Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2008

or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             

Commission File Number: 001-31458

 

 

Newcastle Investment Corp.

(Exact name of registrant as specified in its charter)

 

 

 

Maryland   81-0559116

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

1345 Avenue of the Americas, New York, NY   10105
(Address of principal executive offices)   (Zip Code)

(212) 798-6100

(Registrant’s telephone number, including area code)

 

(Former name, former address and former fiscal year, if changed since last report)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer  x    Accelerated filer  ¨    Non-accelerated filer  ¨    (Do not check if a smaller reporting company)

Smaller reporting company  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the last practicable date.

Common stock, $0.01 par value per share: 52,780,429 shares outstanding as of May 9, 2008.

 

 

 


Table of Contents

NEWCASTLE INVESTMENT CORP.

FORM 10-Q

INDEX

 

          PAGE
PART I. FINANCIAL INFORMATION   
Item 1.    Financial Statements   
   Consolidated Balance Sheets as of March 31, 2008 (unaudited) and December 31, 2007    1
   Consolidated Statements of Operations (unaudited) for the three months ended March 31, 2008 and 2007    2
   Consolidated Statements of Stockholders’ Equity (unaudited) for the three months ended March 31, 2008 and 2007    3
   Consolidated Statements of Cash Flows (unaudited) for the three months ended March 31, 2008 and 2007    4
   Notes to Consolidated Financial Statements (unaudited)    6
Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations    17
Item 3.    Quantitative and Qualitative Disclosures About Market Risk    33
Item 4.    Controls and Procedures    36
PART II. OTHER INFORMATION   
Item 1.    Legal Proceedings    37
Item 1A.    Risk Factors    37
Item 2.    Unregistered Sales of Equity Securities and Use of Proceeds    37
Item 3.    Defaults upon Senior Securities    38
Item 4.    Submission of Matters to a Vote of Security Holders    38
Item 5.    Other Information    38
Item 6.    Exhibits    39
SIGNATURES    40


Table of Contents

PART I. FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(dollars in thousands, except share data)

 

 

     March 31, 2008
(Unaudited)
    December 31, 2007  

Assets

    

Real estate securities, available for sale

   $ 3,090,024     $ 4,835,884  

Real estate related loans, net

     1,818,908       1,856,978  

Residential mortgage loans, net

     609,073       634,605  

Subprime mortgage loans subject to call option

     394,913       393,899  

Investments in unconsolidated subsidiaries

     15,500       24,477  

Operating real estate, held for sale

     33,458       34,399  

Cash and cash equivalents

     118,014       55,916  

Restricted cash

     122,991       133,126  

Derivative assets

     —         4,114  

Receivables and other assets

     50,623       64,372  
                
   $ 6,253,504     $ 8,037,770  
                

Liabilities and Stockholders’ Equity

    

Liabilities

    

CBO bonds payable

   $ 4,368,664     $ 4,716,535  

Other bonds payable

     476,651       546,798  

Repurchase agreements

     710,434       1,634,362  

Financing of subprime mortgage loans subject to call option

     394,913       393,899  

Junior subordinated notes payable (security for trust preferred)

     100,100       100,100  

Derivative liabilities

     232,130       133,510  

Dividends payable

     15,445       40,251  

Due to affiliates

     7,741       7,741  

Accrued expenses and other liabilities

     12,405       16,949  
                
     6,318,483       7,590,145  
                

Stockholders’ Equity

    

Preferred stock, $0.01 par value, 100,000,000 shares authorized,
2,500,000 shares of 9.75% Series B Cumulative Redeemable Preferred Stock,
1,600,000 shares of 8.05% Series C Cumulative Redeemable Preferred Stock, and
2,000,000 shares of 8.375% Series D Cumulative Redeemable Preferred Stock,
liquidation preference $25.00 per share, issued and outstanding

     152,500       152,500  

Common stock, $0.01 par value, 500,000,000 shares authorized, 52,780,429 and 52,779,179 shares issued and outstanding at March 31, 2008 and December 31, 2007, respectively

     528       528  

Additional paid-in capital

     1,033,341       1,033,326  

Dividends in excess of earnings

     (293,687 )     (236,213 )

Accumulated other comprehensive income (loss)

     (957,661 )     (502,516 )
                
     (64,979 )     447,625  
                
   $ 6,253,504     $ 8,037,770  
                

See notes to consolidated financial statements

 

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Table of Contents

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

(dollars in thousands, except share data)

 

 

     Three Months Ended
March 31,
 
     2008     2007  

Revenues

    

Interest income

   $ 132,894     $ 162,216  
                
     132,894       162,216  
                

Expenses

    

Interest expense

     89,375       116,751  

Loan and security servicing expense

     1,730       1,983  

Provision for credit losses

     2,505       2,036  

General and administrative expense

     1,592       1,293  

Management fee to affiliate

     4,597       3,906  

Incentive compensation to affiliate

     —         3,688  

Depreciation and amortization

     72       73  
                
     99,871       129,730  
                

Operating Income

     33,023       32,486  
                

Other Income (Loss)

    

Gain (loss) on sale of investments, net

     6,526       2,212  

Other income (loss), net

     (19,308 )     717  

Other-than-temporary impairment

     (46,372 )     —    

Loan impairment

     (20,326 )     —    

Gain (loss) on extinguishment of debt

     8,533       —    

Equity in earnings of unconsolidated subsidiaries

     708       847  
                
     (70,239 )     3,776  
                

Income (loss) from continuing operations

     (37,216 )     36,262  

Income (loss) from discontinued operations

     (3,688 )     (71 )
                

Net Income (Loss)

     (40,904 )     36,191  

Preferred dividends

     (3,375 )     (2,515 )
                

Income (Loss) Applicable to Common Stockholders

   $ (44,279 )   $ 33,676  
                

Income (Loss) Per Share of Common Stock

    

Basic

   $ (0.84 )   $ 0.71  
                

Diluted

   $ (0.84 )   $ 0.70  
                

Income (loss) from continuing operations per share of common stock, after preferred dividends

    

Basic

   $ (0.77 )   $ 0.71  
                

Diluted

   $ (0.77 )   $ 0.70  
                

Income (loss) from discontinued operations per share of common stock

    

Basic

   $ (0.07 )   $ (0.00 )
                

Diluted

   $ (0.07 )   $ (0.00 )
                

Weighted Average Number of Shares of Common Stock Outstanding

    

Basic

     52,780,319       47,572,895  
                

Diluted

     52,780,319       47,823,497  
                

Dividends Declared per Share of Common Stock

   $ 0.25     $ 0.69  
                

See notes to consolidated financial statements

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (Unaudited)

FOR THE THREE MONTHS ENDED MARCH 31, 2008 AND 2007

(dollars in thousands)

 

 

    Preferred Stock   Common Stock   Additional
Paid-in
Capital
  Dividends in
Excess of
Earnings
    Accum. Other
Comp. Income
(Loss)
    Total Stock-
holders’
Equity
 
    Shares   Amount   Shares   Amount        

Stockholders’ equity - December 31, 2007

  6,100,000   $ 152,500   52,779,179   $ 528   $ 1,033,326   $ (236,213 )   $ (502,516 )   $ 447,625  

Dividends declared

  —       —     —       —       —       (16,570 )     —         (16,570 )

Issuance of common stock to directors

  —       —     1,250     —       15     —         —         15  

Comprehensive income:

               

Net income (loss)

  —       —     —       —       —       (40,904 )     —         (40,904 )

Net unrealized (loss) on securities

  —       —     —       —       —       —         (332,119 )     (332,119 )

Reclassification of net realized (gain) on securities into earnings

  —       —     —       —       —       —         (7,439 )     (7,439 )

Foreign currency translation

  —       —     —       —       —       —         (598 )     (598 )

Net unrealized (loss) on derivatives designated as cash flow hedges

  —       —     —       —       —       —         (114,684 )     (114,684 )

Reclassification of net realized (gain) on derivatives designated as cash flow hedges into earnings

  —       —     —       —       —       —         (305 )     (305 )
                     

Total comprehensive income (loss)

                  (496,049 )
                                                 

Stockholders’ equity - March 31, 2008

  6,100,000   $ 152,500   52,780,429   $ 528   $ 1,033,341   $ (293,687 )   $ (957,661 )   $ (64,979 )
                                                 

See notes to consolidated financial statements

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)

(dollars in thousands)

 

 

     Three Months Ended March 31,  
     2008     2007  

Cash Flows From Operating Activities

    

Net income (loss)

   $ (40,904 )   $ 36,191  

Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities (inclusive of amounts related to discontinued operations):

    

Depreciation and amortization

     420       329  

Accretion of discount and other amortization

     (10,713 )     (3,429 )

Deferred rent

     90       73  

Provision for credit losses

     2,505       2,036  

Non-cash directors’ compensation

     15       —    

(Gain) on sale of investments

     (6,951 )     (2,212 )

Unrealized (gain) loss on non-hedge derivatives and hedge ineffectiveness

     20,294       (471 )

Other-than-temporary impairment

     49,872       —    

Loan impairment

     20,326       —    

(Gain) on extinguishment of debt

     (8,533 )     —    

Equity in earnings of unconsolidated subsidiaries

     (708 )     (847 )

Distributions of earnings from unconsolidated subsidiaries

     708       847  

Purchase of loans held for sale

     —         (992,031 )

Change in:

    

Restricted cash

     2,965       (22,645 )

Receivables and other assets

     10,609       (17,233 )

Due to affiliates

     —         (8,430 )

Accrued expenses and other liabilities

     (2,421 )     5,631  
                

Net cash provided by (used in) operating activities

     37,574       (1,002,191 )
                

Cash Flows From Investing Activities

    

Purchase of real estate securities

     —         (225,808 )

Proceeds from sale of real estate securities

     1,151,012       51,673  

Purchase of and advances on loans

     12,386       (574,698 )

Repayments of loan and security principal

     119,293       124,559  

Margin received on derivative instruments

     38,539       20,946  

Margin deposited on derivative instruments

     (42,037 )     (26,691 )

Margin deposits on total rate of return swaps (treated as derivative instruments)

     (14,236 )     (48,636 )

Return of margin deposits on total rate of return swaps (treated as derivative instruments)

     26,325       29,316  

Net proceeds from termination of derivative instruments

     (33,936 )     208  

Purchase and improvement of operating real estate

     (613 )     (144 )

Distributions of capital from unconsolidated subsidiaries

     8,977       90  
                

Net cash provided by (used in) in investing activities

     1,265,710       (649,185 )
                

Continued on Page 5

See notes to consolidated financial statements

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)

(dollars in thousands)

 

 

     Three Months Ended March 31,  
     2008     2007  

Cash Flows From Financing Activities

    

Repayments of CBO bonds payable

     (332,643 )     (32,210 )

Repayments of other bonds payable

     (70,471 )     (26,407 )

Repayments of notes payable

     —         (18,944 )

Borrowings under repurchase agreements

     20,818       1,776,665  

Repayments of repurchase agreements

     (945,246 )     (338,947 )

Return of margin deposits under repurchase agreements

     5,457       —    

Issuance of repurchase agreements subject to ABCP facility

     —         216,672  

Repayments of repurchase agreements subject to ABCP facility

     —         (48,212 )

Draws under credit facility

     —         308,800  

Repayments of credit facility

     —         (277,100 )

Issuance of common stock

     —         75,746  

Costs related to issuance of common stock

     52       (732 )

Exercise of common stock options

     —         1,271  

Issuance of preferred stock

     —         50,000  

Costs related to issuance of preferred stock

     —         (1,747 )

Dividends paid

     (41,376 )     (33,872 )

Payment of deferred financing costs

     —         (1,049 )

Restricted cash returned from refinancing activities

     122,223       —    
                

Net cash provided by (used in) financing activities

     (1,241,186 )     1,649,934  
                

Net Increase (Decrease) in Cash and Cash Equivalents

     62,098       (1,442 )

Cash and Cash Equivalents, Beginning of Period

     55,916       5,371  
                

Cash and Cash Equivalents, End of Period

   $ 118,014     $ 3,929  
                

Supplemental Disclosure of Cash Flow Information

    

Cash paid during the period for interest expense

   $ 63,506     $ 101,458  

Cash paid during the period for income taxes

   $ —       $ —    

Supplemental Schedule of Non-Cash Investing and Financing Activities

    

Common stock dividends declared but not paid

   $ 13,195     $ 33,265  

Preferred stock dividends declared but not paid

   $ 2,250     $ 1,552  

See notes to consolidated financial statements

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

1. GENERAL

Newcastle Investment Corp. (and its subsidiaries, “Newcastle”) is a Maryland corporation that was formed in 2002. Newcastle conducts its business through three primary segments: (i) real estate securities and real estate related loans, (ii) residential mortgage loans, and (iii) operating real estate.

Newcastle is organized and conducts its operations to qualify as a real estate investment trust (“REIT”) for U.S. federal income tax purposes. As such, Newcastle will generally not be subject to U.S. federal corporate income tax on that portion of its net income that is distributed to stockholders if it distributes at least 90% of its REIT taxable income to its stockholders by prescribed dates and complies with various other requirements.

Newcastle is party to a management agreement (the “Management Agreement”) with FIG LLC (the “Manager”), an affiliate of Fortress Investment Group LLC, under which the Manager advises Newcastle on various aspects of its business and manages its day-to-day operations, subject to the supervision of Newcastle’s board of directors. For its services, the Manager receives an annual management fee and incentive compensation, both as defined in the Management Agreement.

Approximately 5.1 million shares of Newcastle’s common stock were held by the Manager, through its affiliates, and its principals at March 31, 2008. In addition, the Manager, through its affiliates, held options to purchase approximately 1.5 million shares of Newcastle’s common stock at March 31, 2008.

The accompanying consolidated financial statements and related notes of Newcastle have been prepared in accordance with accounting principles generally accepted in the United States for interim financial reporting and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, certain information and footnote disclosures normally included in financial statements prepared under U.S. generally accepted accounting principles have been condensed or omitted. In the opinion of management, all adjustments considered necessary for a fair presentation of Newcastle’s financial position, results of operations and cash flows have been included and are of a normal and recurring nature. The operating results presented for interim periods are not necessarily indicative of the results that may be expected for any other interim period or for the entire year. These financial statements should be read in conjunction with Newcastle’s consolidated financial statements for the year ended December 31, 2007 and notes thereto included in Newcastle’s annual report on Form 10-K filed with the Securities and Exchange Commission. Capitalized terms used herein, and not otherwise defined, are defined in Newcastle’s consolidated financial statements for the year ended December 31, 2007.

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

2. INFORMATION REGARDING BUSINESS SEGMENTS

Newcastle conducts its business through three primary segments: real estate securities and real estate related loans, residential mortgage loans, and operating real estate.

