sale.
PMC Capital's non-consolidated non-investment company subsidiaries have
incurred costs, primarily operating losses and capital expenditures, on their
assets acquired in liquidation, including operating losses. During the six
months ended June 30, 2003, PMC Capital's non-consolidated subsidiaries incurred
operating losses of approximately $57,000. These losses were recorded as
reductions in PMC Capital's equity in income of unconsolidated subsidiaries, net
and advisory fee income in its consolidated statements of operations. There can
be no assurance that PMC Capital will be able to sell these properties in the
near future; therefore, operating losses will likely continue and may be
substantial.
209
QUARTERLY RESULTS
Earnings per share on a quarterly basis for the last ten years were as
follows:
Quarter
-------- ----------------------------------------------
Total First Second Third Fourth
-------- ------- ------------ -------- -----------
1993............. $ 0.87 $ 0.18 $ 0.23 $ 0.25 $ 0.21
1994............. $ 1.12 $ 0.19 $ 0.23 $ 0.26 $ 0.44 (1)
1995............. $ 1.03 $ 0.23 $ 0.25 $ 0.27 $ 0.28
1996............. $ 1.18 $ 0.27 $ 0.30 $ 0.30 $ 0.31
1997............. $ 1.35 $ 0.29 $ 0.31 $ 0.30 $ 0.45 (1)
1998............. $ 1.16 $ 0.28 $ 0.28 $ 0.29 $ 0.31 (1)
1999............. $ 1.11 $ 0.23 $ 0.42 (1) $ 0.24 $ 0.22
2000............. $ 0.93 $ 0.22 $ 0.22 $ 0.20 $ 0.29 (1)
2001............. $ 0.87 $ 0.20 $ 0.38 (1) $ 0.15 $ 0.14
2002............. $ 0.48 $ 0.14 $ 0.20 (1) $ 0.04 $ 0.10
2003 (2)
-------------
(1) During these quarters PMC Capital sold portions of its loans receivable
which generated gains and increased its earnings per share.
(2) During the three months ended March 31, 2003 and the three months ended
June 30, 2003, earnings per share were $0.05 and $0.09, respectively.
DIVIDENDS
PMC Capital has historically paid dividends equal to at least 100% of
its investment company taxable income. There are certain timing differences
between book and tax income, most notably the recognition of income relating to
structured loan transactions. As a result of these timing differences and the
anticipation of cash flows from the SPEs, the payment and amount of dividends
does not necessarily coincide with earnings, and PMC Capital may have a
distribution of dividends in excess of net income. In addition, dividends paid
since PMC Capital became an investment company exceeded earnings and profits for
tax purposes. PMC Capital did not recognize any return of capital for dividend
reporting purposes during the year ended December 31, 2002. The computation of
return of capital provides for several timing differences, most notably relating
to the recognition of gain treatment on structured loan transactions.
During April, July and October 2002, PMC Capital paid quarterly
dividends of $0.16, $0.16 and $0.12 per share to common shareholders of record
on March 28, 2002, June 28, 2002 and September 30, 2002, respectively. On
January 13, 2003 and April 14, 2003, PMC Capital paid $0.12 per share in
dividends to common shareholders of record on December 31, 2002 and March 31,
2003. PMC Capital declared a $0.12 per share dividend to common shareholders of
record on June 30, 2003 which was paid on July 14, 2003. PMC Capital's board of
directors may amend the level of quarterly dividends as warranted by actual
and/or anticipated earnings.
On May 28, 2003, President Bush signed into law the Jobs and Growth Tax
Relief Reconciliation Act of 2003, which reduced the tax rate on both dividends
and long-term capital gains for most non-corporate taxpayers to 15% until 2008.
This reduced maximum tax rate generally does not apply to ordinary RIC
dividends, which continue to be subject to tax at the higher rates applicable to
ordinary income (a maximum rate of 35% under the new legislation). The new 15%
maximum tax rate, however, does apply to certain RIC distributions. This
legislation may cause shares in non-RIC corporations to be a more attractive
investment to individual investors than shares in RICs and may adversely affect
the market price of PMC Capital's common shares.
210
PMC CAPITAL QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
Since PMC Capital's balance sheet consists of items subject to interest
rate risk, it is subject to market risk associated with changes in interest
rates as described below. Although management believes that the analysis below
is indicative of PMC Capital's sensitivity to interest rate changes, it does not
adjust for potential changes in credit quality, size and composition of PMC
Capital's consolidated balance sheet and other business developments that could
affect its financial position and net income. Accordingly, no assurances can be
given that actual results would not differ materially from the potential outcome
simulated by these estimates.
LOANS RECEIVABLE
PMC Capital's variable-rate loans receivable are generally at spreads
over LIBOR ($63.5 million and $48.7 million at June 30, 2003 and December 31,
2002, respectively) or the prime rate ($19.9 million and $22.6 million at June
30, 2003 and December 31, 2002, respectively) consistent with the market.
Accordingly, increases or decreases in interest rates will generally not have a
material impact on the valuation of PMC Capital's variable-rate loans
receivable.
At June 30, 2003 and December 31, 2002, PMC Capital had $83.4 million
and $71.3 million of variable-rate loans receivable, respectively and $31.3
million and $25.0 million of variable-rate debt at June 30, 2003 and December
31, 2002, respectively. PMC Capital has interest rate risk on the differential
between its variable-rate loans receivable outstanding and its variable-rate
debt ($52.1 million and $46.3 million at June 30, 2003 and December 31, 2002,
respectively). To the extent variable rates continue to decrease PMC Capital
would have a decrease in interest income and interest expense. Since PMC
Capital's variable-rate loans receivable exceeds its variable-rate debt,
reductions in variable interest rates will negatively impact its results of
operations.
The sensitivity of PMC Capital's variable-rate loans receivable and
debt to changes in interest rates is regularly monitored and analyzed by
measuring the characteristics of its assets and liabilities. PMC Capital
assesses interest rate risk in terms of the potential effect on interest income
net of interest expense and the value of net assets in an effort to ensure that
PMC Capital is insulated from any significant adverse effects from changes in
interest rates. Based on its analysis of the sensitivity of interest income net
of interest expense at June 30, 2003, if the consolidated balance sheet were to
remain constant and no actions were taken to alter the existing interest rate
sensitivity, each hypothetical 100 basis point reduction in interest rates would
reduce net investment income by approximately $521,000 on an annual basis. In
comparison, based on PMC Capital's analysis of the sensitivity of interest
income net of interest expense at December 31, 2002, if the consolidated balance
sheet were to remain constant and no actions were taken to alter the existing
interest rate sensitivity, each hypothetical 100 basis point reduction in
interest rates would reduce net investment income by approximately $463,000.
Changes in market interest rates do not have an immediate impact on
interest income with regard to fixed-rate loans receivable, though they are
considered by PMC Capital's board of directors. PMC Capital's interest rate risk
on PMC Capital's fixed-rate loans receivable is primarily related to prepayments
and maturities. The average maturity of PMC Capital's loans receivable is less
than their average contractual terms because of prepayments. The average life of
mortgage loans tends to increase when the current mortgage loan rates are
substantially higher than rates on existing mortgage loans and, conversely,
decrease when the current mortgage loan rates are substantially lower than rates
on existing mortgage loans (due to refinancings of fixed-rate loans).
At June 30, 2003 and December 31, 2002, PMC Capital had $11.6 million
and $15.9 million of fixed-rate loans receivable, respectively. The fair value
of PMC Capital's fixed-rate loans receivable is dependent upon several factors
including changes in interest rates and the market for the types of loans that
PMC Capital has originated.
NOTES AND DEBENTURES PAYABLE AND REVOLVING CREDIT FACILITY
As of June 30, 2003 and December 31, 2002 and 2001, approximately $29.3
million, $29.3 million and $51.3 million, respectively, of PMC Capital's
consolidated debt had fixed rates of interest and is therefore not
211
affected by changes in interest rates. Currently, market rates of interest are
below the rates PMC Capital is obligated to pay on the majority of its
fixed-rate debt.
The following tables present the principal amounts and weighted average
interest rates and fair values required by year of expected maturity to evaluate
the expected cash flows and sensitivity to interest rate changes on PMC
Capital's outstanding debt at June 30, 2003 and December 31, 2002 and 2001.
Market risk disclosures related to PMC Capital's outstanding debt at
June 30, 2003 consisted of the following:
Twelve Month Period Ending June 30,
---------------------------------------------------
Carrying Fair
2004 2005 2006 2007 2008 Thereafter Value Value (1)
--------- -------- --------- --------- -------- ---------- -------- ---------
(In thousands)
Fixed-rate debt (2).... $ 5,000 $ -- $ 17,000 $ -- $ -- $ 7,310 $ 29,310 $ 29,839
Variable-rate debt (3) 11,250 10,000 -- 10,000 -- -- 31,250 31,250
(primarily
LIBOR-based)
--------- -------- --------- --------- -------- ---------- -------- ---------
Totals................. $ 16,250 $ 10,000 $ 17,000 $ 10,000 $ -- $ 7,310 $ 60,560 $ 61,089
========= ======== ========= ========= ======== ========== ======== =========
------------
(1) The estimated fair value is based on a present value calculation based on
prices of the same or similar instruments after considering risk, current
interest rates and remaining maturities.
(2) The weighted average interest rate of PMC Capital's fixed-rate debt at June
30, 2003 was 7.8%.
(3) The weighted average interest rate of PMC Capital's variable-rate debt at
June 30, 2003 was 2.7%.
Market risk disclosures related to PMC Capital's outstanding debt at
December 31, 2002 consisted of the following:
Year Ending December 31,
---------------------------------------------------
Carrying Fair
2003 2004 2005 2006 2007 Thereafter Value Value (1)
--------- -------- --------- --------- -------- ---------- -------- ---------
(In thousands)
Fixed-rate debt (2).... $ 5,000 $ -- $ 17,000 $ -- $ -- $ 7,310 $ 29,310 $ 29,915
Variable-rate debt (3). -- 15,000 -- 10,000 -- -- 25,000 25,000
--------- -------- --------- --------- -------- ---------- -------- ---------
Totals................. $ 5,000 $ 15,000 $ 17,000 $ 10,000 $ -- $ 7,310 $ 54,310 $ 54,915
========= ======== ========= ========= ======== ========== ======== =========
------------
(1) The estimated fair value is based on a present value calculation based on
prices of the same or similar instruments after considering risk, current
interest rates and remaining maturities.
(2) The weighted average interest rate of PMC Capital's fixed-rate debt at
December 31, 2002 was 7.8%.
(3) The weighted average interest rate of PMC Capital's variable-rate debt at
December 31, 2002 was 3.1%.
Market risk disclosures related to PMC Capital's outstanding debt at
December 31, 2001 consisted of the following:
Year Ended December 31,
---------------------------------------------------
Carrying Fair
2002 2003 2004 2005 2006 Thereafter Value Value (1)
--------- -------- --------- --------- -------- ---------- -------- ---------
(In thousands)
Fixed rate debt (2).... $ 5,510 $ 5,000 $ 6,000 $ 25,000 $ 2,490 $ 7,310 $ 51,310 $ 50,999
Variable rate debt
(LIBOR-based)(3)..... -- -- 15,000 -- 10,000 -- $ 25,000 25,000
--------- -------- --------- --------- -------- ---------- -------- ---------
Totals................. $ 5,510 $ 5,000 $ 21,000 $ 25,000 $ 12,490 $ 7,310 $ 76,310 $ 75,999
========= ======== ========= ========= ======== ========== ======== =========
------------
(1) The estimated fair value is based on a present value calculation based on
prices of the same or similar instruments after considering risk, current
interest rates and remaining maturities.
(2) The weighted average interest rate of fixed-rate debt at December 31, 2001
was 7.6%.
(3) The weighted average interest rate of variable-rate debt at December 31,
2001 was 3.6%.
212
PMC Capital's variable-rate debt ($31.3 million at June 30, 2003 and
$25 million at both December 31, 2002 and 2001) is based on LIBOR and thus
subject to adverse changes in market interest rates. Assuming there were no
increases or decreases in PMC Capital's variable-rate debt outstanding at
December 31, 2002 and 2001, each hypothetical 100 basis point increase in
interest rates would increase interest expense and reduce net investment income
by approximately $250,000.
RETAINED INTERESTS
PMC Capital has an investment in retained interests which is valued by
the PMC Capital board of directors based on various factors including estimates
of appropriate market discount rates. Changes in discount rates used in
determining the fair value of the retained interests will have an impact on the
recorded value and future earnings. Assuming all other factors (i.e.,
prepayments, losses, etc.) remain unchanged, if discount rates were 100 basis
points or 200 basis points higher than rates estimated at June 30, 2003, the
value of PMC Capital's retained interests and net income would decrease by
approximately $1.5 million and $2.9 million, respectively. Assuming all other
factors (i.e., prepayments, losses, etc.) remain unchanged, if discount rates
were 100 basis points or 200 basis points higher than rates estimated at
December 31, 2002, the value of PMC Capital's retained interests and net income
would decrease by approximately $1.6 million and $3.0 million, respectively.
213
PMC CAPITAL MANAGEMENT
BOARD OF DIRECTORS OF PMC CAPITAL
PMC Capital's articles of incorporation currently provide for a board
of directors of not less than five and no more than twenty directors, as fixed
from time to time, by the board of directors. Pursuant to the articles of
incorporation, the directors are divided into three classes, with each class
serving a three-year term and one class being elected by the shareholders
annually. The board of directors currently consists of seven members divided
among the three classes of directors. At the PMC Capital annual meeting, holders
of PMC Capital's common stock will consider and elect two directors.
Set forth below is the principal occupation of, and certain other
information with respect to, each director of PMC Capital who is continuing in
office following the annual meeting.
MARTHA R. GREENBERG* - Dr. Greenberg, 51, has practiced optometry for
29 years in Russellville, Alabama and currently serves on the Board of Trustees
of Southern College of Optometry. Dr. Greenberg has been a trust manager of PMC
Commercial since May 1996 and a director of PMC Capital since 1984. Dr.
Greenberg is not related to Roy H. Greenberg, but is the sister of Lance B.
Rosemore and Andrew S. Rosemore and the daughter of Fredric M. Rosemore.
THEODORE J. SAMUEL - Mr. Samuel, 54, has been self employed in the real
estate lending and venture capital investment business since 1995. From 1990
through 1995, Mr. Samuel was Chairman and Chief Executive Officer of Niagara
Asset Management Corporation and Niagara Investment Corporation, subsidiaries of
KeyBank of Cleveland, Ohio. The Niagara corporations managed the failed Goldome
Bank subsidiaries and non-performing assets totaling over two billion dollars.
From 1989 to 1990, Mr. Samuel was an executive vice president of the Special
Asset Bank for NationsBank, in charge of the commercial real estate loan
division totaling over three billion dollars. Previous experience with
NationsBank included positions as senior vice president nationwide real estate
credit and management of subsidiary and excess asset sales. He has been a
director of PMC Capital since 2002.
IRVIN M. BORISH - Dr. Borish, 90, served as Benedict (Distinguished)
Professor of Optometry at the University of Houston after retiring from Indiana
University, where he holds the status of Professor Emeritus. He operated a
private practice of optometry for over thirty years. He is the author of a major
text in his field, holds five patents in contact lenses and was named
Optometrist of the Century by Review of Optometry magazine. He has been a
director of PMC Capital since 1989.
THOMAS HAMILL - Mr. Hamill, 49, is a director and owner of Midlands
Management Corporation, an insurance and reinsurance service firm. From November
1996 through 2001, Mr. Hamill was Senior Vice President of JLT Re Solutions,
Inc., the U.S. reinsurance subsidiary of Jardine Lloyd Thompson Group plc. From
December 1989 through June 1996, Mr. Hamill was President of Caliban Holdings,
Ltd ("Caliban") and its subsidiaries, including Belvedere Insurance Company Ltd.
("Belvedere"). From September 1986 through 1989, Mr. Hamill was Vice President
of Belvedere. Mr. Hamill has been a director of PMC Capital since 1992, when he
was elected pursuant to an agreement between PMC Capital and Belvedere in April
1991 whereby the directors of PMC Capital agreed at that time to support a
representative of Caliban in his candidacy for director in exchange for
Belvedere's purchases of 185,000 shares of Common Stock.
BARRY A. IMBER - Mr. Imber, 56, has been a principal of Imber and
Company, Certified Public Accountants, or its predecessor, since 1982. Imber and
Company was the independent certified public accountant for PMC Capital and its
subsidiaries for the years ended December 31, 1988 through December 31, 1991.
Mr. Imber was a trust manager of PMC Commercial from September 1993 to March
1995 and a director of PMC Capital since March 1995.
---------------
* Lance B. Rosemore, Andrew S. Rosemore and Martha R. Greenberg are siblings
and are also the children of Fredric M. Rosemore. Consequently, such
persons may be deemed to be "interested persons" as defined under the 1940
Act.
214
ELECTION OF PMC CAPITAL'S DIRECTORS
Set forth below is the principal occupation of, and certain other
information with respect to, each of the nominees for election as a director of
PMC Capital, to hold office until the 2006 annual meeting of shareholders and,
in each case until their respective successors have been elected and qualified.
The board of directors of PMC Capital recommends that the PMC Capital
shareholders vote for the election of the two nominees to PMC Capital's board of
directors.
FREDRIC M. ROSEMORE* - Dr. Rosemore, 80, has been the Chairman of the
Board and Treasurer of PMC Capital since 1983. From 1990 to 1992, Dr. Rosemore
was a Vice President of PMC Capital and from 1979 to 1990, Dr. Rosemore was the
President of PMC Capital. For many years he was engaged in diverse businesses,
including the construction of apartment complexes, factory buildings, and
numerous commercial retail establishments. From 1948 to 1980, Dr. Rosemore
practiced optometry. He has been a director of PMC Capital since 1983.
LANCE B. ROSEMORE - Mr. Rosemore, 54, has been Chief Executive Officer
of PMC Capital since May 1992, President of PMC Capital since 1990 and Secretary
since 1983. From 1990 to May 1992, Mr. Rosemore was Chief Operating Officer of
PMC Capital. Previously, Mr. Rosemore owned a consumer finance company and was
employed by C.I.T. Financial and United Carolina Bank Shares. Mr. Rosemore has
been an executive officer and trust manager of PMC Commercial since June 1993
and a director of PMC Capital since 1983.
NOMINATIONS FOR ELECTION TO THE BOARD OF DIRECTORS OF PMC CAPITAL
PMC Capital does not have a nominating committee. The board of
directors considers persons who will be eligible or desirable for membership on
the board of directors. Names are solicited from all directors and an effort is
made to obtain information with respect to all such potential nominees for the
position of director. Shareholders wishing to recommend candidates for
consideration by the board of directors can do so by writing to the secretary of
PMC Capital at its offices in Dallas, Texas.
MEETINGS AND COMMITTEES OF PMC CAPITAL'S BOARD OF DIRECTORS
PMC Capital's board of directors held four regular and one special
(including telephonic conferences) meeting during 2002. Each person who was a
director for the entire year attended or participated in at least 75% of all
regular meetings held by the board of directors and all committees on which such
director served during such year.
The audit committee of the board of directors is currently comprised of
Thomas Hamill, Barry A. Imber and Theodore J. Samuel. The principal functions of
the audit committee are to oversee the financial reporting policies, the
accounting issues, the portfolio valuation and the entire audit function of PMC
Capital, including recommending independent accountants to the board of
directors. The audit committee reports its activities to the board of directors.
The audit committee holds meetings at such times as may be required for the
performance of its functions and, during the year ended December 31, 2002, held
four meetings.
There is no compensation committee; however, the board of directors as
a whole performs the functions of such committee. PMC Capital has appointed an
independent directors committee currently consisting of Irvin M. Borish, Thomas
Hamill, Barry A. Imber and Theodore J. Samuel, each of whom is otherwise
disinterested with respect to PMC Capital. The independent directors committee,
which held one meeting during 2002, reviews all proposed affiliated transactions
to ensure that such transactions do not violate the appropriate provisions of
the 1940 Act.
--------------
* Lance B. Rosemore, Andrew S. Rosemore and Martha R. Greenberg are siblings
and are also the children of Fredric M. Rosemore. Consequently, such
persons may be deemed to be "interested persons" as defined under the 1940
Act.
215
EXECUTIVE OFFICERS OF PMC CAPITAL
The following table sets forth the names and ages of the executive
officers of PMC Capital (each of whom serves at the pleasure of the board of
directors), all positions held with PMC Capital by each individual, and a
description of the business experience of each individual for at least the past
five years.
NAME AGE TITLE
---- --- -----
Fredric M. Rosemore 80 Chairman of the Board and Treasurer
Lance B. Rosemore 54 President, Chief Executive Officer and Secretary
Andrew S. Rosemore 56 Executive Vice President and Chief Operating Officer
Jan F. Salit 53 Executive Vice President, Chief Investment Officer and Assistant Secretary
Barry N. Berlin 43 Chief Financial Officer
Mary J. Brownmiller 48 Senior Vice President
Cheryl T. Murray 36 General Counsel
For a description of the business experience of Fredric M. Rosemore and
Lance B. Rosemore, see "--Election of PMC Capital's Directors" above.
ANDREW S. ROSEMORE has been Chief Operating Officer of PMC Capital
since May 1992 and Executive Vice President of PMC Capital since 1990. From 1988
to May 1990, Dr. Rosemore was Vice President of PMC Capital. From 1973 to 1988,
Dr. Rosemore owned and managed commercial rental properties, apartment complexes
and factory buildings. Since 1972, Dr. Rosemore has been a licensed physician in
Alabama. Dr. Rosemore has been a trust manager of PMC Commercial since June 1993
and Chairman of the Board of PMC Commercial since January 1994 and was a
director of PMC Capital from 1989 until August 1999.
JAN F. SALIT has been Executive Vice President of PMC Capital since May
1993 and Chief Investment Officer since March 1994. Mr. Salit has also been
Executive Vice President of PMC Commercial since June 1993 and Chief Investment
Officer and Assistant Secretary since January 1994. From 1979 to 1992, Mr. Salit
was employed by Glenfed Financial Corporation and its predecessor company, Armco
Financial Corporation, a commercial finance company, holding various positions
including Executive Vice President and Chief Financial Officer.
BARRY N. BERLIN has been Chief Financial Officer of PMC Capital and
Director of Compliance since November 1992. Mr. Berlin has also been Chief
Financial Officer of PMC Commercial since June 1993. From August 1986 to
November 1992, he was an audit manager with Imber & Company, Certified Public
Accountants. Mr. Berlin is a certified public accountant.
MARY J. BROWNMILLER has been Senior Vice President of PMC Capital since
1992 and Vice President of PMC Capital since November 1989. Ms. Brownmiller has
also been Senior Vice President of PMC Commercial since June 1993. From 1987 to
1989, she was Vice President for Independence Mortgage, Inc., a SBA lender. From
1976 to 1987, Ms. Brownmiller was employed by the SBA, holding various positions
including senior loan officer. Ms. Brownmiller is a certified public accountant.
CHERYL T. MURRAY has been General Counsel of PMC Capital since March
1994. Ms. Murray has also been General Counsel of PMC Commercial since March
1994. From 1992 to 1994 she was associated with the law firm of Johnson & Gibbs,
P.C. and practiced in the financial services department.
COMPENSATION OF DIRECTORS
Non-employee directors are compensated $1,000 for each meeting they
attend and are provided an annual retainer of $5,000 paid quarterly, of which
$2,500 was paid to each such director in 2002. PMC Capital reimburses the
directors for the travel expenses incurred by them in connection with such
meetings.
216
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
PMC Capital has no Compensation Committee. Lance B. Rosemore
participated in deliberations of PMC Capital's Board of Directors concerning
executive compensation for the year ended December 31, 2002.
MANAGEMENT COMPENSATION
The following table sets forth the aggregate amount of compensation
paid by PMC Capital during 2002 to each of the three highest paid executive
officers and to all directors of PMC Capital during fiscal year 2002.
SUMMARY COMPENSATION TABLE
PROFIT SHARING TOTAL PROFIT TOTAL
CONTRIBUTION SHARING COMPENSATION
AGGREGATE ACCRUED BENEFITS PAID BY PMC
CAPACITIES IN WHICH COMPENSATION DURING LAST ACCRUED TO CAPITAL TO
NAME OF PERSON RENUMERATION RECEIVED (1) FISCAL YEAR (2) DATE DIRECTORS
----------------------- --------------------- ---------------- --------------- ------------ ------------
Fredric M. Rosemore Chairman of Board $ 87,500 $ 5,724 $ 232,196
Lance B. Rosemore President, Chief 383,600 15,441 288,303
Executive Officer
Andrew S. Rosemore Executive Vice 356,100 15,441 288,303
President, Chief
Operating Officer
Jan F. Salit Executive Vice 240,055 15,441 138,527
President, Chief
Investment Officer
Irvin M. Borish Director $ 6,250
Thomas Hamill Director 10,500
Barry A. Imber Director 9,750
Martha R. Greenberg Director 6,250
Theodore J. Samuel Director 8,500
------------------
(1) PMC Capital has determined that the amount of perquisites and other
personal benefits paid to each of the executive officers listed in the
compensation table does not exceed the lesser of $50,000 or 10% of each
such person's annual salary and bonus reported in such table and that the
aggregate amount of perquisites and other personal benefits paid to all
executive officers and directors as a group does not exceed 10% of all such
person's annual salary and bonus. Accordingly, none of such perquisites and
other personal benefits is included in the above table.
(2) The participants in PMC Capital's profit sharing plan (the "Plan") consist
of all employees who are at least 20 1/2 years old, have been employed by
PMC Capital for six months and are employed at the end of each fiscal year
or have died, become totally disabled or retired after age 65 during such
fiscal year. The Plan is intended to qualify under Section 401(a) of the
Internal Revenue Code. No monies were withdrawn from the Plan during 2002
for the benefit of Fredric M. Rosemore, Lance B. Rosemore or Andrew S.
Rosemore. Lance B. Rosemore and Andrew S. Rosemore are co-administrators of
the Plan.
OPTION GRANTS
The following table sets forth information regarding stock options
granted to each of the executive officers under PMC Capital's 1997 Employee
Share Option Plan in the fiscal year ended December 31, 2002.
POTENTIAL REALIZABLE
VALUE AT ASSUMED ANNUAL
NUMBER OF % OF TOTAL RATES OF SHARE PRICE
SECURITIES OPTIONS APPRECIATION FOR OPTION
UNDERLYING GRANTED TO EXERCISE FINAL TERM
OPTIONS EMPLOYEES IN PRICE EXERCISE -----------------------
NAME GRANTED (#) FISCAL YEAR ($/SHARE) DATE (5%) (10%)
----------------------------- ------------ ------------ --------- --------- ------ ---------
Lance B. Rosemore 9,000 15.4% $6.64 6/13/07 16,511 36,484
Andrew S. Rosemore 9,000 15.4% 6.64 6/13/07 16,511 36,484
Jan F. Salit 8,000 13.7% 6.64 6/13/07 14,676 32,430
Barry N. Berlin 8,000 13.7% 6.64 6/13/07 14,676 32,430
Mary J. Brownmiller 1,500 2.6% 6.64 6/13/07 2,752 6,081
Cheryl T. Murray 4,500 7.7% 6.64 6/13/07 8,255 18,242
217
OPTION EXERCISES AND YEAR END OPTION VALUES
The following table sets forth, for each of the executive officers,
information regarding exercise of stock options during the fiscal year ended
December 31, 2002 and the value of unexercised stock options as of December 31,
2002. The closing price for the common shares of PMC Capital, as reported by the
American Stock Exchange, on December 31, 2002 (the last trading day of the
fiscal year) was $4.21.
NUMBER OF SECURITIES
UNDERLYING UNEXERCISED VALUE OF UNEXERCISED
OPTIONS AT DECEMBER 31, IN-THE-MONEY OPTIONS AT
SHARES 2002 DECEMBER 31, 2002
ACQUIRED ON VALUE REALIZED (EXERCISABLE/UNEXERCISABLE) (EXERCISABLE/UNEXERCISABLE)
NAME EXERCISE (#) ($) (#) ($)
---------------------------- ------------ -------------- --------------------------- ---------------------------
Fredric M. Rosemore -- -- 12,500 (e)/-(u) - (e)/-(u)
Lance B. Rosemore -- -- 38,000 (e)/-(u) - (e)/-(u)
Andrew S. Rosemore -- -- 30,000 (e)/-(u) - (e)/-(u)
Jan F. Salit -- -- 33,300 (e)/-(u) - (e)/-(u)
Barry N. Berlin -- -- 33,500 (e)/-(u) - (e)/-(u)
Mary J. Brownmiller -- -- 13,000 (e)/-(u) - (e)/-(u)
Cheryl T. Murray -- -- 19,500 (e)/-(u) - (e)/-(u)
(u) Options are not exercisable within 60 days of the date hereof.
(e) Options are currently exercisable.
EMPLOYMENT AGREEMENTS
PMC Capital entered into employment agreements with Lance B. Rosemore,
Andrew S. Rosemore, Jan F. Salit, Barry N. Berlin, Mary J. Brownmiller and
Cheryl T. Murray. Each of these employment agreements is substantially similar
and provides for at least annual reviews by the board of directors of the
salaries contained therein, with a minimum salary equal to the executive's
compensation on June 1, 1998. In addition, the board of directors may determine,
in its discretion, to award bonuses to each of the foregoing persons based on
PMC Capital's performance. Each of the employment agreements also provides that
if the executive's job responsibilities are substantially modified or
substantial changes are made to the executive's working conditions, the
executive could resign and be entitled to be paid by PMC Capital an amount equal
to 2.99 times the average of the last three years annual compensation paid to
the executive. Each of the employment agreements expires on July 31, 2004 or
July 31, 2005.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
To PMC Capital's knowledge, based solely on the review of the copies of
such reports filed with the SEC furnished to PMC Capital and written
representations of its incumbent directors and officers that no other reports
were required, during the fiscal year ended December 31, 2002, all Section 16(a)
filing requirements were complied with.
218
PMC CAPITAL SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT
On August 22, 2003, PMC Capital had outstanding 11,853,516 shares of
common stock. The table below lists, as of the same date, certain information
regarding the beneficial ownership of PMC Capital's common stock by all persons
who are known by PMC Capital to be the beneficial owners of more than 5% of the
common stock, the directors, the executive officers and by all directors,
executive officers and principal shareholders as a group. The address for each
director and executive officer is 18111 Preston Road, Suite 600, Dallas, Texas
75252.
Amount and Nature of
Names of Beneficial Owners Beneficial Ownership Percent of Ownership
------------------------------------------------ -------------------- --------------------
Irvin M. Borish (1) 120,000 1.0%
Martha R. Greenberg *(2) 659,129 5.6%
Thomas Hamill 10,693 **
Barry A. Imber 23,963 **
Andrew S. Rosemore *(3) 810,967 6.8%
Fredric M. Rosemore *(4) 510,495 4.3%
Lance B. Rosemore *(5) 279,685 2.4%
Theodore J. Samuel -- --
Jan F. Salit (6) 29,979 **
Barry N. Berlin (7) 29,525 **
Mary J. Brownmiller (8) 12,110 **
Cheryl T. Murray (9) 16,700 **
Directors, executive officers and principal 2,503,246 21.1%
shareholders as a group
(12 persons)
----------------------
(1) Includes 120,000 shares held by a partnership of which Irvin M. Borish is
the general partner.
(2) Includes 24,740 shares in which her children have a beneficial interest,
31,400 shares held in an individual retirement account, 145,000 shares held
jointly with her husband, 243,089 shares held in a pension trust, 5,240
shares held by a partnership for the benefit of Martha R. Greenberg, and
25,300 shares held in trust for the benefit of Martha R. Greenberg and her
children. Does not include 173,860 shares owned by her husband, as to which
shares she disclaims any beneficial interest.
(3) Includes 374,332 shares held by a partnership of which Andrew S. Rosemore
and his wife are general partners, 8,600 shares held as custodian for his
children, 370,250 shares held in individual retirement accounts, 24,785
shares held in trust for the benefit of Andrew S. Rosemore and his children
and 25,000 shares subject to options currently exercisable.
(4) Represents shares held by a partnership of which Fredric M. Rosemore is a
general partner and shares held jointly with his wife. Also includes 7,500
shares subject to options currently exercisable.
(5) Includes 7,675 shares in which his minor children have beneficial interest,
152,989 shares held jointly with his wife, 11,486 shares held in an
individual retirement account, 26,095 shares held in trust for the benefit
of Lance B. Rosemore and his children, 6,600 shares held by a partnership
for the benefit of Lance B. Rosemore and his children, 4,020 shares owned
individually by Lance B. Rosemore's wife and 33,000 shares subject to
options currently exercisable.
(6) Includes 979 shares held in an individual retirement account and includes
28,800 shares subject to options currently exercisable.
(7) Includes 29,000 shares subject to options currently exercisable.
(8) Includes 10,000 shares subject to options currently exercisable.
(9) Includes 16,500 shares subject to options currently exercisable.
* Lance B. Rosemore, Andrew S. Rosemore and Martha R. Greenberg are siblings
and are also the children of Fredric M. Rosemore. Consequently, such
persons may be deemed to be "interested persons" as defined under the 1940
Act.
** Less than 1.0%.
219
DOLLAR RANGE OF SECURITIES BENEFICIALLY OWNED BY DIRECTORS
Set forth below is the dollar range of equity securities beneficially
owned by each nominee and continuing director as of August 1, 2003:
DOLLAR RANGE OF EQUITY
SECURITIES BENEFICIALLY
NAME OF DIRECTOR OWNED (1)(2)(3)
-------------------------------- -----------------------
INTERESTED DIRECTORS:
Martha R. Greenberg Over $100,000
Andrew S. Rosemore Over $100,000
Fredric M. Rosemore Over $100,000
Lance B. Rosemore Over $100,000
INDEPENDENT DIRECTORS:
Irvin M. Borish Over $100,000
Thomas Hamill $10,001-$50,000
Barry A. Imber Over $100,000
Theodore J. Samuel None
------------------
(1) Beneficial ownership has been determined in accordance with Rule
16a-1(a)(2) of the Securities Exchange Act of 1934.
(2) The dollar ranges are: None, $1-$10,000, $10,001-$50,000, $50,001-100,000,
or over $100,000.
(3) The dollar range of the Company's equity securities owned by each director
is based on the closing price of $4.67 per share on August 1, 2003 on the
American Stock Exchange.
220
RATIFICATION OF PMC CAPITAL'S INDEPENDENT PUBLIC ACCOUNTANTS
The board of directors of PMC Capital, including a majority of the
directors who are not "interested persons" (as defined in the 1940 Act) of PMC
Capital, selected PricewaterhouseCoopers LLP as the independent public
accountants of PMC Capital for the year ending December 31, 2003, and such
selection is submitted to the shareholders of PMC Capital for ratification.
PricewaterhouseCoopers LLP will perform the audit of PMC Capital's financial
statements and prepare PMC Capital's tax returns. Representatives of
PricewaterhouseCoopers LLP will be in attendance at the annual meeting, will
have the opportunity to make a statement if they desire to do so and will be
available to respond to shareholder questions.
PRINCIPAL ACCOUNTING FIRM FEES
Aggregate fees billed to PMC Capital and its subsidiaries for the
fiscal year ended December 31, 2002 by PMC Capital's principal accounting firm,
PricewaterhouseCoopers LLP, are set forth below:
Audit Fees and Quarterly Reviews........ $ 258,380
Other Audit Related--
Issuance of Regulatory and
Separate Company Reports........... $ 27,280 (a)(b)
Uniform Single Attestation
Program for Mortgage
Bankers ("USAP") compliance
procedures......................... $ 9,000 (a)
All Other Fees.......................... $ 49,531 (a)(c)
---------------------
(a) The Audit Committee has considered whether the provision of these services
by PricewaterhouseCoopers LLP is compatible with maintaining the principal
accountant's independence.
(b) Represents fees incurred by PMC Capital's subsidiaries relating to the
reporting requirements of the SBA.
(c) Includes tax return compliance and preparation fees.
THE BOARD OF DIRECTORS OF PMC CAPITAL RECOMMENDS SHAREHOLDERS VOTE FOR
THE RATIFICATION OF PRICEWATERHOUSECOOPERS LLP AS PMC CAPITAL'S INDEPENDENT
PUBLIC ACCOUNTANTS.
AUDIT COMMITTEE REPORT
In accordance with its written charter adopted by the board of
directors, the audit committee of the board of directors assists the PMC Capital
board of directors in fulfilling its responsibility for oversight of the quality
and integrity of the accounting, auditing and financial reporting practices of
PMC Capital.
In discharging its oversight responsibility as to the audit process,
the audit committee obtained from the independent accountants a formal written
statement describing all relationships between the accountants and PMC Capital
that might bear on the accountants' independence consistent with Independence
Standards Board Standard No. 1, "Independence Discussions with Audit
Committees," discussed with the accountants any relationships that may impact
their objectivity and independence and satisfied itself as to the accountants'
independence. The audit committee also discussed with management and the
independent accountants the quality and adequacy of PMC Capital's internal
controls and budget and staffing. The audit committee reviewed with the
independent accountants their audit plans, audit scope and identification of
audit risks.
The audit committee discussed and reviewed with the independent
accountants all communications required by generally accepted auditing
standards, including those described in Statement on Auditing Standards No. 61,
as amended, "Communication with Audit Committees" and, with management present,
discussed and reviewed the results of the independent accountants' examination
of the financial statements.
221
The audit committee reviewed the audited financial statements of PMC
Capital as of and for the fiscal year ended December 31, 2002, with management
and the independent accountants. Management has the responsibility for the
preparation of PMC Capital's financial statements and the independent
accountants have the responsibility for the examination of those statements.
Based on the above-mentioned review and discussions with management and
the independent accountants, the audit committee recommended to the board of
directors that PMC Capital's audited financial statements be included in its
annual report on Form 10-K for the fiscal year ended December 31, 2002, for
filing with the SEC. The audit committee also recommended the reappointment,
subject to shareholder approval, of the independent accountants and the board of
directors concurred in such recommendation.
AUDIT COMMITTEE OF THE PMC CAPITAL
BOARD OF DIRECTORS
Thomas Hamill
Barry A. Imber
Theodore J. Samuel
SHAREHOLDER PROPOSALS
Any shareholder who intends to present a proposal at the annual meeting
in 2004, and who wishes to have the proposal included in the proxy statement for
that meeting, must deliver the proposal to PMC Capital's corporate secretary at
18111 Preston Road, Suite 600, Dallas, Texas 75252 by December 19, 2003. All
proposals must meet the requirements set forth in the rules and regulations of
the SEC in order to be eligible for inclusion in the proxy statement for that
meeting.
Any shareholder who intends to bring business to the annual meeting in
the year 2004, but not include the proposal in the proxy statement, or to
nominate a person to the PMC Capital board of directors, must give written
notice to PMC Capital's corporate secretary, 18111 Preston Road, Suite 600,
Dallas, Texas 75252 by December 19, 2003.
222
DESCRIPTION OF PMC COMMERCIAL SHARES OF BENEFICIAL INTEREST
GENERAL
The declaration of trust of the PMC Commercial authorizes it to issue
up to 100,000,000 shares of beneficial interest, preferred shares and such other
types of classes of shares of beneficial interest as the trust managers may
create and authorize from time to time. Upon completion of the merger, ________
PMC Commercial common shares will be issued and outstanding.
PMC Commercial's declaration of trust also provides that, subject to
the provisions of any class or series of the capital shares of PMC Commercial
then outstanding, the shareholders of PMC Commercial are be entitled to vote
only on the following matters: (i) election or removal of trust managers; (ii)
amendment of the declaration of trust; (iii) termination of PMC Commercial; (iv)
reorganization of PMC Commercial; (v) merger or consolidation of PMC Commercial
or the sale or disposition of all or substantially all of PMC Commercial's
assets; and (vi) termination of the investment management agreements with PMC
Capital. Except with respect to the foregoing matters, no action taken by the
shareholders of PMC Commercial at any meeting will in any way bind the trust
managers.
Both the Texas REIT Act and PMC Commercial's declaration of trust
provide that no shareholder of PMC Commercial will be individually or personally
liable for any obligation of PMC Commercial. PMC Commercial's bylaws further
provide that PMC Commercial will indemnify each shareholder against any claim or
liability to which the shareholder may become subject by reason of his being or
having been a shareholder, and that PMC Commercial will reimburse each
shareholder for all legal and other expenses reasonably incurred by him in
connection with any such claim or liability. In addition, it will be PMC
Commercial's policy to include a clause in its contracts which provides that
shareholders assume no personal liability for obligations entered into on behalf
of PMC Commercial. However, with respect to tort claims, contractual claims
where shareholder liability is not so negated, claims for taxes and certain
statutory liability, the shareholder may, in some jurisdictions, be individually
or personally liable to the extent that such claims are not satisfied by PMC
Commercial. Inasmuch as PMC Commercial will carry liability insurance which it
considers adequate, any risk of personal liability to shareholders is limited to
situations in which PMC Commercial's assets plus its insurance coverage would be
insufficient to satisfy the claims against PMC Commercial and its shareholders.
COMMON SHARES OF BENEFICIAL INTEREST
Each outstanding PMC Commercial common share entitles the holder to one
vote on all matters submitted to a vote of shareholders, including the election
of trust managers. There is no cumulative voting in the election of trust
managers, which means that the holders of two-thirds of the outstanding PMC
Commercial common shares can elect all of the trust managers then standing for
election. Holders of PMC Commercial common shares are entitled to such
distributions as may be declared from time to time by the trust managers out of
funds legally available therefor. See "Market Price and Dividend Information."
Holders of PMC Commercial common shares have no conversion, redemption
or preemptive rights to subscribe for any securities of PMC Commercial. All
outstanding PMC Commercial common shares are fully paid and nonassessable. In
the event of any liquidation, dissolution or winding-up of the affairs of PMC
Commercial, holders of PMC Commercial common shares will be entitled to share
ratably in the assets of PMC Commercial remaining after provision for payment of
liabilities to creditors and payment of liquidation preferences to holders of
preferred shares, if any.
PREFERRED SHARES OF BENEFICIAL INTEREST
The preferred shares authorized by PMC Commercial's declaration of
trust may be issued from time to time in one or more series in such amounts and
with such preferences, conversion or other rights, voting powers, restrictions,
limitations as to dividends, qualifications and terms or conditions of
redemption as may be fixed by the trust managers. Under certain circumstances,
the issuance of preferred shares could have the effect of delaying, deferring or
preventing a change of control of PMC Commercial and may adversely affect the
voting and other
223
rights of the holders of the PMC Commercial common shares. Upon completion of
the merger, no preferred shares will be outstanding, and PMC Commercial has no
present plans to issue any preferred shares following the completion of the
merger.
CLASSIFICATION OR RECLASSIFICATION OF COMMON SHARES OF BENEFICIAL
INTEREST OR PREFERRED SHARES OF BENEFICIAL INTEREST
The declaration of trust authorizes the trust managers to classify or
reclassify any unissued common shares or preferred shares by setting or changing
the preferences, conversion or other rights, voting powers, restrictions,
limitations as to distributions, qualifications or terms or conditions of
redemption.
RESTRICTIONS ON TRANSFER
For PMC Commercial to qualify as a REIT under the Internal Revenue
Code, (i) not more than 50% in value of its outstanding capital shares may be
owned, directly or indirectly, by five or fewer individuals (as defined in the
Internal Revenue Code to include certain entities) during the last half of a
taxable year; (ii) the capital shares must be beneficially owned by 100 or more
persons during at least 335 days of a taxable year of 12 months or during a
proportionate part of a shorter taxable year; and (iii) certain percentages of
PMC Commercial's gross income must be from particular activities. See "U.S.
Federal Income Tax Consequences." Because the trust managers believe it is
essential for PMC Commercial to continue to qualify as a REIT, the declaration
of trust, subject to certain exceptions, provides that no holder other than any
person approved by the trust managers, at their option and in their discretion
(provided that such approval will not result in the termination of the status of
PMC Commercial as a REIT), may own, or be deemed to own by virtue of the
attribution provisions of the Internal Revenue Code, more than 9.8% (the
"Ownership Limit") of the lesser of the number or value (in either case as
determined in good faith by the trust managers) of the total outstanding capital
shares.
The trust managers may waive the Ownership Limit if evidence
satisfactory to the trust managers and PMC Commercial's tax counsel is presented
that such ownership will not then or in the future jeopardize PMC Commercial's
status as a REIT. As a condition of such waiver, the intended transferee must
give written notice to PMC Commercial of the proposed transfer and must furnish
such opinions of counsel, affidavits, undertakings, agreements and information
as may be required by the trust managers no later than the 15th day prior to any
transfer which, if consummated, would result in the intended transferee owning
capital shares in excess of the Ownership Limit.
The foregoing restrictions on transferability and ownership will not
apply if the trust managers determine that it is no longer in the best interests
of PMC Commercial to attempt to qualify, or to continue to qualify, as a REIT.
Any transfer or issuance of capital shares or any security convertible into
capital shares that would (1) create a direct or indirect ownership of capital
shares in excess of the Ownership Limit, (2) with respect to transfers only,
result in the capital shares being owned by fewer than 100 persons, or (3)
result in PMC Commercial being "closely held" within the meaning of Section
856(h) of the Internal Revenue Code, shall be null and void, and the intended
transferee will acquire no rights to the capital shares.
PMC Commercial's declaration of trust provides that PMC Commercial, by
notice to the holder thereof, may purchase any or all capital shares (the
"Excess Shares") that are proposed to be transferred pursuant to a transfer
which, if consummated, would result in the intended transferee owning capital
shares in excess of the Ownership Limit or would otherwise jeopardize the REIT
status of PMC Commercial. The purchase price of any Excess Shares shall be equal
to the fair market value of such Excess Shares on the last trading day
immediately preceding the day on which notice of such proposed transfer was
sent, as reflected in the closing sales price for the Excess Shares, if then
listed on a national securities exchange, or such price for the Excess Shares on
the principal exchange if then listed on more than one national securities
exchange, or, if the Excess Shares are not then listed on a national securities
exchange, the latest bid quotation for the Excess Shares if then traded
over-the-counter, or, if no such closing sales prices or quotations are
available, the fair market value as determined by the trust managers in good
faith. From and after the date fixed for purchase by the trust managers, so long
as payment of the purchase price for the Excess Shares to be so redeemed shall
have been made or duly provided for, the holder of such Excess Shares to be
purchased by PMC Commercial shall cease to be entitled to distributions, voting
rights and other benefits with respect to such Excess Shares except the right to
payment of the purchase price for the Excess Shares.
224
Any dividend or distribution paid to a proposed transferee on Excess Shares
prior to the discovery by PMC Commercial that such Excess Shares have been
transferred in violation of the provisions of PMC Commercial's declaration of
trust shall be repaid to PMC Commercial upon demand. If the foregoing transfer
restrictions are determined to be void or invalid by virtue of any legal
decision, statute, rule or regulation, then the intended transferee of any
Excess Shares may be deemed, at the option of PMC Commercial, to have acted as
an agent on behalf of PMC Commercial in acquiring such Excess Shares and to hold
such Excess Shares on behalf of PMC Commercial.
All persons who own, directly or by virtue of the attribution
provisions of the Internal Revenue Code, more than 5% in number or value of the
outstanding capital shares must give a written notice to PMC Commercial
containing the information specified in PMC Commercial's declaration of trust by
January 30 of each year. In addition, each shareholder shall, upon demand, be
required to disclose to PMC Commercial in writing such information with respect
to the direct, indirect and constructive ownership of capital shares as the
trust managers deem necessary to comply with the provisions of the Internal
Revenue Code applicable to a REIT, to comply with the requirements of any taxing
authority or governmental agency or to determine any such compliance.
225
COMPARISON OF SHAREHOLDER RIGHTS
PMC Commercial has been formed as a REIT under the laws of the State of
Texas, and PMC Capital has been incorporated under the laws of the State of
Florida. Upon consummation of the merger, PMC Capital shareholders will become
shareholders of PMC Commercial, and PMC Commercial's declaration of trust,
bylaws and the laws of the State of Texas, including the Texas REIT Act, will
govern their rights.
The Texas REIT Act was amended effective September 1, 1995, to conform
substantially to modern corporation statutes based upon the Model Business
Corporation Act. Accordingly, a Texas REIT, and the rights, duties and
obligations of its shareholders, will be substantially similar to a Texas
corporation, and the rights, duties and obligations of its shareholders. If the
Texas REIT Act does not specifically address a situation, the question is
governed by the Texas Business Corporation Act and related case law. The
provisions of the Texas REIT Act correspond closely with existing corporate
statutes. The separate corporate existence of PMC Commercial with all its rights
privileges, immunities, powers and franchises shall continue unaffected by the
merger.
The following is a summary of the material differences between the
rights of PMC Commercial shareholders and the rights of PMC Capital
shareholders. This summary does not address each difference between Florida law
and Texas law, but focuses on those differences which the companies believe are
most relevant to existing shareholders. This summary is not intended to be
complete and is qualified by reference to the declaration of trust and bylaws of
PMC Commercial and the amended and restated articles of incorporation and
amended and restated bylaws of PMC Capital, as well as the laws of Florida and
Texas. The declaration of trust and bylaws of PMC Commercial and the amended and
restated articles of incorporation and amended and restated bylaws of PMC
Capital have been filed as exhibits to the PMC Commercial registration statement
of which this joint proxy/prospectus forms a part. Shareholders of PMC
Commercial and PMC Capital may request copies of these documents as provided in
"Where You Can Find More Information."
226
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
AUTHORIZED CAPITAL STOCK
PMC Capital's articles of incorporation authorize PMC Commercial's declaration of trust authorizes
the issuance of up to 30,000,000 shares of common stock, it to issue up to 100,000,000 shares of beneficial
$.01 par value. No preferred stock is authorized. interest, $.01 par value, consisting of common shares,
preferred shares and such other types of classes of
shares of beneficial interest as the trust managers may
create and authorize from time to time. PMC Commercial
has not authorized any class or series of shares other
than common shares.
The preferred shares may be issued from time to
time in one or more series in such amounts and with
such preferences, conversion or other rights, voting
powers, restrictions, limitations as to dividends,
qualifications and terms or conditions of redemption as
may be fixed by the trust managers. PMC Commercial
does not have any present plans to issue any preferred
shares following the completion of the merger.
VOTING RIGHTS
Each holder of PMC Capital common stock is entitled Each holder of PMC Commercial common shares is
to one vote per share and to the same voting rights as all entitled to one vote on all matters submitted to a vote
other holders of PMC Capital common stock. Holders of PMC of shareholders, including the election of trust
Capital common stock do not have cumulative voting rights. managers. There is no cumulative voting in the
election of trust managers.
Other than the election of directors or the approval
of a plan of merger, share exchange, or sale of PMC Commercial's declaration of trust provides
substantially all of the assets of a corporation, and that shareholders are entitled to vote only on the
except as otherwise provided in the articles of following matters:
incorporation, Florida law provides that a matter is
approved by shareholders if the number of votes cast in - the election or removal of trust managers;
favor of the matter exceed the number of votes cast against
the matter. To approve a plan of merger or share exchange, - the amendment of the declaration of trust;
or a sale of substantially all of the assets of a
corporation, Florida law requires, subject to certain - the termination or reorganization of PMC
exceptions, the affirmative vote of a majority of all the Commercial;
votes outstanding entitled to be cast.
- the merger or consolidation of PMC Commercial or
a sale or disposition of all or substantially all
of its assets; and
- the termination of PMC Commercial's investment
management agreement.
Except for the foregoing, no action taken by PMC
Commercial shareholders at any meeting shall in any way
bind the trust managers. All such actions must be
approved by the vote of the holders of at least
two-thirds of the outstanding PMC Commercial common
shares.
Any preferred or other class of shares would
have such voting rights, if any, as may be designated
by the trust managers. PMC Commercial has proposed an
amendment to its declaration of trust that would give
the holders of PMC Commercial's common shares the right
to vote on any matter presented for shareholder approval
227
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
or required to be approved by shareholders
under the Texas REIT Act at an annual or special
meeting of shareholders, subject to applicable law and
the rights (if any) of holders of PMC Commercial's
preferred shares. See "Approval of Proposed Amendments
to PMC Commercial's Declaration of Trust."
228
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
OWNERSHIP LIMITATIONS
Florida law provides that the articles of For PMC Commercial to qualify as a REIT under
incorporation and bylaws, among other things, may impose the Internal Revenue Code, no more than 50% in value of
restrictions on the transfer or registration of transfer of its outstanding common shares may be owned, actually or
shares to the corporation. constructively, by five or fewer "individuals," which,
as defined in the Internal Revenue Code, includes some
PMC Capital's articles of incorporation and bylaws entities. A REIT's shares also must be beneficially
do not contain ownership limitations on stock or other owned by 100 or more persons.
securities.
As a means of addressing these requirements, PMC
Commercial's declaration of trust provides that,
subject to certain exceptions, no person may own, or be
deemed to own directly or indirectly more than 9.8% of
the lesser of the number or value of the outstanding
stock. If any transaction would cause a person to
exceed this ownership limitation, such transaction
shall be valid only with respect to the amount of
securities issued as does not result in a violation of
the ownership limitation, or, if such provision is
determined to be invalid, the person shall be
conclusively deemed to have acted as an agent on behalf
of PMC Commercial in acquiring the excess shares and to
hold such shares on behalf of PMC Commercial. Such
shares shall be treated as the equivalent of treasury
securities and cannot be voted. No dividends will be
paid on excess shares and they will not be outstanding
for determining a quorum. However, the holder of
such excess shares may transfer them to any person
whose ownership would be permitted under the
declaration of trust.
PMC Commercial may also purchase any shares
proposed to be transferred in a transaction that would
result in any person acquiring excess shares or that
would otherwise jeopardize the status of PMC Commercial
as a REIT. The purchase price for such excess shares
shall be equal to the fair market value of such shares
on the last trading day immediately preceding the day
on which notice of the proposed transfer is sent.
Additionally, any transfer of PMC Commercial
shares that would result in such shares being owned by
less than 100 persons, result in PMC Commercial being
"closely held" within the meaning of the Internal
Revenue Code or result in the disqualification of PMC
Commercial as a REIT, shall be void and the intended
transferee shall acquire no rights in the shares.
Each person who owns between 0.5% and 5% in
number or value of PMC Commercial shares is required to
provide written notice to PMC Commercial of such
ownership within 30 days after January 1 of each year.
229
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
PREEMPTIVE RIGHTS
PMC Capital's articles of incorporation do not PMC Commercial's declaration of trust does not
provide shareholders with any preemptive right to subscribe provide shareholders with any preemptive right to
for any newly-issued stock or other securities of PMC subscribe for any newly-issued stock or other
Capital. securities of PMC Commercial.
DISTRIBUTIONS
Under Florida law, PMC Capital may make a Under the Texas REIT Act, PMC Commercial may
distribution, unless after giving effect to the not make a distribution, if:
distribution:
- PMC Capital would not be able to pay its debts as - after giving effect to the distribution, PMC
they come due in the usual course of Commercial would be insolvent; or
business; or
- the distribution exceeds PMC Commercial's
- PMC Capital's assets would be less than the sum surplus. The term "surplus" means the
of its total liabilities. excess of the net assets of the Texas
REIT over its stated capital.
PMC Commercial's declaration of trust prohibits
PMC Commercial from declaring or paying any dividend
when it is unable, or would be unable with the payment
of the dividend, to pay its debts as they become due in
the usual course of business. However, the trust
managers must endeavor to declare and pay such
dividends and distributions as necessary for PMC
Commercial to qualify as a REIT under the Internal
Revenue Code.
MEETINGS OF SHAREHOLDERS
PMC Capital's bylaws require PMC Capital to hold PMC Commercial's bylaws require PMC Commercial
annual shareholder meetings. Shareholders vote on the to hold annual shareholder meetings. At annual
election of directors and on such other business as may meetings, PMC Commercial shareholders vote on the
come before the annual meeting. A special meeting of election of trust managers and on any other matters
shareholders of PMC Capital may be called by the President properly presented at the annual meeting. Special
or the board of directors. A special meeting must be meetings of PMC Commercial shareholders may called by
called by the President or Secretary of PMC Capital at the the trust managers, any officer of PMC Commercial or
request in writing of (1) a majority of the directors then the holders of at least 10% of the outstanding shares.
in office, or (2) shareholders owning a majority of the
stock issued and outstanding and entitled to vote at the
special meeting.
SHAREHOLDER NOMINATIONS AND PROPOSALS
Neither Florida law, the articles of incorporation Neither the Texas REIT Act, the declaration of
nor the bylaws of PMC Capital contain provisions with trust nor the bylaws of PMC Commercial contain
respect to shareholder nominations or proposals. However, provisions with respect to shareholder nominations or
a proposal submitted for inclusion in PMC Capital's proxy proposals. However, as with PMC Capital, a proposal
statement for a regularly scheduled annual meeting must submitted for inclusion in PMC Commercial's proxy
comply with all of the requirements of Rule 14a-8 under the statement for a regularly scheduled annual meeting must
Exchange Act. comply with all of the requirements of Rule 14a-8 under
the Exchange Act.
Under Rule 14a-8, a shareholder nomination or
proposal for an annual meeting generally must be received
at least 120 calendar days prior to the date PMC Capital
230
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
first mailed its proxy statement to shareholders for the
prior year's annual meeting. A shareholder can typically
find notice of the specific deadline in such prior year
proxy statement. A PMC Capital shareholder must submit a
proposal for a meeting of shareholders other than a
regularly scheduled annual meeting at least a reasonable
time before PMC Capital begins to print and mail its proxy
materials.
SIZE OF THE BOARD OF DIRECTORS/TRUST MANAGERS
Under Florida law, subject to the articles of Under the Texas REIT Act, the number of trust
incorporation and bylaws, a corporation may have one or managers shall be fixed by, or in the manner provided
more directors. Under PMC Capital's articles of in, the declaration of trust or the bylaws, except for
incorporation, the number of directors shall be not less the number of initial trust managers, which shall be
than five nor more than 20 persons. The number of fixed by the declaration of trust. The number of trust
directors is to be fixed from time to time by the board of managers may be increased or decreased from time to
directors within these limits. No decrease in the number time by amendment to, or in the manner provided in, the
of directors will shorten the term of any incumbent declaration of trust or the bylaws. No decrease in the
director. There are currently seven members on PMC number of directors will shorten the term of any
Capital's board of directors. incumbent director. PMC Commercial's bylaws provide
that the board of trust managers be comprised of not
less than three members. There are currently seven
members on PMC Commercial's board of trust managers.
CLASSIFICATION OF THE BOARD OF DIRECTORS/TRUST MANAGERS
The directors of PMC Capital are divided into three Under the Texas REIT Act, unless the bylaws
classes, with one class elected by the shareholders provide for the classification of trust managers, a
annually. Consequently, the term of office of each trust manager serves until the manager's successor has
director expires at the third succeeding annual meeting of been elected by the required vote. PMC Commercial's
shareholders after his or her election. bylaws do not provide for a classified board and
require each trust manager to serve until the next
annual meeting of shareholders and until his or her
successor is elected and qualified, or until his or her
death, resignation or removal.
ELECTION OF DIRECTORS/TRUST MANAGERS
Florida law provides that PMC Capital's directors The Texas REIT Act provides that unless
will be elected by a plurality of the votes cast at a otherwise provided in the declaration of trust or the
meeting at which a quorum is present. Shareholders do not bylaws in accordance with the Texas REIT Act, trust
have the right to cumulate their votes for the election of managers shall be elected by two-thirds of the votes
directors. cast by the holders of shares entitled to vote in the
election of trust managers at a meeting of shareholders
at which a quorum is present. Under the Texas REIT
Act, the declaration of trust or the bylaws may provide:
- that a trust manager will be elected only if
the trust manager receives the vote of the
holders of a specified portion, but not less
than a majority, of the shares entitled to
vote in the election of trust managers;
- that a trust manager will be elected only if
231
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
the trust manager receives the vote of the
holders of a specified portion, but not less
than a majority, of the shares entitled to
vote in the election of trust managers and
represented in person or by proxy at a
meeting of shareholders at which a quorum is
present; or
- that a trust manager will be elected only if
the trust manager receives a specified
portion, but not less than a majority, of
the votes cast by the holders of shares
entitled to vote in the election of trust
managers at a meeting of shareholders at
which a quorum is present.
PMC Commercial's declaration of trust alters the trust
manager voting requirement established by the Texas REIT
Act by requiring trust managers to be elected by a
two-thirds vote of all outstanding shares. PMC
Commercial shareholders do not have the right to
cumulate their votes for the election of trust managers.
REMOVAL OF DIRECTORS/TRUST MANAGERS
Florida law permits a director to be removed by the PMC Commercial's declaration of trust and
shareholders with or without cause, unless the articles of bylaws provide that a trust manager may be removed at
incorporation provide that directors may be removed only any time with or without cause with the approval of
for cause. two-thirds of the total votes outstanding and
authorized to be cast at a special meeting of
PMC Capital's articles of incorporation provide shareholders called for such purpose pursuant to the
that, subject to the rights of the holders of PMC Capital bylaws.
common stock then outstanding, directors may be removed
only for cause, and only by the affirmative vote of the
holders of at least 80% of the voting power of all shares
entitled to vote for the election of directors.
FILLING DIRECTOR/TRUST MANAGER VACANCIES
PMC Capital's articles of incorporation provide PMC Commercial's bylaws provide that any
that, subject to the rights of the holders of PMC Capital vacancies in the board of trust managers may be filled
common stock then outstanding, any vacancies caused by by the vote of a majority of the remaining trust
newly created directorships or other reason will be filled managers or by the vote of two-thirds of the
by a majority of the board of directors then in office, and outstanding shares of PMC Commercial at an annual or
not the shareholders of PMC Capital. Such appointees shall special meeting of shareholders. Any trust manager
hold office for a term expiring at the annual meeting at elected to fill a vacancy created by the resignation,
which the term of the class to which they have been elected removal, incapacity or death of a former trust manager
expires. shall hold office for the unexpired term of the former
trust manager. Any vacancy in the group of trust
managers may be filled only by an amendment to the
declaration of trust with the approval of the holders
of at least two-thirds of the outstanding shares.
232
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
LIABILITY OF DIRECTORS/TRUST MANAGERS
Florida law generally provides that a director of a The Texas REIT Act provides that no trust
corporation is not personally liable for monetary damages manager shall be liable to a Texas REIT for any act,
to the corporation or other person unless the director omission, loss, damage or expense arising from the
breached or failed to perform his duties as a director, and performance of his or her duty under a Texas REIT,
such breach or failure: except for:
- constitutes a violation of criminal law, unless - his or her willful misfeasance, willful malfeasance
the director had reasonable cause to believe or gross negligence;
his conduct was lawful or had no reasonable cause
to believe his conduct was unlawful; - assenting to any distribution of assets to its
shareholders during the liquidation of
- constitutes a transaction from which the the trust without paying and discharging,
director derived an improper personal benefit; or failing to make adequate provisions
for, all known debts and obligations of
- results in an unlawful distribution; the Texas REIT; and
- in the case of a derivative action or an action - assenting to the making of a loan to an officer
by a shareholder, constitutes conscious or trust manager of a Texas REIT, or the making of
disregard for the best interests of the any loan secured by the shares of the Texas REIT.
corporation or willful misconduct; or
- in the case of a proceeding other than a
derivative action or an action by a shareholder,
constitutes recklessness or an act or omission
which was committed in bad faith or with
malicious purpose or in a manner exhibiting
wanton and willful disregard of human rights,
safety or property.
INDEMNIFICATION
PMC Capital's articles of incorporation and bylaws PMC Commercial's declaration of trust and
require PMC Capital to indemnify each director and officer bylaws require PMC Commercial to indemnify the
of PMC Capital in connection with or arising out of any following persons:
action, suit or proceeding in which he or she is involved
(whether in an action by, or in the right of the - any present or former trust manager, officer,
corporation or otherwise) by reason of being or having been agent or any director, officer or employee of an
an officer or director to the full extent permitted by law, agent of PMC Commercial; or
if the director or officer acted in good faith in the
reasonable belief that such action was in the best - any of the foregoing persons who while serving in
interests of PMC Capital and, with respect to a criminal such capacity served at PMC Commercial's request
action or proceeding, without reasonable ground for belief as a director, officer, partner, venturer,
that such action was unlawful. The termination of any proprietor, trustee, employee, agent or similar
proceeding by judgment, order, settlement, or conviction or functionary of another corporation, partnership,
upon a plea of nolo contendere or its equivalent shall not, joint venture, trust, employee benefit plan or
of itself, create a presumption that he or she did not act other enterprise.
in good faith in the reasonable belief that such action was
in the best interests of PMC Capital or that he or she had This indemnification must be provided with
reasonable ground for belief that such action was respect to all judgments, penalties, fines, amounts
unlawful. paid in settlement and reasonable expenses actually
incurred by the indemnitees set forth above in
PMC Capital's bylaws provide that the board of connection with any proceeding in which he or she was,
directors may, at any time, approve indemnification of any is or is
233
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
other person that PMC Capital has the power by law to threatened to be named as a defendant or
indemnify. No indemnification is permitted to any party respondent by reason of his or her relationship with
which would violate Section 17(h) of the 1940 Act. PMC Commercial, if the indemnitee acted in good faith,
reasonably believed that any conduct in an official
Florida law requires PMC Capital to indemnify any capacity was in PMC Commercial's best interests, and in
director, officer, employee or agent of PMC Capital if such the case of a criminal proceeding, had no reason to
person has been successful on the merits or otherwise in believe that the indemnitee's conduct was unlawful.
defense of any proceeding, or in defense of any claim, Indemnification may be made to an indemnitee who has
issue or matter in the proceeding, for expenses actually been found liable on the basis that a personal benefit
and reasonably incurred by such person in connection with was improperly received by him or her if his or her
the proceeding or the person's defense of the claim, issue conduct met the test stated above for indemnification;
or matter. however, the amount of such indemnification shall be
limited to reasonable expenses actually incurred by the
Expenses incurred by an officer or director in person in connection with the proceeding, and may not
defending a civil or criminal proceeding may be paid by the be made if the person has been found liable for willful
corporation in advance of the final disposition of the or intentional misconduct in the performance of his or
proceeding upon receipt of an undertaking by or on behalf her duties to PMC Commercial. The termination of any
of such director or officer to repay such amount if he or proceeding by judgment, order, settlement, conviction
she is ultimately found not to be entitled to or plea of nolo contendere or its equivalent, is not of
indemnification. Expenses incurred by other employees and itself determinative that the indemnitee did not meet
agents may be paid in advance upon such terms or conditions the required standard of conduct.
that the board of directors deems appropriate.
PMC Commercial's bylaws also require PMC
The indemnification and advancement of expenses Commercial to indemnify every indemnitee against
provided under Florida law are not exclusive, and a reasonable expenses incurred by such person in
corporation may enter into an agreement to provide for connection with any proceeding in which he or she is
indemnification; however, no indemnification or advancement named as a witness, defendant or respondent because of
of expenses may be made to any person if a judgment or serving in any of the capacities of PMC Commercial
other final adjudication establishes that the person's described above, if the person is wholly successful on
actions, or omissions to act, were material to the cause of the merits or otherwise in defense of the proceeding.
adjudicated action and constitute:
PMC Commercial's bylaws permit PMC Commercial
to advance reasonable expenses incurred by an
- a violation of criminal law, unless the person indemnitee who was or is a witness or was, is or is
had reasonable cause to believe his or her threatened to be made a named defendant or respondent
conduct was lawful or had no reasonable cause in a proceeding, at reasonable intervals in advance of
to believe his or her conduct was unlawful; the final disposition of the proceeding, if:
- a transaction from which the person derived an - the indemnitee requests so in writing;
improper personal benefit;
- the indemnitee provides written affirmation that
- in the case of a director, an unlawful he or she has good faith belief that he
distribution to shareholders; or or she has met the necessary standard of
conduct;
- willful misconduct or a conscious disregard for
the best interests of the corporation in a - the indemnitee provides a written undertaking to
proceeding by or in the right of PMC Capital repay the amount paid or reimbursed by
or a shareholder. PMC Commercial if it is ultimately
determined that he or she is not entitled
Under Florida law, unless the corporation's articles to indemnification; and
of incorporation provide otherwise, notwithstanding the
failure of a corporation to provide indemnification, and - a majority of the board of trust managers
despite any contrary determination of the board or of the approves such advancement of expenses.
shareholders in the specific case, a director, officer,
employee, or agent of the corporation who is or was a party PMC Commercial may also pay or reimburse
to a proceeding may apply for indemnification or expenses incurred by an indemnitee in connection with
advancement of expenses, or both, to the court conducting appearing as a witness or other participation in a
234
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
the proceeding, to the circuit court, or to another court proceeding at a time when he is not a named defendant
of competent jurisdiction. On receipt of an application, or respondent in the proceeding.
the court, after giving any notice that it considers
necessary, may order indemnification and advancement of The Texas REIT Act provides that a provision
expenses, including expenses incurred in seeking contained in the declaration of trust, bylaws or an
court-ordered indemnification or advancement of expenses, agreement that makes mandatory the indemnification
if it determines that: permitted by the Texas REIT Act, or the payment or
reimbursement of expenses permitted by the Texas REIT
- the indemnitee is entitled to mandatory Act, shall be deemed to constitute authorization of
indemnification, in which case the court indemnification in the manner required by the Texas
shall also order the corporation to pay the REIT Act even though such provision may not have been
director reasonable expenses incurred in adopted or authorized in the same manner as the
obtaining court-ordered indemnification or determination that indemnification is permissible. As
advancement of expenses; noted above, PMC Commercial's bylaws provide for such
mandatory indemnification, subject to certain
- the indemnitee is entitled to further exceptions and requirements.
indemnification or advancement of expenses,
or both, by virtue of the corporation's exercise The Texas REIT Act further provides that the
of its power; or termination of a proceeding by judgment, order,
settlement, or conviction, or on a plea of nolo
- the indemnitee is fairly and reasonably contendere or its equivalent, is not of itself
entitled to indemnification or advancement determinative that the person did not meet the
of expenses, or both, in view of all the relevant requirements for indemnification set forth in the Texas
circumstances, regardless of whether such REIT Act.
person met the required standard of conduct.
The indemnification provided for in PMC
Commercial's bylaws is not exclusive and does not
preclude any other indemnification rights under the
declaration of trust or any law, agreement, vote of
shareholders or disinterested trust managers or
otherwise, or under policies of insurance purchased and
maintained by PMC Commercial on behalf of any
indemnitee.
INSPECTION OF BOOKS AND RECORDS
Under Florida law, a shareholder of a corporation is Under the Texas REIT Act, any person who has
entitled to inspect and copy, during regular business hours been a shareholder of record for more than six months
at the corporation's principal office, upon giving the immediately preceding his demand, or shall be the
corporation written notice of his or her demand at least record holder of more than 5% of all the outstanding
five business days before the date on which he or she shares of a Texas REIT, upon written demand stating the
wishes to inspect and copy the following: purpose thereof, shall have the right to examine, at
any reasonable time or times, for any proper purpose,
- the corporation's articles of incorporation; the Texas REIT's books and records of account and
minutes and record of shareholders, and shall be
- bylaws; entitled to make extracts from such information.
- resolutions adopted by its board of directors
creating one or more classes or series of shares
and fixing their relative rights, preferences,
and limitations, if shares issued pursuant to
those resolutions are outstanding;
- the minutes of all shareholders' meetings and
records of all action taken by shareholders
without a meeting for the past
235
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
three years;
- written communications to shareholders within the
past three years, including the financial
statements furnished for the past three years;
- a list of the names and business street addresses
of its current directors and officers; and
- the corporation's most recent annual report
delivered to the Florida Department of State.
A shareholder of a Florida corporation is entitled to
inspect and copy, during regular business hours at a
reasonable location specified by the corporation, certain
additional books and records if:
- the shareholder's demand is made in good faith
and for a purpose reasonably related to the
person's interest as a shareholder;
- the shareholder describes with reasonable
particularity his or her purpose and the records
desired;
- the records are directly connected with the
purpose; and
- the shareholder gives the corporation written
notice of her demand at least five business days
before the date of inspection.
A Florida corporation may deny certain demands for
inspection if such demand was made for an improper purpose
or if the demanding shareholder has, within two years
preceding the demand, sold or offered for sale any list of
shareholders of the corporation or any other corporation,
has aided or abetted any person in procuring a list of
shareholders for such purposes or has improperly used any
information secured through any prior examination of the
corporation or any other corporation.
AMENDMENT TO ARTICLES OF INCORPORATION/DECLARATION OF TRUST
Florida law permits the board of directors to The PMC Commercial declaration of trust
approve without shareholder approval certain limited provides that it may be amended with the affirmative
changes to a corporation's articles of incorporation. If vote of the holders of at least two-thirds of the
the articles of incorporation permit the board to authorize outstanding shares.
a series of preferred stock without shareholder approval,
the board of directors may also amend the articles of
incorporation to include the designations, rights and
preferences of such series without shareholder approval.
Most other changes, however, to the articles of
incorporation must be approved under Florida law by the
board of directors and shareholders. The shareholders must
approve the amendment as follows:
- any voting group with respect to which the
236
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
amendment would create dissenters' rights must
approve the amendment by a majority of the votes
entitled to be cast on the amendment by such
voting group; and
- with respect to every other voting group, the
number of votes cast in favor of the amendment
must exceed the number of votes cast against the
amendment.
Further, PMC Capital's articles of incorporation
prohibit an amendment or repeal of its provisions governing
the board of directors, or the adoption of any provision
inconsistent with such provisions, without the approval of
the holders of at least 80% of the voting power of all
shares entitled to vote for the election of directors.
AMENDMENT OF BYLAWS
PMC Capital's bylaws provide that the board of The Texas REIT Act provides, among other things,
directors may amend the bylaws; provided that any amendment that the trust managers of a Texas REIT may amend or
thereto as adopted by the board of directors may be amended repeal the Texas REIT's bylaws or adopt new bylaws unless
or repealed by vote of the shareholders entitled to vote the Texas REIT's declaration of trust or the Texas REIT
thereon, and no bylaw amended or adopted by a vote of the Act reserves the power exclusively to the shareholders in
shareholders may be amended or repealed by a vote of the whole or in part. Further, the Texas REIT Act provides
board of directors until two years have expired after such that unless the declaration of trust or a bylaw adopted by
vote. the shareholders provides otherwise as to all or some
portion of a Texas REIT's bylaws, a Texas REIT's
shareholders may amend, repeal or adopt the Texas REIT's
bylaws even though the bylaws may also be amended,
repealed or adopted by its trust managers.
PMC Commercial's declaration of trust currently
has no provision addressing the procedures for amending,
repealing or adopting bylaws. PMC Commercial's bylaws
currently provide that except as provided by applicable
law or PMC Commercial's declaration of trust, the power
to alter, amend, repeal or adopt bylaws is vested in the
shareholders, and any such action requires the
affirmative vote of a majority of PMC Commercial's
outstanding shares. However, it is unclear whether the
language of such provision would be sufficient under the
Texas REIT Act to act as an exclusive reservation to the
shareholders of the power to amend, repeal or adopt
bylaws. Furthermore, even if the language of the bylaw
provision is sufficient to act as an exclusive
reservation of power to the shareholders, it is not clear
whether the bylaw provision would be valid under the
Texas REIT Act, which requires such exclusive reservation
of power to be included in the declaration of trust, and
not the bylaws. For these reasons, the PMC Commercial
board of trust managers has proposed to amend the
declaration of trust to specifically authorize the board
of trust managers to adopt, amend or repeal the PMC
Commercial bylaws
237
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
from time to time.
AFFILIATED TRANSACTIONS
Florida law establishes special requirements with The Texas REIT Act has no comparable
respect to "affiliated transactions" (including a merger, provision. However, PMC Commercial's declaration of
consolidation, sale, lease, exchange, or transfer) between trust generally limits individual ownership to 9.8%
a corporation and any "interested shareholder" who based on value and number of shares.
beneficially owns more than 10% of the outstanding voting
shares of the corporation, subject to certain exemptions. In
general, in addition to any affirmative vote required by any
other section of this act or by the articles of
incorporation, affiliated transactions must be approved by
the affirmative vote of the holders of two-thirds of the
voting shares other than the shares beneficially owned by
the interested shareholder. The voting requirement, however,
does not apply if for example, the transaction has been
approved by a majority of disinterested directors, the
interested shareholder has been the beneficial owner of at
least 80% of the outstanding stock of the corporation for
at least five years preceding the announcement date, or the
corporation is an investment company registered under the
1940 Act.
238
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
CONTROL SHARE ACQUISITIONS
Florida law provides that "control shares" of a The Texas REIT Act has no comparable
Florida corporation acquired in a control share acquisition provision. However, PMC Commercial's declaration of
are shares that when added to all other shares of the trust generally limits individual ownership to 9.8%
issuing public corporation owned by a person or in respect based on value and number of shares.
to which that person may exercise or direct the exercise of
voting power, would entitle that person, immediately after
acquisition of the shares, directly or indirectly, alone or
as a part of a group, to exercise or direct the exercise of
the voting power of the issuing public corporation in the
election of directors within any of the following ranges of
voting power:
- one-fifth or more but less than one-third of all
voting power;
- one-third or more but less than a majority of all
voting power; or
- a majority or more of all voting power.
