Last checked at 11 Mar 2010 07:00
Prodesse Investment Limited
Annual Report and Financial Statements
for the year ended 31 December 2009
Corporate Summary and Strategy
Company Overview
Prodesse Investment Limited ("Prodesse" or the "Company") is a limited liability Guernsey-incorporated closed-end investment company, the investments of which are managed by Fixed Income Discount Advisory Company ("FIDAC"). The Company was incorporated on 22 February 2005 and in April 2005 completed the initial public offering of its Ordinary Shares, which are listed on The London Stock Exchange and The Channel Islands Stock Exchange. On 21 December 2009, an Extraordinary General Meeting ("EGM") was held at which resolutions were proposed (1) to authorise the Directors to commence a programme of realisation of the Company's assets and amend the investment policy of the Company accordingly, and (2) to amend Article 149(A) of the Articles of Incorporation of the Company to postpone the obligation to propose the scheduled continuation resolution from the 2010 annual general meeting to the 2015 annual general meeting. Both resolutions were passed by the shareholders of the Company.
Investment Objective and Policy
Prior to the EGM on 21 December 2009, the investment objective of Prodesse was to generate distributable income yield on net assets (in US dollar terms) of 3.5 per cent. to 5.0 per cent. greater than the yield on the ten-year US Treasury on an annualized basis while preserving net asset value (in US Dollar Terms) over the long term.
The Company's investment policy was to provide net income for distribution from the spread between the interest income earned from a portfolio of residential mortgage-backed securities and the cost of repurchase agreements entered into to finance the acquisition of such residential mortgage-backed securities, while seeking to limit exposure to interest rate risk and credit risk. Prodesse invests primarily in a portfolio of US residential mortgage-backed securities created or issued by the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac) or the Government National Mortgage Association (Ginnie Mae) with a targeted (actual or implied) credit rating of approximately 'AAA', and to a lesser extent, other 'AAA'-rated US residential mortgage-backed securities, US government securities and debentures issued by a US Agency.
Prodesse used leverage to enhance the returns to shareholders and for this purpose borrowed amounts equal to between five and ten times its net assets. Prodesse used primarily short-term borrowings for the purpose of making investments and to pledge its assets to secure such borrowings. To effect such borrowings in a cost-efficient manner, Prodesse had entered into master repurchase agreements (an agreement effecting a current sale of a security with a concurrent agreement by the seller to repurchase the security at a later date at a higher fixed price reflecting the cost of funds for the term of the agreement) with various major financial institutions.
Following the EGM of 21 December 2009, the Company's investment policy is to conduct an orderly realisation of its assets.
At a future date, that will later be determined within the first quarter of 2010, there will be an EGM meeting with the intention to discuss the costs and specific subjects related to the wind down of the Company.
Investment Manager
The Company is managed by FIDAC, which is registered as an investment adviser with the US Securities and Exchange Commission. FIDAC is a wholly owned subsidiary of Annaly Capital Management, Inc. ("Annaly"), a New York Stock Exchange-listed real estate investment trust which owns and manages a portfolio of mortgage-backed securities.
Formed in 1994, FIDAC is a fixed income investment management company based in New York in the United States which specialises in investing in US Agency mortgage-backed securities and US Treasury securities and managing interest rate-sensitive strategies. FIDAC currently manages assets for private and public funds distributed in Latin America, Europe and the United States. It also manages numerous separate accounts for high net worth individuals and public funds. As at 31 December 2009, FIDAC and Annaly collectively had approximately US$87.3 billion in gross assets under management.
Directors and Advisors
John Edward Hallam (Chairman)
Mr. Hallam is a Fellow of the Institute of Chartered Accountants in England and Wales and qualified as an accountant in 1971. He is a former partner of PricewaterhouseCoopers having retired in 1999 after 27 years with the firm both in Guernsey and in other countries. He is currently chairman of EFG Private Bank (Channel Islands) Ltd, Cazenove Absolute Equity Ltd and Partners Group Global Opportunities Ltd as well as being a director of a number of other financial services companies, some of which are listed on the London Stock Exchange. He also serves as Chairman of the Nomination Committee.
Christopher Norman Fish
Mr. Fish retired as the managing director of Close International Private Banking in Guernsey in July 2004 but remains non-executive Chairman of Close International Asset Management Holdings Limited and Close International Bank Holdings Limited. He has spent the past 30 years involved in all facets of offshore private banking including offshore fund administration and investment management. During these years, he held positions as a director of Royal Bank of Canada (Channel Islands) Limited and as the Americas Offshore Head of Coutts where he was responsible for the Bahamas, Bermuda, Cayman and Uruguay offices. In 1997 he was appointed to senior client partner for Coutts Offshore before taking up his last position in 1998. Mr. Fish serves as chairman of the Audit Committee.
Ronald Daniel Kazel
Mr. Kazel is Managing Director for Annaly Capital Management, Inc. and FIDAC. Mr. Kazel joined the companies in December 2001. Prior to joining the companies, Mr. Kazel was a Senior Vice President in Friedman Billings Ramsey's financial services investment banking group. During his tenure there, he was responsible for structuring both the private and public equity offerings for Annaly in 1997. From 1991 to 1996, Mr. Kazel served as a Vice President at Sandler O'Neill & Partners where he was involved in asset/liability management and fixed-income analysis and sales. Mr. Kazel has a Bachelor of Science in Finance and Management from New York University.
Talmai Phillip Morgan (Senior Independent Director)
Mr. Morgan qualified as a Barrister in 1976. He moved to Guernsey in 1988 where he worked for Barings and then for the Bank of Bermuda as Managing Director of Bermuda Trust (Guernsey) Limited. From January 1999 to June 2004, he was Director of Fiduciary Services and Enforcement at the Guernsey Financial Services Commission (Guernsey's financial regulatory agency). Whilst a regulator, he was involved in Working Groups of the Financial Action Task Force and the Offshore Group of Banking Supervisors. From July 2004 to May 2005, he was Chief Executive of Guernsey Finance which is the official body for the promotion of the Guernsey finance industry. He is a Director of a number of investment companies, which are listed on the London Stock Exchange.
Christopher Wade Sherwell
Mr. Sherwell is a non-executive director of a number of companies and investment funds. He moved to Guernsey in 1993 to become investment director at Schroders (CI) Limited and became managing director from April 2000 until January 2004. At Schroders (CI) Limited he was routinely involved in the oversight of fixed income and equity portfolios managed for institutional and private clients. Prior to 1993 he worked as Far East regional strategist with Smith New Court Securities in London and then Hong Kong. He was previously a journalist, working for the Financial Times. He serves as chairman of the Management Engagement Committee.
| Administrator, Company Secretary, Registrar and Registered Office
BNP Paribas Fund Services (Guernsey) Limited BNP Paribas House St Julian's Avenue St Peter Port Guernsey GY1 1WA
|
Investment Manager
Fixed Income Discount Advisory Company 1211 Avenue of the Americas Suite 2902 New York, New York 10036 USA
|
| Custodian
The Bank of New York One Wall Street 25th Floor New York, New York 10286 USA
| Principal Bankers
The Bank of New York One Wall Street 25th Floor New York, New York 10286 USA
|
| Legal Adviser to the Company (as to English and US law)
Dechert LLP 160 Queen Victoria Street London EC4V 4QQ | Legal Adviser to the Company (as to Guernsey law)
Ogier Ogier House St Julian's Avenue St Peter Port Guernsey GY1 1WA
|
| Auditors
Deloitte LLP Regency Court Glategny Esplanade St Peter Port Guernsey GY1 3HW | CREST Services Provider
Computershare Investor Services (Channel Islands) Limited Ordnance House 31 Pier Road St Helier Jersey JE4 8PW |
| Corporate Brokers
Noble & Company Limited 120 Old Broad Street London EC2N 1AR |
|
| Daniel Stewart & Co Plc Becket House 36 Old Jewry London EC2R 8DD |
|
Chairman's Statement
I welcome shareholders to the 2009 Annual Report and financial statements of Prodesse Investment Limited.
2009 was a remarkable year for the Company on many fronts. We began the year with a balance sheet that was in a strong position due to the liquidity and stability of the credit of our assets and not impaired like many other financial firms coming through the prior two years. We believed that the earnings of the Company were poised to respond favourably to the new financial environment - a prolonged steep US yield curve and ample liquidity for high credit quality assets. These views however, were disregarded by a lone shareholder who requested an EGM to make a change in the leadership and direction of the Company. While we were sensitive to this shareholder's views, we thought the timing was inappropriate and that such changes would not be beneficial to all shareholders. Prodesse's other shareholders agreed, and they successfully voted down the resolutions put forth at the EGM held on 7 April 2009.
The Company's performance justified the views of the Directors and the management team at FIDAC, as both net asset value (NAV) and dividends improved during the course of the year. NAV began the year at US$6.28 and ended the year at US$8.33, an increase of 33%. Dividends for the Company grew from US$0.19 in the 4th quarter of 2008 to US$0.28 in the third quarter of 2009, an increase of 47%, even while our amount of gearing was substantially reduced from 7.8:1 (debt-to-equity) to 6.5:1. As we reviewed this robust performance in the context of our share price movement we were disheartened to see that we had not improved our price relative to our NAV, nor had we garnered any more interest in our shares and improved their trading liquidity. After reviewing these items with our advisors and FIDAC, we deemed it in the best interests of all shareholders to bring forward the continuation vote of Prodesse that had been scheduled for this summer. An EGM was convened on 21 December 2009, at which Shareholders voted to approve the resolutions as recommended by the Board of Directors, and it is now the Company's mandate to proceed with an orderly realization of its assets.
A controlled process of realising the company's assets and discharging its liabilities has been commenced taking into account the scheduled maturities of both assets and liabilities. It is anticipated that this will enable a resolution to place the company into voluntary liquidation to be placed before shareholders at the end of April with distributions taking place at the earliest date achievable within the context of applicable law.
On behalf of the Directors of Prodesse, I thank you for the pleasure of being able to serve on your behalf, and, on behalf of all shareholders of Prodesse, I thank FIDAC for their faithful work in managing the Company over the years.
John E Hallam
Chairman
10 March 2010
Investment Manager's Report
Overview
In 2009, the financial markets rallied and just about every asset class recovered to roughly "pre-Lehman" levels in terms of spreads and prices. A full year has passed since the near-collapse of the global financial system and the landscape now looks very different. Bear Stearns and Lehman Brothers are gone, Merrill Lynch was swallowed by Bank of America, Fannie Mae, Freddie Mac, and AIG are all substantially owned by the US Government. The efforts of government policy makers took the form of support programs, stimulus packages, and tax incentives, all aimed at improving market liquidity and staving off an economic depression. The Federal Reserve maintained its lowest Federal Funds target rate in history for the duration of 2009, leaving it unchanged in its range of 0% to 0.25%. It is not certain whether the level of US government intervention in the markets will lead to long-term recovery, and some investors fear that the exit strategy from the government support programs established in 2009 could be as destabilizing as the events that brought them on.
Prodesse's portfolio of US Government Agency mortgage-backed securities continued to perform well through this ever-changing environment. Prodesse uses leverage to enhance returns to investors using primarily short-term borrowings in the repurchase markets whose rates are based on the Federal Funds target rate. Despite prudently lowering the level of gearing the Company was able to increase its dividend and NAV between year end 2008 and the third quarter of 2009. However, due to a lack of share liquidity and trading volume, during the fourth quarter of 2009, FIDAC, in conjunction with the Board of Directors, deemed it in the best interest of all Shareholders to bring forward the continuation vote of Prodesse that was scheduled for summer 2010. An EGM was convened on 21 December 2009, at which Shareholders voted to approve the resolutions as recommended by the Board of Directors, and it is now the Company's mandate to proceed with an orderly realization of its assets.
Investment Portfolio
During the year the Company sold approximately US$232.2 million of MBS resulting in net realized gain of US$0.4 million, and purchased approximately US$611.9 million, in addition to entering into interest rate swap agreements, which at year end totalled US$533.55 million in notional amount. The purchases and sales were consistent with the Investment Manager's MBS Barbell Strategy. The FIDAC MBS Barbell Strategysm seeks to utilize the principal and interest cash flows of US Agency floating, adjustable and fixed-rate MBS to mitigate the primary risk of the company, interest rate risk. By maintaining an approximate two-thirds adjustable and floating-rate securities and one-third fixed-rate security balance, after taking into account the notional value of interest rate swaps, the portfolio is able to manage through a range of US interest rate environments.
| Summary details of the ten largest investments as at 31 December 2009 | |||
| Description | Market Value US $'000s | % of Portfolio | Current Coupon |
| GN 673234 | 37,934 | 2.37% | 6.00% |
| FN 924848 | 34,653 | 2.17% | 6.50% |
| FG G08200 | 32,562 | 2.03% | 6.00% |
| FN 256233 | 29,826 | 1.86% | 6.00% |
| FN 917129 | 28,495 | 1.78% | 6.00% |
| FN 256492 | 28,330 | 1.77% | 6.00% |
| FNMA 933857 | 26,973 | 1.69% | 6.00% |
| FHR 3212 PC | 26,807 | 1.67% | 6.00% |
| FN 901881 | 26,701 | 1.67% | 6.00% |
| FG A48575 | 25,575 | 1.60% | 6.00% |
At 31 December 2009 the Company's net asset value per ordinary share was US$8.33 (before excluding the dividend declared for the quarter ended 31 December 2009), reflecting an increase of 32.6% from 31 December 2008.
| % of Portfolio | 31 December 2009 | 30 September 2009 | 30 June 2009 | 31 March 2009 |
| Fixed-rate MBS | 61% | 56% | 54% | 49% |
| Adjustable-rate MBS | 30% | 27% | 27% | 27% |
| Floating-rate MBS | 9% | 17% | 19% | 24% |
| Notional amount of interest rate swaps |
35% |
30% |
28% |
28% |
In the quarter ended 31 December 2009 the annualized cost of funds in the portfolio was 2.83% while the annualized yield on average assets was 4.75%, resulting in a net interest rate spread of 1.92%; in the prior year comparable quarter the annualized cost of funds was 3.92% and the annualized yield on average assets was 5.24%, for a net interest rate spread of 1.32%.
|
| 31 December 2009 | 30 September 2009 | 30 June 2009 | 31 March 2009 |
| Average Yield on Average Assets |
4.75% |
4.48% |
4.33% |
4.56% |
| Annualised Cost of Funds on Average Balance |
2.83% |
2.63% |
2.68% |
3.15% |
| Interest Rate Spread | 1.92% | 1.85% | 1.65% | 1.41% |
Liability Management and Leverage
The amount of leverage used during the year steadily decreased, ending the year at 5.3:1 debt-to-equity. The level of leverage will rise and fall accordingly as the value of the Company's assets increases or decreases, as well as be affected by the purchase or sale of assets. During the period the Investment Manager prudently applied leverage as the Company navigated a particularly volatile market environment.
