Item 1 - Business
Overview
Redwood Mortgage Investors VIII, a California Limited Partnership, (“RMI VIII” or the “partnership”) was organized in 1993, to engage in the business of mortgage lending, primarily loans secured by deeds of trusts on California real estate. Loans are arranged and serviced by Redwood Mortgage Corp., a California corporation (“RMC”). As of December 31, 2011, 8,063 limited partners had an aggregate capital balance of $204,137,000. The address of the partnership and the general partners is 900 Veterans Blvd., Suite 500, Redwood City, California 94063.
The general partners are solely responsible for managing the partnership business, subject to the rights of the limited partners to vote on specified matters. Any one of the general partners acting alone has the power and authority to act for and bind the partnership. A majority of the outstanding limited partnership interests may, without the consent of the general partners, vote to: (i) terminate the partnership, (ii) amend the limited partnership agreement, (iii) approve or disapprove the sale of all or substantially all of the assets of the partnership and (iv) remove or replace one or all of the general partners. The approval of the majority of limited partners is required to elect a new general partner to continue the partnership business where there is no remaining general partner after a general partner ceases to be a general partner other than by removal.
The general partners of the partnership are RMC and its wholly-owned subsidiary, Gymno LLC, a California limited liability company originally incorporated as Gymno Corporation (“Gymno”), and Michael R. Burwell (“Burwell”), an individual. Prior to September 30, 2011, The Redwood Group, Ltd., a California corporation (“Redwood Group”), owned all of the outstanding shares of RMC, and, as of September 30, 2011, acquired all of the outstanding shares of Gymno Corporation in exchange for shares of Redwood Group’s common stock. Redwood Group then merged with and into its wholly-owned subsidiary RMC, which resulted in Gymno becoming a wholly-owned subsidiary of RMC. Gymno Corporation converted into Gymno LLC, a California limited liability company, with Burwell, the majority owner and president of RMC, as its manager.
Profits and losses are allocated among the limited partners according to their respective capital accounts monthly after 1% of the profits and losses are allocated to and among the general partners. The limited partners elect, at the time of their subscription for units, to (a) receive a monthly, quarterly or annual cash distributions of their pro-rata share of profits or (b) have profits credited to their capital accounts and used to invest in partnership activities. The election to receive cash distributions is irrevocable. Subject to certain limitations, a compounding investor may subsequently change his election. Monthly results are subject to subsequent adjustment as a result of quarterly and year-end accounting and reporting. Income taxes - federal and state - are the obligation of the partners, if and when income taxes apply, other than for the minimum annual California franchise tax paid by the partnership. Investors should not expect the partnership to provide tax benefits of the type commonly associated with limited partnership tax shelter investments.
There are substantial restrictions on transferability of units and accordingly an investment in the partnership is non-liquid. Limited partners have no right to withdraw from the partnership or to obtain the return of their capital account for at least one year from the date of purchase of partnership units. In order to provide a certain degree of liquidity to the limited partners after the one-year period, limited partners may withdraw all or part of their capital accounts from the partnership in four quarterly installments beginning on the last day of the calendar quarter following the quarter in which the notice of withdrawal is given, subject to a 10% early withdrawal penalty. The 10% penalty is applicable to the amount withdrawn as stated in the notice of withdrawal and will be deducted from the capital account. Once a limited partner has been in the partnership for the minimum five-year period, no penalty is imposed if the withdrawal is made in twenty quarterly installments or longer. Notwithstanding the minimum withdrawal period, the general partners, at their discretion, may liquidate all or part of a limited partner’s capital account in four quarterly installments beginning on the last day of the calendar quarter following the quarter in which the notice of withdrawal is given, subject to a 10% early withdrawal penalty applicable to any sums withdrawn prior to when such sums could have been withdrawn without penalty.
The partnership does not establish a reserve from which to fund withdrawals and, accordingly, the partnership’s capacity to return a limited partner’s capital account is restricted to the availability of partnership cash flow. Furthermore, no more than 20% of the total limited partners’ capital accounts outstanding at the beginning of any year may be liquidated during any calendar year.
In March 2009, in response to economic conditions then existing, as to the financial-market crisis, the dysfunction of the credit markets, the distress in the real estate markets, and the expected cash needs of the partnership, the partnership suspended capital liquidations and is not accepting new liquidation requests until further notice. The partnership entered into an amended and restated loan agreement (dated October 2010) which includes additional restrictions on liquidations and distributions of partners’ capital. The bank loan is scheduled to be paid off in June 2012.
Principal Investment Objectives and General Standards for Mortgage Loans
Principal Investment Objectives
The partnership’s primary objectives are to make investments which will:
(i)
provide the maximum possible cash returns;
(ii)
preserve and protect the partners’ capital; and
(iii)
generate and distribute cash flow from operations/investments to the partners
General Standards for Mortgage Loans
The partnership is engaged in the business of making loans with first and second deeds of trust on real property located in California, including:
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single-family property includes owner-occupied and non-owner occupied single family homes (1-4 unit residential buildings), condominium units, townhouses, and condominium complexes,
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multi-family residential property (such as apartment buildings),
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commercial property (such as stores, shops and offices), and
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undeveloped land.
As of December 31, 2011, of the partnership’s outstanding loan portfolio, 71% is secured by single family residences, 22% by commercial properties, 6% by multifamily properties and 1% by undeveloped land. The partnership may also make loans secured by promissory notes which are secured by deeds of trust and are assigned to the partnership.
Loans are arranged and serviced by RMC, one of the general partners. The cash flow and the income generated by the real property securing the loan factor into the credit decisions, as does the general creditworthiness, experience and reputation of the borrower. For loans secured by real property used commercially, such considerations though are subordinate to a determination that the value of the real property is sufficient, in and of itself, as a source of repayment. The amount of our loan combined with the outstanding debt and claims secured by a senior deed of trust on the real property generally will not exceed a specified percentage of the appraised value of the property (the loan to value ratio or LTV) as determined by an independent written appraisal at the time the loan is made. The loan-to-value ratio generally will not exceed 80% for residential properties (including multi-family), 70% for commercial properties, and 50% for land. The excess of the value of the collateral securing the loan over the total debt owing on the property, including the partnership’s loan, is the “protective equity”.
We believe our LTV policy gives more potential protective equity than competing lenders who fund loans with a higher LTV. However, we may be viewed as an “asset” lender based on our emphasis on LTV in our underwriting process. Being an “asset” lender may increase the likelihood of payment defaults by borrowers. Accordingly, the partnership may have a higher level of loan-payment delinquency and loans designated as impaired for financial reporting purposes than that of lenders, such as banks and other financial institutions subject to federal and state banking regulations, which are typically viewed as “credit” lenders.
Recently enacted federal legislation impacts the lending to non-commercial residential borrowers by requiring the lender consider a borrower’s ability to meet payment obligations specified in the loan documents. The Dodd-Frank Act imposes significant new regulatory restrictions on the origination of residential mortgage loans, under sections concerning "Mortgage Reform and Anti-Predatory Lending." For example, these provisions require that when a consumer loan is made, the lender must make a reasonable and good faith determination, based on verified and documented information concerning the consumer’s financial situation, whether the consumer has a reasonable ability to repay a residential mortgage loan before extending the loan. The Act calls for regulations prohibiting a creditor from extending credit to a consumer secured by a high-cost mortgage without first receiving certification from an independent counselor approved by a government agency. The Act also adds new provisions prohibiting balloon payments for defined high cost mortgages. The general partners are monitoring developments and, if and when applicable will adjust underwriting and lending practices accordingly. Residential lending on owner occupied properties that would be subject to the legislation and regulations generally has not been a significant portion of the loans made by the partnership’s general partners.
Other Recent Developments
The combination of general economic conditions of low growth with continuously high unemployment following the 2008 financial crisis and the resultant Great Recession, the constrained credit markets, the distressed real estate markets, and the terms and the conditions of the amended and restated loan agreement with our banks has resulted in significant changes to the lending and business operations of the partnership, as well as to its balance sheet, results of operations and cash flows.
Since the partnership has been limited in its capacity to originate loans by economic conditions, market constraints and the terms and conditions of the amended and restated loan agreement, the partnership’s net interest income (interest income less interest expense) declined from $30,500,000 in 2008 to $(2,689,000) in 2011.
As to the balance sheet of the partnership subsequent to the financial crisis and during the Great Recession, the asset mix has migrated from predominantly performing loans to Real Estate Owned (REO) and impaired loans. Total assets, the sum of all assets owned by the partnership, decreased from $424,873,000 at December 31, 2008, to $275,399,000 at December 31, 2011 (a decline of $149,474,000 or 35%). Net loans, the total of loan principal, advances, accrued interest, and unsecured loans, less the allowance for losses, declined over the same dates from $386,589,000 to $60,711,000, respectively (a decline of $325,878,000 or 84%) resulting from a decrease in loan balances (principal declined from $363,037,000 at December 31, 2008, to $73,386,000 at December 31, 2011) and an increase in the allowance for loan losses (from $11,420,000 at December 31, 2008, to $22,035,000 at December 31, 2011) reflecting the decline in the fair value of the real estate as collateral for impaired loans.
Cash received from loan payments, loan payoffs, the sale of real estate owned and third-party mortgages obtained on stabilized properties that we own and are included in REO is predominantly used to pay down the amount outstanding on the bank loan, to make the periodic interest and principal payments on the loan, to protect the security interest in the collateral securing the loans from senior debt and claims, to maintain and develop REO, to meet the operating expenses of the partnership, and to fund periodic payments to limited partners that elected monthly, quarterly and annual distributions.
The bank loan balance at December 31, 2011 and 2010 was $16,789,000 and $50,000,000, respectively. Continued progress on reducing the principal balance of the bank loan is deemed essential to returning the partnership to normal (i.e. pre-financial crisis) operations, and will continue to be a priority of the general partners. The balance of the bank loan was $85,000,000 as recently as November 1, 2009, and is approximately $10,250,000 at April 12, 2012.
Secured Loan Portfolio
See Note 4 (Loans) to the financial statements included in Part II, Item 8 of this report for a detailed presentation on the secured loan portfolio, which presentation is incorporated by this reference into this Item 1.
Competition
The mortgage lending business is highly competitive, and the partnership will compete with numerous established entities, some of which have more financial resources and experience in the mortgage lending business. Major competitors in providing mortgage loans include banks, savings and loan associations, thrifts, conduit lenders, mortgage bankers, mortgage brokers, and other entities both larger and smaller than the partnership.
During the last several years many competitors, due to declines in real estate values, increases in loan delinquencies, foreclosures and/or liquidity issues have reduced or eliminated their real estate lending activity. Additionally, the declines in real estate values coupled with reduced overall sales and refinancing activity reduced the overall demand for loans. With the substantial real estate valuation declines that have taken place over the last several years far fewer borrowers have the ability to provide adequate security to back their loan requests. Competition from other lenders has declined with fewer active lenders in the market although less qualified loan demand exists. The partnership has not been able to capitalize on the reduction in lenders as it has experienced less available cash to invest in new loans due to reduced loan payoffs, increased acquisition of real estate owned, and requests for liquidation by its limited partners and a restriction on new loans under our bank loan described in Note 8 to the Notes to Consolidated Financial Statements included in this report. In addition the partnership has not been raising funds through new investments.
Regulations
We are subject to various federal, state and local laws, rules and regulations that affect our business. Following is a brief description of certain laws and regulations which are applicable to our business. The description of these laws and regulations, as well as descriptions of laws and regulations contained elsewhere in this Form 10-K, do not purport to be complete and is qualified in its entirety by reference to the applicable laws and regulations.
Regulations Applicable to Mortgage Lenders and Servicers
The partnership and Redwood Mortgage Corp., which originates and services our loans, are heavily regulated by laws governing lending practices at the federal, state and local levels. In addition, proposals for further regulation of the financial services industry are continually being introduced.
These laws and regulations to which the partnership and Redwood Mortgage Corp. are subject include those pertaining to:
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real estate settlement procedures;
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fair lending;
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truth in lending;
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compliance with federal and state disclosure requirements;
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the establishment of maximum interest rates, finance charges and other charges;
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secured transactions and foreclosure proceedings; and
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privacy regulations providing for the use and safeguarding of non-public personal financial information of borrowers.
Some of the key federal and state laws affecting our business include:
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Real Estate Settlement Procedures Act (RESPA). RESPA primarily regulates settlement procedures for real estate purchase and refinance transactions on residential (1-4 unit) properties. It prohibits lenders from requiring the use of specified third party providers for various settlement services, such as appraisal or escrow services. RESPA also governs the format of the good faith estimate of loan transaction charges and the HUD-1 escrow settlement statement.
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Truth in Lending Act. This federal act was enacted in 1968 for the purpose of regulating consumer financing and is implemented by the Consumer Financial Protection Bureau (CFPB). For real estate lenders, this act requires, among other things, advance disclosure of certain loan terms, calculation of the costs of the loan as demonstrated through an annual percentage rate (APR), and the right of a consumer in a refinance transaction on their primary residence to rescind their loan within three days following signing.