A "control share acquisition" means the acquisition,
directly or indirectly, of control shares subject to certain
exemptions. All shares, the beneficial ownership of which is
acquired within 90 days before or after the date of the
acquisition of the beneficial ownership of shares which
result in a control share acquisition, and all shares the
beneficial ownership of which is acquired pursuant to a plan
to make a control share acquisition shall be deemed to have
been acquired in the same acquisition. One who acquires
shares in the ordinary course of business or for the benefit
of others in good faith will be able to exercise the votes
without further instruction from others.
A person who has made or proposed to make a control
share acquisition and who gives an undertaking to pay the
corporation's expenses of a special meeting, within 10 days
thereafter, may compel the board of directors of the
corporation to call a special meeting of shareholders to be
held within 50 days of demand to consider the voting rights
of the shares. If no request for a meeting is made, the
matter shall be presented to the next special or annual
meeting of the shareholders.
Control shares acquired in a control share
acquisition have the same voting rights as were accorded the
shares before the control share acquisition only to the
extent granted by resolution approved by the shareholders of
the issuing public corporation.
The acquisition of any shares of an issuing public
corporation does not constitute a control share acquisition
if the acquisition is consummated pursuant to a merger or
239
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
share exchange if the issuing public company is a party to
the agreement of merger or plan of share exchange.
LIABILITY OF SHAREHOLDERS
Generally, Florida law provides that a shareholder Like Florida law, the Texas REIT Act generally
or subscriber for shares is not obligated to a Florida limits a shareholder's or subscriber's obligation to a
corporation or its creditors with respect to such shares Texas REIT or its creditors to full payment of the
other than the obligation to pay to the corporation the consideration for the shares. A shareholder of a Texas
full consideration for which the shares were issued or to REIT will not be liable for any contractual obligation
be issued. Such an obligation may be enforced by the of a Texas REIT on the basis (1) that the person is or
corporation and its successors or assigns; by a shareholder was the alter ego of a Texas REIT, or (2) of actual or
suing derivatively on behalf of the corporation; by a constructive fraud, a sham to perpetrate a fraud, or
receiver, liquidator, or trustee in bankruptcy; or by similar theory, unless the obligee demonstrates that
another person having the legal right to marshal the assets the shareholder caused the Texas REIT to be used for
of such corporation. the purpose of perpetrating and did perpetrate an
actual fraud on the obligee primarily for the direct
personal benefit of the shareholder. A holder of shares
in a Texas REIT is not under any obligation to the Texas
REIT or to its obligees with respect to any obligation of
the Texas REIT on the basis of the failure of the Texas
REIT to observe any formality, including the failure to
comply with any requirement of the Texas REIT Act or of
the declaration of trust or bylaws, or observe any
requirement prescribed by the Texas REIT Act or by the
declaration of trust or bylaws for actions taken by the
Texas REIT, its trust managers, or its shareholders.
These limitations in the Texas REIT Act are exclusive and
are not preempted by common law or otherwise. Like the
Texas REIT Act, PMC Commercial's declaration of trust
provides that no shareholder will be personally liable
for any of PMC Commercial's obligations. To the extent,
however, that the Texas REIT conducts operations in
another jurisdiction where the law of such jurisdiction
(1) does not recognize the limitations of liability
afforded by contract, the Texas REIT Act and the
declaration of trust, and (2) does not provide similar
limitations of liability applicable to real estate
investments or other trusts, a third party could attempt,
under limited circumstances, to assert a claim against a
shareholder. PMC Commercial believes, based on its
current operating structure and its review of relevant
law, that there should not be a material risk of such
liability. PMC Commercial has taken and will continue to
take such actions as it considers necessary or advisable
in order to eliminate or minimize, to the extent
possible, any such risk of liability.
VOTE ON MERGER OR SALE OF SUBSTANTIALLY ALL ASSETS
Under Florida law, the board of directors must Under the Texas REIT Act, the board of trust
recommend a plan of merger, share exchange or sale of managers must adopt a resolution recommending that a
substantially all of a corporation's assets to its plan of merger or share exchange or a sale of all or
shareholders. It may also submit such transaction to the substantially all the assets of a Texas REIT be
shareholders without a recommendation if it communicates adopted, except that the board of trust managers may
the basis for its determination to the decide not to make such a recommendation but submit the
plan to
240
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
shareholders. The holders of a majority of all votes shareholders and communicate the basis for the
entitled to be cast on such matter must approve the determination that no recommendation would be given.
transaction. The holders of at least two-thirds of the outstanding
shares must approve the plan of merger or share
However, the vote of the shareholders of a surviving exchange.
corporation in a merger is not required if the articles of
incorporation of the surviving corporation will not change However, the vote of the shareholders of a
and each shareholder will hold the same number of shares surviving Texas REIT in a merger is not required if:
with identical designations, preferences, limitations and
relative rights. - the declaration of trust will not change as a
result of the merger;
- each shareholder will hold the same number of
shares, with identical designations,
preferences, limitations and relative rights;
- the voting power of the number of voting
shares immediately after the merger, plus the
voting power of the number of voting shares
issuable as a result of the merger, will not
exceed by more than 20% the voting power of
the total number of voting shares immediately
before the merger;
- the number of participating shares
immediately after the merger, plus the number
of participating shares issuable as a result
of the merger, will not exceed by more than
20% the total number of participating shares
immediately before the merger; and
- the trust managers adopt a resolution
approving the plan of merger.
DISSENTERS' RIGHTS
Under Florida law, shareholders of a corporation are Under the Texas REIT Act, shareholders of a
entitled to dissenters' rights in connection with: Texas REIT are entitled to dissenters' rights in
connection with:
- certain mergers and share exchanges to which the
corporation is a party; - a plan of merger to which the Texas REIT is a
party if shareholder approval is required
- consummation of a sale or exchange of all or and the shareholder holds shares of class
substantially all of the corporation's assets or series that was entitled to vote on
requiring shareholder approval; the plan of merger;
- the approval of a control share acquisition; - any sale, lease, exchange or other disposition
(other than pledges or mortgages), of all, or
- amendments to the articles of incorporation that substantially all, of the property and assets,
adversely affect shareholders in certain with or without goodwill, of a REIT requiring
enumerated ways; and shareholder approval under the Texas REIT Act; or
- any transaction where the articles of
incorporation provides for dissenters' rights. - any plan of exchange in which the shares of the
Texas REIT of the class or series held by
the shareholder are to be acquired.
However, unless the articles of incorporation
provide otherwise, shareholders are not entitled to Notwithstanding the foregoing, a shareholder
exercise dissenters' rights with respect to a proposed may not dissent from any plan of merger in which there
merger, share exchange or sale of property, if the shares
held by such shareholders:
241
------------------------------------------------------------------------------------------------------------------------------
PMC CAPITAL PMC COMMERCIAL
------------------------------------------------------------------------------------------------------------------------------
- are registered on a national securities exchange is a single surviving or new domestic or foreign
or quoted on the NASDAQ National Market; or corporation, REIT, partnership, or other entity, or
from any plan of exchange if:
- held of record by 2,000 shareholders or more.
- the shares held by the shareholder are part
of a class or series, and on the record date
the shares are listed on a national
securities exchange or quoted on the NASDAQ
National Market or the shares are held by not
less than 2,000 holders; and
- the shareholder is not required by the terms
of the plan of merger or exchange to accept
any consideration for the shareholder's
shares other than:
- shares of an entity that, immediately after
the effective date of the merger or
exchange, will be a part of a class or
series of shares that will be listed or
authorized for listing on a national
securities exchange, approved for quotation
on the NASDAQ National Market, or held of
record by not less than 2,000 holders;
- cash in lieu of fractional shares otherwise
entitled to be received; or
- any combination of securities or cash
described above.
SHAREHOLDER ACTION WITHOUT A MEETING
Florida law provides that, unless otherwise provided The Texas REIT Act provides that shareholders
in the articles of incorporation, action required or may take such action only upon unanimous written
permitted to be taken at an annual or special meeting of consent, a requirement unattainable by a public company
shareholders may be taken without a meeting, without prior in most circumstances.
notice, and without a vote if the action is taken by the
holders of outstanding stock of each voting group entitled
to vote thereon having not less than the minimum number of
votes with respect to each voting group that would be
necessary to authorize or take such action at a meeting at
which all voting groups and shares entitled to vote thereon
were present and voted.
PMC Capital's bylaws provide that action required to
be taken may be taken without a meeting if a consent in
writing, setting forth the action so taken, shall be signed
by all PMC Capital shareholders entitled to vote with
respect to the subject matter thereof.
242
U.S. FEDERAL INCOME TAX CONSEQUENCES
GENERAL
The following summary of material U.S. Federal income tax consequences
that may be relevant to a holder of PMC Commercial common shares is based on
current law, is for general information only and is not intended as tax advice.
The following discussion, which is not exhaustive of all possible tax
consequences, does not include a detailed discussion of any state, local or
foreign tax consequences. Nor does it discuss all of the aspects of U.S. Federal
income taxation that may be relevant to a prospective holder of PMC Commercial's
securities in light of his or her particular circumstances or to certain types
of holders (including insurance companies, tax-exempt entities, financial
institutions or broker-dealers, foreign corporations and persons who are not
citizens or residents of the United States and persons holding securities as
part of a conversion transaction, a hedging transaction or as a position in a
straddle for tax purposes) who are subject to special treatment under the U.S.
Federal income tax laws.
The statements in this discussion are based on current provisions of
the Internal Revenue Code existing, temporary and currently proposed Treasury
Regulations under the Internal Revenue Code, the legislative history of the
Internal Revenue Code, existing administrative rulings and practices of the IRS
and judicial decisions. No assurance can be given that legislative, judicial or
administrative changes will not affect the accuracy of any statements in this
discussion with respect to transactions entered into or contemplated prior to
the effective date of such changes. Any such change could apply retroactively to
transactions preceding the date of the change. PMC Commercial does not plan to
request any rulings from the IRS concerning its tax treatment and the statements
in this discussion are not binding on the IRS or any court. Thus, PMC Commercial
can provide no assurance that these statements will not be challenged by the IRS
or that such challenge will not be sustained by a court.
THIS DISCUSSION IS NOT INTENDED AS A SUBSTITUTE FOR CAREFUL TAX
PLANNING. EACH PROSPECTIVE PURCHASER OF SECURITIES IS ADVISED TO CONSULT WITH
HIS OR HER OWN TAX ADVISOR REGARDING THE SPECIFIC TAX CONSEQUENCES TO HIM OR HER
OF THE PURCHASE, OWNERSHIP AND DISPOSITION OF SECURITIES IN AN ENTITY ELECTING
TO BE TAXED AS A REIT, INCLUDING THE FEDERAL, STATE, LOCAL, FOREIGN AND OTHER
TAX CONSEQUENCES OF SUCH PURCHASE, OWNERSHIP, DISPOSITION AND ELECTION, AND OF
POTENTIAL CHANGES IN APPLICABLE TAX LAWS.
PMC Commercial has elected to be treated as a REIT under Sections 856
through 860 of the Internal Revenue Code for U.S. Federal income tax purposes
commencing with its taxable year ended December 31, 1993. PMC Commercial
believes that it has been organized and has operated in a manner that qualifies
for taxation as a REIT under the Internal Revenue Code. PMC Commercial also
believes that it will continue to operate in a manner that will preserve its
status as a REIT. PMC Commercial cannot, however, assure you that such
requirements will be met in the future.
It is a condition to the completion of the merger that PMC Commercial
receive an opinion from Locke Liddell & Sapp, its legal counsel, to the effect
that it qualified as a REIT under the Internal Revenue Code for its taxable year
ended December 31, 2000 and all years thereafter through its taxable year ended
December 31, 2003 and that PMC Commercial's proposed manner of operation and
diversity of equity ownership should enable it to continue to satisfy the
requirements for qualification as a REIT in taxable year 2004 if it operates in
accordance with the methods of operations described herein including its
representations concerning its intended method of operation. However, you should
be aware that opinions of counsel are not binding on the IRS or on the courts,
and, if the IRS were to challenge these conclusions, no assurance can be given
that these conclusions would be sustained in court. The opinion of Locke Liddell
& Sapp will be based on various assumptions as well as on certain
representations made by PMC Commercial as to factual matters, including a
factual representation letter provided by PMC Commercial. The rules governing
REITs are highly technical and require ongoing compliance with a variety of
tests that depend, among other things, on future operating results, asset
diversification, distribution levels and diversity of stock ownership. Locke
Liddell & Sapp will not monitor PMC Commercial's compliance with these
requirements. While PMC Commercial expects to satisfy these tests, and will use
its best efforts to do so, no assurance can be given that it will qualify as a
REIT for any particular year, or that the applicable law will not change and
adversely affect it and its shareholders. See "--Failure to Qualify as a REIT."
The following is a summary of the material U.S. Federal income tax
considerations affecting PMC Commercial as a REIT and the holders of its
securities. This summary is qualified in its entirety by the applicable Internal
Revenue Code
243
provisions, relevant rules and regulations promulgated under the Internal
Revenue Code, and administrative and judicial interpretations of the Internal
Revenue Code and these rules and regulations.
REIT QUALIFICATION
PMC Commercial must be organized as an entity that would, if it does
not maintain its REIT status, be taxable as a regular corporation. PMC
Commercial cannot be a financial institution or an insurance company. PMC
Commercial must be managed by one or more trust managers. Its taxable year must
be the calendar year. Its beneficial ownership must be evidenced by transferable
shares. Its capital shares must be held by at least 100 persons during at least
335 days of a taxable year of 12 months or during a proportionate part of a
taxable year of less than 12 months. Not more than 50% of the value of the
shares of PMC Commercial's capital shares may be held, directly or indirectly,
applying the applicable constructive ownership rules of the Internal Revenue
Code, by five or fewer individuals at any time during the last half of each of
its taxable years. PMC Commercial must also meet certain other tests, described
below, regarding the nature of its income and assets and the amount of its
distributions.
PMC Commercial's outstanding common shares are owned by a sufficient
number of investors and in appropriate proportions to permit it to satisfy these
share ownership requirements. To protect against violations of these share
ownership requirements, its declaration of trust provides that no person is
permitted to own, applying constructive ownership tests set forth in the
Internal Revenue Code, more than 9.8% of its outstanding common shares, unless
the trust managers (including a majority of the independent trust managers) are
provided evidence satisfactory to them in their sole discretion that its
qualification as a REIT will not be jeopardized. In addition, PMC Commercial's
declaration of trust contains restrictions on transfers of capital shares, as
well as provisions that automatically convert common shares into excess
securities to the extent that the ownership otherwise might jeopardize its REIT
status. These restrictions, however may not ensure that PMC Commercial will, in
all cases, be able to satisfy the share ownership requirements. If PMC
Commercial fails to satisfy these share ownership requirements, except as
provided in the next sentence, its status as a REIT will terminate. However, if
it complies with the rules contained in applicable Treasury Regulations that
require it to ascertain the actual ownership of its shares and it does not know,
or would not have known through the exercise of reasonable diligence, that it
failed to meet the 50% requirement described above, PMC Commercial will be
treated as having met this requirement. See the section below entitled "--
Failure to Qualify as a REIT."
To monitor its compliance with the share ownership requirements, PMC
Commercial is required to and PMC Commercial does maintain records disclosing
the actual ownership of its common shares. To do so, it will demand written
statements each year from the record holders of certain percentages of shares in
which the record holders are to disclose the actual owners of the shares (i.e.,
the persons required to include in gross income the REIT dividends). A list of
those persons failing or refusing to comply with this demand will be maintained
as part of PMC Commercial's records. Shareholders who fail or refuse to comply
with the demand must submit a statement with their tax returns disclosing the
actual ownership of the shares and certain other information.
PMC Commercial currently satisfies, and expects to continue to satisfy,
each of these requirements discussed above. PMC Commercial also currently
satisfies, and expects to continue to satisfy, the requirements that are
separately described below concerning the nature and amounts of its income and
assets and the levels of required annual distributions.
SOURCES OF GROSS INCOME
In order to qualify as a REIT for a particular year, PMC Commercial
also must meet two tests governing the sources of its income - a 75% gross
income test and a 95% gross income test. These tests are designed to ensure that
a REIT derives its income principally from passive real estate investments. The
Internal Revenue Code allows a REIT to own and operate a number of its
properties through wholly-owned subsidiaries which are "qualified REIT
subsidiaries." The Internal Revenue Code provides that a qualified REIT
subsidiary is not treated as a separate corporation, and all of its assets,
liabilities and items of income, deduction and credit are treated as assets,
liabilities and items of income of the REIT. Immediately after the merger, it is
anticipated that PMC Commercial will own several qualified REIT subsidiaries and
other entities that are disregarded as separate from PMC Commercial.
244
In the case of a REIT which is a partner in a partnership or any other
entity such as a limited liability company that is treated as a partnership for
U.S. Federal income tax purposes, Treasury Regulations provide that the REIT
will be deemed to own its proportionate share of the assets of the partnership.
Also, the REIT will be deemed to be entitled to its proportionate share of the
income of the partnership. The character of the assets and gross income of the
partnership retains the same character in the hands of the REIT for purposes of
Section 856 of the Internal Revenue Code, including satisfying the gross income
tests and the asset tests. Thus, PMC Commercial's proportionate share of the
assets and items of income of any partnership in which it owns an interest are
treated as its assets and items of income for purposes of applying the
requirements described in this discussion, including the income and asset tests
described below.
75% GROSS INCOME TEST
At least 75% of a REIT's gross income for each taxable year must be
derived from specified classes of income that principally are real estate
related. The permitted categories of principal importance to PMC Commercial are:
- rents from real property;
- interest on loans secured by real property;
- gains from the sale of real property or loans secured by real
property (excluding gain from the sale of property held
primarily for sale to customers in the ordinary course of PMC
Commercial's business, referred to below as "dealer
property");
- income from the operation and gain from the sale of property
acquired in connection with the foreclosure of a mortgage
securing that property ("foreclosure property");
- distributions on, or gain from the sale of, shares of other
qualifying REITs;
- abatements and refunds of real property taxes;
- amounts received as consideration for entering into agreements
to make loans secured by real property or to purchase or lease
real property; and
- "qualified temporary investment income" (described below).
In evaluating PMC Commercial's compliance with the 75% gross income
test, as well as the 95% gross income test described below, gross income does
not include gross income from "prohibited transactions." In general, a
prohibited transaction is one involving a sale of dealer property, not including
foreclosure property and not including certain dealer property PMC Commercial
has held for at least four years.
PMC Commercial expects that substantially all of its operating gross
income will be considered interest income from loans secured by real property,
rent from real property and dividends from its taxable REIT subsidiaries
(defined below). Interest on debt secured by mortgages on real property or on
interests in real property generally is qualifying income for purposes of the
75% gross income test. However, if the highest principal amount of a mortgage
loan outstanding during a taxable year exceeds the fair market value of the real
property securing the loan as of the date PMC Commercial acquired or originated
the mortgage loan, a portion of the interest income from such mortgage loan will
not be qualifying income for purposes of the 75% gross income test (but will be
qualifying income for purposes of the 95% gross income test). The portion of the
income that will not be qualifying income for purposes of the gross income test
will be equal to the portion of the principal amount of the loan that is not
considered secured by real property.
The term "interest," as defined for purposes of the 75% and 95% gross
income tests, generally excludes any amount that is based in whole or in part on
the income or profits of any person. However, the term "interest" generally does
not exclude an amount solely because it is based on a fixed percentage or
percentages of receipts or
245
sales. The term "interest" also generally does not exclude an amount solely
because it is based on the income or profits of a debtor, as long as the debtor
derives substantially all of its income from the related property from leasing
such property, to the extent that the amounts received by the debtor would be
characterized as "rents from real property" if the REIT received such amounts.
Furthermore, if a loan contains a provision that entitles a REIT to a percentage
of the borrower's gain upon the sale of the secured property or a percentage of
the appreciation in the property's value as of a certain date (a "shared
appreciation provision"), income attributable to such provision will be treated
as gain from the sale of the secured property, which may or may not be
qualifying income for purposes of the 75% and 95% gross income tests depending
on the nature of the property. If the property is dealer property, PMC
Commercial would be subject to a 100% prohibited transaction tax on the shared
appreciation.
Rent from real property is qualifying income for purposes of the gross
income tests only if certain conditions are satisfied. Rent from real property
includes charges for services customarily rendered to tenants, and rent
attributable to personal property leased together with the real property so long
as the personal property rent is not more than 15% of the total rent received or
accrued under the lease for the taxable year. PMC Commercial does not expect to
earn material amounts in these categories.
Rent from real property generally does not include rent based on the
income or profits derived from the property. However, rent based on a percentage
of gross receipts or sales is permitted as rent from real property and PMC
Commercial will have leases where rent is based on a percentage of gross
receipts or sales. PMC Commercial generally does not intend to lease property
and receive rentals based on the tenant's income or profit. Also excluded from
"rents from real property" is rent received from a person or corporation in
which PMC Commercial (or any of its 10% or greater owners) directly or
indirectly through the constructive ownership rules contained in Section 318 and
Section 856(d)(5) of the Internal Revenue Code, owns a 10% or greater interest.
A third exclusion from qualifying rent income covers amounts received
with respect to real property if PMC Commercial furnishes services to the
tenants or manages or operates the property, other than through an "independent
contractor" from whom PMC Commercial does not derive any income or through a
"taxable REIT subsidiary." A taxable REIT subsidiary is a corporation in which a
REIT owns stock, directly or indirectly, and with respect to which the
corporation and the REIT have made a joint election to treat the corporation as
a taxable REIT subsidiary. The obligation to operate through an independent
contractor or a taxable REIT subsidiary generally does not apply, however, if
the services PMC Commercial provides are "usually or customarily rendered" in
connection with the rental of space for occupancy only and are not considered
rendered primarily for the convenience of the tenant (applying standards that
govern in evaluating whether rent from real property would be unrelated business
taxable income when received by a tax-exempt owner of the property). Further, if
the gross income from non-customary services with respect to property is at
least 150% of its direct cost of performing such services and is less than 1% of
the total gross income derived from the property, then the provision of such
non-customary services shall not prohibit the rental income (except the non
customary service income) from qualifying as "rents from real property."
PMC Commercial believes that the only material services generally to be
provided to tenants will be those usually or customarily rendered in connection
with the rental of space for occupancy only. PMC Commercial does not intend to
provide services that might be considered rendered primarily for the convenience
of the tenants, such as hotel, health care or extensive recreational or social
services. Consequently, PMC Commercial believes that substantially all of its
rental income will be qualifying income under the gross income tests, and that
its provision of services will not cause the rental income to fail to be
included under that test.
Upon the ultimate sale of PMC Commercial's properties, any gains
realized also are expected to constitute qualifying income, as gain from the
sale of real property (not involving a prohibited transaction).
PMC Commercial is expected to receive distributions from taxable REIT
subsidiaries or other corporations that are not REITs or qualified REIT
subsidiaries. These distributions will be classified as dividend income to the
extent of the earnings and profits of the distributing corporation. Such
distributions generally constitute qualifying income for purposes of the 95%
gross income test, but not under the 75% gross income test. Any dividends
received by PMC Commercial from a REIT will be qualifying income in PMC
Commercial's hands for purposes of both the 95% and 75% income tests.
246
95% GROSS INCOME TEST
In addition to earning 75% of PMC Commercial's gross income from the
sources listed above, 95% of its gross income for each taxable year must come
either from those sources, or from dividends, interest or gains from the sale or
other disposition of stock or other securities that do not constitute dealer
property. This test permits a REIT to earn a significant portion of its income
from traditional "passive" investment sources that are not necessarily real
estate related. The term "interest" (under both the 75% and 95% tests) does not
include amounts that are based on the income or profits of any person, unless
the computation is based only on a fixed percentage of receipts or sales.
PMC Commercial believes that the interest and original issue discount
income received from mortgage-backed securities and other mortgage-related
assets generally is qualifying income for purposes of the 75% and 95% gross
income tests. In some cases, however, the loan amount of a mortgage loan PMC
Commercial owns may exceed the value of the real property securing the loan as
of the date PMC Commercial acquired or originated the mortgage loan. That
scenario could cause a portion of the income from the loan to be qualifying
income for purposes of the 95% gross income test, but not the 75% gross income
test. It also is possible that, in some instances, the interest income from a
mortgage loan may be based in part on the borrower's profits or net income. This
scenario generally will cause the income from the loan to be non-qualifying
income for purposes of both the 75% and the 95% gross income tests. PMC
Commercial does not currently own any mortgage loans where interest income is
based on the borrower's profits or net income and does not expect to own any
such mortgages in the future. PMC Commercial manages its loan portfolio so that
substantially all of the income from those assets will be qualifying income for
purposes of these tests. Furthermore, PMC Commercial manages its real property
so that substantially all of the rent received from such property qualifies as
"rents from real property." In summary, PMC Commercial believes that it will be
able to satisfy the 75% and 95% gross income tests on a continuing basis.
However, PMC Commercial may receive income not described above that is not
qualifying income for purposes of the gross income tests. PMC Commercial will
monitor the amount of non-qualifying income that its assets produce and PMC
Commercial will manage its portfolio to comply at all times with the gross
income tests.
FAILING THE 75% OR 95% TESTS; REASONABLE CAUSE
As a result of the 75% and 95% tests, REITs generally are not permitted
to earn more than 5% of their gross income from active sources, including
brokerage commissions or other fees for services rendered. PMC Commercial may
receive certain types of that income. This type of income will not qualify for
the 75% test or 95% test but is not expected to be significant and that income,
together with other non-qualifying income, is expected to be at all times less
than 5% of PMC Commercial's annual gross income. While PMC Commercial does not
anticipate that it will earn substantial amounts of non-qualifying income, if
non-qualifying income exceeds 5% of its gross income, PMC Commercial could lose
its status as a REIT. PMC Commercial will establish taxable REIT subsidiaries to
hold assets generating non qualifying income. The gross income generated by
these subsidiaries would not be included in its gross income. However, dividends
PMC Commercial receives from these subsidiaries would be included in its gross
income and qualify for the 95% income test.
If PMC Commercial fails to meet either the 75% or 95% income tests
during a taxable year, it may still qualify as a REIT for that year if (1) it
reports the source and nature of each item of its gross income in its U.S.
Federal income tax return for that year, (2) the inclusion of any incorrect
information in its return is not due to fraud with intent to evade tax, and (3)
the failure to meet the tests is due to reasonable cause and not to willful
neglect. It is not possible, however, to state whether in all circumstances PMC
Commercial would be entitled to the benefit of this relief provision. For
example, if PMC Commercial fails to satisfy the gross income tests because
non-qualifying income that it intentionally accrues or receives causes it to
exceed the limits on non-qualifying income, the IRS could conclude that its
failure to satisfy the tests was not due to reasonable cause. If these relief
provisions do not apply to a particular set of circumstances, PMC Commercial
will not qualify as a REIT. As discussed below, even if these relief provisions
apply, and PMC Commercial retains its status as a REIT, a tax would be imposed
with respect to its non-qualifying income. PMC Commercial would be subject to a
100% tax based on the greater of the amount by which it fails either the 75% or
95% income tests (but in the case of the 95% income test, applied only to the
extent its qualifying income is less than 90% of its gross income) for that
year, times a fraction intended to reflect PMC Commercial's profitability. See
"--Taxation as a REIT."
247
PROHIBITED TRANSACTION INCOME
Any gain that PMC Commercial realizes on the sale of any property held
as inventory or other property held primarily for sale to customers in the
ordinary course of business (including its share of any such gain realized by
any subsidiary partnerships), will be treated as income from a prohibited
transaction that is subject to a 100% penalty tax. This prohibited transaction
income may also adversely affect its ability to satisfy the income tests for
qualification as a REIT. Under existing law, whether property is held as
inventory or primarily for sale to customers in the ordinary course of a trade
or business depends on all the facts and circumstances surrounding the
particular transaction. PMC Commercial intends to hold its and its subsidiary
partnerships intend to hold their properties for investment with a view to
long-term appreciation, to engage in the business of acquiring, developing and
owning properties, and to make occasional sales of the properties as are
consistent with their investment objectives. The IRS may contend, however, that
one or more of these sales is subject to the 100% penalty tax.
PMC Commercial believes that none of its assets are held or have been
held for sale to customers and that a sale of any such asset would not be and
has not been in the ordinary course of its business. Whether a REIT holds an
asset "primarily for sale to customers in the ordinary course of a trade or
business" depends, however, on the facts and circumstances in effect from time
to time, including those related to a particular asset. PMC Commercial cannot
provide assurance, however, that it will avoid owning property that may be
characterized as property that it holds "primarily for sale to customers in the
ordinary course of a trade or business."
CHARACTER OF ASSETS OWNED
At the close of each calendar quarter of the taxable year, PMC
Commercial also must meet three tests concerning the nature of its investments.
First, at least 75% of the value of its total assets generally must consist of
real estate assets, cash, cash items (including receivables) and government
securities. For this purpose, "real estate assets" include interests in real
property, interests in loans secured by mortgages on real property or by certain
interests in real property, shares in other REITs and certain options, but
excluding mineral, oil or gas royalty interests. The temporary investment of new
capital in debt instruments also qualifies under this 75% asset test, but only
for the one year period beginning on the date PMC Commercial receives the new
capital. The term "real estate assets" also includes regular or residual
interests in a real estate mortgage investment conduit ("REMIC"). However, if
less than 95% of the assets of a REMIC consist of "real estate assets"
(determined as if the REIT held such assets), the REIT will be treated as
holding directly its proportionate share of the assets of such REMIC. For
purposes of determining what portion of a loan secured by a mortgage on real
property constitutes a real estate asset, the IRS has issued a private letter
ruling which concludes that it will allow a REIT to utilize the same
apportionment methodology described above in the section entitled "- REIT
Qualification - 75% Gross Income Test." Pursuant to this methodology, a loan
will constitute a real estate asset to the extent that the fair market value of
the real property securing a loan equals or exceeds the outstanding principal
balance of the loan with such determination made at the time the REIT acquires
or originates the loan. However, if the outstanding principal balance of a loan
exceeds the fair market value of the real property securing the loan at the time
of origination or acquisition, pursuant to this methodology the portion of such
loan in excess of the value of the associated real property will not be a
qualifying "real estate asset." Because a private letter ruling is directed only
to the taxpayer who requested it and it may not be used as precedent, whether
this methodology may be applied for purposes of the asset tests is not free from
doubt.
Second, although the balance of its assets generally may be invested
without restriction, other than certain debt securities, PMC Commercial will not
be permitted to own (1) securities of any one non-governmental issuer that
represent more than 5% of the value of PMC Commercial's total assets, (2)
securities possessing more than 10% of the voting power of the outstanding
securities of any single issuer or (3) securities having a value of more than
10% of the total value of the outstanding securities of any one issuer. A REIT,
however, may own 100% of the stock of a qualified REIT subsidiary, in which case
the assets, liabilities and items of income, deduction and credit of the
subsidiary are treated as those of the REIT. A REIT may also own more than 10%
of the voting power or value of a taxable REIT subsidiary. Third, not more than
20% of the value of a REIT's total assets may be represented by securities of
one or more taxable REIT subsidiaries. After the merger, PMC Commercial will own
securities of one or more taxable REIT subsidiaries. However, the value of such
securities will not exceed 20% of the value of PMC Commercial's total assets.
PMC Commercial will monitor its compliance with these tests and will manage its
assets to comply with these tests at all times. In evaluating a REIT's assets,
if the REIT invests in a partnership, it is deemed to own its proportionate
share of the assets of the partnership.
248
PMC Commercial believes that all of its mortgage assets are qualifying
assets for purposes of the 75% asset test. However, if the outstanding principal
balance of a mortgage loan exceeds the fair market value of the real property
securing the loan, a portion of such loan may not be a qualifying "real estate
asset." The non-qualifying portion of the mortgage loan may be equal to the
portion of the loan amount that exceeds the value of the associated real
property. PMC Commercial will monitor the status of assets for purposes of the
various asset tests and PMC Commercial will manage its portfolio to comply at
all times with such tests.
After initially meeting the asset tests at the close of any quarter,
PMC Commercial will not lose its status as a REIT for failure to satisfy the
asset tests at the end of a later quarter solely by reason of changes in asset
values. If PMC Commercial fails to satisfy the asset tests because it acquires
securities or other property during a quarter, it can cure this failure by
disposing of sufficient non-qualifying assets within 30 days after the close of
that quarter. PMC Commercial intends to take such action within the 30 days
after the close of any quarter as may be required to cure any noncompliance. If
PMC Commercial fails to cure noncompliance with the asset tests within this time
period, it would cease to qualify as a REIT.
ANNUAL DISTRIBUTIONS TO SHAREHOLDERS
To maintain its REIT status, PMC Commercial generally must distribute
as a dividend to its shareholders in each taxable year at least 90% of its net
ordinary income. Capital gain is not required to be distributed. More precisely,
PMC Commercial must distribute an amount equal to (1) 90% of the sum of (a) its
"REIT Taxable Income" before deduction of dividends paid and excluding any net
capital gain and (b) any net income from foreclosure property less the tax on
such income, minus (2) certain limited categories of "excess non-cash income,"
including income attributable to leveled stepped rents, cancellation of
indebtedness and original issue discount income. REIT Taxable Income is defined
to be the taxable income of the REIT, computed as if it were an ordinary
corporation, with certain modifications. For example, the deduction for
dividends paid is allowed, but neither net income from foreclosure property, nor
net income from prohibited transactions, is included. In addition, the REIT may
carry over, but not carry back, a net operating loss for 20 years following the
year in which it was incurred.
A REIT may satisfy the 90% distribution test with dividends paid during
the taxable year and with certain dividends paid after the end of the taxable
year. Dividends paid in January that were declared during the last calendar
quarter of the prior year and were payable to shareholders of record on a date
during the last calendar quarter of that prior year are treated as paid on
December 31 of the prior year. Other dividends declared before the due date of
PMC Commercial's tax return for the taxable year, including extensions, also
will be treated as paid in the prior year if they are paid (1) within 12 months
of the end of that taxable year and (2) no later than PMC Commercial's next
regular distribution payment after the declaration. Dividends that are paid
after the close of a taxable year that do not qualify under the rule governing
payments made in January (described above) will be taxable to the shareholders
in the year paid, even though PMC Commercial may take them into account for a
prior year. A nondeductible excise tax equal to 4% will be imposed for each
calendar year to the extent that dividends declared and distributed or deemed
distributed on or before December 31 are less than the sum of (a) 85% of its
"ordinary income" plus (b) 95% of its capital gain net income plus (c) any
undistributed income from prior periods.
To be entitled to a dividends paid deduction, the amount distributed by
a REIT must not be preferential. For example, every shareholder of the class of
shares to which a distribution is made must be treated the same as every other
shareholder of that class, and no class of shares may be treated otherwise than
in accordance with its dividend rights as a class.
PMC Commercial will be taxed at regular corporate rates to the extent
that it retains any portion of its taxable income. For example, if PMC
Commercial distributes only the required 90% of its taxable income, it would be
taxed on the retained 10%. Under certain circumstances PMC Commercial may not
have sufficient cash or other liquid assets to meet the distribution
requirement. This could arise because of competing demands for its funds, or due
to timing differences between tax reporting and cash receipts and disbursements
(i.e., income may have to be reported before cash is received, or expenses may
have to be paid before a deduction is allowed). Although PMC Commercial does not
anticipate any difficulty in meeting this requirement, no assurance can be given
that necessary funds will be available. In the event these circumstances do
occur, then in order to meet the 90% distribution requirement, PMC Commercial
may cause its operating partnership to arrange for short-term, or possibly
long-term, borrowings to permit the payment of required dividends.
249
If PMC Commercial fails to meet the 90% distribution requirement
because of an adjustment to its taxable income by the IRS, it may be able to
cure the failure retroactively by paying a "deficiency dividend," as well as
applicable interest and penalties, within a specified period.
From time to time, PMC Commercial may experience timing differences
between (i) the actual receipt of income and actual payment of deductible
expenses and (ii) the inclusion of that income and deduction of such expenses in
arriving at its REIT taxable income. For example, PMC Commercial may not deduct
recognized capital losses from its REIT taxable income. In addition, PMC
Commercial will recognize taxable income in advance of its related cash flow if
any of its mortgage-backed securities or mortgage loans are deemed to have
original issue discount ("OID"). PMC Commercial generally must accrue OID based
on a constant yield method that takes into account projected prepayments but
that defers credit losses until they are actually incurred. PMC Commercial also
may recognize taxable market discount income when it receives the proceeds from
the disposition of, or principal payments on, loans that are "market discount
bonds" (i.e., obligations with a stated redemption price at maturity that is
greater than its tax basis in such obligations), although such proceeds often
will be used to make nondeductible principal payments on related borrowings. PMC
Commercial also may recognize "excess inclusion" or other non-cash taxable
income from REMIC residual interests and non-REMIC retained ownership interests.
Furthermore, PMC Commercial may recognize taxable income without receiving a
corresponding cash distribution if it forecloses on or makes a "significant
modification" (as defined in Treasury Regulations Section 1.1001-3) to a loan,
to the extent that the fair market value of the underlying property or the
principal amount of the modified loan, as applicable, exceeds PMC Commercial's
basis in the original loan. Finally, although certain types of non-cash income
are excluded in determining the annual distribution requirement, PMC Commercial
will incur U.S. Federal corporate income tax and the 4% excise tax with respect
to those non-cash income items if it does not distribute those items on a
current basis. As a result of the foregoing, PMC Commercial may have less cash
than is necessary to distribute all of its taxable income and thereby avoid U.S.
Federal corporate income tax and the excise tax imposed on certain undistributed
income. In such a situation, PMC Commercial may need to borrow funds or issue
additional common shares.
TAXATION AS A REIT
As a REIT, PMC Commercial generally will not be subject to U.S. Federal
corporate income tax to the extent it currently distributes its REIT taxable
income to its shareholders. This treatment effectively eliminates the "double
taxation" imposed on investments in most corporations. Double taxation refers to
taxation that occurs once at the corporate level when income is earned and once
again at the shareholder level when such income is distributed. PMC Commercial
generally will be taxed only on the portion of its taxable income that it
retains, which will include any undistributed net capital gain, because it will
be entitled to a deduction for dividends paid to shareholders during the taxable
year. A dividends paid deduction is not available for dividends that are
considered preferential within any given class of shares or as between classes
except to the extent that class is entitled to a preference. PMC Commercial does
not anticipate that it will pay any of those preferential dividends. Because
excess shares will represent a separate class of outstanding shares, the fact
that those shares will not be entitled to dividends should not adversely affect
PMC Commercial's ability to deduct its dividend payments.
Even as a REIT, PMC Commercial will be subject to tax in certain
circumstances as follows:
- PMC Commercial would be subject to tax on any income or gain
from foreclosure property at the highest corporate rate
(currently 35%). Foreclosure property is generally defined as
property acquired through foreclosure or after a default on a
loan secured by the property or a lease of the property;
- a confiscatory tax of 100% applies to any net income from
prohibited transactions which are, in general, certain sales
or other dispositions of property held primarily for sale to
customers in the ordinary course of business;
- if PMC Commercial fails to meet either the 75% or 95% source
of income tests described above, but still qualifies for REIT
status under the reasonable cause exception to those tests, a
100% tax would be imposed equal to the amount obtained by
multiplying (a) the greater of the amount, if
250
any, by which it failed either the 75% income test or the 95%
income test (but in the case of the 95% income test applied
only to the extent that PMC Commercial's qualifying income is
less than 90% of its gross income), times (b) a fraction
intended to reflect its profitability;
- PMC Commercial will be subject to the alternative minimum tax
on items of tax preference, excluding items specifically
allocable to its shareholders;
- if PMC Commercial should fail to distribute with respect to
each calendar year at least the sum of (a) 85% of its REIT
ordinary income for that year, (b) 95% of its REIT capital
gain net income for that year, and (c) any undistributed
taxable income from prior years, PMC Commercial would be
subject to a 4% excise tax on the excess of the required
distribution over the amounts actually distributed;
- PMC Commercial also may be taxed at the highest regular
corporate tax rate on any built-in gain attributable to assets
that it acquires from a C corporation in certain tax-free
corporate transactions (such as tax-free reorganizations and
tax-free liquidations of wholly-owned subsidiaries), to the
extent the gain is recognized during the first ten years after
it acquires those assets. Built-in gain is the excess of (a)
the fair market value of the asset over (b) PMC Commercial's
adjusted basis in the asset, in each case determined as of the
beginning of the ten-year recognition period. The results
described in this paragraph with respect to the recognition of
built-in gain assume that PMC Commercial will not make an
election to be taxed currently on the built-in gain as a
result of the merger, and reflect that some of the corporate
subsidiaries of PMC Capital will become qualified REIT
subsidiaries of PMC Commercial and therefore will be deemed
for U.S. Federal income tax purposes to be liquidated into PMC
Commercial on a tax-free basis. To the extent that such a
subsidiary is subject to taxation as a C corporation at the
time of the deemed liquidation, the built-in gain attributable
to the assets of such subsidiary will be taxed to the extent
the built-in gain is recognized during the first ten years
after the merger. This provision will also apply to the
tax-free merger of PMC Capital into PMC Commercial if PMC
Capital does not qualify as a RIC for U.S. Federal income tax
purposes for its final taxable year ending on the date of the
merger and instead is taxed as a C corporation for such short
taxable year; and
- PMC Commercial will be taxed at regular corporate rates on any
undistributed REIT taxable income, including undistributed net
capital gains.
REITs generally will incur tax at the maximum corporate rate on any
income from foreclosure property (other than income that would be qualifying
income for purposes of the 75% gross income test), less expenses directly
connected with the production of such income. "Foreclosure property" is any real
property (including interests in real property) and any personal property
incident to such real property that meets the following requirements:
- the REIT acquires the property when the REIT bids in such
property at foreclosure, or otherwise reduces such property to
ownership or possession by agreement or process of law, after
a default (or imminent default) on a lease of such property or
on a debt owed to the REIT that such property secured;
- the REIT acquired the related loan when default was not
imminent or anticipated; and
- the REIT elects to treat the property as foreclosure property.
PMC Commercial anticipates that if it receives any income from foreclosure
property that is not qualifying income for purposes of the 75% gross income
test, it will make an election to treat the related property as foreclosure
property to the extent it is eligible to make such election. Alternatively, PMC
Commercial may transfer the asset to a taxable REIT subsidiary.
251
Property is not eligible for the election to be treated as foreclosure
property if a REIT acquires the related loan while default is imminent or
anticipated. Therefore, if PMC Commercial acquires a non-performing or
under-performing loan and it later acquires the collateral by foreclosure, the
collateral will not qualify as foreclosure property if default was imminent or
anticipated when it acquired the loan. If so, the income it receives with
respect to such ineligible property will not be qualifying income for purposes
of the 75% and 95% gross income test (for example, in the case of a foreclosure
of a hotel) unless the income would otherwise satisfy these qualifying income
requirements. PMC Commercial does not believe that it has acquired any loans
while default is imminent or anticipated.
A tax is imposed on a REIT equal to 100% of redetermined rents,
redetermined deductions and excess interest paid by a taxable REIT subsidiary to
a REIT. Redetermined rents are generally rents from real property paid by a
taxable REIT subsidiary to a REIT which would otherwise be reduced on
distribution, apportionment or allocation to clearly reflect income as a result
of services furnished or rendered by the taxable REIT subsidiary to tenants of
the REIT. There are a number of exceptions with regard to redetermined rents,
which are summarized below.
- Redetermined rents do not include amounts received directly or
indirectly by a REIT for customary services.
- Redetermined rents do not include de minimis payments received
by the REIT with respect to non-customary services rendered to
the tenants of a property owned by the REIT that do not exceed
1% of all amounts received by the REIT with respect to the
property.
- The redetermined rent provisions do not apply with respect to
any services rendered by a taxable REIT subsidiary to the
tenants of the REIT, as long as the taxable REIT subsidiary
renders a significant amount of similar services to persons
other than the REIT and to tenants who are unrelated to the
REIT or the taxable REIT subsidiary or the REIT tenants, and
the charge for these services is substantially comparable to
the charge for similar services rendered to such unrelated
persons.
- The redetermined rent provisions do not apply to any services
rendered by a taxable REIT subsidiary to a tenant of a REIT if
the rents paid by tenants leasing at least 25% of the net
leasable space in the REIT's property who are not receiving
such services are substantially comparable to the rents paid
by tenants leasing comparable space who are receiving the
services and the charge for the services is separately stated.
- The redetermined rent provisions do not apply to any services
rendered by a taxable REIT subsidiary to tenants of a REIT if
the gross income of the taxable REIT subsidiary from these
services is at least 150% of the taxable REIT subsidiary's
direct cost of rendering the service.
- The Secretary of the Treasury has the power to waive the tax
that would otherwise be imposed on redetermined rents if the
REIT establishes to the satisfaction of the Secretary that
rents charged to tenants were established on an arm's length
basis even though a taxable REIT subsidiary provided services
to the tenants.
Redetermined deductions are deductions, other than redetermined rents,
of a taxable REIT subsidiary if the amount of these deductions would be
decreased on distribution, apportionment or allocation to clearly reflect income
between the taxable REIT subsidiary and the REIT. Excess interest means any
deductions for interest payments made by a taxable REIT subsidiary to the REIT
to the extent that the interest payments exceed a commercially reasonable rate
of interest.
FAILURE TO QUALIFY AS A REIT
For any taxable year in which PMC Commercial fails to qualify as a REIT
and certain relief provisions do not apply, it would be taxed at regular
corporate rates, including alternative minimum tax rates on all of its taxable
252
income. Distributions to its shareholders would not be deductible in computing
that taxable income, and distributions would no longer be required to be made.
Any corporate level taxes generally would reduce the amount of cash available
for distribution to its shareholders and, because the shareholders would
continue to be taxed on the distributions they receive, the net after tax yield
to the shareholders from their investment likely would be reduced substantially.
As a result, failure to qualify as a REIT during any taxable year could have a
material adverse effect on an investment in PMC Commercial's common shares. If
PMC Commercial loses its REIT status, unless certain relief provisions apply, it
would not be eligible to elect REIT status again until the fifth taxable year
which begins after the taxable year during which its election was terminated. It
is not possible to state whether in all circumstances PMC Commercial would be
entitled to this statutory relief.
TAXABLE MORTGAGE POOLS
An entity, or a portion of an entity, may be classified as a taxable
mortgage pool ("TMP") under the Internal Revenue Code if (1) substantially all
of its assets consist of debt obligations or interests in debt obligations, (2)
more than 50% of those debt obligations are real estate mortgages or interests
in real estate mortgages as of specified testing dates, (3) the entity has
issued debt obligations (liabilities) that have two or more maturities, and (4)
the payments required to be made by the entity on its debt obligations
(liabilities) "bear a relationship" to the payments to be received by the entity
on the debt obligations that it holds as assets. Under regulations issued by the
U.S. Treasury Department, if less than 80% of the assets of an entity (or a
portion of an entity) consist of debt obligations, these debt obligations are
considered not to comprise "substantially all" of its assets, and therefore the
entity would not be treated as a TMP.
Where an entity, or a portion of an entity, is classified as a TMP, it
is generally treated as a taxable corporation for U.S. Federal income tax
purposes. In the case of a REIT, or a portion of a REIT, or a disregarded
subsidiary of a REIT, that is a TMP, however, special rules apply. The TMP is
not treated as a corporation that is subject to U.S. Federal corporate income
tax, and the TMP classification does not directly affect the tax status of the
REIT. Rather, the consequences of the TMP classification would, in general,
except as described below, be limited to the shareholders of the REIT. The
Treasury Department has not yet issued regulations to govern the treatment of
shareholders as described below. A portion of the REIT's income from the TMP
arrangement, which might be non-cash accrued income, could be treated as "excess
inclusion income". This income would nonetheless be subject to the distribution
requirements that apply to the REIT, and could therefore adversely affect its
liquidity. Moreover, the REIT's excess inclusion income would be allocated among
its shareholders. A shareholder's share of excess inclusion income (i) would not
be allowed to be offset by any net operating losses otherwise available to the
shareholder, (ii) would be subject to tax as unrelated business taxable income
in the hands of most types of shareholders that are otherwise generally exempt
from U.S. Federal income tax, and (iii) would result in the application of U.S.
Federal income tax withholding at the maximum rate, without reduction for any
otherwise applicable income tax treaty, to the extent allocable to most types of
foreign shareholders. To the extent that excess inclusion income is allocated to
a tax-exempt shareholder of a REIT that is not subject to unrelated business
income tax (such as government entities), the REIT would be taxable on this
income at the highest applicable federal corporate tax rate (currently 35%). The
manner in which excess inclusion income would be allocated among shares of
different classes of stock is not clear under current law. Tax-exempt investors,
foreign investors and taxpayers with net operating losses should carefully
consider the tax consequences described above and are urged to consult their tax
advisors.
If a subsidiary partnership of PMC Commercial, not wholly-owned by PMC
Commercial directly or through one or more disregarded entities were a TMP, the
foregoing rules would not apply. Rather, the partnership that is a TMP would be
treated as a corporation for U.S. Federal income tax purposes, and would
potentially be subject to U.S. Federal corporate income tax. In addition, this
characterization would alter PMC Commercial's REIT income and asset test
calculations, and could aversely affect its compliance with those requirements.
PMC Commercial believes that it has no subsidiary partnerships that are or will
become TMPs, and intends to monitor the structure of any TMPs in which it has an
interest to ensure that they will not adversely affect its status as a REIT.
RECENT LEGISLATION TO REDUCE THE MAXIMUM TAX RATE ON CERTAIN CORPORATE DIVIDENDS
On May 28, 2003, President Bush signed into law the Jobs and Growth Tax
Relief Reconciliation Act of 2003, that reduces the tax rate on both dividends
and long-term capital gains for individuals and certain other non-
253
corporate taxpayers to 15% until December 31, 2008. This reduced tax rate
generally will not apply to ordinary REIT dividends, which will continue to be
taxed at the higher tax rates applicable to ordinary income (a maximum rate of
35% under the new legislation). However, the new 15% tax rate will apply to (i)
long-term capital gains recognized on the disposition of REIT shares; (ii) REIT
capital gain distributions (except to the extent attributable to real estate
depreciation, in which case such distributions would continue to be subject to a
25% tax rate), (iii) REIT dividends attributable to dividends received by the
REIT from non-REIT corporations, including taxable REIT subsidiaries, and (iv)
REIT dividends attributable to certain income that was subject to corporate
income tax at the REIT level (e.g., when it distributes taxable income that had
been retained and taxed at the REIT level in the prior taxable year). This
legislation could cause shares in non-REIT corporations to be a more attractive
investment to individual investors than shares in REITs. The legislation could
have an adverse effect on the market price of PMC Commercial common shares.
TAXATION OF TAXABLE U.S. SHAREHOLDERS
Except as discussed below, distributions generally will be taxable to
taxable U.S. shareholders as ordinary income to the extent of PMC Commercial's
current or accumulated earnings and profits. PMC Commercial may generate cash in
excess of its net earnings. If PMC Commercial distributes cash to shareholders
in excess of its current and accumulated capital earnings and profits (other
than as a capital gain dividend), the excess cash will be deemed to be a return
of capital to each shareholder to the extent of the adjusted tax basis of the
shareholder's shares. Distributions in excess of the adjusted tax basis will be
treated as gain from the sale or exchange of the shares. A shareholder who has
received a distribution in excess of current and PMC Commercial's accumulated
earnings and profits may, upon the sale of the shares, realize a higher taxable
gain or a smaller loss because the basis of the shares as reduced will be used
for purposes of computing the amount of the gain or loss. Distributions PMC
Commercial makes, whether characterized as ordinary income or as capital gains,
are not eligible for the dividends received deduction for corporations. For
purposes of determining whether distributions to holders of common shares are
out of current or accumulated earnings and profits, its earnings and profits
will be allocated first to the outstanding preferred shares, if any, and then to
the common shares.
Dividends PMC Commercial declares in October, November, or December of
any year and payable to a shareholder of record on a specified date in any of
these months shall be treated as both paid by PMC Commercial and received by the
shareholder on December 31 of that year, provided PMC Commercial actually pays
the dividend on or before January 31 of the following calendar year.
Shareholders may not include in their own income tax returns any of PMC
Commercial's net operating losses or capital losses.
Distributions that PMC Commercial properly designates as capital gain
dividends will be taxable to taxable U.S. shareholders as gains from the sale or
disposition of a capital asset to the extent that they do not exceed its actual
net capital gain for the taxable year. Depending on the tax characteristics of
the assets which produced these gains, and on certain designations, if any,
which PMC Commercial may make, these gains may be taxable to non-corporate U.S.
shareholders at a 15% or 25% rate. U.S. shareholders that are corporations may,
however, be required to treat up to 20% of certain capital gain dividends as
ordinary income.
PMC Commercial may elect to retain, rather than distribute as a capital
gain dividend, its net long-term capital gains. If PMC Commercial makes this
election, it would pay tax on its retained net long-term capital gains. In
addition, to the extent PMC Commercial designates, a U.S. shareholder generally
would:
- include its proportionate share of PMC Commercial's
undistributed long-term capital gains in computing its
long-term capital gains in its return for its taxable year in
which the last day of PMC Commercial's taxable year falls;
- be deemed to have paid the capital gains tax imposed on PMC
Commercial on the designated amounts included in the U.S.
shareholder's long-term capital gains;
- receive a credit or refund for the amount of tax deemed paid
by it;
254
- increase the adjusted basis of its common shares by the
difference between the amount of includable gains and the tax
deemed to have been paid by it; and
- in the case of a U.S. shareholder that is a corporation,
appropriately adjust its earnings and profits for the retained
capital gains in accordance with Treasury Regulations to be
prescribed by the IRS.
Distributions PMC Commercial makes and gains arising from the sale or
exchange by a U.S. shareholder of its shares will not be treated as income from
a passive activity, within the meaning of Section 469 of the Internal Revenue
Code, since income from a passive activity generally does not include dividends
and gain attributable to the disposition of property that produces dividends. As
a result, U.S. shareholders subject to the passive activity rules will generally
be unable to apply any "passive losses" against this income or gain.
Distributions PMC Commercial makes, to the extent they do not constitute a
return of capital, generally will be treated as investment income for purposes
of computing the investment interest limitation. Gain arising from the sale or
other disposition of its shares, however, will be treated as investment income
if a shareholder so elects, in which case the capital gain is taxed at ordinary
income rates.
Generally, gain or loss realized by a shareholder upon the sale of
shares will be reportable as capital gain or loss. If a shareholder receives a
long-term capital gain dividend from PMC Commercial and has held the shares for
six months or less, any loss incurred on the sale or exchange of the shares is
treated as a long-term capital loss to the extent of the corresponding long-term
capital gain dividend received.
In any year in which PMC Commercial fails to qualify as a REIT, the
shareholders generally will continue to be treated in the same fashion described
above, except that none of PMC Commercial's dividends will be eligible for
treatment as capital gains dividends, corporate shareholders will qualify for
the dividends received deduction and the shareholders will not be required to
report any share of PMC Commercial's tax preference items.
PMC Commercial's investments may cause it under certain circumstances
to recognize taxable income in excess of its economic income (non-cash income)
and to experience an offsetting excess of economic income over its taxable
income in later years. As a result, U.S. shareholders may from time to time be
required to pay U.S. Federal income tax on distributions that economically
represent a return of capital, rather than a dividend. Such distributions would
be offset in later years by distributions representing economic income that
would be treated as returns of capital for U.S. Federal income tax purposes.
Accordingly, if PMC Commercial receives non-cash income, its U.S. shareholders
may incur federal income tax with respect to such income on an accelerated basis
(i.e., before the U.S. shareholders realize such income in an economic sense).
Taking into account the time value of money, such an acceleration of U.S.
Federal income tax liabilities would cause shareholders to receive an after-tax
rate of return on an investment in the REIT that would be less than the
after-tax rate of return on an investment with an identical before-tax rate of
return that did not generate non-cash income. PMC Commercial will consider the
potential effects of non-cash income on its taxable U.S. shareholders in
managing its investments.
To the extent that PMC Commercial owns REMIC residual interests, its
U.S. shareholders likely may not offset certain portions of the dividend income
they receive with their current deductions or net operating loss carryovers or
carrybacks. This limitation would apply to the portion of a U.S. shareholder's
dividends equal to its allocable share of any "excess inclusion" derived with
respect to its REMIC residual interests. Its "excess inclusion" for any calendar
quarter will equal the excess of its income from REMIC residual interests over
its "daily accruals" with respect to such interests for the calendar quarter.
Daily accruals for a calendar quarter are computed by allocating to each date on
which a REMIC residual interest is owned a ratable portion of the product of (i)
the "adjusted issue price" of the REMIC residual interest at the beginning of
the quarter and (ii) 120% of the long-term federal interest rate (adjusted for
quarterly compounding) on the date of issuance of the REMIC residual interest.
To the extent provided in Treasury Regulations, if PMC Commercial owns a REMIC
residual interest that does not have significant value, the "excess inclusion"
that PMC Commercial derives from such REMIC residual interest will be deemed to
be equal to the entire amount of income PMC Commercial derives from such REMIC
residual interest. Furthermore, if PMC Commercial owns stock in other REITs that
own REMIC residual interests, a portion of the dividends that PMC Commercial
receives from such REITs may be treated as "excess inclusion." Those dividends
may cause a portion of the dividends that PMC Commercial pays to its
shareholders also to be treated as "excess inclusion."
255
If PMC Commercial (or one of its qualified REIT subsidiaries) issues
debt obligations secured by its mortgage loans in non-REMIC transactions, PMC
Commercial or such mortgage loans may be treated as a TMP under the Internal
Revenue Code if the payments on the debt obligations bear a relationship to the
payments on the underlying mortgage loans. In such a case, a portion or all of
the taxable income generated by PMC Commercial's retained ownership interest in
the mortgage loans constituting a TMP may be characterized as "excess inclusion"
and allocated pro rata among its U.S. shareholders. U.S. shareholders would not
be permitted to offset certain portions of their dividend income that are
attributable to the non-REMIC transactions with their current deductions of net
operating loss carryovers or carrybacks. See "-Taxable Mortgage Pools."
BACKUP WITHHOLDING
PMC Commercial will report to its shareholders and the IRS the amount
of dividends paid during each calendar year and the amount of tax withheld, if
any. If a shareholder is subject to backup withholding, PMC Commercial will be
required to deduct and withhold from any dividends payable to that shareholder a
backup withholding tax. These rules may apply (1) when a shareholder fails to
supply a correct taxpayer identification number, (2) when the IRS notifies PMC
Commercial that the shareholder is subject to the rules or has furnished an
incorrect taxpayer identification number, or (3) in the case of corporations or
others within certain exempt categories, when they fail to demonstrate that fact
when required. A shareholder that does not provide a correct taxpayer
identification number may also be subject to penalties imposed by the IRS. Any
amount withheld as backup withholding may be credited against the shareholder's
federal income tax liability. PMC Commercial also may be required to withhold a
portion of capital gain distributions made to shareholders who fail to certify
their non foreign status.
TAXATION OF TAX-EXEMPT ENTITIES
In general, a tax-exempt entity that is a shareholder will not be
subject to tax on distributions or gain realized on the sale of shares. A
tax-exempt entity may be subject to unrelated business taxable income ("UBTI"),
however, to the extent that it has financed the acquisition of its shares with
"acquisition indebtedness" within the meaning of the Internal Revenue Code. In
determining the number of shareholders a REIT has for purposes of the "50% test"
described above under "--REIT Qualification," generally, any shares held by
tax-exempt employees' pension and profit sharing trusts which qualify under
Section 401(a) of the Internal Revenue Code and are exempt from tax under
Section 501(a) of the Internal Revenue Code ("qualified trusts") will be treated
as held directly by its beneficiaries in proportion to their interests in the
trust and will not be treated as held by the trust.
A qualified trust owning more than 10% of a REIT may be required to
treat a percentage of dividends from the REIT as UBTI. The percentage is
determined by dividing the REIT's gross income (less direct expenses related
thereto) derived from an unrelated trade or business for the year (determined as
if the REIT were a qualified trust) by the gross income of the REIT for the year
in which the dividends are paid. However, if this percentage is less than 5%,
dividends are not treated as UBTI. These UBTI rules apply only if the REIT
qualifies as a REIT because of the "look-thru" rule with respect to the 50% test
discussed above and if the trust is "predominantly held" by qualified trusts. A
REIT is predominantly held by qualified trusts if at least one pension trust
owns more than 25% of the value of the REIT or a group of pension trusts each
owning more than 10% of the value of the REIT collectively own more than 50% of
the value of the REIT. PMC Commercial does not currently meet either of these
requirements.
For social clubs, voluntary employee benefit associations, supplemental
unemployment benefit trusts and qualified group legal services plans exempt from
federal income taxation under Sections 501(c)(7), (c)(9), (c)(17) and (c)(20) of
the Internal Revenue Code, respectively, income from an investment in PMC
Commercial's capital stock will constitute UBTI unless the organization is able
to deduct an amount properly set aside or placed in reserve for certain purposes
so as to offset the UBTI generated by the investment in its capital stock. These
prospective investors should consult their own tax advisors concerning the "set
aside" and reserve requirements.
TAXATION OF FOREIGN INVESTORS
The rules governing U.S. Federal income taxation of nonresident alien
individuals, foreign corporations, foreign partnerships and other foreign
shareholders are complex and no attempt will be made herein to provide more
256
than a summary of such rules. Prospective non-U.S. shareholders should consult
with their own tax advisors to determine the impact of federal, state and local
income tax laws with regard to an investment in common shares, including any
reporting requirements, as well as the tax treatment of such an investment under
the laws of their home country.
Dividends that are not attributable to gain from any sales or exchanges
PMC Commercial makes of United States real property interests and which it does
not designate as capital gain dividends will be treated as dividends of ordinary
income to the extent that they are made out of its current or accumulated
earnings and profits. Those dividends ordinarily will be subject to a
withholding tax equal to 30% of the gross amount of the dividend unless an
applicable tax treaty reduces or eliminates that tax. However, if income from
the investment in the common shares is treated as effectively connected with the
non-U.S. shareholder's conduct of a United States trade or business, the
non-U.S. shareholder generally will be subject to a tax at graduated rates, in
the same manner as U.S. shareholders are taxed with respect to those dividends,
and may also be subject to the 30% branch profits tax in the case of a
shareholder that is a foreign corporation. For withholding tax purposes, PMC
Commercial is currently required to treat all distributions as if made out of
its current and accumulated earnings and profits and thus PMC Commercial intends
to withhold at the rate of 30%, or a reduced treaty rate if applicable, on the
amount of any distribution (other than distributions designated as capital gain
dividends) made to a non-U.S. shareholder unless (1) the non-U.S. shareholder
files on IRS Form W-8BEN claiming that a lower treaty rate applies or (2) the
non-U.S. shareholder files an IRS Form W-8ECI claiming that the dividend is
effectively connected income.
Under certain Treasury regulations, PMC Commercial would not be
required to withhold at the 30% rate on distributions it reasonably estimates to
be in excess of its current and accumulated earnings and profits. Dividends in
excess of PMC Commercial's current and accumulated earnings and profits will not
be taxable to a shareholder to the extent that they do not exceed the adjusted
basis of the shareholder's shares, but rather will reduce the adjusted basis of
those shares. To the extent that those dividends exceed the adjusted basis of a
non-U.S. shareholder's shares, they will give rise to tax liability if the
non-U.S. shareholder would otherwise be subject to tax on any gain from the sale
or disposition of his shares, as described below. If it cannot be determined at
the time a dividend is paid whether or not a dividend will be in excess of
current and accumulated earnings and profits, the dividend will be subject to
such withholding. PMC Commercial does not intend to make quarterly estimates of
that portion of dividends that are in excess of earnings and profits, and, as a
result, all dividends will be subject to such withholding. However, the non-U.S.
shareholder may seek a refund of those amounts from the IRS.
For any year in which PMC Commercial qualifies as a REIT, distributions
that are attributable to gain from its sales or exchanges of United States real
property interests will be taxed to a non-U.S. shareholder under the provisions
of the Foreign Investment in Real Property Tax Act of 1980, commonly known as
"FIRPTA." Under FIRPTA, those dividends are taxed to a non-U.S. shareholder as
if the gain were effectively connected with a United States business. Non-U.S.
shareholders would thus be taxed at the normal capital gain rates applicable to
U.S. shareholders subject to applicable alternative minimum tax and a special
alternative minimum tax in the case of nonresident alien individuals. Also,
dividends subject to FIRPTA may be subject to a 30% branch profits tax in the
hands of a corporate non-U.S. shareholder not entitled to treaty exemption. PMC
Commercial is required by the Internal Revenue Code and applicable Treasury
Regulations to withhold 35% of any dividend that could be designated as a
capital gain dividend. This amount is creditable against the non-U.S.
shareholder's FIRPTA tax liability.
Gain recognized by a non-U.S. shareholder upon a sale of shares
generally will not be taxed under FIRPTA if PMC Commercial is a "domestically
controlled REIT," defined generally as a REIT in which at all times during a
specified testing period less than 50% in value of the shares was held directly
or indirectly by foreign persons. It is currently anticipated that PMC
Commercial will be a domestically controlled REIT, and therefore the sale of
shares will not be subject to taxation under FIRPTA. Because the common shares
will be publicly traded, however, no assurance can be given that PMC Commercial
will remain a "domestically controlled REIT." However, gain not subject to
FIRPTA will be taxable to a non-U.S. shareholder if (1) investment in the common
shares is effectively connected with the non-U.S. shareholder's United States
trade or business, in which case the non-U.S. shareholder will be subject to the
same treatment as U.S. shareholders with respect to that gain, and may also be
subject to the 30% branch profits tax in the case of a corporate non-U.S.
shareholder, or (2) the non-U.S. shareholder is a nonresident alien individual
who was present in the United States for 183 days or more during the taxable
year and has a "tax home" in the United States, in which case the nonresident
alien individual will be subject to a 30%
257
withholding tax on the individual's capital gains. If PMC Commercial was not a
domestically controlled REIT, whether or not a non-U.S. shareholder's sale of
shares would be subject to tax under FIRPTA would depend on whether or not the
common shares were regularly traded on an established securities market (such as
the NYSE) and on the size of selling non-U.S. shareholder's interest in PMC
Commercial's capital shares. If the gain on the sale of shares were to be
subject to taxation under FIRPTA, the non-U.S. shareholder will be subject to
the same treatment as U.S. shareholders with respect to that gain (subject to
applicable alternative minimum tax and a special alternative minimum tax in the
case of nonresident alien individuals and the possible application of the 30%
branch profits tax in the case of foreign corporations) and the purchaser of PMC
Commercial's common shares may be required to withhold 10% of the gross purchase
price.
STATE AND LOCAL TAXES
PMC Commercial, and its shareholders, may be subject to state or local
taxation in various state or local jurisdictions, including those in which it or
they transact business or reside. Consequently, prospective shareholders should
consult their own tax advisors regarding the effect of state and local tax laws
on an investment in PMC Commercial's capital shares.
258
LEGAL MATTERS
The validity of PMC Commercial common shares offered hereby and the
U.S. Federal income tax consequences in connection with the merger will be
passed upon for PMC Commercial by Locke Liddell & Sapp LLP. The U.S. Federal
income tax consequences in connection with the merger will be passed upon for
PMC Capital by Sutherland Asbill & Brennan LLP.
259
EXPERTS
The consolidated financial statements as of December 31, 2002 and 2001
and for each of the three years in the period ended December 31, 2002 of PMC
Commercial and its subsidiaries included in this joint proxy
statement/prospectus have been so included in reliance on the report of
PricewaterhouseCoopers LLP, independent accountants, given on the authority of
said firm as experts in auditing and accounting.
The consolidated balance sheets as of December 31, 2002 and 2001,
including the schedule of investments as of December 31, 2002 and the related
consolidated statements of operations, shareholders' equity and cash flows for
each of the three years in the period ended December 31, 2002 and the financial
highlights for each of the five years in the period ended December 31, 2002 of
PMC Capital and its subsidiaries included in this joint proxy
statement/prospectus have been so included in reliance on the report of
PricewaterhouseCoopers LLP, independent accountants, given on the authority of
said firm as experts in auditing and accounting.
260
OTHER MATTERS
As of the date of this joint proxy statement/prospectus, neither the
PMC Commercial board of trust managers nor the PMC Capital board of directors
knows of any matter that will be presented for consideration at the PMC
Commercial annual meeting or the PMC Capital annual meeting, respectively, other
than as set forth in this joint proxy statement/prospectus.
261
WHERE YOU CAN FIND MORE INFORMATION
PMC Commercial filed a registration statement on Form S-4 on August __,
2003 to register with the SEC the PMC Commercial common shares to be issued to
PMC Capital shareholders in the merger, if approved. This joint proxy
statement/prospectus is a part of that registration statement and constitutes a
prospectus of PMC Commercial in addition to being a joint proxy statement of PMC
Commercial and PMC Capital. As allowed by SEC rules, this joint proxy
statement/prospectus does not contain all the information you can find in the
registration statement on Form S-4, of which this joint proxy
statement/prospectus forms a part, or the exhibits to the registration
statement. PMC Commercial and PMC Capital file annual, quarterly and current
reports, proxy statements and other information with the SEC. You may read and
copy any reports, statements or other information that PMC Commercial and PMC
Capital file with the SEC at the SEC's public reference room at Public Reference
Room, 450 Fifth Street, N.W., Room 1024, Washington, D.C. 20549.
Please call the SEC at 1-800-SEC-0330 for further information on the
public reference room. These SEC filings are also available to the public from
commercial document retrieval services and at the Internet worldwide web site
maintained by the SEC at http://www.sec.gov. Reports, proxy statements and other
information concerning PMC Commercial and PMC Capital may also be inspected at
the offices of the American Stock Exchange, which is located at 86 Trinity
Place, New York, New York 10006.
If you are a PMC Commercial shareholder or a PMC Capital shareholder,
some of the documents previously filed with the SEC may have been sent to you,
but you can also obtain any of them through PMC Commercial or PMC Capital, the
SEC or the SEC's Internet web site as described above. Documents filed with the
SEC are available from PMC Commercial or PMC Capital without charge, excluding
all exhibits, except that, if PMC Commercial and PMC Capital have specifically
incorporated by reference an exhibit in this joint proxy statement/prospectus,
the exhibit will also be provided without charge. You may obtain documents filed
with the SEC by requesting them in writing or by telephone from the appropriate
company at the following addresses:
PMC Commercial Trust PMC Capital, Inc.
18111 Preston Road, Suite 600 18111 Preston Road, Suite 600
Dallas, Texas 75252 Dallas, Texas 75252
(972) 349-3235 (972) 349-3256
Attention: Investor Relations Attention: Investor Relations
If you would like to request documents, please do so by ___________,
2003, in order to receive them before your annual meeting.
You can also get more information by visiting PMC Commercial's website
at www.pmct.net and PMC Capital's website at www.pmccapital.com. Website
materials from this website and other websites mentioned in this joint proxy
statement/prospectus are not incorporated by reference in this joint proxy
statement/prospectus. If you are viewing this joint proxy statement/prospectus
in electronic format, each of the URLs mentioned in this joint proxy
statement/prospectus is an active textual reference only.
You should rely only on the information contained or incorporated by
reference in this joint proxy statement/prospectus. PMC Commercial and PMC
Capital have not authorized anyone to provide you with information that is
different from what is contained in this joint proxy statement/prospectus.
Therefore, if anyone does give you information of this sort, you should not rely
on it. If you are in a jurisdiction where offers to exchange or sell, or
solicitations of offers to exchange or purchase, the securities offered by this
joint proxy statement/prospectus or the solicitation of proxies is unlawful, or
if you are a person to whom it is unlawful to direct these types of activities,
then the offer presented in this joint proxy statement/prospectus does not
extend to you. This joint proxy statement/prospectus is dated __________, 2003.
You should not assume that the information contained in this joint proxy
statement/prospectus is accurate as of any date other than that date. Neither
the mailing of this joint proxy statement/prospectus to PMC Commercial
shareholders and PMC Capital shareholders nor the issuance of PMC Commercial
common shares in the merger creates any implication to the contrary.