The Company continues to utilize primarily short-term borrowings through the use of reverse-repurchase agreements and currently maintains such agreements with 14 counterparties. The reverse repurchase markets for US Agency MBS continues to be the most readily available and cost-efficient means of borrowings for the Company.
|
| 31 December 2009
| 30 September 2009 | 30 June 2009 | 31 March 2009 |
| Average Leverage During Period |
5.6 |
6.9 |
7.2 |
7.6 |
| Leverage at Period End | 5.3 | 6.5 | 7.0 | 7.4 |
| Repurchase Agreements at Period End (US$000's) |
1,363,000 |
1,653,409 |
1,669,657 |
1,647,962 |
The Company utilized interest rate swap agreements to help manage the risks associated with its floating rate liabilities and the market value movements of its securities. During the year the Company terminated $25 million notional amount of interest rate swap agreements, resulting in a gain of $0.1 million, and entered into interest rate swap agreements totalling $75 million in notional amount which resulted in a year end balance of $534 million.
|
| 31 December 2009 | 30 September 2009 | 30 June 2009 | 31 March 2009 |
| Notional Amount of Interest Rate Swaps (US$000,000's) |
534 |
560 |
567 |
544 |
| Average Pay Rate | 4.73% | 4.76% | 4.76% | 4.96% |
| Average Receive Rate | 0.23% | 0.25% | 0.32% | 0.53% |
Due to the volatility of the credit markets, it is not always practical to match the pricing dates of both the interest rate swaps and the repurchase agreements and the Company may not receive the most desirable rates by exactly matching the terms. As a result, the Company de-designated interest rate swaps as cash flow hedges effective 1 October 2008.
Investment Management
The Company's name, Prodesse, Latin for "to advance" or "to go forward", is borrowed from FIDAC's motto and was intended to signify that the Company would "go forward" to offer European investors access to a new source of income-based returns. Since Prodesse's initial public offering in April 2005 the Company has paid $97.2 million in dividends and delivered a cumulative total return of 31.4%1. As FIDAC conducts an orderly realisation of the Company's assets, we will continue to seek to maximize the income in the portfolio whilst also attempting to garner maximum realization value of the Company's assets.
.
Fixed Income Discount Advisory Company
10 March 2010
1Calculated through 31 December 2009 in Sterling
Directors' Report
The Directors present their Annual Report and the audited financial statements for the year ended 31 December 2009. The comparative figures are for the year ended 31 December 2008.
The Directors have prepared these financial statements in compliance with the provisions of the Companies (Guernsey) Law, 2008.
Incorporation and Regulation
Prodesse Investment Limited (the "Company") was incorporated in Guernsey, Channel Islands, on 22 February 2005 and commenced operations on 8 April 2005.
On 6 April 2005 the Company's Ordinary Shares were admitted to the Official List of The London Stock Exchange and The Channel Islands Stock Exchange. On 22 November 2005 the currency in which the shares are quoted was changed from US Dollars to Sterling.
Principal Activity
The principal activity of the Company is to carry on business as an investment company. Further information on the Company's activities is included in the Corporate Summary and Strategy on page 2.
Going Concern
An Extraordinary General Meeting was held on 21 December 2009 at which resolutions were proposed (1) to authorise the Directors to commence a programme of realisation of the Company's assets and amend the investment policy of the Company accordingly, and (2) to amend Article 149(A) of the Articles of Incorporation of the Company to postpone the obligation to propose the scheduled continuation resolution from the 2010 annual general meeting to the 2015 annual general meeting. The second resolution having been put forward to deal with the situation that would have arisen if the first were not passed. Both resolutions were passed by the shareholders of the Company.
As a result of the passing of the resolution to commence a program of realisation of the Company's assets and the circulation of the directors' proposal to wind up the Company thereafter, the financial statements have been prepared on a basis other than that of a going concern.
No asset impairments were required to be recognised in respect to the passing of the vote by shareholders on 21 December 2009. The MBS investments have been transferred in the balance sheet from "Non current assets" to "Current assets."
Provision has been made for any contractual commitments that would have been onerous at the end of the reporting period. Such provisions relate to a provision for US$6.3m in respect of the estimated costs to terminate the structured repurchase agreement which is scheduled to mature on 28 February 2012.
The financial statements do not include any provision for the future costs of terminating the business of the Company except to the extent those such costs were committed at the end of the reporting period.
Review of Business
The results for the year are set out on page 18. The Company's net profit for the year ended 31 December 2009 amounted to US$28.6 million (2008: US$4.4 million) equivalent to US$0.92 (2008: US$0.15) per Ordinary Share. As at 31 December 2009, the Company's shareholders' equity was US$258,037,175 (2008: US$194,540,359) or US$8.33 (2008: US$6.28) per Ordinary Share. After including the effect of dividends declared for the quarter ended 31 December 2009 of US$0.04, the reported net asset value per Ordinary Share is US$8.29 (2008: US$6.09).
Dividends
During the year, three interim dividends relating to the current year have been paid. The first interim dividend of US$0.23 per share was paid on 11 June 2009. The second interim dividend of US$0.27 per share was paid on 9 September 2009. The third interim dividend of US$0.28 per share was paid on 2 December 2009. All dividends are declared and paid as interim dividends. A further interim dividend of US$0.04 per share, in respect of the final quarter of 2009 was declared on 9 February 2010 and is payable on 10 March 2010. The Directors do not therefore recommend a final dividend.
Administrator, Secretary and Custodian
BNP Paribas Fund Services (Guernsey) Limited, was appointed as Administrator and Company Secretary on 5 April 2005. The Bank of New York is the sub-Administrator of the Company. The Bank of New York was appointed as custodian on 5 April 2005.
Authority to Buy Back Shares
The Company currently has authority to undertake a share purchase of up to 14.99% of the share capital of the Company and the Board of Directors has approved the use of on-market purchases of Ordinary Shares for cancellation at appropriate prices which will enhance net asset value.
Directors
The Directors of the Company are as stated on page 3. There have been no changes in Directors during the year.
The following Directors, including persons connected with them, held the following number of Ordinary Shares at 31 December 2009:
| Director | Number of Ordinary Shares | Percentage (%) |
| J Hallam | 14,685 | Less than 0.1 |
| C Fish | 2,678 | Less than 0.1 |
| T Morgan | 3,668 | Less than 0.1 |
| C Sherwell | 3,669 | Less than 0.1 |
Each of the Directors has signed a letter of appointment with the Company setting out the terms of their appointment. The basic fee payable to each independent non-executive director is at a rate of £20,000 per annum, except for the Chairman who receives £25,000 per annum.
None of the Directors had a service contract with the Company during the period and accordingly a Director is not entitled to any minimum period of notice or to compensation in the event of their removal as a Director.
Substantial Shareholdings
Based upon information deemed to be reliable as provided by the Company's registrar, as at 9 March 2010, the following shareholders showed ownership of 3% or more of the issued Ordinary Shares of the Company.
|
| Number of Ordinary Shares | Percentage (%) |
| Vidacos Nominees Limited (2303) | 8,919,102 | 28.79 |
| The Bank of New York (Nominees) Limited | 3,896,685 | 12.58 |
| Roy Nominees Limited (845000) | 1,819,849 | 5.87 |
| Vidacos Nominees Limited (CSFB1) | 1,400,000 | 4.52 |
| Royal Bank of Canada Europe Limited (RBC5) | 1,342,047 | 4.33 |
| Chase Nominees Limited | 1,142,295 | 3.69 |
| Chase Nominees Limited (30521) | 1,105,815 | 3.57 |
| The Bank of New York (Nominees) Limited (RUIF) | 989,686 | 3.19 |
Notifications of Shareholdings
In the period through 2009 to 9 March 2010 the Company had been notified, in accordance with chapter 5 of the Disclosure and Transparency Rules (which covers the acquisition and disposal of major shareholdings and voting rights), of the following voting rights as a shareholder of the Company. When more than one notification has been received from any shareholder only the latest notification is shown.
|
| Date | Number of Ordinary Shares | Percentage (%) |
| Ruffer LLP | 24/06/09 | 8,047,692 | 25.98 |
| Henderson High Income Trust Plc | 04/08/09 | 875,000 | 2.82 |
| Jupiter Asset Management Limited | 13/01/10 | 7,859 | 0.03 |
| Artemis High Income Fund | 04/03/10 | 0 | 0.00 |
| Blackrock UK Income Fund | 05/03/10 | 535,962 | 1.73 |
| Blackrock Inc | 05/03/10 | 750,607 | 2.42 |
| Weiss Asset Management L.P.. | 09/03/10 | 5,087,900 | 16.42 |
Corporate Governance Principles
The Directors are committed to ensuring that high standards of corporate governance are maintained and have made it Company policy to comply with best practice on corporate governance, wherever the Directors believe it is relevant and appropriate to the Company. However the Company has availed itself of an exemption under the Listing Rules not to comply with the "Combined Code" (i.e. the Code of Best Practice published by the Committee on the Financial Aspects of Corporate Governance) as it is a Guernsey registered company. The Company complies with the corporate governance guidelines issued by the Guernsey Financial Services Commission on 10 December 2004, and the underlying principles are the same as those of the Combined Code. In addition, the Directors, in accordance with best practice, comply with the Combined Code provisions wherever thought appropriate.
Board Responsibilities
The Board comprises five non-executive directors all of whom, with the exception of Mr Kazel, are independent of the Investment Manager. Biographies of the Directors appear on page 3. As it has no employees of its own the Company does not have a Chief Executive.
The Company holds at least four Board meetings per year, at which the Directors review the Company's investments and all other important issues to ensure control is maintained over the Company's affairs. The Board also receives full management accounts.
The Board has formalised arrangements under which Directors, in the furtherance of their duties, may take independent advice at the Company's expense. The Directors have access to the advice and services of the Company Secretary through its appointed representatives who are responsible to the Board for ensuring that Board procedures are followed and that applicable rules and regulations are complied with.
To enable the Board to function effectively and allow Directors to discharge their responsibilities, full and timely access is given to all relevant information.
The Company's Articles require that all directors seek re-election every three years.
Relations with Shareholders
The Directors are always willing to consider representations from shareholders concerning the management of any aspect of the Company's affairs and such representations may be raised through the offices of the Company Secretary.
The Investment Manager has an active programme of communication with major investors and analysts both to provide information and to understand concerns. The Board requires the Investment Manager to keep it advised of issues raised.
Board Committees
The Board has established the following committees:
Audit Committee - Chaired by Mr C Fish and with Mr J Hallam, Mr T Morgan and Mr C Sherwell as members.
The Audit Committee met five times in 2009 with the duties being, inter alia:
·; To review and make recommendations to the Board on the appointment and remuneration of the Company's auditors, the scope of the audit, any questions of resignation or dismissal of the auditors and to approve the auditors' remuneration and terms of engagement.
·; To discuss with the auditors the nature and scope of the audit and to keep under review such scope and its cost-effectiveness;
·; To review and monitor the integrity of the Company's half-year and annual accounts and any other financial information published by the Company; and
·; To oversee the independence of the auditors particularly as it relates to the provision of both audit and non-audit services.
The Audit Committee is required to report any findings to the Board.
Management Engagement Committee - Chaired by Mr C Sherwell and with Mr C Fish, Mr J Hallam and Mr T Morgan as members.
The Management Engagement Committee met once in 2009, with the duties being, inter alia:
·; To review the terms of the Management Agreement;
·; To review the performance of the investment manager relative to any agreed benchmark;
·; To review any breaches by the investment manager; and
·; To review the standards of any administrative or company secretarial services provided.
Nomination Committee - Chaired by Mr J Hallam and with Mr C Fish, Mr T Morgan, Mr R Kazel and Mr C Sherwell as members.
The function of the Nomination Committee is to lead the process for Board appointments and make recommendations to the Board. The committee met once in the year.