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Home Ownership and Equity Protection Act (HOEPA) and California 4970. HOEPA was passed in 1994 to provide additional disclosures for certain closed-end home mortgages. In 1995, the Federal Reserve Board issued final regulations governing “high cost” closed-end home mortgages with interest rates and fees in excess of certain percentage or amount thresholds. These regulations primarily focus on additional disclosure with respect to the terms of the loan to the borrower, the timing of such disclosures, and the prohibition of certain loan terms, including balloon payments and negative amortization. The failure to comply with the regulations will render the loan rescindable for up to three years. Lenders can also be held liable for attorneys’ fees, finance charges and fees paid by the borrower and certain other money damages. Similarly in California, Assembly Bill 489, which was signed into law in 2001 and became effective as of July 1, 2002 as Business and Practices (B&P) Code 4970, provides for state regulation of “high cost” residential mortgage and consumer loans secured by liens on real property, which equal or exceed the Fannie Mae/Freddie Mac conforming loan limits or less, with interest rates and fees exceeding a certain percentage or amount threshold. The law prohibits certain lending practices with respect to high cost loans, including the making of a loan without regard to the borrower’s income or obligations. When making such loans, lenders must provide borrowers with a consumer disclosure, and provide for an additional rescission period prior to closing the loan.
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Mortgage Disclosure Improvement Act. Enacted in 2008, this act amended the Truth in Lending Act regulating the timing and delivery of loan disclosures for all mortgage loan transactions governed under RESPA.
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Home Mortgage Disclosure Act. This act was enacted to provide for public access to statistical information on a lenders’ loan activity. It requires lenders to disclose certain information about the mortgage loans it originates and purchases, such as the race and gender of its customers, the disposition of mortgage applications, income levels and interest rate (i.e. annual percentage rate) information.
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Red Flags Rule. The Red Flags Rule, which becomes effective on August 1, 2009, requires lenders and creditors to implement an identity theft prevention program to identify and respond to loan applications in which the misuse of a consumer’s personal identification may be suspected.
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Graham-Leach-Bliley Act. This act requires all businesses which have access to consumers’ personal identification information to implement a plan providing for security measures to protect that information. As part of this program, we provide applicants and borrowers with a copy of our privacy policy.
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Dodd-Frank Act. The act enhanced regulatory requirements on banking entities and other organizations considered significant to U.S. financial markets. The act also provides for reform of the asset-backed securitization market. We do not expect these particular regulatory changes will have a material direct effect on our business or operations. The act imposes significant new regulatory restrictions on the origination of residential mortgage loans, under sections concerning "Mortgage Reform and Anti-Predatory Lending." For example, these provisions require when a consumer loan is made, the lender must make a reasonable and good faith determination, based on verified and documented information concerning the consumer’s financial situation, whether the consumer has a reasonable ability to repay a residential mortgage loan before extending the loan. The act calls for regulations prohibiting a creditor from extending credit to a consumer secured by a high-cost mortgage without first receiving certification from an independent counselor approved by a government agency. The act also adds new provisions prohibiting balloon payments for defined high cost mortgages. The Act also established the CFPB, giving it regulatory authority over most federal consumer lending laws, including those relating to residential mortgage lending.
Recent or Pending Legislation and Regulatory Proposals
The recent credit crisis has led to an increased focus by federal, state and local regulatory authorities on the mortgage industry. Federal and state regulators are considering a broad variety of legislative and regulatory proposals covering mortgage loan products, loan terms and underwriting standards, risk management practices and consumer protection, which could have a broader impact across the mortgage industry. In addition, the U.S. economy is currently experiencing a prolonged and severe recession, which has and will likely continue to cause increased delinquencies, continued home price depreciation and lower home sales. In response to these trends, the U.S. government has taken several actions which are intended to stabilize the housing market and the banking system, maintain lower interest rates, and increase liquidity for lending institutions. These actions are intended to make it easier for borrowers to obtain mortgage financing or to avoid foreclosure on their current homes. It is too early to tell whether these legislative and regulatory initiatives, actions and proposals will achieve their intended effect or what impact they will have on our business and the mortgage industry generally.
Following is a brief description of several key initiatives, actions and proposals that may impact the mortgage industry:
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Guidance on Nontraditional Mortgage Product Risks. On September 29, 2006, the federal banking agencies issued guidance to address the risks posed by nontraditional residential mortgage products, that is, mortgage products that allow borrowers to defer repayment of principal or interest. The guidance instructs institutions to ensure that loan terms and underwriting standards are consistent with prudent lending practices, including consideration of a borrower’s ability to repay the debt by final maturity at the fully indexed rate and assuming a fully amortizing repayment schedule; requires institutions to recognize, for higher risk loans, the necessity of verifying the borrower’s income, assets and liabilities; requires institutions to address the risks associated with simultaneous second-lien loans, introductory interest rates, lending to subprime borrowers, non-owner-occupied investor loans, and reduced documentation loans; requires institutions to recognize that nontraditional mortgages, particularly those with risk-layering features, are untested in a stressed environment; requires institutions to recognize that nontraditional mortgage products warrant strong controls and risk management standards, capital levels commensurate with that risk, and allowances for loan and lease losses that reflect the collectibility of the portfolio; and ensure that consumers have sufficient information to clearly understand loan terms and associated risks prior to making product and payment choices. The guidance recommends practices for addressing the risks raised by nontraditional mortgages, including enhanced communications with consumers; promotional materials and other product descriptions that provide information about the costs, terms, features and risks of nontraditional mortgages; more informative monthly statements for payment option adjustable rate mortgages; and specified practices to avoid. In January 2008, in response to this federal guidance on non-traditional mortgage loans, California enacted SB 385 which requires lenders offering non-traditional mortgages on primary residential properties to provide additional disclosure information pertaining to the terms of the loan offered, as well as a comparison to other loan products that may be available in the marketplace. The California Department of Real Estate defines ‘non-traditional’ mortgages as those in which there is a deferral of either principal or interest in the loan. We do not make non-traditional loans on primary residential properties.
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Guidance on Loss Mitigation Strategies for Servicers of Residential Mortgages. On September 5, 2007, the federal banking agencies issued a statement encouraging regulated institutions and state-supervised entities that service residential mortgages to pursue strategies to mitigate losses while preserving homeownership to the extent possible and appropriate. The guidance encourages servicers to take proactive steps to preserve homeownership in situations where there are heightened risks to homeowners losing their homes to foreclosures. Such steps may include loan modification; deferral of payments; extensions of loan maturities; conversion of adjustable rate mortgages into fixed rate or fully indexed, fully amortizing adjustable rate mortgages; capitalization of delinquent amounts; or any combination of these actions. Servicers are instructed to consider the borrower’s ability to repay the modified obligation to final maturity according to its terms, taking into account the borrower’s total monthly housing-related payments as a percentage of the borrower’s gross monthly income, the borrower’s other obligations, and any additional tax liabilities that may result from loan modifications. Where appropriate, servicers are encouraged to refer borrowers to qualified non-profit and other homeownership counseling services and/or to government programs that are able to work with all parties and avoid unnecessary foreclosures. The guidance states that servicers are expected to treat consumers fairly and to adhere to all applicable legal requirements.
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Housing and Economic Recovery Act of 2008. Enacted in July 2008, this legislation, among other things, established new Fannie Mae, Freddie Mac and FHA conforming loan limits and established a new Federal Housing Finance Agency. It also established the new “HOPE for Homeowners Program” to refinance existing borrowers meeting eligibility requirements into fixed-rate FHA mortgage products. This act also provided for a comprehensive, nationwide licensing and registry system for mortgage originators. The federal direction to states to adopt national loan originator licensing standards will be implemented in California through the California Department of Real Estate (DRE). Much of what has been adopted at the federal level has already been in effect in California under the DRE’s regulatory authority for a number of years. It is anticipated that new standards relating to continuing education requirements, among other things, will be incorporated into DRE regulations, once implemented.
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New Regulations Establishing Protections for Consumers in the Residential Mortgage Market. In 2008, the Federal Reserve Board issued new regulations under the federal Truth-in-Lending Act and the Home Ownership and Equity Protection Act (HOEPA). For mortgage loans governed by HOEPA, the new regulations further restrict prepayment penalties, and enhance the standards relating to the consumer’s ability to repay. For a new category of closed-end “higher-priced” mortgage loans, the new regulations restrict prepayment penalties, and require escrows for property taxes and property-related insurance for most first lien mortgage loans. For all closed-end loans secured by a principal dwelling, the new regulations prohibit the coercion of appraisers; require the prompt crediting of payments; prohibit the pyramiding of late fees; require prompt responses to requests for pay-off figures; and require the delivery of transaction-specific Truth-in-Lending Act disclosures within three business days following the receipt of an application. The new regulations also impose new restrictions on mortgage loan advertising for both open-end and closed-end products. In general, the new regulations are effective October 1, 2009, with certain exceptions.
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Proposed Amendments to the U.S. Bankruptcy Code. Since 2008, proposed legislation has been introduced before the U.S. Congress for the purpose of amending Chapter 13 in order to permit bankruptcy judges to modify certain terms in certain mortgages in bankruptcy proceedings, a practice commonly known as cramdown. Presently, Chapter 13 does not permit bankruptcy judges to modify mortgages of bankrupt borrowers. While the breadth and scope of the terms of the proposed amendments to Chapter 13 differ greatly, some commentators have suggested that such legislation could have the effect of increasing mortgage borrowing costs and thereby reducing the demand for mortgages throughout the industry. It is too early to tell when or if any of the proposed amendments to Chapter 13 may be enacted as proposed and what impact any such enacted amendments to Chapter 13 could have on the mortgage industry.
Some local and state governmental authorities have taken, and others are contemplating taking, regulatory action to require increased loss mitigation outreach for borrowers, including the imposition of waiting periods prior to the filing of notices of default and the completion of foreclosure sales and, in some cases, moratoriums on foreclosures altogether.
General Economic Conditions
In testimony given on February 14, 2012, Secretary of the Treasury Timothy Geithner stated, “Three years after the worst financial crisis since the Great Depressions, our economy is gradually getting stronger. Over the last two and a half years the economy has grown at an annual rate of 2.5 percent, exceeding growth in the year prior to the recession. Private employers have added 3.7 million jobs over the past 23 months, including more than 400,000 manufacturing jobs. Growth has been led by exports, which have grown 25 percent in real terms over the last two and one-half years, and by business investment in equipment and software, which has risen by 33 percent during the same period. While the economy is regaining strength, we still face significant economic challenges. Unemployment, at 8.3 percent, is still far too high, and the housing market remains weak. The damage inflicted by the crisis presents difficulties for consumers and businesses alike. In addition, the debt crisis in Europe and the slowing of major economies elsewhere in the world present potential impediments to our economic growth.”
Ben Bernanke, Chairman of the Board of Governors of the Federal Reserve System in a speech on February 10, 2012 said, “Though some progress has been made in reversing the losses in jobs and income sustained during the last recession, the pace of expansion has been frustratingly slow and the unemployment rate remains very high by historical standards. The state of the housing sector has been a key impediment to a faster recovery. The state of housing and mortgage markets may also be holding back the recovery of our financial system and the normalization of credit conditions. Mortgage delinquencies surged between 2007 and 2009 and remain high, imposing losses on lenders, mortgage insurers, and investors. Although some of the losses were the result of poorly underwritten mortgages, an increasing share of losses has arisen from prime mortgages originally fully documented with significant down payments, have defaulted due to the weak economy and housing market.”
Chairman Bernanke further stated, “…the large imbalance of supply and demand has been reflected in a drop in home prices of historic proportions. Nationally, house prices have plunged about 30 percent in nominal terms from their peak and 40 percent in real, or inflation-adjusted, terms. In contrast to the situation for owner-occupied homes, rental markets around the country have strengthened somewhat. In particular, vacancy rates for rental properties have declined and now stand near the lower end of their range over the past eight years. Not surprisingly, rents have been increasing and the construction of apartment buildings has picked up. With home prices falling and rents rising, it could make sense in some markets to turn some of the foreclosed properties into rental properties.”
These statements by two of our country’s economic leaders, give a quick summary of the economic conditions facing the partnership. Real estate finance continues to be challenging, but general economic conditions are better (but not yet a recovery by historic standards) and the lending markets remain constricted. Not noted above are these conditions persist with interest rates at historic lows and United States’ federal deficits at historic highs.
An area of particular note is the Mortgage Bankers Association projects originations of commercial and multi-family mortgages will be $230 billion in 2012, an increase of 17 percent from 2011, and continue to rise to $290 billion in 2015.
Item 1A
Item 1A - Risk Factors (Not included as smaller reporting company)
Item 1B
Item 1B - Unresolved Staff Comments
Because the partnership is not an accelerated filer, a large accelerated filer or a well-seasoned issuer, the information required by Item 1B is not applicable.
Item 2
Item 2 - Properties
Properties generally are acquired by foreclosure on impaired loans, and may be classified as “real estate held for sale” or “real estate held as investment”. See Notes 5 (Real Estate Held for Sale) and 6 (Real Estate Held as Investment) to the financial statements included in Part II, Item 8 of this report for a detailed presentation of the properties/real estate owned (“REO”), which presentation is incorporated by this reference into this Item 2.