262
INDEX TO FINANCIAL STATEMENTS
PMC COMMERCIAL TRUST
Consolidated Balance Sheets - June 30, 2003 and December 31, 2002......................................... F - 2
Consolidated Statements of Income - Three and Six Months Ended June 30, 2003 and 2002..................... F - 3
Consolidated Statements of Comprehensive Income - Three and Six Months Ended
June 30, 2003 and 2002........................................................................... F - 4
Consolidated Statements of Cash Flows - Six Months Ended June 30, 2003 and 2002........................... F - 5
Notes to Consolidated Financial Statements................................................................ F - 6
Report of Independent Accountants......................................................................... F - 19
Consolidated Balance Sheets as of December 31, 2002 and 2001.............................................. F - 20
Consolidated Statements of Income For the Years Ended December 31, 2002, 2001 and 2000.................... F - 21
Consolidated Statements of Comprehensive Income For the Years Ended
December 31, 2002, 2001 and 2000................................................................. F - 22
Consolidated Statements of Beneficiaries' Equity For the Years Ended
December 31, 2002, 2001 and 2000................................................................. F - 23
Consolidated Statements of Cash Flows For the Years Ended December 31, 2002, 2001 and 2000................ F - 24
Notes to Consolidated Financial Statements................................................................ F - 25
Report of Independent Accountants on Accompanying Financial Information .................................. F - 45
Schedule III - Real Estate and Accumulated Depreciation................................................... F - 46
Schedule IV - Mortgage Loans on Real Estate............................................................... F - 49
PMC CAPITAL
Consolidated Balance Sheets - June 30, 2003 and December 31, 2002......................................... F - 51
Consolidated Statements of Operations - Three and Six Months Ended June 30, 2003 and 2002................. F - 52
Consolidated Statements of Cash Flows - Six Months Ended June 30, 2003 and 2002........................... F - 53
Notes to Consolidated Financial Statements................................................................ F - 54
Report of Independent Accountants......................................................................... F - 69
Consolidated Balance Sheets as of December 31, 2002 and 2001.............................................. F - 70
Consolidated Statements of Operations For the Years Ended December 31, 2002, 2001 and 2000................ F - 71
Consolidated Statements of Shareholders' Equity For the Years Ended December 31, 2002, 2001 and 2000...... F - 72
Consolidated Statements of Cash Flows For the Years Ended December 31, 2002, 2001 and 2000................ F - 73
Consolidated Schedule of Investments as of Ended December 31, 2002........................................ F - 74
Financial Highlights...................................................................................... F - 76
Notes to Consolidated Financial Statements................................................................ F - 77
Report of Independent Accounting on Consolidating Financial Statements.................................... F - 101
Consolidating Balance Sheet as of December 31, 2002....................................................... F - 102
Consolidating Statement of Operations For the Year Ended December 31, 2002................................ F - 103
Consolidating Statement of Shareholders' Equity For the Year Ended December 31, 2002...................... F - 104
Consolidating Statement of Cash Flows For the Year Ended December 31, 2002................................ F - 105
F-1
PMC COMMERCIAL TRUST AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
JUNE 30, DECEMBER 31,
2003 2002
----------- ------------
ASSETS
INVESTMENTS:
Loans receivable, net...................................................... $ 89,614 $ 71,992
Real estate investments, net............................................... 44,283 44,928
Real estate investment held for sale, net.................................. 1,877 1,877
Retained interests in transferred assets................................... 22,686 23,532
Restricted investments..................................................... 3,455 5,614
Cash equivalents........................................................... 473 41
Asset acquired in liquidation held for sale................................ 333 400
----------- -----------
TOTAL INVESTMENTS.................................................................. 162,721 148,384
----------- -----------
OTHER ASSETS:
Due from affiliates........................................................ 800 362
Interest receivable........................................................ 285 243
Deferred borrowing costs, net.............................................. 231 268
Cash....................................................................... 72 8
Other assets............................................................... 976 433
----------- -----------
TOTAL OTHER ASSETS................................................................. 2,364 1,314
----------- -----------
TOTAL ASSETS....................................................................... $ 165,085 $ 149,698
=========== ===========
LIABILITIES AND BENEFICIARIES' EQUITY
LIABILITIES:
Notes payable.............................................................. $ 37,188 $ 41,191
Revolving credit facility.................................................. 27,400 7,300
Borrower advances.......................................................... 2,566 1,602
Dividends payable.......................................................... 2,450 2,707
Due to affiliates.......................................................... 656 584
Unearned commitment fees................................................... 330 447
Interest payable........................................................... 253 255
Other liabilities.......................................................... 1,950 1,683
----------- -----------
TOTAL LIABILITIES.................................................................. 72,793 55,769
----------- -----------
Commitments and contingencies
BENEFICIARIES' EQUITY:
Common shares of beneficial interest; authorized 100,000,000
shares of $0.01 par value; 6,581,141 and 6,579,141 shares
issued at June 30, 2003 and December 31, 2002, respectively;
6,448,291 and 6,446,291,shares outstanding at June 30, 2003
and December 31, 2002, respectively.................................... 66 66
Additional paid-in capital................................................. 94,735 94,707
Net unrealized appreciation of retained interests in transferred assets.... 3,496 3,783
Cumulative net income...................................................... 81,699 78,048
Cumulative dividends....................................................... (86,419) (81,390)
----------- -----------
93,577 95,214
Less: Treasury stock; at cost, 132,850 shares.............................. (1,285) (1,285)
----------- -----------
TOTAL BENEFICIARIES' EQUITY........................................................ 92,292 93,929
----------- -----------
TOTAL LIABILITIES AND BENEFICIARIES' EQUITY........................................ $ 165,085 $ 149,698
=========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-2
PMC COMMERCIAL TRUST AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
SIX MONTHS ENDED JUNE 30, THREE MONTHS ENDED JUNE 30,
------------------------- ---------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
REVENUES:
Interest income............................................... $ 3,047 $ 3,446 $ 1,600 $ 1,505
Lease income.................................................. 2,893 2,868 1,461 1,451
Income from retained interests in transferred assets.......... 1,376 1,384 674 717
Other income.................................................. 99 667 71 464
------- ------- ------- -------
TOTAL REVENUES........................................................... 7,415 8,365 3,806 4,137
------- ------- ------- -------
EXPENSES:
Interest...................................................... 1,712 1,850 890 867
Depreciation.................................................. 939 916 469 437
Advisory and servicing fees to affiliate, net................. 902 898 453 449
General and administrative.................................... 188 137 98 93
Impairment loss from asset acquired in liquidation held for
sale....................................................... 67 -- 67 --
Professional fees............................................. 66 66 45 51
Provision for loan losses..................................... -- 65 -- --
Realized losses on retained interests in transferred assets... -- 53 -- --
------- ------- ------- -------
TOTAL EXPENSES........................................................... 3,874 3,985 2,022 1,897
------- ------- ------- -------
INCOME FROM CONTINUING OPERATIONS........................................ 3,541 4,380 1,784 2,240
------- ------- ------- -------
DISCONTINUED OPERATIONS:
Gain on sale of real estate investments....................... -- 663 -- 292
Net earnings.................................................. 110 207 55 70
------- ------- ------- -------
110 870 55 362
------- ------- ------- -------
GAIN ON SALE OF LOANS RECEIVABLE......................................... -- 562 -- 562
------- ------- ------- -------
NET INCOME............................................................... $ 3,651 $ 5,812 $ 1,839 $ 3,164
======= ======= ======= =======
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic........................................... 6,447 6,442 6,448 6,443
======= ======= ======= =======
Diluted......................................... 6,455 6,458 6,456 6,460
======= ======= ======= =======
BASIC AND DILUTED EARNINGS PER SHARE:
Income from continuing operations and gain
on sale................................... $ 0.55 $ 0.77 $ 0.28 $ 0.43
Discontinued operations......................... 0.02 0.13 0.01 0.06
------- ------- ------- -------
Net income...................................... $ 0.57 $ 0.90 $ 0.29 $ 0.49
======= ======= ======= =======
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-3
PMC COMMERCIAL TRUST AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(IN THOUSANDS)
SIX MONTHS ENDED JUNE 30, THREE MONTHS ENDED JUNE 30,
------------------------- ---------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
NET INCOME........................... $ 3,651 $ 5,812 $ 1,839 $ 3,164
------- ------- ------- -------
Change in unrealized appreciation
(depreciation) of retained
interests in transferred assets:
Net unrealized appreciation
(depreciation) arising
during period............... (33) 1,012 44 927
Less realized gains included
in net income............... (254) (175) (122) (94)
------- ------- ------- -------
(287) 837 (78) 833
------- ------- ------- -------
COMPREHENSIVE INCOME................. $ 3,364 $ 6,649 $ 1,761 $ 3,997
======= ======= ======= =======
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-4
PMC COMMERCIAL TRUST AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
SIX MONTHS ENDED JUNE 30,
-------------------------
2003 2002
--------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 3,651 $ 5,812
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation ...................................................... 939 974
Investment losses ................................................. 67 118
Gain on sale of assets ............................................ -- (1,225)
Stock-based compensation charge ................................... 2 --
Accretion of commitment fees ...................................... (137) (185)
Amortization of borrowing costs ................................... 37 46
Loan fees collected, net .......................................... 204 142
Other operating assets and liabilities ............................ 198 (1,295)
-------- --------
NET CASH PROVIDED BY OPERATING ACTIVITIES .................................... 4,961 4,387
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Loans funded ............................................................ (21,112) (10,808)
Principal collected on loans ............................................ 3,386 8,305
Proceeds from sales of properties, net .................................. -- 3,017
Principal collected on retained interests in transferred assets ......... 558 316
Proceeds from debt issued by SPE ........................................ -- 24,040
Investment in retained interests in transferred assets .................. -- (1,474)
Investment in asset acquired in liquidation held for sale ............... -- (18)
Release of (investment in) restricted investments, net .................. 2,159 (875)
Purchase of furniture, fixtures and equipment ........................... (294) (149)
-------- --------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES .......................... (15,303) 22,354
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common shares ................................. 26 64
Proceeds from (repayment of) revolving line of credit, net .............. 20,100 (8,700)
Payment of principal on notes payable ................................... (4,003) (4,302)
Payment of dividends .................................................... (5,286) (5,152)
-------- --------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES .......................... 10,837 (18,090)
-------- --------
NET INCREASE IN CASH AND CASH EQUIVALENTS .................................... 495 8,651
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR ................................. 49 557
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD ..................................... $ 544 $ 9,208
======== ========
SUPPLEMENTAL DISCLOSURES:
Interest paid ........................................................... $ 1,652 $ 1,786
======== ========
Reclassification from retained interests in transferred assets to
due from affiliate ...................................................... $ 781 $ --
======== ========
Loan receivable originated in connection with sale of hotel property .... $ -- $ 2,044
======== ========
Loans and interest receivable transferred to SPE, net ................... $ -- $ 2,810
======== ========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-5
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. INTERIM FINANCIAL STATEMENTS:
The accompanying consolidated balance sheet of PMC Commercial Trust ("PMC
Commercial" or together with its wholly-owned subsidiaries, "we," "us" or "our")
as of June 30, 2003 and the consolidated statements of income and comprehensive
income for the three and six months ended June 30, 2003 and 2002 and cash flows
for the six months ended June 30, 2003 and 2002, have not been audited by
independent accountants. In the opinion of management, the financial statements
reflect all adjustments necessary to fairly present our financial position at
June 30, 2003 and our results of operations for the three and six months ended
June 30, 2003 and 2002. These adjustments are of a normal recurring nature.
Certain notes and other information have been omitted from the interim financial
statements presented in this Quarterly Report on Form 10-Q. Therefore, these
financial statements should be read in conjunction with the financial statements
and notes thereto included in our Annual Report on Form 10-K for the fiscal year
ended December 31, 2002.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect (i) the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
(ii) the reported amounts of revenues and expenses during the period. Actual
results could differ from those estimates. Our most sensitive estimates involve
the valuation of our retained interests in transferred assets and determining
loan loss reserves on our loans receivable.
The results for the three and six months ended June 30, 2003 are not necessarily
indicative of future financial results.
NOTE 2. CONSOLIDATION:
The consolidated financial statements include the accounts of PMC Commercial and
its wholly-owned subsidiaries, including PMC Commercial Trust, Ltd. 1998-1 (the
"1998 Partnership"), a Delaware corporation formed in conjunction with our 1998
structured loan financing transaction. All material intercompany balances and
transactions have been eliminated.
Our ownership interest in special purpose entities (the "SPEs") created in
conjunction with our structured loan sale transactions are accounted for as
retained interests in transferred assets ("Retained Interests") in accordance
with Statement of Financial Accounting Standards ("SFAS") No. 140, "Accounting
for Transfers and Servicing of Financial Assets and Extinguishment of
Liabilities" ("SFAS No. 140").
At June 30, 2003, the SPEs are PMC Joint Venture, L.P. 2000 (the "2000 Joint
Venture"), PMC Joint Venture, L.P. 2001 (the "2001 Joint Venture") and PMC Joint
Venture, L.P. 2002-1 (the "2002 Joint Venture," and together with the 2000 Joint
Venture and the 2001 Joint Venture, the "Joint Ventures") of which we own
approximately 68%, 40% and 39%, respectively. PMC Capital, Inc. ("PMC Capital"),
our affiliate through common management, owns the remaining interests in the
Joint Ventures.
NOTE 3. AGREEMENT OF PLAN AND MERGER:
On March 27, 2003, PMC Commercial entered into an Agreement and Plan of Merger
with PMC Capital. Under the terms of the merger agreement, PMC Capital will be
merged into PMC Commercial, with PMC Commercial continuing as the surviving
entity. Each issued and outstanding share of PMC Capital common stock will be
converted into 0.37 of a common share of PMC Commercial. The merger has been
recommended by each company's special committee comprised of independent
directors and unanimously approved by the Board of Trust Managers (the "Board")
of PMC Commercial and the Board of Directors of PMC Capital. In addition, the
boards and management of each company have entered into voting agreements
pursuant to which they have agreed to vote their shares in favor of the merger
and related transactions. Completion of the merger, which is expected to occur
on January 1, 2004, but no later than February 29, 2004, is subject to approval
by the shareholders of PMC Commercial and PMC Capital, certain governmental
consents and customary closing conditions. We have incurred approximately
$706,000 in costs related to the merger as of June 30, 2003 which are included
in other assets on our consolidated balance sheet.
F-6
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4. STOCK-BASED COMPENSATION PLANS:
At June 30, 2003, we have two stock-based compensation plans. Effective January
1, 2003, we adopted the fair value recognition provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation," prospectively to all awards granted,
modified or settled after January 1, 2003. Awards under the plans generally vest
immediately.
We granted 5,000 options during the three and six months ended June 30, 2003 and
recorded compensation expense of approximately $2,000. If we had followed SFAS
No. 123 for all options granted, we would not have recorded any material
compensation expense during the three and six months ended June 30, 2002.
NOTE 5. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS:
FASB issued FASB Interpretation No. 46, "Consolidation of Variable Interest
Entities, an interpretation of ARB 51" ("FIN 46") in January 2003. The primary
objectives of FIN 46 are to provide guidance on the identification of entities
for which control is achieved through means other than voting rights, Variable
Interest Entities ("VIEs"), and how to determine when and which business
enterprise should consolidate the VIE ("the primary beneficiary"). This new
model for consolidation applies to an entity which either (i) the equity
investors, if any, do not have a controlling financial interest or (ii) the
equity investment at risk is insufficient to finance that entity's activities
without receiving additional subordinated financial support from other parties.
In addition, FIN 46 requires that both the primary beneficiary and all other
enterprises with a significant variable interest in a VIE make additional
disclosures. FIN 46 will not impact our consolidated financial statements since
it is not applicable to qualifying SPEs accounted for in accordance with SFAS
No. 140.
In April 2003, the Financial Accounting Standards Board ("FASB") issued SFAS No.
149, "Amendment of Statement 133 on Derivative Instruments and Hedging
Activities." The statement, which is effective for contracts entered into or
modified after June 30, 2003 and hedging relationships designated after June 30,
2003, amends and clarifies financial accounting and reporting for derivative
instruments embedded in other contracts and for hedging activities under SFAS
No. 133. The statement requires that contracts with comparable characteristics
be accounted for similarly. Specifically, the statement (i) clarifies under what
circumstances a contract with an initial net investment meets the characteristic
of a derivative, (ii) clarifies when a derivative contains a financing
component, (iii) amends the definition of an underlying to conform it to FASB
Interpretation No. 45 and (iv) amends certain other related existing
pronouncements. SFAS No. 149 will not impact our consolidated financial
statements since we do not have derivatives.
In May 2003, SFAS No. 150, "Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity" was issued. SFAS No. 150, which
is effective for financial instruments entered into or modified after May 31,
2003, and otherwise is effective at the beginning of the first interim period
beginning after June 15, 2003, will be implemented by reporting the cumulative
effect of a change in accounting principle for financial instruments created
before the issuance date of the statement and still existing at the beginning of
the interim period of adoption. The statement requires that a financial
instrument which falls within the scope of the statement to be classified and
measured as a liability. The following financial instruments are required to be
classified as liabilities: (i) shares that are mandatorily redeemable, (ii) an
obligation to repurchase the issuer's equity shares or one indexed to such an
obligation and that requires or may require settlement by transferring assets
and (iii) the embodiment of an unconditional obligation that the issuer may or
may not settle by issuing a variable number of equity shares if, at inception,
the monetary value of the obligation is based on certain measurements defined in
the statement. SFAS No. 150 will not impact our consolidated financial
statements since we do not have any financial instruments with characteristics
of both liabilities and equity.
NOTE 6. REAL ESTATE INVESTMENTS:
As of June 30, 2003, our real estate investments consisted of 22 limited service
hospitality properties (the "Hotel Properties") that we purchased in 1998 and
1999 from Arlington Hospitality, Inc. ("Arlington"), under a sale/leaseback
agreement (the "Lease Agreement").
At June 30, 2003, the annual base rent payment for the Hotel Properties was
$5,455,000 plus 4% of gross room revenues (the "Percentage Rent"). In accordance
with the terms of the Lease Agreement, we deposit the Percentage Rent into a
capital
F-7
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
expenditures account for future capital expenditures required to maintain the
real estate investments. Funds are released from this account when capital
expenditures are incurred.
Our real estate investment held for sale is under contract for approximately
$2.2 million and is expected to close in September 2003. In connection with the
sale, we received a non-refundable deposit of $250,000 which is included in
other liabilities on our consolidated balance sheet.
Our real estate investments consisted of the following:
JUNE 30, 2003 DECEMBER 31, 2002
---------------------------- ---------------------------
REAL REAL
REAL ESTATE REAL ESTATE
ESTATE INVESTMENT ESTATE INVESTMENT
INVESTMENTS HELD FOR SALE INVESTMENTS HELD FOR SALE
----------- ------------- ----------- -------------
(DOLLARS IN THOUSANDS)
Land........................... $ 5,347 $ 263 $ 5,347 $ 263
Buildings and improvements..... 42,231 1,682 42,231 1,682
Furniture, fixtures and
equipment.................. 4,975 214 4,681 214
---------- --------- ---------- ---------
52,553 2,159 52,259 2,159
Accumulated depreciation....... (8,270) (282) (7,331) (282)
---------- --------- ---------- ---------
$ 44,283 $ 1,877 $ 44,928 $ 1,877
========== ========= ========== =========
Number of Hotel Properties..... 21 1 21 1
========== ========= ========== =========
NOTE 7. RETAINED INTERESTS:
In our structured loan sale transactions detailed below, we contributed loans
receivable to an SPE in exchange for an ownership interest in that entity. The
SPE issued notes payable (the "Structured Notes") (usually through a private
placement) to third parties ("Structured Noteholders"). The SPE then distributed
a substantial portion of the proceeds from the Structured Notes to us. The
Structured Notes are collateralized solely by the assets of the SPE which means
that should the SPE fail to make payments on the Structured Notes, the
Structured Noteholders have no recourse to us. Upon the completion of our
structured loan sale transactions, we recorded the transfer of loans receivable
as a sale in accordance with SFAS No. 140. As a result, the loans receivable
contributed to the SPE, the Structured Notes issued by the SPE, and the
operating results of the SPE are not included in our consolidated financial
statements. The difference between (i) the carrying value of the loans
receivable sold and (ii) the relative fair value of the sum of (a) the cash
received and (b) the present value of estimated future cash flows from the
Retained Interests, constituted the gain or loss on sale. Retained Interests are
carried at estimated fair value, with realized gains and losses recorded in net
income and unrealized gains and losses recorded in beneficiaries' equity.
F-8
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Information pertaining to our structured loan sale transactions as of June 30,
2003 was as follows. Balances represent PMC Commercial's share of the Joint
Ventures.
2000 2001 2002
JOINT VENTURE JOINT VENTURE JOINT VENTURE
------------------------ ------------------------ ------------------------
(DOLLARS IN THOUSANDS)
Principal outstanding on sold loans............. $ 47,864 $ 28,331 $ 26,505
Structured Notes balance outstanding............ $ 42,473 $ 26,086 $ 23,815
Cash in the collection account.................. $ 550 $ 607 $ 208
Cash in the reserve account..................... $ 2,880 $ 1,724 $ 1,594
Weighted average interest rate on loans......... 9.62% 9.59% 9.19%
Interest rate on the Structured Notes........... 7.28% 6.36% 6.67%
Discount rate assumptions (1)................... 6.7% to 11.4% 6.7% to 11.4% 7.1% to 11.8%
Constant prepayment rate assumption (2)......... 9.50% 9.75% 9.75%
Weighted average remaining life of loans (3).... 3.97 years 4.88 years 4.97 years
Aggregate losses assumed (4).................... 2.66% 3.44% 3.42%
Aggregate principal losses to date.............. --% --% --%
(1) The discount rates utilized on the components of our Retained Interests (as
detailed below) were (i) 6.7% to 7.1% for our required
overcollateralization, (ii) 8.4% to 8.8% for our reserve funds and (iii)
11.4% to 11.8% for our interest-only strip receivables.
(2) The prepayment rate was based on the actual performance of the loan pools,
adjusted for anticipated principal prepayments considering other similar
loans.
(3) The weighted average remaining life of loans was calculated by summing the
product of (i) the sum of the principal collections expected in each future
period multiplied by (ii) the number of periods until collection, and then
dividing that total by (iii) the remaining principal balance.
(4) Represents aggregate estimated future losses as a percentage of the
principal outstanding based upon per annum estimated losses that ranged
from 0.5% to 0.8%.
The components of our Retained Interests are as follows:
(1) Our required overcollateralization (the "OC Piece"). The OC Piece
represents the excess of the loans receivable contributed to the SPE over
the principal amount of the Structured Notes Payable issued by the SPE,
which serves as additional collateral for the Structured Noteholders.
(2) The "Reserve Fund" and the interest earned thereon. The Reserve Fund
represents cash that is required to be kept in a liquid cash account by the
SPE, pursuant to the terms of the transaction documents, as collateral for
the Structured Noteholders, a portion of which was contributed by us to the
SPE upon formation and a portion which is built up over time by the SPE
from the cash flows of the underlying loans receivable.
(3) The interest-only strip receivable (the "IO Receivable"). The IO Receivable
is comprised of the cash flows that are expected to be received by us in
the future after payment by the SPE of (a) all interest and principal due
to the Structured Noteholders, (b) all principal and interest on the OC
Piece, (c) any required funding of the Reserve Fund and (d) on-going costs
of the transaction.
F-9
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Our Retained Interests consisted of the following:
JUNE 30, 2003
----------------------------------------------------------
VALUE
-----------------------------------------------
OC PIECE RESERVE FUND IO RECEIVABLE TOTAL COST
-------- ------------ ------------- -------- ---------
(IN THOUSANDS)
2000 Joint Venture..... $ 6,522 $ 2,340 $ 1,761 $ 10,623 $ 9,020
2001 Joint Venture..... 3,150 1,374 1,960 6,484 5,270
2002 Joint Venture..... 3,157 1,243 1,179 5,579 4,900
-------- -------- ------- -------- ---------
$ 12,829 $ 4,957 $ 4,900 $ 22,686 $ 19,190
======== ======== ======= ======== =========
DECEMBER 31, 2002
----------------------------------------------------------
VALUE
-----------------------------------------------
OC PIECE RESERVE FUND IO RECEIVABLE TOTAL COST
-------- ------------ ------------- -------- ---------
(IN THOUSANDS)
2000 Joint Venture..... $ 6,549 $ 2,464 $ 2,062 $ 11,075 $ 9,312
2001 Joint Venture..... 3,168 1,391 2,106 6,665 5,373
2002 Joint Venture..... 3,180 1,261 1,351 5,792 5,064
-------- -------- -------- -------- ---------
$ 12,897 $ 5,116 $ 5,519 $ 23,532 $ 19,749
======== ======== ======== ======== =========
The following sensitivity analysis of our Retained Interests as of June 30, 2003
highlights the volatility that results when prepayments, losses and discount
rates are different than our assumptions:
CHANGED ASSUMPTION PRO-FORMA VALUE ASSET CHANGE
------------------------------------------------------- --------------- ------------
(IN THOUSANDS)
Losses increase by 50 basis points per annum (1)....... $ 21,004 ($1,682)
Losses increase by 100 basis points per annum (1)...... $ 19,386 ($3,300)
Rate of prepayment increases by 5% per annum (2)....... $ 21,960 ($ 726)
Rate of prepayment increases by 10% per annum (2)...... $ 21,455 ($1,231)
Discount rates increase by 100 basis points............ $ 21,685 ($1,001)
Discount rates increase by 200 basis points............ $ 20,747 ($1,939)
(1) If we experience losses in excess of anticipated losses, the effect on our
Retained Interests would first reduce the value of the IO Receivables. To
the extent the IO Receivables could not fully absorb the losses, the effect
would then be to reduce the value of our Reserve Funds and then the value
of our OC Pieces.
(2) For example, an 8% assumed rate of prepayment would be increased to 13% or
18% based on increases of 5% or 10% per annum, respectively.
These sensitivities are hypothetical and should be used with caution. Pro-forma
values based on changes in these assumptions generally cannot be extrapolated
since the relationship of the change in an assumption to the change in fair
value is not linear. The effect of a variation in a particular assumption on the
fair value of our Retained Interests is calculated without changing any other
assumption. In reality, changes in one factor are not isolated from changes in
another which might magnify or counteract the sensitivities.
F-10
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following information summarizes the financial position of the Joint
Ventures at June 30, 2003 and December 31, 2002. We owned approximately 68% of
the 2000 Joint Venture, 40% of the 2001 Joint Venture and 39% of the 2002 Joint
Venture as of June 30, 2003. We owned approximately 66% of the 2000 Joint
Venture, 39% of the 2001 Joint Venture and 39% of the 2002 Joint Venture as of
December 31, 2002.
Summary of Financial Position (1):
2000 JOINT VENTURE 2001 JOINT VENTURE 2002 JOINT VENTURE
----------------------- ----------------------- -----------------------
JUNE 30, DECEMBER 31, JUNE 30, DECEMBER 31, JUNE 30, DECEMBER 31,
2003 2002 2003 2002 2003 2002
-------- ------------ -------- ------------ -------- ------------
(IN THOUSANDS)
Loans Receivable, Net.... $ 66,734 $ 70,627 $ 72,168 $ 73,220 $ 67,489 $ 69,025
======== ======== ======== ======== ======== ========
Assets Acquired in
Liquidation, Net..... $ -- $ 1,411 $ -- $ -- $ -- $ --
======== ======== ======== ======== ======== ========
Total Assets............. $ 73,376 $ 76,434 $ 77,864 $ 81,302 $ 72,548 $ 74,322
======== ======== ======== ======== ======== ========
Notes Payable............ $ 60,187 $ 62,658 $ 66,065 $ 69,146 $ 60,601 $ 62,152
======== ======== ======== ======== ======== ========
Total Liabilities........ $ 60,369 $ 62,848 $ 66,240 $ 69,329 $ 60,770 $ 62,325
======== ======== ======== ======== ======== ========
Partners' Capital........ $ 13,007 $ 13,586 $ 11,624 $ 11,973 $ 11,778 $ 11,997
======== ======== ======== ======== ======== ========
(1) Balances represent 100% of the limited partnership interests in the Joint
Ventures.
The following information summarizes the results of operations of the Joint
Ventures.
Summary of Operations (1):
SIX MONTHS ENDED JUNE 30,
-----------------------------------------------------------------------
2000 JOINT VENTURE 2001 JOINT VENTURE 2002 JOINT VENTURE
-------------------- -------------------- --------------------
2003 2002 2003 2002 2003 2002 (2)
------- ------- -------- ------- ------- --------
(IN THOUSANDS)
Interest Income.............. $ 3,329 $ 3,612 $ 3,532 $ 3,756 $ 3,192 $ 1,448
======= ======= ======= ======= ======= =======
Total Revenues............... $ 3,395 $ 3,848 $ 3,555 $ 3,802 $ 3,256 $ 1,460
======= ======= ======= ======= ======= =======
Provision for (Reduction
of) Losses................... $ 45 $ -- $ (140) $ -- $ -- $ --
======= ======= ======= ======= ======= =======
Interest Expense............. $ 2,256 $ 2,559 $ 2,121 $ 2,251 $ 2,049 $ 913
======= ======= ======= ======= ======= =======
Total Expenses............... $ 2,430 $ 2,687 $ 2,099 $ 2,375 $ 2,161 $ 991
======= ======= ======= ======= ======= =======
Net Income................... $ 965 $ 1,161 $ 1,456 $ 1,427 $ 1,095 $ 469
======= ======= ======= ======= ======= =======
(1) Amounts represent 100% of the limited partnership interests in the Joint
Ventures.
(2) Represents the period from April 12, 2002 (inception) to June 30, 2002.
Our ownership of the Joint Ventures is based on our share of the capital of the
respective Joint Ventures. Our share of the cash flows from the Joint Ventures
is allocated based on the cash flows from the underlying loans receivable
contributed by us to the respective Joint Venture less allocated costs based on
the remaining principal on the underlying loans receivable contributed by us
divided by all loans receivable held by the respective Joint Venture.
F-11
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Our limited partnership allocation of the assets, liabilities and partners'
capital of the Joint Ventures was as follows:
2000 JOINT VENTURE 2001 JOINT VENTURE 2002 JOINT VENTURE
----------------------- ----------------------- -----------------------
JUNE 30, DECEMBER 31, JUNE 30, DECEMBER 31, JUNE 30, DECEMBER 31,
2003 2002 2003 2002 2003 2002
-------- ------------ -------- ------------ -------- ------------
(IN THOUSANDS)
Loans Receivable, Net..... $ 47,777 $ 49,844 $ 28,331 $ 28,951 $ 26,505 $ 26,825
======== ======== ======== ======== ======== ========
Total Assets.............. $ 51,457 $ 53,707 $ 30,754 $ 31,070 $ 28,432 $ 28,838
======== ======== ======== ======== ======== ========
Total Liabilities......... $ 42,602 $ 44,707 $ 26,155 $ 26,454 $ 23,881 $ 24,202
======== ======== ======== ======== ======== ========
Partners' Capital......... $ 8,855 $ 9,000 $ 4,599 $ 4,616 $ 4,551 $ 4,636
======== ======== ======== ======== ======== ========
Our limited partnership allocation of the net income of the Joint Ventures was
as follows:
SIX MONTHS ENDED JUNE 30,
--------------------------------------------------------------------
2000 JOINT VENTURE 2001 JOINT VENTURE 2002 JOINT VENTURE
------------------ ------------------ ------------------
2003 2002 2003 2002 2003 2002 (1)
------ ------ ------ ------ ------ --------
(IN THOUSANDS)
Net Income.............. $ 772 $ 859 $ 511 $ 526 $ 410 $ 147
====== ====== ====== ====== ====== ======
(1) Represents the period from April 12, 2002 (inception) to June 30, 2002.
In accordance with SFAS No. 140, our consolidated financial statements do not
include the assets, liabilities, partners' capital, revenues or expenses of the
Joint Ventures. As a result, at June 30, 2003 and December 31, 2002 our
consolidated balance sheets do not include the $110.6 million and $113.6 million
of assets, respectively, and $92.6 million and $95.4 million of liabilities,
respectively, related to our structured loan sale transactions recorded by our
SPEs. Our Retained Interests related to these structured loan sale transactions
were $22.7 million and $23.5 million at June 30, 2003 and December 31, 2002,
respectively, including unrealized appreciation of $3.5 million and $3.8
million, respectively.
The income from our Retained Interests consists of the yield earned on our
Retained Interests which is determined based on estimates of future cash flows
(determined by our Board) and includes any fees collected (i.e., late fees,
prepayment fees, etc.) by the SPEs in excess of anticipated fees. We update our
cash flow assumptions on a quarterly basis and any changes to cash flow
assumptions impact the yield on our Retained Interests. The annualized yield on
our Retained Interests was as follows:
SIX MONTHS THREE MONTHS
ENDED JUNE 30, ENDED JUNE 30,
----------------------- -------------------
2003 2002 2003 2002
-------- -------- -------- --------
Annualized Yield 11.7% 13.8% 11.6% 12.7%
PMC Capital is the servicer for all loans receivable held by the Joint Ventures;
therefore, no servicing fees were earned or received by us for the three and six
months ended June 30, 2003 and 2002.
We received approximately $1.2 million and $1.7 million in cash distributions
from the Joint Ventures during the six months ended June 30, 2003 and 2002,
respectively. During the three months ended June 30, 2003, the asset acquired in
liquidation held by the 2000 Joint Venture with an aggregate estimated value of
$1.5 million was transferred to PMC Capital. As a result of this transfer, our
previous cash flow deferral related to the 2000 Joint Venture of approximately
$781,000 is due from PMC Capital and is included in due from affiliate on our
consolidated balance sheet.
F-12
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 8. REVOLVING CREDIT FACILITY:
We have a revolving credit facility which provides funds to originate loans
collateralized by commercial real estate. The revolving credit facility, as
amended, provides us with credit availability up to $40 million. The facility
will be reduced to $30 million upon the earlier of the completion of a
structured loan sale transaction or October 28, 2003. The facility matures in
May 2004. At June 30, 2003 and December 31, 2002, we had approximately $27.4
million and $7.3 million, respectively, outstanding under our revolving credit
facility. The weighted average interest rate on our revolving credit facility at
June 30, 2003 and December 31, 2002 was 2.9% and 3.1%, respectively. The credit
facility requires us to meet certain covenants, the most restrictive of which
provides that the ratio of total liabilities to net worth will not exceed 2.0
times. At June 30, 2003, we were in compliance with all covenants of this
facility.
NOTE 9. BENEFICIARIES' EQUITY:
The weighted average number of common shares outstanding was approximately
6,448,000 and 6,443,000 for the three months ended June 30, 2003 and 2002,
respectively, and approximately 6,447,000 and 6,442,000 for the six months ended
June 30, 2003 and 2002, respectively. For purposes of calculating diluted
earnings per share, the weighted average shares outstanding were increased by
approximately 8,000 and 17,000 shares, respectively, during the three months
ended June 30, 2003 and 2002 and by approximately 8,000 and 16,000 shares,
respectively, during the six months ended June 30, 2003 and 2002.
NOTE 10. DIVIDENDS PAID AND DECLARED:
On January 13, 2003, we paid a $0.40 per share quarterly dividend and a $0.02
special dividend to common shareholders of record on December 31, 2002. On April
14, 2003, we paid a $0.40 per share quarterly dividend to common shareholders of
record on March 31, 2003. The Board declared a $0.38 per share quarterly
dividend to common shareholders of record on June 30, 2003, which was paid on
July 14, 2003.
NOTE 11. TAXABLE INCOME:
As a real estate investment trust ("REIT"), we generally will not be subject to
corporate level Federal income tax on net income we currently distribute to
shareholders. As such, no provision for Federal income taxes has been included
in the accompanying consolidated financial statements. If we fail to qualify as
a REIT in any taxable year, we will be subject to Federal income taxes at
regular corporate rates (including any applicable alternative minimum tax) and
may not be able to qualify as a REIT for four subsequent taxable years. We may,
however, be subject to certain Federal excise taxes and state and local taxes on
our income and property.
F-13
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table reconciles net income available to common shareholders to
taxable income available to common shareholders:
SIX MONTHS ENDED THREE MONTHS ENDED
JUNE 30, JUNE 30,
------------------- --------------------
2003 2002 2003 2002
-------- -------- ------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net income available to common shareholders $ 3,651 $ 5,812 $ 1,839 $ 3,164
Add: Book depreciation and
amortization.................. 939 974 469 456
Less: Tax depreciation and
amortization.................. (866) (884) (433) (442)
Book/tax difference on
gains on sales................ -- (550) -- (550)
Book/tax difference on
Retained Interests, net....... 209 246 123 162
Other book/tax differences, net..... 170 53 97 (37)
------- ------- ------- -------
Taxable income available to common
shareholders.......................... $ 4,103 $ 5,651 $ 2,095 $ 2,753
======= ======= ======= =======
Distributions to common shareholders........ $ 5,286 $ 5,152 $ 2,579 $ 2,575
======= ======= ======= =======
Dividends declared per share................ $ 0.78 $ 0.80 $ 0.38 $ 0.40
======= ======= ======= =======
NOTE 12. DISCONTINUED OPERATIONS AND ASSET ACQUIRED IN LIQUIDATION HELD FOR
SALE:
During July 2003, we sold our asset acquired in liquidation held for sale for
net cash proceeds of approximately $333,000. Accordingly, we reduced our basis
in this asset from $400,000 and recorded an impairment loss of $67,000 during
the three and six months ended June 30, 2003.
Discontinued operations of our Hotel Properties (one Hotel Property and three
Hotel Properties during the three and six months ended June 30, 2003 and 2002,
respectively) consisted of the following:
SIX MONTHS ENDED THREE MONTHS ENDED
JUNE 30, JUNE 30,
----------------- ------------------
2003 2002 2003 2002
------- ------- ------- -------
(IN THOUSANDS)
Lease income.................. $ 118 $ 282 $ 59 $ 94
Advisory fees................. (8) (17) (4) (5)
Depreciation.................. -- (58) -- (19)
------ ------ ------ ------
Net earnings.................. 110 207 55 70
Gain on sale of real
estate investments........ -- 663 -- 292
------ ------ ------ ------
Discontinued operations $ 110 $ 870 $ 55 $ 362
====== ====== ====== ======
NOTE 13. COMMITMENTS AND CONTINGENCIES:
Loan Commitments
Commitments to extend credit are agreements to lend to a customer provided the
terms established in the contract are met. At June 30, 2003, we had
approximately $21.4 million of total loan commitments outstanding. All of these
commitments were for variable-rate loans based on LIBOR at spreads over LIBOR
ranging from 4.0% to 4.5%. The weighted average interest
F-14
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
rate on our loan commitments at June 30, 2003 was 5.3%. Commitments generally
have fixed expiration dates and require payment of a fee to us. Since some
commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements.
Pursuant to our investment management agreements, if we do not have funds
available for our commitments, these commitments will be referred back to PMC
Advisers, as defined below.
Structured Loan Financing Transaction
Our structured loan financing is not treated as a sale for financial reporting
purposes. Distributions of the net assets from the 1998 Partnership, pursuant to
its trust indenture, are limited and restricted. The reserve requirement ($1.6
million at June 30, 2003) is calculated as follows: the outstanding principal
balance of the 1998 Partnership loans receivable which are delinquent 180 days
or more plus the greater of (i) 6% of the current outstanding principal balance
of the 1998 Partnership loans receivable or (ii) 2% of our underlying loans
receivable of the 1998 Partnership at inception ($1.4 million). As of June 30,
2003 and December 31, 2002, none of the loans receivable in the 1998 Partnership
were delinquent 180 days or more. In April 2003, approximately $1.7 million was
repaid to the noteholders from cash in the reserve fund (i.e., our restricted
cash and our structured notes payable were reduced) as a result of a loan, with
a principal amount of $1.7 million which was not repaid at its original
maturity. As a consequence, future excess cash flows relating to the 1998
Partnership will be deposited into the reserve fund until the reserve fund is
equal to the reserve requirement. Based on current cash flow assumptions,
management anticipates that the excess cash flows will be received in future
periods. At June 30, 2003, the cash balance in our reserve fund, included in
restricted investments on our consolidated balance sheet, was approximately
$330,000.
Structured Loan Sale Transactions
PMC Commercial and PMC Capital have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the Joint Ventures. To the extent that poor performance by either PMC
Capital's or PMC Commercial's sold loans receivable (the "Underperforming
Company") is pervasive enough to cause the other company (the "Performing
Company") to not receive cash flow that it otherwise would have received, then
the Underperforming Company must make the Performing Company whole. If the cash
flow reduction is considered to be temporary, then interest will be paid as
compensation to the Performing Company. In general, when a loan is liquidated,
it may cause a deferral of cash flow to the Performing Company and, as a result,
interest would be charged to the Underperforming Company until the cash flow
from the Joint Venture repays the Performing Company. If the reduction of cash
flows is deemed permanent, (i.e., to the extent that the Underperforming Company
will not be able to satisfy the shortfall with the assets they have contributed
to the related structured loan sale transaction), the reduction in cash flows
must be paid to the Performing Company by the Underperforming Company. At June
30, 2003, the maximum potential amount of future payments to PMC Capital
(undiscounted and without consideration of any proceeds from the collateral
underlying the loans receivable) we could be required to make under these cross
indemnification agreements was approximately $34.0 million and the discounted
amount was $23.6 million, which represents the estimated fair value of the
Retained Interests reflected on PMC Capital's consolidated balance sheet for the
Joint Ventures. Upon completion of a joint structured loan sale transaction and
on each subsequent quarterly reporting date, management evaluates the need to
recognize a liability associated with these cross indemnification agreements.
Based on our present cash flow assumptions, including stress test analyses of
increasing the anticipated losses on each of the loan pools, it does not appear
that the loans receivable sold by us will cause any permanent cash flow
reductions to PMC Capital nor will the loans receivable sold by PMC Capital
cause any permanent cash flow reductions to us. Accordingly, we believe that the
fair value of our obligations pursuant to the cross indemnification agreements
at inception of the Joint Ventures and as of June 30, 2003 and December 31, 2002
was zero; thus, no liability was recorded. If the performance of our sold loans
receivable deteriorates, it may be necessary for us to perform under these cross
indemnification agreements.
When our structured loan sale transactions were completed, the transaction
documents of the SPE contained provisions (the "Credit Enhancement Provisions")
that govern the assets and the inflow and outflow of funds of the SPE formed as
part of the structured loan sale transactions. The Credit Enhancement Provisions
include specified limits on the delinquency, default and loss rates on the loans
receivable included in each SPE. If, at any measurement date, the delinquency,
default or loss rate with respect to any SPE were to exceed the specified
limits, the Credit Enhancement Provisions would automatically increase the level
of credit enhancement requirements for that SPE. During the period in which the
specified delinquency, default or loss rate was exceeded, excess cash flow from
the SPE, if any, would be used to fund the increased credit enhancement levels
instead of being distributed, which would delay or reduce our distribution.
F-15
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Merger
For their services in connection with the proposed merger of PMC Capital into
PMC Commercial, our external investment banker will receive a fee of $225,000,
which is contingent upon consummation of the merger.
PMC Commercial will pay a termination fee of $870,000 to PMC Capital if the
merger agreement is terminated because PMC Commercial (i) breaches any provision
of the merger agreement that PMC Capital has not waived and PMC Commercial
enters into an agreement to consummate a competing transaction, (ii) withdraws
or changes its recommendation that the shareholders approve the merger or (iii)
terminates the merger agreement in connection with a superior proposal. In the
event that the merger agreement is terminated because of a breach by PMC
Commercial that has not been waived by PMC Capital and PMC Commercial has not
entered into a competing transaction, no termination fee will be payable but
termination expenses of $750,000 may be payable to PMC Capital.
Advisory Agreements
Our loans receivable are originated and serviced by PMC Advisers, Ltd. and its
subsidiary ("PMC Advisers" or the "Investment Manager"), an indirect
wholly-owned subsidiary of PMC Capital, pursuant to an Investment Management
Agreement (the "IMA"). Property acquisitions are supervised pursuant to a
separate agreement with PMC Advisers (the "Lease Supervision Agreement"). Both
agreements are renewable on an annual basis.
In the event the IMA agreement with PMC Advisers is terminated or not renewed by
us (other than as a result of a material breach by PMC Advisers) or terminated
by PMC Advisers (as a result of a material breach by us), we would enter into a
non-compete agreement with PMC Capital for a period of seven years from the
termination date. A fee would be paid to PMC Advisers each year by us in
consideration of the non-compete agreement until the non-compete agreement
expires after seven years. Upon termination of the IMA agreement, the fee would
be calculated annually as 1% (less loan losses as a percentage of average
outstanding invested assets) multiplied by the average invested assets.
In the event the Lease Supervision Agreement with PMC Advisers is terminated or
not renewed by us (other than as a result of a material breach by PMC Advisers)
or terminated by PMC Advisers (as a result of a material breach by us), PMC
Advisers would be entitled to receive the Lease Supervision Fee for a period of
five years from the termination date.
Litigation
In the normal course of business, we are subject to various proceedings and
claims, the resolution of which will not, in management's opinion, have a
material adverse effect on our financial position or results of operations.
NOTE 14. BUSINESS SEGMENTS:
Operating results and other financial data are presented for our principal
business segments. These segments are categorized by line of business which also
corresponds to how they are operated. The segments include (i) the Lending
Division, which originates loans to small businesses primarily in the
hospitality industry and (ii) the Property Division which owns our Hotel
Properties.
F-16
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Our business segment data for the six months ended June 30, 2003 and 2002 was as
follows:
FOR THE SIX MONTHS ENDED JUNE 30,
------------------------------------------------------
2003 2002
-------------------------- --------------------------
LENDING PROPERTY LENDING PROPERTY
TOTAL DIVISION DIVISION TOTAL DIVISION DIVISION
------ -------- -------- ------ -------- --------
(IN THOUSANDS)
Revenues:
Interest income -- loans and other income .............. $3,146 $3,146 $ -- $4,113 $4,113 $ --
Lease income ........................................... 2,893 -- 2,893 2,868 -- 2,868
Income from retained interests in transferred assets ... 1,376 1,376 -- 1,384 1,384 --
------ ------ ------ ------ ------ ------
Total .......................................... 7,415 4,522 2,893 8,365 5,497 2,868
------ ------ ------ ------ ------ ------
Expenses:
Interest (1) ........................................... 1,712 812 900 1,850 862 988
Advisory and servicing fees to affiliate, net .......... 902 724 178 898 716 182
Depreciation ........................................... 939 -- 939 916 -- 916
Realized losses on retained interests in
transferred assets ................................ -- -- -- 53 53 --
Impairment loss on asset acquired in liquidation
held for sale ..................................... 67 67 -- -- -- --
Provision for loan losses .............................. -- -- -- 65 65 --
Other .................................................. 254 254 -- 203 203 --
------ ------ ------ ------ ------ ------
Total 3,874 1,857 2,017 3,985 1,899 2,086
------ ------ ------ ------ ------ ------
Income from continuing operations ............................... 3,541 2,665 876 4,380 3,598 782
------ ------ ------ ------ ------ ------
Discontinued operations:
Gain on sale of real estate investments ................ -- -- -- 663 -- 663
Net earnings ........................................... 110 -- 110 207 -- 207
------ ------ ------ ------ ------ ------
110 -- 110 870 -- 870
------ ------ ------ ------ ------ ------
Gain on sale of loans receivable ................................ -- -- -- 562 562 --
------ ------ ------ ------ ------ ------
Net income ...................................................... $3,651 $2,665 $ 986 $5,812 $4,160 $1,652
====== ====== ====== ====== ====== ======
Additions to real estate investments ............................ $ 294 $ -- $ 294 $ 149 $ -- $ 149
====== ====== ====== ====== ====== ======
(1) Interest expense specifically identifiable to a particular division is
allocated to that division. Interest expense which is not specifically
allocable is allocated based on the relative total assets of each division.
F-17
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Our business segment data for the three months ended June 30, 2003 and 2002 was
as follows:
FOR THE THREE MONTHS ENDED JUNE 30,
------------------------------------------------------
2003 2002
-------------------------- --------------------------
LENDING PROPERTY LENDING PROPERTY
TOTAL DIVISION DIVISION TOTAL DIVISION DIVISION
------ -------- -------- ------ -------- --------
(IN THOUSANDS)
Revenues:
Interest income -- loans and other income ................ $1,671 $1,671 $ -- $1,969 $1,969 $ --
Lease income ............................................. 1,462 -- 1,462 1,451 -- 1,451
Income from retained interests in transferred assets 674 674 -- 717 717 --
------ ------ ------ ------ ------ ------
Total .................................. 3,807 2,345 1,462 4,137 2,686 1,451
------ ------ ------ ------ ------ ------
Expenses:
Interest (1) ............................................. 890 361 529 867 403 464
Advisory and servicing fees to affiliate, net ............ 453 364 89 449 356 93
Depreciation ............................................. 469 -- 469 437 -- 437
Impairment loss from asset acquired in liquidation
held for sale ....................................... 67 67 -- -- -- --
Other .................................................... 143 143 -- 144 144 --
------ ------ ------ ------ ------ ------
Total .................................. 2,022 935 1,087 1,897 903 994
------ ------ ------ ------ ------ ------
Income from continuing operations ............................... 1,785 1,410 375 2,240 1,783 457
------ ------ ------ ------ ------ ------
Discontinued operations:
Gain on sale of real estate investments .................. -- -- -- 292 -- 292
Net earnings ............................................. 54 -- 54 70 -- 70
------ ------ ------ ------ ------ ------
54 -- 54 362 -- 362
------ ------ ------ ------ ------ ------
Gain on sale of loans receivable ................................ -- -- -- 562 562 --
------ ------ ------ ------ ------ ------
Net income ...................................................... $1,839 $1,410 $ 429 $3,164 $2,345 $ 819
====== ====== ====== ====== ====== ======
Additions to real estate investments ............................ $ 248 $ -- $ 248 $ 116 $ -- $ 116
====== ====== ====== ====== ====== ======
(1) Interest expense specifically identifiable to a particular division is
allocated to that division. Interest expense which is not specifically
allocable is allocated based on the relative total assets of each division.
F-18
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Board of Trust Managers of
PMC Commercial Trust:
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of income, comprehensive income, beneficiaries' equity,
and cash flows present fairly, in all material respects, the financial position
of PMC Commercial Trust and its subsidiaries ("the Company") at December 31,
2002 and 2001, and the results of their operations and their cash flows for each
of the three years in the period ended December 31, 2002 in conformity with
accounting principles generally accepted in the United States of America. These
financial statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States of America, which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
As discussed in Note 9 to the consolidated financial statements, effective
January 1, 2002, the Company adopted Statement of Financial Accounting Standards
No. 144, "Accounting for the Impairment of or Disposal of Long-Lived Assets."
PRICEWATERHOUSECOOPERS LLP
Dallas, Texas
March 11, 2003, except for Note 18,
as to which the date is March 27, 2003
F-19
PMC COMMERCIAL TRUST AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
DECEMBER 31,
-------------------------
2002 2001
----------- -----------
ASSETS
INVESTMENTS:
Loans receivable, net $ 71,992 $ 78,486
Real estate investments, net 44,928 52,718
Real estate investment held for sale, net 1,877 --
Retained interests in transferred assets 23,532 17,766
Restricted investments 5,614 5,206
Asset acquired in liquidation held for sale 400 424
Cash equivalents 41 543
----------- -----------
TOTAL INVESTMENTS 148,384 155,143
----------- -----------
OTHER ASSETS:
Due from affiliates 362 72
Deferred borrowing costs, net 268 357
Interest receivable 243 394
Cash 8 14
Other assets, net 433 367
----------- -----------
TOTAL OTHER ASSETS 1,314 1,204
----------- -----------
TOTAL ASSETS $ 149,698 $ 156,347
=========== ===========
LIABILITIES AND BENEFICIARIES' EQUITY
LIABILITIES:
Notes payable $ 41,191 $ 48,370
Revolving credit facility 7,300 8,700
Dividends payable 2,707 2,577
Borrower advances 1,602 1,028
Due to affiliates 584 600
Unearned commitment fees 447 183
Interest payable 255 317
Other liabilities 1,683 1,801
----------- -----------
TOTAL LIABILITIES 55,769 63,576
----------- -----------
Commitments and contingencies
BENEFICIARIES' EQUITY:
Common shares of beneficial interest; authorized 100,000,000
shares of $0.01 par value; 6,579,141 and 6,574,141 shares issued
at December 31, 2002 and 2001, respectively; 6,446,291 and
6,441,291 shares outstanding at December 31, 2002 and 2001, respectively 66 66
Additional paid-in capital 94,707 94,643
Net unrealized appreciation of retained interests in transferred assets 3,783 2,185
Cumulative net income 78,048 68,112
Cumulative dividends (81,390) (70,950)
----------- -----------
95,214 94,056
Less: Treasury stock; at cost, 132,850 shares (1,285) (1,285)
----------- -----------
TOTAL BENEFICIARIES' EQUITY 93,929 92,771
----------- -----------
TOTAL LIABILITIES AND BENEFICIARIES' EQUITY $ 149,698 $ 156,347
=========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-20
PMC COMMERCIAL TRUST AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
YEARS ENDED DECEMBER 31,
-----------------------------------
2002 2001 2000
---------- ---------- ---------
REVENUES:
Interest income $ 6,236 $ 7,781 $ 11,544
Lease income 5,743 6,271 6,844
Income from retained interests in transferred assets 2,893 1,815 73
Other income 1,164 540 577
---------- ---------- ---------
Total revenues 16,036 16,407 19,038
---------- ---------- ---------
EXPENSES:
Interest 3,445 4,020 6,782
Depreciation 1,845 1,858 2,027
Advisory and servicing fees to affiliate, net 1,793 1,729 1,905
General and administrative 255 226 146
Professional fees 130 116 99
Provision for loan losses 65 200 600
Impairment loss on asset acquired in liquidation held for sale 54 -- --
Realized losses on retained interests in transferred assets 53 81 --
---------- ---------- ---------
Total expenses 7,640 8,230 11,559
---------- ---------- ---------
INCOME FROM CONTINUING OPERATIONS 8,396 8,177 7,479
---------- ---------- ---------
DISCONTINUED OPERATIONS:
Gain on sale of real estate investments 663 -- --
Net earnings 315 475 465
---------- ---------- ---------
978 475 465
---------- ---------- ---------
GAIN ON SALE OF ASSETS:
Gain on sale of real estate investments -- 1,350 304
Gain on sale of loans receivable 562 1,433 1,117
---------- ---------- ---------
562 2,783 1,421
---------- ---------- ---------
NET INCOME $ 9,936 $ 11,435 $ 9,365
========== ========== =========
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic 6,444 6,431 6,520
========== ========== =========
Diluted 6,456 6,443 6,520
========== ========== =========
BASIC AND DILUTED EARNINGS PER SHARE:
Income from continuing operations and gain on sale of assets $ 1.39 $ 1.71 $ 1.37
========== ========== ==========
Discontinued operations $ 0.15 $ 0.07 $ 0.07
========== ========== ==========
Net income $ 1.54 $ 1.78 $ 1.44
========== ========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-21
PMC COMMERCIAL TRUST AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(IN THOUSANDS)
YEARS ENDED DECEMBER 31,
-------------------------------------
2002 2001 2000
---------- ---------- ---------
NET INCOME $ 9,936 $ 11,435 $ 9,365
---------- ---------- ---------
Change in net unrealized appreciation
of retained interests in transferred
assets:
Net unrealized appreciation arising during
period 2,016 1,435 877
Less realized gains included in net income (418) (127) --
---------- ---------- ---------
1,598 1,308 877
---------- ---------- ---------
COMPREHENSIVE INCOME $ 11,534 $ 12,743 $ 10,242
========== ========== =========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-22
PMC COMMERCIAL TRUST AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF BENEFICIARIES' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
NET
UNREALIZED
COMMON APPRECIATION
SHARES OF OF RETAINED
BENEFICIAL ADDITIONAL INTERESTS IN
INTEREST PAR PAID-IN TRANSFERRED
OUTSTANDING VALUE CAPITAL ASSETS
----------- ---------- ---------- ------------
BALANCES, JANUARY 1, 2000 6,536,896 $ 65 $ 94,349 $ --
Net unrealized appreciation -- -- -- 877
Shares repurchased (105,250) -- -- --
Dividends ($1.75 per share) -- -- -- --
Net income -- -- -- --
--------- ---------- ---------- ----------
BALANCES, DECEMBER 31, 2000 6,431,646 65 94,349 877
Net unrealized appreciation -- -- -- 1,308
Shares repurchased (40,829) -- -- --
Shares issued through
exercise of stock options 50,474 1 294 --
Dividends ($1.52 per share) -- -- -- --
Net income -- -- -- --
--------- ---------- ---------- ----------
BALANCES, DECEMBER 31, 2001 6,441,291 66 94,643 2,185
Net unrealized appreciation -- -- -- 1,598
Shares issued through exercise
of stock options 5,000 -- 64 --
Dividends ($1.62 per share) -- -- -- --
Net income -- -- -- --
--------- ---------- ---------- ----------
BALANCES, DECEMBER 31, 2002 6,446,291 $ 66 $ 94,707 $ 3,783
========= ========== ========== ==========
CUMULATIVE TOTAL
NET CUMULATIVE TREASURY BENEFICIARIES'
INCOME DIVIDENDS STOCK EQUITY
---------- ----------- ----------- --------------
BALANCES, JANUARY 1, 2000 $ 47,312 $ (49,794) $ -- $ 91,932
Net unrealized appreciation -- -- -- 877
Shares repurchased -- -- (1,022) (1,022)
Dividends ($1.75 per share) -- (11,367) -- (11,367)
Net income 9,365 -- -- 9,365
---------- ---------- ---------- ----------
BALANCES, DECEMBER 31, 2000 56,677 (61,161) (1,022) 89,785
Net unrealized appreciation -- -- -- 1,308
Shares repurchased -- -- (443) (443)
Shares issued through
exercise of stock options -- -- 180 475
Dividends ($1.52 per share) -- (9,789) -- (9,789)
Net income 11,435 -- -- 11,435
---------- ---------- ---------- ----------
BALANCES, DECEMBER 31, 2001 68,112 (70,950) (1,285) 92,771
Net unrealized appreciation -- -- -- 1,598
Shares issued through exercise
of stock options -- -- -- 64
Dividends ($1.62 per share) -- (10,440) -- (10,440)
Net income 9,936 -- -- 9,936
---------- ---------- ---------- ----------
BALANCES, DECEMBER 31, 2002 $ 78,048 $ (81,390) $ (1,285) $ 93,929
========== ========== ========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-23
PMC COMMERCIAL TRUST AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
YEARS ENDED DECEMBER 31,
------------------------------------------
2002 2001 2000
------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 9,936 $ 11,435 $ 9,365
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation 1,903 2,101 2,250
Realized loss on retained interest in transferred assets 53 81 --
Impairment loss on asset acquired in liquidation held for sale 54 -- --
Gain on sale of assets (1,225) (2,783) (1,421)
Accretion of commitment fees (368) (485) (533)
Amortization of borrowing costs 89 58 106
Provision for loan losses 65 200 600
Commitment fees collected, net 575 521 547
Construction monitoring fees collected, net 10 32 63
Due to affiliates (292) (1,380) (215)
Other operating assets and liabilities 413 (582) 554
----------- ------------ -----------
NET CASH PROVIDED BY OPERATING ACTIVITIES 11,213 9,198 11,316
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Loans funded, net (30,732) (51,683) (22,508)
Principal collected 12,268 5,935 16,108
Proceeds from sale of property, net 3,017 12,695 3,063
Proceeds from structured loan sale transactions, net 24,040 29,529 49,167
Proceeds from retained interests in transferred assets 954 633 --
Investment in retained interests in transferred assets (1,617) (1,627) (2,311)
Purchase of real estate and furniture, fixtures, and equipment (388) (490) --
Proceeds received from (investment in) asset acquired in liquidation, net (30) 71 86
Release of (investment in) restricted investments, net (408) 1,503 2,907
----------- ----------- -----------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 7,104 (3,434) 46,512
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common shares 64 295 --
Purchase of treasury stock -- (263) (1,022)
Proceeds from (payments on) revolving credit facility, net (1,400) 8,700 (34,605)
Payment of principal on notes payable (7,179) (4,865) (9,917)
Payment of dividends (10,310) (9,561) (12,025)
----------- ----------- -----------
NET CASH USED IN FINANCING ACTIVITIES (18,825) (5,694) (57,569)
----------- ----------- -----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (508) 70 259
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 557 487 228
----------- ----------- -----------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 49 $ 557 $ 487
=========== =========== ===========
SUPPLEMENTAL DISCLOSURES:
Loans and interest receivable transferred to SPEs, net $ 2,810 $ 2,814 $ 6,125
=========== =========== ===========
Loan receivable originated in connection with sale of hotel property $ 2,044 $ -- $ --
=========== =========== ===========
Interest paid $ 3,280 $ 3,808 $ 6,654
=========== =========== ===========
Reclassification from loans receivable to asset acquired in liquidation held for
sale $ -- $ -- $ 1,181
=========== =========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-24
PMC COMMERCIAL TRUST AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BUSINESS
PMC Commercial Trust ("PMC Commercial" or together with its wholly-owned
subsidiaries, "we", "us" or "our") was organized in 1993 as a Texas real estate
investment trust ("REIT"). Our common shares of beneficial interest ("Common
Shares") are traded on the American Stock Exchange (symbol "PCC"). We obtain
income from the yield earned on the investment portfolio, other related fee
income from our lending activities and rental income from property ownership. To
date, these investments have been principally in the hospitality industry. Our
investment advisor is PMC Advisers, Ltd. and its subsidiary ("PMC Advisers" or
the "Investment Manager"), an indirect wholly-owned subsidiary of PMC Capital,
Inc. ("PMC Capital"), a regulated investment company traded on the American
Stock Exchange (symbol "PMC") and related to us through common management.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of PMC Commercial
Trust and its wholly-owned subsidiaries, including PMC Commercial Trust, Ltd.
1998-1, a Delaware corporation formed in conjunction with our 1998 structured
loan financing transaction. All material intercompany balances and transactions
have been eliminated.
Our ownership interest in special purpose entities ("SPEs") created in
conjunction with structured loan sale transactions are accounted for as retained
interests in transferred assets ("Retained Interests") in accordance with
Statement of Financial Accounting Standards ("SFAS") No. 140, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishment of Liabilities"
("SFAS No. 140"). At December 31, 2002, the SPEs are PMC Joint Venture, L.P.
2000 (the "2000 Joint Venture"), PMC Joint Venture, L.P. 2001 (the "2001 Joint
Venture") and PMC Joint Venture, L.P. 2002-1 (the "2002 Joint Venture," and
together with the 2000 Joint Venture and the 2001 Joint Venture, the "Joint
Ventures") of which we own approximately 66%, 39% and 39%, respectively. PMC
Capital owns the remaining interests in the Joint Ventures.
LOANS RECEIVABLE, NET
Loans receivable are carried at their outstanding principal balance less net
deferred fee revenue and loan loss reserves. Deferred fee revenue is included as
a reduction to the carrying value of loans receivable and consists of
non-refundable fees less certain direct loan origination costs which are being
recognized over the life of the related loan receivable as an adjustment of the
yield. A loan loss reserve is established by our Board of Trust Managers based
on a determination, through an evaluation of the recoverability of individual
loans receivable, that significant doubt exists as to the ultimate realization
of the loan receivable. The determination of whether significant doubt exists
and whether a loan loss reserve is necessary for each loan receivable requires
judgment and considers the facts and circumstances existing at the evaluation
date. Our evaluation of the adequacy of the reserve is based on a review of our
historical loss experience, known and inherent risks in the loan portfolio,
adverse circumstances that may affect the ability of the borrower to repay
interest and/or principal and, to the extent payment appears impaired, the
estimated value of collateral.
REAL ESTATE INVESTMENTS, NET
Real estate investments are recorded at cost. Depreciation is provided on
the straight-line method based upon the estimated useful lives of the assets.
The buildings and improvements are being depreciated utilizing a 35-year useful
life and the furniture, fixtures and equipment are being depreciated over a
seven-year useful life. Upon retirement or sale, the cost and related
accumulated depreciation are removed from our books and any resulting gains or
losses are included in the consolidated statements of income. Under the lease
agreements with the lessee of our properties, routine maintenance and repairs
are the responsibility of the lessee and are charged to the lessee's operations
as incurred; major replacements, renewals and improvements are capitalized.
REAL ESTATE INVESTMENT HELD FOR SALE, NET
Our real estate investment held for sale is carried at the lower of cost or
estimated fair value less selling costs. When an asset is identified by
management as held for sale and the sale of the asset is expected to occur
within the next twelve months, the property is classified as held for sale and
depreciation is discontinued.
F-25
RETAINED INTERESTS
Retained Interests represent our interest in SPEs created in conjunction
with our structured loan sale transactions. Retained Interests are carried at
estimated fair value, with realized gains and losses included in net income and
unrealized gains and losses recorded in beneficiaries' equity. The fair value of
our Retained Interests is based on estimates of the present value of future cash
flows we expect to receive. Estimated future cash flows are based in part upon
an estimate of prepayment speeds and loan losses. Prepayments speeds and loan
losses are estimated based on the current and anticipated interest rate and
competitive environments, the performance of the loan pool and our historical
experience with these and similar loans receivable. The discount rates that we
utilize are determined for each of the components of the Retained Interests as
estimates of market rates based on interest rate levels considering the risks
inherent in the transaction. There can be no assurance of the accuracy of these
estimates. Any appreciation of the Retained Interests is included in the
accompanying balance sheet in beneficiaries' equity while any depreciation of
our Retained Interests is either included in the accompanying statement of
income as either a realized loss (if there is a reduction in expected future
cash flows) or on our balance sheet in beneficiaries' equity as an unrealized
loss.
CASH AND CASH EQUIVALENTS
We generally consider all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents. At various
times during the year we maintain cash, cash equivalents and restricted
investments in accounts in excess of federally insured limits with various
financial institutions. We regularly monitor the financial institutions and do
not believe a significant credit risk is associated with the deposits in excess
of federally insured amounts.
ASSET ACQUIRED IN LIQUIDATION HELD FOR SALE
Our asset acquired in liquidation held for sale is carried at the lower of
cost or estimated fair value of the collateral obtained upon foreclosure of the
real estate collateralizing the loan receivable, less selling costs. Our asset
acquired in liquidation held for sale is regularly evaluated for impairment.
DEFERRED BORROWING COSTS
Costs incurred in connection with the issuance of notes payable are being
amortized to interest expense over the life of the related obligation using the
effective interest method.
INTEREST INCOME
Interest income includes interest earned on loans and our short-term
investments. Interest income on loans is accrued as earned with the accrual of
interest generally suspended when the related loan becomes a non-accrual loan.
Loans receivable are generally classified as non-accrual (a "Non-Accrual Loan")
if (i) they are past due as to payment of principal or interest for a period of
more than 60 days, (ii) a loan or a portion of a loan is classified as doubtful
or is charged-off or (iii) loans receivable that are current or past due less
than 60 days if the repayment in full of principal and/or interest is in doubt.
Interest income on a Non-Accrual Loan is recognized on the cash basis and we
reverse previously recorded interest income which is deemed uncollectible.
When originating a loan receivable, we charge a commitment fee. These fees,
net of costs, are deferred and recognized as an adjustment of yield over the
life of the related loan receivable using the effective interest method.
LEASE INCOME
Lease income represents base and percentage rents on our properties. The
fixed lease payments are reported as income in accordance with the terms of the
lease agreements. In addition, we receive a fixed percentage of the monthly room
revenue of our leased properties which is reported as income when earned.
INCOME FROM RETAINED INTERESTS
The income from our Retained Interests is comprised of the yield earned on
our Retained Interests which is determined based on estimates of future cash
flows and includes any fees collected (i.e., late fees, prepayment fees, etc.)
by the SPEs in excess of anticipated fees. We update our cash flow assumptions
on a quarterly basis and any changes to cash flow assumptions impact the yield
on our Retained Interests.
F-26
INCOME TAXES
We have elected to be taxed as a REIT under the provisions of the Internal
Revenue Code of 1986, as amended (the "Code"). To the extent we qualify for
taxation as a REIT, we generally will not be subject to a federal corporate
income tax on our taxable income that is distributed to our shareholders. In
order to remain qualified as a REIT under the Code, we must satisfy various
requirements in each taxable year, including, among others, limitations on share
ownership, asset diversification, sources of income, and the distribution of at
least 90% of our taxable income within the specified time in accordance with the
Code.
DISTRIBUTIONS TO SHAREHOLDERS
Distributions to shareholders are recorded on the ex-dividend date.
IMPAIRMENT OF LONG-LIVED ASSETS
Long-lived assets to be held and used and to be disposed of are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of the assets may not be recoverable or if depreciation periods
should be modified.
If facts or circumstances support the possibility of impairment, we will
prepare a projection of the undiscounted future cash flows without interest
charges of the specific property and determine if the investment in the property
is recoverable based on the undiscounted future cash flows. If impairment is
indicated, an adjustment will be made to the carrying value of the property
based on the difference between the current estimated fair value and the
carrying amount of the asset. No impairment was deemed to exist on our real
estate investments held and used at December 31, 2002.
We assess the recoverability of our real estate investments held for sale
and assets acquired in liquidation held for sale based on estimated sales
values. We assessed impairment for each asset based on the estimated sales price
less anticipated selling costs. As of December 31, 2002, we recorded an
impairment loss of $54,000 on our asset acquired in liquidation held for sale.
STOCK-BASED COMPENSATION PLANS
At December 31, 2002, we have two stock-based compensation plans, which are
described more fully in Note 12. We have accounted for these plans under the
recognition and measurement provisions of APB Opinion No. 25, "Accounting for
Stock Issued to Employees," and related interpretations. Effective January 1,
2003, we adopted the fair value recognition provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation," prospectively to all awards granted,
modified, or settled after January 1, 2003. Awards under the plans generally
vest immediately.
The following table illustrates the effect on net income and earnings per
share if the fair value based method had been applied to all outstanding and
unvested awards in each period:
DECEMBER 31, 2002 DECEMBER 31, 2001 DECEMBER 31, 2000
----------------------- ----------------------- -----------------------
AS REPORTED PRO-FORMA AS REPORTED PRO-FORMA AS REPORTED PRO-FORMA
----------- --------- ----------- --------- ----------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
SFAS No. 123 Charge $ -- $ 33 $ -- $ 40 $ -- $ 10
APB No. 25 Charge $ -- $ -- $ -- $ -- $ -- $ --
Net income $ 9,936 $ 9,903 $ 11,435 $ 11,395 $ 9,365 $ 9,355
Basic earnings per share $ 1.54 $ 1.54 $ 1.78 $ 1.77 $ 1.44 $ 1.43
Diluted earnings per share $ 1.54 $ 1.54 $ 1.78 $ 1.77 $ 1.44 $ 1.43
The effects of applying SFAS No. 123 in this pro-forma disclosure are not
indicative of future amounts.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally
accepted accounting principles requires us to make estimates and assumptions
that affect (i) the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and,
(ii) the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from our estimates. Our most sensitive estimates
involve valuing and recording income on the Retained Interests and in
determining loan loss reserves for loans receivable.
F-27
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In April 2002, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB
Statement No. 13, and Technical Corrections." The statement, which is effective
for financial statements issued for fiscal years beginning after May 15, 2002
rescinds SFAS No. 4, which required all gains and losses from extinguishment of
debt to be aggregated and, if material, classified as an extraordinary item, net
of the related income tax effect. As a result of this rescission, the criteria
in APB Opinion No. 30 will now be used to determine the classification of gains
and losses resulting from the extinguishment of debt. The statement also amends
SFAS No. 13 to require that when a capital lease is modified in such a way that
the change in the lease provisions establishes a new lease which is classified
as an operating lease, the asset and lease obligation under the capital lease
should be removed, a gain or loss for the difference should be recorded and the
new lease should be accounted for as an operating lease. The implementation of
SFAS No. 145 on January 1, 2003 will not have a material impact on our
consolidated financial statements.
In June 2002, SFAS No. 146, "Accounting for Exit or Disposal Activities" was
issued. SFAS No. 146 addresses significant issues regarding the recognition,
measurement and reporting of cost associated with exit and disposal activities,
including restructuring activities that are currently accounted for pursuant to
the guidance that the Emerging Issues Task Force has set forth in Issue No.
94-3, "Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." The scope of SFAS No. 146 also includes (i) costs related to
terminating a contract that is not a capital lease and (ii) termination benefits
that employees who are involuntarily terminated receive under the terms of a
one-time benefit arrangement that is not an ongoing benefit arrangement or an
individual deferred compensation contract. SFAS No. 146 will be effective for
financial statements issued for fiscal years beginning after December 15, 2002.
The implementation of SFAS No. 146 on January 1, 2003 will not have a material
impact on our consolidated financial statements.
FASB issued FASB Interpretation No. 45, "Guarantor's Accounting and
Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others" ("FIN 45") in November 2002. FIN 45 elaborates on the
disclosures to be made by a guarantor in its interim and annual statements about
its obligations under certain guarantees that it has issued. It also clarifies
that a guarantor is required to recognize, at the inception of a guarantee, a
liability for the fair value of the obligation undertaken in issuing the
guarantee. FIN 45 does not prescribe a specific approach for subsequently
measuring the guarantor's recognized liability over the term of the related
guarantee. FIN 45 also incorporates, without change, the guidance in FASB
Interpretation No. 34, "Disclosure of Indirect Guarantees of Indebtedness of
Others," which is being superseded. We adopted the disclosure requirements of
FIN 45 at December 31, 2002.
In December 2002, SFAS No. 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure" was issued. SFAS No. 148 amends SFAS No. 123 to
provide alternative methods of transition for voluntary change to the fair value
based method of accounting for stock-based employee compensation. In addition,
SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require
prominent disclosures in both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of the
method used on reported results. SFAS No. 148 improves the prominence and
clarity of the pro-forma disclosures required by SFAS No. 123 by prescribing a
specific tabular format and by requiring disclosure in the Summary of
Significant Accounting Policies footnote or its equivalent. In addition, SFAS
No. 148 improves the timeliness of these disclosures by requiring their
inclusion in financial reports for interim periods. SFAS No. 148 is effective
for financial statements for fiscal years ending after December 15, 2002.
Effective January 1, 2003, we adopted the fair value recognition provisions of
SFAS No. 123 prospectively to all awards granted, modified or settled after
January 1, 2003.
FASB issued FASB Interpretation No. 46, "Consolidation of Variable Interest
Entities, an interpretation of ARB 51" ("FIN 46") in January 2003. The primary
objectives of FIN 46 are to provide guidance on the identification of entities
for which control is achieved through means other than voting rights, Variable
Interest Entities ("VIEs"), and how to determine when and which business
enterprise should consolidate the VIE ("the primary beneficiary"). This new
model for consolidation applies to an entity which either (i) the equity
investors, if any, do not have a controlling financial interest or (ii) the
equity investment at risk is insufficient to finance that entity's activities
without receiving additional subordinated financial support from other parties.
In addition, FIN 46 requires that both the primary beneficiary and all other
enterprises with a significant variable interest in a VIE make additional
disclosures. FIN 46 will not impact our consolidated financial statements since
it is not applicable to qualifying SPEs accounted for in accordance with SFAS
No. 140.
F-28
RECLASSIFICATIONS
Certain prior period amounts have been reclassified to conform to current
year presentation. These reclassifications had no effect on previously reported
net income or total beneficiaries' equity.
NOTE 2. LOANS RECEIVABLE, NET:
Loans receivable, net, consisted of the following:
DECEMBER 31,
--------------------------
2002 2001
----------- -----------
(IN THOUSANDS)
Loans receivable $ 72,816 $ 79,525
Less:
Deferred commitment fees, net (459) (739)
Loan loss reserves (365) (300)
---------- ----------
Loans receivable, net $ 71,992 $ 78,486
========== ==========
At December 31, 2002 and 2001, respectively, approximately $42.1 million
(58%) and $11.5 million (15%) of our loans receivable had a variable interest
rate (reset on a quarterly basis) based primarily on LIBOR and $29.9 million
(42%) and $67.0 million (85%) had fixed interest rates, respectively. The
weighted average interest rate on our variable-rate loans receivable was 5.4%
and 6.8% at December 31, 2002 and 2001, respectively. The weighted average
interest rate on our fixed-rate loans receivable was 10.4% and 10.1% at December
31, 2002 and 2001, respectively.
Loans receivable with a balance of $1.8 million and $1.4 million at December
31, 2002 and 2001, respectively, have been identified as problem loans or
litigation has commenced against the borrowers. At December 31, 2002 and 2001,
these loans receivable were current as to payments of principal and interest.
Our loans receivable are 100% concentrated in the hospitality industry at
December 31, 2002. Any economic factors that negatively impact the hospitality
industry could have a material adverse effect on our financial condition or
results of operations. At December 31, 2002, approximately 27% of our loans
receivable consisted of loans receivable to borrowers in Texas. No other state
had a concentration of 10% or greater at December 31, 2002.
NOTE 3. REAL ESTATE INVESTMENTS:
Our real estate investments consist of hospitality properties (the "Hotel
Properties") we purchased in 1998 and 1999 from Arlington Hospitality, Inc.
("Arlington") under a sale/leaseback agreement (the "Lease Agreement").
Pursuant to the Lease Agreement, we lease the Hotel Properties to Arlington
Inns, Inc., a wholly-owned subsidiary of Arlington, for an initial 10-year
period which expires in June 2008, with two renewal options of five years each
and a third option for two years which expires in September 2020, and with
consumer price index increases up to a maximum of 2% per year. Arlington
guarantees the lease payment obligation of Arlington Inns, Inc. Arlington is a
public entity that files periodic reports with the Securities and Exchange
Commission and additional information about Arlington can be obtained from the
SEC's website at www.sec.gov.
As of December 31, 2002, the 2003 annual base rent payment for the Hotel
Properties is $5.5 million. In addition to our base rent we receive percentage
rent equal to 4% of the gross room revenues of the Hotel Properties.
F-29
Our real estate investments consisted of the following:
DECEMBER 31,
DECEMBER 31, 2002 2001
------------------------- ------------
REAL
ESTATE
REAL INVESTMENT REAL
ESTATE HELD FOR ESTATE
INVESTMENTS SALE INVESTMENTS
----------- ---------- -----------
(DOLLARS IN THOUSANDS)
Land $ 5,347 $ 263 $ 6,153
Buildings and improvements 42,231 1,682 47,953
Furniture, fixtures and equipment 4,681 214 4,889
--------- -------- ---------
52,259 2,159 58,995
Accumulated depreciation (7,331) (282) (6,277)
--------- -------- ---------
$ 44,928 $ 1,877 $ 52,718
========= ======== =========
Number of Hotel Properties 21 1 24
========= ======== =========
The real estate investment held for sale is under contract for approximately
$2.2 million pursuant to our Lease Agreement and is expected to be completed
prior to June 2003.
NOTE 4. RETAINED INTERESTS IN TRANSFERRED ASSETS:
In our structured loan sale transactions detailed below, we contributed
loans receivable to an SPE in exchange for an ownership interest in that entity.
The SPE issued notes payable (the "Structured Notes") (usually through a private
placement) to third parties ("Structured Noteholders"). The SPE then distributed
a portion of the proceeds from the Structured Notes to us. The Structured Notes
are collateralized solely by the assets of the SPE which means that should the
SPE fail to make payments on the Structured Notes, the Structured Noteholders
have no recourse to us. Upon the completion of our structured loan sale
transactions, we recorded the transfer of loans receivable as a sale since the
SPE meets the definition of a qualifying SPE as outlined in SFAS No. 140. As a
result, the loans receivable contributed to the SPE, the Structured Notes issued
by the SPE, and the operating results of the SPE are not included in our
consolidated financial statements. The difference between (i) the carrying value
of the loans receivable sold and (ii) the relative fair value of the sum of (a)
the cash received and (b) the present value of estimated future cash flows from
the Retained Interests, constituted the gain or loss on sale. Retained Interests
are carried at estimated fair value, with realized gains and losses recorded in
net income and unrealized gains and losses recorded in beneficiaries' equity.
Information pertaining to our structured loan sale transactions was as
follows. Amounts represent PMC Commercial's share of the respective Joint
Ventures.
F-30
2000 2001 2002
JOINT VENTURE JOINT VENTURE JOINT VENTURE
-------------- -------------- --------------
(DOLLARS IN THOUSANDS, EXCEPT FOOTNOTES)
Transaction date 12/18/00 6/27/01 4/12/02
AT INCEPTION:
Principal amount of sold loans $ 55,675 $ 32,662 $ 27,286
Structured Notes issued $ 49,550 $ 30,063 $ 24,557
Interest rate on the Structured 7.28% 6.36% 6.67%
Notes (fixed)
Structured Notes rating (1) "Aaa" "Aaa" "Aaa"
Weighted average interest rate on loan 9.63% 9.62% 9.23%
Weighted average remaining life (2) 5.16 years 5.15 years 5.38 years
Aggregate losses assumed (3) 2.37% 2.80% 2.88%
Constant prepayment rate assumption(4) 8% 9% 9%
Discount rate assumptions 9.3% to 14.0% 8.5% to 13.3% 8.2% to 12.9%
Net gain recorded (5) $ 1,117 $ 1,433 $ 562
Value of Retained Interests $ 11,174 $ 5,871 $ 5,293
AT DECEMBER 31, 2002:
Principal outstanding on sold loans(6) $ 49,975 $ 28,951 $ 26,825
Structured Notes balance outstanding $ 44,572 $ 26,384 $ 24,135
Cash in the collection account $ 523 $ 282 $ 308
Cash in the reserve account $ 3,034 $ 1,742 $ 1,614
Weighted average interest rate on loan 9.64% 9.60% 9.23%
Constant prepayment rate assumption(4) 9.5% 9.5% 9.5%
Discount rate assumptions (7) 6.7% to 11.4% 6.7% to 11.4% 7.1% to 11.8%
Weighted average remaining life (2) 4.14 years 5.05 years 5.14 years
Aggregate losses assumed (3) 2.65% 3.38% 3.38%
Aggregate principal losses to date --% --% --%
(1) Structured Notes issued by the SPEs were rated by Moody's Investors Service,
Inc.