Board meetings
Full Board meetings take place at least quarterly. In between its regular quarterly meetings, the Board has also met on a number of occasions during the year to address specific issues. The table below shows the number of Board Meetings during the year and the Directors attendance:
|
| Quarterly Board Meetings | Audit Committee Meetings | Management Engagement Committee Meetings |
Nomination Committee Meetings |
| J Hallam | 3 out of 4 | 4 out of 5 | 1 out of 1 | 1 out of 1 |
| C Fish | 3 out of 4 | 3 out of 5 | 0 out of 1 | 1 out of 1 |
| R Kazel | 4 out of 4 | N/A | N/A | 1 out of 1 |
| T Morgan | 4 out of 4 | 5 out of 5 | 1 out of 1 | 1 out of 1 |
| C Sherwell | 3 out of 4 | 4 out of 5 | 1 out of 1 | 1 out of 1 |
In addition to the scheduled quarterly meetings the Board held six ad hoc meetings to deal with matters of an administrative nature. These meetings were attended by those Directors who were available at the time.
Mr Kazel is not a member of the Audit Committee or Management Engagement Committee but he may attend meetings if invited to do so by the Chairman of that committee.
Internal Control and Financial Reporting
The Directors acknowledge that they are responsible for establishing and maintaining the Company's system of internal control and reviewing its effectiveness. Internal control systems are designed to manage rather than eliminate the failure to achieve business objectives and can only provide reasonable but not absolute assurance against material misstatements or loss.
The Directors review not just internal controls but all controls including operations, compliance and risk management. The key procedures which have been established to provide internal control are set out below:
Investment management is provided by FIDAC. The Board is responsible for setting the overall investment policy and monitors the action of the Manager at regular Board meetings. Administration and company secretarial services (including Registrar services) are provided by BNP Paribas Fund Services (Guernsey) Limited ("BNPFS"). Custody of assets is undertaken by The Bank of New York ("BONY"). The Board reviews the BONY internal controls report, SAS 70 report, and also receives regular compliance reports from the Administrator.
The duties of investment management, accounting and the custody of assets are segregated and the procedures of the individual parties are designed to complement each other.
The Board considers the arrangements for the provision of investment management and other services to the Company on an ongoing basis and a formal review is conducted annually. As part of this review the Board considered the quality and continuity of the personnel assigned to handle the Company's affairs, the investment process and the results achieved to date. As noted in the Chairman's and Investment Manager's report, the performance of the Company over the period has been impacted by market conditions. However, in line with the Company's objective, the Board places greater importance on the manager's ability to deliver long-term performance.
The non executive Directors of the company clearly define the duties and responsibilities of their agents and advisers whose appointment is made by the Board after due consideration. The Board monitors the ongoing performance of such agents and advisers.
FIDAC, BONY and BNPFS maintain their own systems of internal control, on which they report to the Board. The Company, in common with other investment companies, does not have an internal audit function. The Board has considered the need for an internal audit function, but because of the internal control systems in place by its service providers, has decided to place reliance on their systems and internal control procedures.
The systems are designed to ensure effectiveness and efficient operation, internal control and compliance with laws and regulations. In establishing the systems of internal control, regard is paid to the materiality of relevant risks, the likelihood of costs being incurred and costs of control. It follows therefore that the systems of internal control can only provide reasonable but not absolute assurance against the risk of material misstatement or loss.
Directors' Remuneration Report
The Board has prepared this report in line with the corporate governance practice disclosure.
Directors consideration
The Board is comprised entirely of non-executive Directors and considers, as a whole, the Directors' remuneration. The Board has not been provided with advice or services by any person in respect of its consideration of the Directors' remuneration although they review, from time to time, the fees paid to the Boards of Directors of other investment companies.
Policy on Directors' remuneration
The Board's policy is that the remuneration of the Directors should reflect the experience of the Board as a whole and be fair and comparable to that of other similar investment companies.
The Company's policy is for the Directors to be remunerated in the form of fees, payable quarterly in arrears, to the Director personally. The Company's policy is that fees payable to the Directors should reflect the time spent by them on the Company's affairs and should be sufficient to enable candidates of high calibre to be recruited and retained. The non-executive Directors are not eligible for bonuses, pension benefits, share options, long term incentive schemes or other benefits. The Company's Articles of Association limit the aggregate fees payable to Directors to £100,000 per annum.
None of the Directors has a contract of service and a Director may resign by notice in writing to the Board at any time; there are no set notice periods. The Articles of Association provided that, at the Annual General Meeting each year, one third of the Directors for the time being (rounded down if not a whole number) were subject to retirement by rotation.
Directors' and officers' liability insurance cover is in place in respect of the Directors.
Directors fees
|
| 2009 | 2008 |
|
| US$'000 | US$'000 |
| Chairman: |
|
|
| John E Hallam | 50 | 51 |
|
|
|
|
| Directors: |
|
|
| Christopher N Fish | 41 | 41 |
| Talmai P Morgan | 41 | 41 |
| Christopher W Sherwell | 41 | 41 |
| Total | 173 | 174 |
Auditors
Each of the persons who is a Director at the date of approval of the financial statements confirms that:
·; So far as the Director is aware, there is no relevant audit information of which the Company's auditors are unaware.
·; The Director has taken all steps he ought to have taken as a Director to make himself aware of any relevant audit information and to establish the Company's auditors are aware of that information.
This confirmation is given and should be interpreted in accordance with the provisions of Section 249 of the Companies (Guernsey) Law, 2008.
Directors' Responsibilities
The Directors are responsible for preparing the Annual Report and Financial Statements for each financial year which give a true and fair view of the state of affairs of the Company as at the end of the financial year and of the net income or loss for that year in accordance with International Financial Reporting Standards and are in accordance with applicable laws.
International Accounting Standard 1 requires that financial statements present fairly for each financial year the Company's financial position, financial performance and cash flows. This requires the faithful representation of the effects of transactions, other events and conditions in accordance with the definitions and recognition criteria for assets, liabilities, income and expenses set out in the International Accounting Standards Board's "Framework for the Preparation and Presentation of Financial Statements". In virtually all circumstances, a fair presentation will be achieved by compliance with all applicable IFRSs.
Directors are also required to:
·; properly select and apply accounting policies;
·; present information, including accounting policies, in a manner that provides relevant, reliable, comparable and understandable information; and
·; provide additional disclosures when compliance with the specific requirements of IFRSs is insufficient to enable users to understand the impact of particular transactions, other events and conditions on the Company's financial position and financial performance.
The Directors are responsible for keeping proper accounting records which disclose with reasonable accuracy at any time the financial position of the Company and to enable them to ensure that the Financial Statements comply with The Companies (Guernsey) Law, 2008. They are also responsible for safeguarding the assets of the Company and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities.
The Company's Directors are responsible for the maintenance and integrity of the Company website. Legislation in the United Kingdom and in Guernsey governing the preparation and dissemination of financial statements differs from legislation in other jurisdictions.
Directors' Responsibilities Statement
We confirm to the best of our knowledge:
1. the financial statements, prepared in accordance with International Financial Reporting Standards, give a true and fair view of the assets, liabilities, financial position and profit or loss of the Company; and
2. the management report, which is incorporated in the Directors' report and Investment Manager's Report, includes a fair review of the development and performance of the business and the position of the Company together with a description of the principal risks and uncertainties it faces.
By order of the Board
John E Hallam Christopher N Fish
Director Director
10 March 2010 10 March 2010
Independent Auditors' Report to the Members of Prodesse Investment Limited
We have audited the financial statements of Prodesse Investment Limited (the "financial statements") for the year ended 31 December 2009 which comprise the income statement, the statement of comprehensive income, the statement of changes in shareholders' equity, the balance sheet, the cash flow statement and the related notes 1 to 22. These financial statements have been prepared under the accounting policies set out therein.
This report is made solely to the Company's members, as a body, in accordance with section 262 of The Companies (Guernsey) Law, 2008. Our audit work has been undertaken so that we might state to the Company's members those matters we are required to state to them in an auditor's report and for no other purpose. To the fullest extent permitted by Law, we do not accept or assume responsibility to anyone other than the Company and the Company's members as a body, for our audit work, for this report, or for the opinions we have formed.
Respective Responsibilities of Directors and Auditors
The Directors' responsibilities for preparing the annual report and the financial statements in accordance with International Financial Reporting Standards and applicable Guernsey Law are set out in the statement of Directors' responsibilities. Our responsibility is to audit the financial statements in accordance with relevant Guernsey legal and regulatory requirements and International Standards on Auditing (UK and Ireland).
We report to you our opinion as to whether the financial statements give a true and fair view in accordance with the relevant financial reporting framework and are properly prepared in accordance with The Companies (Guernsey) Law, 2008. We also report if, in our opinion, the Company has not kept proper accounting records or if we have not received all the information and explanations we require for our audit.
We read the other information contained in the annual report and consider whether it is consistent with the audited financial statements. We consider the implications for our report if we become aware of any apparent misstatements or material inconsistencies with the financial statements. Our responsibilities do not extend to any other information.
Basis of Audit Opinion
We conducted our audit in accordance with International Standards on Auditing (UK and Ireland) issued by the Auditing Practices Board. An audit includes examination, on a test basis, of evidence relevant to the amounts and disclosures in the financial statements. It also includes an assessment of the significant estimates and judgements made by the Directors in the preparation of the financial statements, and of whether the accounting policies are appropriate to the Company's circumstances, consistently applied and adequately disclosed. We are not required to review any Corporate Governance disclosures required by The Listing Rules of the Financial Services Authority as the Company has availed itself of an exemption, as an overseas Company, from the requirement to publish a statement of compliance with The Combined Code.
We planned and performed our audit so as to obtain all the information and explanations which we considered necessary in order to provide us with sufficient evidence to give reasonable assurance that the financial statements are free from material misstatement, whether caused by fraud or other irregularity or error. In forming our opinion we also evaluated the overall adequacy of the presentation of information in the financial statements.
Opinion
In our opinion the financial statements give a true and fair view, in accordance with International Financial Reporting Standards, as issued and adopted by the International Accounting Standards Board, of the state of the Company's affairs as at 31 December 2009 and of the Company's profit for the year to 31 December 2009 and have been properly prepared in accordance with The Companies (Guernsey) Law, 2008.
Emphasis of matter- Financial Statements prepared other that on a going concern basis
In forming our opinion on the financial statements, which is not qualified, we have considered the adequacy of the disclosure made in note 3 to the financial statements, which explains that the financial statements have been prepared on a basis other than that of a going concern.
Deloitte LLP
Chartered Accountants
Guernsey, Channel Islands
10 March 2010
Income Statement
For the year ended 31 December 2009
|
| Notes |
2009 |
2008 | |
|
|
| US $'000 | US $'000 | |
|
|
|
|
| |
| Income: |
|
|
| |
| Interest income | 5 | 83,591 | 103,638 | |
| Interest expense | 6 | (45,500) | (69,108) | |
| Net interest income |
| 38,091 | 34,530 | |
|
|
|
|
| |
| Realised gain on sale of available for sale investments | 13 | 259 | 7,074 | |
|
|
|
|
| |
| Realised gain/(loss) on cash flow hedge | 15 | 100 | (6,775) | |
|
|
|
|
| |
| Amortisation of de-designation and release of cash flow hedge | 15 | (14,870) | (1,949) | |
|
|
|
|
| |
| Unrealised gain/(loss) on interest rate swaps | 15 | 17,118 | (22,696) | |
|
|
|
|
| |
| Total income |
| 40,698 | 10,184 | |
|
|
|
|
| |
| Expenses |
|
|
| |
| Management, Custodian and Administration fees | 7 | (4,505) | (4,518) | |
| Other operating expenses | 7 | (1,269) | (1,259) | |
| Provision for winding down costs | 4 | (6,364) | - | |
| Total expenses |
| (12,138) | (5,777) | |
|
|
|
|
| |
| Net profit for the year |
| 28,560 | 4,407 | |
|
|
|
|
| |
| Profit per Ordinary Share | 10 | US$0.92 | US$0.15 | |
|
|
|
|
| |
| Weighted Average Ordinary Shares outstanding | 10 | 30,982,050 | 30,204,819 | |
|
|
|
|
| |
All items in the above statement are derived from discontinuing operations, see note 3.
All income is attributable to the Ordinary Shareholders of the Company.