Item 3
Item 3 - Legal Proceedings
In the normal course of business, the partnership may become involved in various legal proceedings such as assignment of rents, bankruptcy proceedings, appointment of receivers, unlawful detainers, judicial foreclosure, etc., to enforce the provisions of the deeds of trust, collect the debt owed under the promissory notes, or to protect, or recoup its investment from the real property secured by the deeds of trust and to resolve disputes between borrowers, lenders, lien holders and mechanics. None of these actions typically would be of any material importance. As of the date hereof, the partnership is not involved in any legal proceedings other than those that would be considered part of the normal course of business.
Item 4
Item 4 - Mine Safety Disclosures
Not applicable
Part II
Item 5
Item 5 - Market for the Registrant’s “Limited Partnership Units,” Related Unitholder Matters and Issuer Purchases of Equity Securities
There is no established public trading market for the units, and we do not anticipate that one will develop.
As of December 31, 2011, 8,063 limited partners had an aggregate capital balance set forth in the consolidated Balance Sheet included in Item 8 of this report. A description of the units, transfer restrictions and withdrawal provisions is described under the section of the prospectus entitled “Description of Units” and “Summary of Limited Partnership Agreement,” on pages 81 through 84 of the prospectus, a part of the referenced registration statement, which is incorporated herein by reference, and which pages are included in Exhibit 99.1 to this report.
Partners have the option to elect to have distributed to them amounts equal to current-period profits on a monthly, quarterly, or annual basis or to elect compounding the profits by foregoing the distribution to them of current-period profits. Limited partners may withdraw from the partnership in accordance with the terms of the limited partnership agreement subject to possible early withdrawal penalties.
In response to reduced cash flows due to reduced loan payoffs, increased loan delinquencies and increased needs for cash reserves necessary to protect and preserve the partnership’s assets, the partnership suspended all liquidation payments for withdrawals of limited partners and will not be accepting new withdrawal requests until further notice. In March 2009 profits distributions were also reduced, and since October 2010 are limited subject to the Amended Bank Agreement.
Please refer to the Statement of Operations in the financial statements and the Notes thereto included in Part II, Item 8 of this report for information on the 2011 and 2010 net income per $1,000 invested by limited partners, which presentation is incorporated by this reference into this Item 5.
Item 6
Item 6 - Selected Financial Data (Not included as smaller reporting company)
Item 7
Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations
Critical Accounting Policies
See Note 2 (Summary of Significant Accounting Policies) to the financial statements included in Part II, Item 8 of this report for a detailed presentation of critical accounting policies, which presentation is incorporated by this reference into this Item 7.
General Partners and Other Related Parties
See Notes 1 (General) and 3 (General Partners and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for a detailed presentation of various partnership activities for which the general partners and related parties are compensated, and other related-party transactions, including the formation loan, which presentation is incorporated by this reference into this Item 7.
Results of Operations
The partnership’s results of operations are discussed below for the years ended December 31, 2011 and 2010 ($ in thousands).
Please refer to the above table and the Statement of Operations in the financial statements included in Part II, Item 8 of this report throughout the discussion of Results of Operations.
Impact of general economic and real estate market conditions on the partnership’s financial condition, results of operations and cash flows
As we have noted in this and in prior reports on Form 10-Q and Form 10-K, the combination of the general economic conditions, of low growth, with continuously high unemployment following the 2008 financial crisis and the resultant Great Recession, the constrained credit markets, the distressed real estate markets, and the terms and conditions of the Amended Bank Agreement have resulted in significant changes in the lending and business operations of the partnership that are on-going.
Real estate sales, investment, and construction continue to be at greatly reduced levels, particularly as to single family homes. Loans from traditional sources, such as banks, are of limited availability, and when they are available the credit and regulatory environment imposes constraints such that few projects and/or borrowers meet the new, more stringent minimum requirements to qualify. Multi-family properties that are stabilized and profitable can qualify for Fannie and Freddie loans, but the loan underwriting is severely restricting. The secondary market for mortgages on commercial real estate continues at low volumes of activity and is not a source of liquidity to the industry. The result is that our borrowers are experiencing on-going difficulty in refinancing their loans from the partnership and/or selling the properties securing those loans to generate the cash to repay us.
The cash proceeds received by the partnership from loan payments, loan payoffs, sale of real estate owned (REO), and third-party mortgages obtained on stabilized properties that the partnership has taken back through foreclosure or otherwise obtained are used predominately to pay down the amount outstanding on the bank loan. The amount outstanding on the bank loan, after the December 2011 payments were made, was $16,789,000, a reduction of $33,211,000 since December 31, 2010, and a reduction of $68,211,000 since September 2009.
Since the inception of the financial crisis (2008) and the resultant Great Recession (2009), the partnership’s portfolio has continued to migrate from predominately performing loans to impaired loans and REO. Total assets, the sum of all assets owned by the partnership, decreased from $424,873,000 at December 31, 2008, to $275,399,000 at December 31, 2011 (a decline of $149,474,000 or 35%). Net loans, the total of loan principal, advances, accrued interest, net of the allowance for loan losses, declined over the same time period from $386,589,000 to $60,711,000 (a decline of $325,878,000 or 84%). REO increased from $25,693,000 at December 31, 2008, to $209,808,000 at December 31, 2011, as a consequence of the loan collection efforts undertaken by the general partners. We believe ownership of the collateral which secured our loans is the most effective means of maintaining or improving the value of the properties and is the best alternative for preserving partners’ capital.
The continuing primary focus of the general partners is the preservation of the limited partners’ capital while dealing with the historic declines in liquidity in the markets and the constraints imposed by the amended terms of the bank loan. While a number of negative factors persist, the general partners believe progress toward the repayment of the bank loan in full is on-schedule and, depending on the anticipated completion of transactions in contract and the sale of REO, likely will occur at maturity on June 30, 2012, or before.
Revenue - Interest income
Interest on loans - The interest on loans decreased for 2011 and 2010 due to a decrease in the average secured loan portfolio balance, the decrease in the related average yield rate (the partnership has refinanced many of the performing loans to lower interest rates which reflect current market rates) and the increase in non-accrual loans resulting in approximately $11,600,000 and $14,300,000 of foregone interest (not recorded for financial reporting purposes on loans designated as in non-accrual status) interest in 2011 and 2010, respectively, compared to $7,200,000 for 2009. The table below recaps the yearly averages and the effect of the foregone interest on the average yield rate ($ in thousands).
Revenue - Interest expense
Bank loan, secured - The decrease in interest expense for 2011 was due to the decline of the average daily loan outstanding from $62,135,000 for 2010 to $35,400,000 for 2011. The increased interest expense for 2010 was primarily due to an increase in the interest rate required by the new agreement, from an average of 3.29% in 2009, to 4.91% for 2010, offset by a reduction in the average daily loan outstanding from $84,531,000 for 2009, to $62,135,000 for 2010.
Mortgages - The increased interest expense on mortgages for 2011 and 2010 was due a combination of changes in the weighted average interest rate and to the partnership either obtaining a mortgage on a piece of owned property or foreclosing upon property subject to an existing mortgage. The table below recaps the yearly averages ($ in thousands).
Provision for Losses on Loans/Allowance for Loan Losses
The decrease in the provision for loan losses in 2011 was primarily related to the decrease in the number of additional loans requiring a specific reserve compared to 2010. The increase in the provision for loan losses in 2010 was primarily driven by the specific reserves maintained in the allowance for loan losses, associated with impaired loans as analyzed throughout the year. The change for the year was due to loans that were or became collateral dependent, went to non-accrual status, and/or were being considered for foreclosure due to borrower nonperformance.
Operating Expenses
Mortgage servicing fees - The increase in mortgage servicing fees for 2011 compared to 2010 was due to amounts recorded in 2011 for servicing fees not accrued on impaired loans in prior periods. In prior periods, servicing fees on impaired loans were recognized when paid, either at the time the loan was paid or a foreclosure sale was completed. The decrease in mortgage servicing fees for 2010 compared to 2009 was due to the reductions in the unpaid principal balance during 2010.
Costs from RMC - The increase in costs from RMC for 2011 compared to 2010 was due to reimbursement of qualifying charges permitted in the partnership agreement. In 2010, RMC did not request reimbursement for all costs qualifying for reimbursement, which it may do from time to time in its sole discretion.
Professional services - The increase in professional services for 2011 and 2010 was primarily due to increases in costs for legal and accounting services, audits and tax return processing. As laws, regulations, and tax and accounting pronouncements related to disclosure requirements for financial services enterprises generally and lenders specifically, have increased in number and complexity, the role of outside auditors, consultants, and legal advisers has increased. For 2011, 2010 and 2009, the cost of audit and tax services was $410,000, $683,000 and $286,000, respectively. For 2011, 2010 and 2009, the cost of legal and other consultants was $1,449,000, $823,000 and $206,000, respectively.
REO - Rental Operations, net - In 2011 and 2010, the partnership continued to acquire rental properties (defined as a property with rental income greater than 2% of fair value) by foreclosure or deed in lieu of foreclosure. Since June 2009, 25 rental properties have been acquired (5 in 2009, 7 in 2010, and 13 in 2011). Of the 25 properties acquired, 5 were sold (4 in 2011 and 1 in 2010).
Rental income by property type was 73% from multifamily properties in both 2011 and 2010, 21% and 16% from commercial properties for 2011 and 2010, respectively and, 6% and 11% from detached single-family residences in 2011 and 2010 respectively. At management's direction, the property managers continued to move forward toward improving net operating income (NOI) by executing the strategy of increasing occupancy (which topped 94% in 2011) while achieving modest rent growth. The rental operations overall experienced a 46% growth in rental income and a 51% growth in NOI. Growth was particularly strong in multifamily portfolio which at December 31, 2011 is comprised of 14 properties (648 rental units). During 2011 the top 5 rental properties in terms of NOI (3 in Northern California and 2 in Southern California, 4 multifamily and 1 commercial) accounted for 71% of the total rental income, 53% of the total operating expenses, and 96% of the total NOI. Management believes the fundamentals to improve the rental properties and operations are in place to deliver positive cash flows until the resale market for such properties improves.
The table below summarizes the rental operations, net for the years ended December 31, ($ in thousands).
Interest expense on the mortgages securing the rental properties was $2,315,000 and $1,226,000 for 2011 and 2010, respectively.
REO - Holding costs - The increase in holding costs in 2011 was primarily due to a full year of costs in 2011 on properties acquired in 2010. The increase in holding costs in 2010 was primarily due to the acquisition of five properties during 2010.
REO - Loss/(gain) on disposal - The gain on disposal in 2011 was due primarily to the partnership evaluating its properties and positioning them to transact at optimum prices. Management through repairs and improvements, stabilization of rental rolls, improvements in income producing properties financial performance, and elimination of deterrents to sale, increased our properties appeal, finance ability, and value to buyers. The decrease in loss/(gain) on disposal in 2010 was related primarily to declines in property values during 2010 and higher than anticipated selling costs.
REO - Impairment loss/(gain) - Impairment losses on real estate for 2011 were due to the necessity to transact sales of properties in a challenged market in order to meet the repayment schedule of the amended and restated bank loan agreement. Property sales were completed at prices which while, commercially reasonable, were likely less than that which could have been attained had the partnership had more time to offer the properties for sale or been able to continue to hold the properties for future sales. Occasionally, properties which the partnership held as investment, received unsolicited offers which given partnership’s cash flow requirements and bank repayment dynamics were compelling to accept, although they necessitated taking an impairment loss. It is the partnership’s desire once the bank loan obligation is fulfilled to hold the majority of its remaining properties until a more robust real estate market and a normal credit market exist. While these two factors develop, management intends to continue to improve held properties financial performance and desirability. Additionally, impairment loss was taken on a southern California multi-family property which due to delay in repairs, had weaker operating results than anticipated during 2011. As the property is completed, significantly improved operating results and value is anticipated as the property stabilizes into normal operations. The impairment loss on real estate for 2010 was primarily the result of lower than expected sales prices on two of the 13 held for sale properties during 2010.
Loans/Allowance for Loan Losses
See Note 4 (Loans) to the financial statements included in Part II, Item 8 of this report for detailed presentations of loan balances, activity, and characteristics, and the corresponding data regarding the allowance for loan losses, which presentations are incorporated by this reference into this Item 7.
Real Estate Owned/Mortgages
See Notes 5 (Real Estate Held for Sale), 6 (Real Estate Held as Investment) and 7 (Borrowings) to the financial statements included in Part II, Item 8, of this report for detailed presentations of real estate owned and mortgages thereon, which presentations are incorporated by this reference into this Item 7.
Liquidity and Capital Resources
The partnership relies upon loan payoffs, borrowers’ mortgage payments, and sale of real estate owned and to a lesser degree, retention of income for the source of funds for new loans. As a result of general economic conditions, distressed real estate markets, and tight commercial mortgage credit, the ability of our borrowers to refinance their loans on or prior to maturity have had and will likely continue to have a negative impact on their ability to repay their loans at maturity, resulting in substantially increased levels of default and foreclosure. In addition, the payment terms of the amended and restated loan agreement with the partnership’s lending banks (discussed in the paragraphs following) necessitate foreclosed assets be sold to meet the repayment terms.