(2) The weighted average remaining life was calculated by summing the product of
(i) the sum of the principal collections expected in each future period
multiplied by (ii) the number of periods until collection, and then dividing
that total by the (iii) initial or remaining (as applicable) principal
balance.
(3) Represents aggregate estimated losses as a percentage of the principal
outstanding based upon per annum estimated losses that ranged from 0.4% to
0.8%.
(4) The prepayment rate was based on anticipated principal prepayments
considering the loans sold and other similar loans.
(5) The net gain recorded does not include $877,000, $520,000 and $439,000 for
the 2000 Joint Venture, the 2001 Joint Venture and the 2002 Joint Venture,
respectively, which was deferred and recorded as unrealized appreciation in
our beneficiaries' equity in accordance with SFAS No. 140.
(6) Approximately 93% concentrated in the hospitality industry, 21% to borrowers
in Texas and 10% to borrowers in Arizona. No other state had a concentration
of 10% or greater at December 31, 2002.
(7) Discount rates utilized were (i) 6.7% to 7.1% for our required
overcollateralization, (ii) 8.4% to 8.8% for our reserve funds and (iii)
11.4% to 11.8% for our interest-only strip receivables.
F-31
The value of our Retained Interests is based upon an estimate of the
discounted future cash flows we will receive. In determining the present value
of expected future cash flows, estimates are made in determining the amount and
timing of those cash flows and the discount rates. The amount and timing of cash
flows is generally determined based on estimates of loan losses and anticipated
prepayment speeds relating to the loans receivable contributed to the SPE.
Actual loan losses and prepayments may vary significantly from assumptions. The
discount rates that we utilize in computing the estimated fair value are based
upon estimates of the inherent risks associated with each cash flow stream. Due
to the limited number of entities that conduct transactions with similar assets,
the relatively small size of our Retained Interests and the limited number of
buyers for such assets, no readily ascertainable market exists. Therefore, our
estimate of the fair value may or may not vary from what a willing buyer would
pay for these assets.
The components of our Retained Interests are as follows:
(1) Our required overcollateralization (the "OC Piece"). The OC Piece represents
the excess of the loans receivable contributed to the SPE over the notes
payable issued by the SPE and serves as additional collateral for the
Structured Noteholders.
(2) The "Reserve Fund" and the interest earned thereon. The Reserve Fund
represents cash that is required to be kept in a liquid cash account by the
SPE as collateral for the Structured Noteholders, a portion of which was
contributed by us to the SPE upon formation and a portion which is built up
over time by the SPE from the cash flows of the underlying loans receivable.
(3) The interest-only strip receivable (the "IO Receivable"). The IO Receivable
is comprised of the cash flows that will be received by us in the future
after payment by the SPE of (a) all interest and principal due to the
Structured Noteholders, (b) all principal and interest due on the OC Piece,
(c) any required funding of the Reserve Fund and (d) on-going costs of the
transaction.
Our Retained Interests consisted of the following:
DECEMBER 31, 2002
--------------------------------------------------------------
VALUE
---------------------------------------------------
OC PIECE RESERVE FUND IO RECEIVABLE TOTAL COST
-------- ------------ ------------- -------- --------
(IN THOUSANDS)
2002 Joint Venture $ 3,180 $ 1,261 $ 1,351 $ 5,792 $ 5,064
2001 Joint Venture 3,168 1,391 2,106 6,665 5,373
2000 Joint Venture 6,549 2,464 2,062 11,075 9,312
-------- ------- ------- -------- --------
$ 12,897 $ 5,116 $ 5,519 $ 23,532 $ 19,749
======== ======= ======= ======== ========
DECEMBER 31, 2001
--------------------------------------------------------------
VALUE
---------------------------------------------------
OC PIECE RESERVE FUND IO RECEIVABLE TOTAL COST
-------- ------------ ------------- -------- --------
(IN THOUSANDS)
2001 Joint Venture $ 2,882 $ 1,354 $ 2,065 $ 6,301 $ 5,709
2000 Joint Venture 6,301 2,425 2,739 11,465 9,872
------- ------- ------- --------- --------
$ 9,183 $ 3,779 $ 4,804 $ 17,766 $ 15,581
======= ======= ======= ========= ========
The following is a sensitivity analysis of our Retained Interests at
December 31, 2002 to highlight the volatility that results when prepayments,
loan losses and discount rates are different than assumptions:
CHANGED ASSUMPTION PRO-FORMA VALUE ASSET CHANGE
------------------ --------------- ------------
(IN THOUSANDS)
Losses increase by 50 basis points per annum (1) $ 21,751 ($1,781)
Losses increase by 100 basis points per annum (1) $ 20,040 ($3,492)
Rate of prepayment increases by 5% per annum (2) $ 22,714 ($ 818)
Rate of prepayment increases by 10% per annum (2) $ 22,178 ($1,354)
Discount rates increase by 100 basis points $ 22,481 ($1,051)
Discount rates increase by 200 basis points $ 21,500 ($2,032)
(1) If we experience losses (i.e., in excess of anticipated losses), the effect
on our Retained Interests would first reduce the value of our IO
Receivables. To the extent the IO Receivables could not fully absorb the
losses, the effect would then be to reduce the value
F-32
of our Reserve Funds and then the value of our OC Pieces.
(2) For example, an 8% assumed rate of prepayment would be increased to 13% or
18% based on increases of 5% or 10% per annum, respectively.
These sensitivities are hypothetical and should be used with caution.
Pro-forma values based on changes in these assumptions generally cannot be
extrapolated since the relationship of the change in assumptions to the change
in fair value may not be linear. The effect of a variation in a particular
assumption on the fair value of our Retained Interests is calculated without
changing any other assumption. In reality, changes in one factor are not
isolated from changes in another which might magnify or counteract the
sensitivities.
The following information summarizes the financial position of the Joint
Ventures at December 31, 2002 and 2001. We owned approximately 66% of the 2000
Joint Venture, 39% of the 2001 Joint Venture and 39% of the 2002 Joint Venture
as of December 31, 2002. We owned approximately 67% of the 2000 Joint Venture
and 41% of the 2001 Joint Venture as of December 31, 2001.
SUMMARY OF FINANCIAL POSITION (1)
2002
2000 JOINT VENTURE 2001 JOINT VENTURE JOINT VENTURE
------------------------ ----------------------- -------------
2002 2001 2002 2001 2002
---------- ---------- --------- ---------- -------------
(IN THOUSANDS)
Loans Receivable, Net $ 70,627 $ 79,695 $ 73,220 $ 78,177 $ 69,025
======== ======== ======== ======== ========
Liquidation, Net $ 1,411 $ -- $ -- $ -- $ --
======== ======== ======== ======== ========
Total Assets $ 76,434 $ 85,716 $ 81,302 $ 83,600 $ 74,322
======== ======== ======== ======== ========
Notes Payable $ 62,658 $ 71,100 $ 69,146 $ 71,768 $ 62,152
======== ======== ======== ======== ========
Total Liabilities $ 62,848 $ 71,316 $ 69,329 $ 71,958 $ 62,325
======== ======== ======== ======== ========
Partners' Capital $ 13,586 $ 14,400 $ 11,973 $ 11,642 $ 11,997
======== ======== ======== ======== ========
(1) Balances represent 100% of the limited partnership interests for the Joint
Ventures.
The following information summarizes the results of operations for the Joint
Ventures.
RESULTS OF OPERATIONS (1)
2002
2000 JOINT VENTURE 2001 JOINT VENTURE JOINT VENTURE
--------------------------------- --------------------- -------------
2002 2001 2000 (2) 2002 2001 (3) 2002 (4)
--------- --------- --------- --------- --------- ----------
(IN THOUSANDS)
Interest Income $ 7,092 $ 7,936 $ 295 $ 7,507 $ 4,028 $ 4,850
======= ======= ====== ======= ======= =======
Total Revenues $ 7,351 $ 8,169 $ 298 $ 7,815 $ 4,222 $ 4,897
======= ======= ====== ======= ======= =======
Interest Expense $ 4,988 $ 5,277 $ 181 $ 4,463 $ 2,387 $ 2,999
======= ======= ====== ======= ======= =======
Provision for Losses $ 1,514 $ -- $ -- $ 140 $ -- $ --
======= ======= ====== ======= ======= =======
Total Expenses $ 6,752 $ 5,526 $ 181 $ 4,849 $ 2,507 $ 3,153
======= ======= ====== ======= ======= =======
Net Income $ 599 $ 2,643 $ 117 $ 2,966 $ 1,715 $ 1,744
======= ======= ====== ======= ======= =======
(1) Amounts represent 100% of the limited partnership interests for the Joint
Ventures.
(2) From December 18, 2000 to December 31, 2000
(3) From June 27, 2001 to December 31, 2001
(4) From April 12, 2002 to December 31, 2002
Our ownership of the Joint Ventures is based on our share of the capital of
the respective Joint Ventures. Our share of the cash flows from the Joint
Ventures is allocated based on the cash flows from the underlying loans
receivable contributed by us to the respective Joint Venture less allocated
costs based on the remaining principal on the underlying loans receivable
contributed by us divided by all loans receivable held by the respective Joint
Venture.
F-33
Our limited partnership allocation of the assets, liabilities and
partners' capital of the Joint Ventures was as follows:
DECEMBER 31, 2002 DECEMBER 31, 2001
------------------------------------- -----------------------
2000 JOINT 2001 JOINT 2002 JOINT 2000 JOINT 2001 JOINT
VENTURE VENTURE VENTURE VENTURE VENTURE
---------- ---------- ---------- ---------- ----------
(IN THOUSANDS)
Loans Receivable, Net $ 49,844 $ 28,951 $ 26,825 $ 53,083 $ 29,529
Assets $ 53,707 $ 31,070 $ 28,838 $ 57,127 $ 31,678
Liabilities $ 44,707 $ 26,454 $ 24,202 $ 47,506 $ 27,025
Partners' Capital $ 9,000 $ 4,616 $ 4,636 $ 9,621 $ 4,653
Our limited partnership allocation of the net income of the Joint
Ventures was as follows:
2002
2000 JOINT VENTURE 2001 JOINT VENTURE JOINT VENTURE
-------------------------------- -------------------- -------------
2002 2001 2000 (1) 2002 2001 (2) 2002 (3)
------- ------- -------- ------- -------- --------
(IN THOUSANDS)
Net Income $ 1,501 $ 1,887 $ 71 $ 1,072 $ 743 $ 675
======= ======= ==== ======= ====== ======
(1) From December 18, 2000 to December 31, 2000
(2) From June 27, 2001 to December 31, 2001
(3) From April 12, 2002 to December 31, 2002
In accordance with SFAS No. 140, our consolidated financial statements
do not include the assets, liabilities, partners' capital, revenues or expenses
of the Joint Ventures. As a result, at December 31, 2002 and 2001 our
consolidated balance sheets do not include the $113.6 million and $88.8 million
in assets, respectively, and $95.4 million and $74.5 million in liabilities,
respectively, related to these structured loan sale transactions recorded by our
SPEs. Our Retained Interests related to these structured loan sale transactions
were $23.5 million and $17.8 million at December 31, 2002 and 2001,
respectively, including unrealized appreciation of $3.8 million and $2.2
million, respectively.
The income from our Retained Interests is comprised of the yield earned
on our Retained Interests which is determined based on estimates of future cash
flows and includes any fees collected (i.e., late fees, prepayment fees, etc.)
by the SPEs in excess of anticipated fees. We update our cash flow assumptions
on a quarterly basis and any changes to cash flow assumptions impact the yield
on our Retained Interests. The annualized yield on our Retained Interests was
13.2% and 12.7% during 2002 and 2001, respectively. Our first structured loan
sale transaction was completed on December 18, 2000; therefore, we had minimal
income of $73,000 during 2000.
PMC Capital is the servicer for all loans receivable held by the Joint
Ventures; therefore, no servicing fees were earned or received by us during
2002, 2001 or 2000.
Pursuant to the trust indentures related to the Structured Notes, we
recorded approximately $3.8 million and $2.4 million in cash distributions from
the Joint Ventures during 2002 and 2001, respectively.
F-34
NOTE 5. RESTRICTED INVESTMENTS:
Restricted investments consisted of the following:
DECEMBER 31,
----------------------
2002 2001
--------- ----------
(IN THOUSANDS)
Structured noteholders reserve account $ 1,908 $ 2,375
Escrow and capital expenditures accounts 1,981 1,948
Structured noteholders collection account 1,625 771
Other 100 112
--------- ---------
$ 5,614 $ 5,206
========= =========
The structured noteholders reserve and collection accounts represent
cash collected that has not yet been remitted to the structured noteholders and
reserve account balances that are required to be held as collateral on behalf of
the structured noteholders. The collection and reserve accounts consist of cash
and liquid money market funds.
The escrow and capital expenditures accounts represent restricted
investments maintained pursuant to our Lease Agreement. The escrow account
includes a deposit of two months' base rent. In accordance with the terms of the
Lease Agreement, we deposit the percentage of rent received into a capital
expenditures account for future capital expenditures required to maintain the
real estate investments. Funds are released from this account when capital
expenditures are incurred.
NOTE 6. NOTES PAYABLE AND REVOLVING CREDIT FACILITY
Structured Notes Payable
In June 1998, we formed a bankruptcy remote partnership that completed
a private placement of $66.1 million of fixed-rate loan-backed notes, (the
"Structured Notes"). The Structured Notes mature in May 2019, bear interest at
6.37% per annum and are collateralized by a portion of our loans receivable that
we contributed to the partnership. At December 31, 2002 and 2001, the principal
amount of the underlying loans receivable was $30.7 million and $39.4 million,
respectively. PMC Commercial has no obligation to pay the Structured Notes nor
do the holders of the Structured Notes have any recourse against PMC
Commercial's assets. Accordingly, if the partnership fails to pay the Structured
Notes, the sole recourse of the holders of the Structured Notes is against the
assets of the partnership. The principal amount of the Structured Notes
outstanding at December 31, 2002 and 2001 was $26.0 million and $33.8 million,
respectively. Maturities of these notes are dependent upon the cash flows
received from the underlying loans receivable. Repayment of the Structured Notes
is based on scheduled payments on the underlying loans receivable, is as
follows:
YEAR ENDING
DECEMBER 31, AMOUNT
------------ --------------
(IN THOUSANDS)
2003 $ 1,211
2004 1,342
2005 1,487
2006 1,649
2007 1,828
Thereafter 18,485
----------
$ 26,002
==========
Actual repayments will differ materially from these amounts to the
extent we receive prepayments or defaults occur on the underlying loans
receivable.
Mortgage Notes Payable
We have entered into seven mortgage notes payable, each collateralized
by a Hotel Property. The mortgage notes payable have a weighted average interest
rate of 7.4%, mature between 2004 and 2019 and have amortization periods of 20
years. At December 31, 2002 and 2001, the balances outstanding on these
obligations were $8.9 million and $8.1 million, respectively.
F-35
We have mortgage notes payable related to four Hotel Properties with a
weighted average interest rate of approximately 8.0%. These mortgages are
amortized over 20 years, mature from 2010 to 2017 and have restrictive
provisions which provide for substantial prepayment penalties. These mortgage
notes payable are obligations of our subsidiaries. At December 31, 2002 and
2001, the balances outstanding on these mortgage notes payable were $6.3 million
and $6.5 million, respectively, of which $3.4 million and $3.5 million,
respectively, was guaranteed by PMC Commercial.
Principal payments required on our mortgage notes payable are as
follows:
YEAR ENDING
DECEMBER 31, AMOUNT
------------ --------------
(IN THOUSANDS)
2003 $ 480
2004 5,760
2005 1,281
2006 357
2007 387
Thereafter 6,923
----------
$ 15,189
==========
Revolving Credit Facility
We have a revolving credit facility which provides funds to originate
loans collateralized by commercial real estate. The revolving credit facility,
as amended, provides us with credit availability up to $30 million at December
31, 2002. Subsequent to year-end, the facility was increased to $35 million. The
facility will be reduced to $30 million upon the earlier of the completion of a
securitization or June 30, 2003. The maximum amount (the "Borrowing Base") that
we can have outstanding at any time is based on our eligible loans receivable
used as collateral. The Borrowing Base available on each loan receivable is the
lesser of (a) 60% of the appraised value of the project underlying the loan
receivable collateralizing the borrowing or (b) 85% of the amount of the loan
receivable outstanding. At December 31, 2002, based on our eligible loans
receivable, our Borrowing Base was $28.5 million. To the extent these borrowings
are reinvested in eligible loans receivable, our Borrowing Base will increase
(based on the calculation above) and, based on anticipated future lending
activities, we anticipate that we would be able to fully access our $30 million
revolving credit facility. We are charged interest on the balance outstanding
under the credit facility at our election of either the prime rate of the lender
or 162.5 basis points over the 30, 60 or 90-day LIBOR. At December 31, 2002, we
had $7.3 million outstanding under this facility with interest based on the
prime rate and LIBOR. The weighted average interest rate on our Revolver at
December 31, 2002 and 2001 was 3.1% and 3.6%, respectively. At December 31,
2001, we had $8.7 million outstanding under this facility. The credit facility
requires us to meet certain covenants, the most restrictive of which provides
that the ratio of total liabilities to net worth will not exceed 2.0 times. The
facility matures in May 2004. At December 31, 2002 we were in compliance with
all covenants of this facility. We had $12.8 million outstanding under this
facility as of February 28, 2003.
NOTE 7. DIVIDENDS PAID AND DECLARED:
In April, July and October 2002, we paid quarterly dividends of $0.40
per share to common shareholders of record on March 28, 2002, June 28, 2002 and
September 30, 2002, respectively. The Board of Trust Managers declared a $0.40
per share quarterly dividend and a $0.02 per share special dividend to common
shareholders of record on December 31, 2002, which were paid on January 13,
2003. Dividends declared for the years ended December 31, 2002 and 2001 were
$1.62 per share and $1.52 per share, respectively.
NOTE 8. TAXABLE INCOME:
As a REIT, we generally will not be subject to corporate level Federal
income tax on net income we currently distribute to shareholders. As such, no
provision for Federal income taxes has been included in the accompanying
consolidated financial statements. If we fail to qualify as a REIT in any
taxable year, we will be subject to Federal income taxes at regular corporate
rates (including any applicable alternative minimum tax) and may not be able to
qualify as a REIT for four subsequent taxable years. We may, however, be subject
to certain Federal excise taxes and state and local taxes on our income and
property.
F-36
We may make an election under the Code to treat distributions declared
in the current year as distributions of the prior year's taxable income. Upon
election, the Code provides that, in certain circumstances, a dividend declared
subsequent to the close of an entity's taxable year and prior to the extended
due date of the entity's tax return may be considered as having been made in the
prior tax year in satisfaction of income distribution requirements. Having met
these requirements, we elected on our 2001 tax return to apply approximately
$1.5 million of 2002 distributions to the 2001 tax year and anticipate utilizing
a portion of 2003 distributions to meet our 2002 distribution requirement.
The following reconciles net income available to common shareholders to
taxable income available to common shareholders:
YEARS ENDED DECEMBER 31,
-------------------------------------
2002 2001 2000
---------- ---------- ----------
(IN THOUSANDS)
Net income available to common shareholders $ 9,936 $ 11,435 $ 9,365
Add: Book depreciation and amortization 1,903 2,159 2,250
Less: Tax depreciation and amortization (1,769) (2,147) (2,324)
Book/tax difference on gains on sales (550) (1,433) (1,221)
Book/tax difference on Retained 486 813 --
Interests, net
Other book/tax differences, net 49 365 (42)
---------- ---------- ----------
Taxable income available to common shareholders $ 10,055 $ 11,192 $ 8,028
========== ========== ==========
Distributions to common shareholders $ 10,440 $ 9,789 $ 11,367
========== ========== ==========
Dividends per share for dividend reporting purposes were as follows:
YEARS ENDED DECEMBER 31,
-------------------------------------------------------------------
2002 2001 2000
------------------- -------------------- --------------------
AMOUNT AMOUNT AMOUNT
PER SHARE PERCENT PER SHARE PERCENT PER SHARE PERCENT
--------- ------- --------- ------- --------- -------
Ordinary income $ 1.517 93.67% $ 1.309 86.09% $ 1.289 73.88%
Return of capital -- -- -- -- 0.393 22.53%
Capital gains 0.103 6.33% 0.211 13.91% 0.063 3.59%
-------- ------ -------- ------ -------- ------
$ 1.620 100.00% $ 1.520 100.00% $ 1.745 100.00%
======== ====== ======== ====== ======== ======
NOTE 9. DISCONTINUED OPERATIONS:
Effective January 1, 2002, we adopted SFAS No. 144, "Accounting for the
Impairment of or Disposal of Long-Lived Assets". In accordance with SFAS No.
144, the operations of our hotel properties either sold during 2002 or held for
sale at December 31, 2002 have been reflected as discontinued operations in our
accompanying consolidated statements of income (three properties in total) and
the prior period financial statements have been reclassified to reflect the
operations of these properties as discontinued operations during 2001 and 2000.
SFAS No. 144 does not allow for reclassification of prior period gains and
operations of properties sold prior to January 1, 2002.
At December 31, 2002, one hotel property is classified as real estate
investment held for sale, net on our accompanying consolidated balance sheet.
The sale of this hotel property is expected to be completed prior to June 2003.
The real estate investment held for sale is under contract for approximately
$2.2 million.
During 2002, we sold two hotel properties for approximately $5.2
million and recognized gains of approximately $663,000. We provided financing of
$2.0 million for one of the hotel property sales.
F-37
Discontinued operations of the three hotel properties consisted of the
following:
YEARS ENDED DECEMBER 31,
------------------------------
2002 2001 2000
-------- --------- --------
(IN THOUSANDS)
Lease income $ 398 $ 767 $ 737
Advisory fees (25) (49) (49)
Depreciation (58) (243) (223)
------- -------- --------
Net earnings 315 475 465
Gain on sale of real estate investments 663 -- --
------- -------- --------
Discontinued operations $ 978 $ 475 $ 465
======= ======== ========
NOTE 10. EARNINGS PER SHARE:
The weighted average number of Common Shares outstanding were
6,444,371, 6,431,461, and 6,519,590 for the years ended December 31, 2002, 2001
and 2000, respectively. For purposes of calculating diluted earnings per share,
the weighted average shares outstanding were increased by approximately 11,700;
11,600; and 300 shares for the dilutive effect of stock options during 2002,
2001 and 2000, respectively.
For purposes of calculating earnings per share, the gain on sale of
assets of $562,000, $2,783,000 and $1,421,000 for the years ended December 31,
2002, 2001 and 2000, respectively, has been combined with income from continuing
operations.
Options to purchase 57,600, 155,600 and 183,711 Common Shares were
outstanding during 2002, 2001 and 2000, respectively, but were not included in
the computation of diluted earnings per share because the options' exercise
prices were greater than the average market price of the Common Shares.
NOTE 11. DIVIDEND REINVESTMENT AND CASH PURCHASE PLAN:
We have a dividend reinvestment and cash purchase plan (the "Plan").
Participants in the Plan have the option to reinvest all or a portion of
dividends received. The purchase price of the Common Shares is 100% of the
average of the closing price of the Common Shares as published for the five
trading days immediately prior to the dividend record date or prior to the
optional cash payment purchase date, whichever is applicable. The optional cash
purchase plan was suspended during January 2000. In addition, since January 2000
we have been using the open market to purchase Common Shares with proceeds from
the dividend reinvestment portion of the Plan. Accordingly, there were no plan
shares issued during 2002, 2001 and 2000.
NOTE 12. STOCK-BASED COMPENSATION PLANS:
We have applied Accounting Principles Board Opinion No. 25 ("APB No.
25") and related interpretations in accounting for our stock-based compensation
plans. Effective January 1, 2003, we adopted the fair value recognition
provisions of SFAS No. 123 prospectively to all awards granted, modified or
settled after January 1, 2003.
We have two stock-based compensation plans, the 1993 Employee Share
Option Plan (the "Employee Plan") and the Trust Manager Share Option Plan (the
"Trust Manager Plan"), referred to collectively as the "Stock Option Plans." The
Stock Option Plans provide that the exercise price of any stock option may not
be less than the fair market value of our Common Stock on the date of grant. We
have discretion in determining the vesting terms applicable to stock options
granted under the Employee Plan; however, generally all options vest
immediately. Pursuant to the Employee Plan, we are authorized to grant stock
options up to an aggregate of 6% of the total number of Common Shares
outstanding at any time (a maximum of approximately 387,000 shares at December
31, 2002) as incentive stock options (intended to qualify under Section 422 of
the Code) or as options that are not intended to qualify as incentive stock
options.
Only the trust managers who are not employees of PMC Capital or the
Investment Manager (the "Non-employee Trust Managers") are eligible to
participate in the Trust Managers Plan. The Trust Managers Plan is a
nondiscretionary plan pursuant to which options to purchase 2,000 Common Shares
are granted to each Non-employee Trust Manager on the date such trust manager
takes office. In addition, options to purchase 1,000 shares are granted on June
1 of each year. Such options will be exercisable at the fair market value
F-38
of the shares on the date of grant. The options granted under the Trust Managers
Plan become exercisable one year after date of grant and expire if not exercised
on the earlier of (i) 30 days after the option holder no longer holds office as
an Non-employee Trust Manager for any reason or (ii) within five years after
date of grant. We issued 5,000 options under the Trust Managers Plan during each
of the three years in the period ended December 31, 2002.
A summary of the status of our stock options as of December 31, 2002, 2001 and
2000 and the changes during the years ended on those dates are as follows:
2002 2001 2000
---------------------- ---------------------- ---------------------
NUMBER OF WEIGHTED NUMBER OF WEIGHTED NUMBER OF WEIGHTED
SHARES AVERAGE SHARES AVERAGE SHARES AVERAGE
UNDERLYING EXERCISE UNDERLYING EXERCISE UNDERLYING EXERCISE
OPTIONS PRICES OPTIONS PRICES OPTIONS PRICES
---------- -------- ---------- -------- ---------- --------
Outstanding, January 1 202,976 $ 15.28 233,561 $ 14.81 188,261 $ 16.41
Granted 54,800 $ 13.29 52,400 $ 13.16 54,850 $ 9.38
Exercised (5,000) $ 12.80 (50,474) $ 9.40 -- --
Forfeited (600) $ 18.63 (7,850) $ 18.33 (5,450) $ 18.55
Expired (47,750) $ 19.78 (24,661) $ 16.73 (4,100) $ 15.87
---------- ---------- ----------
Outstanding, December 31 204,426 $ 13.86 202,976 $ 15.28 233,561 $ 14.81
========== ======== ========== ======== ========== ========
Exercisable, December 31 199,426 $ 13.83 197,976 $ 15.28 228,561 $ 14.82
========== ======== ========== ======== ========== ========
Weighted-average fair value of
stock option granted during
the year $ 0.60 $ 0.75 $ 0.10
========== ========== ==========
The fair value of each stock option granted is estimated on the date of
grant using the Black-Scholes option-pricing model with the following
weighted-average assumptions for grants in 2002, 2001 and 2000:
YEARS ENDED DECEMBER 31,
-----------------------------
2002 2001 2000
------ ------ ------
Assumption:
Expected Term (years) 3.0 3.0 3.0
Risk-Free Interest Rate 2.33% 3.88% 5.87%
Expected Dividend Yield 12.20% 11.55% 19.64%
Expected Volatility 22.61% 22.61% 17.14%
The following table summarizes information about stock options
outstanding at December 31, 2002:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------------------------------------- -----------------------------
WEIGHTED
NUMBER AVERAGE NUMBER
RANGE OF OUTSTANDING REMAINING WEIGHTED AVERAGE EXERCISABLE WEIGHTED AVERAGE
EXERCISE PRICES AT 12/31/02 CONTRACT LIFE EXERCISE PRICE AT 12/31/02 EXERCISE PRICE
---------------- ----------- ------------- ---------------- ----------- ----------------
$9.25 to $11.19 48,626 2.1 $ 11.02 48,626 $ 11.02
$11.20 to $14.90 108,200 4.3 $ 13.29 103,200 $ 13.22
$14.91 to $19.88 47,600 0.9 $ 18.03 47,600 $ 18.03
--------------- ------- -------
$9.25 to $19.88 204,426 3.0 $ 13.86 199,426 $ 13.83
======= =======
NOTE 13. FAIR VALUES OF FINANCIAL INSTRUMENTS:
The estimates of fair value as required by SFAS No. 107 differ from the
carrying amounts of the financial assets and liabilities primarily as a result
of the effects of discounting future cash flows. Considerable judgment is
required to interpret market data and develop estimates of fair value.
Accordingly, the estimates presented below may not be indicative of the amounts
we could realize in a current market exchange.
F-39
The estimated fair values of our financial instruments were as follows:
YEARS ENDED DECEMBER 31,
------------------------------------------------
2002 2001
----------------------- ----------------------
ESTIMATED ESTIMATED
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
-------- --------- -------- ---------
(IN THOUSANDS)
Assets:
Loans receivable, net $ 71,992 $ 72,451 $ 78,486 $ 79,225
Retained Interests 23,532 23,532 17,766 17,766
Cash and cash equivalents 49 49 557 557
Restricted investments 5,614 5,174 5,205 4,608
Liabilities:
Notes payable 41,191 43,520 48,370 48,481
Revolving credit facility 7,300 7,300 8,700 8,700
Loans receivable, net: We estimate the fair value of loans receivable to
approximate the remaining unamortized principal of the loans receivable, unless
there is doubt as to realization of a loan receivable. A valuation reserve is
established for a problem loan based on the creditor's payment history,
collateral value, guarantor support and other factors. In the absence of a
readily ascertainable market value, the estimated value of our loans receivable
may differ from the values that would be placed on the loan portfolio if a ready
market for the loans receivable existed.
Retained Interests: The assets are reflected in our consolidated financial
statements at estimated fair value based on valuation techniques as described in
Note 4.
Cash and cash equivalents: The carrying amount is a reasonable estimation of
fair value due to the short maturity of these instruments.
Restricted investments: The fair value of the reserve fund associated with the
1998 structured loan financing transaction is estimated by utilizing discounted
cash flow techniques based on management's estimates of market rates including
risks inherent in the transaction. The carrying amount of the remaining
restricted investments is a reasonable estimate of fair value due to the short
maturity of these instruments.
Notes payable: The estimated fair value is based on a present value calculation
based on prices of the same or similar instruments after considering risk,
current interest rates and remaining maturities.
Revolving credit facility: The carrying amount is a reasonable estimation of
fair value as the interest rate on this instrument is a variable rate of
interest.
NOTE 14. RELATED PARTY TRANSACTIONS:
Our loans receivable are originated and serviced by PMC Advisers
pursuant to an Investment Management Agreement (the "IMA"). Property
acquisitions are supervised pursuant to a separate agreement with PMC Advisers
(the "Lease Supervision Agreement" and together with the IMA, the "Advisory
Agreements"). Both agreements are renewable on an annual basis. PMC Advisers
also earns fees for its assistance in the issuance of our debt and equity
securities. We are managed by the same executive officers as PMC Capital and PMC
Advisers. Three of our trust managers are directors or officers of PMC Capital.
During 2002 and 2001, pursuant to the IMA we were charged fees between
0.40% and 1.55% annually, based on the average principal outstanding of our
loans receivable. Through June 20, 2000, we were charged an annual fee between
0.40% and 1.67%, based on the average principal outstanding of our loans
receivable. The maximum fee was reduced from 1.67% to 1.55% commencing July 1,
2000. In addition, PMC Advisers earns fees for its assistance with the issuance
of our debt and equity securities. Such compensation includes a consulting fee
equal to (i) 12.5% of any offering fees (underwriting or placement fees)
incurred by us pursuant to the public offering or private placement of our
common shares, and (ii) 50% of any issuance or placement fees incurred by us
pursuant to the issuance of our debt securities or preferred shares of
beneficial interest. The IMA also provides for a fee of $10,000 upon the sale of
each Hotel Property and an annual loan origination fee equal to five basis
points for the first $20 million of loans funded and 2.5 basis points
thereafter. In the event the IMA agreement with PMC Advisers is terminated or
not renewed by us (other than as a result of a material breach by PMC Advisers)
or terminated by PMC Advisers (as a result of a material breach by us), PMC
Capital would enter into a non-compete agreement for a period of seven years
from the termination date. A fee would be paid to PMC Advisers each year by us
in consideration of the non-compete agreement until the non-compete agreement is
terminated. Upon termination, the fee would be calculated as 1% (less loan
losses as a percentage of average invested assets) multiplied by the average
invested assets at the date of termination.
F-40
The Lease Supervision Agreement provides for an annual fee of 0.70% of
the original cost of the Hotel Properties to be paid to PMC Advisers for
providing services relating to the leases on the Hotel Properties. In addition,
the Lease Supervision Agreement provides for a fee in connection with the
acquisition of properties of 0.75% of the acquisition cost. In the event the
Lease Supervision Agreement with PMC Advisers is terminated or not renewed by us
(other than as a result of a material breach by PMC Advisers) or terminated by
PMC Advisers (as a result of a material breach by us), PMC Advisers would be
entitled to receive the Lease Supervision Fee for a period of five years from
the termination date.
Fees associated with the Advisory Agreements consisted of the
following:
YEARS ENDED DECEMBER 31,
----------------------------------
2002 2001 2000
---------- ---------- -------
(IN THOUSANDS)
Lease supervision fee $ 381 $ 441 $ 500
Investment management fee 1,927 1,803 1,699
--------- --------- ---------
Total fees incurred 2,308 2,244 2,199
Less:
Management fees included in discontinued (25) (49) (49)
operations
Fees incurred by the SPEs (298) (198) --
Cost of structured loan sale transactions (57) (60) (100)
Fees capitalized as cost of originating loans (135) (208) (145)
--------- --------- ---------
Advisory and servicing fees to affiliate, net $ 1,793 $ 1,729 $ 1,905
========= ========= =========
NOTE 15. SELECTED QUARTERLY FINANCIAL DATA: (UNAUDITED)
The following represents our selected quarterly financial data which,
in the opinion of management, reflects adjustments (comprising only normal
recurring adjustments) necessary for fair presentation.
FOR THE YEAR ENDED DECEMBER 31, 2002
------------------------------------------------------------------
INCOME FROM
CONTINUING NET EARNINGS
REVENUES OPERATIONS INCOME PER SHARE
---------- ----------- ----------- ----------
(IN THOUSANDS, EXCEPT EARNINGS PER SHARE AND FOOTNOTES)
First Quarter $ 4,286 $ 2,199 $ 2,648(1) $ 0.41(1)
Second Quarter 4,137 2,240 3,164(2) 0.49(2)
Third Quarter 3,866 2,110 2,164 0.34
Fourth Quarter 3,747 1,847 1,960 0.30
---------- -------- -------- -------
$ 16,036 $ 8,396 $ 9,936 $ 1.54
========== ======== ======== =======
FOR THE YEAR ENDED DECEMBER 31, 2001
-----------------------------------------------------------------
INCOME FROM
CONTINUING NET EARNINGS
REVENUES OPERATIONS INCOME PER SHARE
---------- ----------- ------------ ----------
(IN THOUSANDS, EXCEPT EARNINGS PER SHARE AND FOOTNOTES)
First Quarter $ 4,210 $ 2,225 $ 2,807(3) $ 0.44(3)
Second Quarter 4,291 1,971 $ 3,849(4) 0.60(4)
Third Quarter 3,835 1,889 $ 2,536(5) 0.39(5)
Fourth Quarter 4,071 2,092 $ 2,243 0.35
---------- -------- --------- -------
$ 16,407 $ 8,177 $ 11,435 $ 1.78
========== ======== ========= =======
(1) Includes a gain of $371,000 from the sale of a hotel property.
(2) Includes a gain of $562,000 relating to our structured loan sale
transaction and a gain of $292,000 from the sale of a hotel property.
(3) Includes a gain of $502,000 from the sale of a hotel property.
F-41
(4) Includes a gain of $1,433,000 relating to our structured loan sale
transaction and a gain of $322,000 from the sale of a hotel property.
(5) Includes a gain of $526,000 from the sale of a hotel property.
NOTE 16. COMMITMENTS AND CONTINGENCIES:
Commitments to extend credit are agreements to lend to a customer
provided the terms established in the contract are met. At December 31, 2002, we
had approximately $40.9 million of total loan commitments outstanding. All of
these commitments were for variable-rate loans based on LIBOR at spreads ranging
from 3.50% to 4.25% over the 90-day LIBOR. The weighted average interest rate on
our loan commitments at December 31, 2002 was 5.6%. Commitments generally have
fixed expiration dates and require payment of a fee to us. Since some
commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements.
Pursuant to our investment management agreements, if we do not have funds
available for our commitments, these commitments will be referred back to PMC
Advisers.
Pursuant to the trust indenture for our structured loan financing
completed in 1998 which is not treated as a sale for financial reporting
purposes, distributions of its net assets are limited and restricted. The
required reserve amount ($1.9 million at December 31, 2002), included in
restricted investments on our consolidated balance sheets, is calculated as
follows: the outstanding principal balance of the underlying loans receivable
which are delinquent 180 days or more plus the greater of 6% of the current
outstanding principal balance of the underlying loans receivable or 2% of the
underlying loans receivable of the 1998 structured loan financing transaction at
inception ($1.4 million). As of December 31, 2002 and 2001, none of the loans
receivable in the 1998 structured loan financing transaction were delinquent 180
days or more.
PMC Commercial and PMC Capital have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the Joint Ventures. To the extent that poor performance by either PMC Capital
or PMC Commercial's sold loans receivable (the "Underperforming Company") is
pervasive enough to cause the other company (the "Performing Company") to not
receive cash flow that it otherwise would have received, then the
Underperforming Company must make the Performing Company whole. If the cash flow
reduction is considered to be temporary, then interest will be paid as
compensation to the Performing Company. In general, when a loan is liquidated,
it may cause a deferral of cash flow to the Performing Company and, as a result,
interest would be charged to the Underperforming Company until the cash flow
from the Joint Venture repays the Performing Company. As a result of the Credit
Enhancement Provisions described below, PMC Commercial had a cash flow deferral,
and was paid compensation by PMC Capital of less than $1,000. If the reduction
of cash flows is deemed permanent, (i.e., to the extent that the Underperforming
Company will not be able to satisfy the shortfall with the assets they have
contributed to the related structured loan sale transaction), the reduction in
cash flows must be paid to the Performing Company by the Underperforming
Company. At December 31, 2002, the maximum potential amount of future payments
to PMC Capital (undiscounted and without consideration of any recoveries from
the underlying loans receivable) we could be required to make under these cross
indemnification agreements was approximately $36.3 million and the discounted
amount was $25.2 million which represents the estimated fair value of the
Retained Interests reflected on PMC Capital's consolidated balance sheet for the
Joint Ventures. All of our loans are collateralized; however, the maximum
potential amount of future payments we could be required to make under these
cross indemnification agreements has not considered any proceeds from the
liquidation of collateral underlying these loans. Upon completion of a joint
securitization and on each subsequent quarterly reporting date, management
evaluates the need to recognize a liability associated with these cross
indemnification agreements. Based on our present cash flow assumptions,
including stress test analyses of increasing the anticipated losses on each of
the loan pools, it does not appear that the loans receivable sold by us will
cause any permanent cash flow reductions to PMC Capital nor will the loans
receivable sold by PMC Capital cause any permanent cash flow reductions to us.
Accordingly, we believe that the fair value of the cross indemnification
agreements at inception of the Joint Ventures and as of December 31, 2002 and
2001 was zero; thus, no liability was recorded. If the performance of our sold
loans receivable deteriorates, it may be necessary for us to perform under these
cross indemnification agreements.
When our structured loan sale transactions were completed, the
transaction documents that the SPE entered into contained provisions (the
"Credit Enhancement Provisions") that govern the assets and the flow of funds in
and out of the SPE formed as part of the structured loan sale transactions. The
Credit Enhancement Provisions include specified limits on the delinquency,
default and loss rates on loans receivable included in each SPE. If, at any
measurement date, the delinquency, default or loss rate with respect to any SPE
were to exceed the specified limits, the Credit Enhancement Provisions would
automatically increase the level of credit enhancement requirements for that
SPE. During the period in which the specified delinquency, default or loss rate
was exceeded, excess cash flow from the SPE, if any, would be used to fund the
increased credit enhancement levels instead of being distributed,
F-42
which would delay or reduce our distribution. As a result of the problem loans
in the 2000 Joint Venture (contributed by PMC Capital), a Credit Enhancement
Provision was triggered in November 2002. As a consequence, some of our cash
flows relating to this transaction were deferred and utilized to fund the
increased reserve requirements. Our cash flow deferral at December 31, 2002 and
February 28, 2003 was approximately $270,000 and $582,000, respectively. Based
on current cash flow assumptions, management anticipates that these funds will
be received in future periods.
In the normal course of business, we are subject to various proceedings
and claims, the resolution of which will not, in management's opinion, have a
material adverse effect on our financial position or results of operations.
NOTE 17. BUSINESS SEGMENTS:
Operating results and other financial data are presented for our
principal business segments. These segments are categorized by line of business
which also corresponds to how they are operated. The segments include (i) the
Lending Division, which originates loans receivable to small businesses
primarily in the hospitality industry and (ii) the Property Division which owns
the Hotel Properties.
Our business segment data as of December 31, 2002, 2001 and 2000 and
for the years ended December 31, 2002, 2001 and 2000 is as follows:
YEARS ENDED DECEMBER 31,
--------------------------------------------------------------------
2002 2001
------------------------------- --------------------------------
(IN THOUSANDS)
LENDING PROPERTY LENDING PROPERTY
TOTAL DIVISION DIVISION TOTAL DIVISION DIVISION
--------- --------- -------- --------- --------- --------
Revenues:
Interest income - loans and other income $ 7,400 $ 7,400 $ -- $ 8,321 $ 8,321 $ --
Lease income 5,743 -- 5,743 6,271 -- 6,271
Income from retained interests in transferred
assets 2,893 2,893 -- 1,815 1,815 --
--------- --------- ------- --------- --------- -------
Total 16,036 10,293 5,743 16,407 10,136 6,271
--------- --------- ------- --------- --------- -------
Expenses:
Interest (1) 3,445 1,898 1,547 4,020 2,463 1,557
Depreciation 1,845 -- 1,845 1,858 -- 1,858
Advisory and servicing fees to affiliate, net 1,793 1,437 356 1,729 1,337 392
Impairment loss on assets held for sale 54 54 -- -- -- --
Realized losses on retained interests in 53 53 -- 81 81 --
transferred assets
Provision for loan losses 65 65 -- 200 200 --
Other 385 367 18 342 332 10
--------- --------- ------- --------- --------- -------
Total 7,640 3,874 3,766 8,230 4,413 3,817
--------- --------- ------- --------- --------- -------
Income from continuing operations 8,396 6,419 1,977 8,177 5,723 2,454
Discontinued operations:
Gain on sale of real estate investments 663 -- 663 -- -- --
Net earnings 315 -- 315 475 -- 475
--------- --------- ------- --------- --------- -------
978 -- 978 475 -- 475
--------- --------- ------- --------- --------- -------
Gain on sale of assets:
Gain on sale of real estate investments -- -- -- 1,350 -- 1,350
Gain on sale of loans receivable 562 562 -- 1,433 1,433 --
--------- --------- ------- --------- --------- -------
562 562 -- 2,783 1,433 1,350
--------- --------- ------- --------- --------- -------
Net income $ 9,936 $ 6,981 $ 2,955 $ 11,435 $ 7,156 $ 4,279
========= ========= ======= ========= ========= =======
Additions to real estate investments $ 388 $ -- $ 388 $ 490 $ -- $ 490
========= ========= ======= ========= ========= =======
AS OF DECEMBER 31,
--------------------------------------------------------------------
2002 2001
--------------------------------- --------------------------------
(IN THOUSANDS)
Total assets $ 149,698 $ 100,717 $ 48,981 $ 156,347 $ 101,480 $ 54,867
========== ========== ========= ========= ========== =========
(1) Interest expense specifically identified to a particular division is
allocated to that division. Interest expense which is not specifically
allocable is allocated based on the relative total assets of each division.
F-43
YEAR ENDED DECEMBER 31, 2000
---------------------------------
LENDING PROPERTY
TOTAL DIVISION DIVISION
--------- ---------- --------
(IN THOUSANDS)
Revenues:
Interest income - loans and other portfolio income $ 12,121 $ 12,121 $ --
Lease income 6,844 -- 6,844
Income from retained interests in transferred assets 73 73 --
--------- ---------- --------
Total 19,038 12,194 6,844
--------- ---------- --------
Expenses:
Interest (1) 6,782 4,231 2,551
Depreciation 2,027 -- 2,027
Advisory and servicing fees to affiliate, net 1,905 1,454 451
Provision for loan losses 600 600 --
Other 245 227 18
--------- ---------- --------
Total 11,559 6,512 5,047
--------- ---------- --------
Income from continuing operations 7,479 5,682 1,797
Discontinued operations:
Gain on sale of real estate investments -- -- --
Net earnings 465 -- 465
--------- ---------- --------
465 -- 465
--------- ---------- --------
Gain on sale of assets:
Gain on sale of real estate investments 304 -- 304
Gain on sale of loans receivable 1,117 1,117 --
--------- ---------- --------
1,421 1,117 304
--------- ---------- --------
Net income $ 9,365 $ 6,799 $ 2,566
========= ========== ========
Additions to real estate investments $ -- $ -- $ --
========= ========== ========
DECEMBER 31, 2000
---------------------------------
(IN THOUSANDS)
Total assets $ 151,399 $ 83,257 $ 68,142
========== ========== ==========
(1) Interest expense specifically identifiable to a particular division is
allocated to that division. Interest expense which is not specifically
identifiable is allocated based on the relative total assets of each
division.
NOTE 18. SUBSEQUENT EVENTS:
On March 27, 2003, we entered into an Agreement and Plan of Merger with
PMC Capital. Under the terms of the merger agreement, PMC Capital will be merged
into PMC Commercial, with PMC Commercial continuing as the surviving entity.
Each issued and outstanding share of PMC Capital common stock will be converted
into 0.37 of a common share of PMC Commercial. The merger has been recommended
by each company's special committee and approved by the Board of Trust Managers
of PMC Commercial and the Board of Directors of PMC Capital. In addition, the
boards and management of each company have entered into voting agreements
pursuant to which they have agreed to vote their shares in favor of the merger
and related transactions. Completion of the merger, which is expected to occur
in the fourth quarter of 2003, is subject to approval by the shareholders of PMC
Commercial and PMC Capital, certain governmental consents and customary closing
conditions.
During March 2003, we declared a $0.40 per share dividend to common
shareholders of record on March 31, 2003, to be paid on April 14, 2003.
F-44
REPORT OF INDEPENDENT ACCOUNTANTS ON
FINANCIAL STATEMENT SCHEDULES
To the Board of Trust Managers of
PMC Commercial Trust:
Our audits of the consolidated financial statements referred to in our report
dated March 11, 2003, except for Note 18, as to which the date is March 27,
2003, appearing on page F-19 of this Registration Statement on Form S-4 also
included an audit of the financial statement schedules appearing on pages F-46
through F-50 of this Registration Statement on Form S-4. In our opinion, these
financial statement schedules present fairly, in all material respects, the
information set forth therein when read in conjunction with the related
consolidated financial statements.
PRICEWATERHOUSECOOPERS LLP
Dallas, Texas
March 11, 2003, except for Note 18,
as to which the date is March 27, 2003
F-45
SCHEDULE III
PMC COMMERCIAL TRUST AND SUBSIDIARIES
REAL ESTATE AND ACCUMULATED DEPRECIATION
AS OF DECEMBER 31, 2002
(IN THOUSANDS)
COST CAPITALIZED
SUBSEQUENT
INITIAL COST TO ACQUISITION
-------------------------------- -----------------------------
BUILDING FURNITURE BUILDING FURNITURE
AND AND AND AND
DESCRIPTION OF PROPERTY ENCUMBRANCES LAND IMPROVEMENTS FIXTURES LAND IMPROVEMENTS FIXTURES
----------------------- ------------ ------- ------------ --------- ---- ------------ ---------
The following are
all hotel
properties
operating as
Amerihost
Inns
Ashland, OH $ -- $ 215 $ 2,626 $ 185 $-- $ 5 $ 35
Coopersville, MI 1,375 242 1,999 180 -- 4 62
Eagles Landing, GA -- 325 1,815 180 -- 4 10
Grand Rapids-N, MI 1,586 221 2,323 180 -- 5 37
Grand Rapids-S, MI 1,517 368 2,173 183 -- 4 49
Jackson, TN -- 403 1,936 183 -- 4 30
LaGrange, GA -- 263 1,679 177 -- 3 37
McKinney, TX -- 273 2,066 183 -- 4 31
Monroe, MI -- 273 2,060 189 -- 4 96
Mosinee, WI 1,116 140 1,416 159 -- 3 46
Mt. Pleasant, IA 1,008 179 1,851 189 -- 4 52
Port Huron, MI -- 263 2,076 183 -- 4 28
Rochelle, IL 921 221 2,017 183 -- 4 17
Smyrna, GA -- 290 1,749 180 -- 4 30
Storm Lake, IA 1,383 220 1,716 183 -- 3 12
Tupelo, MS -- 236 1,901 183 -- 4 10
Wooster - E, OH -- 171 1,673 174 -- 3 50
Wooster - N, OH -- 263 1,575 229 -- 7 36
Macomb, IL 1,710 194 2,277 180 -- 4 50
Sycamore, IL 1,666 250 2,220 180 -- 4 44
Marysville, OH 1,397 300 2,712 237 -- 6 36
Plainfield, IN 1,510 300 1,962 180 -- 4 17
-------- ------- -------- ------ --- ---- -----
$ 15,189 $ 5,610 $ 43,822 $4,080 $-- $ 91 $ 815
======== ======= ======== ====== === ==== =====
GROSS AMOUNTS AT
WHICH CARRIED AT
CLOSE OF PERIOD(1)
----------------------------------------
BUILDING FURNITURE
AND AND
DESCRIPTION OF PROPERTY LAND IMPROVEMENTS FIXTURES TOTAL
----------------------- ---- ------------ ---------- -----
The following are
all hotel
properties
operating as
Amerihost
Inns
Ashland, OH $ 215 $ 2,631 $ 220 $ 3,066
Coopersville, MI 242 2,003 242 2,487
Eagles Landing, GA 325 1,819 190 2,334
Grand Rapids-N, MI 221 2,328 217 2,766
Grand Rapids-S, MI 368 2,177 232 2,777
Jackson, TN 403 1,940 213 2,556
LaGrange, GA 263 1,682 214 2,159
McKinney, TX 273 2,070 214 2,557
Monroe, MI 273 2,064 285 2,622
Mosinee, WI 140 1,419 205 1,764
Mt. Pleasant, IA 179 1,855 241 2,275
Port Huron, MI 263 2,080 211 2,554
Rochelle, IL 221 2,021 200 2,442
Smyrna, GA 290 1,753 210 2,253
Storm Lake, IA 220 1,719 195 2,134
Tupelo, MS 236 1,905 193 2,334
Wooster - E, OH 171 1,676 224 2,071
Wooster - N, OH 263 1,582 265 2,110
Macomb, IL 194 2,281 230 2,705
Sycamore, IL 250 2,224 224 2,698
Marysville, OH 300 2,718 273 3,291
Plainfield, IN 300 1,966 197 2,463
------ -------- ------ --------
$5,610 $ 43,913 $4,895 $ 54,418
====== ======== ====== ========
(1) The aggregate cost of our real estate for Federal income tax purposes was
$54,418,000. (unaudited)
F-46
SCHEDULE III
PMC COMMERCIAL TRUST AND SUBSIDIARIES
REAL ESTATE AND ACCUMULATED DEPRECIATION
AS OF DECEMBER 31, 2002
(IN THOUSANDS)
DESCRIPTION OF PROPERTY ACCUMULATED
DEPRECIATION - LIFE UPON
BUILDING AND WHICH
THE FOLLOWING ARE ALL HOTEL IMPROVEMENTS; DEPRECIATION
PROPERTIESOPERATING AS FURNITURE AND DATE OF DATE OF IN STATEMENT
AMERIHOST INNS FIXTURES CONSTRUCTION ACQUISITION IS COMPUTED
---------------------------- --------------- ------------ ----------- --------------
Ashland, OH 428 8/9/1996 6/30/1998 7 - 35 years
Coopersville, MI 362 1/9/1996 6/30/1998 7 - 35 years
Eagles Landing, GA 337 8/8/1995 6/30/1998 7 - 35 years
Grand Rapids-N, MI 389 7/5/1995 6/30/1998 7 - 35 years
Grand Rapids-S, MI 378 6/11/1997 6/30/1998 7 - 35 years
Jackson, TN 354 4/1/1998 6/30/1998 7 - 35 years
LaGrange, GA 282 3/1/1995 6/30/1998 7 - 35 years
McKinney, TX 361 1/6/1997 6/30/1998 7 - 35 years
Monroe, MI 387 9/19/1997 6/30/1998 7 - 35 years
Mosinee, WI 287 4/30/1993 6/30/1998 7 - 35 years
Mt. Pleasant, IA 352 7/2/1997 6/30/1998 7 - 35 years
Port Huron, MI 368 7/1/1997 6/30/1998 7 - 35 years
Rochelle, IL 357 3/7/1997 6/30/1998 7 - 35 years
Smyrna, GA 330 1/8/1996 6/30/1998 7 - 35 years
Storm Lake, IA 328 3/13/1997 6/30/1998 7 - 35 years
Tupelo, MS 346 7/25/1997 6/30/1998 7 - 35 years
Wooster - E, OH 320 1/18/1994 6/30/1998 7 - 35 years
Wooster - N, OH 320 10/21/1995 6/30/1998 7 - 35 years
Macomb, IL 325 5/1/1995 3/23/1999 7 - 35 years
Sycamore, IL 318 5/31/1996 3/23/1999 7 - 35 years
Marysville, OH 395 6/1/1990 3/5/1999 7 - 35 years
Plainfield, IN 288 9/1/1992 3/5/1999 7 - 35 years
--------
$ 7,613
========
F-47
SCHEDULE III
PMC COMMERCIAL TRUST AND SUBSIDIARIES
REAL ESTATE AND ACCUMULATED DEPRECIATION
AS OF DECEMBER 31, 2002
(IN THOUSANDS)
GROSS AMOUNT CARRIED:
--------------------------------------------------------------------------
TOTALS
-----------
Balance at December 31, 1999 $ 73,872
===========
Additions during period:
Acquisitions through foreclosure $ --
-----------
Other Acquisitions --
-----------
Improvements, etc. --
-----------
Other (describe) -- $ --
----------- -----------
Deductions during period:
Cost of real estate sold $ (2,931)
-----------
Other (describe) -- $ (2,931)
----------- -----------
Balance at December 31, 2000 $ 70,941
===========
Additions during period:
Acquisitions through foreclosures $ --
-----------
Other Acquisitions --
-----------
Improvements, etc. 490
-----------
Other (describe) -- $ 490
----------- -----------
Deductions during period:
Cost of real estate sold $ (12,436)
-----------
Other (describe) -- $ (12,436)
----------- -----------
Balance at December 31, 2001 $ 58,995
===========
Additions during period:
Acquisitions through foreclosure $ --
-----------
Other Acquisitions --
-----------
Improvements, etc. 388
-----------
Other (describe) -- $ 388
----------- -----------
Deductions during period:
Cost of real estate sold $ (4,965)
-----------
Real estate held for sale (2,159) $ (7,124)
----------- -----------
Balance at December 31, 2002 $ 52,259
===========
ACCUMULATED DEPRECIATION:
-------------------------------------------------------------------------
Balance at December 31, 1999 $ 3,189
==========
Additions during period:
Depreciation expense during the period 2,250
Deductions during period:
Assets sold or written-off during the (172)
period
----------
Balance at December 31, 2000 $ 5,267
==========
Additions during period:
Depreciation expense during the period 2,101
Deductions during period:
Assets sold or written-off during the (1,091)
period
----------
Balance at December 31, 2001 $ 6,277
==========
Additions during period:
Depreciation expense during the period 1,903
Deductions during period:
Real estate held for sale (282)
Assets sold or written-off during the (567)
period
----------
Balance at December 31, 2002 $ 7,331
==========
F-48
SCHEDULE IV
PMC COMMERCIAL TRUST AND SUBSIDIARIES
MORTGAGE LOANS ON REAL ESTATE
AS OF DECEMBER 31, 2002
(IN THOUSANDS, EXCEPT FOOTNOTES)
INTEREST RATE FINAL
DESCRIPTION OF -------------------------------- MATURITY
PROPERTY VARIABLE FIXED DATE
------------------------------------- -------------- ---------------- -----------------
99.7% of our mortgages are commercial
first mortgages on limited service
hospitality properties
MORTGAGES 3% OR GREATER:
Lubbock, TX 5.53% 11/26/2022
Hesperia, CA 5.53% 11/1/2022
Trussville, AL 5.63% 3/1/2022
Midland, TX 5.13% 9/10/2021
Stroudsburg, PA 10.80% 9/1/2017
STATES 3% OR GREATER:
SIZE OF LOANS
NUMBER (IN THOUSANDS)
OF -----------------
LOANS FROM TO
------ -------- -------
Texas 4 $ 200 $ 1,000 10.50% to 11.16% 2/01/04--12/02/17
7 $ 1,100 $ 1,800 5.38% to 5.63% 10.63% to 10.99% 12/31/02--6/25/22
Maryland 1 (7) (7) 10.25% 2/20/17
3 $ 1,200 $ 1,800 9.60% to 10.40% 4/23/05--4/07/18
Arizona 1 (7) (7) 5.63% 1/20/23
3 $ 1,100 $ 1,600 5.38% to 5.63% 9.50% 9/06/04--1/11/22
North Carolina 3 $ 1,200 $ 1,700 4.88% to 5.63% 12/17/21--9/12/22
New York 3 $ 50 $ 900 5.38% 11.00% 12/01/03--9/05/22
2 $ 1,000 $ 1,600 5.38% 3/19/17--9/05/22
Ohio 1 (7) (7) 11.37% 8/12/04
3 $ 1,100 $ 1,500 5.13% 9.00% to 11.37% 8/12/04--11/22/22
Missouri 2 $ 1,200 $ 2,100 5.38% 10.75% 8/23/06--5/16/22
Florida 1 (7) (7) 10.25% 4/30/06
1 (7) (7) 5.38% 12/20/22
Mississippi 2 $ 1,000 $ 1,300 9.25% to 10.75% 10/02/06--4/14/18
Other 5 $ 200 $ 1,000 10.75% to 10.90% 6/28/03--7/31/12
7 $ 1,200 $ 2,100 5.25% to 5.88% 9.60% to 10.90% 9/11/06--8/01/22
PRINCIPAL
AMOUNT
OF LOANS
SUBJECT
PERIODIC FACE CARRYING TO DELINQUENT
DESCRIPTION OF PAYMENT PRIOR AMOUNT OF AMOUNT OF PRINCIPAL
PROPERTY TERMS LIENS MORTGAGES (1) MORTGAGES OR INTEREST
------------------------------------- -------- ----- ------------- --------- -------------
99.7% of our mortgages are commercial
first mortgages on limited service
hospitality properties
MORTGAGES 3% OR GREATER:
Lubbock, TX (2) $ -- $3,850 $3,821 $ --
Hesperia, CA (2) -- 3,595 3,604 --
Trussville, AL (3) -- 2,445 2,430 --
Midland, TX (4) -- 2,361 2,346 --
Stroudsburg, PA (5) -- 2,263 2,240 --
STATES 3% OR GREATER:
Texas -- 2,720 2,694 --
-- 10,328 9,928(6) --
Maryland -- 775 775 --
-- 4,817 4,758 --
Arizona -- 694 703 --
-- 4,107 4,087 --
North Carolina -- 4,523 4,496 --
New York -- 1,500 1,497 --
-- 2,744 2,715 --
Ohio -- 192 191 --
-- 3,863 3,844 --
Missouri -- 3,181 3,169 --
Florida -- 589 584 --
-- 2,000 1,995 --
Mississippi -- 2,307 2,292 --
Other -- 2,904 2,882 --
-- 11,057 10,940 --
---- -------- -------- -----
$ -- $ 72,816 $ 71,992 $ --
==== ======== ======== =====
Footnotes:
(1) The aggregate cost of our mortgages for Federal income tax purposes was
$72,816,000. (unaudited)
(2) Payments based on variable interest rate, adjusting quarterly until
maturity. Prepayment charge for first five years is 5% of the principal
prepaid. Prepayment charge for the second five years is 3% of the principal
prepaid. Thereafter, no prepayment charge.
(3) Payments based on variable interest rate, adjusting quarterly until
maturity. Prepayment is prohibited until March 1, 2007; thereafter
prepayment charge is based on a Yield Maintenance Premium.
(4) Payments based on variable interest rate, adjusting quarterly until
maturity. Prepayment is prohibited until September 30, 2003; from then
until September 30, 2011; penalty is sixty days of interest; from September
30, 2011 until maturity, no prepayment charge.
(5) Payments are equal until September 1, 2007. At that date, interest rate may
be changed at our discretion. Prepayment charge is based on a Yield
Maintenance Premium.
(6) Includes an impaired loan with a face amount of $1,756,000 and a valuation
reserve of $365,000. This reserve was established based on the value of the
collateral securing the loan receivable.
(7) Range not presented as represents only one loan.
F-49
SCHEDULE IV
PMC COMMERCIAL TRUST AND SUBSIDIARIES
MORTGAGE LOANS ON REAL ESTATE
AS OF DECEMBER 31, 2002
(IN THOUSANDS)
TOTALS
-----------
Balance at December 31, 1999 $ 115,265
-----------
Additions during period:
New mortgage loans $ 22,508
-----------
Other - amortization of commitment fees 1,035 23,543
----------- -----------
Deductions during period:
Collections of principal $ (16,108)
-----------
Foreclosures (1,181)
-----------
Cost of mortgages sold (55,675)
-----------
Amortization of premium --
-----------
Loan loss reserve --
-----------
Other - commitment fees collected, net (199) $ (73,163)
------------ -----------
Balance at December 31, 2000 $ 65,645
===========
Additions during period:
New mortgage loans $ 51,683
-----------
Other - amortization of commitment fees 427 52,110
----------- -----------
Deductions during period:
Collections of principal $ (5,935)
-----------
Foreclosures --
-----------
Cost of mortgages sold (32,662)
-----------
Amortization of premium --
-----------
Loan loss reserve (200)
-----------
Other - commitment fees collected, net (473) $ (39,270)
------------ -----------
Balance at December 31, 2001 $ 78,485
===========
Additions during period:
New mortgage loans $ 32,776
-----------
Other - amortization of commitment fees 220 32,996
----------- -----------
Deductions during period:
Collections of principal $ (12,268)
-----------
Foreclosures --
-----------
Cost of mortgages sold (27,286)
-----------
Amortization of premium --
-----------
Loan loss reserve (65)
-----------
Other - commitment fees collected, net (175) $ (39,794)
------------ -----------
Balance at December 31, 2002 $ 71,687
===========
F-50
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
JUNE 30, DECEMBER 31,
2003 2002
----------- ------------
ASSETS
INVESTMENTS AT VALUE:
Loans receivable $ 94,976 $ 87,245
Retained interests in transferred assets 37,644 40,003
Assets acquired in liquidation 3,212 2,252
Cash equivalents 2,461 4,915
Mortgage-backed security of affiliate 1,345 1,381
Investment in unconsolidated subsidiaries 246 81
Restricted investments 36 299
----------- -----------
Total investments at value 139,920 136,176
----------- -----------
OTHER ASSETS:
Due from affiliates 3,632 1,839
Deferred charges and other assets 651 728
Accrued interest receivable 271 225
Cash 251 563
Property and equipment, net 78 98
Receivable for loans sold -- 637
----------- -----------
Total other assets 4,883 4,090
----------- -----------
TOTAL ASSETS $ 144,803 $ 140,266
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES:
Current portion of notes and debentures payable $ 10,000 $ 5,000
Revolving credit facility 6,250 --
Dividends payable 1,484 1,486
Borrower advances 1,255 1,754
Due to affiliates 1,137 102
Accounts payable 993 748
Accrued interest payable 709 1,294
Other liabilities 886 1,569
----------- -----------
Total current liabilities 22,714 11,953
Notes and debentures payable 44,310 49,310
----------- -----------
TOTAL LIABILITIES 67,024 61,263
----------- -----------
Commitments and contingencies
CUMULATIVE PREFERRED STOCK OF SUBSIDIARY 7,000 7,000
----------- -----------
SHAREHOLDERS' EQUITY:
Commonstock, authorized 30,000,000 shares of $0.01
par value, 11,853,516 shares issued and
outstanding at June 30, 2003 and
December 31, 2002 119 119
Additional paid-in capital 71,508 71,508
Dividends in excess of retained earnings (3,229) (2,022)
Net unrealized appreciation on investments 2,381 2,398
----------- -----------
70,779 72,003
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 144,803 $ 140,266
=========== ===========
Net asset value per common share $ 5.97 $ 6.07
=========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED
FINANCIAL STATEMENTS.
F-51
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
SIX MONTHS ENDED THREE MONTHS ENDED
JUNE 30, JUNE 30,
------------------- -------------------
2003 2002 2003 2002
-------- -------- -------- --------
INVESTMENT INCOME:
Interest income $ 3,242 $ 4,257 $ 1,609 $ 1,650
Income from retained interests in transferred
assets 2,267 2,518 1,098 1,371
Advisory fee income 928 955 452 506
Premium income 344 271 205 139
Equity in income of unconsolidated
subsidiaries, net 167 195 56 94
Other income, net 508 557 240 208
-------- -------- -------- --------
Total investment income 7,456 8,753 3,660 3,968
-------- -------- -------- --------
EXPENSES:
Salaries and related benefits 2,042 1,964 1,007 952
Interest 1,563 2,421 781 1,215
Merger related costs 519 -- 197 --
General and administrative 428 482 193 261
Professional fees 181 196 118 96
Rent 152 168 74 89
Loss from operations of assets acquired in 151 107 54 97
liquidation
Profit sharing plan 75 75 37 37
-------- -------- -------- --------
Total expenses 5,111 5,413 2,461 2,747
-------- -------- -------- --------
Net investment income 2,345 3,340 1,199 1,221
-------- -------- -------- --------
REALIZED AND UNREALIZED GAIN (LOSS) ON
INVESTMENTS:
Realized losses (582) (465) (367) (309)
Sale of assets -- 1,463 -- 1,463
Change in unrealized appreciation
(depreciation) on investments (17) (194) 256 89
-------- -------- -------- --------
Total realized and unrealized gain (loss) on
investments (599) 804 (111) 1,243
-------- -------- -------- --------
NET INCREASE IN NET ASSETS RESULTING FROM
OPERATIONS $ 1,746 $ 4,144 $ 1,088 $ 2,464
======== ======== ======== ========
Preferred dividends $ 125 $ 124 $ 63 $ 62
======== ======== ======== ========
Basic weighted average common shares outstanding 11,854 11,854 11,854 11,854
======== ======== ======== ========
Diluted weighted average common shares
outstanding 11,854 11,856 11,854 11,855
======== ======== ======== ========
BASIC AND DILUTED EARNINGS PER COMMON SHARE $ 0.14 $ 0.34 $ 0.09 $ 0.20
======== ======== ======== ========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED
FINANCIAL STATEMENTS.
F-52
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
SIX MONTHS ENDED
JUNE 30,
------------------------
2003 2002
----------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net increase in net assets resulting from operations $ 1,746 $ 4,144
Adjustments to reconcile net increase in net assets resulting from operations
to net cash provided by operating activities:
Loans funded, held for sale (2,720) (3,834)
Proceeds from sale of guaranteed loans 3,677 3,443
Realized and unrealized (gain) loss on investments 599 (804)
Unrealized premium (income) expense, net (41) 8
Depreciation and amortization 47 79
Accretion of loan discount and deferred fees (44) (85)
Equity in income of unconsolidated subsidiaries, net (167) (195)
Other operating assets and liabilities (1,205) 142
----------- ----------
NET CASH PROVIDED BY OPERATING ACTIVITIES 1,892 2,898
----------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Loans funded (16,841) (15,634)
Principal collected on loans 6,106 10,471
Principal collected on retained interests in transferred assets 1,813 2,928
Principal collected on mortgage-backed security of affiliate 39 206
Proceeds from debt issued by SPE -- 37,901
Proceeds from asset acquired in liquidation 216 --
Purchase of property and equipment (5) (150)
Investment in assets acquired in liquidation (258) --
Investment in retained interests in transferred assets (258) (2,742)
Release of (investment in) restricted cash 263 (15)
Advances from affiliates, net 1,056 75
----------- ----------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES (7,869) 33,040
----------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from revolving line of credit, net 6,250 --
Payment of dividends on common stock (2,844) (4,267)
Payment of dividends on preferred stock (125) (124)
Payment of debt issuance costs (70) --
----------- ----------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 3,211 (4,391)
----------- ----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (2,766) 31,547
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 5,478 17,318
----------- ----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 2,712 $ 48,865
=========== ==========
SUPPLEMENTAL DISCLOSURES:
Interest paid $ 1,580 $ 2,405
=========== ==========
Reclassification from loans receivable to due from affiliate $ 1,465 $ --
=========== ==========
Reclassification from loans receivable to assets acquired in liquidation $ 1,090 $ 2,848
=========== ==========
Reclassification from retained interests in transferred assets to due from
affiliate, net $ 565 $ --
=========== ==========
Loans and interest receivable transferred to SPE, net $ -- $ 4,435
=========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED
FINANCIAL STATEMENTS.
F-53
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. INTERIM FINANCIAL STATEMENTS:
The accompanying consolidated balance sheet of PMC Capital, Inc. ("PMC Capital")
and its wholly-owned registered investment company subsidiaries (collectively,
"we," "us" or "our") as of June 30, 2003 and the consolidated statements of
operations for the three and six months ended June 30, 2003 and 2002 and cash
flows for the six months ended June 30, 2003 and 2002 have not been audited by
independent accountants. In the opinion of our management, the financial
statements reflect all adjustments necessary to present fairly the financial
position at June 30, 2003 and the results of operations for the three and six
months ended June 30, 2003 and 2002. These adjustments are of a normal recurring
nature.
Certain notes and other information have been omitted from the interim financial
statements presented in this Quarterly Report on Form 10-Q. Therefore, these
financial statements should be read in conjunction with our Annual Report on
Form 10-K for the fiscal year ended December 31, 2002.
The preparation of financial statements in conformity with generally accepted
accounting principles requires us to make estimates and assumptions that affect
(i) the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and (ii) the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates. Our most sensitive estimates involve
the valuation of retained interests in transferred assets, loans receivable and
assets acquired in liquidation.
The results for the three and six months ended June 30, 2003 are not necessarily
indicative of future financial results.
NOTE 2. RECLASSIFICATIONS:
Certain prior period amounts have been reclassified to conform to the current
year presentation.
NOTE 3. BUSINESS AND CONSOLIDATION:
BUSINESS PMC Capital is a diversified closed-end management investment company
that operates as a business development company under the Investment Company Act
of 1940, as amended (the "1940 Act"). Our common stock is traded on the American
Stock Exchange under the symbol "PMC."
We are primarily engaged in the business of originating loans to small
businesses either directly or through our three principal lending subsidiaries:
First Western SBLC, Inc. ("First Western"), PMC Investment Corporation ("PMCIC")
and Western Financial Capital Corporation ("Western Financial").
First Western, PMCIC and Western Financial are registered under the 1940 Act as
diversified closed-end management investment companies. First Western is
licensed as a small business lending company that originates loans through the
SBA's 7(a) guaranteed loan program. PMCIC is a licensed specialized small
business investment company under the Small Business Investment Act of 1958, as
amended. Western Financial is a licensed small business investment company under
the Small Business Investment Act of 1958, as amended. In addition, PMC Capital
is either directly or indirectly the sole shareholder or partner of several
non-investment company act subsidiaries. These are: PMC Advisers, Ltd. and its
subsidiary ("PMC Advisers"); PMC Funding Corp. and its subsidiary ("PMC
Funding"); PMC Asset Holding, LLC ("Asset Holding"); PMC Capital, L.P. 1998-1
(the "1998 Partnership") and PMC Capital, L.P. 1999-1 (the "1999 Partnership").
In addition, at June 30, 2003, PMC Capital owned approximately 32% of PMC Joint
Venture, L.P. 2000 (the "2000 Joint Venture"), 60% of PMC Joint Venture, L.P.
2001 (the "2001 Joint Venture") and 61% of PMC Joint Venture, L.P. 2002-1 (the
"2002 Joint Venture," and together with the 1998 Partnership, the 1999
Partnership, the 2000 Joint Venture and the 2001 Joint Venture, the "SPEs"). PMC
Commercial Trust ("PMC Commercial"), our affiliate through common management,
owns the remaining interests in the 2000 Joint Venture, the 2001 Joint Venture
and the 2002 Joint Venture (together, the "Joint Ventures").
F-54
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATION The consolidated financial statements include the accounts of PMC
Capital and its wholly-owned registered investment company subsidiaries, First
Western, PMCIC and Western Financial. All material intercompany balances and
transactions have been eliminated.
PMC Advisers, which acts as the investment advisor for PMC Commercial, and PMC
Funding and Asset Holding, which hold assets on our behalf, are accounted for
using the equity method of accounting in conformity with Federal securities
laws.
Our ownership interests in the SPEs are accounted for as retained interests in
transferred assets ("Retained Interests") in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 140, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishment of Liabilities" ("SFAS No.
140").
NOTE 4. AGREEMENT AND PLAN OF MERGER:
On March 27, 2003, PMC Capital entered into an Agreement and Plan of Merger with
PMC Commercial. Under the terms of the merger agreement, PMC Capital will be
merged into PMC Commercial, with PMC Commercial continuing as the surviving
entity. Each issued and outstanding share of PMC Capital common stock will be
converted into 0.37 of a common share of PMC Commercial. The merger has been
recommended by each company's special committee comprised of independent
directors and unanimously approved by the Board of Directors of PMC Capital and
the Board of Trust Managers of PMC Commercial. In addition, the boards and
management of each company have entered into voting agreements pursuant to which
they have agreed to vote their shares in favor of the merger and related
transactions. Completion of the merger, which is expected to occur on January 1,
2004, but no later than February 29, 2004, is subject to approval by the
shareholders of PMC Capital and PMC Commercial, certain governmental consents
and customary closing conditions. We have expensed approximately $519,000 in
costs related to the merger as of June 30, 2003.
NOTE 5. STOCK-BASED COMPENSATION PLAN:
At June 30, 2003, we have a stock-based compensation plan. Effective January 1,
2003, we adopted the fair value recognition provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation," prospectively to all awards granted,
modified or settled after January 1, 2003. Awards under the plan generally vest
over a one-year period.
We did not recognize any compensation expense during the three and six months
ended June 30, 2003 since we did not grant any awards.
The following table illustrates the effect on our net increase in net assets
resulting from operations ("net income") and earnings per share if the fair
value based method had been applied to all outstanding previously granted and
unvested awards in each period:
SIX MONTHS ENDED JUNE 30, THREE MONTHS ENDED JUNE 30,
------------------------------------ -----------------------------------
2003 2002 2003 2002
----------------- ----------------- ---------------- -----------------
AS PRO- AS PRO- AS PRO- AS PRO-
REPORTED FORMA REPORTED FORMA REPORTED FORMA REPORTED FORMA
-------- ----- -------- ----- -------- ----- -------- -----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
SFAS No. 123
charge $ -- $ 15 $ -- $ 26 $ -- $ 7 $ -- $ 22
APB 25 charge $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ --
Net income $ 1,746 $ 1,731 $ 4,144 $ 4,118 $ 1,088 $ 1,081 $ 2,464 $ 2,442
Basic and diluted
earnings per
common share $ 0.14 $ 0.14 $ 0.34 $ 0.34 $ 0.09 $ 0.09 $ 0.20 $ 0.20
The effects of applying SFAS No. 123 in this pro-forma disclosure are
not indicative of future amounts.