Summary financial data on Newcastle’s segments is given below, together with a reconciliation to the same data for Newcastle as a whole:

 

    Real Estate
Securities and
Real Estate

Related Loans
    Residential
Mortgage
Loans
    Operating
Real Estate
    Unallocated     Total  

Three Months then Ended March 31, 2008

         

Gross revenues

  $ 105,062     $ 27,296     $ —       $ 536     $ 132,894  

Operating expenses

    (647 )     (3,590 )     —         (6,187 )     (10,424 )

Interest expense

    (69,899 )     (17,597 )     —         (1,879 )     (89,375 )

Depreciation and amortization

    —         —         —         (72 )     (72 )
                                       

Operating income (loss)

    34,516       6,109       —         (7,602 )     33,023  

Other income (loss)

    (66,848 )     (3,390 )     589       (590 )     (70,239 )
                                       

Income (loss) from continuing operations

    (32,332 )     2,719       589       (8,192 )     (37,216 )

Income (loss) from discontinued operations

    —         —         (3,688 )     —         (3,688 )
                                       

Net income (loss)

    (32,332 )     2,719       (3,099 )     (8,192 )     (40,904 )

Preferred dividends

    —         —         —         (3,375 )     (3,375 )
                                       

Income (loss) applicable to common stockholders

  $ (32,332 )   $ 2,719     $ (3,099 )   $ (11,567 )   $ (44,279 )
                                       

March 31, 2008

         

Total Assets

         

Carrying value

  $ 5,010,092     $ 1,072,586     $ 49,416     $ 121,410     $ 6,253,504  

Amortized cost basis

  $ 5,757,634     $ 1,072,586     $ 49,416     $ 121,410     $ 7,001,046  

Fair value (A)

  $ 4,854,319     $ 1,066,805     $ 49,416     $ 121,410     $ 6,091,950  

Debt

         

Nonrecourse, carrying value

  $ 4,381,555     $ 858,673     $ —       $ —       $ 5,240,228  

Recourse, carrying value

  $ 701,092     $ 9,342     $ —       $ 100,100     $ 810,534  

Total, fair value

  $ 3,877,952     $ 856,629     $ —       $ 78,001     $ 4,812,582  

Equity

         

GAAP book value

  $ (274,896 )   $ 168,719     $ 47,291     $ (158,593 )   $ (217,479 )

Adjusted book value (B)

  $ 774,025     $ 174,324     $ 47,291     $ (136,494 )   $ 859,146  

Adjusted book value per share (B)

          $ 16.28  

December 31, 2007

         

Total assets

  $ 6,823,061     $ 1,103,321     $ 53,065     $ 58,323     $ 8,037,770  

Three Months Ended March 31, 2007

         

Gross revenues

  $ 132,643     $ 29,493     $ —       $ 80     $ 162,216  

Operating expenses

    (613 )     (3,436 )     —         (8,857 )     (12,906 )

Interest expense

    (93,342 )     (19,738 )     —         (3,671 )     (116,751 )

Depreciation and amortization

    —         —         —         (73 )     (73 )
                                       

Operating income (loss)

    38,688       6,319       —         (12,521 )     32,486  

Other income (loss)

    3,046       153       576       1       3,776  
                                       

Income (loss) from continuing operations

    41,734       6,472       576       (12,520 )     36,262  

Income (loss) from discontinued operations

    —         —         (71 )     —         (71 )
                                       

Net income (loss)

    41,734       6,472       505       (12,520 )     36,191  

Preferred dividends

    —         —         —         (2,515 )     (2,515 )
                                       

Income (loss) applicable to common stockholders

  $ 41,734     $ 6,472     $ 505     $ (15,035 )   $ 33,676  
                                       

 

(A) Only financial instruments are reflected at fair value, other assets are reflected at their carrying value.
(B) Represents GAAP book value as if Newcastle had elected to measure all of its financial assets and liabilities at fair value under SFAS 159.

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

At March 31, 2008 and 2007, Newcastle had $19.2 million and $21.4 million, respectively, of long-lived assets in Canada. In connection with such assets, Newcastle recognized revenue of $.9 million and $.7 million for the three months ended March 31, 2008 and 2007, respectively.

Newcastle has committed to a plan, and is actively working, to sell all of its operating real estate. As a result, all of the real estate has been classified as held for sale at March 31, 2008 and marked to the lower of cost or market, resulting in a recorded loss of $3.5 million. All of the related operations, including this loss, have been classified as discontinued operations for all periods presented.

Gain (Loss) on Sale of Investments, Net and Other Income (Loss), Net

These items are comprised of the following:

 

     Three Months Ended March 31,  
     2008     2007  

Gain (loss) on sale of investments, net

    

Gain on sale of real estate securities

   $ 6,459     $ 8,108  

Loss on sale of real estate securities

     (942 )     (5,879 )

Gain on disposition of loans held for sale

     1,434       —    

Realized gain (loss) on termination of derivative instruments

     (425 )     (17 )
                
   $ 6,526     $ 2,212  
                

Other income (loss), net

    

Realized (loss) on total rate of return swaps

   $ (7,145 )   $ —    

Unrealized gain (loss) on total rate of return swaps

     (4,084 )     258  

Gain (loss) on non-hedge derivative instruments

     (8,405 )     222  

Unrealized gain (loss) recognized at de-designation of hedges

     (444 )     —    

Hedge ineffectiveness

     208       (8 )

Other income (loss)

     562       245  
                
   $ (19,308 )   $ 717  
                

Unconsolidated Subsidiaries

The following table summarizes the activity for significant subsidiaries affecting the equity held by Newcastle in unconsolidated subsidiaries:

 

     Operating Real Estate     Real Estate Loan  

Balance at December 31, 2007

   $ 13,391     $ 10,984  

Contributions to unconsolidated subsidiaries

     —         —    

Distributions from unconsolidated subsidiaries

     (347 )     (9,336 )

Equity in earnings of unconsolidated subsidiaries

     589       118  
                

Balance at March 31, 2008

   $ 13,633     $ 1,766  
                

In April 2008, Newcastle closed on the sale of our interests in the operating real estate joint venture and received net proceeds of $19.9 million. As a result, Newcastle recorded a gain of approximately $6.2 million.

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

3. REAL ESTATE SECURITIES

The following is a summary of Newcastle’s real estate securities at March 31, 2008, all of which are classified as available for sale and are therefore reported at fair value with changes in fair value recorded in other comprehensive income.

 

     Outstanding
Face Amount
   Amortized Cost Basis     Gross Unrealized     Carrying Value    Number of
Securities
   Weighted Average

Asset Type

      Before
Impairment
   Other-Than-
Temporary
Impairment (F)
    Gains    Losses           S&P
Equivalent
Rating
   Coupon     Yield     Maturity
(Years)

CMBS-Conduit

   $ 1,366,265    $ 1,309,399    $ (1,893 )   $ 62    $ (429,877 )   $ 877,691    170    BBB    5.67 %   6.32 %   7.0

CMBS-Large Loan

     608,825      606,996      —         —        (82,923 )     524,073    45    BBB-    5.58 %   5.58 %   2.5

CMBS- CDO

     16,000      14,730      (14,090 )     —        (320 )     320    1    CC    10.14 %   0.00 %   —  

CMBS- B-Note

     265,195      254,801      —         357      (32,830 )     222,328    40    BB    6.13 %   6.93 %   5.0

REIT Debt

     652,516      663,737      —         727      (63,209 )     601,255    65    BBB-    6.24 %   5.78 %   5.4

ABS-Subprime (E)

     562,050      550,100      (194,998 )     1,194      (128,742 )     227,554    122    BB    4.41 %   6.37 %   4.6

ABS-Manufactured Housing

     61,839      60,016      —         1,316      (4,806 )     56,526    9    BBB-    6.68 %   7.46 %   5.1

ABS-Franchise

     43,020      43,148      —         —        (14,208 )     28,940    17    BBB    5.84 %   5.90 %   4.3

FNMA/FHLMC (A) (D)

     433,269      442,972      —         9,449      —         452,421    15    AAA    5.65 %   5.61 %   3.8
                                                                      

Subtotal/Average (B)

     4,008,979      3,945,899      (210,981 )     13,105      (756,915 )     2,991,108    484    BBB    5.64 %   6.08 %   5.2
                                                                      

Retained Securities (C)

     76,380      71,316      (17,238 )     —        (3,731 )     50,347    6    B+    4.79 %   12.20 %   7.0

Residual Interests (C)

     48,569      62,947      (14,378 )     —        —         48,569    2    NR    0.00 %   20.00 %   5.3
                                                                      

Total/Average

   $ 4,133,928    $ 4,080,162    $ (242,597 )   $ 13,105    $ (760,646 )   $ 3,090,024    492    BBB    5.55 %   6.34 %   5.2
                                                                      

 

(A) FNMA/FHLMC securities have an implied AAA rating.
(B) The total outstanding face amount of fixed rate securities was $3.1 billion, and of floating rate securities was $1.0 billion.
(C) Represents the retained bonds and equity from Subprime Portfolios I and II. These securities have been treated as part of the residential mortgage loan segment – see Note 2. The residuals do not have stated coupons and therefore their coupons have been treated as zero for purposes of the table.
(D) Amortized cost basis and carrying value include principal receivable of $8.3 million.
(E) Amortized cost basis and carrying value include principal receivable of $0.3 million.
(F) Represents the cumulative impairment against amortized cost basis through earnings.

Unrealized losses that are considered other-than-temporary are recognized currently in income. During the three months ended March 31, 2008, Newcastle recorded other-than-temporary impairment charges of $46.4 million, relating to securities with an aggregate post impairment amortized cost basis of $139.9 million at March 31, 2008. Management closely monitors market valuations and, based on the results of recent market events, has concluded that these securities are other-than-temporarily impaired under GAAP. The remaining unrealized losses on Newcastle’s securities are primarily the result of market factors, rather than credit impairment, and Newcastle has performed credit analyses in relation to such securities which support its belief that the carrying values of such securities are fully recoverable over their expected holding period.

 

    Outstanding
Face Amount
  Amortized Cost Basis   Gross Unrealized     Carrying Value   Number of
Securities
  Weighted Average

Securities in an Unrealized Loss
Position

    Before
Impairment
  Other-Than-
Temporary
Impairment
  Gains   Losses         S&P
Equivalent
Rating
  Coupon     Yield     Maturity
(Years)

Less Than Twelve Months

  $ 925,107   $ 879,289   $ —     $ —     $ (179,702 )   $ 699,587   114   BBB   5.64 %   6.10 %   4.8

Twelve or More Months

    2,288,327     2,252,455     —       —       (580,944 )     1,671,511   281   BBB-   5.66 %   5.87 %   5.6
                                                             

Total

  $ 3,213,434   $ 3,131,744   $ —     $ —     $ (760,646 )   $ 2,371,098   395   BBB-   5.65 %   5.93 %   5.4
                                                             

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

4. REAL ESTATE RELATED LOANS, RESIDENTIAL MORTGAGE LOANS AND SUBPRIME MORTGAGE LOANS

The following is a summary of real estate related loans, residential mortgage loans and subprime mortgage loans at March 31, 2008. The loans contain various terms, including fixed and floating rates, self-amortizing and interest only. They are generally subject to prepayment.

 

Loan Type

   Outstanding
Face Amount
   Carrying
Value
   Loan
Count
   Wtd. Avg.
Yield
    Weighted
Average
Maturity
(Years) (A)
   Floating Rate
Loans as a %
of Face
Amount
    Delinquent Face
Amount (B)

Mezzanine Loans

   $ 803,042    $ 799,412    22    6.89 %   3.4    87.9 %   $ —  

B-Notes

     421,104      405,189    15    5.69 %   3.4    86.1 %     —  

Corporate Bank Loans

     541,469      519,846    13    6.68 %   3.7    100.0 %     —  

Whole Loans

     66,838      66,814    3    6.27 %   3.4    100.0 %     —  

ICH Loans

     28,262      27,647    20    7.73 %   0.2    0.0 %     —  
                                          

Total Real Estate Related Loans

   $ 1,860,715    $ 1,818,908    73    6.55 %   3.4    90.1 %   $ —  
                                          

Residential Loans

   $ 97,454    $ 98,056    307    3.60 %   3.6      $ 7,920

Manufactured Housing Loans

     523,731      511,017    15,215    8.52 %   6.0        3,737
                                      

Total Residential Mortgage Loans (C)

   $ 621,185    $ 609,073    15,522    7.71 %   5.6      $ 11,657
                                      

Subprime Mortgage Loans Subject to Call Option

   $ 406,217    $ 394,913             
                          

 

(A) The weighted average maturities for the residential loan portfolio and the two manufactured housing loan portfolios were calculated based on constant prepayment rates (CPR) of 20%, 8% and 9%, respectively.
(B) This face amount of loans is 60 or more days past due, in foreclosure or real estate owned.
(C) Carrying value includes interest receivable of $0.4 million for the residential housing loans and principal and interest receivable of $12.0 million for the manufactured housing loans.

The following is a reconciliation of the related loss allowance.

 

     Real Estate
Related Loans
    Residential
Mortgage Loans
 

Balance at December 31, 2007

   $ (600 )   $ (6,917 )

Provision for credit losses

     (200 )     (2,306 )

Provision for impaired loans

     (19,104 )     (1,222 )

Realized losses

     —         1,798  
                

Balance at March 31, 2008

   $ (19,904 )   $ (8,647 )
                

As of March 31, 2008, Newcastle held an aggregate of $124.0 million notional amount of total rate of return swaps (including an unfunded asset with a notional amount of $19.1 million) on 5 reference assets on which it had deposited $31.7 million of margin. These total rate of return swaps had an aggregate fair value of approximately ($5.7) million, a weighted average receive interest rate of LIBOR + 2.90%, a weighted average pay interest rate of LIBOR + 0.83%, and a weighted average swap maturity of 0.6 years.

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

The following table presents information on the retained interests in Newcastle’s securitizations of subprime mortgage loans and the sensitivity of their fair value to call date for immediate 10% and 20% adverse changes in the assumptions utilized in calculating such fair value, at March 31, 2008:

 

     Subprime Portfolio  
     I     II  

Total securitized loans (unpaid principal balance)

   $ 834,012     $ 996,859  

Average loan seasoning (months)

     31       14  

Loans subject to call option (carrying value)

   $ 292,166     $ 102,747  

Retained interests (fair value) (A)

   $ 46,272     $ 52,644  

Weighted average life (years) of residual interest

     3.8       6.2  

Weighted average expected credit losses (B)

     8.6 %     14.5 %

Effect on fair value of retained interests of 10% adverse change

   $ (6,361 )   $ (9,754 )

Effect on fair value of retained interests of 20% adverse change

   $ (11,428 )   $ (18,980 )

Weighted average constant prepayment rate (C)

     20.2 %     13.6 %

Effect on fair value of retained interests of 10% adverse change

   $ (3,577 )   $ (7,088 )

Effect on fair value of retained interests of 20% adverse change

   $ (6,834 )   $ (8,204 )

Weighted average discount rate

     13.1 %     14.1 %

Effect on fair value of retained interests of 10% adverse change

   $ (1,637 )   $ (7,898 )

Effect on fair value of retained interests of 20% adverse change

   $ (3,167 )   $ (9,534 )

 

(A) The retained interests include residual interests and retained bonds of the securitizations. Their fair value is estimated based on pricing models.
(B) Represents the percentage of losses on the original principal balance of the loans at the time of the respective securitizations (April 2006 and July 2007) to the maturity of the loans.
(C) Represents the weighted average voluntary prepayment rate for the loans from the time of the respective securitizations (April 2006 and July 2007) to the maturity of such loans.