The bank loan originally had provided for a term out of three years. As a result of reporting a net loss for the quarter ended September 30, 2009 and for the year ended December 31, 2009, the partnership was in technical non-compliance with the profitability covenant set forth in the loan agreement. As of October 18, 2010, the partnership and the banks entered into an amended and restated loan agreement (“Amended Bank Agreement”). The significant terms and conditions in the Amended Bank Agreement include: 1) a maturity date of two years or June 30, 2012; with continuing scheduled pay downs of the loan amount to maturity; 2) an interest rate of Prime plus 1.5% subject to a floor of 5.0%; 3) an annual facility fee (payable quarterly) of 0.5%; 4) required remittance to the banks of 70% of net proceeds from the sale or refinance of REO and/or net proceeds from loan payoffs in excess of $5 million; 5) required remittance of cash balances in excess of $12 million; 6) restrictions on use of cash including no new loans with the exception of refinance of existing loans, no expenditures in the ordinary course of business to preserve, maintain, repair, or operate property in excess of $1 million without prior written consent (subject to exclusions for funds set aside for REO projects and servicing of senior liens designated in the loan agreement), limitations on distributions to electing limited partners of an amount not to exceed a distribution rate of 2.1%; 7) a collateral covenant, and 8) a financial covenant.
The secured bank loan balance at December 31, 2011 and 2010 was $16,789,000 and $50,000,000, respectively.
Contractual obligations
A summary of the contractual obligations of the partnership as of December 31, 2011 is set forth below ($ in thousands).
The partnership has one property in San Francisco, California with a carrying value of $3,148,000 in construction with remaining construction costs of approximately $2,154,000.
Distributions to limited partners
At the time of their subscription to the partnership, limited partners must elect either to receive monthly, quarterly or annual cash distributions from the partnership, or to compound profits in their capital account. If an investor initially elects to receive monthly, quarterly or annual distributions, such election, once made, is irrevocable. If the investor initially elects to compound profits in their capital account, in lieu of cash distributions, the investor may, after three (3) years, change the election and receive monthly, quarterly or annual cash distributions. Profits allocable to limited partners, who elect to compound profits in their capital account, will be retained by the partnership for making further loans or for other proper partnership purposes and such amounts will be added to such limited partners’ capital accounts. The percent of limited partnerships electing distribution of allocated net income, if any, by weighted average to total partners’ capital was 54% for 2011, 50% for 2010 and 45% for 2009. In 2011 and 2010, $2,688,000 and $3,751,000, respectively, was distributed to limited partners based on estimated net income; as the full year results of operations was a net loss, these amounts distributed were a return of capital.
The partnership agreement also allows the limited partners to withdraw their capital account subject to certain limitations and penalties (see “Withdrawal From Partnership” in the Limited Partnership Agreement). Once a limited partner’s initial five-year holding period has passed, the general partners expect to see an increase in liquidations due to the ability of limited partners to withdraw without penalty. This ability to withdraw five years after a limited partner’s investment has the effect of providing limited partner liquidity and the general partners expect a portion of the limited partners to avail themselves of this liquidity. This has the anticipated effect of increasing the net capital of the partnership, primarily through retained earnings during the offering period. The general partners expect to see increasing numbers of limited partner withdrawals during a limited partner’s 5th through 10th anniversary, at which time the bulk of those limited partners who have sought withdrawal have been liquidated. Since the five-year hold period for many limited partners has yet to expire, as of December 31, 2011, many limited partners may not as yet avail themselves of this provision for liquidation. Limited partners made the following capital liquidations including early withdrawals during the past three years ended December 31 ($ in thousands).
The total liquidations represent 0.00%, 0.01% and 0.06% of the limited partners’ ending capital for the years ended December 31, 2011, 2010 and 2009, respectively. Withdrawal requests continued to rise throughout 2008 and 2009. In response to reduced cash flows due to reduced loan payoffs, increased loan delinquencies and increased needs for cash reserves necessary to protect and preserve the partnership’s assets, as of March 16, 2009, the partnership suspended all liquidation payments and announced that it will not be accepting new liquidation requests until further notice. Liquidation requests of approximately $2,700,000 remained unfulfilled at March 31, 2009 and liquidations for future periods are suspended until future notice. Liquidation requests submitted to Redwood after March 16, 2009 are not deemed to be accepted, nor do they serve as placeholders for the submitting limited partner. In addition, since March 16, 2009, the partnership significantly reduced the amount of the cash distributions made to the limited partners, who had made the election to receive distributions of their pro-rata share of the net income.
The partnership is unable to predict when liquidations will resume as it will depend on the payment and other terms and conditions of the amended and restated loan agreement with the partnership’s lending banks, the ability to collect monies due from borrowers and to dispose of real estate owned, or to receive net rental income from real estate owned, and on the improvement of general economic and capital market conditions and recovery of the real estate market. However, it is anticipated that liquidations will not resume in 2012. In the event the amended and restated loan agreement remains in effect, the current economic downturn continues, the disruption in the credit markets is prolonged, or liquidity in the partnership is otherwise further restricted, liquidations will continue to be suspended. For the foreseeable future, the partnership intends to utilize available cash flows to fund its business operations, protect its security interests in properties, maintain its real estate owned, and make the required payments and maintain the required minimum cash balances per the terms and conditions of the amended and restated loan agreement. It is anticipated liquidation payments will resume only when the partnership’s cash flows improve to levels that enable the partnership to resume lending and business operations unconstrained by the amended and restated loan agreement and the economy and the real estate and capital markets stabilize and return to normal levels of activity.
Similarly, the partnership does not currently anticipate an increase in distribution amounts for the remainder of the year. If borrowers continue to default on their loan obligations, if the partnership’s needs for cash increase substantially, or if income flows into the partnership decrease, then distributions could be reduced further or even suspended. As with the recovery of the real estate market and the economy generally, it is anticipated rebuilding profits and cash flows will be a slow process. It is not anticipated limited partners will see a quick or large increase in the profits or distributions. Rather, such increases, if any, are anticipated to grow slowly over time as the economy and the state of the partnership improves.
In some cases in order to satisfy broker-dealers and other reporting requirements, the general partners have valued the limited partners’ interest in the partnership on a basis which utilizes a per unit system of calculation, rather than based upon the investors’ capital account. This information has been reported in this manner in order to allow the partnership to integrate with certain software used by the broker-dealers and other reporting entities. In those cases, the partnership will report to broker-dealers, trust companies and others a “reporting” number of units based upon a $1.00 per unit calculation. The number of reporting units provided will be calculated based upon the limited partner’s capital account value divided by $1.00. Each investor’s capital account balance is set forth periodically on the partnership account statement provided to investors. The reporting units are solely for broker-dealers requiring such information for their software programs and do not reflect actual units owned by a limited partner or the limited partners’ right or interest in cash flow or any other economic benefit in the partnership. Each investor’s capital account balance is set forth periodically on the partnership account statement provided to investors. The amount of partnership profits each investor is entitled to receive is determined by the ratio each investor’s capital account bears to the total amount of all investor capital accounts then outstanding. The capital account balance of each investor should be included on any FINRA member client account statement in providing a per unit estimated value of the client’s investment in the partnership in accordance with NASD Rule 2340.
While the general partners have set an estimated value for the Units, such determination may not be representative of the ultimate price realized by an investor for such Units upon sale. No public trading market exists for the Units and none is likely to develop. Thus, there is no certainty the Units can be sold at a price equal to the stated value of the capital account. Furthermore, the ability of an investor to liquidate his or her investment is limited subject to certain liquidation rights provided by the partnership, which may include early withdrawal penalties (See the section of the Prospectus entitled “Risk Factors - Purchase of Units is a long term investment”).
Item 7A
Item 7A - Quantitative and Qualitative Disclosures About Market Risk (Not included as smaller reporting company)
Item 8
Item 8 - Consolidated Financial Statements and Supplementary Data
A - Consolidated Financial Statements
The following consolidated financial statements of Redwood Mortgage Investors VIII are included in Item 8:
·
Report of Independent Registered Public Accounting Firm
·
Consolidated Balance Sheets - December 31, 2011 and 2010
·
Consolidated Statements of Operations for the years ended December 31, 2011 and 2010
·
Consolidated Statements of Changes In Partners’ Capital for the years ended December 31, 2011 and 2010
·
Consolidated Statements of Cash Flows for the years ended December 31, 2011 and 2010
·
Notes to Consolidated Financial Statements
B - Consolidated Financial Statement Schedules
The following consolidated financial statement schedules of Redwood Mortgage Inventors VIII are included in Item 8.
·
Schedule II - Valuation and Qualifying Accounts
·
Schedule IV - Loans on Real Estate
All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Partners
Redwood Mortgage Investors VIII
Redwood City, California
We have audited the accompanying consolidated balance sheets of Redwood Mortgage Investors VIII (a California limited partnership) as of December 31, 2011 and 2010 and the related consolidated statements of operations, changes in partners' capital and cash flows for each of the two years in the period ended December 31, 2011. These consolidated financial statements are the responsibility of Redwood Mortgage Investors VIII's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. Redwood Mortgage Investors VIII is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of Redwood Mortgage Investors VIII's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Redwood Mortgage Investors VIII as of December 31, 2011 and 2010 and the consolidated results of its operations and its cash flows for each of the two years in the period ended December 31, 2011 in conformity with accounting principles generally accepted in the United States of America.
Our audits were conducted for the purpose of forming an opinion on the basic consolidated financial statements taken as a whole. Schedules II and IV are presented for purposes of additional analysis and are not a required part of the basic consolidated financial statements. Such information has been subjected to the auditing procedures applied in the audits of the basic consolidated financial statements and, in our opinion, is fairly stated in all material respects in relation to the basic consolidated financial statements taken as a whole.
/s/ ARMANINO McKENNA LLP
San Francisco, California
April 12, 2012
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Balance Sheets
December 31, 2011 and 2010
($ in thousands)
ASSETS
LIABILITIES AND CAPITAL
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Operations
For the Years Ended December 31, 2011 and 2010
($ in thousands, except for per limited partner amounts)
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Changes in Partners’ Capital
For the Years Ended December 31, 2011 and 2010
($ in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Changes in Partners’ Capital (continued)
For the Years Ended December 31, 2011 and 2010
($ in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Cash Flows
For the Years Ended December 31, 2011 and 2010
($ in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Cash Flows
For the Years Ended December 31, 2011 and 2010
($ in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 1 - ORGANIZATIONAL AND GENERAL
Redwood Mortgage Investors VIII, a California Limited Partnership, was organized in 1993. The partnership was organized to engage in business as a mortgage lender for the primary purpose of making loans secured by deeds of trust on California real estate. Loans are arranged and serviced by Redwood Mortgage Corp., a California corporation (“RMC”).
The rights, duties and powers of the general and limited partners of the partnership are governed by the limited partnership agreement and Sections 15611 et seq. of the California Corporations Code.
The general partners of the partnership are RMC and its wholly-owned subsidiary, Gymno LLC, a California limited liability company originally incorporated as Gymno Corporation (“Gymno”), and Michael R. Burwell (“Burwell”), an individual. Prior to September 30, 2011, The Redwood Group, Ltd., a California corporation (“Redwood Group”), owned all of the outstanding shares of RMC, and, as of September 30, 2011, acquired all of the outstanding shares of Gymno Corporation in exchange for shares of Redwood Group’s common stock. Redwood Group then merged with and into its wholly-owned subsidiary RMC, which resulted in Gymno becoming a wholly-owned subsidiary of RMC. Gymno Corporation converted into Gymno LLC, a California limited liability company, with Burwell, the majority owner and president of RMC, as its manager.
The general partners are responsible for managing the partnership business, subject to the voting rights of the limited partners on specified matters. Any one of the general partners acting alone has the power and authority to act for and bind the partnership. The general partners jointly or severally contributed, in accordance with the partnership agreement, 1/10 of 1% of limited partners’ contributions in cash contributions as proceeds from the offerings were received from the limited partners.
A majority of the outstanding limited partnership interests may, without the permission of the general partners, vote to: (i) terminate the partnership, (ii) amend the limited partnership agreement, (iii) approve or disapprove the sale of all or substantially all of the assets of the partnership and (iv) remove or replace one or all of the general partners.
The approval of all the limited partners is required to elect a new general partner to continue the partnership business where there is no remaining general partner after a general partner ceases to be a general partner other than by removal.
Profits and losses are allocated among the limited partners according to their respective capital accounts monthly after 1% of the profits and losses are allocated to the general partners. The monthly results are subject to subsequent adjustment as a result of quarterly and year-end accounting and reporting.
Election to receive monthly, quarterly or annual distributions
At the time of their subscription for units, partners elect to have distributed to them their monthly, quarterly or annual allocation of profits, or to have profits allocated to their capital accounts to compound. Subject to certain limitations, those electing compounding may subsequently change their election. A partner’s election to have cash distributions is irrevocable.