Statement of Comprehensive Income
For the year ended 31 December 2009
|
| Notes |
2009 |
2008 | |
|
|
| US $'000 | US $'000 | |
|
|
|
|
| |
| Net profit for the year |
| 28,560 | 4,407 | |
|
|
|
|
| |
| Available for sale financial assets: |
|
|
| |
| Unrealised gains/(losses) arising during the year | 13 | 50,121 | (26,515) | |
|
|
| 50,121 | (26,515) | |
|
|
|
|
| |
| Cash flow hedges: |
|
|
| |
| Unrealised losses arising during the year |
| - | 5,005 | |
| Amortisation of designation and release of cash flow hedge | 15 | 14,870 | 1,949 | |
|
|
| 14,870 | 6,954 | |
|
|
|
|
| |
| Total comprehensive income/(loss) for the year |
| 93,551 | (15,154) | |
|
|
|
|
| |
All comprehensive income is attributable to the Ordinary Shareholders of the Company.
| Statement of Changes in Shareholders' Equity For the year ended 31 December 2009 | ||||||||||
|
| Note | Share capital
| Capital redemption reserve | Share premium
| Distributable reserve | Accumulated profits | Capital Reserve - Realised gains on available for sale investments | Revaluation reserve - Unrealised gain on available for sale investments | Cash flow hedge reserve | Total |
|
|
| US $'000 | US $'000 | US $'000 | US $'000 | US $'000 | US $'000 | US $'000 | US $'000 | US $'000 |
| At 1 January 2009 |
| 310 | 30 | 91,560 | 141,513 | (15,656) | 1,899 | (10,104) | (15,012) | 194,540 |
| Available for sale investments: |
|
|
|
|
|
|
|
|
|
|
| - Unrealised gain on revaluation taken to equity |
13 |
- |
- |
- |
- |
- |
- |
49,862 |
- |
49,862 |
| - Realised gain on sale of investments |
13 |
- |
- |
- |
- |
- |
- |
259 |
- |
259 |
| Net profit for the year |
| - | - | - | - | 28,560 | - | - | - | 28,560 |
| Amortisation of de-designated and release of cash flow hedge |
|
- |
- |
- |
- |
- |
- |
- |
14,870 |
14,870 |
| Cash flow hedge reserve - Unrealised loss taken to equity |
|
|
|
|
|
|
|
|
(100) |
(100) |
| Realised gain on cash flow hedge |
|
- |
- |
- |
- |
- |
- |
- |
100 |
100 |
| Transfer of net realised gains to capital reserve |
3,17 |
- |
- |
- |
- |
(359) |
359 |
- |
- |
- |
| Total recognised income and expenses for the year |
|
- |
- |
- |
- |
28,201 |
359 |
50,121 |
14,870 |
93,551 |
| Dividend paid | 9 | - | - | - | - | (30,054) | - | - | - | (30,054) |
| At 31 December 2009 | 17 | 310 | 30 | 91,560 | 141,513 | (17,509) | 2,258 | 40,017 | (142) | 258,037 |
| Statement of Changes in Shareholders' Equity For the year ended 31 December 2008 | ||||||||||
|
| Note | Share capital
| Capital redemption reserve | Share premium
| Distributable reserve | Accumulated profits | Capital Reserve - Realised gains on available for sale investments | Revaluation reserve - Unrealised gain on available for sale investments | Cash flow hedge reserve | Total |
|
|
| US $'000 | US $'000 | US $'000 | US $'000 | US $'000 | US $'000 | US $'000 | US $'000 | US $'000 |
| At 1 January 2008 |
| 282 | 30 | 71,680 | 141,513 | 7,220 | 1,600 | 16,411 | (21,966) | 216,770 |
| Available for sale investments: |
|
|
|
|
|
|
|
|
|
|
| - Unrealised loss on revaluation taken to equity |
13 |
- |
- |
- |
- |
- |
- |
(19,441) |
- |
(19,441) |
| - Realised gain on sale of investments |
13 |
- |
- |
- |
- |
- |
- |
(7,074) |
- |
(7,074) |
| Net profit for the year |
| - | - | - | - | 4,407 | - | - | - | 4,407 |
| Amortisation of de-designated cash flow hedge |
|
- |
- |
- |
- |
- |
- |
- |
1,949 |
1,949 |
| Transfer of net realised gains to capital reserve |
3,17 |
- |
- |
- |
- |
(299) |
299 |
- |
- |
- |
| Cash flow hedge reserve - Unrealised loss taken to equity |
15,17 |
- |
- |
- |
- |
- |
- |
- |
(1,770) |
(1,770) |
| - Realised loss on cash flow hedge |
15,17 |
- |
- |
- |
- |
- |
- |
- |
6,775 |
6,775 |
| Total recognised income and expenses for the year |
|
- |
- |
- |
- |
4,108 |
299 |
(26,515) |
6,954 |
(15,154) |
| Dividend paid | 9 | - | - | - | - | (26,984) | - | - | - | (26,984) |
| Issuance of shares | 17 | 28 | - | 20,497 | - | - | - | - | - | 20,525 |
| Issue costs | 17 | - | - | (617) | - | - | - | - | - | (617) |
| At 31 December 2008 | 17 | 310 | 30 | 91,560 | 141,513 | (15,656) | 1,899 | (10,104) | (15,012) | 194,540 |
Balance Sheet
As at 31 December 2009
|
|
|
2009 | 2008 |
|
| Notes | US $'000 | US $'000 |
|
|
|
|
|
|
|
|
|
|
| Current assets |
|
|
|
| Available for sale investments | 13 | 1,600,489 | 1,709,479 |
| Accrued income receivable |
| 8,072 | 7,785 |
| Receivable for principal paydowns |
| 3,945 | 1,519 |
| Receivable for securities sold |
| 43,173 | 19,426 |
| Prepaid expenses |
| 211 | 139 |
| Cash and cash equivalents | 14 | 129 | 19,173 |
|
|
|
|
|
| Total assets |
| 1,656,019 | 1,757,521 |
|
|
|
|
|
| Equity attributable to equity shareholders |
|
|
|
| Ordinary share capital | 17 | 310 | 310 |
| Capital redemption reserve | 17 | 30 | 30 |
| Share premium | 17 | 91,560 | 91,560 |
| Distributable reserve | 17 | 141,513 | 141,513 |
| Accumulated losses | 17 | (17,509) | (15,656) |
| Capital reserve - Realised gain on available for sale investments and interest rate swaps |
17 |
2,258 |
1,899 |
| Revaluation reserve | 17 | 40,017 | (10,104) |
| Cash flow hedge reserve | 17 | (142) | (15,012) |
|
|
|
|
|
| Total equity |
| 258,037 | 194,540 |
|
|
|
|
|
| Current liabilities | 14 |
|
|
| Reverse repurchase agreements | 16 | 1,363,000 | 1,515,351 |
| Accrued interest expense |
| 3,989 | 5,958 |
| Accrued expenses payable |
| 2,090 | 2,015 |
| Provision for winding down costs | 4 | 6,364 | - |
| Fair value of interest rate swaps | 15 | 22,539 | 39,657 |
|
|
|
|
|
| Total liabilities |
| 1,397,982 | 1,562,981 |
|
|
|
|
|
| Total equity and liabilities |
| 1,656,019 | 1,757,521 |
|
|
|
|
|
| Net Assets |
| US$258,037 | US$194,540 |
|
|
|
|
|
| Net Asset Value per Ordinary Share | 18 | US$8.33 | US$6.28 |
|
|
|
|
|
The Balance sheet presents the financial positions of the Company as of 31 December 2009.
The financial statements on pages 18 to 44 were approved by the Board of Directors on 10 March 2010 and are signed on its behalf by:
John E Hallam Christopher N Fish
Director Director
Cash Flow Statement
For the year ended 31 December 2009
|
|
|
2009 |
2008 |
|
| Notes | US $'000 | US $'000 |
|
|
|
|
|
|
|
|
|
|
| Net cash inflow from operating activities | 19 | 163,361 | 522,234 |
|
|
|
|
|
| Cash flows from financing activities |
|
|
|
|
|
|
|
|
| Borrowings under reverse repurchase agreements | 16 | 11,925,630 | 17,833,564 |
| Repayments under reverse repurchase agreements | 16 | (12,077,981) | (18,329,597) |
| Dividends paid to shareholders | 9 | (30,054) | (26,984) |
| Issue of shares | 17 | - | 19,908 |
|
|
|
|
|
| Net cash outflow from financing activities |
| (182,405) | (503,109) |
|
|
|
|
|
| Net (decrease)/increase in cash and cash equivalents |
| (19,044) | 19,125 |
|
|
|
|
|
| Cash and cash equivalents at the beginning of the year |
| 19,173 | 48 |
|
|
|
|
|
| Cash and cash equivalents at the end of the year |
| 129 | 19,173 |
|
|
|
|
|
|
|
|
|
|
All items in the cashflow statement are derived from discontinuing activities.
Notes to the financial statements
1. General Information
Prodesse Investment Limited is a limited liability Guernsey-incorporated closed-end investment company, the investments of which are managed by Fixed Income Discount Advisory Company ("the Investment Manager"). The Company's share capital structure consists solely of Ordinary Shares. The Company has a listing on the London Stock Exchange and a listing on the Channel Islands Stock Exchange. On 21 December 2009, an Extraordinary General Meeting was held at which resolutions were proposed (1) to authorise the Directors to commence a programme of realisation of the Company's assets and amend the investment policy of the Company accordingly, and (2) to amend Article 149(A) of the Articles of Incorporation of the Company to postpone the obligation to propose the scheduled continuation resolution from the 2010 annual general meeting to the 2015 annual general meeting. Both resolutions were passed by the shareholders of the Company.
2. Adoption of new and revised Standards
In the current financial year, the Company has adopted International Financial Reporting Standard 8 "Operating Segments" and International Accounting Standard 1 "Presentation of Financial Statements" (revised 2007).
IFRS 8 requires operating segments to be identified on the basis of internal reports about components of the Company that are regularly reviewed by the Directors to allocate resources to the segments and to assess their performance. In contrast, the predecessor Standard IAS 14 "Segmental Reporting" required the Company to identify two sets of segments (business and geographical), using a risks and rewards approach, with the Company's system of internal financial reporting to Directors serving only as the starting point for the identification of such segments. However, as the Company is engaged in a single segment of business and no such segmental reporting is undertaken, this has not resulted in any changes to the financial information provided.
IAS 1 (revised) requires the presentation of a statement of changes in equity as primary statement, separate from the income statement and statement of comprehensive income. As a result, a statement of comprehensive income has been included in the primary statements, showing changes in each component of equity for each period presented.
IFRS 7 (amendments) requires financial instruments to be disclosed with reference to an explicit three-level fair value hierarchy which groups fair value measurements based on their observability. This disclosure has been made in note 12(c).
The Directors believe that pronouncements which are in issue but not yet operative or adopted by the Company will not have a material impact on the financial statements of the Company.
3. Significant Accounting Policies
Basis of Accounting
The financial statements of the Company have been prepared in accordance with International Financial Reporting Standards ("IFRS") together with applicable legal and regulatory requirements of Guernsey Law and the Listing Rules of the UK Listing Authority and Channel Islands Stock Exchange.
The financial statements have been prepared on the historical cost basis as modified for the revaluation of certain financial instruments. The principal accounting policies are set out below. The preparation of financial statements in conformity with IFRS requires the Company to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting year. Actual results could differ from those estimates.
These financial statements are presented in US Dollars because that is the currency of the primary economic environment in which the Company operates. The functional currency of the Company is also considered to be US Dollars.
Basis of Accounting (continued)
On 21 December 2009, an Extraordinary General Meeting was held and the shareholders passed the all resolutions proposed and recommended by the Board in the shareholder circular dated 23 November 2009 (see note 1 for details of the resolution). The Circular recommended that the fund begin the winding-down of the activities of the Company. At a future date, that will later be determined within the first quarter of 2010, there will be an EGM meeting with the intention to discuss the costs and specific subjects related to the wind down of the Company.
As a result of the passing of the resolution to commence a program of realisation of the Company's assets and the circulation of the directors' proposal to wind up the Company thereafter, the financial statements have been prepared on a basis other than of a going concern.
No asset impairments were required to be posted in respect to the passing of the vote by shareholders on 21 December 2009. The MBS investments have been transferred in the balance sheet from "Non current assets" to "Current assets."
Provision has also been made for any contractual commitments that have been onerous at the end of the reporting period. Such provisions relate to a provision for US$6.3m in respect of costs to terminate the structured repurchase agreement which is scheduled to mature on 28 February 2012.
The financial statements do not include any provision for the future costs of terminating the business of the Company except to the extent those such costs were committed at the end of the reporting period.
Investments
The Company invests in securities issued by the United States Government Sponsored Enterprises such as the Federal Home Loan Mortgage Corporation ("Freddie Mac"), Federal National Mortgage Association ("Fannie Mae") and the Federal Home Loan Banks ("FHLB") as well as the Government National Mortgage Association ("Ginnie Mae"), a US Government Corporation.
On September 7, 2008 the Federal Housing Finance Agency (FHFA) was appointed as conservator of Freddie Mac and Fannie Mae. In addition, the US department of the Treasury agreed to provide up to $100 billion of capital to each company as needed to ensure they continue to provide liquidity to the housing and mortgage markets.
The payment of principal and interest on the debt of FHLB is backed by that agency, the debt and mortgage backed securities issued by Freddie Mac and Fannie Mae are backed by those respective agencies, which are operating under the conservatorship of FHFA, and the payment of principal and interest on the Ginnie Mae mortgage backed securities are backed by the full-faith-and-credit of the US Government. The Company classifies all its mortgage-backed securities as available for sale and these are reported at fair value. Expenses incidental to the acquisition of available for sale investments are included within the cost of that investment. As a result of the passing of the shareholder vote on 21 December 2009 to commence a programme of realisation of the Company's investments, the investments in MBSs have been transferred in the balance sheet from "non current assets" to "current assets."
Realised and Unrealised Gains and Losses on Investments and Impairments
As at 31 December 2009 and 31 December 2008, unrealised gains or losses arising on the revaluation of investments are included in equity. Unrealised losses on investment securities that are considered other than temporary, as measured by the amount of decline in fair value attributable to factors other than temporary, are recognised in the income statement and the cost basis of the mortgage-backed securities is adjusted.
Realised gains or losses arising on the sale of investments are initially recognised in the income statement and are subsequently transferred to a non-distributable capital reserve in accordance with the Memorandum and Articles of Association of the Company.