The sensitivity analysis is hypothetical and should be used with caution. In particular, the results are calculated by stressing a particular economic assumption independent of changes in any other assumption; in practice, changes in one factor may result in changes in another, which might counteract or amplify the sensitivities. Also, changes in the fair value based on a 10% or 20% variation in an assumption generally may not be extrapolated because the relationship of the change in the assumption to the change in fair value may not be linear.

The following table summarizes certain characteristics of the underlying subprime mortgage loans in the securitizations as of March 31, 2008:

 

     Subprime Portfolio  
     I     II  

Loan unpaid principal balance (UPB)

   $ 834,012     $ 996,859  

Delinquencies of 60 or more days (UPB)

   $ 151,847     $ 79,719  

Net credit losses for the three months ended March 31, 2008

   $ 4,383     $ 486  

Cumulative net credit losses

   $ 7,954     $ 486  

Cumulative net credit losses as a % of original UPB

     0.53 %     0.04 %

Percentage of ARM loans (A)

     60.3 %     69.3 %

Percentage of loans with loan-to-value ratio >90%

     10.4 %     17.7 %

Percentage of interest-only loans

     28.6 %     4.6 %

 

(A) ARM loans are adjustable-rate mortgage loans. An option ARM is an adjustable-rate mortgage that provides the borrower with an option to choose from several payment amounts each month for a specified period of the loan term. None of the loans in the subprime portfolios are an option ARM.

Delinquencies include loans 60 or more days past due, in foreclosure or real estate owned. Newcastle received net cash inflows of $3.5 million and $5.8 million from the retained interests of Subprime Portfolios I and II, respectively, during the three months ended March 31, 2008.

The weighted average yields of the retained notes of Subprime Portfolios I and II were 10.3% and 15.0%, respectively, as of March 31, 2008. The loans subject to call option and the corresponding financing recognize interest income and expense based on the expected weighted average coupons of the loans subject to call option at the call date of 9.24% and 8.68%, for Subprime Portfolios I and II, respectively.

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

5. DEBT OBLIGATIONS

The following table presents certain information regarding Newcastle’s debt obligations and related hedges at March 31, 2008:

 

Debt Obligation/Collateral

  Month
Issued
    Outstanding
Face
Amount
  Carrying
Value
  Unhedged Weighted
Average

Funding Cost (A)
  Final Stated
Maturity
  Weighted
Average
Funding
Cost (B)
    Weighted
Average
Maturity
(Years)
  Face
Amount

of Floating
Rate

Debt
  Collateral
Amortized
Cost Basis (C)
  Collateral
Carrying
Value (K)
  Collateral
Weighted
Average
Maturity
(Years)
  Face
Amount
of
Floating Rate
Collateral
(C)
  Aggregate
Notional
Amount of
Current
Hedges

CBO Bonds Payable (D)

Portfolio V

  Mar 2004     $ 411,085   $ 408,762   3.45%   Mar 2039   4.04 %   4.4   $ 382,750   $ 439,138   $ 354,621   4.5   $ 192,472   $ 177,300

Portfolio VI

  Sep 2004       454,500     451,781   3.31%   Sep 2039   4.12 %   4.9     442,500     492,455     372,506   4.5     224,939     208,897

Portfolio VII

  Apr 2005       447,000     443,525   3.20%   Apr 2040   4.37 %   5.9     439,600     466,756     347,725   5.5     197,154     242,524

Portfolio VIII

  Dec 2005       426,800     423,500   3.22%   Dec 2050   5.05 %   7.2     420,800     482,221     327,152   7.3     128,201     341,506

Portfolio IX

  Nov 2006       807,500     806,808   3.38%   Nov 2052   3.84 %   5.8     799,900     777,027     715,356   4.4     601,063     161,655

Portfolio X

  May 2007       585,750     587,055   3.31%   May 2052   3.66 %   5.5     585,750     789,393     780,287   3.9     597,560     91,979

Portfolio XI

  Jul 2007       1,247,750     1,247,233   2.83%   Jul 2052   5.00 %   6.9     1,247,750     1,279,908     1,072,372   5.2     309,798     990,201
                                                             
      4,380,385     4,368,664       4.37 %   6.0     4,319,050     4,726,898     3,970,019   5.0     2,251,187     2,214,062
                                                             

Other Bonds Payable

ICH loans

  Aug 1998       12,891     12,891   6.06%   Aug 2030   6.06 %   0.1     —       27,647     27,647   0.2     —       —  

Manufactured housing loans

  Jan 2006       179,162     178,636   LIBOR+1.25%   Jan 2009   5.97 %   0.7     179,162     198,576     198,576   6.4     3,272     165,712

Manufactured housing loans

  Aug 2006       286,779     285,124   LIBOR+1.25%   Aug 2011   7.02 %   2.6     286,779     312,441     312,441   5.7     54,332     285,033
                                                             
      478,832     476,651       6.60 %   1.8     465,941     538,664     538,664   5.7     57,604     450,745
                                                             

Repurchase Agreements (E)

Real estate related loans

  Rolling       252,395     252,395   LIBOR+0.84%   Various (G)   3.59 %   0.7     252,395     340,545     340,545   1.9     340,604     —  

Other real estate securities (F)

  Rolling       28,597     28,597   LIBOR+0.61%   Apr 2008   3.31 %   0.1     28,597     19,967     19,967   2.7     68,807     —  

Residential mortgage loans

  Rolling       7,090     7,090   LIBOR+1.75%   Apr 2008   4.45 %   0.1     7,090     11,795     11,795   2.8     11,525     —  
                                                             
      288,082     288,082       3.58 %   0.6     288,082     372,307     372,307   2.1     420,936     —  

FNMA/FHLMC securities

  Rolling       422,352     422,352   LIBOR+0.02%   Various (H)   4.63 %   0.2     422,352     442,971     452,421   3.8     —       319,309
                                                             
      710,434     710,434       4.21 %   0.4     710,434     815,278     824,728   3.0     420,936     319,309
                                                             

Corporate

Junior subordinated notes payable

  Mar 2006       100,100     100,100   7.57%(I)   Apr 2036   7.71 %   28.0     —       —       —     —       —       —  
                                                             
      100,100     100,100       7.71 %   28.0     —       —       —     —       —       —  
                                                             

Subtotal debt obligations

      5,669,751     5,655,849       4.59 %   5.3   $ 5,495,425   $ 6,080,840   $ 5,333,411   4.8   $ 2,729,727   $ 2,984,116
                                                             

Financing on subprime mortgage loans subject to call option (J)

  (J )     406,217     394,913                    
                                 

Total debt obligations

    $ 6,075,968   $ 6,050,762                    
                                 

 

(A) Weighted average, including floating and fixed rate classes and excluding the amortization of deferred financing costs.
(B) Including the effect of applicable hedges.
(C) Including restricted cash held in CBOs.
(D) Collateral is comprised of real estate securities and loans.
(E) Subject to potential mandatory prepayments based on collateral value. The counterparties on these repurchase agreements include: Bear Stearns ($501.4 million), Deutsche Bank ($107.6 million), Credit Suisse ($61.4 million) and other ($40.0 million).
(F) Debt carrying value exceeds collateral amortized cost basis due to $24.6 million of repurchase agreements secured by investments in Newcastle’s CBO bonds, which are eliminated in consolidation.
(G) The longest maturity is May 2010.
(H) The longest maturity is July 2008.
(I) LIBOR + 2.25% after April 2016.
(J) Issued in April 2006 and July 2007. See Note 4 regarding the securitizations of Subprime Portfolios I and II.
(K) Collateral carrying value represents the aggregate of fair value for real estate securities and amortized cost basis for loans in accordance to GAAP, and restricted cash held in CBOs.

 

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Table of Contents

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

6. FAIR VALUE OF FINANCIAL INSTRUMENTS

Newcastle’s financial instruments fall into four major categories:

 

   

real estate securities, which are marked to market through other comprehensive income,

 

   

derivatives, which are generally marked to market through other comprehensive income (or through income if they are not effective hedges),

 

   

real estate related and residential mortgage loans, which are generally not marked to market, but for which fair value is disclosed, and

 

   

debt obligations, which are generally not marked to market, but for which fair value is disclosed.

Newcastle held the following financial instruments at March 31, 2008:

 

    Principal
Balance or
Notional
Amount
  Carrying Value   Fair Value  

Fair Value Method (A)

  Weighted
Average
Yield/Funding
Cost
    Weighted
Average
Maturity
(Years)
 

Assets:

           

Real estate securities, available for sale*

  $ 4,133,928   $ 3,090,024   $ 3,090,024   Broker quotations, counterparty quotations, pricing models   6.34 %   5.2  

Real estate related loans

    1,860,715     1,818,908     1,663,135   Broker quotations, counterparty quotations, pricing models   6.55 %   3.4  

Residential mortgage loans

    621,185     609,073     603,292   Pricing models   7.71 %   5.6  

Subprime mortgage loans subject to call option (B)

    406,217     394,913     394,913   (B)   9.09 %   (B )

Liabilities:

           

CBO bonds payable

    4,380,385     4,368,664     3,166,904   Counterparty quotations, pricing models   4.37 %   6.0  

Other bonds payable

    478,832     476,651     465,201   Pricing models   6.60 %   1.8  

Repurchase agreements

    710,434     710,434     707,563   Market comparables, pricing models   4.21 %   0.4  

Financing of subprime mortgage loans subject to call option (B)

    406,217     394,913     394,913   (B)   9.09 %   (B )

Junior subordinated notes payable

    100,100     100,100     78,001   Pricing models   7.71 %   28.0  

Interest rate swaps, treated as hedges (C)*

    2,984,116     226,386     226,386   Counterparty quotations   N/A     (C )

Total rate of return swaps (D)*

    124,014     5,745     5,745   Broker quotations, counterparty quotations   N/A     (D )

Non-hedge derivatives (E)*

    247,426     —       —     Counterparty quotations   N/A     (E )

 

* Measured at fair value on a recurring basis.
(A) Based on order of priority. In the case of real estate securities and real estate related loans, broker quotations are obtained if available and practicable, otherwise counterparty quotations are obtained or, finally, internal pricing models are used. Internal pricing models are only used for (i) securities and loans which are not traded in an active market, and therefore have little or no price transparency, and for which significant unobservable inputs must be used in estimating fair value, (ii) loans or debt obligations which are private and untraded.
(B) These two items results from an option, not an obligation, to repurchase loans from Newcastle’s subprime mortgage loan securitizations (Note 4), are noneconomic until such option is exercised, and are equal and offsetting.

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

(C) Represents current swap agreements as follows:

 

Year of Maturity

   Weighted Average
Maturity
   Aggregate Notional
Amount
   Weighted Average
Fixed Pay Rate
    Aggregate Fair Value

Agreements which receive 1-Month LIBOR:

2010

   Dec 2010    $ 37,605    4.771 %   $ 1,697

2011

   Sep 2011      303,559    5.208 %     19,329

2012

   Apr 2012      70,124    5.224 %     4,373

2014

   Oct 2014      17,637    5.099 %     1,469

2015

   Oct 2015      1,364,060    5.254 %     116,781

2016

   Apr 2016      630,900    5.166 %     48,788

2017

   Aug 2017      174,034    5.235 %     17,705

Agreements which receive 3-Month LIBOR:

2011

   Feb 2011      32,000    5.078 %     2,118

2014

   Jun 2014      354,197    4.196 %     14,126
                  
      $ 2,984,116      $ 226,386
                  

A positive fair value represents a liability. Newcastle has recorded $226.4 million of gross interest rate swap liabilities.

 

(D) Represents total rate of return swaps which are treated as non-hedge derivatives. See Note 4 for a further discussion of these swaps. A positive fair value represents a liability; therefore, Newcastle has a net total rate of return swap liability.
(E) These are two interest rate caps with notional balances of $229.9 million and $17.5 million, respectively. The maturity date of the $229.9 million cap is March 2009 and the maturity date of the $17.5 million cap is July 2009. The caps had zero fair value at March 31, 2008.

Pursuant to SFAS 157, the methodologies used for valuing such instruments have been categorized into three broad levels as follows:

Level 1 - Quoted prices in active markets for identical instruments.

Level 2 - Valuations based principally on other observable market parameters, including

 

   

Quoted prices in active markets for similar instruments,

 

   

Quoted prices in less active or inactive markets for identical or similar instruments,

 

   

Other observable inputs (such as interest rates, yield curves, volatilities, prepayment speeds, loss severities, credit risks and default rates), and

 

   

Market corroborated inputs (derived principally from or corroborated by observable market data).

Level 3 - Valuations based significantly on unobservable inputs.

 

   

Level 3A - Valuations based on third party indications (broker quotes or counterparty quotes) which were, in turn, based significantly on unobservable inputs or were otherwise not supportable as Level 2 valuations.

 

   

Level 3B - Valuations based on internal models with significant unobservable inputs.

Pursuant to SFAS 157, these levels form a hierarchy. Newcastle follows this hierarchy for its financial instruments measured at fair value on a recurring basis. The classifications are based on the lowest level of input that is significant to the fair value measurement.

The following table summarizes such financial assets and liabilities at March 31, 2008:

 

     Principal
Balance or
Notional
Amount
   Carrying
Value
   Fair Value
               Level 2    Level 3A    Level 3B    Total

Assets:

                 

Real estate securities, available for sale

   $ 4,133,928    $ 3,090,924    $ 2,848,365    $ 80,104    $ 161,555    $ 3,090,024

Liabilities:

                 

Interest rate swaps, treated as hedges

     2,984,116      226,386      226,386      —        —        226,386

Total rate of return swaps

     124,014      5,745      5,745      —        —        5,745

Non-hedge derivatives

     247,426      —        —        —        —        —  

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

Newcastle’s investments in instruments measured at fair value using Level 3 inputs changed during the three months ended March 31, 2008 as follows:

 

     Level 3A     Level 3B     Total  
Assets                   

Balance at January 1, 2008

   $ 130,968     $ 177,518     $ 308,486  

Total gains (losses) (A)

      

Included in net income (loss) (B)

     (3,571 )     (42,801 )     (46,372 )

Included in other comprehensive income

     (19,622 )     27,854       8,232  

Amortization included in interest income

     68       6,657       6,725  

Settlements or repayments

     (2,312 )     (20,087 )     (22,399 )

Transfers in (out) of Level 3

     (25,427 )     12,414       (13,013 )
                        

Balance at March 31, 2008

   $ 80,104     $ 161,555     $ 241,659  
                        

 

(A) The total amount of gains (losses) recorded during the period which is included in earnings and is attributable to the change in unrealized gains (losses) relating to assets still held at the reporting date is ($40.9 million) for assets and ($11.2 million) for liabilities.
(B) These gains (losses) are recorded in the following line items in the consolidated statement of operations:

 

     Assets  

Gain (loss) on sale of investments, net

   $ —    

Other income (loss), net

     —    

Other-than-temporary impairment

     (46,372 )
        

Total

   $ (46,372 )
        

Newcastle has recorded $19.1 million of impairment on two real estate loans (Note 4) with an aggregate post impairment amortized cost basis of $32.1 million. These loans were written down to fair value based on internal pricing models (level 3B valuations).