F-55
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In April 2003, the Financial Accounting Standards Board ("FASB") issued SFAS No.
149, "Amendment of Statement 133 on Derivative Instruments and Hedging
Activities." The statement, which is effective for contracts entered into or
modified after June 30, 2003 and hedging relationships designated after June 30,
2003, amends and clarifies financial accounting and reporting for derivative
instruments embedded in other contracts and for hedging activities under SFAS
No. 133. The statement requires that contracts with comparable characteristics
be accounted for similarly. Specifically, the statement (i) clarifies under what
circumstances a contract with an initial net investment meets the characteristic
of a derivative, (ii) clarifies when a derivative contains a financing
component, (iii) amends the definition of an underlying to conform it to FASB
Interpretation No. 45 and (iv) amends certain other related existing
pronouncements. SFAS No. 149 will not impact our consolidated financial
statements since we do not have any derivatives.
In May 2003, SFAS No. 150, "Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity" was issued. SFAS No. 150, is
effective upon issuance for financial instruments entered into or modified after
May 31, 2003, and otherwise is effective at the beginning of the first interim
period beginning after June 15, 2003. The statement requires that a financial
instrument which falls within the scope of the statement to be classified as a
liability and initially measured at fair value. The following financial
instruments are required to be classified as liabilities: (i) shares that are
mandatorily redeemable, (ii) an obligation to repurchase the issuer's equity
shares or one indexed to such an obligation and that requires or may require
settlement by transferring assets and (iii) the embodiment of an unconditional
obligation that the issuer may or may not settle by issuing a variable number of
equity shares if, at inception, the monetary value of the obligation is based on
certain measurements defined in the statement. We will adopt SFAS No. 150
effective July 1, 2003. Upon adoption, the $4.0 million of 4% cumulative
preferred stock of subsidiary with mandatory redemption in 2009 and 2010 will be
reclassified to a liability at an estimated value of $3,350,000. Subsequent to
adoption, the 4% cumulative preferred stock of subsidiary will be accreted to
redemption value using the interest method with the resulting change included as
a component of interest expense. In addition, the preferred dividends of
$160,000 per year will also be included as a component of interest expense.
NOTE 7. RETAINED INTERESTS:
In our structured loan sale transactions, we contributed loans receivable to an
SPE in exchange for an ownership interest in that entity. The SPE issued notes
payable (the "Structured Notes") (usually through a private placement) to third
parties ("Structured Noteholders"). The SPE then distributed a portion of the
proceeds from the Structured Notes to us. The Structured Notes are
collateralized solely by the assets of the SPE which means that should the SPE
fail to make payments on the Structured Notes, the Structured Noteholders have
no recourse to us. Upon the completion of our structured loan sale transactions,
we recorded the transfer of loans receivable as a sale in accordance with SFAS
No. 140. As a result, the loans receivable contributed to the SPE, the
Structured Notes issued by the SPE, and the operating results of the SPE are not
included in our consolidated financial statements. The difference between (i)
the carrying value of the loans receivable sold and (ii) the sum of (a) the cash
received and (b) the present value of the estimated future cash flows from the
Retained Interests, constituted the gain or loss on sale. Retained Interests are
carried at fair value (determined in good faith by our Board of Directors), with
realized and unrealized gains and losses included in our consolidated statements
of operations.
F-56
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Information pertaining to our structured loan sale transactions as of June 30,
2003 was as follows. Balances represent PMC Capital's share of the respective
Joint Ventures.
2000 2001 2002
1998 1999 JOINT JOINT JOINT
PARTNERSHIP PARTNERSHIP VENTURE VENTURE VENTURE
------------ ----------- ----------- ----------- ------------
(DOLLARS IN THOUSANDS)
Principal outstanding on sold
loans $ 25,254 $ 35,527 $ 18,957 $ 43,837 $ 40,984
Structured Notes balance
outstanding $ 24,065 $ 33,333 $ 17,713 $ 39,979 $ 36,787
Cash in the collection account $ 365 $ 1,762 $ 1,684 $ 437 $ 486
Cash in the reserve account $ 2,039 $ 2,217 $ 1,231 $ 2,638 $ 2,469
Weighted average interest rate of
loans Prime + 1.23% 9.40% 9.28% 9.73% 9.50%
Interest rate on the Structured Prime - 1.00% 6.60% 7.28% 6.36% 6.67%
Notes
Discount rate assumptions (1) 4.0% to 11.5% 6.8% to 11.5% 7.1% to 11.8% 6.7% to 11.4% 7.0% to 11.7%
Constant prepayment rate
assumption
(2) 11.00% 10.00% 14.00% 9.75% 9.75%
Weighted average remaining life of
loans (3) 3.53years 3.81years 3.19years 4.70years 4.47years
Aggregate losses assumed (4) 2.97% 2.63% 2.93% 3.13% 3.22%
Aggregate principal losses to date --% --% 4.27% --% --%
(1) The discount rates utilized on the components of our Retained Interests (as
detailed below) were (i) 4.0% to 7.1% for our required
overcollateralization, (ii) 8.4% to 8.8% for our reserve funds and (iii)
11.4% to 11.8% for our interest-only strip receivables.
(2) The prepayment rate was based on the actual performance of the loan pools,
adjusted for anticipated principal prepayments considering other similar
loans.
(3) The weighted average remaining life of loans was calculated by summing the
product of (i) the sum of the principal collections expected in each future
period multiplied by (ii) the number of periods until collection, and then
dividing that total by (iii) the remaining principal balance.
(4) Represents aggregate estimated future losses as a percentage of the
principal outstanding based upon per annum estimated losses that ranged
from 0.5% to 1.2%.
In addition to the transactions described above, First Western has Retained
Interests. First Western sold the unguaranteed portion of its loans receivable
through a private placement in 1997 ("FW 97") and has retained the right to
service these loans receivable. Pursuant to the sale, First Western maintains a
reserve fund and receives cash flow from the interest-only strip receivable
established in connection with the sold loans receivable. At June 30, 2003, the
principal balance outstanding on the sold loans of FW 97 was approximately $3.4
million and the reserve fund balance (currently at its minimum requirement) was
$912,000.
The SBA guaranteed portions of First Western's loans receivable are sold to
either dealers in government guaranteed loans receivable or institutional
investors ("Secondary Market Loan Sales") as the loans are fully funded. On all
Secondary Market Loan Sales, we retain an excess spread between the interest
rate paid to us from our borrowers and the rate we pay to the purchaser of the
guaranteed portion of the note. At June 30, 2003, the aggregate principal
balance of First Western's serviced loans receivable on which we have an excess
spread was approximately $46.9 million, and the weighted average excess spread
(before estimated servicing costs) was approximately 1.8%.
In determining the fair value of our Retained Interests related to First Western
for our SBA 7(a) transactions, our assumptions at June 30, 2003 included
prepayment speeds ranging from 20% to 30% per annum, loss rates ranging from
0.2% to 0.4% per annum (relates only to FW 97) and discount rates ranging from
5.8% to 11.4%.
F-57
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The components of our Retained Interests are as follows:
(1) Our required overcollateralization (the "OC Piece"). The OC Piece
represents the excess of the loans receivable contributed to the SPE over
the principal amount of the Structured Notes Payable issued by the SPE,
which serves as additional collateral for the Structured Noteholders.
(2) The "Reserve Fund" and the interest earned thereon. The Reserve Fund
represents cash that is required to be kept in a liquid cash account by the
SPE, pursuant to the terms of the transaction documents as collateral for
the Structured Noteholders, a portion of which was contributed by us to the
SPE upon formation, and a portion of which is built up over time by the SPE
from the cash flows of the underlying loans receivable.
(3) The interest-only strip receivable (the "IO Receivable"). The IO Receivable
is comprised of the cash flows that will be received by us in the future
after payment by the SPE of (a) all interest and principal due to the
Structured Noteholders, (b) all principal and interest on the OC Piece, (c)
any required funding of the Reserve Fund and (d) on-going costs of the
transaction.
Our Retained Interests consisted of the following:
JUNE 30, 2003
----------------------------------------------------------
VALUE
--------------------------------------------
OC PIECE RESERVE FUND IO RECEIVABLE TOTAL COST
-------- ------------ ------------- ----- ----
(IN THOUSANDS)
First Western $ -- $ 846 $ 1,843 $ 2,689 $ 2,343
1998 Partnership 1,459 1,612 743 3,814 3,375
1999 Partnership 4,191 1,781 1,618 7,590 7,088
2000 Joint Venture 3,014 1,053 323 4,390 4,107
2001 Joint Venture 4,770 2,117 3,094 9,981 8,905
2002 Joint Venture 5,108 1,972 2,100 9,180 8,591
-------- ------- ------- -------- ---------
$ 18,542 $ 9,381 $ 9,721 $ 37,644 $ 34,409
======== ======= ======= ======== =========
DECEMBER 31, 2002
----------------------------------------------------------
VALUE
--------------------------------------------
OC PIECE RESERVE FUND IO RECEIVABLE TOTAL COST
-------- ------------ ------------- ----- ----
(IN THOUSANDS)
First Western $ -- $ 842 $ 1,890 $ 2,732 $ 2,388
1998 Partnership 1,519 1,672 823 4,014 3,553
1999 Partnership 4,216 1,923 1,967 8,106 7,540
2000 Joint Venture 3,058 1,420 323 4,801 4,492
2001 Joint Venture 4,798 2,282 3,613 10,693 9,603
2002 Joint Venture 5,213 2,036 2,408 9,657 8,965
-------- -------- -------- -------- ---------
$ 18,804 $ 10,175 $ 11,024 $ 40,003 $ 36,541
======== ======== ======== ======== =========
F-58
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following sensitivity analysis of our Retained Interests as of June 30, 2003
highlights the volatility that results when prepayments, losses and discount
rates are different than our assumptions:
ASSET AND NET
CHANGED ASSUMPTION PRO-FORMA VALUE INCOME CHANGE
------------------------------------------------- --------------- -------------
(IN THOUSANDS)
Losses increase by 50 basis points per annum (1) $ 35,140 ($2,504)
Losses increase by 100 basis points per annum (1) $ 32,717 ($4,927)
Rate of prepayment increases by 5% per annum (2) $ 36,352 ($1,292)
Rate of prepayment increases by 10% per annum (2) $ 35,411 ($2,233)
Discount rates increase by 100 basis points $ 36,133 ($1,511)
Discount rates increase by 200 basis points $ 34,712 ($2,932)
(1) If we experience losses in excess of anticipated losses, the effect on our
Retained Interests would first be to reduce the value of the IO
Receivables. To the extent the IO Receivables could not fully absorb the
losses, the effect would then be to reduce the value of our Reserve Funds
and then the value of our OC Pieces.
(2) For example, an 8% assumed rate of prepayment would be increased to 13% or
18% based on increases of 5% or 10% per annum, respectively.
These sensitivities are hypothetical and should be used with caution. Pro-forma
values based on changes in these assumptions generally cannot be extrapolated
since the relationship of the change in an assumption to the change in fair
value is not linear. The effect of a variation in a particular assumption on the
fair value of our Retained Interests is calculated without changing any other
assumption. In reality, changes in one factor are not isolated from changes in
another which might magnify or counteract the sensitivities.
The following information summarizes the financial position of the SPEs at June
30, 2003 and December 31, 2002. We own 100% of the 1998 Partnership and the 1999
Partnership. At June 30, 2003, we owned approximately 32% of the 2000 Joint
Venture, 60% of the 2001 Joint Venture and 61% of the 2002 Joint Venture. At
December 31, 2002, we owned approximately 34% of the 2000 Joint Venture, 61% of
the 2001 Joint Venture and 61% of the 2002 Joint Venture.
Summary of Financial Position (1):
1998 PARTNERSHIP 1999 PARTNERSHIP
------------------------ -----------------------
JUNE 30, DECEMBER 31, JUNE 30, DECEMBER 31,
2003 2002 2003 2002
----------- ------------ --------- ----------
(IN THOUSANDS)
Loans Receivable, Net $ 25,070 $ 25,865 $ 35,527 $ 39,216
========== ========= ========= =========
Total Assets $ 27,563 $ 28,477 $ 39,732 $ 42,475
========== ========= ========= =========
Notes Payable $ 24,065 $ 24,806 $ 33,333 $ 35,907
========== ========= ========= =========
Total Liabilities $ 24,132 $ 24,885 $ 33,517 $ 36,106
========== ========= ========= =========
Partners' Capital $ 3,431 $ 3,592 $ 6,215 $ 6,369
========== ========= ========= =========
F-59
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2000 JOINT VENTURE 2001 JOINT VENTURE 2002 JOINT VENTURE
----------------------- ----------------------- ----------------------
JUNE 30, DECEMBER 31, JUNE 30, DECEMBER 31, JUNE 30, DECEMBER 31,
2003 2002 2003 2002 2003 2002
-------- ------------ -------- ------------ -------- -----------
(IN THOUSANDS)
Loans Receivable, Net $ 66,734 $ 70,627 $ 72,168 $ 73,220 $ 67,489 $ 69,025
======== ======== ======== ======== ======== ========
Asset Acquired in
Liquidation, Net $ -- $ 1,411 $ -- $ -- $ -- $ --
======== ======== ======== ======== ======== ========
Total Assets $ 73,376 $ 76,434 $ 77,864 $ 81,302 $ 72,548 $ 74,322
======== ======== ======== ======== ======== ========
Notes Payable $ 60,187 $ 62,658 $ 66,065 $ 69,146 $ 60,601 $ 62,152
======== ======== ======== ======== ======== ========
Total Liabilities $ 60,369 $ 62,848 $ 66,240 $ 69,329 $ 60,770 $ 62,325
======== ======== ======== ======== ======== ========
Partners' Capital $ 13,007 $ 13,586 $ 11,624 $ 11,973 $ 11,778 $ 11,997
======== ======== ======== ======== ======== ========
(1) Balances represent 100% of the limited partnership interests in the Joint
Ventures.
The following information summarizes the results of operations of our SPEs.
Summary of Operations (1):
SIX MONTHS ENDED JUNE 30,
-----------------------------------------
1998 PARTNERSHIP 1999 PARTNERSHIP
------------------ ---------------------
2003 2002 2003 2002
------- ------- --------- ---------
( IN THOUSANDS)
Interest Income $ 729 $ 909 $ 1,764 $ 2,181
======= ======= ========= =========
Total Revenues $ 733 $ 936 $ 1,912 $ 2,374
======= ======= ========= =========
Interest Expense $ 397 $ 518 $ 1,134 $ 1,414
======= ======= ========= =========
Provision for
(Reduction of) Losses $ (50) $ 49 $ -- $ 81
======= ======= ========= =========
Total Expenses $ 509 $ 619 $ 1,198 $ 1,573
======= ======= ========= =========
Net Income $ 224 $ 317 $ 714 $ 801
======= ======= ========= =========
F-60
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SIX MONTHS ENDED JUNE 30,
----------------------------------------------------------------------
2000 JOINT VENTURE 2001 JOINT VENTURE 2002 JOINT VENTURE
------------------- -------------------- --------------------
2003 2002 2003 2002 2003 2002 (2)
------- ------- ------- ------- ------- --------
(IN THOUSANDS)
Interest Income $ 3,329 $ 3,612 $ 3,532 $ 3,756 $ 3,192 $ 1,448
======= ======= ======= ======= ======= =======
Total Revenues $ 3,395 $ 3,848 $ 3,555 $ 3,802 $ 3,256 $ 1,460
======= ======= ======= ======= ======= =======
Interest Expense $ 2,256 $ 2,559 $ 2,121 $ 2,251 $ 2,049 $ 913
======= ======= ======= ======= ======= =======
Provision for (Reduction of) Losses $ 45 $ -- $ (140) $ -- $ -- $ --
======= ======= ======= ======= ======= =======
Total Expenses $ 2,430 $ 2,687 $ 2,099 $ 2,375 $ 2,161 $ 991
======= ======= ======= ======= ======= =======
Net Income $ 965 $ 1,161 $ 1,456 $ 1,427 $ 1,095 $ 469
======= ======= ======= ======= ======= =======
(1) Balances represent 100% of the limited partnership interests in the Joint
Ventures.
(2) Represents the period from April 12, 2002 (inception) to June 30, 2002.
Our ownership of the Joint Ventures is based on our share of the capital of the
respective Joint Ventures. Our share of the cash flows from the Joint Ventures
is allocated based on the cash flows from the underlying loans receivable
contributed by us to the respective Joint Venture less allocated costs based on
the remaining principal on the underlying loans receivable contributed by us
divided by all loans receivable held by the respective Joint Venture.
Our limited partnership allocation of the assets, liabilities and partners'
capital of the Joint Ventures was as follows:
2000 JOINT VENTURE 2001 JOINT VENTURE 2002 JOINT VENTURE
----------------------- ----------------------- -----------------------
JUNE 30, DECEMBER 31, JUNE 30, DECEMBER 31, JUNE 30, DECEMBER 31,
2003 2002 2003 2002 2003 2002
-------- ------------ -------- ------------ -------- ------------
(IN THOUSANDS)
Loans Receivable, Net $ 18,957 $ 20,783 $ 43,837 $ 44,269 $ 40,984 $ 42,199
======== ======== ======== ======== ======== ========
Asset Acquired in
Liquidation, Net $ -- $ 1,411 $ -- $ -- $ -- $ --
======== ======== ======== ======== ======== ========
Total Assets $ 21,919 $ 22,727 $ 47,110 $ 50,232 $ 44,116 $ 45,484
======== ======== ======== ======== ======== ========
Total Liabilities $ 17,767 $ 18,141 $ 40,085 $ 42,875 $ 36,889 $ 38,123
======== ======== ======== ======== ======== ========
Partners' Capital $ 4,152 $ 4,586 $ 7,025 $ 7,357 $ 7,227 $ 7,361
======== ======== ======== ======== ======== ========
F-61
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Our limited partnership allocation of the net income of the Joint Ventures was
as follows:
SIX MONTHS ENDED JUNE 30,
----------------------------------------------------------------------
2000 JOINT VENTURE 2001 JOINT VENTURE 2002 JOINT VENTURE
------------------- ------------------- -------------------
2003 2002 2003 2002 2003 2002 (1)
------ ------ ------ ------ ------ --------
(IN THOUSANDS)
Net Income $ 193 $ 302 $ 945 $ 901 $ 685 $ 322
====== ====== ====== ====== ====== ======
(1) Represents the period from April 12, 2002 (inception) to June 30, 2002.
In accordance with SFAS No. 140, our consolidated financial statements do not
include the SPE assets, liabilities, partners' capital, revenues or expenses. As
a result, at June 30, 2003 and December 31, 2002 our consolidated balance sheets
do not include the $180.4 million and $189.4 million of assets, respectively,
and $152.4 million and $160.1 million of liabilities, respectively, related to
our structured loan sale transactions recorded by the SPEs. Our Retained
Interests related to these structured loan sale transactions were $35.0 million
and $37.3 million at June 30, 2003 and December 31, 2002, respectively.
The net unrealized appreciation on our Retained Interests at June 30, 2003 and
December 31, 2002 was $3.2 million and $3.5 million, respectively. Any
appreciation of our Retained Interests is included in the accompanying
statements of operations as unrealized gain on investments. Any depreciation of
our Retained Interests is included in the accompanying statements of operations
as either realized loss (if there is a reduction in expected future cash flows)
or an unrealized loss on investments.
The income from our Retained Interests consists of the yield earned on our
Retained Interests which is determined based on estimates of future cash flows
and includes any fees collected (i.e., late fees, prepayment fees, etc.) by the
SPEs in excess of anticipated fees. We update our cash flow assumptions on a
quarterly basis and any changes to cash flow assumptions impact the yield on our
Retained Interests. The annualized yield on our Retained Interests was as
follows:
SIX MONTHS THREE MONTHS
ENDED JUNE 30, ENDED JUNE 30,
------------------ -------------------
2003 2002 2003 2002
---- ---- ---- ----
Annualized Yield 11.8% 14.0% 11.7% 14.0%
We are the servicer for all loans held by the SPEs. Servicing fee income for the
three and six months ended June 30, 2003 and 2002 related to loans receivable
held by the SPEs was approximately $128,000 and $134,000 and $259,000 and
$251,000, respectively. Servicing fee income is included in other income, net in
our consolidated statements of operations. We have not established a servicing
asset or liability as our servicing fees are considered adequate compensation.
We received approximately $4.1 million and $5.4 million in cash distributions
from our SPEs during the six months ended June 30, 2003 and 2002, respectively.
In addition, in May 2003, a limited service hospitality property with an
aggregate estimated value of $1.5 million at June 30, 2003 was transferred from
the 2000 Joint Venture to Asset Holding.
NOTE 8. ASSETS ACQUIRED IN LIQUIDATION:
At June 30, 2003 and December 31, 2002, the aggregate value of our assets
acquired in liquidation, as reduced for anticipated selling costs, was estimated
to be approximately $3.2 million and $2.3 million, respectively. Our assets
acquired in liquidation at June 30, 2003 consist primarily of three operating
limited service hospitality properties. We are currently marketing to sell these
assets. In addition, effective April 1, 2003, one of these limited service
hospitality properties was leased, under an operating lease, to the subsidiary
of PMC Advisers.
F-62
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
We acquired a limited service hospitality property through foreclosure in May
2003. The aggregate value of this property, as reduced for anticipated selling
costs, was estimated to be approximately $1.1 million. During July 2003, we sold
this limited service hotel property for approximately $1.1 million; therefore,
no gain or loss was recorded on the sale. We financed the sale through the
origination of a loan of $900,000 at an interest rate of LIBOR plus 4.5%. The
loan matures in 2023.
The loss from operations of our assets acquired in liquidation consisted of the
following:
SIX MONTHS ENDED THREE MONTHS ENDED
JUNE 30, JUNE 30,
--------------------- ------------------
2003 2002 2003 2002
-------- --------- ------- ---------
(IN THOUSANDS)
Room revenue $ 64 $ 49 $ 25 $ 49
Salaries and wages (45) (37) (27) (37)
Other operating expenses (170) (119) (52) (109)
-------- -------- ------ --------
Loss from operations of
assets acquired in
liquidation $ (151) $ (107) $ (54) $ (97)
======== ======== ====== ========
Assets have also been transferred or leased to our non-consolidated
non-investment company subsidiaries. At June 30, 2003, the aggregate value of
assets acquired in liquidation of Asset Holding was estimated to be
approximately $2.9 million, consisting of a golf facility and a limited service
hospitality property both acquired during 2003 and recorded at estimated value
at the time of transfer. Upon transfer of the assets acquired in liquidation to
Asset Holding, we recorded a corresponding due from affiliate which represents
the estimated net proceeds to be received upon sale. We are currently marketing
to sell these assets. During both the three and six months ended June 30, 2003,
our non-consolidated subsidiaries incurred operating losses of approximately
$57,000.
NOTE 9. REVOLVING CREDIT FACILITY AND NOTES AND DEBENTURES PAYABLE:
We have an uncollateralized revolving credit facility which expires in May 2004.
The aggregate amount outstanding pursuant to this facility cannot exceed $15
million through the earlier of the closing of our next structured loan sale
transaction or October 28, 2003, and $10 million thereafter. When the facility
reverts to $10 million, we also have available a guidance line facility of $5
million, subject to bank approval. Advances pursuant to the facility bear
interest at our option of the bank's prime rate less 50 basis points or LIBOR
plus 175 basis points. The credit facility requires us to meet certain covenants
(terms as defined in the agreement), the most restrictive of which requires that
(i) the ratio of net charge-offs to net loans receivable not exceed 2%, (ii) the
ratio of assets to debt may not fall below 110% for PMC Capital and 135%
including our consolidated subsidiaries and (iii) the problem loans percentage
cannot exceed 10% of our serviced loan portfolio. At June 30, 2003, we were in
compliance with all covenants of this facility. As of June 30, 2003, we had
approximately $6.3 million outstanding under this facility with interest based
primarily on LIBOR. The weighted average interest rate on our revolving credit
facility as of June 30, 2003 was 2.9% and our weighted average borrowings during
the six months ended June 30, 2003 were $3.9 million. As of December 31, 2002,
we had no borrowings outstanding under this facility.
Our uncollateralized notes payable (the "Notes Payable") outstanding at both
June 30, 2003 and December 31, 2002 were $40.0 million. The Notes Payable, as
amended, mature from July 2003 to July 2006 with a weighted average interest
rate of 4.6% at June 30, 2003. These Notes Payable require us to meet certain
covenants (terms as defined in the agreement), the most restrictive of which
require (i) that net loans receivable must exceed 150% of senior funded debt,
(ii) loan losses for any twelve-month period must not exceed 3% of net loans
receivable and (iii) our consolidated earnings plus interest expense must exceed
150% of interest expense. At June 30, 2003, we were in compliance with all
covenants of these Notes Payable.
During July 2003, we repaid $5.0 million of our Notes Payable at maturity with
an interest rate of 8.6%.
F-63
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Debentures payable represent amounts due to the SBA as a result of borrowings
made pursuant to the SBIA. Debentures outstanding at both June 30, 2003 and
December 31, 2002 were $14.3 million. The weighted average interest rate on our
SBA debentures as of June 30, 2003 was 7.7%.
NOTE 10 NET UNREALIZED APPRECIATION (DEPRECIATION) ON INVESTMENTS AND REALIZED
AND UNREALIZED GAIN (LOSS) ON INVESTMENTS:
Net unrealized appreciation (depreciation) on investments consisted of the
following:
Realized and unrealized gain (loss) on investments was as follows:
JUNE 30, DECEMBER 31,
2003 2002
---------- ------------
(IN THOUSANDS)
Loans receivable $ (333) $ (711)
Retained Interests 3,235 3,462
Mortgage-backed security of affiliate 72 68
Assets acquired in liquidation (593) (421)
--------- ---------
$ 2,381 $ 2,398
========= =========
SIX MONTHS ENDED JUNE 30, 2003
-------------------------------------------------------
(IN THOUSANDS)
ASSETS
RETAINED ACQUIRED LOANS
INTERESTS (1) IN LIQUIDATION RECEIVABLE TOTAL
------------- -------------- ---------- --------
Realized losses $ (129) $ -- $ (453) $ (582)
Change in
unrealized
appreciation
(depreciation) on
investments (223) (172) 378 (17)
------- ------- ------- --------
Total realized and
unrealized loss on
investments $ (352) $ (172) $ (75) $ (599)
======= ======= ======= ========
SIX MONTHS ENDED JUNE 30, 2002
-------------------------------------------------------
(IN THOUSANDS)
ASSETS
RETAINED ACQUIRED LOANS
INTERESTS (1) IN LIQUIDATION RECEIVABLE TOTAL
------------- -------------- ---------- ---------
Realized losses $ (302) $ -- $ (163) $ (465)
Sale of assets -- -- 1,463 1,463
Change in
unrealized
appreciation
(depreciation) on
investments 350 (460) (84) (194)
------- ------- -------- ---------
Total realized and
unrealized gain
(loss) on
investments $ 48 $ (460) $ 1,216 $ 804
======= ======= ======== =========
F-64
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED JUNE 30, 2003
-------------------------------------------------------
(IN THOUSANDS)
ASSETS
RETAINED ACQUIRED LOANS
INTERESTS (1) IN LIQUIDATION RECEIVABLE TOTAL
------------- -------------- ---------- ---------
Realized losses $ -- $ -- $ (367) $ (367)
Change in
unrealized
appreciation
(depreciation) on
investments 17 (110) 349 256
----- ------- ------- --------
Total realized and
unrealized gain
(loss) on
investments $ 17 $ (110) $ (18) $ (111)
===== ======= ======= ========
THREE MONTHS ENDED JUNE 30, 2002
-------------------------------------------------------
(IN THOUSANDS)
ASSETS
RETAINED ACQUIRED LOANS
INTERESTS (1) IN LIQUIDATION RECEIVABLE TOTAL
------------- -------------- ---------- ---------
Realized losses $ (302) $ -- $ (7) $ (309)
Sale of assets -- -- 1,463 1,463
Change in
unrealized
appreciation
(depreciation) on
investments 593 (386) (118) 89
------- ------- -------- ---------
Total realized and
unrealized gain
(loss) on
investments $ 291 $ (386) $ 1,338 $ 1,243
======= ======= ======== =========
(1) Includes the mortgage-backed security of our affiliate.
NOTE 11. TAXABLE INCOME:
We qualify as a regulated investment company ("RIC") under the Internal Revenue
Code of 1986, as amended. If we meet certain diversification and distribution
requirements, we qualify for pass-through tax treatment. We would cease to
qualify for pass-through tax treatment if we were unable to comply with these
requirements or if we ceased to qualify as an investment company under the 1940
Act. We would also be subject to a 4% excise tax (and, in certain cases,
corporate level income tax) if we fail to make certain distributions. Failure to
qualify as a RIC would subject us to Federal income tax as if we were an
ordinary corporation, resulting in a substantial reduction in both our net
assets and the amount of income available for distribution to our shareholders.
F-65
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following reconciles net income available to common shareholders to taxable
income available to common shareholders:
SIX MONTHS ENDED THREE MONTHS ENDED
JUNE 30, JUNE 30,
------------------------- ------------------------
2003 2002 2003 2002
--------- ---------- ---------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net income $ 1,746 $ 4,144 $ 1,088 $ 2,464
Preferred dividends (125) (124) (63) (62)
--------- --------- --------- ---------
Net income available to common shareholders 1,621 4,020 1,025 2,402
Book/tax differences:
Retained Interests, net 621 302 374 305
Sale of assets -- (1,463) -- (1,463)
Merger related costs 519 -- 197 --
Valuation adjustments 146 495 (256) 213
Other, net (44) 92 (22) 46
--------- --------- --------- ---------
Taxable income available to common shareholders $ 2,863 $ 3,446 $ 1,318 $ 1,503
========= ========= ========= =========
Distributions to common shareholders $ 2,846 $ 4,267 $ 1,423 $ 1,896
========= ========= ========= =========
Dividends declared per share $ 0.24 $ 0.32 $ 0.12 $ 0.16
========= ========= ========= =========
NOTE 12. EARNINGS PER COMMON SHARE:
The computations of basic earnings per common share are based on our weighted
average shares outstanding. The weighted average shares outstanding were
approximately 11,854,000 for the three and six months ended June 30, 2003 and
2002. There was no change in the weighted average shares outstanding for the
effect of stock options during the three and six months ended June 30, 2003
since the stock options were anti-dilutive. The weighted average shares
outstanding were increased by approximately 1,000 and 2,000 shares for the
dilutive effect of stock options during the three and six months ended June 30,
2002, respectively.
Earnings are defined as net income and are reduced by the preferred stock
dividend requirements of PMCIC to determine earnings per common share.
NOTE 13. DIVIDENDS PAID AND DECLARED:
On January 13, 2003 and April 14, 2003, we paid quarterly dividends of $0.12 per
share to common shareholders of record on December 31, 2002 and March 31, 2003.
The Board of Directors declared a quarterly dividend of $0.12 per share to
common shareholders of record on June 30, 2003, which was paid on July 14, 2003.
NOTE 14. COMMITMENTS AND CONTINGENCIES:
Loan Commitments Loan commitments outstanding at June 30, 2003 were
approximately $20.9 million. Of these commitments, $4.9 million are for loans to
be originated by First Western, a portion of which we expect to be sold into the
secondary market. All of these commitments are for variable-rate loans based on
the prime rate or LIBOR at spreads over prime ranging from 2.0% to 2.75% and
over LIBOR ranging from 3.5% to 4.5%. Commitments generally have fixed
expiration dates and require payment of a fee to us. Since some commitments are
expected to expire without being drawn upon, the total commitment amounts do not
necessarily represent future cash requirements.
F-66
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Structured Loan Sale Transactions
PMC Capital and PMC Commercial have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the Joint Ventures. To the extent that poor performance by either PMC
Capital's or PMC Commercial's sold loans receivable (the "Underperforming
Company") is pervasive enough to cause the other company (the "Performing
Company") to not receive cash flow that it otherwise would have received, then
the Underperforming Company must make the Performing Company whole. If the cash
flow reduction is considered to be temporary, then interest will be paid as
compensation to the Performing Company. In general, when a loan is liquidated,
it may cause a deferral of cash flow to the Performing Company and, as a result,
interest would be charged to the Underperforming Company until the cash flow
from the Joint Venture repays the Performing Company. If the reduction of cash
flows is deemed permanent, (i.e., to the extent that the Underperforming Company
will not be able to satisfy the shortfall with the assets they have contributed
to the related structured loan sale transaction), the reduction in cash flows
must be paid to the Performing Company by the Underperforming Company. At June
30, 2003, the maximum potential amount of future payments to PMC Commercial
(undiscounted and without consideration of any proceeds from the collateral
underlying the loans receivable) we could be required to make under these cross
indemnification agreements was approximately $32.8 million and the discounted
amount was $22.7 million, which represents the estimated fair value of the
Retained Interests reflected on PMC Commercial's consolidated balance sheet for
the Joint Ventures. Upon completion of a joint structured loan sale transaction
and on each subsequent quarterly reporting date, management evaluates the need
to recognize a liability associated with these cross indemnification agreements.
Based on our present cash flow assumptions, including stress test analyses of
increasing the anticipated losses on each of the loan pools, it does not appear
that the loans receivable sold by us will cause any permanent cash flow
reductions to PMC Commercial nor will the loans receivable sold by PMC
Commercial cause any permanent cash flow reductions to us. Accordingly, we
believe that the fair value of our obligations pursuant to these cross
indemnification agreements at inception of the Joint Ventures and as of June 30,
2003 and December 31, 2002 was zero; thus, no liability was recorded. If the
performance of our sold loans receivable deteriorates, it may be necessary for
us to perform under these cross indemnification agreements.
When our structured loan sale transactions were completed, the transaction
documents that the SPE entered into contained provisions (the "Credit
Enhancement Provisions") that govern the assets and the flow of funds in and out
of the SPE formed as part of the structured loan sale transactions. The Credit
Enhancement Provisions include specified limits on the delinquency, default and
loss rates on the loans receivable included in each SPE. If, at any measurement
date, the delinquency, default or loss rate with respect to any SPE were to
exceed the specified limits, the Credit Enhancement Provisions would
automatically increase the level of credit enhancement requirements for that
SPE. During the period in which the specified delinquency, default or loss rate
was exceeded, excess cash flow from the SPE, if any, would be used to fund the
increased credit enhancement levels instead of being distributed, which would
delay or reduce our distribution.
Merger
For their services in connection with the proposed merger of PMC Capital into
PMC Commercial, our external investment banker will receive a fee of $100,000,
which is contingent upon consummation of the merger. The external investment
banker is also paid a quarterly retainer fee of $25,000 for advisory assistance
in connection with the merger. The fee commenced April 1, 2003 and terminates
when the merger is consummated or terminated.
PMC Capital will pay a termination fee of $870,000 to PMC Commercial if the
merger agreement is terminated because PMC Capital (i) breaches any provision of
the merger agreement that PMC Commercial has not waived and PMC Capital enters
into an agreement to consummate a competing transaction, (ii) withdraws or
changes its recommendation that the shareholders approve the merger or (iii)
terminates the merger agreement in connection with a superior proposal. In the
event the merger agreement is terminated because of a breach by PMC Capital that
has not been waived by PMC Commercial and PMC Capital has not entered into a
competing transaction, no termination fee will be payable but termination
expenses of up to $750,000 may be payable to PMC Commercial.
Operating Leases
We lease office space in Dallas, Texas. Future minimum lease payments remaining
under this lease are approximately $166,000.
F-67
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Employment Agreements
We have employment agreements with certain of our officers. Future minimum
payments under these contracts are approximately $1,182,000 and $934,000 for the
twelve-month periods ending June 30, 2004 and June 30, 2005.
Litigation
In the normal course of business, including the operation of our assets acquired
in liquidation, we are subject to various proceedings and claims, the resolution
of which will not, in management's opinion, have a material adverse effect on
our consolidated financial position or results of operations.
F-68
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Board of Directors of PMC Capital, Inc.:
In our opinion, the accompanying consolidated balance sheets as of December 31,
2002 and 2001, including the schedule of investments as of December 31, 2002 and
the related consolidated statements of operations, shareholders' equity and cash
flows for each of the three years in the period ended December 31, 2002 and the
financial highlights for each of the five years in the period ended December 31,
2002, present fairly, in all material respects, the financial position of PMC
Capital, Inc. and its subsidiaries ("the Company") at December 31, 2002 and
2001, and the results of their operations and their cash flows and the financial
highlights for the periods indicated, in conformity with accounting principles
generally accepted in the United States of America. These financial statements
and financial highlights (hereafter referred to as "financial statements") are
the responsibility of the Company's management; our responsibility is to express
an opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with auditing standards generally
accepted in the United States of America, which require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audits, which included confirmation of securities as of
December 31, 2002 and 2001, provide a reasonable basis for our opinion.
PRICEWATERHOUSECOOPERS LLP
Dallas, Texas
March 11, 2003, except for Note 20,
as to which the date is March 27, 2003
F-69
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
DECEMBER 31,
---------------------
2002 2001
-------- --------
ASSETS
INVESTMENTS AT VALUE:
Loans receivable $ 87,245 $107,392
Retained interests in transferred assets 40,003 33,537
Cash equivalents 4,915 16,989
Assets acquired in liquidation 2,252 329
Mortgage-backed security of affiliate 1,381 1,701
Restricted investments 299 95
Investment in unconsolidated subsidiaries 81 67
-------- --------
Total investments at value 136,176 160,110
-------- --------
OTHER ASSETS:
Due from affiliates 1,839 607
Deferred charges, deposits and other assets 728 873
Receivable for loans sold 637 184
Cash 563 329
Accrued interest receivable 225 462
Property and equipment, net 98 133
-------- --------
Total other assets 4,090 2,588
-------- --------
TOTAL ASSETS $140,266 $162,698
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES:
Current portion of notes and debentures payable $ 5,000 $ 5,510
Borrower advances 1,754 798
Accounts payable 1,569 753
Dividends payable 1,486 2,434
Accrued interest payable 748 1,193
Due to affiliates 102 189
Other liabilities 1,294 1,113
-------- --------
Total current liabilities 11,953 11,990
Notes and debentures payable 49,310 70,800
-------- --------
TOTAL LIABILITIES 61,263 82,790
-------- --------
Commitments and contingencies
Cumulative preferred stock of subsidiary 7,000 7,000
-------- --------
SHAREHOLDERS' EQUITY:
Common stock, authorized 30,000,000 shares of $.01 par value, 11,853,516
shares issued and outstanding at December 31, 2002 and 2001 119 119
Additional paid-in capital 71,508 71,508
Dividends in excess of retained earnings (2,022) (340)
Net unrealized appreciation on investments 2,398 1,621
-------- --------
72,003 72,908
-------- --------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $140,266 $162,698
======== ========
Net asset value per common share $ 6.07 $ 6.15
======== ========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-70
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
YEARS ENDED DECEMBER 31,
------------------------------
2002 2001 2000
------- ------- -------
INVESTMENT INCOME:
Interest $ 7,507 $11,568 $13,540
Income from retained interests in transferred assets 5,202 5,340 4,020
Advisory fee income 1,927 1,803 1,699
Premium income 650 501 573
Equity in income of unconsolidated subsidiaries, net 307 382 480
Other income, net 1,069 1,158 1,272
------- ------- -------
Total investment income 16,662 20,752 21,584
------- ------- -------
EXPENSES:
Interest 4,588 5,489 5,460
Salaries and related benefits 3,940 4,199 4,182
General and administrative 914 884 816
Loss from operations of assets acquired in liquidation 391 -- --
Rent 328 321 315
Professional fees 325 273 260
Profit sharing plan 220 242 247
------- ------- -------
Total expenses 10,706 11,408 11,280
------- ------- -------
Net investment income 5,956 9,344 10,304
------- ------- -------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS:
Realized losses (2,196) (2,328) (17)
Sale of assets 1,446 2,732 564
Change in unrealized appreciation on investments 777 819 402
------- ------- -------
Total realized and unrealized gain (loss) on investments 27 1,223 949
------- ------- -------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $ 5,983 $10,567 $11,253
======= ======= =======
Preferred dividends $ 250 $ 250 $ 251
======= ======= =======
BASIC AND DILUTED EARNINGS PER SHARE $ 0.48 $ 0.87 $ 0.93
======= ======= =======
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-71
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
UNDISTRIBUTED NET
(DIVIDENDS IN UNREALIZED
ADDITIONAL EXCESS OF) APPRECIATION
COMMON PAID-IN RETAINED ON
STOCK CAPITAL EARNINGS INVESTMENTS TOTAL
------ ---------- ------------- ------------ ---------
BALANCE, JANUARY 1, 2000 $ 118 $ 71,312 $ 1,484 $ 400 $ 73,314
Net increase in net assets resulting from operations -- -- 10,851 402 11,253
Issuances of common stock pursuant to
stock option plan, 24,400 shares 1 196 -- -- 197
Dividends:
Preferred -- -- (251) -- (251)
Common ($1.00 per common share) -- -- (11,846) -- (11,846)
----- -------- --------- ------- ---------
BALANCE, DECEMBER 31, 2000 119 71,508 238 802 72,667
Net increase in net assets resulting from operations -- -- 9,748 819 10,567
Dividends:
Preferred -- -- (250) -- (250)
Common ($0.85 per common share) -- -- (10,076) -- (10,076)
----- -------- --------- ------- ---------
BALANCE, DECEMBER 31, 2001 119 71,508 (340) 1,621 72,908
Net increase in net assets resulting
from operations -- -- 5,206 777 5,983
Dividends:
Preferred -- -- (250) -- (250)
Common ($0.56 per common share) -- -- (6,638) -- (6,638)
----- -------- --------- ------- ---------
BALANCE, DECEMBER 31, 2002 $ 119 $ 71,508 $ (2,022) $ 2,398 $ 72,003
===== ======== ========= ======= =========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-72
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
YEARS ENDED DECEMBER 31,
---------------------------------
2002 2001 2000
-------- -------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net increase in net assets resulting from operations $ 5,983 $ 10,567 $ 11,253
Adjustments to reconcile net increase in net assets resulting from
operations to net cash provided by operating activities:
Loans funded, held for sale (6,006) (5,608) (8,606)
Proceeds from sale of guaranteed loans 6,146 7,778 9,584
Realized and unrealized gain on investments (27) (1,223) (949)
Unrealized premium income, net (65) (14) (255)
Depreciation and amortization 254 159 177
Accretion of loan discount and deferred fees (136) (167) (288)
Equity in income of unconsolidated subsidiaries, net (307) (382) (480)
Other operating assets and liabilities 1,661 (1,151) (1,800)
-------- -------- --------
NET CASH PROVIDED BY OPERATING ACTIVITIES 7,503 9,959 8,636
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Loans funded (39,807) (60,369) (35,552)
Purchase of loans through exercise of options (1,176) (2,272) --
Principal collected 13,891 10,063 11,233
Proceeds from debt issued by SPEs, net 37,901 44,511 24,713
Proceeds from retained interests in transferred assets 4,343 3,181 3,000
Proceeds from mortgage-backed security of affiliate 313 144 248
Proceeds from sale of assets 498 -- 65
Distributions from unconsolidated subsidiaries 393 462 494
Investment in unconsolidated subsidiary (100) -- --
Purchase of property and equipment and other assets (594) (33) (15)
Investment in retained interests in transferred assets (4,425) (2,508) (1,094)
Release of (investment in) restricted cash (203) 82 792
Advances to unconsolidated affiliates, net (541) (226) (548)
-------- -------- --------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 10,493 (6,965) 3,336
-------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of notes and debentures payable -- 10,000 17,310
Proceeds from issuance of common stock -- -- 197
Payment of dividends on common stock (7,586) (10,668) (12,018)
Payment of dividends on preferred stock (250) (250) (251)
Payment of notes payable (5,000) (6,667) (6,666)
Payment of SBA debentures (17,000) -- (11,640)
Payment of issuance costs on notes and debentures -- -- (188)
-------- -------- --------
NET CASH USED IN FINANCING ACTIVITIES (29,836) (7,585) (13,256)
-------- -------- --------
NET DECREASE IN CASH AND CASH EQUIVALENTS (11,840) (4,591) (1,284)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 17,318 21,909 23,193
-------- -------- --------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 5,478 $ 17,318 $ 21,909
======== ======== ========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-73
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATED SCHEDULE OF INVESTMENTS
DECEMBER 31, 2002
(DOLLARS IN THOUSANDS)
LOANS RECEIVABLE (1) (2)
----------------------------------------
NUMBER
OF
CATEGORY/ISSUER LOANS VALUE % COST %
------------------------------------------------ ------ ------- ----- ------- -----
LOANS TO SMALL BUSINESS CONCERNS:
FIRST WESTERN SBLC, INC. AND SUBSIDIARY
(SMALL BUSINESS LENDING COMPANY LOANS)
Hotels and motels 47 $ 8,420 9.7% $ 8,481 9.6%
Restaurants 20 1,060 1.2% 1,075 1.2%
Retail, other 18 1,125 1.3% 1,154 1.3%
Gasoline/service stations 13 1,746 2.0% 1,779 2.0%
Services 25 914 1.0% 955 1.1%
Car washes 2 359 0.4% 366 0.4%
Food and grocery stores 1 136 0.2% 136 0.2%
Laundromats 2 111 0.1% 117 0.1%
Wholesale 7 258 0.3% 258 0.3%
Manufacturing 4 112 0.1% 112 0.1%
Health care 4 142 0.2% 142 0.2%
Other 2 86 0.1% 126 0.1%
--- ------- ----- ------- -----
Total 145 14,469 16.6% 14,701 16.6%
--- ------- ----- ------- -----
WESTERN FINANCIAL CAPITAL CORPORATION
(SMALL BUSINESS INVESTMENT COMPANY LOANS)
Hotels and motels 12 11,348 13.0% 11,598 13.2%
Retail, other 1 1,466 1.7% 1,466 1.7%
Other 6 45 0.0% 80 0.1%
--- ------- ----- ------- -----
Total 19 12,859 14.7% 13,144 15.0%
--- ------- ----- ------- -----
PMC INVESTMENT CORPORATION
(SPECIALIZED SMALL BUSINESS INVESTMENT COMPANY LOANS)
Hotels and motels 24 26,431 30.3% 26,627 30.3%
Health care 2 106 0.1% 106 0.1%
--- ------- ----- ------- -----
Total 26 26,537 30.4% 26,733 30.4%
--- ------- ----- ------- -----
PMC CAPITAL, INC.
(COMMERCIAL LOANS)
Hotels and motels 21 27,899 32.0% 27,897 31.7%
Apartment complex 1 922 1.0% 922 1.0%
Services 2 1,806 2.1% 1,806 2.1%
Gasoline/service stations 2 661 0.8% 661 0.8%
Restaurants 1 199 0.2% 199 0.2%
Commercial real estate 1 337 0.4% 337 0.4%
Other 2 1,556 1.8% 1,556 1.8%
--- ------- ----- ------- -----
Total 30 33,380 38.3% 33,378 38.0%
--- ------- ----- ------- -----
TOTAL LOANS RECEIVABLE 220 $87,245 100.0% $87,956 100.0%
=== ======= ===== ======= =====
(CONTINUED ON NEXT PAGE)
F-74
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATED SCHEDULE OF INVESTMENTS
DECEMBER 31, 2002
(CONTINUED - DOLLARS IN THOUSANDS)
CATEGORY/ISSUER VALUE % COST %
-------------------------------------------------------------- -------- ----- -------- -----
TOTAL LOANS RECEIVABLE (FROM PRIOR PAGE): $ 87,245 64.1% $ 87,956 65.7%
-------- ----- -------- -----
INVESTMENT IN RETAINED INTERESTS IN TRANSFERRED ASSETS OF:
PMC Capital L.P. 1998-1 and affiliate 4,014 3.0% 3,553 2.6%
PMC Capital L.P. 1999-1 and affiliate 8,106 6.0% 7,540 5.6%
PMC Joint Venture, L.P. 2000 and affiliate 4,801 3.5% 4,492 3.4%
PMC Joint Venture, L.P. 2001 and affiliate 10,693 7.9% 9,603 7.2%
PMC Joint Venture, L.P. 2002-1 and affiliate 9,657 7.1% 8,965 6.7%
First Western 1997 1,010 0.7% 800 0.6%
Secondary market loan sales 1,722 1.2% 1,588 1.2%
-------- ----- -------- -----
Total investment in retained interests in transferred assets 40,003 29.4% 36,541 27.3%
-------- ----- -------- -----
MONEY MARKET AND FUND DEPOSIT ACCOUNTS (3):
Bank One money market saving accounts 3,161 2.3% 3,161 2.4%
Merrill Lynch Premier Fund 1,652 1.2% 1,652 1.2%
Certificate of deposit 102 0.1% 102 0.1%
-------- ----- -------- -----
Total money market and fund deposit accounts 4,915 3.6% 4,915 3.7%
-------- ----- -------- -----
OTHER INVESTMENTS:
Assets acquired in liquidation 2,252 1.7% 2,673 2.0%
Investment in Class B certificate of PMC Capital L.P. 1998-1 1,381 1.0% 1,313 1.1%
Restricted investments 299 0.2% 299 0.2%
Investment in PMC Funding Corp. and subsidiary 54 0.0% 54 0.0%
Investment in PMC Advisers, Ltd. and subsidiary 27 0.0% 27 0.0%
-------- ----- -------- -----
Total other investments 4,013 2.9% 4,366 3.3%
-------- ----- -------- -----
TOTAL INVESTMENTS (4) $136,176 100.0% $133,778 100.0%
======== ===== ======== =====
(1) Names have been omitted as disclosure to the public may be detrimental to
the small business.
(2) Interest rates on loans receivable range from 6.0% to 15.0% at December 31,
2002.
(3) Interest or dividend rates on money market and fund deposit accounts range
from 1.0% to 2.3% at December 31, 2002.
(4) The aggregate cost of investments for Federal income tax purposes is
approximately $132.7 million (unaudited).
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-75
PMC CAPITAL, INC. AND SUBSIDIARIES
FINANCIAL HIGHLIGHTS
YEARS ENDED DECEMBER 31,
-------------------------------------------------------
2002 2001 2000 1999 1998
-------- -------- ------- ------- --------
PER SHARE OPERATING PERFORMANCE (1):
Net asset value, beginning of period $ 6.15 $ 6.13 $ 6.20 $ 6.10 $ 6.03
------- ------- ------- ------- -------
Net investment income 0.50 0.79 0.87 0.98 1.12
Total realized and unrealized gain (loss) on
investments(2) -- 0.10 0.08 0.16 0.20
------- ------- ------- ------- -------
Total from investment operations 0.50 0.89 0.95 1.14 1.32
------- ------- ------- ------- -------
Less distributions to:
Preferred shareholder of consolidated 0.02 0.02 0.02 0.02 0.02
subsidiary
Common shareholders 0.56 0.85 1.00 1.02 1.23
------- ------- ------- ------- -------
Total distributions 0.58 0.87 1.02 1.04 1.25
------- ------- ------- ------- -------
Net asset value, end of period $ 6.07 $ 6.15 $ 6.13 $ 6.20 $ 6.10
======= ======= ======= ======= =======
Per share market value, end of period $ 4.21 $ 7.09 $ 8.00 $ 8.25 $ 8.56
======= ======= ======= ======= =======
Total investment return (32)% (1)% 9% 9% (33)%
======= ======= ======= ======= =======
RATIOS AND SUPPLEMENTAL DATA:
Net assets, end of period (in thousands) $72,003 $72,908 $72,667 $73,314 $72,151
======= ======= ======= ======= =======
Ratio of expenses to average net assets 15% 16% 15% 15% 16%
======= ======= ======= ======= =======
Ratio of net investment income to average net assets 8% 13% 14% 16% 19%
======= ======= ======= ======= =======
Ratio of net increase in net assets resulting from
operations to average net assets 8% 15% 15% 18% 20%
======= ======= ======= ======= =======
Portfolio turnover(3) 72% 56% 44% 87% 58%
======= ======= ======= ======= =======
Basic weighted average common shares outstanding
(in thousands) 11,854 11,854 11,841 11,829 11,800
======= ======= ======= ======= =======
Average debt outstanding (in thousands) $69,612 $75,326 $70,800 $74,593 $75,090
======= ======= ======= ======= =======
Average debt per common share $ 5.87 $ 6.35 $ 5.99 $ 6.31 $ 6.46
======= ======= ======= ======= =======
Footnotes:
(1) The per share changes during the year are based on the basic weighted
average number of shares outstanding during the year presented and
expresses the per share operating performance in terms of a single
share outstanding throughout each fiscal period.
(2) The per share net gains or losses on securities (realized and
unrealized) includes the effect of stock issuances and other changes in
per share amounts during the year presented.
(3) Included in the computation of portfolio turnover are the sales of
loans through the secondary market or private placement.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-76
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BUSINESS
PMC Capital, Inc. ("PMC Capital" and, together with its subsidiaries, "we" or
"our") is a diversified closed-end management investment company that has
elected to operate as a business development company ("BDC") under the
Investment Company Act of 1940, as amended (the "1940 Act"). Our common stock
(the "Common Stock") is traded on the American Stock Exchange under the symbol
"PMC."
We are engaged in the business of originating loans to small businesses either
directly or through our three principal subsidiaries: First Western SBLC, Inc.
("First Western"), PMC Investment Corporation ("PMCIC") and Western Financial
Capital Corporation ("Western Financial"). We primarily originate loans to small
businesses in the hospitality industry. We are a national lender that primarily
lends to businesses in the southwest and southeast regions of the United States.
In addition to our lending operations, we earn revenue as an investment advisor
who evaluates and services loans and other investments pursuant to fee
arrangements with PMC Commercial Trust ("PMC Commercial"). PMC Commercial is a
real estate investment trust and our affiliate as a result of common management.
First Western, PMCIC and Western Financial are registered under the 1940 Act as
diversified closed-end management investment companies. In addition, PMC Capital
is either directly or indirectly the sole shareholder or partner of several
non-investment company subsidiaries. These are: PMC Advisers, Ltd. and its
subsidiary ("PMC Advisers"); PMC Funding Corp. and its subsidiary ("PMC
Funding"); PMC Capital, L.P. 1998-1 (the "1998 Partnership") and PMC Capital,
L.P. 1999-1 (the "1999 Partnership").
In addition, at December 31, 2002, PMC Capital owns approximately 34% of PMC
Joint Venture, L.P. 2000 (the "2000 Joint Venture"), 61% of PMC Joint Venture,
L.P. 2001 (the "2001 Joint Venture") and 61% of PMC Joint Venture, L.P. 2002-1
(the "2002 Joint Venture", and together with the 2000 Joint Venture and the 2001
Joint Venture, the "Joint Ventures"). PMC Commercial owns the remaining
interests in the Joint Ventures. The Joint Ventures, together with the 1998
Partnership and the 1999 Partnership, comprise our special purpose entities
("SPEs").
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of PMC Capital and
its wholly-owned regulated investment company subsidiaries, First Western, PMCIC
and Western Financial. All material intercompany balances and transactions have
been eliminated.
PMC Advisers, which acts as the investment advisor for PMC Commercial, and PMC
Funding, which holds assets on our behalf, are accounted for using the equity
method of accounting in conformity with Federal securities laws. Our ownership
interests in our SPEs created in conjunction with structured loan transactions
are accounted for as retained interests in transferred assets ("Retained
Interests") in accordance with Statement of Financial Accounting Standards
("SFAS") No. 140, "Accounting for Transfers and Servicing of Financial Assets
and Extinguishment of Liabilities" ("SFAS No. 140").
CONSOLIDATED SUBSIDIARIES
First Western is a small business lending company ("SBLC") that originates
variable-rate loans which are partially guaranteed by the Small Business
Administration ("SBA") pursuant to its Section SBA 7(a) program (the "SBA 7(a)
Program").
PMCIC is a licensed specialized small business investment company ("SSBIC")
under the Small Business Investment Act of 1958, as amended ("SBIA"). PMCIC uses
long-term funds provided by the SBA, together with its own capital, to provide
long-term collateralized loans to eligible small businesses owned by
"disadvantaged" persons, as defined under the regulations of the SBA. As an
SSBIC, PMCIC is eligible to obtain long-term, fixed-rate, funding from the SBA
through the issuance of debentures.
F-77
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Western Financial is a licensed small business investment company ("SBIC") under
the SBIA that provides long-term loans to borrowers whether or not they qualify
as "disadvantaged." As an SBIC, Western Financial is eligible to obtain
long-term, fixed-rate, funding from the SBA through the issuance of debentures.
SPECIAL PURPOSE ENTITIES
The 1998 Partnership and the 1999 Partnership were formed as Delaware limited
partnerships in connection with our structured loan sale transactions to acquire
loans from us and issue debt through private placements.
The Joint Ventures were formed as Delaware limited partnerships in connection
with structured loan sale transactions completed with PMC Commercial. The Joint
Ventures acquired loans from us and PMC Commercial, and issued debt through
private placements.
The transfers of assets to the SPEs have been accounted for as sales and our
ownership interests in the SPEs are accounted for as Retained Interests.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally accepted
accounting principles requires us to make estimates and assumptions that affect
(i) the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and, (ii) the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from our estimates. Our most sensitive estimates involve
the valuation of our loans receivable, assets acquired in liquidation and
Retained Interests.
VALUATION OF INVESTMENTS
All investments are valued by our Board of Directors in good faith with the
resulting unrealized gains and losses recorded in earnings.
Loans Receivable: The Board of Directors has determined that the fair value of
loans receivable approximates the remaining unamortized principal of the loans,
unless there is doubt as to the realization of the loan. The determination of
whether doubt exists regarding the ultimate realization of a loan requires
judgment and consideration of the facts and circumstances existing at the
valuation date. Changes to the facts and circumstances of the borrower, the
hospitality industry and the economy may cause a decline in the fair value of
the loan, and ultimately realized and unrealized losses. When doubt exists, the
fair value of the loan receivable is then based upon the value of the
collateral. In the absence of a readily ascertainable market, the value of our
loans receivable may differ from the values that would be placed on the loans
receivable if a ready market existed. There can be no assurance of the accuracy
of these estimates. For loans originated under the SBA 7(a) Program, when we
sell the SBA guaranteed portion of loans, a portion of the sale proceeds
representing the difference in the face amount of the unguaranteed portion of
the loans and the value of the loans (the "Retained Loan Discount") is recorded
as a reduction in basis of the retained portion of the loan rather than premium
income.
Retained Interests: Represents our interest in SPEs created in conjunction with
our structured loan sale transactions. The fair value of our Retained Interests
is based on estimates of the present value of cash flows we expect to receive
from the SPEs. The future cash flows are based in part upon an estimate of
prepayment speeds and loan losses. Prepayment speeds and loan losses are
estimated based on the current and anticipated interest rate environment, the
current and anticipated competitive environment, the performance of the loan
pool, and our historical experience with these and similar loans receivable. The
discount rates utilized are determined for each of the components of the
Retained Interests as estimates of market rates based on interest rate levels
considering the risks inherent in the transaction. There can be no assurance of
the accuracy of these estimates. Any appreciation (depreciation) of our Retained
Interests is included in the accompanying statement of operations as either a
realized loss (if there is a reduction in expected future cash flows) or an
unrealized gain (loss) on investments.
Cash Equivalents: We generally consider all highly liquid investments purchased
with an original maturity of three months or less to be cash equivalents. Cash
equivalents are carried at value, which approximates cost.
Assets Acquired in Liquidation: Assets acquired in liquidation are carried at
our Board of Directors' determination of fair value, based upon an expectation
of the proceeds to be received from the sale of the collateral after payment of
selling costs, necessary capital improvements and holding costs.
F-78
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Mortgage-Backed Security of Affiliate: The mortgage-backed security represents
our ownership of the Class B notes of the 1998 Partnership and is valued based
on discounted cash flow techniques.
Restricted Investments: Our restricted investments consist of highly liquid
investments purchased with an original maturity of three months or less.
Restricted investments are carried at value, which approximates cost.
Investment in Unconsolidated Subsidiaries: Our investments in unconsolidated
subsidiaries are carried at fair value, which approximates the basis in our
unconsolidated subsidiaries under the equity method of accounting.
DEFERRED CHARGES
Costs incurred in connection with the issuance of SBA debentures and notes
payable are included in deferred charges, deposits and other assets. These costs
are amortized to interest expense over the life of the related obligation
utilizing a method which approximates the effective interest method.
PROPERTY AND EQUIPMENT
Property, equipment and leasehold improvements are carried at their cost less
accumulated depreciation and amortization. Depreciation and amortization are
computed using accelerated and straight-line methods, with estimated useful
lives ranging from five to seven years.
NET UNREALIZED APPRECIATION (DEPRECIATION) ON INVESTMENTS
Net unrealized appreciation (depreciation) on investments on the accompanying
consolidated balance sheet represents the difference between the cost and fair
value of our investments.
INTEREST INCOME
Interest income includes interest earned on loans and our short-term
investments. Interest income on loans is accrued as earned with the accrual of
interest generally suspended when the related loan becomes a non-accrual loan.
Loans receivable are generally classified as non-accrual (a "Non-Accrual Loan")
if (i) they are past due as to payment of principal or interest for a period of
more than 60 days, (ii) a loan or a portion of a loan is classified as impaired
or charged-off or (iii) loans receivable that are current or past due less than
60 days if the repayment in full of principal and/or interest is in doubt.
Interest income on a Non-Accrual Loan is recognized on the cash basis and we
reverse previously recorded interest income which is deemed uncollectible.
The Retained Loan Discount is amortized to interest income over the life of the
underlying loan based on an effective interest method unless the underlying
loans receivable are prepaid or sold.
INCOME FROM RETAINED INTERESTS
The income from our Retained Interests is comprised of the yield earned on our
Retained Interests which is determined based on estimates of future cash flows
and includes any fees collected (i.e., late fees, prepayment fees, etc.) by the
SPEs in excess of anticipated fees. We update our cash flow assumptions on a
quarterly basis and any changes to cash flow assumptions impact the yield on our
Retained Interests.
PREMIUM INCOME
Premium income represents the differential between the value attributable to the
sale of the guaranteed portion of a loan originated under the SBA 7(a) Program
and the principal balance (cost) of the loan. The sale price includes the value
attributable to any excess servicing spread retained by us plus any cash
received.
STOCK-BASED COMPENSATION PLAN
At December 31, 2002, we have a stock-based compensation plan, which is
described more fully in Note 14. We have accounted for this plan under the
recognition and measurement provisions of Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees", and related interpretations.
Effective January 1, 2003, we adopted the fair value recognition provisions of
SFAS
F-79
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
No. 123, "Accounting for Stock-Based Compensation," ("SFAS No. 123")
prospectively to all awards granted, modified or settled after January 1, 2003.
Awards under the plans generally vest immediately.
The following table illustrates the effect on our net increase in net assets
resulting from operations and earnings per share if the fair value based method
had been applied to all outstanding and unvested awards in each period:
DECEMBER 31,
------------------------------------------------------------------
2002 2001 2000
------------------- ------------------- ------------------
AS PRO- AS PRO- AS PRO-
REPORTED FORMA REPORTED FORMA REPORTED FORMA
-------- ------ -------- ------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
SFAS No. 123 charge $ -- $ 26 $ -- $ 24 $ -- $ 28
APB 25 charge $ -- $ -- $ -- $ -- $ -- $ --
Net increase in net assets resulting from
operations $5,983 $5,957 $10,567 $10,543 $11,253 $11,225
Basic and diluted earnings per common share $ 0.48 $ 0.48 $ 0.87 $ 0.87 $ 0.93 $ 0.93
The effects of applying SFAS No. 123 in this proforma disclosure are not
indicative of future amounts.
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS
Realized and unrealized gain (loss) on investments consists of the following:
- Realized losses -- represents the cost basis of investments disposed of
less proceeds received or investments otherwise written-off.
- Sale of assets -- represents the gain or loss on disposition of
investments measured by the difference between the net proceeds from
the sale and the cost basis of the investment.
- Change in unrealized appreciation (depreciation) on investments --
represents the change in the cumulative difference between the fair
value and the cost of investments held on our consolidated balance
sheets.
FEDERAL INCOME TAXES
We have elected to be treated as a regulated investment company by meeting
certain requirements of the Internal Revenue Code of 1986, as amended (the
"Code") relating to the distribution of our net investment income to
shareholders. Therefore, we incur no Federal income tax liability on such
income. Based on our status as a regulated investment company, we may elect to
retain, deem to distribute or distribute, in whole or in part, net long-term
capital gains realized on the disposition of our investments.
DISTRIBUTIONS TO SHAREHOLDERS
Distributions to shareholders are recorded on the ex-dividend date.
CONCENTRATION OF CREDIT RISK
At various times throughout the year, we maintain cash and cash equivalents and
restricted investments in accounts with various financial institutions in excess
of the amount insured by the Federal Deposit Insurance Corporation. We regularly
monitor the financial stability of these financial institutions and do not
believe there is a significant credit risk associated with deposits in excess of
federally insured amounts.
RECLASSIFICATIONS
Certain prior period amounts have been reclassified to conform to the current
year presentation. These reclassifications had no effect on previously reported
net increase in net assets resulting from operations (hereinafter referred to as
"net income") or shareholders' equity.
F-80
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In April 2002, the Financial Accounting Standards Board ("FASB") issued SFAS No.
145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB
Statement No. 13, and Technical Corrections." The statement, which is effective
for financial statements issued for fiscal years beginning after May 15, 2002
and encourages early application, updates, clarifies and simplifies existing
accounting pronouncements. Specifically, the statement rescinds SFAS No. 4,
which required all gains and losses from extinguishment of debt to be aggregated
and, if material, classified as an extraordinary item, net of the related income
tax effect. As a result of this rescission, the criteria in APB Opinion No. 30
will now be used to determine the classification of gains and losses resulting
from the extinguishment of debt. The statement also amends SFAS No. 13 to
require that when a capital lease is modified in such a way that the change in
the lease provisions establishes a new lease which is classified as an operating
lease, the asset and lease obligation under the capital lease should be removed,
a gain or loss for the difference should be recorded and the new lease should be
accounted for as an operating lease. The implementation of SFAS No. 145 on
January 1, 2003 will not have a material impact on our consolidated financial
statements.
In June 2002, SFAS No. 146, "Accounting for Exit or Disposal Activities" ("SFAS
No. 146") was issued. SFAS No. 146 addresses significant issues regarding the
recognition, measurement and reporting of cost associated with exit and disposal
activities, including restructuring activities that are currently accounted for
pursuant to the guidance that the Emerging Issues Task Force has set forth in
Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." The scope of SFAS No. 146 also includes (i) costs related to
terminating a contract that is not a capital lease and (ii) termination benefits
that employees who are involuntarily terminated receive under the terms of a
one-time benefit arrangement that is not an ongoing benefit arrangement or an
individual deferred compensation contract. SFAS No. 146 will be effective for
financial statements issued for fiscal years beginning after December 15, 2002.
The implementation of SFAS No. 146 on January 1, 2003 will not have a material
impact on our consolidated financial statements.
FASB issued FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others" ("FIN 45") in November 2002. FIN 45 elaborates on the disclosures to be
made by a guarantor in its interim and annual statements about its obligations
under certain guarantees that it has issued. It also clarifies that a guarantor
is required to recognize, at the inception of a guarantee, a liability for the
fair value of the obligation undertaken in issuing the guarantee. FIN 45 does
not prescribe a specific approach for subsequently measuring the guarantor's
recognized liability over the term of the related guarantee. FIN 45 also
incorporates, without change, the guidance in FASB Interpretation No. 34,
"Disclosure of Indirect Guarantees of Indebtedness of Others," which is being
superseded. We adopted the disclosure requirements of FIN 45 at December 31,
2002.
In December 2002, SFAS No. 148, "Accounting for Stock-Based Compensation--
Transition and Disclosure" ("SFAS No. 148") was issued. SFAS No. 148 amends SFAS
No. 123 to provide alternative methods of transition for voluntary change to the
fair value based method of accounting for stock-based employee compensation. In
addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to
require prominent disclosures in both annual and interim financial statements
about the method of accounting for stock-based employee compensation and the
effect of the method used on reported results. SFAS No. 148 improves the
prominence and clarity of the pro-forma disclosures required by SFAS No. 123 by
prescribing a specific tabular format and by requiring disclosure in the Summary
of Significant Accounting Policies footnote or its equivalent. In addition, SFAS
No. 148 improves the timeliness of these disclosures by requiring their
inclusion in financial reports for interim periods. SFAS No. 148 is effective
for financial statements for fiscal years ending after December 15, 2002.
Effective January 1, 2003, we adopted the fair value recognition provisions of
SFAS No. 123 prospectively to all awards granted, modified or settled after
January 1, 2003.
FASB issued FASB Interpretation No. 46, "Consolidation of Variable Interest
Entities, an interpretation of ARB 51" ("FIN 46") in January 2003. The primary
objectives of FIN 46 are to provide guidance on the identification of entities
for which control is achieved through means other than voting rights, Variable
Interest Entities ("VIEs"), and how to determine when and which business
enterprise should consolidate the VIE ("the primary beneficiary"). This new
model for consolidation applies to an entity which either (i) the equity
investors, if any, do not have a controlling financial interest or (ii) the
equity investment at risk is insufficient to finance that entity's activities
without receiving additional subordinated financial support from other parties.
In addition, FIN 46 requires that both the primary beneficiary and all other
enterprises with a significant variable interest in a VIE make additional
disclosures. FIN 46 will not impact our consolidated financial statements since
it is not applicable to registered investment companies or qualifying SPEs
accounted for in accordance with SFAS No. 140.
F-81
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2. LOANS RECEIVABLE:
Loans receivable consisted of the following:
DECEMBER 31,
------------------
2002 2001
------- --------
(IN THOUSANDS)
SBIC commercial loans $39,396 $ 49,868
Other commercial loans 33,380 40,901
SBA 7(a) loans 14,469 16,623
------- --------
Balance, end of period $87,245 $107,392
======= ========
At December 31, 2002 and 2001, respectively, approximately $71.3 million and
$38.5 million of our loans receivable had a variable interest rate (reset on a
quarterly basis) based upon either LIBOR or the prime rate and $15.9 million and
$68.9 million had a fixed interest rate, respectively. The weighted average
interest rate of our variable-rate loans receivable was 6.0% and 7.4% at
December 31, 2002 and 2001, respectively. The weighted average interest rate of
our fixed-rate loans receivable was 10.4% and 9.8% at December 31, 2002 and
2001, respectively.
Our loans receivable are geographically concentrated as follows:
PERCENTAGE OF LOANS RECEIVABLE
DECEMBER 31,
------------------------------
2002 2001
---- ----
Texas 29% 24%
South Carolina 9% 5%
North Carolina 8% 11%
Georgia 7% 12%
California 6% 1%
Florida 5% 6%
Indiana 4% 2%
Ohio 4% 5%
Other 28% 34%
--- ---
100% 100%
=== ===
At December 31, 2002, loans receivable to businesses in the hospitality industry
comprised 85% of our loans receivable. Any economic factors that negatively
impact the hospitality industry could have a material adverse effect on our
financial condition or results of operations.
At December 31, 2002 and 2001, loans receivable of $5.7 million and $6.2
million, respectively, were either greater than 60 days past due, litigation
against the borrowers has commenced, the loan has been identified as impaired or
the loans are in the process of liquidation. Impaired loans at December 31, 2002
included a loan collateralized by a golf facility acquired through foreclosure
during January 2003 by a newly formed, wholly-owned, non-investment company
subsidiary. The aggregate value of this property (and our estimate of the value
of the underlying loan receivable), as reduced for costs of selling, was
estimated to be $1.2 million. Impaired loans at December 31, 2001 included two
loans each collateralized by a property we acquired through foreclosure during
2002. The aggregate value of these properties (and our estimate of the value of
the underlying loans receivable), as reduced for costs of selling, was estimated
to be $2.1 million at the time of foreclosure.
F-82
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The activity in unrealized depreciation on loans receivable is as follows:
YEARS ENDED DECEMBER 31,
------------------------
2002 2001
-------- ----------
(IN THOUSANDS)
Balance, beginning of period $ 443 $ 659
Unrealized losses 483 809
Principal balance written-off, net (215) (1,025)
------- ---------
Balance, end of period $ 711 $ 443
======= =========
The investment in loans identified as impaired and the related unrealized
depreciation is as follows:
DECEMBER 31,
----------------
2002 2001
------- -------
(IN THOUSANDS)
Impaired loans $5,728 $6,152
Unrealized depreciation (711) (393)
------ ------
$5,017 $5,759
====== ======
We recorded interest income, primarily on the cash basis of accounting, of
approximately $525,000 and $560,000 on our impaired loans during 2002 and 2001,
respectively. Had these impaired loans performed in accordance with their
original terms, additional interest income of approximately $200,000 and
$190,000 would have been recognized during 2002 and 2001, respectively.
NOTE 3. RETAINED INTERESTS:
In our structured loan sale transactions, we contributed loans receivable to an
SPE in exchange for an ownership interest in that entity. The SPE issued notes
payable (the "Structured Notes") (usually through a private placement) to third
parties ("Structured Noteholders"). The SPE then distributed a portion of the
proceeds from the Structured Notes to us. The Structured Notes are
collateralized solely by the assets of the SPE which means that should the SPE
fail to make payments on the Structured Notes, the Structured Noteholders have
no recourse to us. Upon the completion of our structured loan sale transactions,
we recorded the transfer of loans receivable as a sale since the SPE meets the
definition of a qualifying SPE as outlined in SFAS No. 140. As a result, the
loans receivable contributed to the SPE, the Structured Notes issued by the SPE,
and the operating results of the SPE are not included in our consolidated
financial statements. The difference between (i) the carrying value of the loans
receivable sold and (ii) the sum of (a) the cash received and (b) the present
value of the estimated future cash flows from the Retained Interests,
constituted the gain or loss on sale. Retained Interests are carried at fair
value (determined as described below), with realized and unrealized gains and
losses included in our consolidated statements of operations.
F-83
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Information pertaining to our SPEs is as follows. Balances represent PMC
Capital's share of the respective Joint Ventures.
2000 2001 2002
1998 1999 JOINT JOINT JOINT
PARTNERSHIP PARTNERSHIP VENTURE VENTURE VENTURE
------------- ------------- -------------- -------------- --------------
(DOLLARS IN THOUSANDS)
Transaction date 11/24/98 06/03/99 12/18/00 06/27/01 04/12/02
AT INCEPTION:
Principal amount of sold loans $ 43,144 $ 60,481 $ 28,046 $ 49,194 $ 43,218
Structured Notes issued $ 39,646 $ 55,648 $ 24,955 $ 45,233 $ 38,897
Interest rate on the Structured Notes Prime - 1% 6.60% 7.28% 6.36% 6.67%
Structured Notes rating (1) "Aaa" "Aaa" "Aaa" "Aaa" "Aaa"
Weighted average interest rate of loans Prime + 1.26% 9.59% 9.54% 9.78% 9.53%
Weighted average remaining life (2) 5.05 years 4.49 years 5.24 years 5.26 years 5.05 years
Aggregate losses assumed(3) 3.25% 3.02% 2.41% 2.86% 2.71%
Discount rate assumptions 12.5% 13.8% 9.3% to 14.0% 8.5% to 13.3% 8.2% to 12.9%
Constant prepayment rate assumption 8.0% 12.0% 8.0% 9.0% 9.0%
Net gain recorded $ 925 $ 2,564 $ 564 $ 2,732 $ 1,463
Value of Retained Interests $ 7,126 $ 9,731 $ 5,573 $ 9,186 $ 8,772
AT DECEMBER 31, 2002:
Principal outstanding on sold loans (5) $ 26,099 $ 39,216 $ 20,783 $ 44,409 $ 42,199
Structured Notes balance outstanding $ 24,806 $ 35,907 $ 18,086 $ 42,762 $ 38,017
Cash in the collection account $ 454 $ 681 $ 247 $ 2,940 $ 545
Cash in the reserve account $ 2,103 $ 2,372 $ 192 $ 2,806 $ 2,543
Asset acquired in liquidation, net $ -- $ -- $ 1,411 $ -- $ --
Weighted average interest rate of loans Prime + 1.22% 9.44% 9.21% 9.73% 9.54%
Discount rate assumptions(6) 4.3% to 11.5% 6.8% to 11.5% 7.3% to 12.0% 6 .7% to 11.4% 6.8% to 11.5%
Constant prepayment rate assumption 11.0% 10.0% 14.0% 9.5% 9.5%
Weighted average remaining life (2) 3.64 years 3.73 years 3.31 years 4.87 years 4.81 years
Aggregate losses assumed (3) 2.87% 2.40% 3.02% 3.09% 3.13%
Aggregate principal losses to date --% --% 4.27% --% --%
(1) Structured Notes issued by the SPEs were rated by Moody's Investors
Service, Inc.