Liquidity, capital withdrawals and early withdrawals
There are substantial restrictions on transferability of units and accordingly an investment in the partnership is non-liquid. Limited partners have no right to withdraw from the partnership or to obtain the return of their capital account for at least one year from the date of purchase of units.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 1 - ORGANIZATIONAL AND GENERAL (continued)
Liquidity, capital withdrawals and early withdrawals (continued)
In order to provide a certain degree of liquidity to the limited partners after the one-year period, limited partners may withdraw all or part of their capital accounts from the partnership in four quarterly installments beginning on the last day of the calendar quarter following the quarter in which the notice of withdrawal is given, subject to a 10% early withdrawal penalty. The 10% penalty is applicable to the amount withdrawn as stated in the notice of withdrawal and will be deducted from the capital account.
Once a limited partner has been in the partnership for the minimum five-year period, no penalty is imposed if withdrawal is made in twenty quarterly installments or longer. Notwithstanding the minimum withdrawal period, the general partners, at their discretion may liquidate all or part of a limited partner’s capital account in four quarterly installments beginning on the last day of the calendar quarter following the quarter in which the notice of withdrawal is given, subject to a 10% early withdrawal penalty applicable to any sums withdrawn prior to the time when such sums could have been withdrawn without penalty.
The partnership does not establish a reserve from which to fund withdrawals and, accordingly, the partnership’s capacity to return a limited partner’s capital is restricted to the availability of partnership cash flow. Furthermore, no more than 20% of the total limited partners’ capital accounts outstanding at the beginning of any year, may be liquidated during any calendar year.
In March 2009, in response to economic conditions then existing, as to the financial-market crisis, the dysfunction of the credit markets, the distress in the real estate markets, and the expected cash needs of the partnership, the partnership suspended capital liquidations and is not accepting new liquidation requests until further notice. The partnership entered into an amended and restated loan agreement (dated October 2010) which includes additional restrictions on liquidations and distributions of partners’ capital. The bank loan is scheduled to be paid off in June 2012.
Partnership offerings
At December 31, 2008, the partnership had completed its sixth offering stage. Of approved aggregate offerings of $300,000,000, total partnership units sold were $299,813,000.
A recap of the offerings by the partnership follows.
·
A minimum of $250,000 and a maximum of $15,000,000 in partnership units were initially offered through qualified broker-dealers. This initial offering closed in October 1996.
·
December 1996, commenced offering of $30,000,000 (closed August 2000)
·
August 2000, commenced offering of $30,000,000 (closed April 2002)
·
October 2002, commenced offering of $50,000,000 (closed October 2003)
·
October 2003, commenced offering of $75,000,000 (closed August 2006)
·
August 2005, commenced offering of $100,000,000 (closed November 2008)
No additional offerings are contemplated at this time.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 1 - ORGANIZATIONAL AND GENERAL (continued)
Sales commissions - formation loans
Sales commissions are not paid directly by the partnership out of the offering proceeds. Instead, the partnership loans to RMC, one of the general partners, amounts to pay all sales commissions and amounts payable in connection with unsolicited orders. This loan is unsecured and non-interest bearing and is referred to as the “formation loan,” and is being repaid equally over a ten year period commencing the year after the close of a partnership offering. The formation loan has been deducted from limited partners’ capital in the consolidated balance sheets. As payments on the formation loan are received from RMC, the deduction from capital will be reduced. Interest has been imputed at the market rate of interest in effect in the years the offering closed. If the general partners are removed and TMC is no longer receiving payments for services rendered, the formation loan is forgiven.
The formation loans made in conjunction with the offerings are as follows.
·
For the initial offering ($15,000,000) totaled $1,075,000, which was 7.2% of limited partners’ contributions of $14,932,000, and was repaid in 2006.
·
For the 1996 offering ($30,000,000) totaled $2,272,000, which was 7.6% of limited partners’ contributions of $29,993,000, and was repaid in 2010.
·
For the 2000 offering ($30,000,000) totaled $2,218,000, which was 7.4% of the limited partners’ contributions of $29,999,000, and is to be repaid, without interest, in ten annual installments of $221,800, which commenced in 2003.
·
For the 2002 offering ($50,000,000) totaled $3,777,000, which was 7.6% of the limited partners’ contributions of $49,985,000, and is to be repaid, without interest, in ten annual installments of $377,700, which commenced in 2004.
·
For the 2003 offering ($75,000,000) totaled $5,661,000, which was 7.6% of the limited partners’ contributions of $74,904,000, and is to be repaid, without interest, in ten annual installments of $566,000, which commenced in 2007.
·
For the 2005 offering ($100,000,000) totaled $7,564,000 as of December 31, 2008, which was 7.6% of the limited partners’ contributions of $100,000,000, and is to be repaid, without interest, in ten annual installments of $756,400, which commenced in 2009.
For the offerings, sales commissions paid to brokers ranged from 0% (units sold by general partners) to 9% of gross proceeds. The partnership had anticipated the sales commissions would approximate 7.6% based on the assumption that 65% of investors will elect to reinvest profits, thus generating full 9% commissions. The actual sales commission percentage for all six offerings combined was 7.5%.
Income taxes and Partners’ capital - tax basis
Income taxes - federal and state - are the obligation of the partners, if and when taxes apply, other than for the minimum annual California franchise tax paid by the partnership.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 1 - ORGANIZATIONAL AND GENERAL (continued)
Income taxes and Partners’ capital - tax basis (continued)
A reconciliation of partners’ capital in the consolidated financial statements to the tax basis of partners’ capital at December 31 is presented in the following table ($ in thousands).
Term of the partnership
The partnership is scheduled to terminate in 2032, unless sooner terminated as provided in the partnership agreement.
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of presentation
The partnership’s consolidated financial statements include the accounts of the partnership, its wholly-owned subsidiaries, and its 72.5%-owned subsidiary. All significant intercompany transactions and balances have been eliminated in consolidation.
Reclassifications
Certain reclassifications, not affecting previously reported net income or total partner capital, have been made to the previously issued consolidated financial statements to conform to the current year presentation.
Management estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions about the reported amounts of assets and liabilities, and disclosures of contingent assets and liabilities, at the dates of the financial statements and the reported amounts of revenues and expenses during the reported periods. Such estimates relate principally to the determination of the allowance for loan losses, including the valuation of impaired loans, (which itself requires determining the fair value of the collateral), and the valuation of real estate held for sale and held as investment, at acquisition and subsequently. Actual results could differ significantly from these estimates.
Collateral fair values are reviewed quarterly and the protective equity for each loan is computed. As used herein, “protective equity” is the arithmetic difference between the fair value of the collateral, net of any senior liens, and the loan balance, where “loan balance” is the sum of the unpaid principal, advances and the recorded interest thereon. This computation is done for each loan (whether impaired or performing), and while loans secured by collateral of similar property type are grouped, there is enough distinction and variation in the collateral that a loan-by-loan, collateral-by-collateral analysis is appropriate.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Management estimates (continued)
The fair value of the collateral is determined by exercise of judgment based on management’s experience informed by appraisals (by licensed appraisers), brokers’ opinion of values, and publicly available information on in-market transactions. Historically, it has been rare for determinations of fair value to be made without substantial reference to current market transactions. However, in recent years, due to the low levels of real estate transactions, and the rising number of transactions that are distressed (i.e., that are executed by an unwilling seller - often compelled by lenders or other claimants - and/or executed without broad exposure or with market exposure but with few, if any, resulting offers), more interpretation, judgment and interpolation/extrapolation within and across property types is required.
Appraisals of commercial real property generally present three approaches to estimating value: 1) market comparables or sales approach; 2) cost to replace and 3) capitalized cash flows or investment approach. These approaches may or may not result in a common, single value. The market-comparables approach may yield several different values depending on certain basic assumptions, such as, determining highest and best use (which may or may not be the current use); determining the condition (e.g. as-is, when-completed, or for land when-entitled); and determining the unit of value (e.g. as a series of individual unit sales or as a bulk disposition). Further complicating this process, which is already subject to judgment, uncertainty and imprecision are the on-going low transaction volumes in the residential, commercial and land markets, and the variability that has resulted. This exacerbates the imprecision in the process, and requires additional considerations and inquiries as to whether the transaction was entered into by a willing seller into a functioning market or was the transaction completed in a distressed market, with the predominant number of sellers being those surrendering properties to lenders in partial settlement of debt (as is prevalent in the residential markets) and/or participating in “arranged sales” to achieve partial settlement of debts and claims and to generate tax advantage. Either way, the present market is at historically low transaction volumes with neither potential buyers nor sellers willing to transact. In certain asset classes the time elapsed between transactions - other than foreclosures - was 12 or more months.
The uncertainty in the process is exacerbated by the tendency in distressed market for lesser-quality properties to transact while upper echelon properties remain off the market - or come on and off the market - because these owners believe in the intrinsic value of the properties (and the recoverability of that value) and are unwilling to accept non-economic offers from opportunistic - often all cash - acquirers taking advantage of distressed markets. This accounts for the ever lower transaction volumes for better and upper echelon properties which exacerbate the perception of a broadly declining market in which each succeeding transaction establishes a new low.
Management has the requisite familiarity with the markets it lends in generally and of the properties lent on specifically to analyze sales-comparables and assess their suitability/applicability. Management is acquainted with market participants - investors, developers, brokers, lenders - that are useful, relevant secondary sources of data and information regarding valuation and valuation variability. These secondary sources may have familiarity with and perspectives on pending transactions, successful strategies to optimize value, and the history and details of specific properties - on and off the market - that enhance the process and analysis that is particularly and principally germane to establishing value in distressed markets and/or property types.
Cash and cash equivalents
The partnership considers all highly liquid financial instruments with maturities of three months or less at the time of purchase to be cash equivalents. Periodically, partnership cash balances in banks exceed federally insured limits.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Loans and interest income
Loans and advances generally are stated at the unpaid principal balance. Management has discretion to pay amounts (advances) to third parties on behalf of borrowers to protect the partnership’s interest in the loan. Advances include, but are not limited to, the payment of interest and principal on a senior lien to prevent foreclosure by the senior lien holder, property taxes, insurance premiums, and attorney fees. Advances generally are stated at the unpaid principal balance and accrue interest until repaid by the borrower.
The partnership may fund a specific loan origination net of an interest reserve to insure timely interest payments at the inception (one to two years) of the loan. As monthly interest payments become due, the partnership funds the payments into the affiliated trust account.
If based upon current information and events, it is probable the partnership will be unable to collect all amounts due according to the contractual terms of the loan agreement, then a loan may be designated as impaired. Impaired loans are included in management’s periodic analysis of recoverability. Any subsequent payments on impaired loans are applied to late fees and then to reduce first the accrued interest, then advances, and then unpaid principal.
From time to time, the partnership negotiates and enters into loan modifications with borrowers whose loans are delinquent. If the loan modification results in a significant reduction in the cash flow compared to the original note, the modification is deemed a troubled debt restructuring and a loss is recognized. In the normal course of the partnership’s operations, loans that mature are renewed and/or the maturity is extended. If at the time of renewal the loan is not designated as impaired and the renewal is at terms reflecting then current market rates and conditions, the loan is not designated impaired.
Interest is accrued daily based on the unpaid principal balance of the loans. An impaired loan continues to accrue as long as the loan is in the process of collection and is considered to be well-secured. Loans are placed on non-accrual status at the earlier of management’s determination that the primary source of repayment will come from the foreclosure and subsequent sale of the collateral securing the loan (which usually occurs when a notice of sale is filed) or when the loan is no longer considered well-secured. When a loan is placed on non-accrual status, the accrual of interest is discontinued; however, previously recorded interest is not reversed. A loan may return to accrual status when all delinquent interest and principal payments become current in accordance with the terms of the loan agreement.
Allowance for loan losses
Loans and the related accrued interest and advances are analyzed on a periodic basis for ultimate recoverability. Delinquencies are identified and followed as part of the loan system. Delinquencies are determined based upon contractual terms. For impaired loans, a provision is made for loan losses to adjust the allowance for loan losses to an amount considered by management to be adequate, with due consideration to collateral values, such that the net carrying amount (unpaid principal balance, plus advances, plus accrued interest less the specific allowance) is reduced to the present value of future cash flows discounted at the loan’s effective interest rate, or, if a loan is collateral dependent, to the estimated fair value of the related collateral net of any senior loans, which would include costs to sell in arriving at net realizable value if planned disposition of the asset securing a loan is by way of sale. Loans that are determined not to be individually impaired are grouped by the property type of the underlying collateral, and for each loan and for the total by property type, the amount of protective equity or amount of exposure to loss (i.e., the dollar amount of the deficiency of the fair value of the underlying collateral to the loan balance) is computed. Based on its knowledge of the borrowers and their historical (and expected) performance, and the exposure to loss, management estimates an appropriate reserve by property type for probable credit losses in the portfolio.