7. EARNINGS PER SHARE

Newcastle is required to present both basic and diluted earnings per share (“EPS”). Basic EPS is calculated by dividing net income available for common stockholders by the weighted average number of shares of common stock outstanding during each period. Diluted EPS is calculated by dividing net income available for common stockholders by the weighted average number of shares of common stock outstanding plus the additional dilutive effect of common stock equivalents during each period. Newcastle’s common stock equivalents are its outstanding stock options. Net income available for common stockholders is equal to net income less preferred dividends.

The following is a reconciliation of the weighted average number of shares of common stock outstanding on a diluted basis.

 

     Three Months Ended
March 31,
     2008    2007

Weighted average number of shares of common stock outstanding, basic

   52,780,319    47,572,895

Dilutive effect of stock options, based on the treasury stock method

   —      250,602
         

Weighted average number of shares of common stock outstanding, diluted

   52,780,319    47,823,497
         

As of March 31, 2008, Newcastle’s outstanding options were summarized as follows:

 

Held by the Manager

   1,549,340

Issued to the Manager and subsequently transferred to certain of the Manager’s employees

   935,269

Held by the independent directors

   14,000
    

Total

   2,498,609
    

 

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NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

MARCH 31, 2008

(dollars in tables in thousands, except share data)

 

 

8. RECENT ACTIVITIES

In January 2008, Newcastle repurchased $16.0 million face amount of a class of CBO bond for $6.7 million. As a result, Newcastle extinguished $16.0 million face amount of CBO debt and recorded a gain on extinguishment of debt of $9.2 million.

In March 2008, Newcastle repurchased $2.9 million face amount of a class of CBO bond for $0.6 million. As a result, Newcastle extinguished $2.9 million face amount of CBO debt and recorded a gain on extinguishment of debt of $2.3 million.

In the first quarter of 2008, Newcastle sold face amounts of approximately $762.5 million of FNMA/FHLMC securities and $525.2 million of non-FNMA/FHLMC securities. Concurrent with the sales, Newcastle terminated the related interest rate swap and interest rate cap agreements, which were de-designated as hedges for accounting purposes at December 31, 2007. As a result, a portion of the gain on sale from these assets was offset by the loss on the termination of the derivatives. In connection with the investments sold in the first quarter, Newcastle recognized a net mark-to-market loss of $17.2 million in December 2007.

In the first quarter of 2008, Newcastle repaid $924.0 million of repurchase agreements.

In February 2008, Newcastle repaid in full the debt associated with its first CBO in the amount of $331.2 million.

In February 2008, Newcastle terminated its credit facility. At the date of termination, no amounts were outstanding under the credit facility (and Newcastle did not incur any material costs related to the termination); at that time, previously incurred and deferred financing costs of $0.6 million were written off through gain (loss) on extinguishment of debt in the statement of operations.

In April 2008, Newcastle closed on a sale of its interest in the operating real estate joint venture and received net proceeds of approximately $19.9 million, resulting in a gain of approximately $6.2 million.

In March 2008, Newcastle’s board of directors approved expanding the previously approved share repurchase to allow a potential repurchase of up to $125 million of Newcastle’s common stock or preferred stock. As of May 8, 2008, no shares have been repurchased.

 

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following should be read in conjunction with the unaudited consolidated financial statements and notes included herein.

GENERAL

Newcastle Investment Corp. is a real estate investment and finance company. We invest in real estate securities, loans and other real estate related assets. In addition, we consider other opportunistic investments which capitalize on our manager’s expertise and which we believe present attractive risk/return profiles and are consistent with our investment guidelines. We seek to deliver stable dividends and attractive risk-adjusted returns to our stockholders through prudent asset selection, active management and the use of match funded financing structures, when appropriate and available, which reduce our interest rate and financing risks. Our objective is to maximize the difference between the yield on our investments and the cost of financing these investments while hedging our interest rate risk. We emphasize portfolio management, asset quality, diversification, match funded financing and credit risk management.

We currently own a diversified portfolio of moderately credit sensitive real estate debt investments including securities and loans. Our portfolio of real estate securities includes commercial mortgage backed securities (CMBS), senior unsecured debt issued by property REITs, real estate related asset backed securities (ABS), and FNMA/FHLMC securities. Mortgage backed securities are interests in or obligations secured by pools of mortgage loans. We generally target investments rated A through BB, except for our FNMA/FHLMC securities which have an implied AAA rating. We also own, directly and indirectly, interests in loans and pools of loans, including real estate related loans, commercial mortgage loans, residential mortgage loans, manufactured housing loans, and subprime mortgage loans. We also own, directly and indirectly, interests in operating real estate.

We employ leverage in order to achieve our return objectives. We do not have a predetermined target debt to equity ratio as we believe the appropriate leverage for the particular assets we are financing depends on the credit quality of those assets. As a result of our negative GAAP equity, our GAAP debt to equity ratio is not a meaningful measure as of March 31, 2008. Our general investment guidelines adopted by our board of directors limit total leverage (as defined under the governing documents) to a maximum 9.0 to 1 debt to equity ratio. As of March 31, 2008, our debt to equity ratio, as computed under this method, was approximately 5.1 to 1.

We strive to maintain access to a broad array of capital resources in an effort to insulate our business from potential fluctuations in the availability of capital. We utilize multiple forms of financing including collateralized bond obligations (CBOs), other securitizations, term loans, and trust preferred securities, as well as short term financing in the form of repurchase agreements.

We seek to match fund our investments with respect to interest rates and maturities in order to minimize the impact of interest rate fluctuations on earnings and reduce the risk of refinancing our liabilities prior to the maturity of the investments. We seek to finance a substantial portion of our real estate securities and loans through the issuance of term debt, which generally represents obligations issued in multiple classes secured by an underlying portfolio of assets. Specifically, our CBO financings offer us the structural flexibility to buy and sell certain investments to manage risk and, subject to certain limitations, to optimize returns.

We conduct our through three primary business segments: (i) real estate securities and real estate related loans, (ii) residential mortgage loans and (iii) operating real estate. Revenues attributable to each segment are disclosed below (in thousands).

 

For the Three Months

Ended March 31,

   Real Estate Securities
and Real Estate
Related Loans
   Residential
Mortgage
Loans
   Operating
Real Estate
   Unallocated    Total

2008

   $ 105,062    $ 27,296    $ —      $ 536    $ 132,894

2007

   $ 132,643    $ 29,493    $ —      $ 80    $ 162,216

Market Considerations

Our ability to maintain our dividends is dependent on our ability to invest our capital on a timely basis at attractive levels. The primary market factors that bear on this are credit spreads and the availability of financing on favorable terms.

Generally speaking, widening credit spreads reduce the unrealized gains on our current investments (or cause or increase unrealized losses) and increase our financing costs, but increase the yields available on potential new investments, while tightening credit spreads increase the unrealized gains (or reduce unrealized losses) on our current investments and reduce our financing costs, but reduce the yields available on potential new investments. By reducing unrealized gains (or causing unrealized losses), widening credit spreads also impact our ability to realize gains on existing investments if we were to sell such assets.

 

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In the first three months of 2008, credit spreads widened substantially. This widening of credit spreads caused the net unrealized losses on our securities and derivatives, recorded in accumulated other comprehensive income, to increase and therefore caused our book value per share to become negative. One of the key drivers of the widening of credit spreads has been the continued disruption in the subprime mortgage lending sector. This disruption has spread rapidly, causing adverse conditions and liquidity concerns throughout the credit markets.

Widening credit spreads, while reducing our book value per share, also result in higher yields on new investment opportunities. However, we must have additional capital available at attractive terms, either through debt financings or equity offerings, in order to take advantage of these investment opportunities. Currently, we are unable to take full advantage of the increased yields available on investments due to a lack of available capital, and we may continue to experience the same restrictions throughout 2008. Non-recourse term financing not subject to margin requirements is generally not available and we must maintain our current sources of capital in order to meet our working capital needs.

In addition, the recent credit and liquidity crisis has adversely affected the market in which we operate in a number of other ways. For example, it has reduced the market trading activity for many real estate securities, resulting in less liquid markets for those securities. As the securities held by us and many other companies in our industry are marked to market at the end of each quarter, the decreased liquidity and concern over market conditions have resulted in what we believe are relatively conservative mark-to-market valuations of many real estate securities. These lower valuations have affected us by, among other things, decreasing our net book value and contributing to our decision to record impairment charges.

In order to increase our liquidity, we have elected to retain the majority of our investment proceeds (including those from recent asset sales) in lieu of using those proceeds to make new investments, and to reduce our dividend below the level of our earnings. This approach has increased our available cash while reducing the earnings from our investments. We may elect to adjust any future dividend payments to reflect our current and expected cash from operations.

We do not currently know the full extent to which this market disruption will affect us or the markets in which we operate, and we are unable to predict its length or ultimate severity. If the disruption continues, we will likely experience further tightening of liquidity, additional impairment charges and increased margin requirements, as well as additional challenges in raising capital and obtaining investment financing on attractive terms.

As of the date of this Quarterly Report on Form 10-Q, based on our cash balances and committed financing, as well as proceeds from select asset sales, we believe we have sufficient liquidity to maintain our ongoing operations in the current market environment. Future cash flows and our liquidity may be materially impacted if conditions do not substantially improve. Should the current conditions worsen, or persist for an extended period of time, our available capital could be reduced upon the expiration or termination of our capital resources.

Certain aspects of these effects are more fully described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Interest Rate, Credit and Spread Risk” as well as in “Quantitative and Qualitative Disclosures About Market Risk.”

 

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APPLICATION OF CRITICAL ACCOUNTING POLICIES

Management’s discussion and analysis of financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). The preparation of financial statements in conformity with GAAP requires the use of estimates and assumptions that could affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities and the reported amounts of revenue and expenses. Actual results could differ from these estimates. Management believes that the estimates and assumptions utilized in the preparation of the consolidated financial statements are prudent and reasonable. Actual results have been in line with management’s estimates and judgments used in applying each of the accounting policies described below. The following is a summary of our accounting policies that are most effected by judgments, estimates and assumptions.

Variable Interest Entities

In December 2003, Financial Accounting Standards Board Interpretation (“FIN”) No. 46R “Consolidation of Variable Interest Entities” was issued as a modification of FIN 46. FIN 46R clarified the methodology for determining whether an entity is a variable interest entity (“VIE”) and the methodology for assessing who is the primary beneficiary of a VIE. VIEs are defined as entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. A VIE is required to be consolidated by its primary beneficiary, and only by its primary beneficiary, which is defined as the party who will absorb a majority of the VIE’s expected losses or receive a majority of the expected residual returns as a result of holding variable interests.

We will continue to analyze future investments pursuant to the requirements of FIN 46R. These analyses require considerable judgment in determining the primary beneficiary of a VIE since they involve subjective probability weighting of subjectively determined possible cash flow scenarios. The result could be the consolidation of an entity acquired or formed in the future that would otherwise not have been consolidated or the non-consolidation of such an entity that would otherwise have been consolidated.

Valuation and Impairment of Securities

We have classified our real estate securities as available for sale. As such, they are carried at fair value with net unrealized gains or losses reported as a component of accumulated other comprehensive income. Fair value is based primarily upon broker quotations, as well as counterparty quotations, which provide valuation estimates based upon reasonable market order indications or a good faith estimate thereof. These quotations are subject to significant variability based on market conditions, such as interest rates and credit spreads. Certain securities are not traded in an active market and therefore have little or no price transparency. For a further discussion on this trend, see “– Market Considerations” above. In the instances where we have securities on which we expect adverse cash flow changes either from principal loss or delayed receipt of cash flows, we have estimated the fair value of these securities based on internal pricing models rather than quotations.

With respect to securities valued using pricing models, as of March 31, 2008, approximately $164.5 million amortized cost basis of securities post impairment (or 4.3% of our total securities portfolio) was valued at $161.6 million. Based on our estimated loss and other assumptions, we expect to receive approximately $128.1 million of principal (excluding cash flows on residual interests) from these securities over time (which includes zero principal expected from our 2006 vintage subprime securities). The difference between estimated fair value and expected principal receipts represents unrealized losses which are not expected to be permanent, offset by the present value of expected interest receipts. With respect to these securities, $42.8 million of loss was recorded to the statement of operations as other-than-temporary impairment during the three months ended March 31, 2008 and $3.0 million of unrealized loss was recorded to other comprehensive income at March 31, 2008.

Changes in market conditions, as well as changes in the assumptions or methodology used to determine fair value, could result in a significant increase or decrease in our book equity. For securities valued using quotations, a 100 basis point change in credit spreads could impact the fair value by approximately $105.2 million. For securities valued using pricing models, the inputs include the discount rate, assumptions relating to prepayments, default rates and loss severities, as well as other variables. We validated the inputs and outputs of our models by comparing them to available independent third party market parameters and models for reasonableness. A 10% increase in the default rate assumption would result in a $21.5 million decrease in the estimated fair value of our securities valued with models.

We must also assess whether unrealized losses on securities, if any, reflect a decline in value which is other-than-temporary and, accordingly, write the impaired security down to its value through earnings. For example, a decline in value is deemed to be other-than-temporary if it is probable that we will be unable to collect all amounts due according to the contractual terms of a security which was not impaired at acquisition, or if we do not have the ability and intent to hold a security in an unrealized loss position until its anticipated recovery (if any). Temporary declines in value generally result from changes in market factors, such as market interest rates and credit spreads, or from certain macroeconomic events, including market disruptions and supply changes, which do not directly impact our ability to collect amounts contractually due. We continually evaluate the credit status of each of our securities and the collateral supporting our securities. This evaluation includes a review of the credit

 

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of the issuer of the security (if applicable), the credit rating of the security, the key terms of the security (including credit support), debt service coverage and loan to value ratios, the performance of the pool of underlying loans and the estimated value of the collateral supporting such loans, including the effect of local, industry and broader economic trends and factors. These factors include loan default expectations and loss severities, which are analyzed in connection with a particular security’s credit support, as well as prepayment rates. The result of this evaluation is considered in relation to the amount of the unrealized loss and the period elapsed since it was incurred. Significant judgment is required in this analysis.