When-Issued / Delayed Securities
The Company may purchase or sell securities on a when-issued or delayed delivery basis, including "TBA" securities. TBA Securities are mortgaged-backed securities for which details about the underlying mortgages have not yet been announced. Securities traded on a when-issued basis are traded for delivery beyond the normal settlement date at a stated price and yield, and no income accrues to the purchaser prior to delivery.
Purchasing or selling securities on a when-issued or delayed delivery basis involves the risk that the market price at the time of delivery may be lower or higher than the agreed upon price, in which case an unrealised loss may be incurred.
Security Transactions and Investment Income Recognition
Security transactions are recorded on the trade date. Realised and unrealised gains and losses are calculated based on specific identified cost. Interest income is recorded as earned. Interest income and expense includes amortisation of market discount and premium as calculated using a hybrid methodology utilising the principles of effective interest method.
Other Receivables
Other receivables do not carry any interest and are short-term in nature and are accordingly stated at their nominal value as reduced by appropriate allowances for estimated irrecoverable amounts.
Cash and Cash Equivalents
Cash includes amounts held in interest bearing overnight accounts.
Financial Liabilities and Equity
Financial liabilities and equity are classified according to the substance of the contractual arrangements entered into. An equity instrument is any contract that evidences a residual interest in the assets of the Company after deducting all of its liabilities. Financial liabilities and equity are recorded at the proceeds received, net of issue costs.
Other Accruals and Payables
Other accruals and payables are not interest-bearing and are stated at their nominal value.
Reverse Repurchase Agreements
The Company enters into reverse repurchase agreements with qualified third party financial institutions to finance its investment in mortgage-backed securities. The agreements are secured by the value of the Company's mortgage-backed securities. A repurchase agreement involves the sale by the Company of securities that it holds with an agreement by the Company to repurchase the same securities at an agreed price and date. Such an agreement involves the risk that the value of the securities sold by the Company may decline in value below the price of the securities.
Interest on the principal value of reverse repurchase agreements issued and outstanding is based upon competitive market rates at the time of issuance. When the Company enters into a reverse repurchase agreement, it establishes and maintains a segregated account with the lender containing securities having a value not less than the repurchase price, including accrued interest, of the reverse repurchase agreement.
Repurchase agreements are treated as collateralised financing transactions and are carried at their contractual amounts, including accrued interest, as specified in the repurchase agreements. Accrued interest is recorded as a separate line item.
Securities sold subject to repurchase agreements are retained in the financial statements as available for sale securities and the counterparty liability is included in liabilities under repurchase agreements.
Derivative Financial Instruments and Hedge Accounting
The Company's activities expose it primarily to the financial risks of changes in interest rates. The Company uses interest rate swap contracts to hedge these exposures. The Company does not use derivative financial instruments for speculative purposes.
The use of financial derivatives is governed by the Company's policies approved by the board of directors, which provide written principles on the use of financial derivatives.
Changes in the fair value of derivative financial instruments that are designed and effective as hedges of future cash flows are recognised directly in equity and any ineffective portion is recognised immediately in the income statement. The amount in equity is released to income when the forecast transaction impacts profit or loss.
Hedge accounting is discontinued when the hedging instrument expires or is sold, terminated, or exercised, or no longer qualified for hedge accounting. At that time, any cumulative gain or loss on the hedging instrument recognised in equity for cash flow hedges is retained in equity until the forecasted transaction occurs. If a hedged transaction is no longer expected to occur, the net cumulative gain or loss recognised in equity is transferred to net profit or loss in the year.
The Company voluntarily discontinued hedge accounting in the fourth quarter of 2008 through a combination of de-designating previously defined hedge relationships and not designating new contracts as cash flow hedges. In respect of the de-designation of cash flow hedges, IAS 39 requires that any cumulative gain or loss on the hedging instrument recognised in equity for cash flow hedges is retained in equity until the forecasted transaction occurs. If a hedged transaction is no longer expected to occur, the net cumulative gain or loss recognised in equity is transferred to net profit or loss in the period. Changes in the fair value of the interest rate swaps subsequent to 30 September 2008 are reflected in the Company's income statement.
Taxes
The Company is exempt from Guernsey taxation under the Income Tax (Exempt Bodies) (Guernsey) Ordinance 1989 for which it pays an annual fee of £600.
Business and Geographical Segments
The Directors are of the opinion that the Company is engaged in a single segment of business of investing in debt securities, issued by companies operating and generating revenue in the United States, and therefore no segmental reporting is provided
4. Critical accounting judgementsand key sources of estimation uncertainty
In the process of applying the Company's accounting policies (described in note 3 above), the Company has determined that the following judgements and estimates have the most significant effect on the amounts recognised in the financial statements:
Income recognition
As described in note 3 interest income is recorded as earned. Interest income and expense includes amortisation of market discount and premium as calculated using a hybrid methodology utilising the principles of effective interest.
Fair values of financial instruments
Many of the Company's financial instruments are measured at fair value on the balance sheet and it is usually possible to determine fair values within a reasonable range of estimates.
For all the Company's investments there is an active market and quoted market prices are available. However certain financial instruments, for example over the counter derivatives, are fair valued using valuation techniques or via third party counterparties.
Impairment
The Company is required to evaluate the securities in its portfolio to determine if any of the securities are impaired. The Company's process for deciding whether a security is impaired incorporates an assessment of the following conditions and how the cash flow is affected:
·; whether the purchase price is over par;
·; whether the coupon is lower than the current cost of funds;
·; whether the yield on the bond is lower than the current cost of funds; and
·; the effect interest rate swaps on funding cost for the assets.
Prodesse has determined that the unrealised losses on its securities will be recovered on realisation of the assets.
Fair value and impairment estimates are made at a specific point in time based on market conditions and information about the financial instrument. These estimates are subjective in nature and involve uncertainties and matters of significant judgement.
Provisions for winding down costs
On 21 December 2009, an Extraordinary General Meeting was held and the shareholders passed all the resolutions proposed and recommended by the Board in the shareholder circular dated 23 November 2009. The Circular recommended that the fund begin the winding down of the activities of the Company. The table below reflects various known expenses relating to the winding down of the Company. The amounts shown below are estimates of the nature of the costs which are expected to be incurred. The numbers are subject to change as the wind down continues, in particular the costs to pay off the structured repo are likely to change in respect of changes in market interest rates.
| Vendor | US$'000 | Description |
|
|
|
|
| Liquidation Agent | 20 | Liquidation Fees |
| Ogier Group L.P. | 19 | Legal |
| Dechert, LLP | 32 | Legal |
| Citi Group | 6,293 | Payoff structured repo |
|
| 6,364 |
|
The best estimate of the costs to terminate the interest rate swaps included in the balance sheet as at 31 December 2009 as part of the wind up of the Company is US$22.5m, based on the market conditions as at 31 December 2009. We note that the actual termination costs of the interest rate swaps will vary depending on the market conditions as of the dates of termination and there will be other additional costs incurred in relation to the wind down. Notice has been given to terminate the contracts with the various service providers and advisors as detailed in note 8 by the expected date of completion of the wind down of assets or expected date of liquidation, as relevant.
5. Interest income
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
|
|
|
|
| Interest income received on financial assets that are not at fair value through profit or loss: |
|
|
| - Cash and cash equivalents | - | (4) |
| - Available for sale investments | 88,883 | 105,193 |
| - Amortisation of expense in respect of available for sale investments |
(5,292) |
(1,551) |
|
| 83,591 | 103,638 |
6. Interest expense
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
|
|
|
|
| Interest expense for financial liabilities that are not at fair value through profit or loss: |
|
|
| - Repurchase agreements | 21,017 | 56,087 |
| - Interest rate swap contracts | 24,483 | 13,021 |
|
| 45,500 | 69,108 |
7. Expenses
|
|
| 2009 | 2008 |
|
|
| US $'000 | US $'000 |
|
|
|
|
|
| Management, Custodian and Administration fees |
|
|
|
|
|
|
|
|
| Investment management fee (note 8) |
| 3,730 | 3,726 |
| Administration fee (note 8) |
| 498 | 507 |
| Custodian fee (note 8) |
| 277 | 285 |
|
|
| 4,505 | 4,518 |
|
|
|
|
|
| Other operating expenses |
|
|
|
| Directors' fees |
| 173 | 174 |
| Insurance |
| 326 | 317 |
| Audit fee |
| 255 | 256 |
| Corporate broker fees |
| 30 | 30 |
| Public relations and website costs |
| 250 | 250 |
| Legal fee |
| 63 | 63 |
| Regulatory fee |
| 50 | 49 |
| Other expenses |
| 122 | 120 |
|
|
| 1,269 | 1,259 |
|
|
|
|
|
| Total operating expenses |
| 5,774 | 5,777 |
The Company has no employees. The Directors are the only key management personnel of the Company. Their remuneration disclosed above is all in respect of short term employee benefits. The basic fee payable to each independent non-executive director is at a rate of £20,000 per annum, except for the Chairman who receives £25,000 per annum.
The above expenses do not include a one time expense of US$6.4 million for the provisional costs for the Company's wind down (see note 4).
8. Investment Management, Accounting and Administration and Custodian Fees
Fixed Income Discount Advisory Company ("FIDAC"), a Delaware corporation serves as the Investment Manager to the Company. Pursuant to the terms of the Investment Management Agreement, the Investment Manager is paid periodic fees, quarterly in arrears, at a rate equivalent to 0.2 per cent. per annum of the value of the gross assets of the Company.
Prior to 5 June 2007, The Bank of New York served as the Company's custodian pursuant to a Global Custody Agreement dated 5 April 2005. That custody agreement was replaced with effect from 5 June 2007 by (i) the Securities Clearing Agreement pursuant to which The Bank of New York will act as clearing agent and the Company's assets will be held in a clearing account for the benefit of the Company at The Bank of New York until sold or pledged as collateral to a financing counterparty, and (ii) an amendment to the Investment Management Agreement pursuant to which the Investment Manager will provide trade execution instructions over the Clearing Agent's computerised trading system.
The total fees for such services were decreased from one basis point per annum on the Company's gross assets plus the transaction based fees charged by The Bank of New York as custodian to 0.8 basis points per annum on the Company's gross assets charged by FIDAC plus the transaction based fees charged by the Clearing Agent.
BNP Paribas Fund Services (Guernsey) Limited serves as the Company's administrator. The Administrator is entitled to a fee calculated on the value of the gross assets of the Company of 0.04 per cent, per annum on the first US$400 million of value of gross assets, 0.0225 per cent per annum on the next US$1.6 billion of value of the gross assets and 0.01 per cent per annum on any value of the gross assets in excess of US$2 billion payable monthly in arrears (subject to a minimum annual fee of US$250,000).
9. Dividends
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
|
|
|
|
| Amounts recognized as distributions to equity shareholders in the year: |
|
|
| Fourth interim dividend for the period ended 31 December 2008 of 19 cents per share (2007: 21 cents per share) |
5,887 |
5,915 |
|
|
|
|
| First interim dividend for the year ended 31 December 2009 of 23 cents per share (2008: 22 cents per share) |
7,126 |
6,817 |
|
|
|
|
| Second interim dividend for the year ended 31 December 2009 of 27 cents per share (2008: 23 cents per share) |
8,365 |
7,126 |
|
|
|
|
| Third interim dividend for the year ended 31 December 2009 of 28 cents per share (2008: 23 cents per share) |
8,676 |
7,126 |
|
| 30,054 | 26,984 |
A fourth interim dividend of US$0.04 cents per Ordinary share, in respect of the final quarter of 2009 was declared on 09 February 2010 and is payable on 10 March 2010. In accordance with The Companies (Guernsey) Law, 2008, the Board of Directors have approved certificates stating that in their opinion the Company had, immediately after the payment of each dividend, satisfied the solvency test.
10. Earnings Per Share
Basic earnings per share is calculated by dividing net profit available to Ordinary Shareholders by the weighted average number of Ordinary Shares outstanding during the year.
|
| 2009 | 2008 |
|
| Number of shares | Number of shares |
|
|
|
|
| Weighted average number of Ordinary Shares outstanding | 30,982,050 | 30,204,819 |
11. Financial Risk Management
The Company's activities expose it to a variety of financial risks. The main risks to which the Company is exposed through the period of wind-down are market risk, credit, interest rate and liquidity risk. The Company has limited exposure to foreign exchange risk.
Capital risk management
The capital structure of the Company consists of cash and cash equivalents and equity attributable to equity holders, comprising issued share capital, capital redemption reserve, share premium account, distributable reserve and retained earnings as disclosed in note 17. The Company does not have any externally imposed capital requirements. At 31 December 2009 the Company had capital of US$218 million (2008: US$220 million).
Following the EGM, the Company's investment policy is to conduct an orderly realisation of its assets.
The investment objective of Prodesse was to generate distributable income yield on net assets (in US dollar terms) of 3.5 per cent. to 5.0 per cent. greater than the yield on the ten-year US Treasury on an annualized basis while preserving net asset value (in US Dollar Terms) over the long term.
The Company aimed to deliver its objective by investing available cash and using leverage (in the form of repurchase agreements) whilst maintaining sufficient liquidity to meet on-going expenses and dividend payments.
The Company's investment policy was to provide net income for distribution from the spread between the interest income earned from a portfolio of residential mortgage-backed securities and the cost of repurchase agreements entered into to finance the acquisition of such residential mortgage-backed securities, while seeking to limit exposure to interest rate risk and credit risk. Prodesse invested primarily in a portfolio of US residential mortgage-backed securities created or issued by the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac) or the Government National Mortgage Association (Ginnie Mae) with a targeted (actual or implied) credit rating of approximately 'AAA', and to a lesser extent, other 'AAA'-rated US residential mortgage-backed securities, US government securities and debentures issued by a US Agency.