The fair value estimates are derived from information available in the real estate markets including similar property, and may require the experience and judgment of third parties such as commercial real estate appraisers and brokers. The partnership charges off uncollectible loans and related receivables directly to the allowance account once it is determined the full amount is not collectible.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Real estate held for sale
Real estate held for sale includes real estate acquired in full or partial settlement of loan obligations generally through foreclosure that is being marketed for sale. Real estate held for sale is recorded at acquisition at the lower of the recorded investment in the loan, plus any senior indebtedness, or at the property’s net realizable value, which is the fair value less estimated costs to sell, as applicable. Any excess of the recorded investment in the loan over the net realizable value is charged against the allowance for loan losses. The fair value estimates are derived from information available in the real estate markets including similar property, and often require the experience and judgment of third parties such as commercial real estate appraisers and brokers. The estimates figure materially in calculating the value of the property at acquisition, the level of charge to the allowance for loan losses and any subsequent valuation reserves. After acquisition, costs incurred relating to the development and improvement of property are capitalized to the extent they do not cause the recorded value to exceed the net realizable value, whereas costs relating to holding and disposition of the property are expensed as incurred. After acquisition, real estate held for sale is analyzed periodically for changes in fair values and any subsequent write down is charged to operating expenses. Any recovery in the fair value subsequent to such a write down is recorded - not to exceed the net realizable value at acquisition - as an offset to operating expenses. Gains or losses on sale of the property are recorded in other income or expense. Recognition of gains on the sale of real estate is dependent upon the transaction meeting certain criteria related to the nature of the property and the terms of the sale including potential seller financing.
A limited liability company (LLC) with the partnership (72.5% ownership) and three affiliates (combined ownership of 27.5%) as its only members, is accounted for using the equity method. The LLC owns one multi-family REO property which is held for sale, with all remaining units comprising this REO project expected to be sold in 2012. The partnership and two affiliates owned as tenants in common, a rental property also accounted for using the equity method, which was sold in the first quarter of 2011.
Real estate held as investment
Real estate held as investment includes real estate acquired through foreclosure that is not being marketed for sale and is either being operated, such as rental properties; is being managed through the development process, including obtaining appropriate and necessary entitlements, permits and construction; or are idle properties awaiting more favorable market conditions. Real estate held as investment is recorded at acquisition at the lower of the recorded investment in the loan, plus any senior indebtedness, or at the property’s estimated fair value, less estimated costs to sell, as applicable. After acquisition, costs incurred relating to the development and improvement of the property are capitalized, whereas costs relating to operating or holding the property are expensed. Subsequent to acquisition, management periodically compares the carrying value of real estate to expected undiscounted future cash flows for the purpose of assessing the recoverability of the recorded amounts. If the carrying value exceeds future undiscounted cash flows, the assets are reduced to estimated fair value.
Rental income
Rental lease agreements are generally month to month with rental income recognized when earned in accordance with the lease agreement.
Depreciation
Real estate held for investment that is being operated is depreciated on a straight-line basis over the estimated useful life of the property once the asset is placed in service.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Net income per $1,000 invested
Amounts reflected in the statements of income as net income per $1,000 invested by limited partners for the entire period are amounts allocated to limited partners who held their investment throughout the period and have elected to either leave their profits to compound or have elected to receive periodic distributions of their net income. Individual income is allocated each month based on the limited partners’ pro rata share of partners’ capital. Because the net income percentage varies from month to month, amounts per $1,000 will vary for those individuals who made or withdrew investments during the period, or selected other options.
Recently issued accounting pronouncements
The FASB has issued ASU 2011-02 (April 2011), “A Creditor’s Determination of Whether Restructuring is a Troubled Debt Restructuring,” providing guidance to lenders for evaluating where a modification or restructuring of a loan is a Troubled Debt Restructuring (TDR). ASU 2011-02 provides expanded guidance on whether: 1) the lender has granted a “concession” and 2) whether the borrower is experiencing “financial difficulties.” The ASU is effective for the first interim or annual period beginning after June 15, 2011 (i.e. the third quarter of 2011) and is required to be applied retroactively for all modifications and restructuring activities in 2011. The partnership adopted ASU 2011-02 effective January 1, 2011.
The FASB issued ASU 2011-04 “Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRs”. The ASU is effective for interim and annual periods beginning after December 15, 2011 with prospective application. The partnership is evaluating the effect of the ASU.
NOTE 3 - GENERAL PARTNERS AND OTHER RELATED PARTIES
The following commissions and fees are paid by borrowers to the general partners.
Mortgage brokerage commissions
For fees in connection with the review, selection, evaluation, negotiation and extension of loans, the general partners may collect loan brokerage commissions (points) limited to an amount not to exceed 4% of the total partnership assets per year. The loan brokerage commissions are paid by the borrowers and thus, are not an expense of the partnership. In 2011 and 2010, loan brokerage commissions paid to the general partners by the borrowers were $0 and $25,000, respectively.
Other fees
The partnership agreement provides for other fees such as reconveyance, mortgage assumption and mortgage extension fees. Such fees are incurred by the borrowers and are paid to the general partners. In 2011 and 2010, these fees totaled $2,980 and $8,654, respectively.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 3 - GENERAL PARTNERS AND OTHER RELATED PARTIES (continued)
The following commissions and fees are paid by the partnership to RMC.
Mortgage servicing fees
RMC may earn mortgage servicing fees of up to 1.5% annually of the unpaid principal of the loan portfolio or such lesser amount as is reasonable and customary in the geographic area where the property securing the mortgage is located from RMI VIII. Historically, RMC charged one percent annually, and at times waived additional amounts to improve the partnership’s earnings. Such fee waivers were not made for the purpose of providing the partnership with sufficient funds to satisfy withdrawal requests, nor were such waivers made in order to meet any required level of distributions, as the partnership has no such required level of distributions. RMC does not use any specific criteria in determining the amount of fees, if any, to be waived. The decision to waive fees and the amount, if any, to be waived, is made by RMC in its sole discretion.
Mortgage servicing fees paid to RMC by the partnership are presented in the following table for the years ended December 31, ($ in thousands).
Asset management fees
The general partners receive monthly fees for managing the partnership’s loan portfolio and operations of up to 1/32 of 1% of the “net asset value” (3/8 of 1% annually). At times, the general partners have charged less than the maximum allowable rate to enhance the partnership’s earnings. Such fee waivers were not made with the purpose of providing the partnership with sufficient funds to satisfy withdrawal requests, nor to meet any required level of distributions, as the partnership has no such required level of distributions. RMC does not use any specific criteria in determining the exact amount of fees, if any, to be waived. The decision to waive fees and the amount, if any, to be waived, is made by RMC in its sole discretion.
Asset management fees paid to the general partners are presented in the following table for the years ended December 31, ($ in thousands).
Costs from Redwood Mortgage Corp.
RMC is reimbursed by the partnership for operating expenses incurred on behalf of the partnership, including without limitation, accounting and audit fees, legal fees and expenses, postage and preparation of reports to limited partners, and out-of-pocket general and administration expenses. The decision to request reimbursement of any qualifying charges is made by RMC in its sole discretion. During 2011 and 2010, operating expenses totaling $1,195,000 and $446,000, respectively, were reimbursed to RMC. To the extent some operating expenses incurred on behalf of RMI VIII were not charged by RMC, the financial position and results of operations for the partnership would be different.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 3 - GENERAL PARTNERS AND RELATED PARTIES (continued)
Formation loan
The formation loan transactions are summarized in the following table at December 31, 2011 ($ in thousands).
Interest has been imputed at the market rate of interest in effect at the date the offerings closed which ranged from 4.00% to 9.50%. An estimated amount of imputed interest is recorded for offerings still outstanding. During 2011 and 2010, $470,000 and $554,000, respectively, were recorded related to amortization of the discount on imputed interest.
The future minimum payments on the formation loan are presented in the following table ($ in thousands).
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 3 - GENERAL PARTNERS AND RELATED PARTIES (continued)
Syndication costs
The partnership bears its own syndication costs, other than certain sales commissions, including legal and accounting expenses, printing costs, selling expenses and filing fees. Syndication costs are charged against partners’ capital and are being allocated to individual partners consistent with the partnership agreement.
Through December 31, 2011, syndication costs of $5,010,000 had been incurred by the partnership with the following distribution ($ in thousands).
The syndication costs associated with the offerings is as follows.
·
For the initial offering ($15,000,000) were limited to the lesser of 10% of the gross proceeds or $600,000 with any excess being paid by the general partners. Applicable gross proceeds were $14,932,000. Related expenditures totaled $582,000 ($570,000 syndication costs plus $12,000 organization expense) or 3.9% of gross proceeds.
·
For the 1996 offering ($30,000,000) were limited to the lesser of 10% of the gross proceeds or $1,200,000 with any excess being paid by the general partners. Gross proceeds of the offering were $29,993,000. Syndication costs totaled $598,000 or 2% of gross proceeds.
·
For the 2000 offering ($30,000,000) were limited to the lesser of 10% of the gross proceeds or $1,200,000 with any excess being paid by the general partners. Gross proceeds of the offering were $29,999,000. Syndication costs totaled $643,000 or 2.1% of gross proceeds.
·
For the 2002 offering ($50,000,000) were limited to the lesser of 10% of the gross proceeds or $2,000,000 with any excess to be paid by the general partners. Gross proceeds of the offering were $49,985,000. Syndication costs totaled $658,000 or 1.3% of gross proceeds.
·
For the 2003 offering ($75,000,000) were limited to the lesser of 10% of the gross proceeds or $3,000,000 with any excess to be paid by the general partners. Gross proceeds of the offering were $74,904,000. Syndication costs totaled $789,000 or 1.1% of gross proceeds.
·
For the 2005 offering ($100,000,000) were limited to the lesser of 10% of the gross proceeds or $4,000,000 with any excess to be paid by the general partners. Gross proceeds of the offering were $100,000,000. Syndication costs totaled $1,752,000 or 1.75% of gross proceeds.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 4 - LOANS
The partnership generally funds loans with a fixed interest rate and a five-year term. As of December 31, 2011, approximately 59% of the partnership’s loans (representing 54% of the aggregate principal balance of the partnership’s loan portfolio) have a five year term or less from loan inception. The remaining loans have terms longer than five years. As of December 31, 2011, approximately 37% of the loans outstanding (representing 80% of the aggregate principal balance of the partnership’s loan portfolio) provide for monthly payments of interest only, with the principal due in full at maturity. The remaining loans require monthly payments of principal and interest, typically calculated on a 30 year amortization, with the remaining principal balance due at maturity.
The partnership makes construction and rehabilitation loans which are not fully disbursed at loan inception. The partnership has approved the borrowers up to a maximum loan balance; however, disbursements are made periodically during completion phases of the construction or rehabilitation or at such other times as required under the loan documents and would be funded from available cash balances and future cash receipts. The partnership does not maintain a separate cash reserve to hold the undisbursed obligations, which are intended to be funded. As of December 31, 2011, there was one such loan; however, the borrower is in default negating any funding obligation.
The partnership periodically negotiates various workout agreements with borrowers whose loans are past maturity or who are delinquent in making payments. The partnership is not obligated to fund additional money as of December 31, 2011.
Secured loans unpaid principal balance (principal)
Secured loan transactions are summarized in the following table for the years ended December 31, ($ in thousands).
During 2011, the partnership renewed two loans, with an aggregate principal of $597,000 that were not included in the activity shown on the table above.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 4 - LOANS (continued)
Loan characteristics
Secured loans had the characteristics presented in the following table ($ in thousands).
As of December 31, 2011, the partnership’s largest loan, in the unpaid principal balance of $16,675,000 (representing 22.72% of outstanding secured loans and 6.05% of partnership assets) has an interest rate of 10.00% and is secured by 14 units in a condominium complex located in San Francisco County, California. This loan matured February 1, 2011. The partnership has been working with the borrower to complete the sale of five of the remaining units and rent the other nine units until the sales market improves.
Larger loans sometimes increase above 10% of the secured loan portfolio or partnership assets as these amounts decrease due to limited partner withdrawals and loan payoffs and due to restructuring of existing loans.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 4 - LOANS (continued)
Lien position
Secured loans had the lien positions presented in the following table ($ in thousands).
(1)
Based on appraised values and liens due other lenders at loan closing. The loan to value computation does not take into account subsequent increases or decreases in security property values following the loan closing nor does it include decreases or increases of the amount owing on senior liens to other lenders by payments or interest accruals, if any. Property values likely have changed, particularly over the last three years, and the portfolio’s current loan to value ratio likely is higher than this historical ratio.
Property type
Secured loans summarized by property type are presented in the following table ($ in thousands).
Single family properties include owner-occupied and non-owner occupied single family homes (1-4 unit residential buildings), condominium units, townhouses, and condominium complexes. From time to time, loan originations in one sector or property type become more active due to prevailing market conditions. The current concentration of the partnership’s loan portfolio in condominium properties may pose additional or increased risks. Recovery of the condominium sector of the real estate market is generally expected to lag behind that of single-family residences. In addition, availability of financing for condominium properties has been, and will likely continue to be, constricted and more difficult to obtain than other property types. As of December 31, 2011 and 2010, $40,907,000 and $135,948,000, respectively, of the partnership’s loans were secured by condominium properties.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 4 - LOANS (continued)
Property type (continued)
Condominiums may create unique risks for the partnership that are not present for loans made on other types of properties. In the case of condominiums, a board of managers generally has discretion to make decisions affecting the condominium building, including regarding assessments to be paid by the unit owners, insurance to be maintained on the building, and the maintenance of that building, which may have an impact on the partnership loans that are secured by such condominium property.