Revenue Recognition on Securities

Income on these securities is recognized using a level yield methodology based upon a number of cash flow assumptions that are subject to uncertainties and contingencies. Such assumptions include the rate and timing of principal and interest receipts (which may be subject to prepayments and defaults). These assumptions are updated on at least a quarterly basis to reflect changes related to a particular security, actual historical data, and market changes. These uncertainties and contingencies are difficult to predict and are subject to future events, and economic and market conditions, which may alter the assumptions. For securities acquired at a discount for credit losses, the net income recognized is based on a “loss adjusted yield” whereby a gross interest yield is recorded to Interest Income, offset by a provision for probable, incurred credit losses which is accrued on a periodic basis to Provision for Credit Losses. The provision is determined based on an evaluation of the credit status of securities, as described in connection with the analysis of impairment above.

Valuation of Derivatives

Similarly, our derivative instruments are carried at fair value pursuant to Statement of Financial Accounting Standards (“SFAS”) No. 133 “Accounting for Derivative Instruments and Hedging Activities,” as amended. Fair value is based on counterparty quotations. To the extent they qualify as cash flow hedges under SFAS No. 133, net unrealized gains or losses are reported as a component of accumulated other comprehensive income; otherwise, they are reported currently in income. To the extent they qualify as fair value hedges, net unrealized gains or losses on both the derivative and the related portion of the hedged item are reported currently in income. Fair values of such derivatives are subject to significant variability based on many of the same factors as the securities discussed above. The results of such variability could be a significant increase or decrease in our book equity and/or earnings.

Impairment of Loans

We purchase, directly and indirectly, real estate related, commercial mortgage and residential mortgage loans, including manufactured housing loans and subprime mortgage loans, to be held for investment. We must periodically evaluate each of these loans or loan pools for possible impairment. Impairment is indicated when it is deemed probable that we will be unable to collect all amounts due according to the contractual terms of the loan, or, for loans acquired at a discount for credit losses, when it is deemed probable that we will be unable to collect as anticipated. Upon determination of impairment, we would establish a specific valuation allowance with a corresponding charge to earnings. We continually evaluate our loans receivable for impairment. Our residential mortgage loans, including manufactured housing loans, are aggregated into pools for evaluation based on like characteristics, such as loan type and acquisition date. Individual loans are evaluated based on an analysis of the borrower’s performance, the credit rating of the borrower, debt service coverage and loan to value ratios, the estimated value of the underlying collateral, the key terms of the loan, and the effect of local, industry and broader economic trends and factors. Pools of loans are also evaluated based on similar criteria, including trends in defaults and loss severities for the type and seasoning of loans being evaluated. This information is used to estimate specific impairment charges on individual loans as well as provisions for estimated unidentified incurred losses on pools of loans. Significant judgment is required both in determining impairment and in estimating the resulting loss allowance.

Revenue Recognition on Loans

Income on these loans is recognized using a methodology that is similar to the methodology used on our securities and is subject to similar uncertainties and contingencies, which are also analyzed on at least a quarterly basis. For loan pools acquired at a discount for credit losses, the net income recognized is based on a “loss adjusted yield” whereby a gross interest yield is recorded to Interest Income, offset by a provision for probable, incurred credit losses which is accrued on a periodic basis to Provision for Credit Losses. The provision is determined based on an evaluation of the loans as described under “Impairment of Loans” above. A rollforward of the provision is included in Note 4 to our consolidated financial statements.

Impairment of Operating Real Estate

We review our operating real estate for impairment annually or whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Upon determination of impairment, we would record a write-down of the asset, which would be charged to earnings. Significant judgment is required both in determining impairment and in estimating the resulting write-down. In addition, when operating real estate is classified as held for sale, it must be recorded at the lower of its carrying amount or fair value less costs of sale. Significant judgment is required in determining the fair value of such properties.

 

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Recent Accounting Pronouncements

In June 2007, Statement of Position No. 07-1, “Clarification of the Scope of the Audit and Accounting Guide — Investment Companies and Accounting by Parent Companies and Equity Method Investors for Investments in Investment Companies” (“SOP 07-1”) was issued. SOP 07-1 addresses whether the accounting principles of the Audit and Accounting Guide for Investment Companies may be applied to an entity by clarifying the definition of an investment company and whether those accounting principles may be retained by a parent company in consolidation or by an investor in the application of the equity method of accounting. SOP 07-1 eliminates the previously existing exemption for REITs from being considered investment companies. We are currently evaluating the potential effect on our financial condition, liquidity and results of operations upon adoption of SOP 07-1. If we, or any of our subsidiaries, are considered an investment company under this new guidance, it would result in material changes to our financial statements. The primary change would be the recording of all of our (or our subsidiaries’) investments at fair value, with changes in fair value being recorded through the income statement. In February 2008, the FASB indefinitely postponed the adoption of SOP 07-1.

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements.” SFAS 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants in the market in which the reporting entity transacts, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. SFAS 157 applies to reporting periods beginning after November 15, 2007. We adopted SFAS 157 on January 1, 2008. To the extent they are measured at fair value, SFAS 157 did not materially change our fair value measurements for any of our existing financial statement elements. SFAS 157 did change the reported value for our derivative obligations, but this did not have a material effect on our liabilities or accumulated other comprehensive income. As a result, the adoption of SFAS 157 did not have a material impact on our financial condition, liquidity or results of operations.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities.” SFAS 159 permits entities to choose to measure many financial instruments, and certain other items, at fair value. SFAS 159 also establishes presentation and disclosure requirements designed to facilitate comparisons between entities that choose different measurement attributes for similar types of assets and liabilities. SFAS 159 applies to reporting periods beginning after November 15, 2007. We adopted SFAS 159 on January 1, 2008. We did not elect to measure any items at fair value pursuant to the provisions of SFAS 159. As a result, the adoption of SFAS 159 did not have a material impact on our financial condition, liquidity or results of operations.

In December 2007, the American Securitization Forum (“ASF”) issued the “Streamlined Foreclosure and Loss Avoidance Framework for Securitized Subprime Adjustable Rate Mortgage Loans” (the “ASF Framework”). The ASF Framework provides guidance for servicers to streamline borrower evaluation procedures and to facilitate the use of foreclosure and loss prevention efforts in an attempt to reduce the number of U.S. subprime residential mortgage borrowers who might default in the coming year because the borrowers cannot afford to pay the increased interest rate after their variable loan rate resets. The ASF Framework is focused on U.S. subprime first-lien adjustable-rate residential mortgages that have an initial fixed interest rate period of 36 months or less, are included in securitized pools, were originated between January 1, 2005 and July 31, 2007, and have an initial interest rate reset date between January 1, 2008 and July 31, 2010.

The ASF Framework requires a borrower to meet specific conditions, primarily related to the ability of the borrower to meet the initial terms of the loan and obtain refinancing, to qualify for a fast track loan modification under which the qualifying borrower’s interest rate will be kept at the existing initial rate, generally for five years following the upcoming reset. To qualify for fast-track modification, a loan must currently be no more than 30 days delinquent and no more than 60 days delinquent in the past 12 months, have a loan-to-value ratio greater than 97%, be subject to payment increases greater than 10% upon reset, and be for the primary residence of the borrower.

In January 2008, the SEC’s Office of Chief Accountant (the “OCA”) issued a letter (the “OCA Letter”) addressing accounting issues that may be raised by the ASF Framework. The OCA Letter expressed the view that if a qualifying subprime loan is modified pursuant to the ASF Framework and that loan could legally be modified, the OCA will not object to the continued status of the transferee as a QSPE under SFAS 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, because it would be reasonable to conclude that defaults on such loans are “reasonably foreseeable” in the absence of any modification.

The servicer for Subprime Portfolios I and II may make loan modifications in accordance with the ASF Framework in 2008, but we do not expect any such modifications to have a material effect on the accounting for our subprime mortgage loans subject to call options or retained interests in the securitizations of Subprime Portfolios I and II. Furthermore, we do not expect that the ASF Framework will affect the off balance sheet treatment of the securitizations of Subprime Portfolios I and II.

In February 2008, the FASB issued FASB Staff Position No. FAS 140-3 (“FSP FAS 140-3”), “Accounting for Transfers of Financial Assets and Repurchase Financing Transactions.” FSP FAS 140-3 provides guidance on accounting for a transfer of a financial asset and a repurchase financing. It presumes that an initial transfer of a financial asset and a repurchase financing are considered part of the same arrangement (a linked transaction) unless certain criteria are met. If the criteria are not met, the linked transaction would be recorded as a net investment, likely as a derivative, instead of recording the purchased financial asset on a gross basis along with a repurchase financing. FSP FAS 140-3 applies to reporting periods beginning after

 

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November 15, 2008 and is only applied prospectively to transactions that occur on or after the adoption date. As a result of the prospective nature of the adoption, we do not expect the adoption of FSP FAS 140-3 to have a material impact on our financial condition, liquidity or results of operations, unless we enter into transactions of this type after January 1, 2009.

In March 2008, the FASB issued SFAS 161, “Disclosures about Derivative Instruments and Hedging Activities.” SFAS 161 applies to reporting periods beginning after November 15, 2008. SFAS 161 requires enhanced disclosures about an entity’s derivative and hedging activities. It does not change the accounting for such activities. As a result, while the adoption of SFAS 161 will change our disclosures, we do not expect it to have a material impact on our financial condition, liquidity or results of operations.

 

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RESULTS OF OPERATIONS

The following table summarizes the changes in our results of operations from the three ended March 31, 2007 to the three months ended March 31, 2008 (dollars in thousands):

 

     Three Months Ended March 31, 2008/2007
Period to Period
     
     Amount Change     Percent Change     Explanations of
Material
Changes

Interest income

   $ (29,322 )   (18.1 )%   (1)

Interest expense

     (27,376 )   (23.4 )%   (1)

Loan and security servicing expense

     (253 )   (12.8 )%   (1)

Provision for credit losses

     469     23.0 %   (2)

General and administrative expense

     299     23.1 %   (3)

Management fee to affiliate

     691     17.7 %   (4)

Incentive compensation to affiliate

     (3,688 )   (100.0 )%   (4)

Depreciation and amortization

     (1 )   (1.4 )%   N/A

Gain (loss) on sale of investments, net

     4,314     195.0 %   (5)

Other income (loss), net

     (20,025 )   N.M.     (6)

Other-than-temporary impairment

     (46,372 )   N.M.     (7)

Loan impairment

     (20,326 )   N.M.     (7)

Gain (loss) on extinguishment of debt

     8,533     N.M.     (8)

Equity in earnings of unconsolidated subsidiaries

     (139 )   (16.4 )%   (9)
                

Income (loss) from continuing operations

   $ (73,478 )   (202.6 )%  
                

 

N.M. - Not meaningful

 

(1) Changes in interest income and expense are primarily related to our acquisition and disposition during these periods of interest bearing assets and related financings, as follows:

 

     Three Months Ended March 31, 2008/2007  
     Period to Period Increase (Decrease)  
     Interest Income     Interest Expense  

Acquisition of securities and loans

   $ 2,595     $ 1,090  

Disposition of securities and loans

     (7,076 )     (6,309 )

New debt obligations

     (5,160 )     (6,100 )

Repayment of debt obligations

     (6,152 )     (3,796 )

Other (primarily changes in rates)

     (13,529 )     (12,261 )
                
   $ (29,322 )   $ (27,376 )
                

Changes in loan and security servicing expense are also primarily due to these acquisitions and paydowns.

 

(2) This change is primarily due to the increased provision for our pools of manufactured housing loans.
(3) This change is primarily due to the increases in insurance expenses and professional fees.
(4) The increase in management fees is a result of our increased size resulting from our equity issuances. As a result of impairment charges, we will not owe incentive compensation to our manager for an indefinite period of time.
(5) This change is primarily a result of the volume of sales of real estate securities and the amount of unrealized gains available to be realized. Sales of real estate securities, and the proceeds therefrom, are based on a number of factors including credit, asset type and industry, and liquidity needs, and can be expected to increase or decrease from time to time. Periodic fluctuations in the sales of securities is dependent upon, among other things, management’s assessment of credit risk, asset concentration, portfolio balance, liquidity and other factors.
(6) This change is primarily due to the unrealized loss on total rate of return swaps and the realized loss on the termination of derivative instruments.
(7) This change is due to impairment charges recorded in the three months ended March 31, 2008 as a result of continued credit market disruption.
(8) This change is primarily due to the gain on the repurchase of our own debt offset by the write off of deferred financing fees upon repayments of debt obligations.
(9) This change is primarily the result of a decrease in earnings from an unconsolidated subsidiary which owns franchise loans. A significant portion of the pool of loans was sold in December 2007.

 

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LIQUIDITY AND CAPITAL RESOURCES

Liquidity is a measurement of our ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund and maintain investments, and other general business needs. Additionally, to maintain our status as a REIT under the Internal Revenue Code, we must distribute annually at least 90% of our REIT taxable income. Our primary sources of funds for liquidity consist of net cash provided by operating activities, borrowings under loans, and the issuance of debt and equity securities when available. Additional sources of liquidity include investments that are readily saleable prior to their maturity. Our debt obligations are generally secured directly by our investment assets.

As of the date of this Quarterly Report on Form 10-Q, management believes that our cash on hand, when combined with our cash flow provided by operations, as well as proceeds from the repayment or sale of investments and borrowings, is sufficient to satisfy our liquidity needs with respect to our current investment portfolio. However, we may seek additional capital in order to grow our investment portfolio.

We expect to meet our long-term liquidity requirements, specifically the repayment of our debt obligations, through additional borrowings and the liquidation or refinancing of our assets at maturity. In this regard, we had unencumbered assets with a carrying value of approximately $208.7 million at March 31, 2008, excluding unrestricted cash of $100.9 million. We believe that the value of these assets is, and will continue to be, sufficient to repay our debt at maturity under either scenario. Our ability to meet our long-term liquidity requirements relating to capital required for the growth of our investment portfolio is subject to obtaining additional equity and debt financing. Decisions by investors and lenders to enter into such transactions with us will depend upon a number of factors, such as our historical and projected financial performance, compliance with the terms of our current credit arrangements, industry and market trends, the availability of capital and our investors’ and lenders’ policies and rates applicable thereto, and the relative attractiveness of alternative investment or lending opportunities. We strive to maintain access to a broad array of capital resources in an effort to insulate our business from potential fluctuations in the availability of capital.

Our ability to execute our business strategy, particularly the growth of our investment portfolio, depends to a significant degree on our ability to obtain additional capital. Our core business strategy is dependent upon our ability to finance our real estate securities, loans and other real estate related assets with match funded debt at rates that provide a positive net spread. Currently, spreads for such liabilities have widened and demand for such liabilities has become extremely limited, thereby restricting our ability to execute future financings. This restriction is exacerbated by the requirement to post margin on existing obligations.