(2) The weighted average life is calculated by summing the product of (i)
the sum of the principal collections expected in each future period
multiplied by (ii) the number of periods until collection, and then
dividing that total by (iii) the remaining or initial principal
balance, as applicable.
(3) Represents aggregate estimated losses as a percentage of the principal
outstanding based upon per annum losses that ranged from 0.4% to 1.0%.
(4) The prepayment rate was based on the actual performance of the loan
pools, adjusted for anticipated principal prepayments considering other
similar loans.
(5) Approximately 92% concentrated in the hospitality industry and 27% to
borrowers in Texas. No other state had a concentration greater than
10%.
(6) The discount rates utilized were (i) 4.3% to 7.3% for our required
overcollateralization, (ii) 8.4% to 9.0% for our reserve funds and
(iii) 11.4% to 12.0% for our interest-only strip receivables.
In addition to the transactions described above, First Western has Retained
Interests. First Western sold the unguaranteed portion of its loans receivable
through a private placement in 1997 and has retained the right to service all of
these loans receivable. Pursuant to the sale, First Western maintains a reserve
fund and receives cash flow from the IO Receivable established in connection
with the sold loans receivable. At December 31, 2002, the principal balance
outstanding on its sold loans was $3.6 million and the reserve fund balance was
$912,000.
F-84
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In addition, the SBA guaranteed portions of First Western's loans receivable are
sold to either dealers in government guaranteed loans receivable or
institutional investors ("Secondary Market Loan Sales") as the loans are funded.
On all Secondary Market Loan Sales, we retain an excess spread between the
interest rate paid to us from our borrowers and the rate we pay to the purchaser
of the guaranteed portion of the note. At December 31, 2002 and 2001, the
aggregate principal balance of serviced loans receivable on which we have an
excess spread was $47.6 million and $52.6 million, respectively, and the
weighted average excess spread (before estimated servicing costs) was 1.8% and
1.9%, respectively.
In determining the fair value of our Retained Interests related to First
Western, assumptions at December 31, 2002 included prepayment speeds that ranged
from 20% to 30% per annum, loss rates that ranged from 0.2% to 0.4% per annum
and discount rates that ranged from 6.0% to 11.7%.
The value of our Retained Interests is based on an estimate of the discounted
future cash flows we will receive. In determining the present value of expected
future cash flows, estimates are made in determining the amount and timing of
those cash flows and the discount rates. The amount and timing of cash flows is
generally determined based on estimates of loan losses and anticipated
prepayment speeds relating to the loans receivable contributed to the SPE.
Actual loan losses and prepayments may vary significantly from assumptions. The
discount rates utilized in computing the estimated fair value are based upon
estimates of the inherent risks associated with each cash flow stream. Due to
the limited number of entities that conduct transactions with similar assets,
the relatively small size of our Retained Interests and the limited number of
buyers for such assets, no readily ascertainable market exists. Therefore, our
estimate of the fair value may or may not vary significantly from what a willing
buyer would pay for these assets.
The components of our Retained Interests are as follows:
(1) The required overcollateralization (the "OC Piece"). The OC Piece
represents the excess of the loans receivable contributed to the SPE
over the notes payable issued by the SPE and serves as additional
collateral for the Structured Noteholders.
(2) The "Reserve Fund" and the interest earned thereon. The Reserve Fund
represents cash that is required to be kept in a liquid cash account by
the SPE as collateral for the Structured Noteholders, a portion of
which was contributed by us to the SPE upon formation and a portion of
which is built up over time by the SPE from the cash flows from the
underlying loans receivable.
(3) The interest-only strip receivable (the "IO Receivable"). The IO
Receivable is comprised of the cash flows that will be received by us
in the future after payment by the SPE of (a) all interest and
principal due to the Structured Noteholders, (b) payment of all
principal and interest due on the OC Piece, (c) any required funding of
the Reserve Fund and (d) on-going costs of the transaction.
F-85
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Our Retained Interests consisted of the following:
DECEMBER 31, 2002
-------------------------------------------------------
VALUE
-------------------------------------------------------
OC PIECE RESERVE FUND IO RECEIVABLE TOTAL COST
-------- ------------ ------------- ------- -------
(IN THOUSANDS)
First Western $ -- $ 842 $ 1,890 $ 2,732 $ 2,388
1998 Limited Partnership 1,519 1,672 823 4,014 3,553
1999 Limited Partnership 4,216 1,923 1,967 8,106 7,540
2000 Joint Venture 3,058 1,420 323 4,801 4,492
2001 Joint Venture 4,798 2,282 3,613 10,693 9,603
2002 Joint Venture 5,213 2,036 2,408 9,657 8,965
-------- -------- -------- ------- -------
$ 18,804 $ 10,175 $ 11,024 $40,003 $36,541
======== ======== ======== ======= =======
DECEMBER 31, 2001
-------------------------------------------------------
VALUE
-------------------------------------------------------
OC PIECE RESERVE FUND IO RECEIVABLE TOTAL COST
-------- ------------ ------------- ------- -------
(IN THOUSANDS)
First Western $ -- $ 743 $ 2,238 $ 2,981 $ 2,587
1998 Limited Partnership 1,871 2,048 1,150 5,069 4,686
1999 Limited Partnership 4,428 2,441 3,149 10,018 9,532
2000 Joint Venture 3,083 1,238 989 5,310 5,091
2001 Joint Venture 4,397 1,825 3,937 10,159 9,656
------- ------- -------- ------- -------
$13,779 $ 8,295 $ 11,463 $33,537 $31,552
======= ======= ======== ======= =======
The 2000 Joint Venture acquired an asset through liquidation of an impaired
loan, with an estimated value of $1.4 million. In addition, during December
2002, PMC Capital exercised its option to repurchase an impaired loan from the
2000 Joint Venture with a principal balance of $2.3 million. We recorded
realized losses of $2.0 million on our Retained Interests during 2002 primarily
due to these impaired loans.
The following is a sensitivity analysis of our Retained Interests as of December
31, 2002 to highlight the volatility that results when prepayments, losses and
discount rates are different than our assumptions:
ASSET AND NET
CHANGED ASSUMPTION PRO-FORMA VALUE INCOME CHANGE
-------------------------------------------------- --------------- -------------
(IN THOUSANDS)
Losses increase by 50 basis points per annum (1) $ 37,297 $(2,706)
Losses increase by 100 basis points per annum (1) $ 34,714 $(5,289)
Rate of prepayments increases by 5% per annum (2) $ 38,642 $(1,361)
Rate of prepayments increases by 10% per annum (2) $ 37,688 $(2,315)
Discount rates increase by 100 basis points $ 38,408 $(1,595)
Discount rates increase by 200 basis points $ 37,002 $(3,001)
(1) If we experience losses (i.e., in excess of anticipated losses), the effect
on our Retained Interests would first be to reduce the value of the IO
Receivables. To the extent the IO Receivables could not fully absorb the
losses, the effect would then be to reduce the value of our Reserve Funds
and then the value of our OC Pieces.
(2) For example, an 8% assumed rate of prepayment would be increased to 13% or
18% based on increases of 5% or 10% per annum, respectively.
These sensitivities are hypothetical and should be used with caution. Pro-forma
values based on changes in these assumptions generally cannot be extrapolated
since the relationship of the change in assumption to the change in fair value
may not be linear. The
F-86
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
effect of a variation in a particular assumption on the fair value of our
Retained Interests is calculated without changing any other assumption. In
reality, changes in one factor are not isolated from changes in another which
might magnify or counteract the sensitivities.
The following information summarizes the financial position of the SPEs at
December 31, 2002 and 2001. We own 100% of the 1998 Partnership and the 1999
Partnership and 34% of the 2000 Joint Venture, 61% of the 2001 Joint Venture and
61% of the 2002 Joint Venture at December 31, 2002. At December 31, 2001 we
owned 33% of the 2000 Joint Venture and 60% of the 2001 Joint Venture.
SUMMARY OF FINANCIAL POSITION (1):
1998 1999
PARTNERSHIP PARTNERSHIP
----------------- -----------------
2002 2001 2002 2001
------- ------- ------- -------
(IN THOUSANDS)
Loans Receivable, Net $25,865 $29,817 $39,216 $47,909
======= ======= ======= =======
Total Assets $28,477 $35,438 $42,475 $55,761
======= ======= ======= =======
Notes Payable $24,806 $30,663 $35,907 $47,560
======= ======= ======= =======
Total Liabilities $24,885 $30,792 $36,106 $47,823
======= ======= ======= =======
Partners' Capital $ 3,592 $ 4,646 $ 6,369 $ 7,938
======= ======= ======= =======
2000 2001 2002
JOINT VENTURE JOINT VENTURE JOINT VENTURE
-------------------- -------------------- -------------
2002 2001 2002 2001 2002
-------- -------- -------- -------- -------------
(IN THOUSANDS)
Loans Receivable, Net $ 70,627 $ 79,695 $ 73,220 $ 78,177 $ 69,025
======== ======== ======== ======== ========
Asset Acquired in Liquidation, Net $ 1,411 $ -- $ -- $ -- $ --
======== ======== ======== ======== ========
Total Assets $ 76,434 $ 85,716 $ 81,302 $ 83,600 $ 74,322
======== ======== ======== ======== ========
Notes Payable $ 62,658 $ 71,100 $ 69,146 $ 71,768 $ 62,152
======== ======== ======== ======== ========
Total Liabilities $ 62,848 $ 71,316 $ 69,329 $ 71,958 $ 62,325
======== ======== ======== ======== ========
Partners' Capital $ 13,586 $ 14,400 $ 11,973 $ 11,642 $ 11,997
======== ======== ======== ======== ========
(1) Balances represent 100% of the limited partnership interests in the Joint
Ventures.
F-87
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following information summarizes the results of operations for the periods
ended December 31, 2002, 2001 and 2000.
SUMMARY OF OPERATIONS (1):
1998 PARTNERSHIP 1999 PARTNERSHIP
--------------------------- -------------------------
2002 2001 2000 2002 2001 2000
------- -------- ------- ------- ------- -------
(IN THOUSANDS)
Interest Income $ 1,797 $ 3,087 $ 4,055 $ 4,187 $ 5,227 $ 5,689
======= ======== ======= ======= ======= =======
Total Revenues $ 1,845 $ 3,210 $ 4,177 $ 4,559 $ 5,555 $ 5,728
======= ======== ======= ======= ======= =======
Interest Expense $ 1,002 $ 2,089 $ 2,838 $ 2,689 $ 3,254 $ 3,447
======= ======== ======= ======= ======= =======
Provision for Losses $ 103 $ (29) $ 37 $ -- $ -- $ --
======= ======== ======= ======= ======= =======
Total Expenses $ 1,204 $ 2,174 $ 3,002 $ 2,840 $ 3,432 $ 3,634
======= ======== ======= ======= ======= =======
Net Income $ 641 $ 1,036 $ 1,175 $ 1,719 $ 2,123 $ 2,094
======= ======== ======= ======= ======= =======
2002
JOINT
2000 JOINT VENTURE 2001 JOINT VENTURE VENTURE
------------------------------ ------------------ -------
2002 2001 2000 (2) 2002 2001 (3) 2002 (4)
------- ------- -------- ------- ------- -------
(IN THOUSANDS)
Interest Income $ 7,092 $ 7,936 $ 295 $ 7,507 $ 4,028 $ 4,850
======= ======= ===== ======= ======= =======
Total Revenues $ 7,351 $ 8,169 $ 298 $ 7,815 $ 4,222 $ 4,897
======= ======= ===== ======= ======= =======
Interest Expense $ 4,988 $ 5,277 $ 181 $ 4,463 $ 2,387 $ 2,999
======= ======= ===== ======= ======= =======
Provision for Losses $ 1,514 $ -- $ -- $ 140 $ -- $ --
======= ======= ===== ======= ======= =======
Total Expenses $ 6,752 $ 5,526 $ 181 $ 4,849 $ 2,507 $ 3,153
======= ======= ===== ======= ======= =======
Net Income $ 599 $ 2,643 $ 117 $ 2,966 $ 1,715 $ 1,744
======= ======= ===== ======= ======= =======
(1) Amounts represent 100% of the limited partnership interests in the Joint
Ventures.
(2) From December 18, 2000 (inception) to December 31, 2000
(3) From June 27, 2001 (inception) to December 31, 2001
(4) From April 12, 2002 (inception) to December 31, 2002
Our ownership of the Joint Ventures is based on our share of the capital of the
respective Joint Ventures. Our share of the cash flows from the Joint Ventures
is allocated based on the cash flows from the underlying loans receivable
contributed by us to the respective Joint Venture less allocated costs based on
the remaining principal on the underlying loans receivable contributed by us
divided by all loans receivable held by the respective Joint Venture.
Our limited partnership allocation of the assets, liabilities and partners'
capital of the Joint Ventures was as follows:
DECEMBER 31, 2002 DECEMBER 31, 2001
---------------------------------- ----------------------
2000 JOINT 2001 JOINT 2002 JOINT 2000 JOINT 2001 JOINT
VENTURE VENTURE VENTURE VENTURE VENTURE
---------- ---------- ---------- ---------- ----------
(IN THOUSANDS)
Loans Receivable, Net $ 20,783 $ 44,269 $ 42,199 $ 26,612 $ 48,648
Asset Acquired in
Liquidation, Net $ 1,411 -- -- -- --
Total Assets $ 22,727 $ 50,232 $ 45,484 $ 28,589 $ 51,922
Total Liabilities $ 18,141 $ 42,875 $ 38,123 $ 23,810 $ 44,933
Partners' Capital $ 4,586 $ 7,357 $ 7,361 $ 4,779 $ 6,989
F-88
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Our limited partnership allocation of the net income (loss) of the Joint
Ventures was as follows:
2002
JOINT
2000 JOINT VENTURE 2001 JOINT VENTURE VENTURE
------------------------------ ------------------- --------
2002 2001 2000 (1) 2002 2001 (2) 2002 (3)
-------- ----- -------- ------- -------- --------
(IN THOUSANDS)
Net Income (Loss) $ (902) $ 756 $ 46 $ 1,894 $ 972 $ 1,069
======= ===== ===== ======= ===== =======
(1) From December 18, 2000 (inception) to December 31, 2000
(2) From June 27, 2001 (inception) to December 31, 2001
(3) From April 12, 2002 (inception) to December 31, 2002
In accordance with SFAS No. 140, our consolidated financial statements do not
include these SPE assets, liabilities, capital, revenues or expenses. As a
result, at December 31, 2002 and 2001, our consolidated balance sheets do not
include the $189.4 million and $171.7 million of assets, respectively, and
$160.1 million and $147.4 million of liabilities, respectively, related to our
structured loan sale transactions recorded by the SPEs. Our Retained Interests
related to these structured loan sale transactions was $37.3 million and $30.6
million at December 31, 2002 and 2001, respectively.
The net unrealized appreciation on our Retained Interests at December 31, 2002
and 2001 was $3.5 million and $2.0 million, respectively. The net increase of
$1.5 million primarily resulted from a decrease in the discount rates used to
value our Retained Interests resulting from the lower interest rate environment
at December 31, 2002 compared to December 31, 2001. Any appreciation
(depreciation) of our Retained Interests is included in the accompanying
statements of operations as either a realized loss (if there is a reduction in
expected future cash flows) or an unrealized gain (loss) on investments.
The income from our Retained Interests is comprised of the yield earned on our
Retained Interests which is determined based on estimates of future cash flows
and includes any fees collected (i.e., late fees, prepayment fees, etc.) by the
SPEs in excess of anticipated fees. We update our cash flow assumptions on a
quarterly basis and any changes to cash flow assumptions impact the yield on our
Retained Interests. The annualized yield on our Retained Interests was 13.7%,
14.9% and 14.2% during 2002, 2001 and 2000, respectively.
We are the servicer for all loans held by the SPEs. Servicing fee income during
2002, 2001 and 2000 for the SPEs was approximately $529,000, $410,000 and
$283,000, respectively. Servicing fee income is included in other income, net,
in our consolidated statements of operations. We have not established a
servicing asset or liability as our servicing fees are considered adequate
compensation.
Pursuant to the trust indentures related to the Structured Notes, we received
approximately $9.5 million and $8.5 million in cash distributions from our SPEs
during 2002 and 2001, respectively.
NOTE 4. INVESTMENT IN UNCONSOLIDATED SUBSIDIARIES:
The following are condensed financial statements of our non-investment company
subsidiaries (PMC Advisers and PMC Funding) as of December 31, 2002 and 2001 and
for the three years in the period ended December 31, 2002:
F-89
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED COMBINED BALANCE SHEETS
DECEMBER 31,
----------------
2002 2001
------ -----
(IN THOUSANDS)
ASSETS
Real estate investments $1,213 $ --
Due from affiliate 585 574
Property and equipment, net 262 294
Cash and cash equivalents 96 40
Other assets 33 33
------ -----
Total assets $2,189 $ 941
====== =====
LIABILITIES AND EQUITY
Liabilities:
Notes payable and advances to affiliates $1,789 $ 574
Other liabilities 319 300
------ -----
2,108 874
====== =====
Equity:
Common stock and additional paid-in capital 627 527
Accumulated deficit (546) (460)
------ -----
81 67
------ -----
Total liabilities and equity $2,189 $ 941
====== =====
CONDENSED COMBINED STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31,
--------------------------
2002 2001 2000
------ ------ ------
(IN THOUSANDS)
Income:
Management fees $2,328 $2,264 $2,199
Other income, net 35 10 40
------ ------ ------
Total income 2,363 2,274 2,239
------ ------ ------
Expenses:
Overhead allocation 1,927 1,803 1,699
Interest 11 -- --
Other expense 118 89 60
------ ------ ------
Total expenses 2,056 1,892 1,759
------ ------ ------
Net income $ 307 $ 382 $ 480
====== ====== ======
In October 2002, PMC Funding acquired two assisted care living facilities with a
fair value of approximately $1.2 million for $101,000 in cash and the assumption
of notes payable to PMC Capital and First Western. PMC Funding operated one of
the two assisted care living facilities while the other facility is vacant. On
January 15, 2003, PMC Funding sold the operating assisted care living facility
for $975,000. The proceeds were used to repay in full the mortgage held by PMC
Capital, including additional costs incurred prior to liquidation and accrued
interest. The remaining funds were used to repay a portion of the receivable due
to First Western; thus, no gain or loss was recorded on the sale.
During 2002, PMC Capital made a $100,000 capital contribution to PMC Advisers.
Other liabilities represent the estimated remaining costs to monitor and
remediate an environmental obligation relating to an asset acquired through
liquidation and subsequently sold during 1999.
F-90
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Earnings and distributions of PMC Advisers and PMC Funding were as follows:
YEARS ENDED DECEMBER 31,
--------------------------
2002 2001 2000
------ ------ ------
(IN THOUSANDS)
Net income (loss):
PMC Advisers $ 401 $ 456 $ 496
PMC Funding (94) (74) (16)
----- ----- -----
Net income $ 307 $ 382 $ 480
===== ===== =====
Dividend distributions:
PMC Advisers $ 393 $ 462 $ 494
PMC Funding -- -- --
----- ----- -----
Total distributions $ 393 $ 462 $ 494
===== ===== =====
NOTE 5. ASSETS ACQUIRED IN LIQUIDATION
At December 31, 2002 and 2001, the aggregate value of our assets acquired in
liquidation, as reduced for anticipated selling and holding costs, was estimated
to be approximately $2,252,000 and $329,000, respectively. Our assets acquired
in liquidation at December 31, 2002 consist primarily of two hotel properties.
We are currently marketing these assets.
During December 2002, we sold a property for approximately $500,000 and recorded
a gain of approximately $113,000. We financed the sale through the origination
of a loan of $325,000 at an interest rate of LIBOR plus 4.5%. The loan matures
in 2022. In addition, First Western sold four properties during 2002 for
approximately $350,000 and recorded losses of approximately $130,000.
The loss from operations of our assets acquired in liquidation consisted of the
following:
YEARS ENDED DECEMBER 31,
--------------------------
2002 2001 2000
------ ----- -----
(IN THOUSANDS)
Room revenue $ 128 $ -- $ --
Salaries and wages (155) -- --
Other operating expenses (364) -- --
----- ----- -----
$(391) $ -- $ --
===== ===== =====
None of our assets acquired in liquidation held at December 31, 2002 were
operated or owned by us during 2001 or 2000.
F-91
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6. NOTES AND DEBENTURES PAYABLE:
Outstanding notes and debentures payable were as follows:
DECEMBER 31,
-----------------
INTEREST RATE MATURITY DATE 2002 2001
------------- ----------------- ------- --------
(IN THOUSANDS)
Notes payable: 8.600% April 19, 2003 $ 5,000 $ 5,000
3.570%(1) April 19, 2004 5,000 5,000
3.670%(2) July 19, 2004 10,000 10,000
7.440% July 19, 2005 10,000 10,000
3.570%(1) July 19, 2006 10,000 10,000
6.970% December 15, 2002 -- 5,000
Debentures payable: 6.875% September 1, 2005 7,000 7,000
7.452%(3) September 1, 2010 3,000 3,000
7.452%(3) September 1, 2010 4,310 4,310
7.510% December 1, 2002 -- 510
8.200% September 1, 2004 -- 3,000
8.200% September 1, 2004 -- 3,000
7.840% March 1, 2005 -- 3,000
6.690% June 1, 2005 -- 5,000
7.590% September 1, 2006 -- 2,490
------- --------
$54,310 $ 76,310
======= ========
(1) Reset quarterly at 1.3% over the three month LIBOR.
(2) Reset quarterly at 1.4% over the three month LIBOR.
(3) Does not include the 1% annual fee that the SBA charges on all SBA
debentures issued after 1996.
We repaid $5.0 million in notes payable at maturity during December 2002. Our
notes payable are uncollateralized and require us to meet certain covenants
(terms as defined in the agreements), the most restrictive of which require (i)
that net loans receivable exceed 150% of funded debt, (ii) loan losses for any
12-month period must not exceed 3% of net loans receivable and (iii) our
consolidated earnings plus interest expense must exceed 150% of interest
expense. At December 31, 2002, we were in compliance with all of the covenants
of these notes.
Debentures payable represent amounts due to the SBA as a result of borrowings
made pursuant to the SBIA. We repaid $17.0 million in debentures due to the SBA
during September and December 2002. At December 31, 2002, the SBA had committed
to us for the issuance of $5.2 million ($4.2 million expiring September 2003 and
$1.0 million expiring September 2004) in new SBA debentures.
We have a $10 million uncollateralized revolving credit facility and a $5
million guidance line facility which expire in May 2004. Advances pursuant to
the credit facility bear interest at our option of the bank's prime rate less 50
basis points or LIBOR plus 175 basis points. The credit facility requires us to
meet certain covenants (terms as defined in the agreement), the most restrictive
of which requires that (i) the ratio of net charge-offs to net loans receivable
not exceed 2%, (ii) the ratio of assets to debt may not fall below 110% for PMC
Capital and 135% including our consolidated subsidiaries and (iii) the problem
loans percentage cannot exceed 10% of our serviced loan portfolio. As of
December 31, 2002 and 2001, we had no borrowings outstanding under this
facility. At December 31, 2002 and 2001, we were in compliance with all
covenants of this facility. Subsequent to year-end we commenced borrowing under
our revolving credit facility and have approximately $3 million outstanding as
of February 28, 2003.
F-92
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Principal payments required on the notes payable and debentures payable at
December 31, 2002, are as follows:
YEAR ENDING SBA
DECEMBER 31, TOTAL DEBENTURES NOTES PAYABLE
------------ ------- ---------- -------------
(IN THOUSANDS)
2003 $ 5,000 $ -- $ 5,000
2004 15,000 -- 15,000
2005 17,000 7,000 10,000
2006 10,000 -- 10,000
2007 -- -- --
Thereafter 7,310 7,310 --
------- ------- -------
$54,310 $14,310 $40,000
======= ======= =======
NOTE 7. CUMULATIVE PREFERRED STOCK OF SUBSIDIARY:
PMCIC has outstanding 30,000 shares of $100 par value, 3% cumulative preferred
stock (the "3% Preferred Stock") and 40,000 shares of $100 par value, 4%
cumulative preferred stock (the "4% Preferred Stock"). The 3% Preferred Stock
and the 4% Preferred Stock (collectively, the "Preferred Stock") are held by the
SBA pursuant to the SBIA.
PMCIC is entitled to redeem, in whole or in part, the 3% Preferred Stock by
paying the par value of these securities plus dividends accumulated and unpaid
on the date of redemption. While the 3% Preferred Stock may be redeemed,
redemption is not mandatory. Dividends of $90,000 were recognized on the 3%
Preferred Stock during each of the years ended December 31, 2002, 2001 and 2000.
The 4% Preferred Stock was issued during 1994 ($2,000,000) and 1995
($2,000,000), and must be redeemed at par no later than 15 years from the date
of issuance. Dividends of $160,000, $160,000 and $161,000 were recognized on the
4% Preferred Stock during 2002, 2001 and 2000, respectively.
Neither series of Preferred Stock has preemptive or conversion rights. The
Preferred Stock provides for a liquidation preference in the amount of $100 per
share plus accrued and unpaid dividends.
NOTE 8. NET UNREALIZED APPRECIATION (DEPRECIATION) ON INVESTMENTS AND REALIZED
AND UNREALIZED GAIN (LOSS) ON INVESTMENTS:
Net unrealized appreciation (depreciation) on investments consisted of the
following:
DECEMBER 31,
-----------------
2002 2001
------- -------
(IN THOUSANDS)
Loans receivable $ (711) $ (443)
Retained Interests 3,462 1,985
Mortgage-backed security of affiliate 68 79
Assets acquired in liquidation (421) --
------ ------
$2,398 $1,621
====== ======
F-93
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Realized and unrealized gain (loss) on investments was as follows:
YEAR ENDED DECEMBER 31, 2002
-----------------------------------------
ASSETS
RETAINED ACQUIRED LOANS
INTERESTS (1) IN LIQUIDATION RECEIVABLE TOTAL
------------- -------------- ---------- -----
(IN THOUSANDS)
Realized losses $ (1,981) $ -- $ (215) $ (2,196)
Sale of assets -- (17) 1,463 1,446
Change in unrealized appreciation (depreciation)
on investments 1,466 (421) (268) 777
--------- ------- -------- ---------
Total realized and unrealized gain (loss) on
investments $ (515) $ (438) $ 80 $ 27
========= ======= ======== =========
YEAR ENDED DECEMBER 31, 2001
-----------------------------------------
ASSETS
RETAINED ACQUIRED LOANS
INTERESTS (1) IN LIQUIDATION RECEIVABLE TOTAL
------------- -------------- ---------- -----
(IN THOUSANDS)
Realized losses $ (1,303) $ -- $ (1,025) $ (2,328)
Sale of assets -- 2,732 2,732
Change in unrealized appreciation on
investments 603 -- 216 819
--------- ------ ---------- ----------
Total realized and unrealized gain (loss) on
investments $ (700) $ -- $ 1,923 $ 1,223
========= ====== ========== ==========
YEAR ENDED DECEMBER 31, 2000
-----------------------------------------
ASSETS
RETAINED ACQUIRED LOANS
INTERESTS (1) IN LIQUIDATION RECEIVABLE TOTAL
------------- -------------- ---------- -----
(IN THOUSANDS)
Realized losses $ -- $ -- $ (17) $ (17)
Sale of assets -- -- 564 564
Change in unrealized appreciation (depreciation)
on investments 871 -- (469) 402
------ ------- ------- ------
Total realized and unrealized gain (loss) on
investments $ 871 $ -- $ 78 $ 949
====== ======= ======= ======
(1) Includes the mortgage-backed security of our affiliate.
NOTE 9. TAXABLE INCOME:
We qualify as a regulated investment company ("RIC") under the Code. If a
company meets certain diversification and distribution requirements, it
qualifies for pass-through tax treatment. We would cease to qualify for
pass-through tax treatment if we were unable to comply with these requirements
or if we ceased to qualify as a business development company under the 1940 Act.
We are also subject to a 4% excise tax (and, in certain cases, corporate level
income tax) if we fail to make certain distributions. Failure to qualify as a
RIC would subject us to Federal income tax as if we were an ordinary
corporation, resulting in a substantial reduction in both our net assets and the
amount of income available for distribution to our shareholders.
We may make an election under the Code to treat distributions declared in the
current year as distributions of the prior year's taxable income. Upon election,
the Code provides that, in certain circumstances, a dividend declared subsequent
to the close of an entity's taxable year and prior to the extended due date of
the entity's tax return may be considered as having been made in the prior tax
year
F-94
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
in satisfaction of income distribution requirements. Having met these
requirements, we elected on our 2001 tax return to apply approximately $2.4
million of 2002 distributions to the 2001 tax year and anticipate utilizing a
portion of 2003 distributions to meet our 2002 distribution requirements.
The following reconciles net income to taxable income available to common
shareholders as follows:
YEARS ENDED DECEMBER 31,
------------------------------------
2002 2001 2000
---------- ---------- ----------
(IN THOUSANDS)
Net income $ 5,983 $ 10,567 $ 11,253
Preferred dividends (250) (250) (251)
---------- ---------- ----------
Net income available to common shareholders 5,733 10,317 11,002
Book/tax differences:
Retained Interests, net 1,371 867 574
Gains on sales (1,463) (2,732) (564)
Valuation adjustments 1,207 637 (585)
Other, net 183 200 137
---------- ---------- ----------
Taxable income available to common shareholders $ 7,031 $ 9,289 $ 10,564
========== ========== ==========
Distributions to common shareholders $ 6,638 $ 10,076 $ 11,846
========== ========== ==========
Distributions per share for dividend reporting purposes were as follows:
YEARS ENDED DECEMBER 31,
-------------------------------------------------------------
2002 2001 2000
------------------- ------------------ -------------------
AMOUNT AMOUNT AMOUNT
PER SHARE PERCENT PER SHARE PERCENT PER SHARE PERCENT
---------- ------- --------- ------- --------- -------
Ordinary income $ 0.560 100.0% $ 0.850 100.0% $ 0.774 77.4%
Return of capital -- -- -- -- 0.226 22.6%
-------- ----- -------- ----- -------- -----
$ 0.560 100.0% $ 0.850 100.0% $ 1.000 100.0%
======== ===== ======== ===== ======== =====
NOTE 10. EARNINGS PER COMMON SHARE COMPUTATIONS:
The computations of basic earnings per common share are based on our weighted
average shares outstanding. The weighted average shares outstanding were
11,854,000, 11,854,000 and 11,841,000 during 2002, 2001 and 2000, respectively.
Due to the effect of stock options, our fully diluted weighted average shares
outstanding were increased by approximately 400 shares and 4,000 shares during
2001 and 2000, respectively. There was no change in the weighted average shares
outstanding during 2002 since our stock options were anti-dilutive.
Options to purchase 236,250, 164,605 and 169,305 common shares were outstanding
during 2002, 2001 and 2000, respectively, but were not included in the
computation of diluted earnings per share because the options' exercise prices
were greater than the average market price of the common stock.
Earnings are defined as net income and are reduced by the preferred stock
dividend requirements of PMCIC. Preferred stock dividend requirements were
approximately $250,000 during each of the years ended December 31, 2002, 2001
and 2000.
NOTE 11. DIVIDENDS PAID AND DECLARED:
During April, July and October 2002, we paid quarterly dividends of $0.16, $0.16
and $0.12 per share of Common Stock to common shareholders of record on March
28, 2002, June 28, 2002 and September 30, 2002, respectively. During December
2002, we declared a $0.12 per share dividend to common shareholders of record on
December 31, 2002, which was paid during January 2003. Dividends declared for
the years ended December 31, 2002, 2001 and 2000 were $0.56 per share, $0.85 per
share and $1.00 per share, respectively.
F-95
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 12. DIVIDEND REINVESTMENT AND CASH PURCHASE PLAN:
We have a dividend reinvestment and cash purchase plan (the "Plan") for up to
1,000,000 shares of common stock. Participants in the Plan have the option to
reinvest all or a portion of dividends received. We use the open market to
purchase shares with the proceeds from the dividend reinvestment portion of the
plan. Accordingly, we do not issue new shares or receive the proceeds. As a
result, we had no share issuances pursuant to the Plan during 2002, 2001 and
2000.
NOTE 13. PROFIT SHARING PLAN:
We have a profit sharing plan available to our full-time employees after one
year of employment. Vesting increases ratably to 100% after the sixth year of
employment. Pursuant to our profit sharing plan, $220,000, $242,000 and
$247,000, respectively, was expensed during 2002, 2001 and 2000, respectively.
Contributions to the profit sharing plan are at the discretion of our Board of
Directors.
NOTE 14. STOCK-BASED COMPENSATION PLAN:
We have applied Accounting Principles Board Opinion No. 25 and related
interpretations in accounting for our stock-based compensation plan. In 1995,
SFAS No. 123 was issued which, if fully adopted by us would have changed the
methods we apply in recognizing the cost of our stock-based compensation plan.
Effective January 1, 2003, we adopted the fair value recognition provisions of
SFAS No. 123 prospectively to all awards granted, modified or settled after
January 1, 2003.
Under The PMC Capital, Inc. 1997 Employee Stock Option Plan (the "Option Plan"),
we are authorized to issue up to 6% of the then outstanding shares of Common
Stock (a maximum of approximately 711,000 shares at December 31, 2002) pursuant
to "Awards" granted to employees as incentive stock options (intended to qualify
under Section 422 of the Code) or non-qualified stock options.
Stock Options
We granted stock options during 2002, 2001 and 2000 to certain employees that
(1) all have contractual terms of five years, (2) have an exercise price equal
to the fair market value of the stock at grant date, and (3) vest within 30 days
of the date of grant.
A summary of the status of our stock options as of December 31, 2002, 2001 and
2000 and the changes during the years ended on those dates are as follows:
2002 2001 2000
--------------------- -------------------- -----------------------
NUMBER OF WEIGHTED NUMBER OF WEIGHTED NUMBER OF WEIGHTED
SHARES AVERAGE SHARES AVERAGE SHARES AVERAGE
UNDERLYING EXERCISE UNDERLYING EXERCISE UNDERLYING EXERCISE
OPTIONS PRICES OPTIONS PRICES OPTIONS PRICES
----------- -------- ---------- -------- ---------- --------
Outstanding, January 1 251,355 $ 10.96 209,905 $ 11.72 196,055 $ 12.15
Granted 58,350 $ 6.64 57,250 $ 8.00 66,800 $ 9.03
Exercised -- -- -- -- (24,400) $ 8.06
Forfeited (3,150) $ 8.47 (15,800) $ 11.11 (28,550) $ 11.55
Expired (70,305) $ 14.23 -- -- -- --
----------- ---------- ----------
Outstanding, December 31 236,250 $ 8.92 251,355 $ 10.96 209,905 $ 11.72
=========== ======== ========== ======== ========== ========
Exercisable, December 31 178,050 $ 9.67 198,605 $ 11.75 150,605 $ 12.77
=========== ======== ========== ======== ========== ========
Weighted-average fair
value of stock options
granted during the year $ 0.55 $ 0.35 $ 0.57
=========== ========== ==========
F-96
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The fair value of each stock option granted is estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted-average
assumptions for grants during 2002, 2001 and 2000:
ASSUMPTION 2002 2001 2000
---------------------------- ------- ------- ------
Expected Term (years) 3.0 3.0 3.0
Risk-Free Interest Rate 3.56% 4.39% 6.40%
Expected Dividend Yield 8.43% 10.63% 11.03%
Expected Volatility 23.14% 17.69% 19.78%
The following table summarizes information about stock options outstanding at
December 31, 2002:
NUMBER WEIGHTED NUMBER
OUTSTANDING WEIGHTED AVERAGE EXERCISABLE WEIGHTED
AT AVERAGE REMAINING AT AVERAGE
RANGE OF DECEMBER 31, EXERCISE CONTRACTUAL DECEMBER 31, EXERCISE
EXERCISE PRICES 2002 PRICE LIFE 2002 PRICE
--------------- ------------ --------- ----------- ------------ --------
$6.64 to $9.06 197,050 $ 7.90 3.10 138,850 $ 8.43
$14.0625 to $14.0625 39,200 $ 14.06 0.40 39,200 $ 14.06
-------------------- ------- --------
$6.64 to $14.0625 236,250 $ 8.92 2.70 178,050 $ 9.67
======= ========
NOTE 15. FAIR VALUES OF LIABILITIES:
The estimates of fair value of our notes and debentures payable as required by
SFAS No. 107 differ from the carrying amounts of liabilities primarily as a
result of the effects of discounting future cash flows. The estimated fair value
is based on a present value calculation based on prices of the same or similar
instruments after considering risk, current interest rates and remaining
maturities. Considerable judgment is required to interpret market data and
develop estimates of fair value. Accordingly, our estimate of the fair value of
our notes and debentures payable may not be indicative of the amounts we could
realize in a current market exchange.
The estimated fair values of our notes and debentures payable were as follows:
YEARS ENDED DECEMBER 31,
--------------------------------------------
2002 2001
--------------------- ---------------------
ESTIMATED ESTIMATED
CARRYING FAIR CARRYING FAIR
VALUE VALUE VALUE VALUE
---------- --------- ---------- ----------
(IN THOUSANDS)
Notes and debentures payable $ 54,310 $ 54,915 $ 76,310 $ 75,999
========== ========= ========== ==========
NOTE 16. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Information regarding our non-cash activities was as follows:
YEARS ENDED DECEMBER 31,
--------------------------
2002 2001 2000
-------- -------- ------
(IN THOUSANDS)
Interest paid $ 4,848 $ 5,493 $ 5,348
======== ======== =======
Loans and interest receivable transferred to SPEs, net $ 4,435 $ 4,215 $ 3,154
======== ======== =======
Reclassification from loans receivable to assets
acquired in liquidation $ 2,629 $ 314 $ --
======== ======== =======
Assumption of loans receivable by affiliate $ 885 $ -- $ --
======== ======== =======
Loan receivable originated in connection with sale of
asset acquired in liquidation $ 325 $ -- $ --
======== ======== =======
Loans and interest receivable transferred from SPE, net $ -- $ 6,409 $ --
======== ======== =======
F-97
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 17. RELATED PARTY TRANSACTIONS:
Pursuant to SBA rules and regulations, distributions from our consolidated
subsidiaries, First Western, PMCIC and Western Financial, are limited. As of
both December 31, 2002 and 2001, the amounts of dividends available for
distribution were approximately $0.5 million.
We are affiliated with PMC Commercial through common management. Our executive
officers are the same as the executive officers of PMC Commercial and three of
our directors or officers are trust managers of PMC Commercial. PMC Advisers
evaluates and services loans receivable and other investments of PMC Commercial
pursuant to the investment management agreements entered into between PMC
Commercial and PMC Advisers. Through June 30, 2000, PMC Advisers charged fees of
between 0.40% and 1.67%, annually, to PMC Commercial based upon the average
principal outstanding of PMC Commercial's loans. Commencing July 1, 2000, the
highest rate charged was reduced from 1.67% to 1.55%. In addition, the
investment management agreements (i) provide for an annual fee of 0.70% of the
original cost of properties owned by PMC Commercial and (ii) include
compensation to PMC Advisers for its assistance in the issuance of PMC
Commercial's debt and equity securities and the acquisition by PMC Commercial of
properties. The investment management agreements were amended on July 1, 2001 to
provide for a fee of $10,000 upon the sale of each limited service hospitality
property owned by PMC Commercial and an annual loan origination fee equal to
five basis points of loans funded for the first $20 million in loans and 2.5
basis points thereafter. The investment management agreements are renewable on
an annual basis. In the event the investment management agreements are
terminated or not renewed by PMC Commercial (other than as a result of a
material breach by PMC Advisers) or terminated by PMC Advisers (as a result of a
material breach by PMC Commercial), certain compensation is required to be paid
to PMC Advisers by PMC Commercial.
Fees earned pursuant to the investment management agreements were as follows:
YEARS ENDED DECEMBER 31,
-----------------------------
2002 2001 2000
-------- -------- ---------
(IN THOUSANDS)
Loan servicing and origination fee $ 1,927 $ 1,803 $ 1,699
Lease supervision fee 401 461 500
-------- -------- ---------
$ 2,328 $ 2,264 $ 2,199
======== ======== =========
PMC Capital allocates overhead to PMC Advisers to the extent that PMC Advisers
utilizes the staff and facilities of PMC Capital. The overhead allocated during
2002, 2001 and 2000, was $1,927,000, $1,803,000 and $1,699,000, respectively.
These amounts are included in advisory fee income in the accompanying
consolidated statements of operations. In no event will the allocated expenses
exceed the income available from the operations of PMC Advisers. The lease
supervision fee is included in equity in income of unconsolidated subsidiary,
net in the accompanying consolidated statements of operations. At December 31,
2002 and 2001, the balance due to PMC Advisers from PMC Commercial under the
investment management agreements was $585,000 and $574,000, respectively.
In October 2002, PMC Funding acquired two assisted care living facilities with a
fair value of approximately $1.2 million for $101,000 in cash and the assumption
of notes payable to PMC Capital and First Western. PMC Funding operated one of
the two assisted care living facilities while the other facility is vacant. On
January 15, 2003, PMC Funding sold the operating assisted care living facility
for $975,000. The proceeds were used to repay in full the mortgage held by PMC
Capital, including additional costs incurred prior to liquidation and accrued
interest. The remaining funds were used to repay a portion of the receivable due
to First Western. As of December 31, 2002, the underlying loan receivable held
by PMC Capital related to these facilities was valued at approximately $788,000.
During December 2002, PMC Capital exercised its option to repurchase a loan
which was deemed to be a "charged-off" loan (in accordance with the transaction
documents) from the 2000 Joint Venture for its principal balance of $2.3 million
plus accrued interest.
NOTE 18. COMMITMENTS AND CONTINGENCIES:
Operating Leases
In September 1998, we entered into a five-year lease for office space commencing
December 1998. We may at our option, renew the
F-98
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
term of the lease for two additional five-year periods. At December 31, 2002, we
had an agreement to lease office space in Missouri. Rental expense amounted to
approximately $328,000, $321,000 and $315,000 during 2002, 2001 and 2000,
respectively. Future minimum payments remaining under these leases are $284,000
for 2003 and $24,000 for 2004.
Loan Commitments
Commitments to extend credit are agreements to lend to a customer provided that
the terms established in the contract are met. At December 31, 2002, we had
approximately $29.4 million of total loan commitments outstanding. Of these
commitments, $5.5 million are for loans to be originated by First Western, a
portion of which will be sold pursuant to SBA Guaranteed Sales. Commitments
generally have fixed expiration dates and require payment of a fee to us. Since
some commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements.
Employment Agreements
We have employment contracts with certain of our officers for terms expiring
through June 2004. Annual remuneration during the term of the contracts does not
exceed $315,000 for any one individual. Future minimum payments under these
contracts are $1,182,000, $1,058,000 and $467,000 in 2003, 2004 and 2005,
respectively.
Compensation to officers was approximately $1.6 million during each of the years
ended December 31, 2002, 2001 and 2000.
Litigation
In the normal course of business, including the operation of our assets acquired
in liquidation, we are subject to various proceedings and claims, the resolution
of which will not, in management's opinion, have a material adverse effect on
our consolidated financial position or results of operations.
Structured Loan Sale Transactions
PMC Capital and PMC Commercial have entered into cross indemnification
agreements regarding the performance of their respective loans receivable sold
to the Joint Ventures. To the extent that poor performance by either PMC Capital
or PMC Commercial's sold loans receivable (the "Underperforming Company") is
pervasive enough to cause the other company (the "Performing Company") to not
receive cash flow that it otherwise would have received, then the
Underperforming Company must make the Performing Company whole. If the cash flow
reduction is considered to be temporary, then interest will be paid as
compensation to the Performing Company. In general, when a loan is liquidated,
it may cause a deferral of cash flow to the Performing Company and, as a result,
interest would be charged to the Underperforming Company until the cash flow
from the Joint Venture repays the Performing Company. As a result of the Credit
Enhancement Provisions described below, PMC Commercial had a cash deferral, and
we paid compensation to PMC Commercial of less than $1,000. If the reduction of
cash flows is deemed permanent, (i.e., to the extent that the Underperforming
Company will not be able to satisfy the shortfall with the assets they have
contributed to the related structured loan sale transaction), the reduction in
cash flows must be paid to the Performing Company by the Underperforming
Company. At December 31, 2002, the maximum potential amount of future payments
to PMC Commercial (undiscounted and without consideration of any recoveries from
the underlying loans receivable) we could be required to make under these cross
indemnification agreements was approximately $34.3 million and the discounted
amount was $23.5 million which represents the estimated fair value of the
Retained Interests reflected on PMC Commercial's consolidated balance sheet for
the Joint Ventures. All of our loans are collateralized; however, the maximum
potential amount of future payments we could be required to make under these
cross indemnification agreements has not considered any proceeds from the
liquidation of collateral underlying these loans. Upon completion of a joint
securitization and on each subsequent quarterly reporting date, management
evaluates the need to recognize a liability associated with these cross
indemnification agreement. Based on our present cash flow assumptions, including
stress test analyses of increasing the anticipated losses on each of the loan
pools, it does not appear that the loans receivable sold by us will cause any
permanent cash flow reductions to PMC Commercial nor will the loans receivable
sold by PMC Commercial cause any permanent cash flow reductions to us.
Accordingly, we believe that the fair value of these cross indemnification
agreements at inception of the Joint Ventures and as of December 31, 2002 and
2001 was zero; thus, no liability was recorded. If the performance of our sold
loans receivable deteriorates, it may be necessary for us to perform under these
cross indemnification agreements.
When our structured loan sale transactions were completed, the transaction
documents that the SPE entered into contained provisions (the "Credit
Enhancement Provisions") that govern the assets and the flow of funds in and out
of the SPE formed as part of the structured loan sale transactions. The Credit
Enhancement Provisions include specified limits on the delinquency, default and
loss
F-99
PMC CAPITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
rates on loans receivable included in each SPE. If, at any measurement date, the
delinquency, default or loss rate with respect to any SPE were to exceed the
specified limits, the Credit Enhancement Provisions would automatically increase
the level of credit enhancement requirements for that SPE. During the period in
which the specified delinquency, default or loss rate was exceeded, excess cash
flow from the SPE, if any, would be used to fund the increased credit
enhancement levels instead of being distributed, which would delay or reduce our
distribution. As a result of our impaired loans in the 2000 Joint Venture, a
Credit Enhancement Provision was triggered in November 2002. As a consequence,
cash flows relating to this transaction were deferred and utilized to fund the
increased reserve requirements. Our cash flow deferral at December 31, 2002 and
February 28, 2003 was approximately $192,000 and $282,000, respectively. Based
on current cash flow assumptions, management anticipates that these funds will
be received in future periods.
NOTE 19. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED):
The following represents our selected quarterly financial data which, in the
opinion of management, reflects adjustments (comprising only normal recurring
adjustments) necessary for fair presentation.
YEAR ENDED DECEMBER 31, 2002
----------------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER (1) QUARTER (1) QUARTER TOTAL
------- ----------- ----------- ------- -----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Total investment income $ 4,785 $ 3,968 $ 3,704 $ 4,205 $ 16,662
Net investment income $ 2,119 $ 1,221 $ 941 $ 1,675 $ 5,956
Total realized and unrealized gain (loss) on investments $ (439) $ 1,243 $ (392) $ (385) $ 27
Net income $ 1,680 $ 2,464 $ 549 $ 1,290 $ 5,983
Basic and diluted earnings per share $ 0.14 $ 0.20 $ 0.04 $ 0.10 $ 0.48
YEAR ENDED DECEMBER 31, 2001
--------------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER TOTAL
------- ------- ------- ------- -----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Total investment income $ 5,253 $ 5,582 $ 4,836 $ 5,081 $ 20,752
Net investment income $ 2,333 $ 2,455 $ 2,132 $ 2,424 $ 9,344
Total realized and unrealized gain (loss) on investments $ 127 $ 2,071 $ (242) $ (733) $ 1,223
Net income $ 2,460 $ 4,526 $ 1,890 $ 1,691 $ 10,567
Basic and diluted earnings per share $ 0.20 $ 0.38 $ 0.15 $ 0.14 $ 0.87
(1) Certain amounts were previously reported in discontinued operations in
our quarterly filings on Form 10-Q for the periods ended June 30, 2002 and
September 30, 2002. Such amounts have been reclassified to the presentation
adopted at December 31, 2002 and are included as a component of net investment
income.
NOTE 20. SUBSEQUENT EVENTS:
On March 27, 2003, we entered into an Agreement and Plan of Merger with PMC
Commercial. Under the terms of the merger agreement, PMC Capital will be merged
into PMC Commercial, with PMC Commercial continuing as the surviving entity.
Each issued and outstanding share of PMC Capital common stock will be converted
into 0.37 of a common share of PMC Commercial. The merger has been recommended
by each company's special committee and approved by the Board of Directors of
PMC Capital and the Board of Trust Managers of PMC Commercial. In addition, the
boards and management of each company have entered into voting agreements
pursuant to which they have agreed to vote their shares in favor of the merger
and related transactions. Completion of the merger, which is expected to occur
in the fourth quarter of 2003, is subject to approval by the shareholders of PMC
Capital and PMC Commercial, certain governmental consents and customary closing
conditions.
During March 2003, we declared a $0.12 per share dividend to common shareholders
of record on March 31, 2003, to be paid on April 14, 2003.
F-100
REPORT OF INDEPENDENT ACCOUNTANTS
ON ACCOMPANYING CONSOLIDATING INFORMATION
To the Shareholders and Board of Directors of PMC Capital, Inc.:
The report on our audit of the consolidated financial statements of PMC Capital,
Inc. and its subsidiaries as of December 31, 2002 and for the year then ended
appears on page F-69 of this Registration Statement on Form S-4. That audit was
conducted for the purpose of forming an opinion on the consolidated financial
statements taken as a whole. The consolidating information is presented for
purposes of additional analysis of the consolidated financial statements rather
than to present the financial position, results of operations and cash flows of
the individual companies. The consolidating information has been subjected to
the auditing procedures applied in the audit of the consolidated financial
statements and, in our opinion, is fairly stated in all material respects in
relation to the consolidated financial statements taken as a whole.
PRICEWATERHOUSECOOPERS LLP
Dallas, Texas
March 11, 2003, except for Note 20,
as to which the date is March 27, 2003
F-101
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATING BALANCE SHEET
DECEMBER 31, 2002
(IN THOUSANDS)
FIRST WESTERN
CONSOLIDATED WESTERN SBLC, FINANCIAL PMC
BEFORE PMC CAPITAL, INC. AND CAPITAL INVESTMENT
CONSOLIDATED ELIMINATION ELIMINATION INC. SUBSIDIARY CORPORATION CORPORATION
------------ ----------- ----------- --------- ---------- ----------- -----------
ASSETS
INVESTMENTS AT VALUE:
Loans receivable $ 87,245 $ -- $ 87,245 $ 33,380 $ 14,469 $ 12,859 $ 26,537
Retained interests in
transferred assets 40,003 -- 40,003 37,271 2,732 -- --
Cash equivalents 4,915 -- 4,915 2,044 108 209 2,554
Mortgage-backed security of
affiliate 1,381 -- 1,381 1,381 -- -- --
Restricted investments 299 -- 299 121 178 -- --
Investment in subsidiaries 81 (22,180) 22,261 22,261 -- -- --
Assets acquired in
liquidation 2,252 -- 2,252 1,171 -- -- 1,081
--------- --------- --------- --------- --------- --------- ---------
Total investments at value 136,176 (22,180) 158,356 97,629 17,487 13,068 30,172
--------- --------- --------- --------- --------- --------- ---------
OTHER ASSETS:
Due from affiliates 1,839 (16,140) 17,979 17,597 382 -- --
Deferred charges, deposits
and other assets 728 -- 728 274 148 149 157
Receivable for loans sold 637 -- 637 -- 637 -- --
Accrued interest receivable 225 -- 225 91 30 26 78
Cash 563 -- 563 172 352 23 16
Property and equipment, net 98 -- 98 98 -- -- --
--------- --------- --------- --------- --------- --------- ---------
Total other assets 4,090 (16,140) 20,230 18,232 1,549 198 251
--------- --------- --------- --------- --------- --------- ---------
TOTAL ASSETS $ 140,266 $ (38,320) $ 178,586 $ 115,861 $ 19,036 $ 13,266 $ 30,423
========= ========= ========= ========= ========= ========= =========
LIABILITIES AND SHAREHOLDERS'
EQUITY
LIABILITIES:
Current portion of notes and
debentures payable $ 5,000 $ -- $ 5,000 $ 5,000 $ -- $ -- $ --
Dividends payable 1,486 -- 1,486 1,423 -- -- 63
Borrower advances 1,754 -- 1,754 798 138 422 396
Accrued interest payable 748 -- 748 355 12 130 251
Accounts payable 1,569 -- 1,569 123 1,428 -- 18
Due to affiliates 102 (694) 796 101 -- 403 292
Other liabilities 1,294 -- 1,294 1,058 65 -- 171
--------- --------- --------- --------- --------- --------- ---------
Total current liabilities 11,953 (694) 12,647 8,858 1,643 955 1,191
Notes and debentures payable 49,310 (15,446) 64,756 35,000 15,446 4,310 10,000
--------- --------- --------- --------- --------- --------- ---------
TOTAL LIABILITIES 61,263 (16,140) 77,403 43,858 17,089 5,265 11,191
--------- --------- --------- --------- --------- --------- ---------
Commitments and contingencies
Cumulative preferred stock of
subsidiary 7,000 3,000 4,000 -- -- -- 4,000
--------- --------- --------- --------- --------- --------- ---------
SHAREHOLDERS' EQUITY:
Cumulative preferred stock of
subsidiary, 3% -- (3,000) 3,000 -- -- -- 3,000
Common stock 119 (22) 141 119 -- 21 1
Additional paid-in capital 71,508 (22,373) 93,881 71,508 2,000 7,934 12,439
Undistributed (dividends in
excess of) retained earnings (2,022) (785) (1,237) (2,691) 850 330 274
Net unrealized appreciation
(depreciation) on
investments 2,398 -- 2,398 3,067 97 (284) (482)
--------- --------- --------- --------- --------- --------- ---------
72,003 (26,180) 98,183 72,003 2,947 8,001 15,232
Less treasury stock -- 1,000 (1,000) -- (1,000) -- --
--------- --------- --------- --------- --------- --------- ---------
Total shareholders' equity 72,003 (25,180) 97,183 72,003 1,947 8,001 15,232
--------- --------- --------- --------- --------- --------- ---------
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $ 140,266 $ (38,320) $ 178,586 $ 115,861 $ 19,036 $ 13,266 $ 30,423
========= ========= ========= ========= ========= ========= =========
THE ACCOMPANYING NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL
PART OF THESE CONSOLIDATING FINANCIAL STATEMENTS.
F-102
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATING STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 2002
(IN THOUSANDS, EXCEPT PER SHARE DATA)
FIRST WESTERN
CONSOLIDATED PMC WESTERN SBLC, FINANCIAL PMC
BEFORE CAPITAL, INC. AND CAPITAL INVESTMENT
CONSOLIDATED ELIMINATION ELIMINATION INC. SUBSIDIARY CORPORATION CORPORATION
------------ ----------- ----------- -------- ---------- ----------- -----------
INVESTMENT INCOME:
Interest $ 7,507 $ -- $ 7,507 $ 2,828 $ 1,393 $ 996 $ 2,290
Income from retained interests in
transferred assets 5,202 -- 5,202 4,675 527 -- --
Advisory fee income 1,927 -- 1,927 1,927 -- -- --
Premium income 650 -- 650 -- 650 -- --
Equity in income of subsidiaries,
net 307 (2,698) 3,005 3,005 -- -- --
Other income, net 1,069 -- 1,069 679 97 191 102
-------- -------- -------- -------- -------- -------- --------
Total investment income 16,662 (2,698) 19,360 13,114 2,667 1,187 2,392
-------- -------- -------- -------- -------- -------- --------
EXPENSES:
Interest 4,588 -- 4,588 2,349 3 757 1,479
Salaries and related benefits 3,940 -- 3,940 3,940 -- -- --
General and administrative 914 -- 914 849 30 13 22
Loss from operations of assets
acquired in liquidation 391 -- 391 2 2 -- 387
Rent 328 -- 328 328 -- -- --
Professional fees 325 -- 325 325 -- -- --
Profit sharing plan 220 -- 220 220 -- -- --
-------- -------- -------- -------- -------- -------- --------
Total expenses 10,706 -- 10,706 8,013 35 770 1,888
-------- -------- -------- -------- -------- -------- --------
Net investment income 5,956 (2,698) 8,654 5,101 2,632 417 504
-------- -------- -------- -------- -------- -------- --------
REALIZED AND UNREALIZED GAIN (LOSS)
ON INVESTMENTS:
Realized losses (2,196) -- (2,196) (1,981) (215) -- --
Sale of assets 1,446 -- 1,446 1,463 (130) -- 113
Change in unrealized
appreciation (depreciation)
on investments 777 -- 777 1,400 85 (248) (460)
-------- -------- -------- -------- -------- -------- --------
Total realized and unrealized gain
(loss) on investments 27 -- 27 882 (260) (248) (347)
-------- -------- -------- -------- -------- -------- --------
NET INCREASE IN NET ASSETS RESULTING
FROM OPERATIONS $ 5,983 $ (2,698) $ 8,681 $ 5,983 $ 2,372 $ 169 $ 157
======== ======== ======== ======== ======== ======== ========
Preferred dividends $ 250 $ (250) $ 500 $ 250 $ -- $ -- $ 250
======== ======== ======== ======== ======== ======== ========
Basic and diluted earnings per share $ 0.48
========
THE ACCOMPANYING NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL
PART OF THESE CONSOLIDATING FINANCIAL STATEMENTS.
F-103
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATING STATEMENT OF SHAREHOLDERS' EQUITY
DECEMBER 31, 2002
(IN THOUSANDS)
UNDISTRIBUTED NET
(DIVIDENDS IN UNREALIZED
ADDITIONAL EXCESS OF) APPRECIATION TOTAL
PREFERRED COMMON PAID-IN RETAINED (DEPRECIATION) TREASURY SHAREHOLDERS'
STOCK, 3% STOCK CAPITAL EARNINGS ON INVESTMENTS STOCK EQUITY
--------- -------- -------- -------- -------- --------- --------
PMC CAPITAL, INC
Balances, January 1, 2002 $ -- $ 119 $ 71,508 $ (386) $ 1,667 $ -- $ 72,908
Net increase in net assets
resulting from operations -- -- -- 4,583 1,400 -- 5,983
Preferred dividend of
consolidated subsidiary -- -- -- (250) -- -- (250)
Dividends on common stock -- -- -- (6,638) -- -- (6,638)
--------- -------- -------- -------- -------- --------- --------
Balance, December 31, 2002 $ -- $ 119 $ 71,508 $ (2,691) $ 3,067 $ -- $ 72,003
========= ======== ======== ======== ======== ========= ========
FIRST WESTERN SBLC, INC. AND
SUBSIDIARY
Balances, January 1, 2002 $ -- $ -- $ 2,000 $ 1,113 $ 12 $ (1,000) $ 2,125
Net increase in net assets
resulting from operations -- -- -- 2,287 85 -- 2,372
Dividends to parent company -- -- -- (2,550) -- -- (2,550)
--------- -------- -------- -------- -------- --------- --------
Balance, December 31, 2002 $ -- $ -- $ 2,000 $ 850 $ 97 $ (1,000) $ 1,947
========= ======== ======== ======== ======== ========= ========
WESTERN FINANCIAL CAPITAL
CORPORATION
Balances, January 1, 2002 $ -- $ 21 $ 7,934 $ 113 $ (36) $ -- $ 8,032
Net increase in net assets
resulting from operations -- -- -- 417 (248) -- 169
Dividends to parent company -- -- -- (200) -- -- (200)
--------- -------- -------- -------- -------- --------- --------
Balance, December 31, 2002 $ -- $ 21 $ 7,934 $ 330 $ (284) $ -- $ 8,001
========= ======== ======== ======== ======== ========= ========
PMC INVESTMENT CORPORATION
Balances, January 1, 2002 $ 3,000 $ 1 $ 12,439 $ 57 $ (22) $ -- $ 15,475
Net increase in net assets
resulting from operations -- -- -- 617 (460) -- 157
Dividends to parent company -- -- -- (150) -- -- (150)
Dividends, preferred -- -- -- (250) -- -- (250)
--------- -------- -------- -------- -------- --------- --------
Balance, December 31, 2002 $ 3,000 $ 1 $ 12,439 $ 274 $ (482) $ -- $ 15,232
========= ======== ======== ======== ======== ========= ========
ELIMINATION ADJUSTMENTS
Equity in income of
subsidiaries -- -- -- (2,698) -- -- (2,698)
Dividends to parent company -- -- -- 2,900 -- -- 2,900
Preferred dividend of
consolidated subsidiary -- -- -- 250 -- -- 250
Stock of subsidiaries (3,000) (22) (22,373) -- -- 1,000 (24,395)
Undistributed earnings of
subsidiaries -- -- -- (1,237) -- -- (1,237)
--------- -------- -------- -------- -------- --------- --------
(3,000) (22) (22,373) (785) -- 1,000 (25,180)
--------- -------- -------- -------- -------- --------- --------
CONSOLIDATED $ -- $ 119 $ 71,508 $ (2,022) $ 2,398 $ -- $ 72,003
========= ======== ======== ======== ======== ========= ========
THE ACCOMPANYING NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL
PART OF THESE CONSOLIDATING FINANCIAL STATEMENTS.
F-104
PMC CAPITAL, INC. AND SUBSIDIARIES
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 2002
(IN THOUSANDS)
CONSOLIDATED FIRST WESTERN
BEFORE PMC WESTERN SBLC, FINANCIAL PMC
ELIMINATION ELIMINATION CAPITAL, INC. AND CAPITAL INVESTMENT
CONSOLIDATED ENTRIES ENTRIES INC. SUBSIDIARY CORPORATION CORPORATION
------------ --------- -------- -------- ---------- ----------- -----------
CASH FLOWS FROM OPERATING
ACTIVITIES:
Net increase in net assets
resulting from operations $ 5,983 $ (2,698) $ 8,681 $ 5,983 $ 2,372 $ 169 $ 157
Adjustments to reconcile net
increase in net assets
resulting from operations
to net cash provided by
operating activities:
Loans funded, held for
sale (6,006) -- (6,006) -- (6,006) -- --
Proceeds from sale of
guaranteed loans 6,146 -- 6,146 -- 6,146 -- --
Realized and unrealized
(gain) loss on
investments (27) -- (27) (882) 260 248 347
Unrealized premium
income, net (65) -- (65) -- (65) -- --
Depreciation and
amortization 254 -- 254 70 -- 66 118
Accretion of loan
discount and
deferred fees (136) -- (136) (10) (118) -- (8)
Equity in income of
unconsolidated
subsidiaries, net (307) 2,698 (3,005) (3,005) -- -- --
Other operating assets
and liabilities 1,661 -- 1,661 480 668 63 450
-------- --------- -------- -------- -------- -------- --------
NET CASH PROVIDED BY OPERATING
ACTIVITIES 7,503 -- 7,503 2,636 3,257 546 1,064
-------- --------- -------- -------- -------- -------- --------
CASH FLOWS FROM INVESTING
ACTIVITIES:
Loans funded (39,807) -- (39,807) (10,875) (2,574) (10,344) (16,014)
Purchase of loans through
exercise of option (1,176) -- (1,176) (1,176) -- -- --
Principal collected 13,891 -- 13,891 3,241 3,784 1,957 4,909
Proceeds from debt issued by
SPEs, net 37,901 -- 37,901 9,465 -- 10,930 17,506
Proceeds from retained
interests in transferred
assets 4,343 -- 4,343 3,946 397 -- --
Proceeds from mortgage-backed
security of affiliate 313 -- 313 313 -- -- --
Proceeds from sale of assets 498 -- 498 -- 355 -- 143
Distributions from
unconsolidated
subsidiaries 393 -- 393 393 -- -- --
Investment in unconsolidated
subsidiary (100) -- (100) (100) -- -- --
Purchase of property and
equipment and other assets (594) -- (594) (246) (80) -- (268)
Investment in retained
interests in transferred
assets (4,425) -- (4,425) (4,425) -- -- --
Investment in restricted cash (203) -- (203) (121) (82) -- --
Advances (to) from
unconsolidated affiliates,
net (541) -- (541) (1,022) -- 936 (455)
-------- --------- -------- -------- -------- -------- --------
NET CASH PROVIDED BY (USED IN)
INVESTING ACTIVITIES 10,493 -- 10,493 (607) 1,800 3,479 5,821
-------- --------- -------- -------- -------- -------- --------
CASH FLOWS FROM FINANCING
ACTIVITIES:
Payment of dividends to
parent -- -- -- 2,900 (2,550) (200) (150)
Payment of dividends on
common stock (7,586) -- (7,586) (7,586) -- -- --
Payment of dividends on
preferred stock (250) -- (250) -- -- -- (250)
Payment of notes payable (5,000) -- (5,000) (5,000) -- -- --
Payment of SBA debentures (17,000) -- (17,000) -- -- (6,000) (11,000)
Advances to unconsolidated
affiliates, net -- -- -- 3,039 (3,039) -- --
-------- --------- -------- -------- -------- -------- --------
NET CASH USED IN FINANCING
ACTIVITIES (29,836) -- (29,836) (6,647) (5,589) (6,200) (11,400)
-------- --------- -------- -------- -------- -------- --------
NET DECREASE IN CASH AND CASH
EQUIVALENTS (11,840) -- (11,840) (4,618) (532) (2,175) (4,515)
CASH AND CASH EQUIVALENTS,
BEGINNING OF YEAR 17,318 -- 17,318 6,834 992 2,407 7,085
-------- --------- -------- -------- -------- -------- --------
CASH AND CASH EQUIVALENTS, END
OF YEAR $ 5,478 $ -- $ 5,478 $ 2,216 $ 460 $ 232 $ 2,570
======== ========= ======== ======== ======== ======== ========
SUPPLEMENTAL DISCLOSURE:
Interest paid $ 4,848 $ -- $ 4,848 $ 2,435 $ 14 $ 847 $ 1,552
======== ========= ======== ======== ======== ======== ========
Loans and interest
receivable transferred
to SPE, net $ 4,435 $ -- $ 4,435 $ 4,435 $ -- $ -- $ --
======== ========= ======== ======== ======== ======== ========
Reclassification from
loans receivable to
assets acquired in
liquidation $ 2,629 $ -- $ 2,629 $ 1,083 $ 105 $ -- $ 1,441
======== ========= ======== ======== ======== ======== ========
Assumption of loans
receivable by affiliate $ 885 $ -- $ 885 $ 789 $ 96 $ -- $ --
======== ========= ======== ======== ======== ======== ========
Loan receivable originated
in connection with
sale of asset acquired
in liquidation $ 325 $ -- $ 325 $ -- $ -- $ -- $ 325
======== ========= ======== ======== ======== ======== ========
THE ACCOMPANYING NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL
PART OF THESE CONSOLIDATING FINANCIAL STATEMENTS.
F-105
ANNEX A
AGREEMENT AND PLAN OF MERGER
BY AND BETWEEN
PMC COMMERCIAL TRUST
AND
PMC CAPITAL, INC.
----------
DATED AS OF MARCH 27, 2003
----------
TABLE OF CONTENTS
ARTICLE I THE MERGER..................................................................................2
1.1. The Merger..................................................................................2
1.2. Closing.....................................................................................2
1.3. Effective Time..............................................................................2
1.4. Effects of the Merger.......................................................................2
1.5. Charter and Bylaws..........................................................................2
1.6. Taking of Necessary Action..................................................................3
ARTICLE II BOARD AND OFFICERS OF THE SURVIVING ENTITY..................................................3
2.1. Board of the Surviving Entity...............................................................3
2.2. Officers of the Surviving Entity............................................................3
ARTICLE III EFFECT OF THE MERGER ON THE CAPITAL STOCK OF THE CONSTITUENT ENTITIES......................3
3.1. Effect on Capital Stock.....................................................................3
3.2. Capital Stock Options and Related Matters...................................................4
ARTICLE IV PAYMENT FOR SHARES; EXCHANGE OF CERTIFICATES................................................5
4.1. Exchange Agent..............................................................................5
4.2. Exchange Procedures.........................................................................5
4.3. Dividends and Distributions.................................................................6
4.4. No Further Ownership Rights in Capital Common Stock.........................................7
4.5. Termination of Exchange Fund................................................................7
4.6. No Liability................................................................................7
4.7. Lost Certificates...........................................................................7
4.8. Withholding Rights..........................................................................7
4.9. No Fractional Shares........................................................................8
4.10. Voting Rights...............................................................................8
ARTICLE V REPRESENTATIONS AND WARRANTIES OF CAPITAL...................................................9
5.1. Organization, Standing and Corporate Power of Capital.......................................9
5.2. Capital Subsidiaries........................................................................9
5.3. Capital Structure..........................................................................10
5.4. Authority; Noncontravention................................................................10
5.5. Consents...................................................................................11
5.6. SEC Documents; Financial Statements; Undisclosed Liabilities...............................12
5.7. Binding Effect.............................................................................12
5.8. Absence of Certain Changes or Events.......................................................12
5.9. Litigation.................................................................................13
5.10. Environmental Matters......................................................................13
5.11. Related Party Transactions.................................................................14
5.12. Absence of Changes in Benefit Plans; ERISA Compliance......................................14
5.13. Properties.................................................................................15
5.14. Taxes......................................................................................16
5.15. No Payments to Employees, Officers or Directors............................................16
5.16. Brokers; Schedule of Fees and Expenses.....................................................17
5.17. Compliance with Laws.......................................................................17
5.18. Contracts; Debt Instruments................................................................17
5.19. Opinion of Financial Advisor...............................................................17
5.20. Takeover Statutes..........................................................................17
5.21. Registration Statement and Proxy Statement.................................................17
5.22. Vote Required..............................................................................18
ARTICLE VI REPRESENTATIONS AND WARRANTIES OF TRUST....................................................18
6.1. Organization, Standing and Power of Trust..................................................18
6.2. Trust Subsidiaries.........................................................................18
6.3. Capital Structure..........................................................................19
6.4. Authority; Noncontravention................................................................19
6.5. Consents...................................................................................20
6.6. SEC Documents; Financial Statements; Undisclosed Liabilities...............................20
6.7. Binding Effect.............................................................................21
6.8. Absence of Certain Changes or Events.......................................................21
6.9. Litigation.................................................................................22
6.10. Environmental Matters......................................................................22
6.11. Related Party Transactions.................................................................22
6.12. Properties.................................................................................22
6.13. Taxes......................................................................................23
6.14. No Payments to Employees, Officers or Trust Managers.......................................24
6.15. Employees..................................................................................24
6.16. Brokers; Schedule of Fees and Expenses.....................................................24
6.17. Compliance with Laws.......................................................................24
6.18. Contracts; Debt Instruments................................................................24
6.19. Opinion of Financial Advisor...............................................................25
6.20. Takeover Statutes..........................................................................25
6.21. Registration Statement and Proxy Statement.................................................25
6.22. Vote Required..............................................................................25
ARTICLE VII COVENANTS..................................................................................25
7.1. Conduct of Business by Capital.............................................................25
7.2. Conduct of Business by Trust...............................................................27
7.3. Other Actions..............................................................................28
ARTICLE VIII ADDITIONAL COVENANTS.......................................................................28
8.1. Preparation of the Registration Statement and the Proxy Statement;
Capital Shareholders Meeting and Trust Shareholders Meeting................................28
8.2. Access to Information; Confidentiality.....................................................29
8.3. Commercially Reasonable Efforts; Notification..............................................30
8.4. Hart-Scott-Rodino..........................................................................31
ii
8.5. SBA Approval...............................................................................31
8.6. Updating Schedules.........................................................................31
8.7. Affiliates.................................................................................31
8.8. Tax Treatment..............................................................................31
8.9. Trust Board of Trust Managers..............................................................31
8.10. No Solicitation of Transactions............................................................31
8.11. Public Announcements.......................................................................32
8.12. Post-Merger Dividend.......................................................................32
8.13. Listing....................................................................................32
8.14. Benefit Plans and Other Employee Arrangements..............................................32
8.15. Indemnification; Directors' and Officers' Insurance........................................33
ARTICLE IX CONDITIONS PRECEDENT.......................................................................35
9.1. Conditions to Each Party's Obligation to Effect the Merger.................................35
9.2. Conditions to Obligations of Trust.........................................................36
9.3. Conditions to Obligations of Capital.......................................................37
ARTICLE X BOARD ACTIONS..............................................................................38
10.1. Board Actions..............................................................................38
ARTICLE XI TERMINATION, AMENDMENT AND WAIVER..........................................................38
11.1. Termination................................................................................38
11.2. Expenses...................................................................................40
11.3. Effect of Termination......................................................................41
11.4. Amendment..................................................................................41
11.5. Extension; Waiver..........................................................................41
ARTICLE XII GENERAL PROVISIONS.........................................................................41
12.1. Nonsurvival of Representations and Warranties..............................................41
12.2. Notices....................................................................................41
12.3. Interpretation.............................................................................42
12.4. Counterparts...............................................................................42
12.5. Exhibits and Schedules.....................................................................42
12.6. Entire Agreement; No Third-Party Beneficiaries.............................................43
12.7. GOVERNING LAW..............................................................................43
12.8. Assignment.................................................................................43
12.9. Enforcement................................................................................43
12.10. Severability...............................................................................43
iii
AGREEMENT AND PLAN OF MERGER
THIS AGREEMENT AND PLAN OF MERGER (the "Agreement"), dated as of March
27, 2003, is made and entered into by and between PMC Commercial Trust, a Texas
real estate investment trust ("Trust"), and PMC Capital, Inc., a Florida
corporation that has elected to be regulated as a business development company
under the Investment Company Act of 1940, as amended ("Capital"). Trust and
Capital are referred to herein, from time to time, individually as a "Party" and
together as the "Parties."
RECITALS
WHEREAS, the Board of Directors of Capital and the Board of Trust
Managers of Trust have approved and deem it advisable and in the best interests
of their respective shareholders to consummate the merger transaction provided
for herein whereby Capital will merge with and into Trust (the "Merger") in
accordance with applicable state law and, upon the terms and subject to the
conditions set forth in this Agreement, the holders of shares of common stock,
par value $0.01 per share, of Capital (the "Capital Common Stock") will be
entitled, subject to the terms and conditions hereof, to receive common shares
of beneficial interest, par value $0.01 per share, of Trust (the "Trust Common
Shares");
WHEREAS, Trust and Capital desire to make certain representations,
warranties, covenants and agreements in connection with the Merger and also to
prescribe various conditions to the Merger;
WHEREAS, for federal income tax purposes it is intended that the Merger
qualify as a reorganization within the meaning of Section 368(a) of the Internal
Revenue Code of 1986, as amended (the "Code"), and this Agreement constitutes a
plan of reorganization under Section 368 of the Code;
WHEREAS, concurrently with the execution of this Agreement and as an
inducement to Trust to enter into this Agreement, each of the Persons listed on
Annex A has entered into a voting agreement (the "Capital Voting Agreement")
pursuant to which each such Person has agreed, among other things, to vote its
shares of Capital Common Stock in favor of this Agreement, the Merger and any
other matter that requires its vote in connection with the transactions
contemplated by this Agreement;
WHEREAS, concurrently with the execution of this Agreement and as an
inducement to Capital to enter into this Agreement, each of the Persons listed
on Annex B has entered into a voting agreement (the "Trust Voting Agreement")
pursuant to which each such Person has agreed, among other things, to vote its
Trust Common Shares in favor of this Agreement, the Merger and any other matter
that requires its vote in connection with the transactions contemplated by this
Agreement; and
WHEREAS, the transactions contemplated by this Agreement, the Capital
Voting Agreement, the Trust Voting Agreement and the other agreements and
documents contemplated hereby, including, without limitation, the Merger, shall
be referred to collectively in this Agreement as the "Transactions."
NOW, THEREFORE, in consideration of the representations, warranties,
covenants and agreements contained in this Agreement, the parties hereto agree
as follows:
ARTICLE I
THE MERGER
1.1. THE MERGER. Subject to the terms and conditions of this Agreement
and in accordance with the Florida Business Corporation Act (the "FBCA") and the
Texas Real Estate Investment Trust Act (the "REIT Act"), at the Effective Time,
Trust and Capital shall consummate the Merger pursuant to which (a) Capital
shall be merged with and into Trust and the separate corporate existence of
Capital shall thereupon cease, (b) Trust shall be the successor or surviving
entity in the Merger (the "Surviving Entity"), shall succeed to and assume all
rights and obligations of Capital and shall continue to be governed by Trust's
Amended and Restated Declaration of Trust, as amended and restated at the
Effective Time, Trust's Bylaws and the laws of the State of Texas, including the
REIT Act and (c) the separate corporate existence of Trust with all its rights,
privileges, immunities, powers and franchises shall continue unaffected by the
Merger.
