Annaly Capital Management, Inc. — 2009 Form 10-K
Business context and reporting period. This annual report covers the fiscal year ended December 31, 2009; quarterly figures below refer to the fourth quarter. Annaly is a mortgage REIT that primarily invests, on a leveraged basis, in agency mortgage-backed securities (MBS), financing them mainly through repurchase agreements. Subsidiaries provide investment-advisory and broker-dealer services. The company reported that substantially all of its MBS carried an actual or implied AAA rating.
Key financial metrics
| Metric | FY 2009 / Dec. 31, 2009 | Prior comparable period |
|---|---|---|
| Interest income | $2.923 billion | $3.115 billion in FY 2008 |
| Net interest income | $1.627 billion | $1.227 billion in FY 2008 |
| Net income | $1.961 billion; $3.55 basic EPS available to common shareholders | $346.2 million; $0.64 basic EPS in FY 2008 |
| Net interest rate spread | 2.52% for FY; 2.79% in Q4 | 1.81% for FY 2008; 2.65% in Q3 2009 |
| Assets and equity | $69.376 billion in assets; $9.554 billion in stockholders’ equity | $57.598 billion in assets; $7.183 billion in equity at Dec. 31, 2008 |
| Repurchase-agreement debt and leverage | $54.598 billion; debt-to-equity 5.7:1 | $46.675 billion; 6.4:1 at Dec. 31, 2008 |
| Liquidity | $1.505 billion cash and cash equivalents; no unsatisfied repo margin calls reported through year-end | $909.4 million cash at Dec. 31, 2008 |
| Portfolio and funding yields | Investment Securities weighted-average yield 4.51%; year-end repo cost of funds 2.11% after swaps | 5.15% portfolio yield; 4.08% year-end repo cost after swaps in 2008 |
| Common dividends | $2.54 per share declared for FY; $0.50 in Q4 | $2.08 per share for FY 2008; $0.50 in Q4 2008 |
Q4 2009 net income available to common shareholders was $724.7 million, or $1.31 per basic share, versus $280.6 million, or $0.51, in Q3. Q4 net interest income was $464.9 million, up from $436.7 million in Q3.
Cash flow, portfolio, and material changes
- Cash from operating activities was $10.818 billion, investing activities used $7.338 billion, and financing activities used $2.884 billion; cash increased $595.2 million to $1.505 billion. Operating cash flow includes substantial matched broker-dealer repo activity, so it should not be read as a simple measure of recurring earnings.
- Year-end Investment Securities had $62.509 billion principal and $65.721 billion fair value, including MBS and agency debentures. Approximately 74% of MBS principal was fixed rate and 26% adjustable rate; adjustable-rate securities had a 33-month weighted-average term to next reset.
- FY net interest income rose $400.3 million as average funding cost fell to 2.47% from 3.76%, more than offsetting the decline in average asset yield to 4.99% from 5.57%. Average earning assets were $58.6 billion.
- Net income’s increase was also driven by a $349.5 million unrealized gain on swaps, compared with a $768.3 million unrealized swap loss in 2008, and a $99.1 million gain on securities sales. These valuation and sale items materially affect the year-over-year earnings comparison.
- Prepayment speeds averaged 19% CPR in 2009 versus 13% in 2008. The company reported $1.248 billion net unamortized MBS premium at year-end, making faster prepayments a potential drag on income.
- Common dividends declared increased to $1.395 billion for FY 2009 from $1.088 billion in 2008. The Q4 dividend per share was unchanged year over year, while the 2009 quarterly dividend declined from $0.75 in Q1 to $0.50 in Q4.
Outlook, risks, contingencies, and unusual items
- Management provided no quantified earnings or dividend guidance. It said the strategy remains focused on agency MBS and spread income, with leverage used selectively; its general target debt-to-equity range is 8:1–12:1, compared with 5.7:1 at year-end.
- Interest-rate sensitivity modeling estimated that a parallel 75-basis-point increase would reduce projected net interest income by 4.44% and portfolio value by 0.67%; a 75-basis-point decline was estimated to increase them by 2.38% and 0.42%, respectively. Management cautioned that actual outcomes may differ materially.
- Annaly had approximately $21.5 billion notional of interest-rate swaps at year-end; the reported net negative fair value was approximately $527.9 million. It discontinued hedge accounting in 2008, so subsequent swap fair-value changes flow through earnings.
- Key risks include repo refinancing and margin calls, rising short-term rates, spread compression, MBS price volatility, prepayment and premium-amortization risk, counterparty exposure, and reliance on Fannie Mae and Freddie Mac guarantees. The company noted the planned wind-down of Federal Reserve agency-MBS purchases by March 31, 2010 and uncertainty about future GSE support and mortgage policy.
- A $13.6 million loss was recorded on a receivable related to assets held by Lehman Brothers International (Europe) and affiliates. Recovery remains uncertain; certain assets believed held by affiliates were valued at an 80% discount.
- After year-end, Annaly issued $500 million of 4% convertible senior notes due 2015, receiving approximately $484.8 million net proceeds. The notes are convertible at an initial price of approximately $21.456 per share.
- Management said ordinary-course legal matters were not expected to have a material adverse effect. The filing also reported effective disclosure controls and internal control over financial reporting, and an unmodified auditor opinion.
Most important facts for investors to verify
- Separate recurring net interest earnings from swap mark-to-market gains and securities-sale gains, particularly when evaluating FY and Q4 profitability.
- Assess whether repo funding remains available on acceptable terms and whether cash, unencumbered assets, and collateral cushions can withstand market-value declines or margin calls.
- Monitor the gap between asset repricing and funding repricing, hedge effectiveness and counterparties, and sensitivity to rate moves and yield-curve changes.
- Track prepayment speeds, premium amortization, portfolio mix, and whether agency guarantees and liquidity remain supportive.
- Confirm the sustainability of dividends against taxable income, earnings, capital needs, and the effect of common-share dilution from equity or convertible issuance.