As of May 8, 2008, we had an unrestricted cash balance of $123.0 million. Our cash flow provided by operations differs from our net income due to these primary factors: (i) accretion of discount or premium on our real estate securities and loans (including the accrual of interest and fees payable at maturity), discount on our debt obligations, deferred financing costs and interest rate cap premiums, and deferred hedge gains and losses, (ii) gains and losses from sales of assets financed with CBOs, (iii) the provision for credit losses recorded in connection with our loan assets, as well as other-than-temporary impairment recorded on our securities, (iv) unrealized gains or losses on our non-hedge derivatives, particularly our total rate of return swaps, and (v) the non-cash charges associated with our early extinguishment of debt. Proceeds from the sale of assets which serve as collateral for our CBO financings, including gains thereon, are required to be retained in the CBO structure until the related bonds are retired and are therefore not available to fund current cash needs outside of these structures. As of May 8, 2008, we had $62 million of restricted cash held in CBO financing structures pending its investment in real estate securities and loans.

Our match funded investments are financed under long-term arrangements and we continuously monitor their credit status. Consequently, we expect these investments to generate a generally stable current return, subject to interest rate fluctuations. See “Quantitative and Qualitative Disclosures About Market Risk — Interest Rate Exposure” below. Our remaining investments, generally financed with short term repurchase agreements, are also subject to refinancing risk upon the maturity of the related debt.

With respect to one of our real estate related loans, we were committed to fund up to an additional $82.6 million at March 31, 2008, subject to certain conditions to be met by the borrowers.

As described below, under “Interest Rate, Credit and Spread Risk,” we are subject to margin calls in connection with our assets financed with repurchase agreements or total rate of return swaps.

See “- Market Considerations” above for a further discussion of recent trends and events affecting our liquidity.

 

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Investment Portfolio

The following summarizes our investment portfolio at March 31, 2008 (dollars in millions).

 

    Outstanding
Face Amount
  Amortized
Cost Basis
    Percentage
of Amortized
Cost Basis
    Number of
Investments
  Credit (1)     Weighted
Average

Life
(years) (2)

Investment (3)

           

Commercial

           

CMBS

  $ 2,256   $ 2,170     34.2 %   256   BBB-     5.5

Mezzanine Loans

    816     813     12.8 %   23   68 %   3.4

B-Notes

    421     405     6.4 %   15   64 %   3.4

Whole Loans

    69     69     1.1 %   4   69 %   3.3

ICH Loans

    29     27     0.4 %   20   —       0.2
                           

Total Commercial Assets

    3,591     3,484     54.9 %       4.7
                           

Residential

           

Manufactured Housing and Residential Mortgage Loans

    621     596     9.4 %   15,522   696     5.6

Subprime Securities

    562     355     5.6 %   122   BB     4.6

Subprime Retained Securities

    76     54     0.8 %   6   B+     7.0

Subprime Residual Interests

    49     49     0.8 %   2   637     5.3

Real Estate ABS

    105     103     1.6 %   26   BBB-     4.8
                           
    1,413     1,157     18.2 %       5.2
                           

FNMA/FHLMC securities

    433     435     6.9 %   15   AAA     3.8
                           

Total Residential Assets

    1,846     1,592     25.1 %       4.8
                           

Corporate

           

REIT Debt

    653     664     10.5 %   65   BBB-     5.4

Corporate Bank Loans

    633     605     9.5 %   14   B     3.3
                           

Total Corporate Assets

    1,286     1,269     20.0 %       4.4
                           

TOTAL

  $ 6,723   $ 6,345     100.0 %       4.7
                           

Reconciliation to GAAP total assets:

           

Net unrealized losses recorded in accumulated other comprehensive income

      (748 )        

Total rate of return swaps (4)

      (99 )        

Other assets

           

Subprime mortgage loans subject to call option (5)

      394          

Real estate held for sale

      33          

Investments in joint ventures

      16          

Cash and restricted cash

      241          

Other

      72          
                 

GAAP total assets

    $ 6,254          
                 

 

(1)

Credit represents weighted average rating for rated assets, LTV for non-rated commercial assets, FICO score for non-rated residential assets and an implied AAA rating for FNMA/FHLMC securities.

(2)

Mezzanine loans, B-Notes and Whole loans are based on the fully extended maturity dates.

(3)

The following tables summarize certain supplemental data relating to our investments ($ in thousands):

CMBS

 

Deal Vintage (A)

   Average
Rating
   Number    Outstanding
Face Amount
   Amortized Cost
Basis
   Percentage of
Amortized Cost
Basis
    Delinquency
60+/FC/REO (B)
    Principal
Subordination
    Weighted
Average Life
(years)

Pre 2004

   BBB+    79    $ 411,450    $ 407,554    18.7 %   0.8 %   9.1 %   4.6

2004

   BBB-    59      435,908      428,683    19.8 %   0.1 %   5.2 %   5.8

2005

   BB+    50      586,384      553,621    25.5 %   0.2 %   4.3 %   6.5

2006

   BB+    36      448,919      428,903    19.8 %   0.4 %   5.6 %   3.9

2007

   BBB    32      373,624      351,182    16.2 %   0.1 %   8.7 %   6.6
                                              

Total/WA

   BBB-    256    $ 2,256,285    $ 2,169,943    100.0 %   0.3 %   6.3 %   5.5
                                              

 

(A) The year in which the securities were issued.
(B) The percentage of underlying loans that are 60+ days delinquent, or in foreclosure or considered real estate owned (REO).

WA - Weighted average, in all tables.

 

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Mezzanine Loans, B-notes and Whole Loan Portfolio

 

     Mezzanine     B-Note     Whole Loan     Total/WA  

Outstanding Face Amount

   $ 816,490     $ 421,104     $ 68,604     $ 1,306,198  

Amortized Cost Basis

   $ 812,860     $ 405,189     $ 68,580     $ 1,286,629  

Number

     23       15       4       42  

Weighted Average First $ Loan to Value

     57 %     48 %     0 %     52 %

Weighted Average Last $ Loan to Value

     68 %     64 %     69 %     68 %

Delinquency

     0 %     0 %     0 %     0 %

Manufactured Housing Loans

 

Deal

   Outstanding
Face Amount
   Amortized
Cost Basis
   Percentage
of Amortized
Cost Basis
    Weighted
Average
Loan
Age
(months)
   Original
Balance
   Delinquency
90+/FC/REO
(A)
    Actual
Cumulative
Loss to Date
    Projected
Cumulative
Loss to Date
 

Portfolio I

   $ 209,136    $ 195,577    39 %   80    $ 327,855    0.7 %   3.5 %   5.0 %

Portfolio II

     314,594      303,466    61 %   109      434,743    0.5 %   1.8 %   3.0 %
                                                  

Total/WA

   $ 523,730    $ 499,043    100 %   97    $ 762,598    0.6 %   2.4 %   3.8 %
                                                  

 

(A) The percentage of loans that are 90+ days delinquent, or in foreclosure or considered real estate owned (REO).

Subprime Securities

 

     Security Characteristics  

Vintage (A)

   Weighted
Average
Rating
   Number of
Securities
   Outstanding
Face Amount
   Amortized Cost
Basis (E)
   Percentage of
Amortized Cost
Basis
    Principal
Subordination (F)
    Excess
Spread
 

2003

   A-    16    $ 37,583    $ 35,771    10.1 %   21.8 %   3.2 %

2004

   BBB+    30      157,053      147,998    41.7 %   14.9 %   3.6 %

2005

   BBB-    44      200,167      159,138    44.8 %   14.8 %   4.4 %

2006

   CC+    29      159,497      11,095    3.2 %   3.8 %   2.8 %

2007

   CCC    3      7,750      832    0.2 %   10.6 %   2.8 %
                                          

Total/WA

   BB    122    $ 562,050    $ 354,834    100.0 %   12.1 %   3.6 %
                                          

 

     Collateral Characteristics  

Vintage (A)

   Average
Loan Age
(months)
   Collateral
Factor (B)
   3 month
CRR (D)
    Delinquency (C)     Cumulative Losses
to Date
 

2003

   55    0.20    15.7 %   9.9 %   2.1 %

2004

   45    0.24    19.3 %   14.4 %   1.5 %

2005

   32    0.36    23.3 %   23.2 %   1.7 %

2006

   20    0.68    17.8 %   24.1 %   1.5 %

2007

   12    0.88    11.3 %   16.7 %   0.2 %
                            

Total/WA

   34    0.41    19.9 %   20.0 %   1.6 %
                            

 

(A) The year in which the securities were issued.
(B) The ratio of original unpaid principal balance of loans still outstanding.
(C) The percentage of underlying loans that are 90+ days delinquent, or in foreclosure or considered real estate owned (REO).
(D) Three month average constant voluntary prepayment rate.
(E) Excludes subprime retained securities and residual interests of $102.7 million.
(F) The percentage of the amortized cost basis of securities and residual interests that is subordinate to our investments.

Subprime Residuals / Retained Securities

Represents $54.1 million and $48.6 million of amortized cost basis of retained bonds and residual interests, respectively, in the securitizations of Subprime Portfolios I and II. For further information on these securitizations, see Note 4 to our consolidated financial statements included herein. The following table summarizes our subprime portfolio securitizations:

 

Deal

   Outstanding
Face Amount
   Security Characteristics     Portfolio Characteristics  
      Amortized
Cost Basis
   Percentage of
Amortized Cost
Basis
    Average
Loan Age
(months)
   Original
Securitization
Balance
   Current
Balance
   Delinquency
90+/FC/REO
(A)
    Actual
Cumulative
Loss to Date
    Projected
Cumulative
Loss to Date
 

Portfolio I

   $ 55,492    $ 50,003    48.7 %   31    $ 1,502,181    $ 834,013    15.3 %   0.5 %   0.6 %

Portfolio II

     69,457      52,644    51.3 %   14      1,087,942      996,859    6.3 %   0.0 %   0.1 %
                                                         

Total/WA

   $ 124,949    $ 102,647    100.0 %   22    $ 2,590,123    $ 1,830,872    10.4 %   0.3 %   0.3 %
                                                         

 

(A) The percentage of loans that are 90+ days, or in foreclosure or considered real estate owned (REO).

 

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REIT Debt

 

Industry

   Average
Rating
   Number    Outstanding
Face
Amount
   Amortized
Cost Basis
   Percentage of
Amortized
Cost Basis
 

Retail

   BB+    16    $ 200,035    $ 202,895    30.6 %

Office

   BBB    14      132,919      136,055    20.5 %

Diversified

   BBB    14      151,463      152,159    22.9 %

Hotel

   BBB-    4      42,720      43,478    6.6 %

Multifamily

   BBB+    8      44,508      45,854    6.9 %

Healthcare

   BBB-    4      36,600      37,244    5.6 %

Industrial

   BBB    3      20,865      21,827    3.3 %

Storage

   A-    2      23,406      24,225    3.6 %
                              

Total/WA

   BBB-    65    $ 652,516    $ 663,737    100.0 %
                              

Corporate Bank Loans

 

Industry

   Average
Rating
   Number    Outstanding
Face
Amount
   Amortized
Cost Basis
   Percentage of
Amortized
Cost Basis
 

Real Estate

   B-    4    $ 174,336    $ 171,156    28.3 %

Resorts

   BB-    1      110,991      108,465    17.9 %

Media

   B+    1      112,000      101,221    16.7 %

Retail

   B-    1      100,000      95,035    15.7 %

Restaurant

   CCC+    2      44,363      40,201    6.6 %

Transportation

   C    2      37,000      35,146    5.8 %

Gaming

   B+    2      29,692      29,692    4.9 %

Theatres

   BB-    1      24,591      24,591    4.1 %
                              

Total/WA

   B    14    $ 632,973    $ 605,507    100.0 %
                              

 

(4)

Total rate of return swaps are reflected in the consolidated balance sheet on a net basis, as derivatives. For purposes of the investment statistics, they are reflected on a gross basis, based on the underlying reference asset. As of March 31, 2008, we held an aggregate of $124.0 million notional amount of total rate of return swaps (including an unfunded asset with a notional amount of $19.1 million) on 5 reference assets on which we had deposited $31.7 million of margin. These total rate of return swaps had an aggregate fair value of approximately ($5.7) million, a weighted average receive interest rate of LIBOR + 2.90%, a weighted average pay interest rate of LIBOR + 0.83%, and a weighted average maturity of 0.6 years.

(5)

The subprime mortgage loans subject to call option are excluded from the statistics because they result from an option, not an obligation, to repurchase such loans, are noneconomic until such option is exercised, and are offset by an equal liability on the consolidated balance sheet.

Debt Obligations

Our debt obligations, as summarized in Note 5 to our consolidated financial statements, existing at March 31, 2008 (gross of $25.2 million of discounts) had contractual maturities as follows (in thousands):

 

     Nonrecourse    Recourse (1)    Total

Period from April 1, 2008 through December 31, 2008

   $ —      $ 526,005    $ 526,005

2009

     179,163      144,429      323,592

2010

     —        40,000      40,000

2011

     286,779      —        286,779

2012

     —        —        —  

2013

     —        —        —  

Thereafter

     4,799,492      100,100      4,899,592
                    

Total

   $ 5,265,434    $ 810,534    $ 6,075,968
                    

 

(1) Subject to potential mandatory prepayments based on collateral value.

Certain of the debt obligations included above are obligations of our consolidated subsidiaries which own the related collateral. In some cases, including the CBO and Other Bonds Payable, such collateral is not available to other creditors of ours.

Our debt obligations contain various customary loan covenants. Such covenants do not, in management’s opinion, materially restrict our investment strategy or ability to raise capital. We are in compliance with all of our loan covenants as of March 31, 2008.

In January 2008, we repurchased $16.0 million face amount of a class of CBO bond for $6.7 million. As a result, $16.0 million face amount of CBO debt was extinguished.

In March 2008, we repurchased $2.9 million face amount of a class of CBO bond for $0.6 million. As a result, $2.9 million face amount of CBO debt was extinguished.


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In first quarter 2008, we sold face amounts of approximately $762.5 million of FNMA/FHLMC securities and $525.2 million of non-FNMA/FHLMC securities. Concurrent with the sales, we terminated the related interest rate swap and interest rate cap agreements which were de-designated as hedges for accounting purposes at December 31, 2007.

In first quarter 2008, we repaid $924.0 million of repurchase agreements and repaid in full the debt associated with our first CBO in the amount of $331.2 million.

Newcastle had one rolling term financing (in the form of a repurchase agreement) with a maximum maturity of February 2010, with a maximum draw of $400 million of which $61.4 million was drawn at March 31, 2008.

In April 2008, a $400 million term financing agreement was not extended. At such time, $99.6 million was drawn and the final maturity of such amount is April 2009.

In April 2008, a $400 million term financing agreement was not extended. At such time, $40.0 million was drawn and the final maturity of such amount is May 2010.

 

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The following table summarizes our CBO financings as of March 31, 2008 (dollars in thousands). The amounts reflect data at the unconsolidated CBO level and thus are different from the GAAP balance sheet due to intercompany amounts eliminated in consolidation.