Prodesse used leverage to enhance the returns to shareholders and for this purpose borrowed amounts equal to between five and ten times its net assets. Prodesse used primarily short-term borrowings for the purpose of making investments and to pledge its assets to secure such borrowings. To effect such borrowings in a cost-efficient manner, Prodesse had entered into master repurchase agreements (an agreement effecting a current sale of a security with a concurrent agreement by the seller to repurchase the security at a later date at a higher fixed price reflecting the cost of funds for the term of the agreement) with various major financial institutions.
The purchases and sales were consistent with the Investment Manager's Barbell Strategy. The FIDAC MBS Barbell Strategysm seeks to utilize the principal and interest cash flows of US Agency floating, adjustable and fixed-rate MBS to mitigate the primary risk of the company, interest rate risk. By maintaining an approximate one-third adjustable and floating-rate securities and two-thirds fixed-rate security balance the portfolio is able to manage through a range of US interest rate environments.
To manage the risks, FIDAC, the Company's investment manager, used several risk management models, including proprietary models and models that it believed were widely used by the investment management community. FIDAC had set capital investment guidelines that were incorporated into its portfolio management system. The Company's investment portfolio was monitored daily by FIDAC to ensure that it was operating within the guidelines. Reviews were conducted at least yearly to review the risk reward profile of the market and the capital investment guidelines. Key measures of risk included but are not limited to, duration, convexity, prepayments, coupon reset caps, cash-flow and leverage.
The Company's investment portfolio was also analysed to determine its performance in a wide range of interest rate scenarios. In addition, price volatility levels were monitored daily and trading positions may have been adjusted in response to changing risk measures and price volatility levels.
The Board had also adopted certain investment restrictions to manage the risk profile. These include:
·; Save in respect of cash deposits awaiting investment, no more than 20 per cent. of the gross assets of the Company (before deducting borrowed money) could be lent to or invested in any one company or group at the time the investment or loan is made;
·; Not more than 10 per cent., in aggregate, of the value of the gross assets of the Company (before deducting borrowed money) could be invested in other investment companies (including investment trusts) listed on the London Stock Exchange, except where the investment companies themselves have stated investment policies to invest no more than 15 per cent. of their gross assets in other investment companies (including investment trusts) listed on the London Stock Exchange;
·; Not more than 15 per cent., in aggregate, of the value of the gross assets of the Company (before deducting borrowed money) would have been invested in other investment companies (including investment trusts) listed on the London Stock Exchange; and
·; Prodesse would not take legal or management control over investments in its portfolio.
11(a) Market Risk
The Company is exposed to the market risk on the underlying investments during the wind-down period as changes in overall interest rate levels will affect their value.
Price Sensitivity
The following table quantifies the potential changes in the portfolio value should interest rates go down 25, 50, and go up 150 basis points from those rates in existence at 31 December 2008 and 31 December 2009, assuming the yield curves of the rate shocks will be parallel to each other and the current yield curve.
The rationale for the selection of the interest rate movement was based on the federal funds target rate. Since the federal funds target interest rate has not changed since 31 December 2008 and is in a range of 0%-0.25%, the analysis of interest rate changes was prepared using an initial and an additional change down in interest rates of 0.25% and then a change 1.5% up from the base rate.
The base interest rate scenario assumes interest rates at December 31, 2009 and various estimates regarding prepayment and all activities are made at each level of rate shock. Actual results could differ significantly from these estimates.
| 2009 Change in the fair value of investments and swaps US$
| 2008 Change in the fair value of investments and swaps US$ | |||
| Change in interest rates |
| Change in interest rates |
|
|
| -0.25% | 7.0 million | -0.25% |
| 8.6 million |
| -0.50% | 12.7 million | -0.50% |
| 16.1 million |
| +1.50% | (68.4 million) | +1.50% |
| (74.1 million) |
The sensitivity illustrates the benefit of lower interest rates on the fair value of fixed and adjustable rate assets over and above the negative impact on the fair value of the interest rate swaps in respect of smaller movements in interest rates and the impact of increased prepayments speeds on the value the assets and swaps as further falls in interest rates occur. The contrary will also occur if the interest rates increase.
The analysis of price sensitive risk is based on management's experience, estimates, models and assumptions. These analyses rely on models which utilize estimates of fair value and interest rate sensitivity. Actual economic conditions or implementation of investment decisions by our management may produce results that differ significantly from the estimates and assumptions used in our models and the projected results shown in the above tables and in this report
11(b) Foreign Exchange Risk
All or substantially all of the Company's assets and liabilities are denominated in US dollars. The Company accounts for its assets and determines the value of its Ordinary Shares and of dividends thereon in US dollars. For investors resident outside the United States or whose functional currency is not the US dollar, fluctuations in the value of the US dollar may affect the value of their investment. The Directors do not hedge foreign exchange risk. The Directors are of the opinion that the Company is not exposed to significant foreign exchange risk.
11(c) Credit Risk
The Company is subject to credit risk with respect to its investments in mortgage backed securities, hedging derivatives and other receivables, bank balances and cash and cash equivalents which represent the Company's maximum exposure to credit risk in relation to financial assets.
At the reporting date the Company's financial assets exposed to credit risk amounted to the following:
|
|
|
2009 | 2008 |
|
|
| US $'000 | US $'000 |
| Available for sale investments |
| 1,600,489 | 1,709,479 |
| Accrued income receivable |
| 8,072 | 7,785 |
| Receivable for principal paydowns |
| 3,945 | 1,519 |
| Receivable for securities sold |
| 43,173 | 19,426 |
| Prepaid expenses |
| 211 | 139 |
| Cash and cash equivalents |
| 129 | 19,173 |
| Total assets |
| 1,656,019 | 1,757,521 |
Credit risk on investments is mitigated as the Company invests primarily in a portfolio of US residential mortgage-backed securities created or issued by Fannie Mae, Freddie Mac or Ginnie Mae with a targeted (actual or implied) credit rating of approximately 'AAA', and, to a lesser extent, other 'AAA'-rated US residential mortgage-backed securities, US government securities and debentures issued by a US Agency.
The following table details the investment grade of the Company's investment portfolio.
| Rating | 2009 | 2008 |
| Implied "AAA" | 100% | 100% |
To date, all of the mortgage-backed securities that the Company has acquired have been agency mortgage-backed securities which, although not rated, carry an implied "AAA" rating.
In addition, credit risk on liquid funds and derivative financial instruments is limited because the counterparties are banks with high credit ratings assigned by international credit rating agencies as follows:
The Company's cash balances are held with Bank of New York ("BONY" or "the Bank"), who also act as custodian for the Company's investments. Bankruptcy or insolvency of BONY may cause the Company's rights with respect to the cash and securities held by the Bank to be delayed or limited.
The Company monitors this risk by monitoring the credit rating of the bank and if the credit quality of the bank deteriorates consideration may be given to transferring the assets to another bank.
The Company has also entered into a number of interest rate swap arrangements (as disclosed in note 15). The Company is exposed to credit risk from counterparties used in these transactions. This risk is again mitigated by the Company only engaging with credit-worthy counterparties. The counterparties for the swaps, being UBS AG London, J.P. Morgan, Merrill Lynch Capital Services, Inc., have credit ratings of Aa2 to Aa3.
Credit risk on transactions arising with brokers relates to transactions awaiting settlement. Risk relating to unsettled transactions is considered small due to the short settlement period involved and the high credit ratings quality of the brokers used. The Company monitors the credit rating of the broker used to further mitigate this risk.
Other than outlined above, there were no significant concentrations of credit risk to counterparties at 31 December 2009 or 31 December 2008. No individual investment exceeded the investment restrictions adopted by the Directors (as described above) as at 31 December 2009 or 31 December 2008.
11(d) Interest Rate Risk
The Company's profitability is also subject to risks associated with changes in interest rates (in addition to the fair value impact of changes as a result of changes in interest rates illustrated in note 11(a) above). An increase in the interest payments on the Company's financing relative to the interest earned on its mortgage-backed securities may adversely affect profitability.
The Company enters into reverse repurchase agreements in order to increase the amount of capital available for investment. The use of leverage has the potential to magnify the gains or the loss on the Company's investments.
The Company invests in, or sells short, various interest rate derivative instruments and futures contracts to reduce the impact of changes in interest rates. Should interest rates move unexpectedly, the Company may not achieve the anticipated benefits of the hedging instruments and may realise a loss. Further, the use of such derivative instruments involves the risk of imperfect correlation in movements in the price of the instruments, interest rates and the underlying hedged assets.
The primary interest rate exposures relate to its available for sale investments, repurchase agreements, cash balances and interest rate swaps. The Company hedges some of its exposure to floating interest rate payments in respect of liabilities for reverse repurchase agreements as described in note 16. The estimated lives of the mortgage-backed securities at 31 December 2009 in the table below are based upon data provided through subscription-based financial information services, assuming constant principal prepayment rates to the reset date of each security which is the basis of accounting for the investments as at 31 December 2009.. The prepayment model considers current yield, forward yield, steepness of the yield curve, current mortgage rates, mortgage rate of the outstanding loans, loan age, margin and volatility.
Actual maturities of Mortgage-Backed Securities are generally shorter than stated contractual maturities. Actual maturities of the Company's Mortgage-Backed Securities are affected by the contractual lives of the underlying mortgages, periodic payments of principal, and prepayments of principal.
The Company has entered into repurchase agreements which provide the counterparty with the right to call the balance prior to maturity date. At December 31, 2009 and 2008 the principal balance of the structured repurchase agreements was $300 million and $300 million, respectively.
The principal value of the rate sensitive assets is reflected in the following tables.
The interest rate profile of the Company as at 31 December 2009 was as follows:
|
At 31 December 2009 |
Within 3 Months |
4-12 Months | More than 1 Year to 3 Years |
3 Years and Over |
Total |
|
| US $'000 | US $'000 | US $'000 | US $'000 | US $'000 |
| Rate Sensitive Assets: |
|
|
|
|
|
| Investment Securities (Principal) | 211,240 | 88,264 | 726,949 | 402,542 | 1,428,995 |
|
|
|
|
|
|
|
| Rate Sensitive Liabilities: |
|
|
|
|
|
| Repurchase Agreements, with effect of interest rate swaps |
885,500 |
94,700 |
290,300 |
92,500 |
1,363,000 |
|
|
|
|
|
|
|
| Interest rate sensitivity gap | (674,260) | (6,436) | 436,649 | 310,042 | 65,995 |
|
|
|
|
|
|
|
| Cumulative rate sensitivity gap | (674,260) | (680,696) | (244,047) | 65,995 |
|
|
|
|
|
|
|
|
| Cumulative interest rate sensitivity gap as a percentage of total rate-sensitive assets |
(47%) |
(48%) |
(17%) |
5% |
|
|
At 31 December 2008 |
Within 3 Months |
4-12 Months | More than 1 Year to 3 Years |
3 Years and Over |
Total |
|
| US $'000 | US $'000 | US $'000 | US $'000 | US $'000 |
| Rate Sensitive Assets: |
|
|
|
|
|
| Investment Securities (Principal) | 554,225 | 72,730 | 124,923 | 952,146 | 1,704,024 |
|
|
|
|
|
|
|
| Rate Sensitive Liabilities: |
|
|
|
|
|
| Repurchase Agreements, with effect of interest rate swaps |
666,051 |
65,750 |
555,500 |
228,050 |
1,515,351 |
|
|
|
|
|
|
|
| Interest rate sensitivity gap | (111,826) | 6,980 | (430,577) | 724,096 | 188,673 |
|
|
|
|
|
|
|
| Cumulative rate sensitivity gap | (111,826) | (104,846) | (535,423) | 188,673 |
|
|
|
|
|
|
|
|
| Cumulative interest rate sensitivity gap as a percentage of total rate-sensitive assets |
(7%) |
(6%) |
(31%) |
11% |
|
The weighted average yields on mortgage-backed securities by life expectancy are as follows:
| 2009 | Total | Within one year | One to five years | Over five years | ||||
|
| Market Value US$'000 | Weighted Average Yield | Market Value US$'000 | Weighted Average Yield | Market Value US$'000 | Weighted Average Yield | Market Value US$'000 | Weighted Average Yield |
| Adjustable rate | 618,993 | 2.97 | - | - | 349,291 | 2.43 | 269,702 | 3.67 |
| Fixed rate | 981,496 | 5.14 | 61,258 | 3.68 | 767,028 | 5.23 | 153,210 | 5.30 |
| Total | 1,600,489 | 4.30 | 61,258 | 3.68 | 1,116,319 | 4.35 | 422,912 | 4.26 |
| 2008 | Total | Within one year | One to five years | Over five years | ||||
|
| Market Value US$'000 | Weighted Average Yield | Market Value US$'000 | Weighted Average Yield | Market Value US$'000 | Weighted Average Yield | Market Value US$'000 | Weighted Average Yield |
| Adjustable rate | 862,458 | 3.04 | 275,676 | 1.58 | 220,075 | 2.17 | 366,707 | 4.65 |
| Fixed rate | 847,021 | 5.96 | 62,679 | 5.74 | 754,545 | 5.98 | 29,797 | 5.86 |
| Total | 1,709,479 | 4.49 | 338,355 | 2.35 | 974,620 | 5.12 | 396,504 | 4.74 |
Interest rate sensitivity
The following table quantifies the potential changes in net income should interest rates go down 25, 50, and go up 150 basis points from those rates in existence at 31 December 2008 and 31 December 2009, assuming the yield curves of the rate shocks will be parallel to each other and the current yield curve. The base interest rate scenario assumes interest rates at December 31, 2009 and various estimates regarding prepayment and all activities are made at each level of rate shock. Actual results could differ significantly from these estimates.