The partnership may have less flexibility in foreclosing on the collateral for a loan secured by condominiums upon a default by the borrower. Among other things, the partnership must consider the governing documents of the homeowners association and the state and local laws applicable to condominium units, which may require an owner to obtain a public report prior to the sale of the units.
Distribution by California counties
The distribution of secured loans outstanding by the California county in which the primary collateral is located is presented in the following table at December 31, 2011 ($ in thousands).
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 4 - LOANS (continued)
Scheduled maturities
Secured loans are scheduled to mature as presented in the following table ($ in thousands).
It is the partnership’s experience that loans may be repaid or refinanced before, at or after the contractual maturity date. For matured loans, the partnership may continue to accept payments while pursuing collection of amounts owed from borrowers. Therefore, the above tabulation for scheduled maturities is not a forecast of future cash receipts.
The partnership reports maturity data based upon the most recent contractual agreement with the borrower. The table above includes 2 loans with an aggregate principal of $675,000 which have had their maturity dates extended, and 2 other loans with an aggregate principal of $597,000 which are renewals.
Matured loans
Secured loans past maturity are summarized in the following table ($ in thousands).
(2)
The secured loans past maturity include 8 and 10 loans as of December 31, 2011 and 2010, respectively, also included in the secured loans in non-accrual status.
(3)
The secured loans past maturity include 7 and 11 loans as of December 31, 2011 and 2010, respectively, also included in the secured loans delinquency.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 4 - LOANS (continued)
Delinquency
Secured loans summarized by payment delinquency are presented in the following table ($ in thousands).
(4)
The partnership reports delinquency based upon the most recent contractual agreement with the borrower. At December 31, 2011 a loan with a principal of approximately $4,000,000 is shown as current as all past due amounts were received in early January 2012. Also at December 31, 2012, a loan with a principal of approximately $16,500,000 is shown as current as it was a new loan created from two past due loans on which the borrower made a payment of $3,000,000 in December 2012, and has been making timely scheduled payments on the new loan.
At December 31, 2011, the partnership had 8 workout agreements in effect with an aggregate principal of $4,255,000. Of the 8 borrowers, 7, with an aggregate principal of $3,590,000 had made all required payments under the workout agreements and the loans were included in the above table as current. Six of the 8 loans, with an aggregate principal of $3,649,000 were designated impaired and 4 of the 6 impaired loans with an aggregate principal of $1,131,000 were in non-accrual status.
At December 31, 2010, the partnership had 14 workout agreements in effect with an aggregate principal of $20,444,000. Of the 14 borrowers, 11, with an aggregate principal of $19,097,000 had made all required payments under the workout agreements and the loans were included in the above table as current. The three loans 90 or more days past due, were not designated impaired and were accruing interest. Ten of the 14 loans, with an aggregate principal of $19,223,000 were designated impaired and 6 of the 10 impaired loans with an aggregate principal of $10,131,000 were in non-accrual status.
Interest income accrued on loans contractually past due 90 days or more as to principal or interest payments during the years ended December 31, 2011 and 2010 was $112,000 and $2,374,000, respectively. Accrued interest on loans contractually past due 90 days or more as to principal or interest payments at December 31, 2011 and 2010 was $1,458,000 and $12,078,000, respectively.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 4 - LOANS (continued)
Loans in non-accrual status
Secured loans in nonaccrual status are summarized in the following table ($ in thousands).
At December 31, 2011 and 2010, there were one and four loans, respectively, with loan balances of $195,000 and $1,327,000, respectively, that were contractually 90 or more days past due as to principal or interest and not in non-accrual status.
Impaired Loans
Impaired loans had the balances shown and the associated allowance for loan losses presented in the following table ($ in thousands).
(5)
Recorded investment is the sum of principal, advances, and interest accrued for financial reporting purposes.
Impaired loans had the average balances and interest income recognized and received in cash as presented in the following table for the years ended December 31, ($ in thousands).
The partnership modified 7 and 10 loans during 2011 and 2010, respectively, by extending the maturity date, lowering the interest rate or reducing the monthly payment. These loans are deemed impaired and are carried at the value of the collateral.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 4 - LOANS (continued)
Allowance for loan losses
Activity in the allowance for loan losses is presented in the following table for the years ended December 31 ($ in thousands).
The composition of the allowance for loan losses and the percentage of unpaid principal balance for each property type are presented in the following table for the years ended December 31, ($ in thousands).
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 5 - REAL ESTATE HELD FOR SALE
Periodically, management reviews the status of the owned properties to evaluate among other things, their asset classification. Properties generally are acquired through foreclosure. Several factors are considered in determining the classification of owned properties as “real estate held for sale” or “real estate held as investment.” These factors include, but are not limited to, real estate market conditions, status of any required permits, repair, improvement or development work to be completed, rental and lease income and investment potential. Real estate owned is classified as held for sale in the period in which the GAAP required criteria are met. As a property’s status changes, reclassifications may occur.
Transactions and activity, including changes in the net realizable values, if any, and the property types are presented in the following table for the years ended December 31, ($ in thousands).
Properties included for the last fiscal year are located in the following California counties: Humboldt, Los Angeles, Napa, San Francisco, and San Joaquin. During the last fiscal year, the partnership acquired two properties by foreclosure or deed in lieu of foreclosure, in which properties the partnership had an aggregate investment of $15,959,000 as of the respective acquisition dates. One acquired property was subject to a lien senior to the partnership’s interests, and the partnership’s share of the lien was $107,000 as of the acquisition date. Of the properties listed in the tables as dispositions in the last fiscal year, we incurred an aggregate investment loss of $(124,000).
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 5 - REAL ESTATE HELD FOR SALE (continued)
The earnings from rental operations of the real estate held for sale is presented in the following table for the years ended December 31 ($ in thousands).
Interest expense on the mortgages securing the rental properties was $640,000 and $552,000 for 2011 and 2010, respectively.
In the fourth quarter of 2011, the partnership acquired through foreclosure a single-family residence in Humboldt County, California. The recorded investment was approximately $260,000 and was subject to a mortgage loan with a balance at acquisition of approximately $107,000.
In the third quarter of 2011, the partnership acquired through foreclosure, a commercial property/development site located in San Francisco County, California, currently operating as a parking lot. The property is adjacent to the proposed TransBay terminal and is zoned for a high-rise building. The recorded investment was approximately $15,700,000.
During the third quarter of 2011, the partnership designated as REO held for sale, two condominium units acquired in the second quarter of 2011, designated as REO held as investment. One of the units sold in November 2011 and the other unit sold in January 2012. These two sales resulted in a gain of approximately $172,000.
In the fourth quarter of 2010, the partnership acquired 2 properties through foreclosure or a deed in lieu of foreclosure.
-
Commercial office building of approximately 140,000 square feet, located in Los Angeles County, California. At acquisition, the partnership’s investment in the property was approximately $11,400,000. A court appointed receiver has been overseeing the management and cosmetic improvements of the property. The property has been listed for sale with a national real estate firm.
-
A mixed-use property consisting of a single-family residence, winery and vineyard, located in Napa County, California. The partnership placed its interest in the title to the property in a single asset entity named Diamond Heights Winery, LLC. At acquisition the recorded investment was approximately $3,800,000. An independent, professional management firm has been engaged to oversee the permitting process and improvement at the property. The property has been reclassified from REO held as investment. The property was sold for $3,400,000 in the first quarter of 2012.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 5 - REAL ESTATE HELD FOR SALE (continued)
In third quarter of 2010, the partnership acquired two properties through foreclosure.
-
A single family residence located in Los Angeles County, California. At acquisition the partnership’s investment in the property was approximately $2,500,000. In July 2011 the property was sold for a sales price of $2,750,000 with a resultant gain of approximately $49,000.
-
In September 2010, the partnership acquired a commercial office building located in Alameda County, California. At acquisition the recorded investment in the property was approximately $3,900,000. The property was reclassified to REO held for sale in 2011, and was sold in December 2011 for an approximate sales price of $4,280,000, and a resultant gain of approximately $474,000.
In the second quarter of 2010, SF Dore, LLC, a wholly-owned subsidiary of the partnership, acquired a 42 unit condominium complex located in San Francisco, California. At acquisition, the partnership’s total investment in the property was approximately $12,808,000. The property is subject to a mortgage loan with a balance at acquisition of approximately $5,925,000 and an interest rate of 4.20%. An independent, professional management firm was engaged to oversee rental operations. In September 2010, the property was listed for sale with a national real estate firm and accordingly, has been re-designated as real estate held for sale. The property sold in the second quarter of 2011 with a sales price of $12,737,000.
In the first quarter of 2010, the partnership acquired four properties through foreclosure.
-
An approximately 13,500 square foot commercial property located in San Francisco, California. At acquisition the recorded investment was approximately $3,400,000. The property is currently vacant and typical cosmetic improvements have been made to enhance the property’s appeal to the real estate leasing and sale markets. In December 2010, this property had been re-designated as real estate owned, held for sale.
-
An eight unit condominium complex located in San Francisco, California. At acquisition the recorded investment was approximately $3,540,000. The property was subject to a senior loan of $2,460,000, with an interest rate of 7.00%. Following its acquisition, the property has been operated as a rental property and is considered fully occupied. An independent, professional management firm has been engaged to oversee property operations. In September 2010, the property was listed for sale with a national real estate firm and accordingly, had been re-designated as real estate held for sale.
-
The partnership with two affiliated partnerships, acquired as tenants in common, a 22 unit, condominium complex in San Francisco County, California in which the partnership holds a 70.00% ownership interest. The recorded investment at acquisition was approximately $7,188,000. The property is subject to a senior loan with an interest rate of 7.21%. The partnership's share of the unpaid principal balance of the senior loan was $4,512,000. Following its acquisition, the property had been operated as a rental property. An independent, professional management firm has been engaged to oversee property operations. In February, 2011, the sale of the entire complex was completed with a total sales price of $9,725,000. Impairment losses of approximately $730,000 were recorded in 2010.
-
A mixed use commercial property located in Marin County, California. At acquisition the recorded investment was approximately $863,000. The property was vacated and typical cosmetic improvements are being made to enhance the property’s appeal to the real estate leasing and sale markets. In the fourth quarter of 2011 the sale of the property was completed with a sales price of $820,000 and a gain on sale of approximately $4,000.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 6 - REAL ESTATE HELD AS INVESTMENT
Transactions and activity, including changes in the net realizable values, if any, and the property types are presented in the following table for the years ended December 31 ($ in thousands).
At December 31, 2011, there was 1 property with a carrying value of $3,148,000 in construction with remaining construction costs of approximately $2,154,000, and at December 31, 2010, there were 3 properties with a carrying value of $7,537,000 in construction and/or rehabilitation.
Properties included for the last fiscal year are located in the following California counties: Alameda, Amador, Contra Costa, Los Angeles, Marin, Napa, Sacramento, San Francisco, San Joaquin, Stanislaus and Sutter. During the last fiscal year, the partnership acquired 11 properties by foreclosure or deed in lieu of foreclosure, in which properties the partnership had an aggregate investment of $70,351,000 as of the respective acquisition dates. Three of the acquired properties were subject to liens senior to the partnership’s interests, and the partnership’s share of those liens aggregated $21,416,000 as of the respective acquisition dates. Of the properties listed in the tables as dispositions in the last fiscal year, we incurred aggregate investment gains of $645,000.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 6 - REAL ESTATE HELD AS INVESTMENT (continued)
The earnings/(loss) from rental operations of the real estate owned, held as investment is presented in the following table for the years ended December 31 ($ in thousands).
Interest expense on the mortgages securing the rental properties was $1,675,000 and $674,000 for 2011 and 2010, respectively.
In the fourth quarter of 2011, the partnership acquired through foreclosure condominium units (14) in a 41 unit building in San Francisco County, California. The recorded investment was approximately $2,860,000. An independent management firm has been engaged to oversee rental operations of the units.
In the third quarter of 2011, the partnership acquired five properties through foreclosure.
-
Condominium units (4) in a 37 unit building in Alameda County, California. The recorded investment was approximately $600,000. An independent management firm has been engaged to oversee rental operations of the units.
-
Multi-family complex in Sacramento County, California (Elk Grove Property Company, LLC). The partnership acquired 257 of the 280 units. The recorded investment was approximately $41,000,000. The property was subject to a mortgage loan with a balance at acquisition of approximately $13,780,000 and an interest rate of 7.50%.
-
Condominium units (15) in a 30 unit complex, in Alameda County, California (Second Street Midtown Property Company, LLC). The recorded investment was approximately $3,150,000. An independent management firm has been engaged to oversee rental operations of the units.
-
Condominium units (29) in a 50 unit complex, in Contra Costa County, California. The recorded investment was approximately $3,190,000. An independent management firm has been engaged to oversee rental operations of the units.