 

    Portfolio V     Portfolio VI     Portfolio VII     Portfolio VIII     Portfolio IX     Portfolio X     Portfolio XI     Total /
Weighted
Average
 

Balance Sheet:

 

Asset Face Amount

  $       453,101     $       502,976     $       502,007     $       532,234     $       957,717     $       829,933     $       1,453,677     $ 5,231,645  

Asset Amortized Cost Basis

  $       449,841     $       500,843     $       466,639     $       488,513     $       863,204     $       803,190     $       1,363,419     $ 4,935,649  

Debt Carrying Value

    411,657        451,781        443,525        459,371        806,808        637,055        1,286,202        4,496,399  
                                                               

Invested Equity

  $       38,184     $       49,062     $       23,114     $       29,142     $       56,396     $       166,135     $       77,217     $ 439,250  
                                                               

Collateral Composition (1):

 

CMBS

    56.8 %   BBB       60.8 %   BBB       63.4 %   BBB       64.3 %   BBB       19.0 %   BB       11.5 %   BB+       50.5 %   BBB+       42.6 %

REIT Debt

    19.2 %   BBB       16.5 %   BBB       9.0 %   BBB+       11.3 %   BBB       4.7 %   BB       0.0 %   -       23.6 %   BBB       12.6 %

ABS

    17.4 %   A       22.7 %   A-       19.9 %   BBB       18.9 %   BBB       9.8 %   B       0.0 %   -       18.3 %   BBB+       14.4 %

Bank Loans

    2.2 %   B+       0.0 %   -       7.2 %   B+       5.1 %   B+       22.3 %   B       22.3 %   B-       4.8 %   B       10.4 %

Mezzanine Loans / B-Notes

    4.4 %   BB       0.0 %   -       0.0 %   -       0.0 %   -       34.4 %   B       63.4 %   B       0.0 %   -       16.9 %

CDO

    0.0 %   -       0.0 %   -       0.0 %   -       0.0 %   -       9.6 %   BBB-       1.7 %   A-       2.5 %   BBB+       2.7 %

Restricted Cash

    0.0 %   -       0.0 %   -       0.5 %   -       0.4 %   -       0.2 %   -       1.1 %   -       0.3 %   -       0.4 %
                                                               

Total

    100.0 %   BBB       100.0 %   BBB       100.0 %   BBB-       100.0 %   BBB       100.0 %   B+       100.0 %   B-       100.0 %   BBB       100.0 %
                                                               

CBO Overview:

 

Effective Date

    Sep-04         Feb-05         Aug-05         Jan-06         Mar-07         Jul-07         Dec-07      

Reinvestment Period Ends (2)

    Mar-09         Sep-09         Apr-10         Dec-10         Nov-11         May-12         Jul-12      

Optional Call Date (3)

    Jun-07         Dec-07         May-08         Jan-09         Dec-09         Jun-10         Aug-10      

Auction Call Date (4)

    Mar-14         Sep-14         Apr-15         Dec-15         Nov-16         May-17         Jul-17      

Avg Debt Spread (bps) (5)

    53         45         33         35         48         39         32         40  

CBO Cashflow Triggers (6):

 

Over Collateralization

 

Effective Date

    109.4 %       110.0 %       111.9 %       113.4 %       113.2 %       116.1 %       109.8 %       112.0 %

Current

    108.7 %       110.5 %       112.1 %       115.0 %       111.4 %       115.5 %       111.6 %       112.2 %

Trigger

    105.9 %       107.5 %       109.3 %       110.9 %       108.7 %       108.0 %       101.5 %       106.5 %

Interest Coverage

 

Current

    120.8 %       122.8 %       140.4 %       117.1 %       154.0 %       149.5 %       132.2 %       136.3 %

Trigger

    106.0 %       106.0 %       106.0 %       106.0 %       106.0 %       103.0 %       107.0 %       105.8 %

 

(1) Collateral amounts represent amortized cost basis and include CDO bonds of $116.3 million and other bonds of $92.7 million issued by Newcastle.
(2) Our CBO financings typically have a 5 year reinvestment period. Generally, after such period ends, principal payments on the collateral are used to pay down the most senior debt outstanding. Prior to the end of the reinvestment period, principal payments on the collateral are reinvested. Given the current market conditions where credit spreads are widening, these proceeds may potentially be reinvested at higher credit spreads.
(3) At the option call date, Newcastle, as the equity holder, has the right to pay off the CBO bonds at their related redemption price. The funds needed to pay the debt could be raised either through a sale or refinancing of the collateral.
(4) At the auction call date, there is a mandatory auction of the assets. If the prices bid are sufficient to pay off the outstanding CBO bonds, the assets will be sold and the CBO bonds will be redeemed.
(5) Debt spread represents the spread above the benchmark interest rate (LIBOR or U.S. Treasuries) that Newcastle pays on its debt.
(6) Each of our CBO financings contains tests which measure the amount of over collateralization and excess interest in the transaction. Failure to satisfy these tests would result in principal and/or interest cashflow that would otherwise be distributed to more junior classes of securities (including those held by Newcastle) to be redirected to pay down the most senior class of securities outstanding until the tests are satisfied. The data presented is as of the most recent remittance date on or before March 31, 2008 and may have changed subsequent to that date.

 

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Stockholders’ Equity

Common Stock

The following table presents information on shares of our common stock issued during the three months ended March 31, 2008:

 

Shares Issued

   Range of Issue
Prices (1)
    Net Proceeds
(millions)
   Option Granted to
Manager

1,250

   N/A  (2)   $ 0.00    N/A

 

(1) Excludes prices of shares issued pursuant to the exercise of options and of shares issued to our independent directors.
(2) The only shares issued during this period were to our independent directors.

At March 31, 2008, we had 52,780,429 shares of common stock outstanding.

As of March 31, 2008, our outstanding options were summarized as follows:

 

Held by the Manager

   1,549,340

Issued to the Manager and subsequently transferred to certain of the Manager’s employees

   935,269

Held by the independent directors

   14,000
    

Total

   2,498,609
    

As of March 31, 2008, approximately 5.1 million shares of our common stock were held by our manager, through affiliates, and its principals.

In March 2008, our board of directors approved expanding the previously approved share repurchase to allow a potential repurchase of up to $125 million of our common stock. As of May 8, 2008, no shares have been repurchased.

Accumulated Other Comprehensive Income (Loss)

During the three months ended March 31, 2008, our accumulated other comprehensive income (loss) changed due to the following factors (in thousands):

 

Accumulated other comprehensive income (loss), December, 31, 2007

   $ (502,516 )

Net unrealized gain (loss) on securities

     (332,119 )

Reclassification of net realized (gain) loss on securities into earnings

     (7,439 )

Foreign currency translation

     (598 )

Net unrealized gain (loss) on derivatives designated as cash flow hedges

     (114,684 )

Reclassification of net realized (gain) loss on derivatives designated as cash flow hedges into earnings

     (305 )
        

Accumulated other comprehensive (loss), March 31, 2008

   $ (957,661 )
        

Our book equity changes as our real estate securities portfolio and derivatives are marked to market each quarter, among other factors. The primary causes of mark to market changes are changes in interest rates and credit spreads. During the period, sharply widening credit spreads have resulted in a net increase in unrealized losses on our real estate securities and derivatives. While such an environment resulted in a decrease in the fair value of our existing securities portfolio and, therefore, reduced our book equity and ability to realize gains on such existing securities, it did not directly affect our current cash flow or our ability to pay dividends.

See “- Market Considerations” above for a further discussion of recent trends and events affecting our unrealized gains and losses as well as our liquidity.

Common Dividends

 

Declared for the Period Ended

  

Paid

  

Amount

Per Share

March 31, 2008

   April 2008    $0.25

 

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Cash Flow

Net cash flow provided by (used in) operating activities increased to $37.6 million for the three months ended March 31, 2008 from ($1,002.2) million for the three months ended March 31, 2007. This change primarily resulted from the acquisition and settlement of our investments as described above, and the performance thereof. The three months ended March 31, 2007 included the purchase of loans held for sale of $992.0 million.

Investing activities provided (used) $1,265.7 million and ($649.2) million during the three months ended March 31, 2008 and 2007, respectively. Investing activities consisted primarily of investments made in certain real estate securities, loans and other real estate related assets, net of proceeds from the sale or settlement of investments.

Financing activities provided (used) ($1,241.2) million and $1,649.9 million during the three months ended March 31, 2008 and 2007, respectively. The equity issuances, borrowings and debt issuances described above served as the primary sources of cash flow from financing activities. Offsetting uses included the payment of related deferred financing costs, the payment of dividends, and the repayment of debt as described above.

See the consolidated statements of cash flows included in our consolidated financial statements included herein for a reconciliation of our cash position for the periods described herein.

INTEREST RATE, CREDIT AND SPREAD RISK

We are subject to interest rate, credit and spread risk with respect to our investments. These risks are further described in “Quantitative and Qualitative Disclosures About Market Risk.”

OFF-BALANCE SHEET ARRANGEMENTS

As of March 31, 2008, we had two material off-balance sheet arrangements. We believe that these off-balance sheet structures presented the most efficient and least expensive form of financing for these assets at the time they were entered, and represented the most common market-accepted method for financing such assets.

 

 

In April 2006, we securitized our Subprime Portfolio I. The loans were sold to a securitization trust, of which 80% were treated as a sale, which is an off-balance sheet financing as described in “- Liquidity and Capital Resources.”

 

 

In July 2007, we securitized our Subprime Portfolio II. The loans were sold to a securitization trust, of which 90% were treated as a sale, which is an off-balance sheet financing as described in “- Liquidity and Capital Resources.”

We have no obligation to repurchase any loans from either of our subprime securitizations. Therefore, it is expected that our exposure to loss is limited to the carrying amount of our retained interests in the securitization entities, as described above. A subsidiary of ours gave limited representations and warranties with respect to the second securitization; however, it has no assets and does not have recourse to the general credit of Newcastle.

We also had the following arrangements which do not meet the definition of off-balance sheet arrangements, but do have some of the characteristics of off-balance sheet arrangements.

 

 

We are party to total rate of return swaps which are treated as non-hedge derivatives. For further information on these investments, see “– Liquidity and Capital Resources.”

 

 

We have made investments in four unconsolidated subsidiaries.

In each case, our exposure to loss is limited to the carrying (fair) value of our investment, except for the total rate of return swaps where our exposure to loss is limited to their fair value plus their notional amount.

CONTRACTUAL OBLIGATIONS

During the first three months of 2008, we had all of the material contractual obligations referred to in our annual report on Form 10-K for the year ended December 31, 2007, excluding the debt which was repaid, and the related hedges which were terminated, as described in “– Liquidity and Capital Resources,” as well as the following:

 

Contract Category

  

Change

Repurchase agreements

   In April 2008, two of the term financing facilities, in the form of repurchase agreements, were not extended.

The terms of these contracts are described under “Quantitative and Qualitative Disclosures About Market Risk” below.

INFLATION

We believe that our risk of increases in the market interest rates on our floating rate debt as a result of inflation is largely offset by our use of match funding and hedging instruments as described above. See “Quantitative and Qualitative Disclosure About Market Risk — Interest Rate Exposure” below.

 

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FUNDS FROM OPERATIONS

We believe FFO is one appropriate measure of the operating performance of real estate companies. We also believe that FFO is an appropriate supplemental disclosure of operating performance for a REIT due to its widespread acceptance and use within the REIT and analyst communities. Furthermore, FFO is used to compute our incentive compensation to the Manager. FFO, for our purposes, represents net income available for common stockholders (computed in accordance with GAAP), excluding extraordinary items, plus depreciation of operating real estate, and after adjustments for unconsolidated subsidiaries, if any. We consider gains and losses on resolution of our investments to be a normal part of our recurring operations and therefore do not exclude such gains and losses when arriving at FFO. Adjustments for unconsolidated subsidiaries, if any, are calculated to reflect FFO on the same basis. FFO does not represent cash generated from operating activities in accordance with GAAP and therefore should not be considered an alternative to net income as an indicator of our operating performance or as an alternative to cash flow as a measure of liquidity and is not necessarily indicative of cash available to fund cash needs. Our calculation of FFO may be different from the calculation used by other companies and, therefore, comparability may be limited.

As a result of the sale or expected sale of all of our operating real estate, and the resultant discontinuation of depreciation, our income (loss) applicable to common stockholders is now equal to our FFO. Funds from Operations (FFO) is calculated as follows (in thousands):

 

     For the Three
Months Ended
March 31, 2008
 

Income (loss) applicable to common stockholders

   $ (44,279 )

Operating real estate depreciation

     —    
        

Funds from Operations (FFO)

   $ (44,279 )
        

Funds from Operations was derived from our segments as follows (in thousands):

 

     Book Equity at
March 31, 2008
    Average Invested
Common Equity for the
Three Months Ended
March 31, 2008(2)
    FFO for the
Three
Months
Ended
March 31,
2008
    Return on
Invested
Common
Equity
(ROE) (3)
 

Real estate securities and real estate related loans

   $ 658,389     $ 772,184     $ (32,332 )   (16.75 )%

Residential mortgage loans

     198,536       152,454       2,719     7.13 %

Operating real estate

     49,059       51,497       (3,099 )   (24.07 )%

Unallocated (1)

     (159,596 )     (179,312 )     (11,567 )   N/A  
                              

Total (2)

     746,388     $ 796,823     $ (44,279 )   (22.23 )%
                        

Preferred stock

     152,500        

Accumulated depreciation

     (6,206 )      

Accumulated other comprehensive income (loss)

     (957,661 )      
              

Net book equity

   $ (64,979 )      
              

 

(1) Unallocated FFO represents ($3,375) of preferred dividends, ($1,895) of interest on our junior subordinated notes payable, and ($6,297) of corporate general and administrative expenses, management fees and incentive compensation for the three months ended March 31, 2008.
(2) Invested common equity is equal to book equity excluding preferred stock, accumulated depreciation and accumulated other comprehensive income (loss).
(3) FFO divided by average invested common equity, annualized.

As a result of the effect of the other-than-temporary impairment on our FFO, we expect that there will be no incentive compensation payable to the Manager for an indeterminable amount of time.

RELATED PARTY TRANSACTIONS

As of March 31, 2008, we held on our balance sheet total investments of $240.7 million amortized cost basis of real estate securities and related loans issued by affiliates of our manager and $56.5 million face amount of real estate loans issued by affiliates of our manager financed under total rate of return swaps and earned approximately $5.4 million of interest on such investments for the three months ended March 31, 2008.

 

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market risk is the exposure to loss resulting from changes in interest rates, credit spreads, foreign currency exchange rates, commodity prices and equity prices. The primary market risks that we are exposed to are interest rate risk and credit spread risk. These risks are highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations and other factors beyond our control. All of our market risk sensitive assets, liabilities and related derivative positions are for non-trading purposes only. For a further understanding of how market risk may affect our financial position or operating results, please refer to “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Application of Critical Accounting Policies.”

Interest Rate Exposure

Changes in interest rates, including changes in expected interest rates or “yield curves,” affect our investments in two distinct ways, each of which is discussed below.

First, changes in interest rates affect our net interest income, which is the difference between the interest income earned on assets and the interest expense incurred in connection with our debt obligations and hedges.