The rationale for the selection of the interest rate movement was based on the federal funds target rate. Since the federal funds target interest rate has not changed since 31 December 2008 and is in a range of 0%-0.25%, the analysis of interest rate changes was prepared using an initial and an additional change down in interest rates of 0.25% and then a 1.5% change up from the base rate.
| 2009 Estimated change in net income due to changes in interest rates US$ | 2008 Estimated change in net income due to changes in interest rates US$ | |||
|
|
|
|
|
|
| Change in interest rates |
| Change in interest rates |
|
|
| -0.25% | (684,000) | -0.25% |
| (1.0 million) |
| -0.50% | (1.0 million) | -0.50% |
| (2.0 million) |
| +1.50% | 4.1 million | +1.50% |
| 553,000 |
The analysis of net income sensitive risk is based on management's experience, estimates, models and assumptions. These analyses rely on models which utilize estimates of fair value and interest rate sensitivity. Actual economic conditions or implementation of investment decisions by our management may produce results that differ significantly from the estimates and assumptions used in our models and the projected results shown in the above tables and in this report.
11(e) Liquidity Risk
Liquidity risk arises as a result of the Company not having sufficient cash to meet its liabilities as they fall due. A maturity analysis of the Company's contractual undiscounted liabilities is included in the table below:
|
|
Maturity |
2009 | 2008 |
|
|
| US $'000 | US $'000 |
| Reverse repurchase agreements | See table below | 1,363,000 | 1,515,351 |
| Accrued interest expense | < 1 month | 3,989 | 5,958 |
| Accrued expenses payable | < 1 month | 2,090 | 2,015 |
| Provisions per wind down costs |
| 6,364 | - |
|
|
| 1,375,443 | 1,523,324 |
The above table includes cost of provisions per wind down. They do not have a contractual maturity date but are expected to be settled by 30 April 2010.
The following table presents cash needs to meet liquidity requirements on repurchase agreements, without the effect of interest rate swaps and assuming that structured repurchase agreements are called on their first available call date.
|
|
Within 3 Months US$'000 |
4-12 Months US$'000 | More than 1 Year to 3 Years US$'000 |
3 Years and Over US$'000 |
Total US$'000 |
| At 31 December 2009 |
|
|
|
|
|
| Repurchase Agreements | 1,363,000 | - | - | - | 1,363,000 |
| At 31 December 2008 |
|
|
|
|
|
| Repurchase Agreements | 1,515,351 | - | - | - | 1,515,351 |
The Company's liquidity risk is managed through the Company's ability to execute its business strategy and depends to a significant degree on its ability to raise capital via reverse repurchase agreements and also through interest and paydowns received on its investment portfolio. The Company maintains a low cash balance in order to meet short term requirements.
The Company's primary source of funds for liquidity consists of net cash provided by operating activities. Its reverse repurchase agreements are secured directly by its investment portfolio.
The Company expects that its cash on hand and cash flow provided through operations will satisfy its liquidity needs for the foreseeable future. In addition it is expected that further reverse repurchase agreements will be available should this be required during the period of realisation of the Company. The investments are also traded in an active market at the present time and hence could be realised to provide additional liquidity to the Company.
A substantial portion of the Company's borrowings are short-term or variable-rate borrowings. The borrowings are implemented primarily through repurchase agreements. The Company enters into financing transactions only with institutions that the Directors believe are sound credit risks and follow other internal policies designed to limit the Company's credit and other exposure to financing institutions.
The current situation in the sub-prime mortgage sector, and the current weakness in the broader mortgage market, could adversely affect one or more of the Company's lenders and could cause one or more of the Company's lenders to be unwilling or unable to provide it with additional financing. This could potentially increase the Company's financing costs and reduce liquidity. If one or more major market participants fails, it could negatively impact the marketability of all fixed income securities, including government mortgage securities, and this could negatively impact the value of the securities in the Company's portfolio, thus reducing its net book value. Furthermore, if many of the Company's lenders are unwilling or unable to provide it with additional financing, the Company could be forced to sell its Investment Securities at an inopportune time when prices are depressed. Even with the current situation in the sub-prime mortgage sector, the Company does not anticipate having difficulty converting its assets to cash or extending financing term, due to the fact that its investment securities have an actual or implied "AAA" rating and principal payment is guaranteed.
12. Financial instruments
12(a) Categories of financial instruments
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Assets |
|
|
| Designated as available for sale: |
|
|
| - Investments | 1,600,489 | 1,709,479 |
| Receivables | 55,401 | 28,869 |
| Cash and cash equivalents | 129 | 19,173 |
|
| 1,656,019 | 1,757,521 |
|
|
|
|
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Liabilities |
|
|
| Other financial liabilities measured at amortised cost | 12,443 | 7,973 |
| Reverse Repurchase Agreements at amortised cost | 1,363,000 | 1,515,351 |
| Fair value of interest rate swaps | 22,539 | 39,657 |
|
| 1,397,982 | 1,562,981 |
|
|
|
|
Receivables presented above represent, interest and principal paydowns as detailed in the balance sheet.
Financial liabilities measured at amortised cost presented above represent balances due to brokers, payables under repurchase agreements, accounts payable and accrued expenses and the market value of interest rate swaps as detailed in the balance sheet.
12(b) Fair value information
Many of the Company's financial instruments are carried at fair value on the balance sheet. The fair value can generally be reliably determined within a reasonable range of estimates. For certain other financial instruments, including amounts due to brokers, other receivables and payables, the carrying amounts approximate fair value due to the short term nature of these financial instruments.
The carrying amounts of all the Company's financial assets and liabilities at the balance sheet date approximated their fair values. The fair value of repurchase agreements may be greater than the book cost given that lenders may be unwilling to provide financing at these rates given current economic conditions (see note 11(e) above). However it is not expected that this difference would be material.
At 31 December 2009, the carrying amounts of investments (for which there is an active market) whose fair values were determined by the investment advisor and are compared to an outside pricing source amounted to US$1,600,488,515 (2008: US$1,709,479,025).
At 31 December 2009, the fair values of the swaps entered into were estimated at US$22,538,986 loss (2008: US$39,656,907 loss).
12(c) Fair Value Measurements
The following table provides an analysis of financial instruments that are measured subsequent to initial recognition at fair value, grouped into levels 1 to 3 based on the degree to which the fair value is observable:
·; Level 1 fair value measurements are those derived from quoted prices (unadjusted) in active markets for identical assets or liabilities
·; Level 2 fair value measurements are those derived from inputs other than quoted prices included within Level 1 that are observable for the asset or liability with directly (as prices) or indirectly (derived from prices)
·; Level 3 fair value measurements are those derived from valuation techniques that include inputs for the assets or liability that are not based on observable market data (unobservable inputs)
|
| 2009 | 2009 | 2008 | 2008 |
|
| Level 2 US $'000 | Total US $'000 | Level 2 US $'000 | Total US $'000 |
|
|
|
|
|
|
| Investment in mortgage backed securities | 1,600,489 | 1,600,489 | 1,709,479 | 1,709,479 |
|
|
|
|
|
|
| Derivative financial liabilities | 22,539 | 22,539 | 39,657 | 39,657 |
13. Available for Sale Investments
As disclosed in note 3 the investments in mortgage back securities were transferred in the balance sheet from "non- current assets" to "current assets."
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
|
|
|
|
| Cost at 1 January | 1,719,583 | 2,263,635 |
| Purchases of investments | 611,884 | 738,887 |
| Proceeds from sale of investments | (232,162) | (1,029,158) |
| Realised gain on sale of investments | 259 | 7,074 |
| Principal paydowns | (533,800) | (259,304) |
| Net amortisation of premiums | (5,292) | (1,551) |
| Amortised cost at 31 December | 1,560,472 | 1,719,583 |
| Unrealised gain on available for sale investments | 40,017 | (10,104) |
| Market value at 31 December | 1,600,489 | 1,709,479 |
|
At 31 December 2009 |
Amortised Cost | Gross Unrealised Gain | Gross Unrealised Loss | Estimated Fair Value |
|
| US $'000 | US $'000 | US $'000 | US $'000 |
|
|
|
|
|
|
| Adjustable rate | 468,254 | 10,201 | (152) | 478,303 |
| Floating rate | 143,907 | - | (3,217) | 140,690 |
| Fixed rate | 948,311 | 33,245 | (60) | 981,496 |
| Total | 1,560,472 | 43,446 | (3,429) | 1,600,489 |
|
|
|
|
|
|
|
At 31 December 2008 |
Amortised Cost | Gross Unrealised Gain | Gross Unrealised Loss | Estimated Fair Value |
|
| US $'000 | US $'000 | US $'000 | US $'000 |
|
|
|
|
|
|
| Adjustable rate | 417,503 | 1,699 | (1,606) | 417,596 |
| Floating Rate | 466,385 | - | (21,524) | 444,861 |
| Fixed rate | 835,695 | 11,540 | (213) | 847,022 |
| Total | 1,719,583 | 13,239 | (23,343) | 1,709,479 |
As at 31 December 2009, all of the assets in the Company's portfolio were Fannie Mae and Freddie Mac mortgage-backed securities, which carry an implied "AAA" rating.
|
| 2009 | 2008 |
| Fixed-rate mortgage-backed securities | 61% | 49% |
| Adjustable-rate mortgage-backed securities | 30% | 24% |
| Floating-rate mortgage-backed securities | 9% | 27% |
As at 31 December 2009, investments totalling US$1.4 billion (2008: US$1.5 billion) were pledged as security in respect of reverse repurchase agreements (see note 16).
Mortgage-backed securities are created when mortgages and their attendant streams of interest and principal payments are pooled to serve as collateral for the issuance of securities to investors. Interests in mortgage-backed securities differ from other forms of traditional debt securities, which normally provide for periodic payment of interest in fixed amounts with principal payments at maturity or specified call dates. Instead, mortgage-backed securities typically provide irregular cash flows consisting of both interest and principal.
An investment consideration of any mortgage-backed security is the structure of the payment of the cash flow streams from the underlying mortgages to the holders of the mortgage-backed securities. The cash flows can be simply passed from the mortgage holder to the investor or they can be structured in a number of different ways. The market values of the various structures will vary in different interest rate or prepayment environments, with the more derivative or complex structures (e.g., interest-only or principal-only securities) being more sensitive to movements in interest rates or rates of prepayment.
Beyond the basic security of the mortgages and properties that underlie mortgage-backed securities, a critical attribute of mortgage-backed securities issued by the US Agencies is the credit enhancement that the US Agencies provide. The holder of mortgage-backed securities issued or guaranteed by the US Agencies is guaranteed the timely payment of principal and interest. Ginnie Mae is the principal governmental (i.e., backed by the full credit of the US Government) guarantor of mortgage-backed securities. On September 6, 2008, the Federal Housing Finance Agency (FHFA) was appointed as conservator of Freddie Mac and Fannie Mae. In addition, the US Department of the Treasury agreed to provide up to $100 billion of capital to each company as needed to ensure they continue to provide liquidity to the housing and mortgage markets.
Adjustable-rate and floating-rate mortgage-backed securities in which the Company may invest include pass-through mortgage-backed securities issued by the US Agencies backed by adjustable-rate mortgages and Floaters. The interest rates on adjustable-rate mortgage-backed securities are reset at periodic intervals to an increment over some predetermined reference interest rate. There are two main categories of reference rates: (i) those based on US Treasury securities and (ii) those derived from a calculated measure such as a cost of funds index or a moving average of mortgage rates. Commonly utilised reference rates include the one-year Treasury Bill rate or one-month US dollar LIBOR. Some reference rates, such as the one-year Treasury Bill rate or LIBOR, closely mirror changes in market interest rate levels. Others tend to lag changes in market rate levels and tend to be somewhat less volatile.
Adjustable-rate mortgages frequently have upper and lower limits on the interest rates to which a residential borrower may be subject (i) in any reset or adjustment interval and (ii) over the life of the loan. These upper and lower limits are commonly known as ''caps'' and ''floors'' respectively.
14. Current Assets and Current Liabilities
Cash and cash equivalents comprise bank balances held by the Company. The carrying amount of these assets approximates their fair value. Other payables principally comprise amounts outstanding on purchases of investments awaiting settlement and ongoing costs.
15. Hedging Instruments
The Company uses interest rate swaps to manage its exposure to interest rate movements. When the Company enters into an interest rate swap, it agrees to pay a fixed rate of interest and to receive a variable interest rate, generally based on the London Interbank Offered Rate ("LIBOR"). The Company's swaps were designated as cash flow hedges up until 1 October 2008 against the benchmark interest rate risk associated with the Company's borrowings. From 1 October 2008 the swaps are no longer designated as cash flow hedges.
The amortisation taken into income is the Present Value of the cash flows for each swap calculated monthly. The amortisation adjustment is applied quarterly and taken into income and reduces the Cash flow hedge reserve - de-designated balance in the equity section.
