Business Context and Reporting Period
Company: Chimera Investment Corporation (Chimera)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 2008
Business Overview: Chimera is a specialty finance company and Real Estate Investment Trust (REIT) managed by Fixed Income Discount Advisory Company (FIDAC), a subsidiary of Annaly Capital Management. The company invests in residential mortgage loans, mortgage-backed securities (RMBS), and other asset classes. The reporting period coincides with severe dislocation in the global financial markets, including the failure of Lehman Brothers and the conservatorship of Fannie Mae and Freddie Mac.
Key Financial Metrics
| Metric | Quarter Ended Sep 30, 2008 | Nine Months Ended Sep 30, 2008 | Dec 31, 2007 (Balance Sheet) |
|---|---|---|---|
| Net Interest Income | $7.9 million | $32.0 million | - |
| Net Loss | $(107.6) million | $(128.6) million | - |
| Net Loss Per Share (Basic/Diluted) | $(2.76) | $(3.30) | - |
| Total Assets | $1.37 billion | - | $1.57 billion |
| Total Liabilities | $1.13 billion | - | $1.03 billion |
| Stockholders' Equity | $240.9 million | - | $538.9 million |
| Cash and Cash Equivalents | $6.2 million | - | $6.0 million |
| Debt-to-Equity Ratio | 4.6:1 | - | 0.5:1 |
| Net Interest Spread | 0.71% | 1.21% (9-month) | 1.94% (2007) |
Material Changes vs. Prior Period
- Significant Realized Losses: The company reported a net loss of $107.6 million for the quarter, driven primarily by realized losses of $113.1 million on the sale of $432.6 million in AAA-rated non-Agency RMBS and $10.5 million on the termination of interest rate swaps. This contrasts with the prior year period where the company had not yet commenced operations (IPO November 2007).
- Equity Erosion: Stockholders' equity declined from $538.9 million at December 31, 2007, to $240.9 million at September 30, 2008. This reduction is due to accumulated net losses and a $138.3 million accumulated other comprehensive loss driven by unrealized losses on available-for-sale securities.
- Portfolio Restructuring: The company shifted its asset mix. As of September 30, 2008, the portfolio consisted of $759.4 million in RMBS and $598.0 million in securitized loans. The company terminated all interest rate swaps outstanding at year-end 2007.
- Leverage Increase: Leverage increased significantly from 0.5:1 at year-end 2007 to 4.6:1 at September 30, 2008, reflecting increased borrowing to fund the portfolio despite market constraints.
Guidance, Outlook, and Risks
- Market Conditions: Management highlights extreme volatility and illiquidity in the non-Agency mortgage sector. Financing costs have risen, and availability has tightened. The company expects to operate with a low level of leverage to protect liquidity.
- Capital Raise: Subsequent to the reporting period (October 2008), the company announced a public offering of 110 million shares at $2.25 per share, with estimated net proceeds of approximately $300 million, to bolster capital resources.
- Management Fee Reduction: In October 2008, the management agreement with FIDAC was amended to reduce the base management fee from 1.75% to 1.50% per annum and eliminate the incentive fee entirely.
- Risk Factors:
- Liquidity Risk: Heavy reliance on repurchase agreements, with approximately 56% of financing provided by Annaly Capital Management. Margin calls could force asset sales at depressed prices.
- Valuation Risk: Difficulty in obtaining third-party pricing for illiquid assets; fair value measurements rely heavily on internal models (Level 3 assets totaled $5.2 million).
- Interest Rate Risk: Mismatches between asset yields and borrowing costs, particularly with adjustable-rate mortgages subject to caps while borrowing costs are uncapped.
Investor Verification Checklist
- Financing Concentration: Verify the stability of the $619.7 million repurchase agreement with Annaly Capital Management, which represents the majority of the company's short-term debt.
- Asset Valuation: Review the methodology for valuing Level 3 assets ($5.2 million) and the $140.2 million in gross unrealized losses on RMBS to assess the risk of other-than-temporary impairment.
- Cash Flow Sufficiency: Confirm that the $6.2 million cash balance and the proceeds from the October 2008 equity offering are sufficient to meet margin calls and dividend obligations ($0.16/share declared) in a frozen credit market.
- Realized Losses: Analyze the $123.6 million in total realized losses (asset sales + swap terminations) to understand the impact on future earnings and book value.
- Management Fee Impact: Assess the long-term cost savings from the reduction of the management fee to 1.50% and the elimination of incentive fees.