Our general financing strategy focuses on the use of match funded structures. This means that we seek to match the maturities of our debt obligations with the maturities of our assets to minimize the risk that we have to refinance our liabilities prior to the maturities of our assets, and to reduce the impact of changing interest rates on our earnings. In addition, we generally match fund interest rates on our assets with like-kind debt (i.e., fixed rate assets are financed with fixed rate debt and floating rate assets are financed with floating rate debt), directly or through the use of interest rate swaps, caps or other financial instruments (see below), or through a combination of these strategies, which also allows us to reduce the impact of changing interest rates on our earnings.

However, increases in interest rates can nonetheless reduce our net interest income to the extent that we are not completely match funded. Furthermore, a period of rising interest rates can negatively impact our return on certain floating rate investments. Although these investments may be financed with floating rate debt, the interest rate on the debt may reset prior to, and in some cases more frequently than, the interest rate on the assets, causing a decrease in return on equity during a period of rising interest rates.

As of March 31, 2008, a 100 basis point increase in short term interest rates would increase our earnings by approximately $0.7 million per annum.

Second, changes in the level of interest rates also affect the yields required by the marketplace on debt. Increasing interest rates would decrease the value of the fixed rate assets we hold at the time because higher required yields result in lower prices on existing fixed rate assets in order to adjust their yield upward to meet the market.

We generally have the intent and ability to hold our assets until maturity. Such assets are considered available for sale and may be sold prior to maturity on an opportunistic basis or for other reasons.

Changes in unrealized gains or losses resulting from changes in market interest rates do not directly affect our cash flows, or our ability to pay a dividend, as the related assets are expected to be held and their fair value is not relevant to their underlying cash flows. Our assets are largely financed to maturity through long term CBO financings that are not redeemable as a result of book value changes. As long as these fixed rate assets continue to perform as expected, our cash flows from these assets would not be affected by increasing interest rates. Changes in unrealized gains or losses would impact our ability to realize gains on existing investments if they were sold. Furthermore, with respect to changes in unrealized gains or losses on investments which are carried at fair value, changes in unrealized gains or losses would impact our net book value and, in the case of non-hedge derivatives, our net income.

Changes in the value of our assets could affect our ability to borrow and access capital. Also, if the value of our assets subject to repurchase agreements were to decline, it could cause us to fund margin and affect our ability to refinance such assets upon the maturity of the related repurchase agreements, adversely impacting our rate of return on such securities.

As of March 31, 2008, a 100 basis point change in short term interest rates would impact our net book value by approximately $49.9 million.

Interest rate swaps are agreements in which a series of interest rate flows are exchanged with a third party (counterparty) over a prescribed period. The notional amount on which swaps are based is not exchanged. In general, our swaps are “pay fixed” swaps involving the exchange of floating rate interest payments from the counterparty for fixed interest payments from us. This can effectively convert a floating rate debt obligation into a fixed rate debt obligation.

 

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Similarly, an interest rate cap or floor agreement is a contract in which we purchase a cap or floor contract on a notional face amount. We will make an up-front payment to the counterparty for which the counterparty agrees to make future payments to us should the reference rate (typically LIBOR) rise above (cap agreements) or fall below (floor agreements) the “strike” rate specified in the contract. Payments on an annualized basis will equal the contractual notional face amount multiplied by the difference between the actual reference rate and the contracted strike rate.

While a REIT may utilize these types of derivative instruments to hedge interest rate risk on its liabilities or for other purposes, such derivative instruments could generate income that is not qualified income for purposes of maintaining REIT status. As a consequence, we may only engage in such instruments to hedge such risks within the constraints of maintaining our standing as a REIT. We do not enter into derivative contracts for speculative purposes nor as a hedge against changes in credit risk.

Our hedging transactions using derivative instruments also involve certain additional risks such as counterparty credit risk, the enforceability of hedging contracts and the risk that unanticipated and significant changes in interest rates will cause a significant loss of basis in the contract. The counterparties to our derivative arrangements are major financial institutions with high credit ratings with which we and our affiliates may also have other financial relationships. As a result, we do not anticipate that any of these counterparties will fail to meet their obligations. There can be no assurance that we will be able to adequately protect against the foregoing risks and will ultimately realize an economic benefit that exceeds the related amounts incurred in connection with engaging in such hedging strategies.

Credit Spread Exposure

Credit spreads measure the yield demanded on loans and securities by the market based on their credit relative to U.S. Treasuries, for fixed rate credit, or LIBOR, for floating rate credit. Our fixed rate loans and securities are valued based on a market credit spread over the rate payable on fixed rate U.S. Treasuries of like maturity. Our floating rate loans and securities are valued based on a market credit spread over LIBOR. Excessive supply of such loans and securities combined with reduced demand will generally cause the market to require a higher yield on such loans and securities, resulting in the use of a higher (or “wider”) spread over the benchmark rate to value them.

Changes in credit spreads affect our investments in two distinct ways, each of which is discussed below.

First, widening credit spreads would result in higher yields being required by the marketplace on loans and securities. This widening would reduce the value of the loans and securities we hold at the time because higher required yields result in lower prices on existing securities in order to adjust their yield upward to meet the market. The effects of such a decrease in values on our financial position, results of operations and liquidity are discussed above under “- Interest Rate Exposure.”

As of March 31, 2008, a 25 basis point movement in credit spreads would impact our net book value by approximately $26.5 million, but would not directly affect our earnings or cash flow.

Our financing strategy is dependent on our ability to place the match funded debt we use to finance our investments at rates that provide a positive net spread. Currently, spreads for such liabilities have widened and demand for such liabilities has become extremely limited, therefore restricting our ability to execute future financings.

However, a second impact of widening of credit spreads is that it would also result in increased yields on new investments we purchase during or subsequent to the widening, thereby benefiting our ongoing investment activities, as we would earn a higher yield on the same investment amount in comparison to the investing environment prior to such widening. As noted in “- Market Considerations” above, we could only take advantage of these investment opportunities if we have sufficient liquidity and financing is available on favorable terms.

In an environment where spreads are tightening, if spreads tighten on the assets we purchase to a greater degree than they tighten the liabilities we issue, our net spread will be reduced.

Credit Risk

In addition to the above described market risks, Newcastle is subject to credit risk.

Credit risk refers to the ability of each individual borrower under our loans and securities to make required interest and principal payments on the scheduled due dates. The commercial mortgage and asset backed securities we invest in are generally junior in right of payment of interest and principal to one or more senior classes, but benefit from the support of one or more subordinate classes of securities or other form of credit support (which absorbs losses before the securities in which we invest) within a securitization transaction. The senior unsecured REIT debt securities we invest in reflect comparable credit risk. We also invest in loans and securities which represent “first loss” pieces; in other words, they do not benefit from credit support although we believe they predominantly benefit from underlying collateral value well in excess of their carrying amounts.

We believe, based on our due diligence process, that these assets offer attractive risk-adjusted returns with long term principal protection under a variety of default and loss scenarios. We further minimize credit risk by actively monitoring our asset

 

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portfolio and the underlying credit quality of our holdings and, where appropriate, repositioning our investments to upgrade their credit quality. In the event of a significant rising interest rate environment and/or economic downturn, loan and collateral defaults may increase and result in credit losses that would adversely affect our liquidity and operating results. As described above in “- Market Considerations” and elsewhere in this quarterly report, adverse market and credit conditions have resulted in our recording of other-than-temporary impairment in certain securities.

Margin

Certain of our investments are financed through repurchase agreements or total return swaps which are subject to margin calls based on the value of such investments. Margin calls resulting from decreases in value related to rising interest rates are substantially offset by our ability to make margin calls on our interest rate derivatives. We seek to maintain adequate cash reserves and other sources of available liquidity to meet any margin calls resulting from decreases in value related to a reasonably possible (in the opinion of management) widening of credit spreads.

Fair Values

Fair values for a majority of our investments are readily obtainable through broker quotations. For certain of our financial instruments, fair values are not readily available since there are no active trading markets as characterized by current exchanges between willing parties or due to market conditions. Accordingly, fair values can only be derived or estimated for these instruments using various valuation techniques, such as computing the present value of estimated future cash flows using discount rates commensurate with the risks involved. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Application of Critical Accounting Policies.” However, the determination of estimated future cash flows is inherently subjective and imprecise. We note that minor changes in assumptions or estimation methodologies can have a material effect on these derived or estimated fair values, and that the fair values reflected in our consolidated financial statements are indicative of the interest rate and credit spread environments as of March 31, 2008 and do not take into consideration the effects of subsequent interest rate or credit spread fluctuations.

We note that the values of our investments in real estate securities, loans and derivative instruments are sensitive to changes in market interest rates, credit spreads and other market factors. The value of these investments can vary, and has varied, materially from period to period.

Trends

See “- Market Considerations” above for a further discussion of recent trends and events affecting our liquidity, unrealized gains and losses.

Interest Rate and Credit Spread Risk Sensitive Instruments

Our holdings of such financial instruments are detailed in Note 6 of our consolidated financial statements included herein. For information regarding the impact of prepayment, reinvestment, and expected loss factors on the timing of realization of our investments, please refer to the consolidated financial statements included in this Form 10-Q as well as our most recent annual consolidated financial statements included in our Form 10-K.

 

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ITEM 4. CONTROLS AND PROCEDURES

 

(a) Disclosure Controls and Procedures. The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report. The Company’s disclosure controls and procedures are designed to provide reasonable assurance that information is recorded, processed, summarized and reported accurately and on a timely basis. Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures are effective.

 

(b) Internal Control Over Financial Reporting. There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

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PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings

The Company is not party to any material legal proceedings.

 

Item 1A. Risk Factors

There have been no material changes from the risk factors previously disclosed in the registrant’s Form 10-K for the year ended December 31, 2007.

CAUTIONARY NOTE REGARDING FORWARD LOOKING STATEMENTS

This report contains certain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements relate to, among other things, the operating performance of our investments, the stability of our earnings, and our financing needs. Forward-looking statements are generally identifiable by use of forward-looking terminology such as “may,” “will,” “should,” “potential,” “intend,” “expect,” “endeavor,” “seek,” “anticipate,” “estimate,” “overestimate,” “underestimate,” “believe,” “could,” “project,” “predict,” “continue” or other similar words or expressions. Forward-looking statements are based on certain assumptions, discuss future expectations, describe future plans and strategies, contain projections of results of operations or of financial condition or state other forward-looking information. Our ability to predict results or the actual outcome of future plans or strategies is inherently uncertain. Although we believe that the expectations reflected in such forward-looking statements are based on reasonable assumptions, our actual results and performance could differ materially from those set forth in the forward-looking statements. These forward-looking statements involve risks, uncertainties and other factors that may cause our actual results in future periods to differ materially from forecasted results. Factors which could have a material adverse effect on our operations and future prospects include, but are not limited to:

 

   

our ability to take advantage of opportunities in additional asset classes at attractive risk-adjusted prices;

 

   

our ability to deploy capital accretively;

 

   

the risks that default and recovery rates on our loan portfolios exceed our underwriting estimates;

 

   

the relationship between yields on assets which are paid off and yields on assets in which such monies can be reinvested;

 

   

the relative spreads between the yield on the assets we invest in and the cost of financing;

 

   

changes in economic conditions generally and the real estate and bond markets specifically;

 

   

adverse changes in the financing markets we access affecting our ability to finance our investments, or in a manner that maintains our historic net spreads;

 

   

changing risk assessments by lenders that potentially lead to increased margin calls or not extending our repurchase agreements in accordance with their current terms;

 

   

changes in interest rates and/or credit spreads, as well as the success of our hedging strategy in relation to such changes;

 

   

the quality and size of the investment pipeline and the rate at which we can invest our cash, including cash inside our CBOs;

 

   

impairments in the value of the collateral underlying our investments and the relation of any such impairments to our judgments as to whether changes in the market value of our securities, loans or real estate are temporary or not and whether circumstances bearing on the value of such assets warrant changes in carrying values;

 

   

legislative/regulatory changes;

 

   

completion of pending investments;

 

   

the availability and cost of capital for future investments;

 

   

competition within the finance and real estate industries; and

 

   

other risks detailed from time to time below, particularly under the heading “Risk Factors,” and in our other SEC reports.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. The factors noted above could cause our actual results to differ significantly from those contained in any forward-looking statement.

Readers are cautioned not to place undue reliance on any of these forward-looking statements, which reflect our management’s views only as of the date of this report. We are under no duty to update any of the forward-looking statements after the date of this report to conform these statements to actual results.

 

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

None.

 

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Item 3. Defaults upon Senior Securities

None.

 

Item 4. Submission of Matters to a Vote of Security Holders

None.

 

Item 5. Other Information

None.

 

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Item 6. Exhibits

 

  3.1

   Articles of Amendment and Restatement (incorporated by reference to the Registrant’s Registration Statement on Form S-11 (File No. 333-90578), Exhibit 3.1).

  3.2

   Articles Supplementary Relating to the Series B Preferred Stock (incorporated by reference to the Registrant’s Quarterly Report on Form 10-Q for the period ended March 31, 2003, Exhibit 3.3).

  3.3

   Articles Supplementary Relating to the Series C Preferred Stock (incorporated by reference to the Registrant’s Report on Form 8-K, Exhibit 3.3, filed on October 25, 2005).

  3.4

   Articles Supplementary Relating to the Series D Preferred Stock (incorporated by reference to the Registrant’s Report on Form 8-A, Exhibit 3.1, filed on March 14, 2007).

  3.5

   Amended and Restated By-laws (incorporated by reference to the Registrant’s Registration Statement on Form 8-K, Exhibit 3.1, filed on May 5, 2006).

  4.1

   Rights Agreement between the Registrant and American Stock Transfer and Trust Company, as Rights Agent, dated October 16, 2002 (incorporated by reference to the Registrant’s Quarterly Report on Form 10-Q for the period ended September 30, 2002, Exhibit 4.1).

10.1

   Amended and Restated Management and Advisory Agreement by and among the Registrant and Fortress Investment Group LLC, dated June 23, 2003 (incorporated by reference to the Registrant’s Registration Statement on Form S-11 (File No. 333-106135), Exhibit 10.1).

10.2

   Newcastle Investment Corp. Nonqualified Stock Option and Incentive Award Plan Amended and Restated Effective as of February 11, 2004 (incorporated by reference to the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2005, Exhibit 10.2).

21.1

   Subsidiaries of the Registrant (incorporated by reference to the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2007, Exhibit 21.1)

31.1

   Certification of Chief Executive Officer as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2

   Certification of Chief Financial Officer as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1

   Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2

   Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized:

NEWCASTLE INVESTMENT CORP.

(Registrant)

 

/s/ Kenneth M. Riis

Name:   Kenneth M. Riis
Title:   Chief Executive Officer and President
Date:   May 12, 2008

/s/ Debra A. Hess

Name:   Debra A. Hess
Title:   Chief Financial Officer
Date:   May 12, 2008

 

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