1.2. CLOSING. The closing of the Merger (the "Closing") shall take
place at 10:00 a.m. on a date to be specified by the Parties (the "Closing
Date"), which Closing Date shall be no later than the second business day after
satisfaction or waiver of all of the conditions set forth in Article IX hereof
(other than those conditions that by their terms are to be satisfied at the
Closing, but subject to the satisfaction or waiver of those conditions), at the
offices of Locke Liddell & Sapp LLP, 2200 Ross Avenue, Suite 2200, Dallas, Texas
75201, unless another time, date or place is agreed to in writing by the Parties
hereto.
1.3. EFFECTIVE TIME. Subject to the provisions of this Agreement, as
soon as practicable on the Closing Date, Trust and Capital shall file articles
of merger, or other appropriate documents (the "Articles of Merger"), executed
in accordance with the relevant provisions of the FBCA and REIT Act,
respectively, and as soon as practicable on or after the Closing Date, the
Parties shall make all other filings or recordings required under the FBCA and
the REIT Act. The Merger shall become effective upon the later of (a) the filing
of the Articles of Merger with the Dallas County Clerk, Dallas, Texas in
accordance with the REIT Act and (b) the filing of the Articles of Merger with
the Secretary of State of the State of Florida in accordance with the FBCA, or
at such other time, if any, as Trust and Capital shall agree and designate in
such filings in accordance with applicable law (the time the Merger becomes
effective being the "Effective Time").
1.4. EFFECTS OF THE MERGER. The Merger shall have the effects set forth
in the FBCA and the REIT Act and this Agreement.
1.5. CHARTER AND BYLAWS. The Amended and Restated Declaration of Trust
of Trust (the "Charter"), as in effect immediately prior to the Effective Time,
shall be the Declaration of Trust of the Surviving Entity (the "Surviving Entity
Charter") until thereafter changed or amended as provided therein or by
applicable law. The Bylaws of the Trust, as in effect immediately prior to the
Effective Time, shall be the Bylaws of the Surviving Entity (the
2
"Surviving Entity Bylaws") until thereafter changed or amended as provided
therein or by applicable law.
1.6. TAKING OF NECESSARY ACTION. Each of Trust and Capital shall use
its commercially reasonable efforts to take all such action as may be necessary
or appropriate in order to effectuate the Merger under the FBCA and the REIT
Act.
ARTICLE II
BOARD AND OFFICERS OF THE SURVIVING ENTITY
2.1. BOARD OF THE SURVIVING ENTITY. The trust managers of the Surviving
Entity immediately following the Effective Time shall be the persons named on
Schedule 2.1 hereto, each of which shall serve until their successors shall have
been duly elected or appointed and qualified or until the earlier of their
death, resignation or removal in accordance with the Surviving Entity Charter
and Surviving Entity Bylaws. Such trust managers of the Surviving Entity shall
be appointed to the committees of the Surviving Entity's Board of Trust Managers
as indicated on Schedule 2.1.
2.2. OFFICERS OF THE SURVIVING ENTITY. The officers of the Surviving
Entity immediately following the Effective Time shall be the persons named on
Schedule 2.2 hereto, each of whom shall serve in such capacity until their
respective successors are duly appointed and qualified or until the earlier of
their death, resignation or removal in accordance with the Surviving Entity
Certificate and Surviving Entity Bylaws.
ARTICLE III
EFFECT OF THE MERGER ON THE CAPITAL STOCK
OF THE CONSTITUENT ENTITIES
3.1. EFFECT ON CAPITAL STOCK. As of the Effective Time, by virtue of
the Merger and without any action on the part of Trust or Capital or the holders
of any Trust Common Shares or shares of Capital Common Stock:
(a) Cancellation of Treasury Stock. Each issued and
outstanding share of Capital Common Stock that is owned, immediately prior to
the Effective Time, by Capital (or any direct or indirect Subsidiary (as
hereinafter defined) of Capital) as treasury stock, shall be automatically
canceled and cease to exist without any conversion thereof, and no consideration
shall be delivered in exchange therefor.
(b) Conversion of Capital Common Stock. Each share of Capital
Common Stock issued and outstanding immediately prior to the Effective Time,
other than those shares to be canceled in accordance with Section 3.1(a) above,
shall be canceled and shall be converted automatically solely into the right to
receive 0.37 of validly issued, fully paid and nonassessable Trust Common Share
(the "Exchange Ratio"). As of the Effective Time, all of the certificates
evidencing shares of Capital Common Stock (the "Certificates"), by virtue of the
Merger and without any action on the part of Capital or the shareholders of
Capital, shall no longer be
3
outstanding and shall automatically be canceled and cease to exist, and each
holder of a Certificate shall cease to have any rights with respect to the
Capital Common Stock represented thereby, except the right to receive, upon the
surrender of such Certificate in accordance with Article IV herein, certificates
evidencing the Trust Common Shares and any cash in lieu of fractional Trust
Common Shares to be issued or paid in consideration therefor upon surrender of
such Certificate (the "Merger Consideration"), and any dividends or other
distributions to which such holder is entitled pursuant to Section 4.3 below, in
each case without interest and less any required withholding taxes.
(c) Trust Common Shares. Upon the Effective Time, each Trust
Common Share outstanding immediately prior to the Effective Time shall remain
outstanding and shall represent one validly issued, fully paid and nonassessable
Trust Common Share.
3.2. CAPITAL STOCK OPTIONS AND RELATED MATTERS. To the extent that
acceleration by Capital of the exercisability of any outstanding option to
purchase shares of Capital Common Stock (each, a "Capital Option") is permitted
but not required by the applicable governing instrument, then Capital shall not
elect to cause such acceleration to occur. In connection therewith, at the
Effective Time, to the extent not prohibited by the terms of the relevant
governing instrument, each Capital Option that is outstanding and unexercised
immediately prior thereto shall cease to represent a right to acquire shares of
Capital Common Stock and shall be converted automatically into an option to
purchase Trust Common Shares in an amount and at an exercise price determined as
provided below (and otherwise subject to the terms of the Capital's 1997
Employee Stock Option Plan (the "Capital Plan"), and the agreements evidencing
grants thereunder, including, subject to the provisions of the first sentence of
this Section 3.2, the accelerated vesting of Capital Options that shall occur in
connection with and by virtue of the Merger as and to the extent required by the
Capital Plan or such agreements):
(a) The number of Trust Common Shares to be subject to the
option shall be equal to the product of the number of shares of Capital Common
Stock subject to the original Capital Option and the Exchange Ratio, provided
that any fractional Trust Common Share resulting from such multiplication shall
be rounded down to the nearest whole share; and
(b) The exercise price per Trust Common Share under the option
shall be equal to the exercise price per share of Capital Common Stock under the
original Capital Option divided by the Exchange Ratio, provided that such
exercise price shall be rounded up to the nearest whole cent.
The adjustment provided herein with respect to any Capital Options that are
"incentive stock options" (as defined in Section 422 of the Code) shall be and
is intended to be effected in a manner that is consistent with Section 424(a) of
the Code and, to the extent it is not so consistent, Section 424(a) shall
override anything to the contrary contained herein. The duration and other terms
of the new option shall be the same as the original Capital Option except that
all references to Capital shall be deemed to be references to Trust.
4
ARTICLE IV
PAYMENT FOR SHARES; EXCHANGE OF CERTIFICATES
4.1. EXCHANGE AGENT. From and after the Effective Time, such bank or
trust company as shall be mutually acceptable to Capital and Trust shall act as
exchange agent (the "Exchange Agent"). At or prior to the Effective Time, Trust
shall deposit, or shall otherwise take all steps necessary to cause to be
deposited, with the Exchange Agent and for the benefit of the holders of shares
of Capital Common Stock, certificates representing the Trust Common Shares (such
certificates, together with any dividends or distributions with respect thereto
with a record date after the Effective Time, being hereinafter referred to as
the "Exchange Fund") to be issued pursuant to Section 3.1 and paid pursuant to
this Article IV in exchange for outstanding shares of Capital Common Stock. The
Exchange Agent shall also act as authorized agent for the holders of Capital
Common Stock for purposes of the receipt of the dividends and distributions, if
any, declared by Capital pursuant to Section 4.3 below. Prior to the Effective
Time, Capital shall pay to the Exchange Agent, for the benefit of the holders of
Capital Common Stock, sufficient Capital cash to make the distribution to
holders of Capital Common Stock described in Section 4.3. The Exchange Agent
shall pay such cash to the holders of Capital Common Stock as described in this
Article IV.
4.2. EXCHANGE PROCEDURES. As soon as reasonably practicable after the
Effective Time but in no event more than five business days after the Effective
Time, the Surviving Entity shall cause the Exchange Agent to mail to each holder
of record of a Certificate or Certificates (a) a letter of transmittal which
shall specify that delivery shall be effected, and risk of loss and title to the
Certificates shall pass, only upon delivery of the Certificates to the Exchange
Agent and shall be in such form and have such other provisions as the Surviving
Entity may reasonably specify and (b) instructions for use in effecting the
surrender of the Certificates in exchange for certificates representing Trust
Common Shares. Upon surrender of a Certificate for cancellation to the Exchange
Agent, together with such letter of transmittal, duly executed and completed in
accordance with the instructions thereto, and such other documents as may
reasonably be required by the Exchange Agent, the holder of such Certificate
shall be entitled to receive in exchange therefor the Merger Consideration into
which shares of Capital Common Stock theretofore represented by such Certificate
shall have been converted pursuant to Section 3.1. In addition, such holder
shall be entitled to receive from the Exchange Agent from Capital funds a check
representing dividends or distributions, if any, declared by Capital pursuant to
Section 4.3 below, after giving effect to any required withholding tax. The
Certificate or Certificates so surrendered shall forthwith be canceled and cease
to exist. No interest will be paid or accrued on dividends or distributions, if
any, payable to holders of Certificates pursuant to this Section 4.2. Each Trust
Common Share issued as part of the Merger Consideration shall be deemed to have
been issued at the Effective Time. In the event of a transfer of ownership of
Capital Common Stock which is not registered in the transfer records of Capital,
a certificate representing the proper number of Trust Common Shares plus, to the
extent applicable, the amount of any dividend or distribution, if any, from
Capital payable pursuant to Section 4.3 below, may be issued to such a
transferee if the Certificate is presented to the Exchange Agent, accompanied by
all documents required to evidence and effect such transfer and to evidence that
any applicable stock transfer taxes have been paid. Until surrendered as
contemplated by this Section 4.2, each Certificate shall be deemed at any time
after the Effective Time to represent only the right to
5
receive the Merger Consideration, without interest, into which the shares of
Capital Common Stock theretofore represented by such Certificate shall have been
converted pursuant to Section 3.1, and any dividends or distributions from
Capital to which such holder is entitled pursuant to Section 4.3.
4.3. DIVIDENDS AND DISTRIBUTIONS.
(a) To the extent that Western Financial Capital Corporation,
a Florida corporation wholly owned by Capital ("WFCC") has taxable income for
its taxable year ending on the Closing Date (calculated with regard to all prior
dividends paid by WFCC), Capital shall cause WFCC to declare and pay a dividend
to Capital on the last business day prior to the Effective Time in an amount
equal to the minimum dividend sufficient to permit WFCC to eliminate any federal
tax liability for its taxable year ending on the Closing Date. To the extent
Capital has taxable income for its taxable year ending on the Closing Date
(calculated with regard to all prior dividends paid by Capital) it shall declare
a dividend (the "Final Capital Dividend") to holders of Capital Common Stock,
the record date for which shall be the close of business on the last business
day prior to the Effective Time, in an amount equal to the minimum dividend
sufficient to permit Capital to eliminate any federal tax liability for its
taxable year ending on the Closing Date. If Capital determines it necessary to
declare the Final Capital Dividend, it shall notify Trust at least ten (10) days
prior to the date of the Capital Shareholders Meeting (as hereinafter defined),
and Trust shall declare a dividend per Trust Common Share to holders of Trust
Common Shares, the record date for which shall be the close of business on the
last business day prior to the Effective Time, in an amount per share equal to
the quotient obtained by dividing (i) the Final Capital Dividend per share of
Capital Common Stock paid by Capital by (ii) the Exchange Ratio. The dividends
payable hereunder to holders of Capital Common Stock shall be paid by Capital
from Capital funds prior to the Effective Time. Such payment shall be
effectuated by Capital first paying such funds to the Exchange Agent, as
authorized agent for the holders of Capital Common Stock, prior to the Effective
Time. Thereafter, the Exchange Agent shall pay such funds to the holders of
Capital Common Stock upon presentation of the Certificates for exchange in
accordance with this Article IV.
(b) Notwithstanding any other provisions of this Agreement, no
dividends or other distributions on the Trust Common Shares issuable as part of
the Merger Consideration shall be paid with respect to any Certificate until
such Certificate is surrendered for exchange as provided herein; provided,
however, that subject to the effect of applicable laws, following surrender of
any such Certificate, there shall be paid to the holder of the certificates
representing shares of Trust Common Shares issued in exchange therefor, without
interest, (i) at the time of such surrender, the amount of dividends or other
distributions with a record date after the Effective Time theretofore payable
with respect to such Trust Common Shares and not paid, less the amount of any
withholding taxes which may be required thereon and (ii) at the appropriate
payment date, the amount of dividends or other distributions with a record date
after the Effective Time but prior to surrender and a payment date subsequent to
surrender payable with respect to such Trust Common Shares, less the amount of
any withholding taxes which may be required thereon.
6
4.4. NO FURTHER OWNERSHIP RIGHTS IN CAPITAL COMMON STOCK. The Merger
Consideration issued upon the surrender for exchange of Certificates in
accordance with the terms of this Article IV shall be deemed to have been issued
in full satisfaction of all rights pertaining to the shares of Capital Common
Stock previously represented by such Certificates; provided, however, that
Capital shall transfer to the Exchange Agent cash sufficient to pay any
dividends or make any other distributions described in Section 4.3, and at and
after the Effective Time, there shall be no further registration of transfers on
the stock transfer books of Capital of the shares of Capital Common Stock which
were outstanding immediately prior to the Effective Time. If, after the
Effective Time, Certificates are presented to the Surviving Entity or the
Exchange Agent for any reason, they shall be canceled and exchanged as provided
in this Article IV.
4.5. TERMINATION OF EXCHANGE FUND. Any portion of the Exchange Fund
that remains unclaimed by, and undistributed to, the former shareholders of
Capital twelve (12) months after the Effective Time shall be delivered to the
Surviving Entity. Any former shareholders of Capital who have not theretofore
complied with this Article IV shall thereafter look only to the Surviving Entity
for payment of their Merger Consideration (plus dividends and distributions to
the extent set forth in Section 4.3, if any), as determined pursuant to this
Agreement, without any interest thereon. If any Certificates shall not have been
surrendered prior to one year after the Effective Time (or immediately prior to
such earlier date on which any Merger Consideration would otherwise escheat to
or become the property of any governmental entity), any such Merger
Consideration in respect thereof shall, to the extent permitted by applicable
law, become the property of the Surviving Entity, free and clear of all claims
or interest of any person previously entitled thereto.
4.6. NO LIABILITY. None of Trust, Capital, the Exchange Agent or any
other Person shall be liable to any former holder of shares of Capital Common
Stock for any amount properly delivered to a public official pursuant to any
applicable abandoned property, escheat or similar laws.
4.7. LOST CERTIFICATES. In the event any Certificate shall have been
lost, stolen or destroyed, upon the making of an affidavit of that fact by the
person claiming such Certificate to be lost, stolen or destroyed and, if
required by the Surviving Entity, the posting by such person of a bond in such
reasonable amount as the Surviving Entity may direct as indemnity against any
claim that may be made against it with respect to such Certificate, the Exchange
Agent or the Surviving Entity will issue in exchange for such lost, stolen or
destroyed Certificate the Merger Consideration (plus, to the extent applicable,
dividends and distributions payable pursuant to Section 4.3).
4.8. WITHHOLDING RIGHTS. The Exchange Agent shall be entitled to deduct
and withhold from the consideration otherwise payable to any holder of Capital
Common Stock pursuant to this Agreement such amounts as may be required to be
deducted and withheld with respect to the making of such payment under the Code,
or under any provision of state, local or foreign tax law. To the extent that
amounts are so withheld and paid over to the appropriate taxing authority, the
Exchange Agent will be treated as though it withheld an appropriate amount of
the type of consideration otherwise payable pursuant to this Agreement to any
holder of Capital Common Stock, sold such consideration for an amount of cash
equal to the fair market
7
value of such consideration at the time of such deemed sale and paid such cash
proceeds to the appropriate taxing authority.
4.9. NO FRACTIONAL SHARES.
(a) No certificates or scrip representing fractional Trust
Common Shares shall be issued upon the surrender for exchange of Certificates,
and such fractional share interests will not entitle the owner thereof to vote,
to receive dividends or to any other rights of a shareholder of Trust.
(b) Notwithstanding any other provision of this Agreement,
each holder of shares of Capital Common Stock exchanged pursuant to the Merger
who would otherwise have been entitled to receive a fraction of an Trust Common
Share (after taking into account all Certificates delivered by such holder)
shall receive, from the Exchange Agent in accordance with the provisions of this
Section 4.9, a cash payment in lieu of such fractional Trust Common Shares, as
applicable, representing such holder's proportionate interest, if any, in the
net proceeds from the sale by the Exchange Agent in one or more transactions
(which sale transactions shall be made at such times, in such manner and on such
terms as the Exchange Agent shall determine in its reasonable discretion) on
behalf of all such holders of the aggregate of the fractional Trust Common
Shares, as applicable, which would otherwise have been issued (the "Excess Trust
Shares"). The sale of the Excess Trust Shares by the Exchange Agent shall be
executed on the American Stock Exchange (the "AMEX") through one or more member
firms of the AMEX and shall be executed in round lots to the extent practicable.
Until the net proceeds of such sale or sales have been distributed to the
holders of Certificates, the Exchange Agent will hold such proceeds in trust
(the "Exchange Trust") for the holders of Certificates. Trust shall pay all
commissions, transfer taxes and other out-of-pocket transaction costs, including
the expenses and compensation of the Exchange Agent, incurred in connection with
this sale of the Excess Trust Shares (other than transfer taxes that, under
applicable state law, are solely the liability of the holders of Capital Common
Stock exchanging such shares in the Merger (which taxes shall be paid by such
holders). As soon as practicable after the determination of the amount of cash,
if any, to be paid to holders of Certificates in lieu of any fractional Trust
Common Shares, the Exchange Agent shall make available such amounts to such
holders of Certificates without interest.
4.10. VOTING RIGHTS. Holders of record immediately prior to the
Effective Time of Capital Common Stock shall be entitled, at and after the
Effective Time, to vote the number of Trust Common Shares into which their
Capital Common Stock shall have been converted so long as they remain record
holders of such Trust Common Shares, regardless of whether the Certificates
shall have been surrendered in accordance with this Article IV.
8
ARTICLE V
REPRESENTATIONS AND WARRANTIES OF CAPITAL
Except as set forth in the disclosure schedules attached hereto (the
"Capital Disclosure Schedules"), which shall be arranged in paragraphs
corresponding to the numbered and lettered paragraphs contained in this Article
V and that may be amended from time to time pursuant to the provisions hereof,
Capital represents and warrants to Trust that:
5.1. ORGANIZATION, STANDING AND CORPORATE POWER OF CAPITAL. Capital is
a corporation duly organized, validly existing and in good standing under the
laws of the State of Florida and has the requisite corporate power and authority
to carry on its business as now being conducted. Capital is duly qualified or
licensed to do business and is in good standing in each jurisdiction in which
the nature of its business or the ownership or leasing of its properties makes
such qualification or licensing necessary, other than in such jurisdictions
where the failure to be so qualified or licensed, individually or in the
aggregate, would not have a material adverse effect on the business, properties,
assets, financial condition or results of operations of Capital and the Capital
Subsidiaries (as defined below) taken as a whole but excluding therefrom any
such change, effect, event, occurrence or state of facts resulting from or
arising in connection with (a) changes or conditions generally affecting the
industries in which the Capital operates, (b) this Agreement, the transactions
contemplated hereby or the announcement thereof or (c) any change or effect
resulting from any change in general economic conditions (a "Capital Material
Adverse Effect"). Capital has delivered to Trust or its counsel complete and
correct copies of its Articles of Incorporation and Bylaws, as amended to the
date of this Agreement. For purposes of this Agreement, the term "Subsidiary" of
any Person means any corporation, partnership, limited liability company, joint
venture or other legal entity of which such Person (either directly or through
or together with another Subsidiary of such Person) has the right or power to
elect a majority of the board of directors or other governing body, and the term
"Person" means an individual, corporation, partnership, limited liability
company, trust, association, unincorporated organization or other entity.
5.2. CAPITAL SUBSIDIARIES. Schedule 5.2 hereto sets forth each Capital
Subsidiary and the ownership interest therein of Capital. The Capital
Subsidiaries include, but are not limited to, WFCC, PMC Investment Corporation,
a Florida corporation ("PMIC") and First Western SBLC, Inc., a Florida
corporation ("First Western") (WFCC, PMIC and First Western are collectively
referred to as the "RIC Capital Subsidiaries' and may be individually referred
to as a "RIC Capital Subsidiary"). Except as set forth on Schedule 5.2, (a) all
the outstanding shares of capital stock of each Capital Subsidiary that is a
corporation have been validly issued and are fully paid and nonassessable, are
owned by Capital or by another Capital Subsidiary free and clear of all pledges,
claims, liens, charges, encumbrances and security interests of any kind or
nature whatsoever (collectively, "Liens") and (b) all equity interests in each
Capital Subsidiary that is a partnership, joint venture, limited liability
company or trust are owned by Capital, by another Capital Subsidiary, by Capital
and another Capital Subsidiary or by two or more Capital Subsidiaries free and
clear of all Liens. Except for the capital stock of or other equity or ownership
interests in Capital Subsidiaries, and except as set forth on Schedule 5.2,
Capital does not own, directly or indirectly, any capital stock or other
ownership interest in any Person. Each Capital Subsidiary that is a corporation
is duly incorporated and validly existing under the laws of its jurisdiction of
incorporation and has the requisite corporate power and authority to carry on
its business as now being conducted, and each Capital Subsidiary that is a
partnership, limited liability company or trust is duly organized and validly
existing under the laws
9
of its jurisdiction of organization and has the requisite power and authority to
carry on its business as now being conducted. Except as set forth on Schedule
5.2, each Capital Subsidiary is duly qualified or licensed to do business and,
where applicable, is in good standing in each jurisdiction in which the nature
of its business or the ownership or leasing of its properties makes such
qualification or licensing necessary, other than in such jurisdictions where the
failure to be so qualified or licensed, individually or in the aggregate, could
not reasonably be expected to have a Capital Material Adverse Effect.
5.3. CAPITAL STRUCTURE. The authorized capital stock of Capital
consists of 30,000,000 shares of Capital Common Stock and no shares of preferred
stock, par value $.01 per share (the "Preferred Stock"). On the date hereof, (a)
11,853,516 shares of Capital Common Stock and no shares of Preferred Stock were
issued and outstanding, (b) no shares of Capital Common Stock or Preferred Stock
were held by Capital in its treasury and (c) 236,250 shares of Capital Common
Stock were issuable upon exercise of outstanding Capital Options. On the date of
this Agreement, except as set forth above in this Section 5.3, no shares of
capital stock or other voting securities of Capital were issued, reserved for
issuance or outstanding. There are no outstanding stock appreciation rights
relating to the capital stock of Capital. All outstanding shares of capital
stock of Capital are duly authorized, validly issued, fully paid and
nonassessable and not subject to preemptive rights. There are no bonds,
debentures, notes or other indebtedness of Capital having the right to vote (or
convertible into, or exchangeable for, securities having the right to vote) on
any matters on which shareholders of Capital may vote. Except (i) for the
Capital Options or (ii) as set forth on Schedule 5.3, as of the date of this
Agreement there are no outstanding securities, options, warrants, calls, rights,
commitments, agreements, arrangements or undertakings of any kind to which
Capital or any Capital Subsidiary is a party or by which such entity is bound,
obligating Capital or any Capital Subsidiary to issue, deliver or sell, or cause
to be issued, delivered or sold, additional shares of capital stock, voting
securities or other ownership interests of Capital or any Capital Subsidiary or
obligating Capital or any Capital Subsidiary to issue, grant, extend or enter
into any such security, option, warrant, call, right, commitment, agreement,
arrangement or undertaking (other than to Capital or a Capital Subsidiary).
Except as set forth on Schedule 5.3, there are no outstanding contractual
obligations of Capital or any Capital Subsidiary to repurchase, redeem or
otherwise acquire any shares of capital stock of Capital or any capital stock,
voting securities or other ownership interests in any Capital Subsidiary or make
any material investment (in the form of a loan, capital contribution or
otherwise) in any person (other than a Capital Subsidiary).
5.4. AUTHORITY; NONCONTRAVENTION. Capital has the requisite corporate
power and authority to enter into this Agreement and, subject to approval of
this Agreement by the vote of the holders of the Capital Common Stock required
to approve this Agreement and the transactions contemplated hereby (the "Capital
Shareholder Approvals"), to consummate the transactions contemplated by this
Agreement to which Capital is a party. The execution and delivery of this
Agreement by Capital and the consummation by Capital of the transactions
contemplated by this Agreement to which Capital is a party have been duly
authorized by all necessary corporate action on the part of Capital, subject to
approval of this Agreement pursuant to Capital Shareholder Approvals. Except as
set forth on Schedule 5.4, the execution and
10
delivery of this Agreement by Capital do not, and the consummation of the
transactions contemplated by this Agreement to which Capital is a party and
compliance by Capital with the provisions of this Agreement will not, conflict
with, or result in any violation of, or default (with or without notice or lapse
of time, or both) under, or give rise to a right of termination, cancellation or
acceleration of any obligation or to loss of a material benefit under, or result
in the creation of any Lien upon any of the properties or assets of Capital or
any Capital Subsidiary under, (a) the Articles of Incorporation or the Bylaws of
Capital or the comparable charter or organizational documents or partnership or
similar agreement (as the case may be) of any Capital Subsidiary, (b) any loan
or credit agreement, note, bond, mortgage, indenture, reciprocal easement
agreement, lease or other agreement, instrument, permit, concession, contract,
franchise or license applicable to Capital or any Capital Subsidiary or their
respective properties or assets or (c) subject to the governmental filings and
other matters referred to in Section 5.5, any judgment, order, decree, statute,
law, ordinance, rule or regulation (collectively, "Laws") applicable to Capital
or any Capital Subsidiary, or their respective properties or assets, other than,
in the case of clause (b) or (c), any such conflicts, violations, defaults,
rights or Liens that individually or in the aggregate could not reasonably be
expected to (i) have a Capital Material Adverse Effect or (ii) prevent the
consummation of the Transactions.
5.5. CONSENTS. No consent, approval, order or authorization of, or
registration, declaration or filing with, any federal, state or local government
or any court, administrative or regulatory agency or commission or other
governmental authority or agency, domestic or foreign (a "Governmental Entity"),
is required by or with respect to Capital or any Capital Subsidiary in
connection with the execution and delivery of this Agreement by Capital or the
consummation by Capital of the transactions contemplated by this Agreement,
except for (a) the filing by any person in connection with any of the
Transactions of a pre-merger notification and report form under the
Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended (the "HSR
Act"), to the extent applicable; (b) compliance with any applicable requirements
of (i) the Securities Act of 1933, as amended (the "Securities Act"), and the
rules and regulations promulgated thereunder, (ii) the Securities Exchange Act
of 1934, as amended (the "Exchange Act"), and the rules and regulations
promulgated thereunder, including, without limitation, the filing with the
Securities and Exchange Commission (the "SEC") of a joint proxy
statement/prospectus relating to the approval by Capital's and Trust's
shareholders of the transactions contemplated by this Agreement (as amended or
supplemented from time to time, the "Joint Proxy Statement/Prospectus"), (iii)
the Investment Company Act of 1940, as amended (the "1940 Act"), and the rules
and regulations promulgated thereunder and (iv) the Investment Advisers Act of
1940, as amended (the "Investment Advisers Act"), and the rules and regulations
promulgated thereunder; (c) the filing of Articles of Merger with the Secretary
of State of the State of Florida and the Dallas County Clerk, Dallas, Texas; (d)
compliance with any applicable requirements of the Small Business Investment Act
of 1958, as amended, and the rules and regulations promulgated thereunder (the
"1958 Act"), the Small Business Investment Act (1958), as amended, and the rules
and regulations promulgated thereunder (the "Small Business Investment Act") and
any other applicable requirements, rules, or regulations of the U.S. Small
Business Administration (the "SBA"); (e) the issuance by the SEC of an order
exempting the Merger from the provisions of Sections 17(a) and 57(a) of the 1940
Act (the "Exemptive Order"); and (f) such other consents, approvals, orders,
authorizations, registrations, declarations and filings (i) as are set forth on
Schedule 5.5, (ii) as may be required under (A) federal, state or local
environmental laws or (B) the "blue sky" laws of various states or (iii) which,
if not
11
obtained or made, would not prevent or delay in any material respect the
consummation of any of the transactions contemplated by this Agreement or
otherwise prevent Capital from performing its obligations under this Agreement
in any material respect or have, individually or in the aggregate, a Capital
Material Adverse Effect.
5.6. SEC DOCUMENTS; FINANCIAL STATEMENTS; UNDISCLOSED LIABILITIES.
Capital has filed all required reports, schedules, forms, statements and other
documents with the SEC since December 31, 2001 (the "Capital SEC Documents").
All of the Capital SEC Documents (other than preliminary material), as of their
respective filing dates, complied in all material respects with all applicable
requirements of the Securities Act and the Exchange Act and, in each case, the
rules and regulations promulgated thereunder applicable to such Capital SEC
Documents. None of the Capital SEC Documents at the time of filing and
effectiveness contained any untrue statement of a material fact or omitted to
state any material fact required to be stated therein or necessary in order to
make the statements therein, in light of the circumstances under which they were
made, not misleading, except to the extent such statements have been modified or
superseded by later Capital SEC Documents. The consolidated and consolidating
financial statements of Capital included in the Capital SEC Documents complied
as to form in all material respects with applicable accounting requirements and
the published rules and regulations of the SEC with respect thereto, have been
prepared in accordance with generally accepted accounting principles ("GAAP")
(except, in the case of unaudited statements, as permitted by Form 10-Q of the
SEC) applied on a consistent basis during the periods involved (except as may be
indicated in the notes thereto) and fairly presented, in accordance with the
applicable requirements of GAAP, the financial position of Capital as of the
dates thereof and the results of operations and cash flows for the periods then
ended (subject, in the case of unaudited statements, to normal year-end audit
adjustments). Except as set forth in the Capital SEC Documents, on Schedule 5.6
or as permitted by Section 7.1 (for the purposes of this sentence, as if Section
7.1 had been in effect since December 31, 2002), neither Capital nor any Capital
Subsidiary has any liabilities or obligations of any nature (whether accrued,
absolute, contingent or otherwise) required by GAAP to be set forth on a
consolidated balance sheet of Capital or, to the knowledge of Capital, of any
unconsolidated Capital Subsidiary or in the notes thereto and which,
individually or in the aggregate, would have a Capital Material Adverse Effect.
5.7. BINDING EFFECT. This Agreement has been duly executed and
delivered by, and constitutes a valid and binding obligation of, Capital
enforceable against Capital in accordance with its terms as such enforceability
may be limited by bankruptcy, insolvency, reorganization, moratorium, fraudulent
conveyance or similar laws affecting the enforcement of creditors' rights
generally or by general equitable principles (regardless of whether such
enforcement is sought in a proceeding in equity or at law).
5.8. ABSENCE OF CERTAIN CHANGES OR EVENTS. Except as disclosed in the
Capital SEC Documents or on Schedule 5.8, since the date of the most recent
financial statements included in the Capital SEC Documents (the "Capital
Financial Statement Date") and to the date of this Agreement, Capital and the
Capital Subsidiaries have conducted their business only in the ordinary course
and there has not been (a) any change that would have a Capital Material Adverse
Effect (a "Capital Material Adverse Change"), nor has there been any occurrence
or circumstance that with the passage of time would reasonably be expected to
result in a Capital Material Adverse Change, (b) except for regular quarterly
dividends not in excess of $0.12 per
12
share of Capital Common Stock, any declaration, setting aside or payment of any
dividend or other distribution (whether in cash, stock or property) with respect
to any of Capital's capital stock, other than any dividend required to be paid
pursuant to Section 4.3, (c) any split, combination or reclassification of any
of Capital's capital stock or any issuance or the authorization of any issuance
of any other securities in respect of, in lieu of or in substitution for, or
giving the right to acquire by exchange or exercise, shares of its capital stock
or any issuance of an ownership interest in, any Capital Subsidiary except as
permitted by Section 7.1, (d) any damage, destruction or loss, not covered by
insurance, that has or would have a Capital Material Adverse Effect or (e) any
change in accounting methods, principles or practices by Capital or any Capital
Subsidiary, except insofar as may have been disclosed in the Capital SEC
Documents or required by a change in GAAP.
5.9. LITIGATION. Except as disclosed in the Capital SEC Documents or on
Schedule 5.9, and other than personal injury and other routine litigation
arising from the ordinary course of operations of Capital and the Capital
Subsidiaries, there is no suit, action or proceeding pending or threatened in
writing against or affecting Capital or any Capital Subsidiary that,
individually or in the aggregate, could reasonably be expected to (a) have a
Capital Material Adverse Effect or (b) prevent the consummation of any of the
Transactions, nor is there any judgment, decree, injunction, rule or order of
any Governmental Entity or arbitrator outstanding against Capital or any Capital
Subsidiary having, or which, insofar as reasonably can be foreseen, in the
future would have, a Capital Material Adverse Effect.
5.10. ENVIRONMENTAL MATTERS.
(a) Except (i) as disclosed in the Capital SEC Documents or as
set forth in Schedule 5.10, (ii) for matters that, individually or in the
aggregate, could not reasonably be expected to have a Capital Material Adverse
Effect or (iii) for commercially reasonable quantities of leasing and office
supplies, Capital has never generated, transported, used, stored, treated,
disposed of or managed any Hazardous Substance and to the knowledge of Capital,
(A) Capital does not have any material liability under, nor has Capital ever
violated in any material respect, any Environmental, Health and Safety Law; (B)
to Capital's knowledge Capital is in compliance in all material respects with
all applicable Environmental, Health and Safety Laws; and (C) Capital has never
entered into nor been subject to any judgment, consent decree, compliance order,
or administrative order with respect to any environmental or health and safety
matter nor received any demand letter, formal complaint or claim with respect to
any environmental or health and safety matter or the enforcement of any
Environmental, Health and Safety Law.
(b) For the purposes of this Agreement, "Environmental, Health
and Safety Laws" means the Comprehensive Environmental Response, Compensation,
and Liability Act of 1980, the Resource Conservation and Recovery Act of 1976,
the Clean Air Act, the Federal Water Pollution Control Act, the Safe Drinking
Water Act of 1974, the Toxic Substances Control Act, the Emergency Planning and
Community Right-to-Know Act of 1986, the Hazardous Materials Transportation Act,
and the Occupational Safety and Health Act of 1970, each as amended, together
with all other laws (including rules, regulations, codes, injunctions,
judgments, orders, decrees and rulings) of federal state and local governments
(and all agencies thereof) concerning pollution or protection of the
environment, public health and safety, or
13
employee health and safety, including laws relating to emissions, discharges,
releases, or threatened release of pollutants, contaminants, or chemical,
industrial, hazardous, or toxic materials (including petroleum products and
asbestos) or wastes into ambient air, surface water, ground water, or lands or
otherwise relating to the manufacture, processing, distribution, use, treatment,
storage, disposal, transport, or handling of pollutants, contaminants, or
chemical, industrial, hazardous, or toxic materials or wastes ("Hazardous
Substances").
5.11. RELATED PARTY TRANSACTIONS. Set forth on Schedule 5.11 is a list
of all arrangements, agreements and contracts entered into by Capital or any of
the Capital Subsidiaries with any person who is an officer, director or
affiliate of Capital or any of the Capital Subsidiaries, any relative of any of
the foregoing or any entity of which any of the foregoing is an affiliate. Such
documents, copies of all of which have previously been delivered or made
available to Trust, are listed on Schedule 5.11.
5.12. ABSENCE OF CHANGES IN BENEFIT PLANS; ERISA COMPLIANCE.
(a) Except as disclosed in the Capital SEC Documents or on
Schedule 5.12(a) and except as permitted by Section 7.1 (for the purpose of this
sentence, as if Section 7.1 had been in effect since December 31, 2002), since
the date of the most recent audited financial statements included in the Capital
SEC Documents, there has not been any adoption or amendment by Capital or any
Capital Subsidiary of any bonus, pension, profit sharing, deferred compensation,
incentive compensation, stock ownership, stock purchase, stock option, phantom
stock, retirement, vacation, severance, disability, death benefit,
hospitalization, medical or other employee benefit plan, arrangement or
understanding (whether or not legally binding, or oral or in writing) providing
benefits to any current or former employee, officer or director of Capital, any
Capital Subsidiary or any person affiliated with Capital under Section 414(b),
(c), (m) or (o) of the Code (collectively, "Capital Benefit Plans").
(b) Except as described in the Capital SEC Documents or on
Schedule 5.12(b) or as would not have a Capital Material Adverse Effect, (i) all
Capital Benefit Plans, including any such plan that is an "employee benefit
plan" as defined in Section 3(3) of the Employee Retirement Income Security Act
of 1974, as amended ("ERISA"), are in material compliance with all applicable
requirements of law, including ERISA and the Code, and (ii) neither Capital nor
any Capital Subsidiary has any liabilities or obligations with respect to any
such Capital Benefit Plan, whether accrued, contingent or otherwise, nor to the
knowledge of Capital are any such liabilities or obligations expected to be
incurred. Except as set forth on Schedule 5.12(b), the execution of, and
performance of the transactions contemplated in, this Agreement will not (either
alone or upon the occurrence of any additional or subsequent events) constitute
an event under any Capital Benefit Plan, policy, arrangement or agreement or any
trust or loan that will or may result in any payment (whether of severance pay
or otherwise), acceleration, forgiveness of indebtedness, vesting, distribution,
increase in benefits or obligation to fund benefits with respect to any employee
or director. The only severance agreements or severance policies applicable to
Capital or the Capital Subsidiaries are the agreements and policies specifically
referred to on Schedule 5.12(b).
14
5.13. PROPERTIES. Except as provided on Schedule 5.13, Capital or one
of the Capital Subsidiaries own fee simple title to each of the real properties
identified on Schedule 5.13 (the "Capital Properties"), which are all of the
real estate properties owned by them, in each case (except as provided below)
free and clear of Liens. To Capital's knowledge, the Capital Properties are not
subject to any rights of way, written agreements, laws, ordinances and
regulations affecting building use or occupancy, or reservations of an interest
on title (collectively, "Property Restrictions"), except for (i) Liens and
Property Restrictions set forth on Schedule 5.13, (ii) Property Restrictions
imposed or promulgated by law or any governmental body or authority with respect
to real property, including zoning regulations, provided they do not materially
adversely affect the current use of any Capital Property, (iii) Liens and
Property Restrictions disclosed on existing title reports or existing surveys
(in either case copies of which title reports and surveys have been delivered or
made available to Capital) and (iv) mechanics', carriers', workmen's,
repairmen's liens and other Liens, Property Restrictions and other limitations
of any kind, if any, which, individually or in the aggregate, are not
substantial in amount, do not materially detract from the value of or materially
interfere with the present use of any of the Capital Properties subject thereto
or affected thereby, and do not otherwise have a Capital Material Adverse Effect
and which have arisen or been incurred only in the ordinary course of business.
Except as provided on Schedule 5.13, valid policies of title insurance have been
issued insuring Capital's fee simple title to the Capital Properties in amounts
at least equal to the purchase price thereof, subject only to the matters
disclosed above and on Schedule 5.13, and such policies are, at the date hereof,
in full force and effect and no material claim has been made against any such
policy. Except as provided on Schedule 5.13, (i) Capital has no knowledge that
any certificate, permit or license from any governmental authority having
jurisdiction over any of the Capital Properties or any agreement, easement or
other right which is necessary to permit the lawful use and operation of the
buildings and improvements on any of the Capital Properties or which is
necessary to permit the lawful use and operation of all driveways, roads and
other means of egress and ingress to and from any of the Capital Properties has
not been obtained and is not in full force and effect, or of any pending threat
of modification or cancellation of any of same and (ii) Capital has not received
written notice of any violation of any federal, state or municipal law,
ordinance, order, regulation or requirement affecting any portion of any of the
Capital Properties issued by any governmental authority. Neither Capital nor any
of the Capital Subsidiaries has received written notice to the effect that (A)
any condemnation or rezoning proceedings are pending or threatened with respect
to any of the Capital Properties or (B) any zoning, building or similar law,
code, ordinance, order or regulation is or will be violated by the continued
maintenance, operation or use of any buildings or other improvements on any of
the Capital Properties or by the continued maintenance, operation or use of the
parking areas. All work to be performed, payments to be made and actions to be
taken by Capital or the Capital Subsidiaries prior to the date hereof pursuant
to any agreement entered into with a governmental body or authority in
connection with a site approval, zoning reclassification or other similar action
relating to the Capital Properties has been performed, paid or taken, as the
case may be, and Capital has no knowledge of any planned or proposed work,
payments or actions that may be required after the date hereof pursuant to such
agreements.
15
5.14. TAXES.
(a) Except as disclosed in the Capital SEC Documents or on
Schedule 5.14, each of Capital and each Capital Subsidiary has (i) timely filed
all Tax returns and reports required to be filed by it (after giving effect to
any filing extension properly granted by a Governmental Entity having authority
to do so) and all such returns and reports are accurate and complete in all
material respects and (ii) timely paid (or Capital has paid on its behalf) all
Taxes shown on such returns and reports as required to be paid by it, and the
most recent financial statements contained in the Capital SEC Documents reflect
an adequate reserve for all material Taxes payable by Capital (and by those
Capital Subsidiaries whose financial statements are contained therein) for all
taxable periods and portions thereof through the date of such financial
statements. True, correct and complete copies of all federal, state and local
Tax returns and reports for Capital and each Capital Subsidiary for all taxable
years for which the statutory periods of limitation have not yet expired, and
all written communications relating thereto, have been delivered or made
available to representatives of Trust. Since the Capital Financial Statement
Date, neither Capital nor any Capital Subsidiary has incurred any liability for
taxes under Sections 852, 860 or 4982 of the Code, and neither Capital nor any
Capital Subsidiary has incurred any material liability for Taxes other than in
the ordinary course of business. To the knowledge of Capital, no event has
occurred, and no condition or circumstance exists, which presents a material
risk that any material Tax described in the preceding sentence will be imposed
upon Capital. Except as set forth on Schedule 5.14, to the knowledge of Capital,
no deficiencies for any Taxes have been proposed, asserted or assessed against
Capital or any of the Capital Subsidiaries, and no requests for waivers of the
time to assess any such Taxes are pending. As used in this Agreement, "Taxes"
shall include all federal, state, local and foreign income, property, sales,
excise and other taxes, tariffs or governmental charges of any nature
whatsoever, together with penalties, interest or additions to Tax with respect
thereto.
(b) Capital and each RIC Capital Subsidiary (i)(A) is, and
since its formation has elected to be, treated as a "regulated investment
company" within the meaning of Section 851 of the Code ("RIC"), and is, and
since its formation has been, entitled to the benefits available under the
provisions of Part I of Subchapter M of Chapter 1 of the Code ("Part I") and (B)
has paid dividends during each of its taxable years for which the statute of
limitations has not expired in amounts sufficient to reduce its income and
excise tax liabilities for such years to zero, (ii) has operated, and intends to
continue to operate, in such a manner as to qualify as a RIC for the taxable
year ending December 31, 2003 (and/or the short taxable year of Capital and of
WFCC beginning on January 1, 2003 and ending as of the Effective Time) and (iii)
has not taken or omitted to take any action which would reasonably be expected
to result in a challenge to its status as a RIC, and to Capital's knowledge, no
such challenge is pending or threatened. Each Capital Subsidiary which is a
partnership, joint venture or limited liability company since its formation has
been and continues to be treated for federal income tax purposes as a
partnership and not as a corporation or an association taxable as a corporation.
5.15. NO PAYMENTS TO EMPLOYEES, OFFICERS OR DIRECTORS. Except as set
forth on Schedule 5.15 or as otherwise specifically provided for in this
Agreement, there is no employment or severance contract, or other agreement
requiring payments to be made or increasing any amounts payable thereunder on a
change of control or otherwise as a result of the
16
consummation of any of the Transactions, with respect to any employee, officer
or director of Capital or any Capital Subsidiary.
5.16. BROKERS; SCHEDULE OF FEES AND EXPENSES. No broker, investment
banker, financial advisor or other person, other than A.G. Edwards & Sons, Inc.
("A.G. Edwards"), the fees and expenses of which have previously been disclosed
to Trust and will be paid by Capital, is entitled to any broker's, finder's,
financial advisor's or other similar fee or commission in connection with the
Transactions based upon arrangements made by or on behalf of Capital or any
Capital Subsidiary.
5.17. COMPLIANCE WITH LAWS. To the knowledge of Capital, except as
disclosed in the Capital SEC Documents and except as set forth on Schedule 5.17,
neither Capital nor any of the Capital Subsidiaries has violated or failed to
comply with any statute, law, ordinance, regulation, rule, judgment, decree or
order of any Governmental Entity applicable to its business, properties or
operations, except for violations and failures to comply that would not,
individually or in the aggregate, reasonably be expected to result in a Capital
Material Adverse Effect.
5.18. CONTRACTS; DEBT INSTRUMENTS. To the knowledge of Capital, neither
Capital nor any Capital Subsidiary is in violation of or in default under (nor
does there exist any condition which upon the passage of time or the giving of
notice or both would cause such a violation of or default under) any material
loan or credit agreement, note, bond, mortgage, indenture, lease, permit,
concession, franchise, license or any other material contract, agreement,
arrangement or understanding, to which it is a party or by which it or any of
its properties or assets is bound, except as set forth on Schedule 5.18 and
except for violations or defaults that would not, individually or in the
aggregate, result in a Capital Material Adverse Effect.
5.19. OPINION OF FINANCIAL ADVISOR. Capital has received the opinion of
A.G. Edwards, satisfactory to Capital, a copy of which has been provided to
Trust, to the effect that the Exchange Ratio provided for in this Agreement in
connection with the exchange of the Merger Consideration for Capital Common
Stock is fair to the shareholders of Capital from a financial point of view.
5.20. TAKEOVER STATUTES. Capital has taken all action necessary, if
any, to exempt transactions between Trust and Capital and their affiliates from
the operation of any "fair price," "moratorium," "control share acquisition" or
any other anti-takeover statute or similar statute enacted under the state or
federal laws of the United States or similar statute or regulation (a "Takeover
Statute").
5.21. REGISTRATION STATEMENT AND PROXY STATEMENT. The information
supplied or to be supplied by Capital or any of the Capital Subsidiaries for
inclusion in (a) the Registration Statement (as defined in Section 6.5 hereof)
will not at the time of filing or at the time the Registration Statement becomes
effective under the Securities Act contain any untrue statement of a material
fact or omit to state any material fact required to be stated therein or
necessary to make the statements therein not misleading or (b) the Proxy
Statement, including any amendments and supplements thereto, will not, either at
the date the Proxy Statement is mailed to shareholders of Capital or at the time
of the Capital Shareholder Meeting, contain any untrue statement of a material
fact or omit to state any material fact required to be stated therein or
17
necessary in order to make the statements therein, in light of the circumstances
under which they were made, not misleading. The Proxy Statement will comply as
to form in all material respects with all applicable laws, including the
provisions of the Securities Act and the Exchange Act and the rules and
regulations promulgated thereunder, except that no representation is made by
Capital with respect to information supplied by Trust for inclusion therein.
5.22. VOTE REQUIRED. The affirmative vote of at least a majority of the
outstanding shares of Capital Common Stock is the only vote of the holders of
any class or series of Capital's capital stock necessary (under applicable law
or otherwise) to approve this Agreement and the Transactions.
ARTICLE VI
REPRESENTATIONS AND WARRANTIES OF TRUST
Except as set forth in the disclosure schedules attached hereto (the
"Trust Disclosure Schedules" and, collectively with the Capital Disclosure
Schedules, the "Schedules"), which shall be arranged in paragraphs corresponding
to the numbered and lettered paragraphs contained in this Article VI and that
may be amended from time to time pursuant to the provisions hereof, Trust
represents and warrants to Capital as follows:
6.1. ORGANIZATION, STANDING AND POWER OF TRUST. Trust is a real estate
investment trust duly organized and validly existing under the laws of the State
of Texas and has the requisite power and authority to carry on its business as
now being conducted. Trust is duly qualified or licensed to do business and,
where applicable, is in good standing in each jurisdiction in which the nature
of its business or the ownership or leasing of its properties makes such
qualification or licensing necessary, other than in such jurisdictions where the
failure to be so qualified or licensed, individually or in the aggregate, would
not have a material adverse effect on the business, properties, assets,
financial condition or results of operations of Trust and the Trust Subsidiaries
taken as a whole but excluding therefrom any such change, effect, event,
occurrence or state of facts resulting from or arising in connection with (a)
changes or conditions generally affecting the industries in which the Trust
operates, (b) this Agreement, the transactions contemplated hereby or the
announcement thereof or (c) any change or effect resulting from any change in
general economic conditions (a "Trust Material Adverse Effect"). Trust has
delivered to Capital or its counsel complete and correct copies of its
Declaration of Trust and Bylaws, as amended to the date of this Agreement.
6.2. TRUST SUBSIDIARIES. Schedule 6.2 hereto sets forth each Trust
Subsidiary and the ownership interest therein of Trust. Except as set forth on
Schedule 6.2, (a) all the outstanding shares of capital stock of each Trust
Subsidiary that is a corporation have been validly issued and are fully paid and
nonassessable, are owned by Trust or by another Trust Subsidiary free and clear
of all Liens and (b) all equity interests in each Trust Subsidiary that is a
partnership, joint venture, limited liability company or trust are owned by
Trust, by another Trust Subsidiary, by Trust and another Trust Subsidiary or by
two or more Trust Subsidiaries free and clear of all Liens. Except for the
capital stock of or other equity or ownership interests in Trust Subsidiaries,
and except as set forth on Schedule 6.2, Trust does not own, directly or
indirectly, any capital stock or other ownership interest in any Person. Each
Trust Subsidiary that is a
18
corporation is duly incorporated and validly existing under the laws of its
jurisdiction of incorporation and has the requisite corporate power and
authority to carry on its business as now being conducted, and each Trust
Subsidiary that is a partnership, limited liability company or trust is duly
organized and validly existing under the laws of its jurisdiction of
organization and has the requisite power and authority to carry on its business
as now being conducted. Except as set forth on Schedule 6.2, each Trust
Subsidiary is duly qualified or licensed to do business and, where applicable,
is in good standing in each jurisdiction in which the nature of its business or
the ownership or leasing of its properties makes such qualification or licensing
necessary, other than in such jurisdictions where the failure to be so qualified
or licensed, individually or in the aggregate, would not have a Trust Material
Adverse Effect.
6.3. CAPITAL STRUCTURE. The authorized capital of Trust consists of
100,000,000 shares of beneficial interest, consisting of Trust Common Shares and
preferred shares, par value $.01 per share (the "Preferred Shares"). On the date
hereof, (a) 6,446,291 Trust Common Shares and no Preferred Shares were issued
and outstanding, (b) 132,850 Trust Common Shares and no Preferred Shares were
held by Trust in its treasury and (c) 204,426 Trust Common Shares were issuable
upon exercise of outstanding options to acquire Trust Common Shares (the "Trust
Options"). On the date of this Agreement, except as set forth above in this
Section 6.3, no capital shares or other voting securities of Trust were issued,
reserved for issuance or outstanding. There are no outstanding share
appreciation rights relating to the capital shares of Trust. All outstanding
capital shares of Trust are duly authorized, validly issued, fully paid and
nonassessable and not subject to preemptive rights. There are no bonds,
debentures, notes or other indebtedness of Trust having the right to vote (or
convertible into, or exchangeable for, securities having the right to vote) on
any matters on which shareholders of Trust may vote. Except (i) for the Trust
Options or (ii) as set forth on Schedule 6.3, as of the date of this Agreement
there are no outstanding securities, options, warrants, calls, rights,
commitments, agreements, arrangements or undertakings of any kind to which Trust
or any Trust Subsidiary is a party or by which such entity is bound, obligating
Trust or any Trust Subsidiary to issue, deliver or sell, or cause to be issued,
delivered or sold, additional shares of capital stock, voting securities or
other ownership interests of Trust or any Trust Subsidiary or obligating Trust
or any Trust Subsidiary to issue, grant, extend or enter into any such security,
option, warrant, call, right, commitment, agreement, arrangement or undertaking
(other than to Trust or an Trust Subsidiary). Except as set forth on Schedule
6.3, there are no outstanding contractual obligations of Trust or any Trust
Subsidiary to repurchase, redeem or otherwise acquire any capital shares of
Trust or any capital stock, voting securities or other ownership interests in
any Trust Subsidiary or make any material investment (in the form of a loan,
capital contribution or otherwise) in any person (other than a Trust
Subsidiary).
6.4. AUTHORITY; NONCONTRAVENTION. Trust has the requisite power and
authority to enter into this Agreement and, subject to approval of this
Agreement by the vote of the holders of the Trust Common Shares required to
approve this Agreement and the transactions contemplated hereby (the "Trust
Shareholder Approvals" and, together with the Capital Shareholder Approvals, the
"Shareholder Approvals"), to consummate the transactions contemplated by this
Agreement to which Trust is a party. The execution and delivery of this
Agreement by Trust and the consummation by Trust of the transactions
contemplated by this Agreement to which Trust is a party have been duly
authorized by all necessary action on the part of Trust, subject to approval of
this Agreement pursuant to Trust Shareholder Approvals. Except as set forth on
19
Schedule 6.4, the execution and delivery of this Agreement by Trust do not, and
the consummation of the transactions contemplated by this Agreement to which
Trust is a party and compliance by Trust with the provisions of this Agreement
will not, conflict with, or result in any violation of, or default (with or
without notice or lapse of time, or both) under, or give rise to a right of
termination, cancellation or acceleration of any obligation or to loss of a
material benefit under, or result in the creation of any Lien upon any of the
properties or assets of Trust or any Trust Subsidiary under, (a) the Declaration
of Trust or the Bylaws of Trust or the comparable charter or organizational
documents or partnership or similar agreement (as the case may be) of any Trust
Subsidiary, (b) any loan or credit agreement, note, bond, mortgage, indenture,
reciprocal easement agreement, lease or other agreement, instrument, permit,
concession, contract, franchise or license applicable to Trust or any Trust
Subsidiary or their respective properties or assets or (c) subject to the
governmental filings and other matters referred to in Section 6.5, any Laws
applicable to Trust or any Trust Subsidiary, or their respective properties or
assets, other than, in the case of clause (b) or (c), any such conflicts,
violations, defaults, rights or Liens that individually or in the aggregate
would not (i) have a Trust Material Adverse Effect or (ii) prevent the
consummation of the Transactions.
6.5. CONSENTS. No consent, approval, order or authorization of, or
registration, declaration or filing with, any Governmental Entity is required by
or with respect to Trust or any Trust Subsidiary in connection with the
execution and delivery of this Agreement by Trust or the consummation by Trust
of the transactions contemplated by this Agreement, except for (a) the filing by
any person in connection with any of the Transactions of a pre-merger
notification and report form under the HSR Act, to the extent applicable; (b)
compliance with any applicable requirements of (i) the Securities Act and the
rules and regulations promulgated thereunder, including, without limitation, the
filing with the SEC of a registration statement on Form S-4 (or other
appropriate form) in connection with the registration of the Trust Common Shares
to be issued in the Merger (as amended from time to time, the "Registration
Statement"), (ii) the Exchange Act and the rules and regulations promulgated
thereunder, including, without limitation, the filing with the SEC of the Joint
Proxy Statement/Prospectus, (iii) the 1940 Act and the rules and regulations
promulgated thereunder and (iv) the Investment Advisers Act and the rules and
regulations promulgated thereunder; (c) the filing of Articles of Merger with
the Secretary of State of the State of Florida and the Dallas County Clerk,
Dallas, Texas; (d) compliance with any applicable requirements of the 1958 Act,
the Small Business Investment Act and any other applicable requirements, rules,
or regulations of the of the SBA; and (e) such other consents, approvals,
orders, authorizations, registrations, declarations and filings (i) as are set
forth on Schedule 6.5, (ii) as may be required under (A) federal, state or local
environmental laws or (B) the "blue sky" laws of various states or (iii) which,
if not obtained or made, would not prevent or delay in any material respect the
consummation of any of the transactions contemplated by this Agreement or
otherwise prevent Trust from performing its obligations under this Agreement in
any material respect or have, individually or in the aggregate, a Trust Material
Adverse Effect.
6.6. SEC DOCUMENTS; FINANCIAL STATEMENTS; UNDISCLOSED LIABILITIES.
Trust has filed all required reports, schedules, forms, statements and other
documents with the SEC since December 31, 2001 (the "Trust SEC Documents"). All
of the Trust SEC Documents (other than preliminary material), as of their
respective filing dates, complied in all material respects with all applicable
requirements of the Securities Act and the Exchange Act and, in each case, the
rules
20
and regulations promulgated thereunder applicable to such the Trust SEC
Documents. None of the Trust SEC Documents at the time of filing and
effectiveness contained any untrue statement of a material fact or omitted to
state any material fact required to be stated therein or necessary in order to
make the statements therein, in light of the circumstances under which they were
made, not misleading, except to the extent such statements have been modified or
superseded by later the Trust SEC Documents. The consolidated financial
statements of Trust included in the Trust SEC Documents complied as to form in
all material respects with applicable accounting requirements and the published
rules and regulations of the SEC with respect thereto, have been prepared in
accordance with GAAP (except, in the case of unaudited statements, as permitted
by Form 10-Q of the SEC) applied on a consistent basis during the periods
involved (except as may be indicated in the notes thereto) and fairly presented,
in accordance with the applicable requirements of GAAP, the financial position
of Trust as of the dates thereof and the results of operations and cash flows
for the periods then ended (subject, in the case of unaudited statements, to
normal year-end audit adjustments). Except as set forth in the Trust SEC
Documents, on Schedule 6.6 or as permitted by Section 7.2 (for the purposes of
this sentence, as if Section 7.2 had been in effect since December 31, 2002),
neither Trust nor any Trust Subsidiary has any liabilities or obligations of any
nature (whether accrued, absolute, contingent or otherwise) required by GAAP to
be set forth on a consolidated balance sheet of Trust or, to the knowledge of
Trust, of any unconsolidated Trust Subsidiary or in the notes thereto and which,
individually or in the aggregate, would have a Trust Material Adverse Effect.
6.7. BINDING EFFECT. This Agreement has been duly executed and
delivered by, and constitutes a valid and binding obligation of, Trust
enforceable against Trust in accordance with its terms as such enforceability
may be limited by bankruptcy, insolvency, reorganization, moratorium, fraudulent
conveyance or similar laws affecting the enforcement of creditors' rights
generally or by general equitable principles (regardless of whether such
enforcement is sought in a proceeding in equity or at law).
6.8. ABSENCE OF CERTAIN CHANGES OR EVENTS. Except as disclosed in the
Trust SEC Documents or on Schedule 6.8, since the date of the most recent
financial statements included in the Trust SEC Documents (the "Trust Financial
Statement Date") and to the date of this Agreement, Trust and the Trust
Subsidiaries have conducted their business only in the ordinary course and there
has not been (a) any change that would have a Trust Material Adverse Effect (a
"Trust Material Adverse Change"), nor has there been any occurrence or
circumstance that with the passage of time would reasonably be expected to
result in a Trust Material Adverse Change, (b) except for regular quarterly
dividends not in excess of $0.40 per Trust Common Share, any declaration,
setting aside or payment of any dividend or other distribution (whether in cash,
shares or property) with respect to any of Trust's capital shares, other than
any dividend paid pursuant to Section 4.3, (c) any split, combination or
reclassification of any of Trust's capital shares or any issuance or the
authorization of any issuance of any other securities in respect of, in lieu of
or in substitution for, or giving the right to acquire by exchange or exercise,
of its capital shares or any issuance of an ownership interest in, any Trust
Subsidiary except as permitted by Section 7.2, (d) any damage, destruction or
loss, not covered by insurance, that has or would have a Trust Material Adverse
Effect or (e) any change in accounting methods, principles or practices by Trust
or any Trust Subsidiary, except insofar as may have been disclosed in the Trust
SEC Documents or required by a change in GAAP.
21
6.9. LITIGATION. Except as disclosed in the Trust SEC Documents or on
Schedule 6.9, and other than personal injury and other routine litigation
arising from the ordinary course of operations of Trust and the Trust
Subsidiaries, there is no suit, action or proceeding pending or threatened in
writing against or affecting Trust or any Trust Subsidiary that, individually or
in the aggregate, could reasonably be expected to (i) have a Trust Material
Adverse Effect or (ii) prevent the consummation of any of the Transactions, nor
is there any judgment, decree, injunction, rule or order of any Governmental
Entity or arbitrator outstanding against Trust or any Trust Subsidiary having,
or which, insofar as reasonably can be foreseen, in the future would have, a
Trust Material Adverse Effect any such effect.
6.10. ENVIRONMENTAL MATTERS. Except (a) as disclosed in the Trust SEC
Documents or as set forth on Schedule 6.10, (b) for matters that, individually
or in the aggregate, could not reasonably be expected to have a Trust Material
Adverse Effect or (c) for commercially reasonable quantities of leasing and
office supplies, Trust has never generated, transported, used, stored, treated,
disposed of or managed any Hazardous Substance and to the knowledge of Trust,
(i) Trust does not have any material liability under, nor has Trust ever
violated in any material respect, any Environmental, Health and Safety Law; (ii)
to Trust's knowledge, Trust is in compliance in all material respects with all
applicable Environmental, Health and Safety Laws; and (iii) Trust has never
entered into nor been subject to any judgment, consent decree, compliance order,
or administrative order with respect to any environmental or health and safety
matter nor received any demand letter, formal complaint or claim with respect to
any environmental or health and safety matter or the enforcement of any
Environmental, Health and Safety Law.
6.11. RELATED PARTY TRANSACTIONS. Set forth on Schedule 6.11 is a list
of all arrangements, agreements and contracts entered into by Trust or any of
the Trust Subsidiaries with any person who is an officer, trust manager,
director or affiliate of Trust or any of the Trust Subsidiaries, any relative of
any of the foregoing or any entity of which any of the foregoing is an
affiliate. Such documents, copies of all of which have previously been delivered
or made available to Capital, are listed on Schedule 6.11.
6.12. PROPERTIES. Except as provided on Schedule 6.12, Trust or one of
the Trust Subsidiaries own fee simple title to each of the real properties
identified on Schedule 6.12 (the "Trust Properties"), which are all of the real
estate properties owned by them, in each case (except as provided below) free
and clear of Liens. To Trust's knowledge, the Trust Properties are not subject
to any Property Restrictions, except for (i) Liens and Property Restrictions set
forth on Schedule 6.12, (ii) Property Restrictions imposed or promulgated by law
or any governmental body or authority with respect to real property, including
zoning regulations, provided they do not materially adversely affect the current
use of any Trust Property, (iii) Liens and Property Restrictions disclosed on
existing title reports or existing surveys (in either case copies of which title
reports and surveys have been delivered or made available to Capital) and (iv)
mechanics', carriers', workmen's, repairmen's liens and other Liens, Property
Restrictions and other limitations of any kind, if any, which, individually or
in the aggregate, are not substantial in amount, do not materially detract from
the value of or materially interfere with the present use of any of the Trust
Properties subject thereto or affected thereby, and do not otherwise have a
Trust Material Adverse Effect and which have arisen or been incurred only in the
ordinary course of business. Except as provided on Schedule 6.12, valid policies
of title
22
insurance have been issued insuring Trust's fee simple title to the Trust
Properties in amounts at least equal to the purchase price thereof, subject only
to the matters disclosed above and on Schedule 6.12, and such policies are, at
the date hereof, in full force and effect and no material claim has been made
against any such policy. Except as provided on Schedule 6.12, (i) Trust has no
knowledge that any certificate, permit or license from any governmental
authority having jurisdiction over any of the Trust Properties or any agreement,
easement or other right which is necessary to permit the lawful use and
operation of the buildings and improvements on any of the Trust Properties or
which is necessary to permit the lawful use and operation of all driveways,
roads and other means of egress and ingress to and from any of the Trust
Properties has not been obtained and is not in full force and effect, or of any
pending threat of modification or cancellation of any of same and (ii) Trust has
not received written notice of any violation of any federal, state or municipal
law, ordinance, order, regulation or requirement affecting any portion of any of
the Trust Properties issued by any governmental authority. Neither Trust nor any
of the Trust Subsidiaries has received written notice to the effect that (A) any
condemnation or rezoning proceedings are pending or threatened with respect to
any of the Trust Properties or (B) any zoning, building or similar law, code,
ordinance, order or regulation is or will be violated by the continued
maintenance, operation or use of any buildings or other improvements on any of
the Trust Properties or by the continued maintenance, operation or use of the
parking areas. All work to be performed, payments to be made and actions to be
taken by Trust or the Trust Subsidiaries prior to the date hereof pursuant to
any agreement entered into with a governmental body or authority in connection
with a site approval, zoning reclassification or other similar action relating
to the Trust Properties has been performed, paid or taken, as the case may be,
and Trust has no knowledge of any planned or proposed work, payments or actions
that may be required after the date hereof pursuant to such agreements.
6.13. TAXES.
(a) Except as disclosed in the Trust SEC Documents or on
Schedule 6.13, each of Trust and each Trust Subsidiary has (i) timely filed all
Tax returns and reports required to be filed by it (after giving effect to any
filing extension properly granted by a Governmental Entity having authority to
do so) and all such returns and reports are accurate and complete in all
material respects and (ii) timely paid (or Trust has paid on its behalf) all
Taxes shown on such returns and reports as required to be paid by it, and the
most recent financial statements contained in the Trust SEC Documents reflect an
adequate reserve for all material Taxes payable by Trust (and by those Trust
Subsidiaries whose financial statements are contained therein) for all taxable
periods and portions thereof through the date of such financial statements.
True, correct and complete copies of all federal, state and local Tax returns
and reports for Trust and each Trust Subsidiary for all taxable years for which
the statutory periods of limitation have not yet expired, and all written
communications relating thereto, have been delivered or made available to
representatives of Trust. Since the Trust Financial Statement Date, Trust has
incurred no liability for taxes under Sections 857, 860 or 4981 of the Code, and
neither Trust nor any Trust Subsidiary has incurred any material liability for
Taxes other than in the ordinary course of business. To the knowledge of Trust,
no event has occurred, and no condition or circumstance exists, which presents a
material risk that any material Tax described in the preceding sentence will be
imposed upon Trust. Except as set forth on Schedule 6.13, to the knowledge of
Trust, no deficiencies for any Taxes have been proposed, asserted or assessed
23
against Trust or any of the Trust Subsidiaries, and no requests for waivers of
the time to assess any such Taxes are pending.
(b) Trust (i)(A) is, and since its formation has been, a "real
estate investment trust" within the meaning of Section 856(a) of the Code
("REIT"), and is, and since its formation has been, entitled to the benefits
available under the provisions of Part II of Subchapter M of Chapter 1 of the
Code ("Part II") and (B) has paid dividends during each of its taxable years for
which the statute of limitations has not expired in amounts sufficient to reduce
its income and excise tax liabilities for such years to zero, (ii) has operated,
and intends to continue to operate, in such a manner as to qualify as a REIT for
the taxable year ending December 31, 2003, and (iii) has not taken or omitted to
take any action which would reasonably be expected to result in a challenge to
its status as a REIT, and to Trust's knowledge, no such challenge is pending or
threatened. Each Trust Subsidiary which is a partnership, joint venture or
limited liability company since its formation has been and continues to be
treated for federal income tax purposes as a partnership and not as a
corporation or an association taxable as a corporation.
6.14. NO PAYMENTS TO EMPLOYEES, OFFICERS OR TRUST MANAGERS. Except as
set forth on Schedule 6.14 or as otherwise specifically provided for in this
Agreement, there is no employment or severance contract, or other agreement
requiring payments to be made or increasing any amounts payable thereunder on a
change of control or otherwise as a result of the consummation of any of the
Transactions, with respect to any employee, officer, trust manager or director
of Trust or any Trust Subsidiary.
6.15. EMPLOYEES. Neither Trust or any Trust Subsidiary has any
employees and is not a party to any agreement (other than this Agreement) that
would obligate it to hire any employees or enter into any employment
arrangements.
6.16. BROKERS; SCHEDULE OF FEES AND EXPENSES. No broker, investment
banker, financial advisor or other person, other than U.S. Bancorp Piper Jaffray
("Piper Jaffray"), the fees and expenses of which have previously been disclosed
to Capital and will be paid by Trust, is entitled to any broker's, finder's,
financial advisor's or other similar fee or commission in connection with the
Transactions based upon arrangements made by or on behalf of Trust or any Trust
Subsidiary.
6.17. COMPLIANCE WITH LAWS. To the knowledge of Trust, except as
disclosed in the Trust SEC Documents and except as set forth on Schedule 6.17,
neither Trust nor any of the Trust Subsidiaries has violated or failed to comply
with any statute, law, ordinance, regulation, rule, judgment, decree or order of
any Governmental Entity applicable to its business, properties or operations,
except for violations and failures to comply that would not, individually or in
the aggregate, reasonably be expected to result in a Trust Material Adverse
Effect.
6.18. CONTRACTS; DEBT INSTRUMENTS. To the knowledge of Trust, neither
Trust nor any Trust Subsidiary is in violation of or in default under (nor does
there exist any condition which upon the passage of time or the giving of notice
or both would cause such a violation of or default under) any material loan or
credit agreement, note, bond, mortgage, indenture, lease, permit, concession,
franchise, license or any other material contract, agreement, arrangement or
understanding, to which it is a party or by which it or any of its properties or
assets is bound,
24
except as set forth on Schedule 6.18 and except for violations or defaults that
would not, individually or in the aggregate, result in a Trust Material Adverse
Effect.
6.19. OPINION OF FINANCIAL ADVISOR. Trust has received the opinion of
Piper Jaffray, satisfactory to Trust, a copy of which has been provided to
Capital, to the effect that the Exchange Ratio provided for in this Agreement in
connection with the exchange of the Merger Consideration for Capital Common
Stock is fair to the shareholders of Trust from a financial point of view.
6.20. TAKEOVER STATUTES. Trust has taken all action necessary, if any,
to exempt transactions between Trust and Trust and its affiliates from the
operation of any Takeover Statute.
6.21. REGISTRATION STATEMENT AND PROXY STATEMENT. The information
supplied or to be supplied by Trust or any of the Trust Subsidiaries for
inclusion in (a) the Registration Statement will not at the time of filing or at
the time the Registration Statement becomes effective under the Securities Act
contain any untrue statement of a material fact or omit to state any material
fact required to be stated therein or necessary to make the statements therein
not misleading or (b) the Proxy Statement, including any amendments and
supplements thereto, will not, either at the date the Proxy Statement is mailed
to shareholders of Trust or at the time of the Trust Shareholder Meeting,
contain any untrue statement of a material fact or omit to state any material
fact required to be stated therein or necessary in order to make the statements
therein, in light of the circumstances under which they were made, not
misleading. The Registration Statement and the Proxy Statement will each to
comply as to form in all material respects with all applicable laws, including
the provisions of the Securities Act and the Exchange Act and the rules and
regulations promulgated thereunder, except that no representation is made by
Trust with respect to information supplied by Capital for inclusion therein.
6.22. VOTE REQUIRED. The affirmative vote of at least two-thirds of the
outstanding Trust Common Shares is the only vote of the holders of any class or
series of Trust's capital shares necessary (under applicable law or otherwise)
to approve this Agreement and the Transactions.
ARTICLE VII
COVENANTS
7.1. CONDUCT OF BUSINESS BY CAPITAL. During the period from the date of
this Agreement to the Effective Time, Capital shall, and shall cause (or, in the
case of the Capital Subsidiaries that Capital does not control, shall use
commercially reasonable efforts to cause) the Capital Subsidiaries each to,
carry on its businesses in the usual, regular and ordinary course in
substantially the same manner as heretofore conducted and, to the extent
consistent therewith, use commercially reasonable efforts to preserve intact its
current business organization, goodwill and ongoing businesses. Without limiting
the generality of the foregoing, the following additional restrictions shall
apply: During the period from the date of this Agreement to the Effective Time,
except as set forth in Schedule 7.1 hereto, Capital shall not and shall cause
(or, in the case of the Capital Subsidiaries that Capital does not control,
shall use commercially
25
reasonable efforts to cause) the Capital Subsidiaries not to (and not to
authorize or commit or agree to):
(a) (i) except for its regular quarterly dividends not in
excess of $0.12 per share of Capital Common Stock in each case with the same
record and payment dates as the record and payment dates relating to dividends
payable on the Trust Common Shares during such calendar quarters (as previously
disclosed by Trust), declare, set aside or pay any dividends on, or make any
other distributions in respect of any of Capital's capital stock other than the
dividend required to be paid pursuant to Section 4.3, if any, (ii) split,
combine or reclassify any capital stock or partnership interests or issue or
authorize the issuance of any other securities in respect of, in lieu of or in
substitution for shares of such capital stock or partnership interests or (iii)
purchase, redeem or otherwise acquire any shares of capital stock of Capital or
any options, warrants or rights to acquire, or security convertible into, shares
of such capital stock;
(b) except as required pursuant to the exercise of stock
options or issuance of shares pursuant to stock rights or warrants outstanding
on the date of this Agreement, issue, deliver or sell, or grant any option or
other right in respect of, any shares of capital stock, any other voting
securities of Capital or any Capital Subsidiary or any securities convertible
into, or any rights, warrants or options to acquire, any such shares, voting
securities or convertible securities except to Capital or a Capital Subsidiary;
(c) except as otherwise contemplated by this Agreement, amend
the articles or certificate of incorporation, bylaws, partnership agreement or
other comparable charter or organizational documents of Capital or any Capital
Subsidiary;
(d) merge or consolidate with any Person;
(e) make any tax election or take any other action (or fail to
take any action) that would result in Capital no longer qualifying as a RIC or
no longer being entitled to the benefit of the provisions of Part I;
(f) sell or otherwise dispose of any asset or property except
in the ordinary course of business consistent with past practice;
(g) amend any material contract, instrument or other
agreement;
(h) acquire any assets other than in the ordinary course of
business;
(i) incur, in any transaction or series of related
transactions, any liabilities in excess of $5,000,000 and excluding any
liability described on Schedule 7.1;
(j) except as provided in this Agreement, adopt any new
employee benefit plan, incentive plan, severance plan, stock option or similar
plan, grant new stock appreciation rights or amend any existing plan or rights,
except such changes as are required by law or which are not more favorable to
participants than provisions presently in effect; and
(k) settle any shareholder derivative or class action claims
arising out of or in connection with any of the Transactions.
26
7.2. CONDUCT OF BUSINESS BY TRUST. During the period from the date of
this Agreement to the Effective Time, Trust shall, and shall cause (or, in the
case of Trust Subsidiaries that Trust does not control, shall use commercially
reasonable efforts to cause) the Trust Subsidiaries each to carry on its
businesses in the usual, regular and ordinary course in substantially the same
manner as heretofore conducted and, to the extent consistent therewith, use
commercially reasonable efforts to preserve intact its current business
organization, goodwill and ongoing businesses. Without limiting the generality
of the foregoing, the following additional restrictions shall apply: During the
period from the date of this Agreement to the Effective Time, except as set
forth in Schedule 7.2 hereto, Trust shall not and shall cause (or, in the case
of the Trust Subsidiaries that Trust does not control, shall use commercially
reasonable efforts to cause) the Trust Subsidiaries not to (and not to authorize
or commit or agree to):
(a) (i) except for its regular quarterly dividends not in
excess of $0.40 per Trust Common Share with customary record and payment dates,
declare, set aside or pay any dividends on, or make any other distributions in
respect of any of Trust's capital shares other than the dividend required to be
paid pursuant to Section 4.3, if any, (ii) split, combine or reclassify any
capital shares or partnership interests or issue or authorize the issuance of
any other securities in respect of, in lieu of or in substitution for such
capital shares or partnership interests or (iii) purchase, redeem or otherwise
acquire any capital shares of Trust or any options, warrants or rights to
acquire, or security convertible into, such capital shares;
(b) except as required pursuant to the exercise of options or
the issuance of shares pursuant to share rights or warrants outstanding on the
date of this Agreement, issue, deliver or sell, or grant any option or other
right in respect of, any capital shares, any other voting securities of Trust or
any Trust Subsidiary or any securities convertible into, or any rights, warrants
or options to acquire, any such shares, voting securities or convertible
securities except to Trust or an Trust Subsidiary;
(c) except as otherwise contemplated by this Agreement, amend
the declaration of trust, articles or certificate of incorporation, bylaws,
partnership agreement or other comparable charter or organizational documents of
Trust or any Trust Subsidiary;
(d) merge or consolidate with any Person;
(e) make any tax election or take any other action (or fail to
take any action) that would result in Trust no longer qualifying as a REIT or no
longer being entitled to the benefit of the provisions of Part II;
(f) sell or otherwise dispose of any asset or property except
in the ordinary course of business consistent with past practice;
(g) amend any material contract, instrument or other
agreement;
(h) acquire any assets other than in the ordinary course of
business;
(i) incur, in any transaction or series of related
transactions, any liabilities in excess of $5,000,000 and excluding any
liability described on Schedule 7.2;
27
(j) except as provided in this Agreement, adopt any new
employee benefit plan, incentive plan, severance plan, stock option or similar
plan, grant new stock appreciation rights or amend any existing plan or rights,
except such changes as are required by law or which are not more favorable to
participants than provisions presently in effect; and
(k) settle any shareholder derivative or class action claims
arising out of or in connection with any of the Transactions.