As a result of the shareholder vote passed on 21 December 2009 the interest rate swaps with a total carrying value of U.S $5.3 million (loss) were released from equity to the income statement for the year ended 31 December 2009, as the instruments will no longer be held to maturity. This amount is included within the US$14,870,000 amortisation on designation and release of cash flow hedge in the income statement.
At 31 December 2009, the Company had interest swap agreements of US$534 million notional amount (2008: US$563 million) in which the Company will pay a weighted average rate of 4.73% (2008: 4.96%) and receive a weighted average rate of 0.23% (2008: 1.08%).
The fair value of the swaps entered into at 31 December 2009 is estimated at US$22,538,936 loss (2008: US$39,656,907 loss). The unrealised gain on the swaps for the year was US$17,118,000 (2008: US$22,696,000 unrealised loss).
The realised gain on the cash flow hedge reserve for the year was US$100,000 (2008: US$6,775,000 realised loss).
16. Reverse Repurchase Agreements
At 31 December 2009 the aggregate value of securities pledged by the Company under reverse repurchase agreements exceeds the liability under such agreements by approximately US$68.5 million (2008: US$81.3 million) (approximately 5.03% of such liability). The interest rates on the open reverse repurchase agreements at 31 December 2009 range from 0.06% to 4.57% (2008: from 0.15% to 4.57%) and have maturity dates ranging from 1 day to 105 days (2008: 2 days to 1,154 days).
The current situation in the sub-prime mortgage sector, and the current weakness in the broader mortgage market, could adversely affect one or more of the Company's lenders during the period until the repurchase agreements are paid off in early 2010 and could cause one or more of the Company's lenders to be unwilling or unable to provide it with additional financing. This could potentially increase the Company's financing costs and reduce liquidity as disclosed in note 11(e).
A provision for US$6.3 million has been made as at 31 December 2009 in respect of costs to pay off a structured repo with a contractual maturity of 2012, see note 4 for further details.
17. Issued Capital and Reserves
Ordinary Share Capital
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Authorised |
|
|
| 60,000,000 Ordinary Shares of US$0.01 each | 600 | 600 |
|
|
|
|
| Issued |
|
|
| 30,982,050 (2008: 30,982,050) Ordinary Shares of US$0.01 each | 310 | 310 |
The share capital of the Company comprises one class of Ordinary shares which carry no right to fixed income.
Repurchase of shares
The Company has not purchased shares for cancellation in the current year to 31 December 2009.
Authority to buyback shares
The Company currently has authority to undertake a share purchase of up to 14.99% of the share capital of the Company and the Board of Directors has approved the use of on-market purchases of Ordinary Shares for cancellation at appropriate prices which will enhance net asset value.
Capital Redemption Reserve
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Balance at 1 January and 31 December | 30 | 30 |
Share Premium
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Balance at 1 January | 91,560 | 71,680 |
| Premium arising on issue of equity shares | - | 20,497 |
| Expenses incurred on issue of equity shares | - | (617) |
| Balance at 31 December | 91,560 | 91,560 |
Distributable Reserve
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Balance at 1 January and 31 December | 141,513 | 141,513 |
The Distributable Reserve was set up following the cancellation of the share premium account following the Initial Public Offering. A transfer has been made from the Distributable Reserve to the Capital Reserve - Realised Gain/(Loss) on Available for Sale Investments to make good the realised loss on investments.
Accumulated Profits
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Balance at 1 January | (15,656) | 7,220 |
| Net profit for the year | 28,560 | 4,407 |
| Realised gains transferred to non-distributable capital reserve (see below) |
(359) |
(299) |
| Dividends paid | (30,054) | (26,984) |
| Balance at 31 December | (17,509) | (15,656) |
Capital Reserve - Realised Gains on Available for Sale Investments
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Balance at 1 January | 1,899 | 1,600 |
| Net gains on sale of available for sale investments and impairment of available for sale investments transferred from accumulated profits |
259 |
7,074 |
| Gains/(losses) on termination of cash flow hedges | 100 | (6,775) |
| Balance at 31 December | 2,258 | 1,899 |
Capital Reserve - Realised Gains on Available for Sale Investments (continued)
Realised gains or losses arising on the sale of investments are initially recognised in the income statement as required under International Financial Reporting Standards but are transferred to a non-distributable capital reserve in accordance with the Memorandum and Articles of Association of the Company.
Revaluation Reserve - Unrealised Gain on Available for Sale Investments
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Balance at 1 January | (10,104) | 16,411 |
| Unrealised gains/(losses) on revaluation taken to equity | 49,862 | (19,441) |
| Transferred to income statement on sale of investments | 259 | (7,074) |
| Balance at 31 December | 40,017 | (10,104) |
Cash Flow Hedge Reserve
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Balance at 1 January | (15,012) | (21,966) |
| Decrease in fair value of hedging instruments taken to equity | (100) | (1,770) |
| Transferred to income statement on termination of cash flow hedges | 100 | 6,775 |
| Amortisation of de-designated cash flow hedge | 14,870 | 1,949 |
| Balance at 31 December | (142) | (15,012) |
18. Net Asset Value
The net asset value per Ordinary Share is based on net assets at the year end and on 30,982,050 (2008:30,982,050,) Ordinary Shares, being the number of Ordinary Shares in issue at the year end.
At 31 December 2009, the reported net asset value per Ordinary Share (before excluding the dividend declared for the quarter ended 31 December 2009) is US$8.33 (2008: US$6.28).
At 31 December 2009, the Company had a net asset value per Ordinary Share of US$8.29 (2008: US$6.09), after including the effect of the dividend declared for the quarter of 31 December 2009 of US$1,239,282 (2008: US$5,886,590).
19. Cash Flows from Operating Activities
|
| 2009 | 2008 |
|
| US $'000 | US $'000 |
| Net profit for the year | 28,560 | 4,407 |
|
|
|
|
| Net amortisation of premiums on available for sale investments | 5,292 | 1,551 |
| Amortisation of de-designation of cash flow hedge | 14,870 | 1,949 |
| Unrealised (gain)/loss on interest rate swaps | (17,118) | 22,696 |
| Realised gain on available for sale investments | (259) | (7,074) |
| Realised loss on termination of interest rate swaps | (100) | 6,775 |
|
| 2,685 | 25,897 |
|
|
|
|
| Purchases of investments | (611,884) | (770,769) |
| Proceeds from sale of investments | 208,515 | 1,009,732 |
| Termination of interest rate swap | - | (6,775) |
|
| (403,369) | 232,188 |
|
|
|
|
| Principal paydowns | 531,374 | 260,624 |
|
|
|
|
| (Increase)/decrease in receivables | (359) | 2,694 |
| Increase/(decrease) in payables | 4,470 | (3,576) |
|
| 4,111 | (882) |
|
|
|
|
| Net cash inflow from operating activities | 163,361 | 522,234 |
20. Notes to the Cash Flow Statement
Purchases and sale of investments are considered to be operating activities of the Company, given its purpose, rather than investing activities. The cash flows arising from these activities are shown in Note 19 above. Cash and cash equivalents (which are presented as a single class on the face of the balance sheet) comprise cash at bank.
21. Related Party Transactions
The relationship between the Company and FIDAC is disclosed in Note 8. The amounts paid to FIDAC during the year are disclosed in Note 7. The amounts outstanding at the year end were:
|
| 2009 US$'000 | 2008 US$'000 |
|
|
|
|
| FIDAC investment management fee | 823 | 870 |
Mr R Kazel is Managing Director of FIDAC and as such he has waived his right to remuneration as a Director of the Company.
22. Post Balance Sheet Events
Due to the current wind down, as of 10 March 2010 the current repo balance has decreased to US$456 million, and the current swap notional amount has decreased to US$22.5 million. From 1 January 2010 to 10 March 2010, the Company has sold mortgage-backed securities with a current face of US$899 million, of which US$770 million have settled as of 10 March 2010. Refer to the Chairman's Statement on page 5 and the disclosure within the Basis of Accounting note on pages 24 and 25 for further details of the wind down of the Company.
Investment Policy and Investment Restrictions
Investment Policy
On 21 December 2009, an Extraordinary General Meeting ("EGM") was held at which resolutions were proposed to authorise the Directors to commence a programme of realisation of the Company's assets and amend the investment policy of the Company accordingly.
Investment Restrictions
The Directors will ensure that the following investment restrictions are observed: - Save in respect of cash deposits awaiting investment, no more than 20 per cent. of the gross assets of the Company (before deducting borrowed money) will be lent to or invested in any one company or group (including loans to or shares in the Company's own subsidiaries) at the time the investment or loan is made. For this purpose any existing holding in the company or group concerned will be aggregated with the proposed investment and securities created by Fannie Mae, Freddie Mac or Ginnie Mae referable to a particular pool of mortgages (but not debentures issued by any of them) will only be treated as issued by the same company or group if they are referable to the same pool;- Not more than 10 per cent., in aggregate, of the value of the gross assets of the Company (before deducting borrowed money) will be invested in other investment companies (including investment trusts) listed on the London Stock Exchange, except where the investment companies themselves have stated investment policies to invest no more than 15 per cent. Of their gross assets in other investment companies (including investment trusts) listed on the London Stock Exchange; - Not more than 15 per cent., in aggregate, of the value of the gross assets of the Company (before deducting borrowed money) will be invested in other investment companies (including investment trusts) listed on the London Stock Exchange; - Prodesse will not take legal or management control over investments in its portfolio. In accordance with the requirements of the UK Listing Authority, any material changes in the principal investment policies and restrictions (as set out above) of the Company will only be made with the approval of Shareholders by ordinary resolution.
Glossary
Collateralized Mortgage Obligations (CMOs)-The CMO is a multi-class bond backed by a pool of mortgage pass-through securities or mortgage loans.
Credit Risk-The risk that the underlying borrower on the mortgage defaults on his mortgage payment either in part or in whole, which would result in a loss on the investment.
Currency Risk-The risk that a company's operations or an investment's value could be affected by changes in one currency's value relative to another. Global business' operations, in particular, are exposed to currency risk.
GNMA (Government National Mortgage Association)-Ginnie Mae is a government-owned corporation within the Department of Housing and Urban Development. Ginnie Mae guarantees the timely payment of principal and interest on all of its pass-through securities, and Ginnie Mae's guarantee is backed by the full faith and credit of the U.S. government. This guarantees prompt payment of monthly interest, whether or not mortgage payments are collected and full repayment of principal even if the mortgages in the pool default.
Fed Funds-Funds in excess of the reserve requirements that banks deposit in Federal Reserve Banks. Member banks may lend reserves to one another.
Federal Housing Finance Agency (FHFA) - FHFA is the independent regulator of the FHLB, Freddie Mac and Fannie Mae.
FHLB (Federal Home Loan Bank) - The FHLB System is a government-sponsored enterprise (GSE) chartered by US Congress. Its purpose is to support residential mortgage lending and community investment at the local level. This is accomplished by providing primary mortgage liquidity (direct loans) to member financial institutions.
FHLMC (Federal Home Loan Mortgage Corporation)-Freddie Mac is chartered by Congress, but owned by stockholders. Freddie Mac guarantees timely payment of both principal and interest on its Gold PCs. Some older series of Freddie Mac PCs guarantee timely payment of interest and eventual payment of principal. On 6 September 2008, FHFA placed Freddie Mac into conservatorship.
Fixed-Rate MBS-The coupon on these MBS is fixed for the life of the security.
Floating-Rate or Adjustable-Rate MBS-The coupon on these MBS adjusts to changes in an index, generally a short-term interest rate benchmark such as Libor (London Inter Bank Offered Rate) or the CMT (Constant Maturity Treasury), at a predetermined spread to that index. (e.g.; if LIBOR equals 6% and the spread equals 1% then the resulting coupon equals 7 %.)
FNMA (Federal National Mortgage Association)-Fannie Mae is chartered by Congress, but owned by stockholders. Fannie Mae guarantees timely payment of both principal and interest on its mortgage securities whether or not the payments have been collected from the borrower. On 6 September 2008, FHFA placed Fannie Mae into conservatorship..
FOMC (Federal Open Market Committee)-The FOMC is a committee within the Federal Reserve System that makes short-term monetary policy for the Fed.
LIBOR-The London Interbank Offered Rate Index (LIBOR) is an average of the interest rates that major international banks charge each other to borrow US dollars in the London money market. Like the US treasury the CD indexes, LIBOR tends to move and adjust quite rapidly to changes in interest rates.
Mortgage-backed securities (MBS)-an ownership interest in mortgage loans made by financial institutions (savings & loans, commercial banks, or mortgage companies) to finance a borrower's purchase of a home or other real estate. Investors may purchase mortgage securities either when they are issued or afterward in the secondary market from a dealer. Residential mortgage-backed securities are backed by pools of residential real estate mortgage loans.
Repurchase Market-A market in which an institutional investor finances their securities purchases. The investor sells (pledges) their securities to a broker-dealer for a loan, with the agreement that the investor will buy them back on a predetermined date at a specified price. The difference between the principal received and the amount paid to the broker-dealer represents the interest on the loan. The term of each transaction can be as short as one day or as long as five years. The interest rate is highly correlated to the Fed Funds rate.
A full copy of the Annual Report and Accounts for the year to 31st December 2009, can be viewed or downloaded from the Company's website: www.prodesse.co.uk
For further information:
BNP Paribas Fund Service (Guernsey) Limited 01481 750850
Jean McMillan/Sara Bourne