7.3. OTHER ACTIONS. Each of Capital on the one hand and Trust on the
other hand shall not and shall use commercially reasonable efforts to cause its
respective subsidiaries not to take any action that would result in (a) any of
the representations and warranties of such party (without giving effect to any
"knowledge" qualification) set forth in this Agreement that are qualified as to
materiality becoming untrue, (b) any of such representations and warranties
(without giving effect to any "knowledge" qualification) that are not so
qualified becoming untrue in any material respect or (c) except as contemplated
by Section 10.1, any of the conditions to the Merger set forth in Article IX not
being satisfied.
ARTICLE VIII
ADDITIONAL COVENANTS
8.1. PREPARATION OF THE REGISTRATION STATEMENT AND THE PROXY STATEMENT;
CAPITAL SHAREHOLDERS MEETING AND TRUST SHAREHOLDERS MEETING.
(a) As soon as practicable following the date of this
Agreement, Capital and Trust shall prepare and file with the SEC a preliminary
Proxy Statement in form and substance satisfactory to each of Trust and Capital,
and Trust shall prepare and file with the SEC the Registration Statement, in
which the Proxy Statement will be included as a prospectus. Each of Capital and
Trust shall use commercially reasonable efforts to (i) respond to any comments
of the SEC and (ii) have the Registration Statement declared effective under the
Securities Act and the rules and regulations promulgated thereunder as promptly
as practicable after such filing and to keep the Registration Statement
effective as long as is reasonably necessary to consummate the Merger. Each of
Capital and Trust will use commercially reasonable efforts to cause the Proxy
Statement to be mailed to Capital's shareholders or Trust's shareholders,
respectively, as promptly as practicable after the Registration Statement is
declared effective under the Securities Act. Each party will notify the other
promptly of the receipt of any comments from the SEC and of any request by the
SEC for amendments or supplements to the Registration Statement or the Proxy
Statement or for additional information and will supply the other with copies of
all correspondence between such party or any of its representatives and the SEC,
with respect to the Registration Statement or the Proxy Statement. The
Registration Statement and the Proxy Statement shall comply in all material
respects with all applicable requirements of law. Whenever any event occurs
which is required to be set forth in an amendment or supplement to the
Registration Statement or the Proxy Statement, Trust or Capital, as the case may
be, shall promptly inform the other of such occurrences and cooperate in filing
with the SEC and/or mailing to the shareholders of Trust and the shareholders of
Capital such amendment or supplement. The Proxy Statement shall include the
recommendations of the Board of Trust Managers of Trust in favor of the issuance
of Trust Common Shares and of the Board of
28
Directors of Capital in favor of the Merger, provided that the recommendation of
the Board of Trust Managers of Trust or Board of Directors of Capital may not be
included or may be withdrawn if the Board of Trust Managers of Trust or Board of
Directors of Capital, as applicable, has accepted a proposal for a Superior
Competing Transaction (as defined below) in accordance with the terms of Section
10.1. Trust also shall take any action required to be taken under any applicable
state securities or "blue sky" laws in connection with the issuance of Trust
Common Shares pursuant to the Merger, and Capital shall furnish all information
concerning Capital and the holders of the Capital Common Stock and rights to
acquire Capital Common Stock pursuant to the Capital Plan as may be reasonably
requested in connection with any such action. Trust will use commercially
reasonable efforts to obtain, prior to the effective date of the Registration
Statement, all necessary state securities or "blue sky" permits or approvals
required to carry out the transactions contemplated by this Agreement and will
pay or cause an Trust Subsidiary to pay all expenses incident thereto.
(b) Capital will, as soon as practicable following the date of
this Agreement (but in no event sooner than 30 days following the date the Proxy
Statement is mailed to the shareholders of Capital), duly call, give notice of,
convene and hold the Capital Shareholders Meeting for the purpose of obtaining
Capital Shareholder Approvals. Capital will, through its Board of Directors,
recommend to its shareholders approval of this Agreement and the transactions
contemplated by this Agreement, provided that the recommendation of the Board of
Directors of Capital may be withdrawn if the Board of Directors of Capital has
accepted a proposal for a Superior Competing Transaction (as defined below) in
accordance with the terms of Section 10.1.
(c) Trust will, as soon as practicable following the date of
this Agreement (but in no event sooner than 30 days following the date the Proxy
Statement is mailed to the shareholders of Trust), duly call, give notice of,
convene and hold the Trust Shareholders Meeting for the purpose of obtaining the
Trust Shareholder Approvals. Trust will, through its Board of Trust Managers,
recommend to its shareholders approval of this Agreement and the transactions
contemplated by this Agreement, including, but not limited to the requisite vote
of such shareholders approving the issuance of the Trust Common Shares in
connection with the Merger.
8.2. ACCESS TO INFORMATION; CONFIDENTIALITY. Subject to the
requirements of confidentiality agreements with third parties, each of Capital
and Trust shall, and shall cause each of its respective subsidiaries (including
all the Capital Subsidiaries and all the Trust Subsidiaries) to, afford to the
other party and to the officers, employees, accountants, counsel, financial
advisors and other representatives of such other party, reasonable access during
normal business hours during the period prior to the Effective Time to all their
respective properties, books, contracts, commitments, personnel and records and,
during such period, each of Capital and Trust shall, and shall cause each of its
respective subsidiaries (including all the Capital Subsidiaries and all the
Trust Subsidiaries) to, furnish promptly to the other party (a) a copy of each
report, schedule, registration statement and other document filed by it during
such period pursuant to the requirements of federal or state securities laws and
(b) all other information concerning its business, properties and personnel as
such other party may reasonably request. Capital, on the one hand, and Trust, on
the other hand, shall hold and shall cause their respective consultants and
advisors to hold in strict confidence, unless compelled to disclose by judicial
or
29
administrative process or by other requirements of law, all such documents and
information concerning the other party furnished it by the other party or its
representatives in connection with the transactions contemplated by this
Agreement (except to the extent that such information can be shown to have been
(a) previously known by the party to which it was furnished, (b) in the public
domain through no fault of such party or (c) later lawfully acquired from other
sources by the party to which it was furnished), and each party shall not
release or disclose such information to any other person, except its auditors,
attorneys, financial advisors and other consultants and advisors in connection
with this Agreement. Each party shall be deemed to have satisfied its obligation
to hold confidential information concerning or supplied by the other party if it
exercises the same care as it takes to preserve confidentiality for its own
similar information.
8.3. COMMERCIALLY REASONABLE EFFORTS; NOTIFICATION.
(a) Subject to the terms and conditions herein provided,
Capital and Trust shall: (a) to the extent required, promptly make their
respective filings and thereafter make any other required submissions under the
HSR Act with respect to the Merger; (b) use all commercially reasonable efforts
to cooperate with one another in (i) determining which filings are required to
be made prior to the Effective Time with, and which consents, approvals, permits
or authorizations are required to be obtained prior to the Effective Time from,
governmental or regulatory authorities of the United States, the several states
and foreign jurisdictions and any third parties in connection with the execution
and delivery of this Agreement, and the consummation of the transactions
contemplated by such agreements and (ii) timely making all such filings and
timely seeking all such consents, approvals, permits and authorizations (c) use
all commercially reasonable efforts to obtain in writing any consents required
from third parties to effectuate the Merger, such consents to be in reasonably
satisfactory form to Capital and Trust; and (d) use all commercially reasonable
efforts to take, or cause to be taken, all other action and do, or cause to be
done, all other things necessary, proper or appropriate to consummate and make
effective the transactions contemplated by this Agreement. If, at any time after
the Effective Time, any further action is necessary or desirable to carry out
the purpose of this Agreement, the proper officers and directors of Capital and
Trust shall take all such necessary action.
(b) Trust and Capital shall use commercially reasonable
efforts to proceed as promptly as possible to cause the Exemptive Order to be
issued and shall negotiate in good faith with each other as to any amendment to
this Agreement that may be necessary to comply with any condition of the
Exemptive Order that are inconsistent with this Agreement.
(c) Capital shall give prompt notice to Trust, and Trust shall
give prompt notice to Capital, if (i) any representation or warranty made by it
contained in this Agreement that is qualified as to materiality becoming untrue
or inaccurate in any respect or any such representation or warranty that is not
so qualified becoming untrue or inaccurate in any material respect or (ii) the
failure by it to comply with or satisfy in any material respect any covenant,
condition or agreement to be complied with or satisfied by it under this
Agreement; provided, however, that no such notification shall affect the
representations, warranties, covenants or agreements of the parties or the
conditions to the obligations of the parties under this Agreement.
30
8.4. HART-SCOTT-RODINO. Each of Capital and Trust (a) shall use their
commercially reasonable efforts to file, and to cause their "ultimate parent
entities" to file, as soon as practicable a "Notification and Report Form For
Certain Mergers and Acquisitions" under the HSR Act with respect to the Merger
and the transactions contemplated hereby, (b) shall take all other actions as
may be necessary, desirable or convenient to obtain the required approval under
the HSR Act and (c) will comply at the earliest practicable date with any
request for additional information received by it from the Federal Trade
Commission or the Department of Justice pursuant to the HSR Act.
8.5. SBA APPROVAL. Each of Capital and Trust (a) shall use its
commercially reasonable efforts, and shall take all actions as may be necessary,
desirable or convenient, to obtain the approval of the SBA with respect to the
Merger and the transactions contemplated hereby (the "SBA Approval") and (b)
will comply at the earliest practicable date with any request for additional
information received by it from the SBA.
8.6. UPDATING SCHEDULES. In connection with the Closing, Capital and
Trust will, promptly upon becoming aware of any fact requiring supplementation
or amendment of the Schedules, supplement or amend the various Schedules to this
Agreement to reflect any matter which, if existing, occurring or known on the
date of this Agreement, would have been required to be set forth or described in
such Schedules which was or has been rendered inaccurate thereby. No such
supplement or amendment to the Schedules shall have any effect for the purpose
of determining satisfaction of the conditions set forth in Article IX hereof, or
the compliance by any party hereto with its covenants and agreements set forth
herein.
8.7. AFFILIATES. Prior to the Closing Date, Capital shall deliver to
Trust a letter identifying all persons who are, at the time this Agreement is
submitted for approval to the shareholders of Capital, "affiliates" of Capital
(as the case may be) for purposes of Rule 145 under the Securities Act. Capital
shall use its best efforts to cause each such person to deliver to Trust on or
prior to the Closing Date a written agreement substantially in the form attached
as Exhibit A hereto.
8.8. TAX TREATMENT. Each of Trust and Capital shall use its reasonable
best efforts to cause the Merger to qualify as a reorganization under the
provisions of Sections 368(a) of the Code and to obtain the opinions of counsel
referred to in Sections 9.2(d) and 9.3(d).
8.9. TRUST BOARD OF TRUST MANAGERS. Trust shall take all steps
necessary to increase the number of trust managers of Trust from seven trust
managers to nine trust managers effective as of the Effective Time and to fill
vacancies in accordance with Section 2.1.
8.10. NO SOLICITATION OF TRANSACTIONS. Subject to Section 10.1, (a)
neither Trust nor Capital shall, directly or indirectly, through any officer,
trust manager, director, employee, agent, investment banker, financial advisor,
attorney, accountant, broker, finder or other representative retained by Trust
or Capital, respectively, initiate, solicit or encourage (including by way of
furnishing non-public information or assistance) any inquiries or the making of
any proposal that constitutes, or may reasonably be expected to lead to, any
Competing Transaction (as defined below), or authorize or permit any of the
officers, trust managers, directors, employees or agents of Trust or Capital,
respectively, or any attorney, investment banker, financial advisor,
31
accountant, broker, finder or other representative retained by Trust or Capital
to take any such action, (b) Trust or Capital, as applicable, shall immediately
cease and cause to be terminated any existing activities, discussions or
negotiations with any parties conducted heretofore with respect to any Competing
Transaction and will take the steps necessary to inform such parties of the
obligations undertaken in this Section 8.10 and (c) Trust or Capital, as
applicable, shall notify the other in writing (as promptly as practicable) if it
receives any inquiries, proposals or requests for information relating to such
matters. For purposes of this Agreement, "Competing Transaction" shall mean any
of the following with respect to (i) Trust or any of the Trust Subsidiaries or
(ii) Capital or any of the Capital Subsidiaries (other than the transactions
contemplated by this Agreement or a transaction with Trust or a Trust
Subsidiary): (A) with respect only to either entity or any group of its
Subsidiaries (acting in a single transaction or series of related transactions)
holding 20% or more of the assets of such entity and its Subsidiaries taken as a
whole, any merger, consolidation, share exchange, business combination, or
similar transaction; (B) any sale, lease, exchange, mortgage, pledge, transfer
or other disposition of 20% or more of the assets or equity securities
(including, without limitation, partnership interests) of such entity and its
Subsidiaries taken as a whole, in a single transaction or series of related
transactions, excluding any bona fide financing transactions which do not,
individually or in the aggregate, have as a purpose or effect the sale or
transfer of control of such assets and excluding any transaction set forth on
Schedule 8.10; (C) any tender offer or exchange offer for 20% or more of the
outstanding shares of capital stock of such entity; (D) any transaction
resulting in the issuance of shares representing 20% or more of the outstanding
capital stock or shares of such entity, or the filing of a registration
statement under the Securities Act in connection therewith; or (E) any public
announcements of a proposal, plan or intention to do any of the foregoing or any
agreement to engage in any of the foregoing.
8.11. PUBLIC ANNOUNCEMENTS. Trust on the one hand and Capital on the
other hand will consult with each other before issuing, and provide each other
the opportunity to review and comment upon, any press release or other public
statements with respect to the Transactions, including the Merger, and shall not
issue any such press release or make any such public statement prior to such
consultation, except as may be required by applicable law, court process or by
obligations pursuant to any listing agreement with any national securities
exchange. The parties agree that the initial press release to be issued with
respect to the Transactions will be in the form agreed to by the parties hereto
prior to the execution of this Agreement.
8.12. POST-MERGER DIVIDEND. Trust shall declare and pay any dividend
necessary in order for it to comply with Section 857(a)(2) of the Code for its
2003 taxable year. Such dividend shall have a record date of the close of
business on December 31, 2003.
8.13. LISTING. Trust will promptly prepare and submit to the AMEX a
supplemental listing application covering Trust Common Shares issuable in the
Merger. Prior to the Effective Time, Trust shall use commercially reasonable
efforts to have AMEX approve for listing, upon official notice of issuance, the
Trust Common Shares to be issued in the Merger.
8.14. BENEFIT PLANS AND OTHER EMPLOYEE ARRANGEMENTS. As of the
Effective Time, Trust shall, assume the Capital Benefit Plans. With respect to
any such assumed Capital Benefit Plan which is an "employee benefit plan" as
defined in Section 3(3) of ERISA, solely for purposes of determining eligibility
to participate, vesting, and entitlement to benefits but not for
32
purposes of accrual of pension benefits, service with Capital or any Capital
Subsidiary shall be treated as service with Trust or the Trust Subsidiaries (as
applicable); provided, however, that such service shall not be recognized to the
extent that such recognition would result in a duplication of benefits (or is
not otherwise recognized for such purposes under the Capital Benefit Plans).
Except as otherwise provided herein, Trust shall be under no obligation to
maintain the compensation and benefits currently provided by Capital to its
employees.
8.15. INDEMNIFICATION; DIRECTORS' AND OFFICERS' INSURANCE.
(a) Capital shall, and from and after the Effective Time,
Trust shall indemnify, defend and hold harmless each person who is now or has
been at any time prior to the date hereof or who becomes prior to the Effective
Time, an officer or director of Capital or any Capital Subsidiary (the
"Indemnified Parties") against all losses, claims, damages, costs, expenses
(including attorneys' fees and expenses), liabilities or judgments or amounts
that are paid in settlement of, with the approval of the Indemnifying Party (as
defined below) (which approval shall not be unreasonably withheld), or otherwise
in connection with any threatened or actual claim, action, suit, proceeding or
investigation based on or arising out of the fact that such person is or was a
director or officer of Capital or any Capital Subsidiary at or prior to the
Effective Time, whether asserted or claimed prior to, or at or after, the
Effective Time ("Indemnified Liabilities"), including all Indemnified
Liabilities based on, or arising out of, or pertaining to this Agreement or the
Transactions, in each case to the full extent permitted under applicable law
(and Trust shall pay expenses in advance of the final disposition of any such
action or proceeding to each Indemnified Party to the full extent permitted by
law subject to the limitations set forth in the fourth sentence of this Section
8.15(a)). Any Indemnified Parties proposing to assert the right to be
indemnified under this Section 8.15 shall, promptly after receipt of notice of
commencement of any action against such Indemnified Parties in respect of which
a claim is to be made under this Section 8.15 against Capital, and from and
after the Effective Time, Trust (collectively, the "Indemnifying Parties"),
notify the Indemnifying Parties of the commencement of such action, enclosing a
copy of all papers served. If any such action is brought against any of the
Indemnified Parties and such Indemnified Parties notify the Indemnifying Parties
of its commencement, the Indemnifying Parties will be entitled to participate in
and, to the extent that they elect by delivering written notice to such
Indemnified Parties promptly after receiving notice of the commencement of the
action from the Indemnified Parties, to assume the defense of the action and
after notice from the Indemnifying Parties to the Indemnified Parties of their
election to assume the defense, the Indemnifying Parties will not be liable to
the Indemnified Parties for any legal or other expenses except as provided
below. If the Indemnifying Parties assume the defense, the Indemnifying Parties
shall have the right to settle such action without the consent of the
Indemnified Parties; provided, however, that the Indemnifying Parties shall be
required to obtain such consent (which consent shall not be unreasonably
withheld) if the settlement includes any admission or wrongdoing on the part of
the Indemnified Parties or any decree or restriction on the Indemnified Parties
or their officers or directors; provided, further, that no Indemnifying Parties,
in the defense of any such action shall, except with the consent of the
Indemnified Parties (which consent shall not be unreasonably withheld), consent
to entry of any judgment or enter into any settlement that does not include as
an unconditional term thereof the giving by the claimant or plaintiff to such
Indemnified Parties of a release from all liability with respect to such action.
The Indemnified Parties will have the right to employ their own counsel in any
such action, but the fees, expenses and other charges of
33
such counsel will be at the expense of such Indemnified Parties unless (i) the
employment of counsel by the Indemnified Parties has been authorized in writing
by the Indemnifying Parties, (ii) the Indemnified Parties have reasonably
concluded (based on written advice of counsel) that there may be legal defenses
available to them that are different from or in addition to those available to
the Indemnifying Parties, (iii) a conflict or potential conflict exists (based
on written advice of counsel to the Indemnified Parties) between the Indemnified
Parties and the Indemnifying Parties (in which case the Indemnifying Parties
will not have the right to direct the defense of such action on behalf of the
Indemnified Parties) or (iv) the Indemnifying Parties have not in fact employed
counsel to assume the defense of such action within a reasonable time after
receiving notice of the commencement of the action, in each of which cases the
reasonable fees, disbursements and other charges of counsel will be at the
expense of the Indemnifying Parties. It is understood that the Indemnifying
Parties shall not, in connection with any proceeding or related proceedings in
the same jurisdiction, be liable for the reasonable fees, disbursements and
other charges of more than one separate firm admitted to practice in such
jurisdiction at any one time from all such Indemnified Parties unless (a) the
employment of more than one counsel has been authorized in writing by the
Indemnifying Parties, (b) any of the Indemnified Parties have reasonably
concluded (based on advice of counsel) that there may be legal defenses
available to them that are different from or in addition to those available to
other Indemnified Parties or (c) a conflict or potential conflict exists (based
on advice of counsel to the Indemnified Parties) between any of the Indemnified
Parties and the other Indemnified Parties, in each case of which the
Indemnifying Parties shall be obligated to pay the reasonable and appropriate
fees and expenses of such additional counsel or counsels. The Indemnifying
Parties will not be liable for any settlement of any action or claim effected
without their written consent (which consent shall not be unreasonably
withheld).
(b) The provisions of this Section 8.15 are intended to be for
the benefit of, and shall be enforceable by, each Indemnified Party, his or her
heirs and his or her personal representatives and shall be binding on all
successors and assigns of Trust and Capital.
(c) Trust shall either (i) extend Capital's existing
directors' and officers' liability insurance policy as of the date hereof (or a
policy providing coverage on the same or better terms and conditions) for acts
or omissions occurring prior to the Effective Time by persons who are currently
covered by such insurance policy maintained by Capital for a period of six (6)
years following the Effective Time, or (ii) add such persons to the existing
trust managers and officers liability insurance policy of Trust; provided,
however, that such insurance shall provide directors and officers of Capital the
same coverage as similarly situated officers and trust managers of Trust and
such insurance shall be maintained by Trust for a period of six (6) years
following the Effective Time.
(d) In the event that Trust or any of it respective successors
or assigns (i) consolidates with or merges into any other person and shall not
be the continuing or surviving corporation or entity of such consolidation or
merger or (ii) transfers all or substantially all of its properties and assets
to any person, then, and in each such case the successors and assigns of such
entity shall assume the obligations set forth in this Section 8.15, which
obligations are expressly intended to be for the irreversible benefit of, and
shall be enforceable by, each director and officer covered hereby.
34
ARTICLE IX
CONDITIONS PRECEDENT
9.1. CONDITIONS TO EACH PARTY'S OBLIGATION TO EFFECT THE MERGER. The
respective obligation of each party to effect the Merger and to consummate the
other Transactions contemplated to occur on the Closing Date is subject to the
satisfaction or waiver on or prior to the Effective Time of the following
conditions:
(a) Shareholder Approvals. This Agreement shall have been
approved and adopted by the Shareholder Approvals.
(b) HSR Act. The waiting period (and any extension thereof)
applicable to the Merger under the HSR Act shall have been terminated or shall
have expired.
(c) Exemptive Order. The Exemptive Order shall have been
issued by the SEC and shall not contain any terms and conditions that are (a)
unacceptable to either party, in its reasonably discretion, or (b) inconsistent
with this Agreement.
(d) Listing of Shares. The AMEX shall have approved for
listing the Trust Common Shares to be issued in the Merger.
(e) SBA Approval. The SBA Approval shall have been issued by
the SBA and shall not contain any terms and conditions that are (a) unacceptable
to either party, in its reasonable discretion, or (b) inconsistent with this
Agreement.
(f) Registration Statement. The Registration Statement shall
have become effective under the Securities Act and shall not be the subject of
any stop order or proceedings by the SEC seeking a stop order.
(g) No Injunctions or Restraints. No temporary restraining
order, preliminary or permanent injunction or other order issued by any court of
competent jurisdiction or other legal restraint or prohibition preventing the
consummation of the Merger or any of the other Transactions shall be in effect.
(h) Blue Sky Laws. Trust shall have received all state
securities or "blue sky" permits and other authorizations necessary to issue the
shares of Trust Common Shares comprising the Merger Consideration.
(i) Related Transactions. The Capital Voting Agreement and the
Trust Voting Agreement shall remain in full force and effect and the respective
transactions contemplated thereby shall have been consummated prior to, or are
being consummated simultaneously with, the Merger.
(j) Certain Actions and Consents. All material actions by or
in respect of or filings with any Governmental Entity required for the
consummation of the Transactions shall have been obtained or made.
35
9.2. CONDITIONS TO OBLIGATIONS OF TRUST. The obligations of Trust to
effect the Merger and to consummate the other Transactions contemplated to occur
on the Closing Date are further subject to the following conditions, any one or
more of which may be waived by Trust:
(a) Representations and Warranties. The representations and
warranties of Capital set forth in this Agreement shall be true and correct as
of the Closing Date, as though made on and as of the Closing Date, except to the
extent the representation or warranty is expressly limited by its terms to
another date, and Trust shall have received a certificate (which certificate may
be qualified by knowledge to the same extent as such representations and
warranties are so qualified) signed on behalf of Capital by the chief executive
officer or the chief financial officer of Capital to such effect. This condition
shall be deemed satisfied unless any or all breaches of Capital's
representations and warranties in this Agreement (without giving effect to any
materiality qualification or limitation) is reasonably expected to have a
Capital Material Adverse Effect.
(b) Performance of Obligations of Capital. Capital shall have
performed in all material respects all obligations required to be performed by
it under this Agreement at or prior to the Effective Time, and Trust shall have
received a certificate signed on behalf of Capital by the chief executive
officer or the chief financial officer of Capital to such effect.
(c) Material Adverse Change. Since the date of this Agreement,
there shall have been no Capital Material Adverse Change and Trust shall have
received a certificate of the chief executive officer or chief financial officer
of Capital certifying to such effect.
(d) Opinions. Trust shall have received (i) an opinion of
counsel to Capital, dated as of the Closing Date, reasonably satisfactory to
Trust that, for all taxable years of Capital for which the applicable federal
income tax statutory period of limitations have not expired, Capital was
organized and has operated in conformity with the requirements for qualification
as a RIC under the Code and (ii) an opinion of counsel to Trust, dated as of the
Closing Date, reasonably satisfactory to Trust, (A) that, for all taxable years
of Trust for which the federal income tax statutory period of limitations have
not expired, Trust was organized and has operated in conformity with the
requirements for qualification as a REIT under the Code and that, after giving
effect to the Merger, Trust's proposed method of operation will enable it to
continue to meet the requirements for qualification and taxation as a REIT under
the Code (with customary exceptions, assumptions and qualifications and based
upon customary representations) and (B) that the merger will qualify as a
reorganization under the provisions of Section 368(a) of the Code.
(e) Consents. All consents and waivers from third parties
necessary in connection with the consummation of the Transactions shall have
been obtained, other than such consents and waivers from third parties, which,
if not obtained, would not result, individually or in the aggregate, in a
Capital Material Adverse Effect.
36
9.3. CONDITIONS TO OBLIGATIONS OF CAPITAL.
The obligation of Capital to effect the Merger and to consummate the
other Transactions contemplated to occur on the Closing Date is further subject
to the following conditions, any one or more of which may be waived by Capital:
(a) Representations and Warranties. The representations and
warranties of Trust set forth in this Agreement shall be true and correct as of
the date of this Agreement and as of the Closing Date, as though made on and as
of the Closing Date, except to the extent the representation or warranty is
expressly limited by its terms to another date, and Capital shall have received
a certificate (which certificate may be qualified by knowledge to the same
extent as the representations and warranties of Trust contained herein are so
qualified) signed on behalf of Trust by the chief executive officer and the
chief financial officer of such party to such effect. This condition shall be
deemed satisfied unless any or all breaches of Trust's representations and
warranties in this Agreement (without giving effect to any materiality
qualification or limitation) is reasonably expected to have a Trust Material
Adverse Effect.
(b) Performance of Obligations of Trust. Trust shall have
performed in all material respects all obligations required to be performed by
it under this Agreement at or prior to the Effective Time, and Capital shall
have received a certificate of Trust signed on behalf of such party by the chief
executive officer or the chief financial officer of such party to such effect.
(c) Material Adverse Change. Since the date of this Agreement,
there shall have been no Trust Material Adverse Change and Capital shall have
received a certificate of the chief executive officer or chief financial officer
of Trust certifying to such effect.
(d) Opinion Relating to REIT Status. Capital shall have
received (i) an opinion of counsel to Trust dated as of the Closing Date,
reasonably satisfactory to Capital, that, for all taxable years of Trust for
which the federal income tax statutory period of limitation have not expired,
Trust was organized and has operated in conformity with the requirements for
qualification as a REIT under the Code and that, after giving effect to the
Merger, Trust's proposed method of operation will enable it to continue to meet
the requirements for qualification and taxation as a REIT under the Code (with
customary exceptions, assumptions and qualifications and based upon customary
representations) and (ii) an opinion dated as of the Closing Date from counsel
to Capital and dated the Closing Date, to the effect that the Merger will
qualify as a reorganization under the provisions of Section 368(a) of the Code.
(e) Consents. All consents and waivers (including, without
limitation, waivers or rights of first refusal) from third parties necessary in
connection with the consummation of the Transactions shall have been obtained,
other than such consents and waivers from third parties, which, if not obtained,
would not have a Trust Material Adverse Effect.
37
ARTICLE X
BOARD ACTIONS
10.1. BOARD ACTIONS. Notwithstanding Section 8.10 or any other
provision of this Agreement to the contrary, to the extent required by the
fiduciary obligations of either the Board of Trust Managers of Trust or the
Board of Directors of Capital, as determined in good faith after consultation
with outside legal counsel and financial advisors, Trust or Capital, as
applicable, may:
(a) disclose to its shareholders any information that, in the
opinion of its Board, after consultation with outside legal counsel, is required
to be disclosed under applicable law;
(b) to the extent applicable, comply with Rule 14e-2(a)
promulgated under the Exchange Act with respect to a Competing Transaction;
(c) in response to an unsolicited request therefor,
participate in discussions or negotiations with, or furnish information with
respect to it pursuant to a confidentiality agreement not materially less
favorable to it than the confidentiality provisions contained herein (as
determined by its outside counsel), or otherwise respond to or deal with any
person in connection with a Competing Transaction proposed by such person; and
(d) approve or recommend (and in connection therewith withdraw
or modify its approval or recommendation of this Agreement or the Merger) a
Superior Competing Transaction (as defined below) and enter into an agreement
with respect to such Superior Competing Transaction (for purposes of this
Agreement, "Superior Competing Transaction" means a bona fide proposal of a
Competing Transaction made by a third party which has not been solicited or
initiated by Trust or Capital, as applicable, in violation of Section 8.10 and
which a majority of the members of the Board of Trust Managers of Trust or the
Board of Directors of Capital, as applicable, determines in good faith (A) to be
more favorable to Trust's or Capital's shareholders, as applicable, from a
financial point of view than the Merger, and (B) is reasonably capable of being
consummated.
ARTICLE XI
TERMINATION, AMENDMENT AND WAIVER
11.1. TERMINATION. This Agreement may be terminated at any time prior
to the filing of the Articles of Merger with the Secretary of State of the State
of Florida and the Dallas County Clerk, Dallas, Texas, whether before or after
either of the Shareholder Approvals are obtained:
(a) by mutual written consent duly authorized by the Board of
Trust Managers of Trust and Board of Directors of Capital;
38
(b) by Trust, upon a breach of any representation, warranty,
covenant or agreement on the part of Capital set forth in this Agreement, or if
any representation or warranty of Capital shall have become untrue, in either
case such that the conditions set forth in Section 9.2(a) or Section 9.2(b), as
the case may be, would be incapable of being satisfied by the Closing Date;
(c) by Capital, upon a breach of any representation, warranty,
covenant or agreement on the part of Trust set forth in this Agreement, or if
any representation or warranty of Trust shall have become untrue, in either case
such that the conditions set forth in Section 9.3(a) or Section 9.3(b), as the
case may be, would be incapable of being satisfied by the Closing Date;
(d) by either Trust or Capital, if any judgment, injunction,
order, decree or action by any Governmental Entity of competent authority
preventing the consummation of the Merger shall have become final and
nonappealable;
(e) by either Trust or Capital, if the Merger shall not have
been consummated before December 31, 2003; provided, however, that a party that
has willfully and materially breached a representation, warranty or covenant of
such party set forth in this Agreement shall not be entitled to exercise its
right to terminate under this Section 11.1(e);
(f) by either Trust or Capital (unless Capital is in breach of
its obligations under Section 8.1(b)) if, upon a vote at a duly held Capital
Shareholders Meeting or any adjournment thereof, Capital Shareholder Approvals
shall not have been obtained as contemplated by Section 8.1;
(g) by either Trust (unless Trust is in breach of its
obligations under 8.1(c)) or Capital if, upon a vote at a duly held Trust
Shareholders Meeting or any adjournment thereof, the Trust Shareholder Approvals
shall not have been obtained as contemplated by Section 8.1;
(h) by Capital, if prior to the Capital Shareholders Meeting,
the Board of Directors of Capital shall have withdrawn or modified in any manner
adverse to Trust its approval or recommendation of the Merger or this Agreement
in connection with, or approved or recommended, a Superior Competing
Transaction; provided, however, that such termination shall not be effective
prior to the payment of the Break-Up Fee to the extent required by Section
11.2(b) hereof;
(i) by Trust, if prior to the Trust Shareholders Meeting, the
Board of Trust Managers of Trust shall have withdrawn or modified in any manner
adverse to Capital its approval or recommendation of the Merger or this
Agreement in connection with, or approved or recommended, a Superior Competing
Transaction; provided, however, that such termination shall not be effective
prior to the payment of the Break-Up Fee to the extent required by Section
11.2(c) hereof;
(j) by Trust, if (i) prior to Capital Shareholders Meeting,
the Board of Directors of Capital shall have withdrawn or modified in any manner
adverse to Trust its approval or recommendation of the Merger or this Agreement
in connection with, or approved or
39
recommended, any Superior Competing Transaction or (ii) Capital shall have
entered into a definitive agreement with respect to any Competing Transaction;
or
(k) by Capital, if (i) prior to Trust Shareholders Meeting,
the Board of Trust Managers of Trust shall have withdrawn or modified in any
manner adverse to Trust its approval or recommendation of the Merger or this
Agreement in connection with, or approved or recommended, any Superior Competing
Transaction or (ii) Trust shall have entered into a definitive agreement with
respect to any Competing Transaction.
11.2. EXPENSES.
(a) Except as otherwise specified in this Section 11.2 or
agreed in writing by the parties, all out-of-pocket costs and expenses incurred
in connection with this Agreement and the transactions contemplated hereby shall
be paid by the party incurring such cost or expense.
(b) Capital agrees that if this Agreement shall be terminated
(i) pursuant to (x) Section 11.1(b), (h) or (j) and Capital shall have entered
into an agreement to consummate a Competing Transaction described in Section
8.10(i), (ii), (iv) or (v) hereof or (y) pursuant to Section 11.1(b) or (e) and,
within one year from the date of such termination, Capital consummates such a
Competing Transaction or enters into an agreement to consummate such a Competing
Transaction which is subsequently consummated, then Capital will pay (provided
that Trust was not in material breach of any of its representations, warranties,
covenants or agreements hereunder at the time of termination) as directed by
Trust a fee in an amount equal to $870,000 (the "Break-Up Fee") and (ii)
pursuant to Section 11.1(b) and no agreement for such a Competing Transaction
shall have been entered into, then Capital will pay, as directed by Trust an
amount equal to $750,000 (the "Break-Up Expenses"). Payment of any of such
amounts shall be made, as directed by Trust, by wire transfer of immediately
available funds promptly, but in no event later than two business days after
such termination. For purposes of Section 11.2(b)(i)(y) above, a "Competing
Transaction" shall be limited to a Competing Transaction described in Section
8.10(i), (ii), (iv) or (v) hereof with respect to which Capital had negotiations
prior to termination of this Agreement.
(c) Trust agrees that if this Agreement shall be terminated
(i) pursuant to (x) Section 11.1(c), (i) or (k) and Trust shall have entered
into an agreement to consummate a Competing Transaction described in Section
8.10(i), (ii), (iv) or (v) hereof or (y) pursuant to Section 11.1(c) or (e) and
within one year from the date of such termination, Trust consummates such a
Competing Transaction or enters into an agreement to consummate such a Competing
Transaction which is subsequently consummated, then Trust will pay (provided
that Capital was not in material breach of any of its representations,
warranties, covenants or agreements hereunder at the time of termination) as
directed by Capital the Break-Up Fee and (ii) pursuant to Section 11.1(c) and no
agreement for such a Competing Transaction shall have been entered into, then
Trust will pay, as directed by Capital, the Break-Up Expenses. Payment of any of
such amounts shall be made, as directed by Capital, by wire transfer of
immediately available funds promptly, but in no event later than two business
days after such termination. For purposes of Section 11.3(b)(i)(y) above, a
"Competing Transaction" shall be limited to a Competing Transaction described in
Section 8.10(i), (ii), (iv) or (v) hereof with respect to which Trust had
negotiations prior to termination of this Agreement.
40
11.3. EFFECT OF TERMINATION. In the event of termination of this
Agreement by either Capital or Trust as provided in Section 11.1, this Agreement
shall forthwith become void and have no effect, without any liability or
obligation on the part of Trust or Capital, other than the last sentence of
Section 8.2, Section 11.2 and this Section 11.3 and except to the extent that
such termination results from a material breach by a party of any of its
representations, warranties, covenants or agreements set forth in this
Agreement.
11.4. AMENDMENT. This Agreement may be amended by the parties in
writing by action of the Board of Directors of Capital or the Board of Trust
Managers of Trust at any time before or after any Shareholder Approvals are
obtained and prior to the filing of the Articles of Merger with the Secretary of
State of the State of Florida and the Dallas County Clerk, Dallas, Texas;
provided, however, that, after the Shareholder Approvals are obtained, no such
amendment, modification or supplement shall alter the amount or change the form
of the consideration to be delivered to Capital's shareholders or alter or
change any of the terms or conditions of this Agreement if such alteration or
change would adversely affect Capital's shareholders or Trust's shareholders.
11.5. EXTENSION; WAIVER. At any time prior to the Effective Time, the
parties may (a) extend the time for the performance of any of the obligations or
other acts of the other party, (b) waive any inaccuracies in the representations
and warranties of the other party contained in this Agreement or in any document
delivered pursuant to this Agreement or (c) subject to the proviso of Section
11.4, waive compliance with any of the agreements or conditions of the other
party contained in this Agreement. Any agreement on the part of a party to any
such extension or waiver shall be valid only if set forth in an instrument in
writing signed on behalf of such party. The failure of any party to this
Agreement to assert any of its rights under this Agreement or otherwise shall
not constitute a waiver of those rights.
ARTICLE XII
GENERAL PROVISIONS
12.1. NONSURVIVAL OF REPRESENTATIONS AND WARRANTIES. None of the
representations and warranties in this Agreement or in any instrument delivered
pursuant to this Agreement shall survive the Effective Time. This Section 12.1
shall not limit any covenant or agreement of the parties which by its terms
contemplates performance after the Effective Time.
12.2. NOTICES. All notices, requests, claims, demands and other
communications under this Agreement shall be in writing and shall be deemed
given if delivered personally, sent by overnight courier (providing proof of
delivery) to the parties or sent by telecopy (providing confirmation of
transmission) at the following addresses or telecopy numbers (or at such other
address or telecopy number for a party as shall be specified by like notice):
41
(a) if to Trust, to
PMC Commercial Trust
18111 Preston Road, Suite 600
Dallas, Texas 75252
Attention: Andrew S. Rosemore
Facsimile: (972) 349-3265
with a copy to:
Locke Liddell & Sapp LLP
2200 Ross Avenue, Suite 2200
Dallas, Texas 75201
Attention: Kenneth L. Betts, Esq.
Facsimile: (214) 740-8800
(b) if to Capital, to
PMC Capital, Inc.
18111 Preston Road, Suite 600
Dallas, Texas 75252
Attention: Lance B. Rosemore
Facsimile: (972) 349-3265
with a copy (which shall not constitute notice) to:
Sutherland, Asbill & Brennan LLP
1275 Pennsylvania Avenue, N.W.
Washington, D.C. 20004-2404
Attention: Steven B. Boehm, Esq.
Facsimile: (202) 637-3593
12.3. INTERPRETATION. When a reference is made in this Agreement to a
Section, such reference shall be to a Section of this Agreement unless otherwise
indicated. The table of contents and headings contained in this Agreement are
for reference purposes only and shall not affect in any way the meaning or
interpretation of this Agreement. Whenever the words "include", "includes" or
"including" are used in this Agreement, they shall be deemed to be followed by
the words "without limitation."
12.4. COUNTERPARTS. This Agreement may be executed in one or more
counterparts, all of which shall be considered one and the same agreement and
shall become effective when one or more counterparts have been signed by each of
the parties and delivered to the other parties.
12.5. EXHIBITS AND SCHEDULES. The exhibits and Schedules hereto are a
part of this Agreement as if fully set forth herein. All references herein to
Articles, Sections, clauses, exhibits and Schedules shall be deemed references
to such parts of this Agreement, unless the contest shall otherwise require.
42
12.6. ENTIRE AGREEMENT; NO THIRD-PARTY BENEFICIARIES. This Agreement
and the other agreements entered into in connection with the Transactions (a)
constitute the entire agreement and supersedes all prior agreements and
understandings, both written and oral, between the parties with respect to the
subject matter of this Agreement and, (b) except for the provisions of Article
II, Section 8.14 and Section 8.15, are not intended to confer upon any person
other than the parties hereto any rights or remedies.
12.7. GOVERNING LAW. THIS AGREEMENT SHALL BE GOVERNED BY, AND CONSTRUED
IN ACCORDANCE WITH, THE LAWS OF THE STATE OF TEXAS, REGARDLESS OF THE LAWS THAT
MIGHT OTHERWISE GOVERN UNDER APPLICABLE PRINCIPLES OF CONFLICT OF LAWS THEREOF,
EXCEPT TO THE EXTENT THAT THE MERGER OR OTHER TRANSACTIONS CONTEMPLATED HEREBY
ARE REQUIRED TO BE GOVERNED BY THE TEXAS STATUTE.
12.8. ASSIGNMENT. Neither this Agreement nor any of the rights,
interests or obligations under this Agreement shall be assigned or delegated, in
whole or in part, by operation of law or otherwise by any of the parties without
the prior written consent of the other parties. Subject to the preceding
sentence, this Agreement will be binding upon, inure to the benefit of, and be
enforceable by, the parties and their respective successors and assigns.
12.9. ENFORCEMENT. The parties agree that irreparable damage would
occur in the event that any of the provisions of this Agreement were not
performed in accordance with their specific terms or were otherwise breached. It
is accordingly agreed that the parties shall be entitled to an injunction or
injunctions to prevent breaches of this Agreement and to enforce specifically
the terms and provisions of this Agreement in any court of the United States
located in the State of Texas or in any Texas State court located in Texas, this
being in addition to any other remedy to which they are entitled at law or in
equity. In addition, each of the parties hereto (a) consents to submit itself
(without making such submission exclusive) to the personal jurisdiction of any
federal court located in the State of Texas or any Texas state court in the
event any dispute arises out of this Agreement or any of the transactions
contemplated by this Agreement and (b) agrees that it will not attempt to deny
or defeat such personal jurisdiction by motion or other request for leave from
any such court.
12.10. SEVERABILITY. If any provision of this Agreement is held to be
illegal, invalid or unenforceable under any current or future law, and if the
rights or obligations of the parties under this Agreement would not be
materially and adversely affected thereby, such provision shall be fully
separable, and this Agreement shall be construed and enforced as if such
illegal, invalid or unenforceable provision had never comprised a part thereof,
the remaining provisions of this Agreement shall remain in full force and effect
and shall not be affected by the illegal, invalid or unenforceable provision or
by its severance therefrom. In lieu of such illegal, invalid or unenforceable
provision, there shall be added automatically as a part of this Agreement, a
legal, valid and enforceable provision as similar in terms to such illegal,
invalid or unenforceable provision as may be possible, and the parties hereto
request the court or any arbitrator to whom disputes relating to this Agreement
are submitted to reform the otherwise illegal, invalid or unenforceable
provision in accordance with this Section 12.10.
43
IN WITNESS WHEREOF, Trust and Capital have caused this Agreement to be
signed by their respective officers thereunto duly authorized, all as of the
date first written above.
PMC COMMERCIAL TRUST
By: /s/ Andrew S. Rosemore
Name: Andrew S. Rosemore
Title: Executive Vice President and COO
PMC CAPITAL, INC.
By: /s/ Lance B. Rosemore
Name: Lance B. Rosemore
Title: Chief Executive Officer
44
ANNEX A
Irvin M. Borish
Martha R. Greenberg
Thomas Hamill
Barry A. Imber
Fredric M. Rosemore
Lance B. Rosemore
Theodore J. Samuel
Barry N. Berlin
Mary J. Brownmiller
Cheryl T. Murray
Andrew S. Rosemore
Jan F. Salit
Annex A - Page 1
ANNEX B
Nathan G. Cohen
Martha R. Greenberg
Roy H. Greenberg
Irving Munn
Andrew S. Rosemore
Lance B. Rosemore
Ira Silver
Barry N. Berlin
Mary J. Brownmiller
Cheryl T. Murray
Jan F. Salit
Annex B - Page 1
FIRST AMENDMENT TO AGREEMENT AND PLAN OF MERGER
This First Amendment to the Agreement and Plan of Merger (the
"Amendment") is made and entered into as of this 1st day of August, 2003, by and
between PMC Commercial Trust, a Texas real estate investment trust ("Trust"),
and PMC Capital, Inc., a Florida corporation that has elected to be regulated as
a business development company under the Investment Company Act of 1940, as
amended ("Capital").
RECITALS:
WHEREAS, Trust and Capital entered into that certain Agreement and Plan
of Merger dated as of March 27, 2003 (as amended or modified from time to time,
the "Agreement");
WHEREAS, the Agreement entitles either Trust or Capital to terminate
the Agreement if the Merger (as defined in the Agreement) is not consummated by
December 31, 2003; and
WHEREAS, Trust and Capital desire to amend the Agreement to extend such
termination date from December 31, 2003 to February 29, 2004.
NOW, THEREFORE, in consideration of the foregoing premises, the mutual
promises and agreements hereinafter set forth, and other good and valuable
consideration, the receipt and sufficiency of which are hereby acknowledged,
Trust and Capital hereby agree as follows:
1. Definitions. All capitalized terms used in this Amendment shall have
the meanings given to them in the Agreement, unless otherwise specifically
defined herein.
2. Amendment to Section 11.1(e). Effective as of the date hereof,
Section 11.1(e) of the Agreement is hereby amended to read in its entirety as
follows:
(e) by either Trust or Capital, if the Merger shall not have
been consummated before February 29, 2004; provided, however,
that a party that has willfully and materially breached a
representation, warranty or covenant of such party set forth
in this Agreement shall not be entitled to exercise its right
to terminate under this Section 11.1(e);
3. Effect. The terms and provisions set forth in this Amendment shall
modify and supersede all inconsistent terms and provisions set forth in the
Agreement and except as expressly modified and superseded by this Amendment, all
of the terms, provisions and conditions of the Agreement are ratified and
confirmed and shall remain in full force and effect.
4. Counterparts. This Amendment may be executed in counterparts, each
of which shall be deemed an original, but all of which together shall constitute
one and the same agreement.
5. Applicable Law. This Amendment shall be governed by the laws of the
State of Texas, without regard to the principles of conflicts of law thereof.
6. Entire Agreement. This Amendment and the Agreement contain the
entire agreement and understanding among the parties hereto with respect to the
subject matter hereof and supersede all prior agreements and understandings
relating to the subject matter hereof.
7. Severability. If any provision of this Amendment shall be held
invalid or unenforceable by any court of competent jurisdiction, such holding
shall not invalidate or render unenforceable any other provision hereof.
IN WITNESS WHEREOF, the undersigned have caused this Amendment to be
effective as of the date first above written.
PMC COMMERCIAL TRUST,
a Texas real estate investment trust
By: /s/ Andrew S. Rosemore
------------------------------------
Andrew S. Rosemore
Executive Vice President and
Chief Operating Officer
PMC CAPITAL, INC.,
a Florida corporation
By: /s/ Lance B. Rosemore
------------------------------------
Lance B. Rosemore
Chief Executive Officer
ANNEX B
AMENDMENT NO. 3 TO
DECLARATION OF TRUST
OF
PMC COMMERCIAL TRUST
The Declaration of Trust of PMC Commercial Trust (the "Trust"), as
amended (the "Declaration of Trust"), was further amended by the affirmative
vote of the holders of at least two-thirds of the outstanding common shares of
the Trust on ____________, 2003, as follows:
1. Article Eight, clause (f) of the Declaration of Trust is amended in
its entirety and the following is substituted therefore:
"(f) Except as otherwise specifically required by law or this
Declaration of Trust or as specifically provided in any
resolution or resolutions of the Trust Managers providing for
the issuance of any particular series of Preferred Shares, the
Common Shares shall have the exclusive right to vote on all
matters as to which common shareholders shall be entitled to
vote pursuant to applicable law at all meetings of the
shareholders of the Trust. Subject to the provisions of the
Texas REIT Act and this Declaration of Trust that may require
a greater voting requirement, at any meeting of the holders of
the Common Shares at which a quorum is present: (1) a trust
manager shall be elected only if the trust manager receives
the affirmative vote of a majority of the votes cast by the
holders of Common Shares, and (2) with respect to any other
matter to be voted upon, such matter shall be approved if the
matter receives the affirmative vote of the holders of at
least a majority of the Common Shares entitled to vote on, and
that voted for or against or expressly abstained with respect
to, such matter."
2. The Declaration of Trust is hereby amended by adding a new Article
Twenty-Six, which reads in its entirety as follows:
"ARTICLE TWENTY-SIX
The Trust's Bylaws may be amended or repealed or new Bylaws
may be adopted from time to time by resolution adopted by the Trust
Managers."
3. The foregoing amendments to the Declaration of Trust were approved
by the shareholders of the Trust on _________________, 2003, and are effective
with respect to all issuances of the shares prior to the commencement of
operations by the Trust.
IN WITNESS WHEREOF, the undersigned Trust Managers to hereby execute
this Declaration of Trust as of the ___ day of ____________, 2003.
----------------------------------
Nathan G. Cohen
----------------------------------
Martha R. Greenberg
----------------------------------
Roy H. Greenberg
----------------------------------
Irving Munn
----------------------------------
Andrew S. Rosemore
----------------------------------
Lance B. Rosemore
----------------------------------
Ira Silver
STATE OF _______________
COUNTY OF _____________
This instrument was acknowledged before me on the ___ day of ________,
2003, by Nathan G. Cohen.
-------------------------------------
Notary Public in and for the State
of ___________
STATE OF _______________
COUNTY OF _____________
This instrument was acknowledged before me on the ___ day of ________,
2003, by Martha R. Greenberg.
-------------------------------------
Notary Public in and for the State
of ___________
STATE OF TEXAS
COUNTY OF _____________
This instrument was acknowledged before me on the ___ day of ________,
2003, by Roy H. Greenberg.
-------------------------------------
Notary Public in and for the State
of Texas
STATE OF TEXAS
COUNTY OF _____________
This instrument was acknowledged before me on the ___ day of ________,
2003, by Irving Munn.
-------------------------------------
Notary Public in and for the State
of Texas
STATE OF TEXAS
COUNTY OF _____________
This instrument was acknowledged before me on the ___ day of ________,
2003, by Andrew S. Rosemore.
-------------------------------------
Notary Public in and for the State
of Texas
STATE OF TEXAS
COUNTY OF _____________
This instrument was acknowledged before me on the ___ day of ________,
2003, by Lance B. Rosemore.
-------------------------------------
Notary Public in and for the State
of Texas
STATE OF _______________
COUNTY OF _____________
This instrument was acknowledged before me on the ___ day of ________,
2003, by Ira Silver.
-------------------------------------
Notary Public in and for the State
of ___________
ANNEX C
March 27, 2003
Special Committee of the
Board of Trust Managers
PMC Commercial Trust
18111 Preston Road, Suite 600
Dallas, TX 75252
Members of the Special Committee:
You have requested our opinion as to the fairness, from a financial
point of view, to PMC Commercial Trust, a Texas real estate investment trust
("PCC"), of the Exchange Ratio (as defined below) pursuant to an Agreement and
Plan of Merger, dated as of March 27, 2003 (the "Agreement") between PCC and PMC
Capital, Inc., a Florida corporation ("PMC"). The Agreement provides for the
merger (the "Merger") of PMC with and into PCC, with PCC as the surviving
corporation of the Merger. At the effective time of the Merger, among other
things: (i) each outstanding share of common stock, par value $0.01 per share
("PMC Common Shares"), of PMC will, without any further action on the part of
PMC or the holders of any such shares, be converted into the right to receive
0.37 common shares of beneficial interest, par value $0.01 per share ("PCC
Common Shares"), of PCC (the "Exchange Ratio"), subject to certain adjustments
pursuant to the Agreement; and (ii) each option to purchase PMC Common Shares
will be converted into an option to purchase PCC Common Shares on the terms set
forth in the Agreement. The terms and conditions of the Merger are more fully
set forth in the Agreement.
U.S. Bancorp Piper Jaffray Inc. ("U.S. Bancorp Piper Jaffray"), as a
customary part of its investment banking business, is regularly engaged in the
valuation of businesses and their securities in connection with mergers and
acquisitions, underwriting and secondary distributions of securities, private
placements and valuations for estate, corporate and other purposes. We are
currently acting as financial advisor to PCC in connection with the Merger, for
which PCC will pay us a fee for such services that is contingent upon the
consummation of the Merger. For our services in rendering this opinion, PCC will
pay us a fee that is not contingent upon the consummation of the Merger. PCC has
also agreed to indemnify us against certain liabilities that may arise in
connection with this engagement. In the ordinary course of our business, we and
our affiliates may actively trade securities of PCC and PMC for our own account
or the account of our customers and, accordingly, may at any time hold a long or
short position in such securities.
In arriving at our opinion, we have undertaken such reviews, analyses
and inquiries as we deemed necessary or appropriate under the circumstances.
Among other things, we have:
1. Reviewed a draft dated as of March 24, 2003 of the Agreement;
2. Reviewed publicly available business and financial information
relating to PCC and PMC that U.S. Bancorp Piper Jaffray deemed relevant,
including Annual Reports on Form 10-K for the fiscal years ended December 31,
2002 (draft), 2001 and 2000, and Quarterly Reports on Form 10-Q for the quarters
ended September 30, 2002, June 30, 2002 and March 31, 2002;
3. Reviewed financial projections of management of PCC and PMC for the
years ending December 31, 2003 through December 31, 2005;
4. Conducted discussions with certain members of management of PCC and
PMC. Topics discussed included, but were not limited to, the background and
rationale for the Merger, the financial condition, operating performance,
balance sheet characteristics and prospects of PCC and PMC;
5. Reviewed financial, market performance and other data of publicly
traded businesses deemed relevant by U.S. Bancorp Piper Jaffray for comparison
with similar data from PCC and PMC; and
6. Additional information and analyses as deemed necessary by U.S.
Bancorp Piper Jaffray, including assessment of general economic, industry and
financial market conditions.
In conducting our review and in rendering our opinion, we have, with
your consent, relied upon and assumed the accuracy, completeness and fairness of
the financial statements and other information provided to us by PCC and PMC or
otherwise made available to us, and have not attempted to independently verify,
and have not assumed responsibility for the independent verification, of such
information. We have assumed, in reliance upon the assurances of PCC's and PMC's
management, that the information provided to us has been prepared on a
reasonable basis in accordance with industry practice, and, with respect to
financial planning data and other business outlook information, reflects the
best currently available estimates and judgment of the management of each
company, and that the management of each company is not aware of any information
or facts that would make the information provided to us incomplete or
misleading. We have assumed that there have been no material changes in the
assets, financial condition, results of operations, business or prospects of PCC
or PMC since the date of the last financial statements made available to us. We
have also assumed that neither PCC nor PMC is a party to any material pending
transaction, including external financing, recapitalizations, acquisitions or
merger discussions, other than the Merger and securitization transactions in the
ordinary course of business.
In arriving at our opinion, we have assumed that all the necessary
regulatory approvals and consents required for the Merger will be obtained and
that no limitations, restrictions or conditions will be imposed that would have
a material adverse effect on PCC, PMC or the contemplated benefits to PCC of the
Merger or will otherwise change the consideration for PMC. We have assumed that
the Merger will qualify as a reorganization under the United States Internal
Revenue Code. We have also assumed that the final form of the Agreement will be
substantially similar to the last draft reviewed by us, without modification of
material terms or conditions.
In arriving at our opinion, we have not performed nor been furnished
any appraisals or valuations of the specific assets or liabilities of PCC or
PMC. We express no opinion regarding the liquidation value of PCC or PMC. The
analyses we performed in connection with this opinion were going concern
analyses. We were not requested to opine, and no opinion is hereby rendered, as
to whether any analyses of an entity, other than as a going concern, is
appropriate in the circumstances and, accordingly, we have performed no such
analyses. The Special Committee of the Board of Trust Managers did not request
that we solicit, and we did not solicit, any expression of interest from any
other parties with respect to any alternative transaction.
We have undertaken no independent analysis of any pending or threatened
litigation, material claims, possible unasserted claims or other contingent
liabilities, to which either PCC, PMC or their affiliates is a party or may be
subject, or of any other governmental investigation of any possible unasserted
claims or other contingent liabilities to which either PCC, PMC or their
affiliates is a party or may be subject. At PCC's direction and with its
consent, our opinion makes no assumption concerning, and therefore does not
consider, the potential effects of any such litigation, claims or investigations
or possible assertions of claims, outcomes or damages arising out of any such
matters.
This opinion is necessarily based upon the information available to us,
facts and circumstances and economic, market and other conditions as they exist,
and are subject to evaluation on the date hereof. Events occurring after the
date hereof could materially affect the assumptions used in preparing this
opinion. Except as provided in the engagement letter between us and PCC, we have
not undertaken to reaffirm or revise this opinion or otherwise comment upon any
events occurring after the date hereof and we do not have any obligation to
update, revise or reaffirm this opinion. We express no opinion herein as to the
prices at which PCC Common Shares or PMC Common Shares have traded or may trade
at any future time.
This opinion is furnished pursuant to our engagement letter dated
August 27, 2002. This opinion is directed to the Special Committee of the Board
of Trust Managers of PCC in connection with its consideration of the Merger.
This opinion may not be published or otherwise used, nor may any public
references to U.S. Bancorp Piper Jaffray be made except in accordance with our
engagement letter. This opinion is not directed to PMC, its board of directors
or stockholders, and is not intended to be and does not constitute a
recommendation to any stockholder as to how such stockholder should vote with
respect to the Merger. In connection with this opinion, we were not requested to
opine as to, and this opinion does not address, the basic business decision of
PCC to proceed with or effect the Merger or to consider, alternative
transactions that may have been available to PCC.
Based upon and subject to the foregoing, and based upon such other
factors as we consider relevant, it is our opinion that, as of the date hereof,
the Exchange Ratio is fair, from a financial point of view, to PCC.
Sincerely,
/s/ U.S. BANCORP PIPER JAFFRAY INC.
ANNEX D
March 27, 2003
The Special Committee of the Board of Directors and
The Board of Directors
PMC Capital, Inc.
18111 Preston Road, Suite 600
Dallas, TX 75252
Ladies and Gentlemen:
You have requested our opinion ("Opinion") as to the fairness, from a
financial point of view of the Exchange Ratio (as defined below) to the
shareholders (the "Shareholders") of the outstanding shares of common stock
("Company Common Stock") of PMC Capital, Inc. (the "Company") in the proposed
merger (the "Merger") between the Company and PMC Commercial Trust ("PMC
Commercial") pursuant to the terms and conditions set forth in the Agreement and
Plan of Merger, dated as of March 27, 2003, among the Company and PMC Commercial
(the "Merger Agreement"). Upon consummation of the Merger, each share of
outstanding Company Common Stock will be converted into 0.37 shares of common
stock of PMC Commercial (the "Exchange Ratio").
A.G. Edwards & Sons, Inc. ("A.G. Edwards"), as part of its investment
banking business, is regularly engaged in the valuation of businesses and their
securities in connection with mergers and acquisitions, negotiated
underwritings, competitive biddings, secondary distributions of listed and
unlisted securities, private placements and valuations for estate, corporate or
other purposes. We are familiar with the Company having acted as the Company's
financial advisor in connection with, and having participated in certain of the
negotiations leading to the Merger Agreement and will receive a fee for our
services, a portion of which is contingent upon the consummation of the Merger.
We are not aware of any present or contemplated relationship between A.G.
Edwards, the Company, or the Company's directors and officers or its
shareholders, or PMC Commercial, its directors, officers or shareholders, which
in our opinion would affect our ability to render a fair and independent opinion
in this matter.
In connection with this opinion, we have, among other things:
a) Reviewed the financial terms and conditions of the draft Merger
Agreement dated March 21, 2003;
b) Analyzed certain historical business and financial information
relating to the Company and PMC Commercial, including but not limited to the
Annual Reports on Form 10-K and the included audited financial statements of the
Company and PMC Commercial for the four years ending December 31, 2001, the
draft Annual Report on Form 10-K and the included draft audited financial
statements of the Company and PMC Commercial for the year ended December 31,
2002, and certain interim reports and Quarterly Reports on Form 10-Q;
c) Reviewed various financial forecasts and other data provided to us
by the Company and PMC Commercial relating to their respective businesses;
d) Held discussions with members of the senior management of the
Company, who are also senior management of PMC Commercial pursuant to an
investment management agreement between the Company and PMC Commercial, with
respect to the business and prospects of the Company and PMC Commercial,
respectively, and the strategic objectives of each, including information
relating to the strategic, financial and operations benefits and costs
anticipated from the Merger;
e) Reviewed an appraisal performed by a nationally recognized
hospitality appraisal firm of a sample of PMC Commercial's owned hotels;
f) Reviewed public information with respect to certain other companies
in lines of businesses we believe to be generally comparable to the businesses
of the Company and PMC Commercial;
g) Reviewed the financial terms of certain business combinations which
we believe to be generally comparable to the Merger;
h) Reviewed the historical stock prices and trading volumes of the
Company Common Stock and the PMC Commercial Common Stock; and
i) Completed such other analyses that we considered appropriate.
In preparing our opinion, A.G. Edwards relied upon and assumed the
accuracy and completeness of all financial and other information publicly
available, furnished to, or otherwise discussed with A.G. Edwards including
financial statements and financial projections as provided by the management of
the Company and PMC Commercial. We have not been engaged to, and therefore we
have not verified the accuracy or completeness of any of such information. A.G.
Edwards has been informed and assumed that the financial projections supplied
to, discussed with or otherwise made available to us reflect the best currently
available estimates and judgments of the management of the Company and PMC
Commercial as to the expected future financial performance of the Company and
PMC Commercial, in each case on a stand-alone basis and after giving effect to
the Merger, including, without limitation, the projected cost savings and
operational synergies resulting from the Merger. A.G. Edwards has not
independently verified such information or assumptions, nor do we express any
opinion with respect thereto. Other than as noted above, we have not made any
independent valuation or appraisal of the assets or liabilities of the Company
or PMC Commercial, nor have we been furnished with any such appraisals. Further,
A.G. Edwards was not engaged to and did not independently attempt to assess or
value any of the Company's or PMC Commercial's intangible assets (including
goodwill); therefore A.G. Edwards did not make any independent assumptions with
respect to their application in the Merger. A.G. Edwards has relied upon the
assurances of the management of the Company and PMC Commercial that they are not
aware of any facts that would make any of such information inaccurate or
misleading.
In performing our analyses, A.G. Edwards made numerous assumptions with
respect to the industries in which the Company and PMC Commercial operate,
general business and economic conditions and government regulations, which are
beyond the control of the Company and PMC Commercial. The analyses performed by
A.G. Edwards are not necessarily indicative of actual values or actual future
results, which may be significantly more or less favorable than suggested by
such analyses. Such analyses were prepared solely as part of A.G. Edwards'
analysis of the fairness, from a financial point of view, to the Shareholders,
of the Exchange Ratio, and are being provided to the Special Committee and the
Board in connection with the delivery of this fairness opinion.
In rendering our opinion, A.G. Edwards has also assumed that the Merger
will be accounted for in accordance with U.S. Generally Accepted Accounting
Principles, that the Merger will be treated as a tax-free reorganization
pursuant to the Internal Revenue Code of 1986, as amended, and that the Merger
will be consummated on the terms contained in the Merger Agreement without any
waiver of any material terms or conditions by the Company.
A.G. Edwards' opinion is necessarily based on economic, market and
other conditions as in effect on, and the information made available to us as
of, the date hereof. Our opinion as expressed herein, in any event, is limited
to the fairness, from a financial point of view, to the Shareholders, of the
Exchange Ratio.
It is understood that this letter is for the information of the Special
Committee of the Board of Directors and the Board of Directors of the Company.
This opinion may not be summarized, excerpted from or otherwise publicly
referred to without our prior written consent.
Based upon and subject to the foregoing, it is our opinion that, as of
the date hereof, the Exchange Ratio to be offered to the Shareholders is fair to
such Shareholders from a financial point of view.
Very truly yours,
A.G. EDWARDS & SONS, INC.
By: /s/ Matthew R. Byer
---------------------------------------
Matthew R. Byer
Director - Investment Banking
PART II
INFORMATION NOT REQUIRED IN THE PROSPECTUS
ITEM 20. INDEMNIFICATION OF TRUST MANAGERS AND OFFICERS
Section 9.20 of the Texas Real Estate Investment Trust Act (the "Texas
REIT Act"), subject to procedures and limitations stated therein, allows the
Registrant to indemnify any person who was, is or is threatened to be made a
named defendant or respondent in a proceeding because the person is or was a
trust manager or officer against judgments, penalties (including excise and
similar taxes), fines, settlements and reasonable expenses actually incurred by
the person in connection with the proceeding. The Registrant is required by
Section 9.20 to indemnify a trust manager or officer against reasonably expenses
incurred by him or her in connection with a proceeding in which he or she is a
named defendant or respondent because he or she is or was a trust manager or
officer if he or she has been wholly successful, on the merits or otherwise, in
the defense of the proceeding. Under the Texas REIT Act, trust managers and
officers are not entitled to indemnification if (i) the trust manager or officer
is found liable to the real estate investment trust or is found liable for
willful or intentional misconduct in the performance of his or her duty to the
real estate investment trust and (ii) the trust manage or officer was found
liable for willful or intentional misconduct in the performance of his or her
duty to the real estate investment trust. The statute provides that
indemnification pursuant to its provisions is not exclusive of the rights of
indemnification to which a person may be entitled under any provision of the
declaration of trust, bylaws, agreements or otherwise. In addition, the
Registrant has, pursuant to Section 15.10 of the Texas REIT Act, provided in its
Declaration of Trust, as amended, that, to the fullest extent permitted by
applicable law, a trust manager of the Registrant shall not be liable for any
act, omission, loss, damage, or expense arising from the performance of his or
her duty under the real estate investment trust, except for his own willful
misfeasance, malfeasance or negligence.
The Registrant's Declaration of Trust, as amended, and Bylaws provide
for indemnification by the Registrant of its trust managers and officers to the
fullest extent permitted by the Texas REIT Act. In addition, the Registrant's
Bylaws provide that the Registrant may pay or reimburse, in advance of final
disposition of a proceeding, reasonable expenses incurred by a present or former
trust manager or officer made a party to a proceeding by reason of his or her
status as a trust manager or officer provided that (i) the trust managers have
consented to the advancement of expenses (which consent shall not be
unreasonably withheld) and (ii) the Registrant shall have received (a) a written
affirmation by the trust manager or officer of his or her good faith belief that
he or she has met the standard of conduct necessary for indemnification by the
Registrant under the Texas REIT Act and (b) a written undertaking by or on his
or her behalf to repay the amount paid or reimbursed by the Registrant if it
shall ultimately be determined that the standard of conduct was not met or it is
ultimately determined that indemnification of the trust manager against expenses
incurred by him or her in connection with that proceeding is prohibited by
Section 9.20 of the Texas REIT Act.
ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
EXHIBIT
NUMBER DESCRIPTION
------ -----------
2.1 Agreement and Plan of Merger, dated as of March 27, 2003 (attached as
Annex A to the joint proxy statement/prospectus which is party of this
registration statement)
3.1 Declaration of Trust (previously filed with the Registrant's
Registration Statement on Form S-11 filed with the Securities and
Exchange Commission on June 25, 1993, as amended (Registration No.
33-65010), as Exhibit No. 3.1 and incorporated herein by reference)
3.1(a) Amendment No. 1 to Declaration of Trust (previously filed with
Registrant's Amendment No. 1 on Form S-11 filed with the Securities and
Exchange Commission on September 30, 1993, as amended (Registration No.
33-65010), as Exhibit No. 3.1(a) and incorporated herein by reference)
3.1(b) Amendment No. 2 to Declaration of Trust (previously filed with the
Registrant's Annual Report on Form 10-K for the year ended December 31,
1993 as Exhibit No. 3.1(b) and incorporated herein by reference)
3.1(c) Amendment No. 3 to Declaration of Trust (attached as Annex B to the
joint proxy statement/prospectus, which is part of this registration
statement)
3.2 Bylaws (previously filed with the Registrant's Registration Statement
on Form S-11 filed with the Securities and Exchange Commission on June
25, 1993, as amended (Registration No. 33-65010), as Exhibit No. 3.2
and incorporated herein by reference)
5.1 Opinion of Locke Liddell & Sapp LLP, regarding the legality of the
securities being registered*
8.1 Opinion of Locke Liddell & Sapp LLP as to tax matters*
8.2 Opinion of Sutherland, Asbill & Brennan LLP as to tax matters*
10.1 Voting Agreement, dated as of March 27, 2003, by and among PMC
Commercial Trust and the PMC Capital, Inc. shareholders named therein
(previously filed with the Registrant's Annual Report on Form 10-K for
the year ended December 31, 2002 as Exhibit No. 2.3 and incorporated
herein by reference)
10.2 Voting Agreement, dated as of March 27, 2003, by and among PMC Capital,
Inc. and PMC Commercial Trust shareholders named therein (previously
filed with PMC Capital, Inc.'s Annual Report on Form 10-K for the year
ended December 31, 2002 as Exhibit No. 2.2 and incorporated herein by
reference)
23.1 Consent of PricewaterhouseCoopers LLP
23.2 Consent of PricewaterhouseCoopers LLP
23.3 Consent of Locke Liddell & Sapp LLP (included in Exhibit 5.1)
23.4 Consent of Locke Liddell & Sapp LLP (included In Exhibit 8.1)
23.5 Consent of Sutherland, Asbill & Brennan LLP (included in Exhibit 8.2)
24.1 Power of Attorney (included on the signature page of this registration
statement)
99.1 Opinion of U.S. Bancorp Piper Jaffray Inc. (attached as Annex C to the
joint proxy statement/prospectus which is part of this registration
statement)
99.2 Opinion of A.G. Edwards & Sons, Inc. (attached as Annex D to the joint
proxy statement/prospectus which is part of this registration
statement)
99.3 Consent of U.S. Bancorp Piper Jaffray Inc.*
99.4 Consent of A.G. Edwards & Sons, Inc.*
99.5 Form of Proxy Card of PMC Commercial Trust*
99.6 Form of Proxy Card of PMC Capital, Inc.*
99.7 Consent of Fredric M. Rosemore to be named as trust manager*
99.8 Consent of Theodore J. Samuel to be named as trust manager*
99.9 Consent of Thomas Hamill to be named as trust manager*
99.10 Consent of Barry A. Imber to be named as trust manager*
-----------
* To be filed by amendment
ITEM 22. UNDERTAKINGS
The undersigned Registrant hereby undertakes:
(a) To file, during any period in which offers or sales are being made,
a post-effective amendment to this registration statement:
(i) To include any prospectus required by Section 10(a)(3) of
the Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising
after the effective date of the registration statement (or the most recent
post-effective amendment thereof) which, individually or in the aggregate,
represent a fundamental change in the information set forth in the registration
statement. Notwithstanding the foregoing, any increase or decrease in volume of
securities offered (if the total dollar value of securities offered would not
exceed that which was registered) and any deviation from the low or high end of
the estimated maximum offering range may be reflected in the form of prospectus
filed with the Securities and Exchange Commission pursuant to Rule 424(b) if, in
the aggregate, the changes in volume and price represent no more than 20 percent
change in the maximum aggregate offering price set forth in the "Calculation of
Registration Fee" table in the effective registration statement; and
(iii) To include any material information with respect to the
plan of distribution not previously disclosed in the registration statement or
any material change to such information in the registration statement.
(b) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall be deemed to be
a new registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof.
(c) To remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the termination of
the offering.
(d) That prior to any public reoffering of the securities registered
hereunder through use of a prospectus which is part of this registration
statement, by any person or party who is deemed to be an underwriter within the
meaning of Rule 145(c), the issuer undertakes that such reoffering prospectus
will contain the information called for by the applicable registration form with
respect to reofferings by persons who may be deemed underwriters, in addition to
the information called for by the other items of the applicable form.
(e) That every prospectus: (i) that is filed pursuant to paragraph (d)
immediately preceding, or (ii) that purports to meet the requirements of Section
10(a)(3) of the Securities Act of 1933 and is used in connection with an
offering of securities subject to Rule 415, will be filed as a part of an
amendment to the registration statement and will not be used until such
amendment is effective, and that, for purposes of determining any liability
under the Securities Act of 1933, each such post-effective amendment shall be
deemed to be a new registration statement relating to the securities offered
therein, and the offering of such securities at that time shall be deemed to be
the initial bona fide offering thereof.
(f) To respond to requests for information that is incorporated by
reference into the prospectus pursuant to Item 4, 10(b), 11 or 13 of this form,
within one business day of receipt of such request, and to send the incorporated
documents by first class mail or other equally prompt means. This includes
information contained in the documents field subsequent to the effective date of
the registration statement through the date of responding to the request.
(g) To supply by means of a post-effective amendment all information
concerning a transaction, and the company being acquired involved therein, that
was not the subject of and included in the registration statement when it became
effective.
(h) Insofar as indemnification for liabilities arising under the
Securities Act of 1933 may be permitted to directors, officers and controlling
persons of the Registrant pursuant to the foregoing provisions, or otherwise,
the Registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as expressed
in the Securities Act of 1933 and is, therefore, unenforceable. In the event
that a claim for indemnification against such liabilities (other than the
payment by the Registrant of expenses incurred or paid by a director, officer or
controlling person of the Registrant in the successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling person
in connection with the securities being registered, the Registrant will, unless
in the opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the
Securities Act of 1933 and will be governed by the final adjudication of such
issue.
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the
registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Dallas,
State of Texas, on August 22, 2003.
PMC COMMERCIAL TRUST
By: /s/ Lance B. Rosemore
--------------------------------------------
Lance B. Rosemore
President and Chief Executive Officer
KNOW ALL MEN BY THESE PRESENTS, that we, the undersigned officers and
trust managers of PMC Commercial Trust, hereby severally constitute Lance B.
Rosemore and Barry N. Berlin and each of them singly, our true and lawful
attorneys with full power to them, and each of them singly, to sign for us and
in our names in the capacities indicated below the Registration Statement filed
herewith and any and all amendments to said Registration Statement, and
generally to do all such things in our names and in our capacities as officers
and trust managers to enable PMC Commercial Trust to comply with the provisions
of the Securities Act of 1933, and all requirements of the Securities and
Exchange Commission, hereby ratifying and confirming our signatures as they may
be signed by our said attorneys, or any of them, to said Registration Statement
and any and all amendments thereto.
Pursuant to the requirements of the Securities Act of 1933, this
registration statement has been signed below by the following persons in the
capacities indicated as of August 22, 2003.
Signature Title Date
/s/ Dr. Andrew S. Rosemore Chairman of the Board of Trust Managers, Chief
----------------------------------------- Operating Officer and Trust Manager August 22, 2003
Dr. Andrew S. Rosemore
/s/ Lance B. Rosemore President, Chief Executive Officer,
----------------------------------------- Secretary and Trust Manager
Lance B. Rosemore (principal executive officer) August 22, 2003
/s/ Barry N. Berlin Chief Financial Officer (principal financial and
----------------------------------------- accounting officer) August 22, 2003
Barry N. Berlin
/s/ Irving Munn Trust Manager
-----------------------------------------
Irving Munn August 22, 2003
/s/ Roy H. Greenberg Trust Manager
-----------------------------------------
Roy H. Greenberg August 22, 2003
/s/ Nathan G. Cohen Trust Manager
-----------------------------------------
Nathan G. Cohen August 22, 2003
Signature Title Date
/s/ Dr. Ira Silver Trust Manager
-----------------------------------------
Dr. Ira Silver August 22, 2003
/s/ Dr. Martha R. Greenberg Trust Manager
-----------------------------------------
Dr. Martha R. Greenberg August 22, 2003