-
A 38 unit multi-family complex, in San Joaquin County, California (Winchester Property Company, LLC). The recorded investment was approximately $2,505,000. An independent management firm has been engaged to oversee rental operations of the units.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 6 - REAL ESTATE HELD AS INVESTMENT (continued)
In the second quarter of 2011, the partnership acquired two properties through foreclosure.
-
Condominium units (3) in a 19 unit building in San Francisco County, California. The recorded investment was approximately $1,362,000. Two of the units are subject to separate mortgages with an aggregate amount owed of $830,000, each with variable interest rates at acquisition between 2.8% and 3.9%, and were assigned to real estate held for sale in the third quarter. The remaining unit, a common storage area and signage rental space, has been assigned to SF Stagehouse Property Company, LLC.
-
Condominium units (32) in an 81 unit complex, in Alameda County, California. The recorded investment was approximately $5,000,000. An independent management firm has been engaged to oversee rental operations of the units.
In the first quarter of 2011, the partnership acquired three properties through foreclosure.
-
Multi-family complex in Santa Clara County, California (The Element, LLC). The recorded investment was approximately $8,130,000. The property was subject to an interest-only mortgage loan with a balance at acquisition of approximately $6,800,000 and an interest rate of 6.25%. In June 2011, the Element, LLC was sold for $8,800,000.
-
Condominium units (9) in a 36 unit complex, in Sutter County, California (Lincoln Village LLC). The recorded investment was approximately $495,000. An independent management firm has been engaged to oversee rental operations of the units.
-
Recreation property (45.7 acres) in Amador County, California (Pine Acres LLC). The recorded investment was approximately $2,200,000. An independent management firm has been engaged to oversee rental operations of the units.
In the fourth quarter of 2010, the partnership acquired three properties by foreclosure.
-
Condominium units (6) in an 18 unit complex, located in Contra Costa County, California. The partnership placed its interest in the title to the property in a single asset entity named Richmond Eddy Property Company, LLC. At acquisition the recorded investment was approximately $960,000. An independent, professional management firm has been engaged to oversee rental operations of the units.
-
In October 2010, the partnership acquired by foreclosure, a 48 unit condominium complex located in Concord, California. The partnership placed its interest in the title to the property in a single asset entity named Diablo Villa Property Company, LLC. At acquisition the partnership’s investment was approximately, $8,800,000. An independent, professional management firm has been engaged to oversee the rental operations at the property.
In the second quarter of 2010, the partnership acquired through foreclosure, a commercial property located in San Francisco County, California. At acquisition the recorded investment was approximately $10,342,000. The property is subject to a mortgage loan with a balance at acquisition of approximately $7,800,000 and an interest rate of 6.53%. The property's sole tenant is the City of San Francisco, which occupies all leasable space on the property.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 7 - BORROWINGS
Bank loan, secured
The partnership’s bank loan/line of credit matured on June 30, 2010, which maturity date was subsequently extended to October 18, 2010. The line of credit and related loan agreement had required the partnership to comply with certain financial covenants. As a result of reporting a net loss for the quarter ended September 30, 2009 and for the year ended December 31, 2009, the partnership was in technical non-compliance with the profitability covenant set forth in the loan agreement. In the fourth quarter of 2009, the banks and the partnership entered into a forbearance agreement under which the banks agreed, among other things, to forbear from exercising its rights and remedies arising out of the partnership’s default in failing to comply with the profitability financial covenant until January 20, 2010 (which, forbearance period was subsequently extended to October 18, 2010). The terms of the forbearance agreement included increasing the interest rate on the line of credit by 2.0 percentage points to the default rate (prime plus 1.5%) effective as of October 1, 2009 and charging a forbearance fee of $148,000. Other modifications of the loan terms included a reduction of the revolving loan commitment to $80 million; suspension of the revolving facility; and assignment of unassigned notes receivable secured by mortgages as additional collateral.
As of October 18, 2010, the partnership and the banks entered into an amended and restated loan agreement. The significant terms and conditions in the amended loan agreement include: 1) an extended maturity date of June 30, 2012; with continuing scheduled pay downs of the loan amount to maturity; 2) an interest rate of Prime plus 1.5% subject to a floor of 5.0%; 3) an annual facility fee (payable quarterly) of 0.5%; 4) required remittance to the banks of 70% of net proceeds from the sale or refinance of REO and/or net proceeds from loan payoffs in excess of $5 million; 5) required remittance of cash balances in excess of $12 million; 6) restrictions on use of cash including no new loans with the exception of refinance of existing loans, no expenditures in the ordinary course of business to preserve, maintain, repair, or operate property in excess of $1 million without prior written consent (subject to exclusions for funds set aside for REO projects and servicing of senior liens designated in the loan agreement), limitations on distributions to electing limited partners of an amount not to exceed a distribution rate of 2.1%; 7) a collateral covenant, and 8) a financial covenant.
The bank loan balance at December 31, 2011 and 2010 was $16,789,000 and $50,000,000, respectively.
The required minimum principal payments are $16,789,000 for 2012.
The bank loan balance at April 12, 2012 was approximately $10,250,000.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 7 - BORROWINGS (continued)
Mortgages payable
Mortgages payable are summarized in the following table (mortgage balance $ in thousands).
(1) Monthly payments include amounts for various impounds such as property taxes, insurance, and repairs.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 7 - BORROWINGS (continued)
Mortgages payable (continued)
During 2011, significant transactions to mortgages payable were as follows.
-
In the third quarter a property in Sacramento County, California was acquired subject to a mortgage with East West Bank. Terms for a new loan with a further maturity date and lower interest rate are being negotiated with the current lender.
-
In the second quarter a condominium unit in San Francisco, California was acquired subject to a mortgage with Chase Bank. The property was sold in January 2012 and the mortgage was paid off.
-
In the fourth quarter a single-family residence in Humboldt County, California was acquired subject to a mortgage with GMAC.
-
In the second quarter the property held by SF Dore, LLC was sold and the related mortgage with PNC Bank was paid off.
The future minimum payments of principal on the above mortgages are presented in the following table ($ in thousands).
NOTE 8 - COMMITMENTS AND CONTINGENCIES, OTHER THAN LOAN COMMITMENTS
Legal proceedings
In the normal course of business, the partnership may become involved in various legal proceedings such as assignment of rents, bankruptcy proceedings, appointment of receivers, unlawful detainers, judicial foreclosure, etc., to enforce the provisions of the deeds of trust, collect the debt owed under the promissory notes, or to protect, or recoup its investment from the real property secured by the deeds of trust and to resolve disputes between borrowers, lenders, lien holders and mechanics. None of these actions typically would be of any material importance. As of the date hereof, the partnership is not involved in any legal proceedings other than those that would be considered part of the normal course of business.
Commitments
At December 31, 2011, there was one property with a carrying value of $3,148,000 in construction with remaining construction costs of approximately $2,154,000.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 9 - FAIR VALUE
GAAP defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.
The partnership determines the fair values of its assets and liabilities based on the fair value hierarchy established in GAAP. The standard describes three levels of inputs that may be used to measure fair value (Level 1, Level 2 and Level 3). Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the partnership has the ability to access at the measurement date. An active market is a market in which transactions occur with sufficient frequency and volume to provide pricing information on an ongoing basis. Level 2 inputs are inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability. Unobservable inputs reflect the partnership’s own assumptions about the assumptions market participants would use in pricing the asset or liability (including assumptions about risk). Unobservable inputs are developed based on the best information available in the circumstances and may include the partnership’s own data.
The partnership does not record loans at fair value on a recurring basis.
Assets and liabilities measured at fair value on a non-recurring basis as of December 31, 2011 ($ in thousands).
Assets and liabilities measured at fair value on a non-recurring basis as of December 31, 2010 ($ in thousands).
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2011 and 2010
NOTE 9 - FAIR VALUE (continued)
The following methods and assumptions were used to estimate the fair value:
(a)
Cash and cash equivalents. The carrying amount equals fair value. All amounts, including interest bearing accounts, are subject to immediate withdrawal.
(b)
Secured loans. The fair value of the non-impaired loans of $6,948,000 and $22,019,000 at December 31, 2011 and 2010, respectively, was estimated based upon projected cash flows discounted at the estimated current interest rates at which similar loans would be made. For impaired loans in which a specific allowance is established based on the fair value of the collateral, the collateral fair value is determined by exercise of judgment based on management’s experience informed by appraisals (by licensed appraisers), brokers opinion of values, and publicly available information on in-market transactions (Level 2 inputs). Historically, it has been rare for determinations of fair value to be made without substantial reference to current market transactions. However, in recent years, due to the low number of real estate transactions, and the rising number of transactions that are distressed (i.e., that are executed by an unwilling seller - often compelled by lenders or other claimants - and/or executed without broad exposure or with market exposure but with few, if any, resulting offers), more interpretation, judgment and interpolation/extrapolation within and across property types is required (Level 3 inputs).
(c)
Unsecured loans. Unsecured loans are valued at their principal less any discount or loss reserves established by management after taking into account the borrower’s creditworthiness and ability to repay the loan.
(d)
Real estate held. Real estate acquired in full or partial settlement of loan obligations, generally through foreclosure, is recorded at acquisition at the lower of the recorded investment in the loan, plus any senior indebtedness, or at the property’s fair value less estimated costs to sell, as applicable. The fair value estimates are derived from information available in the real estate markets including similar property, and often require the experience and judgment of third parties such as commercial real estate appraisers and brokers. Historically, it has been rare for determinations of fair value to be made without substantial reference to current market transactions. However, in recent years, due to the low number of real estate transactions, and the rising number of transactions that are distressed (i.e., that are executed by an unwilling seller - often compelled by lenders or other claimants - and/or executed without broad exposure or with market exposure but with few, if any, resulting offers), more interpretation, judgment and interpolation/extrapolation within and across property types is required.
(e)
Bank loan. The partnership has a bank loan, evidenced by a promissory note, in an outstanding amount of $16,789,000 at December 31, 2011. The interest rate of 1.5 points above the prime rate, or 4.75%, with a floor of 5% is deemed to be a market rate and the other terms and conditions are deemed to be customary for a well collateralized note with an 18-month loan term.
NOTE 10 - SUBSEQUENT EVENTS
Subsequent to December 31, 2011:
The partnership has sold four condominium units in San Francisco, California for total consideration of $5,133,000. One unit was subject to a mortgage of $432,000.
The partnership has sold a mixed use property in Napa, California for total consideration of $3,400,000.
The partnership has received cash of approximately $1,500,000 for full pay offs on two loans, and $3,200,000 as partial pay offs on two other loans.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Schedule II - Valuation and Qualifying Accounts
For the Years Ended December 31, 2011, 2010 and 2009
($ in thousands)
Note (a) - Represents write-offs of loans or transfers
Note (b) - Represents write-offs of real estate owned
Note (c) - Represents the combining of this account with the related asset account
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Schedule IV - Mortgage Loans on Real Estate
Rule 12-29 Loans on Real Estate
December 31, 2011
($ in thousands)
Notes: Most loans have balloon payments due at maturity. Amounts in column E represent liens at the time our loan was made. As required by rule 12-29, column H represents amounts 90 days or more delinquent in principal or interest payments.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Schedule IV - Mortgage Loans on Real Estate
Rule 12-29 Loans on Real Estate (continued)
($ in thousands)
Reconciliation of carrying amount (cost) of loans at close of periods.
Item 9
Item 9 - Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
There were no changes in or disagreements with the partnership’s independent registered public accounting firm during the years ended December 31, 2011 and 2010.
Item 9A
Item 9A - Controls and Procedures
Evaluation of Disclosure Controls and Procedures
The partnership carried out an evaluation, under the supervision and with the participation of the general partners of the effectiveness of the design and operation of the partnership’s disclosure controls and procedures (as defined in Rule 13a-15 of the Securities Exchange Act of 1934) as of the end of the period covered by this report. Based upon that evaluation, the general partners concluded the partnership’s disclosure controls and procedures were effective.
General Partners’ Report on Internal Control Over Financial Reporting
The general partners are responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in the Exchange Act Rule 13a-15(f). The internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America.
The general partners and their respective managements conducted an evaluation of the effectiveness of the partnership’s internal control over financial reporting based on the Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on the results of this evaluation, the general partners concluded the partnership’s internal control over financial reporting was effective as of December 31, 2011.
This annual report does not include an attestation report of the partnership’s independent registered public accounting firm regarding internal control over financial reporting because current law and SEC rules require such attestation reports only for large accelerated filers and accelerated filers (and the partnership, as a smaller reporting company, is not subject to that requirement).
Changes to Internal Control Over Financial Reporting
There have not been any changes in the partnership’s internal control over financial reporting in 2011 that have materially affected, or are reasonably likely to materially affect, the partnership’s internal control over financial reporting.
Item 9B
Item 9B - Other Information
None
Part III
Item 10
Item 10 - Directors, Executive Officers and Corporate Governance
The partnership has no officers or directors. The general partners are RMC, RMC’s wholly-owned subsidiary Gymno LLC, and Michael R. Burwell, an individual. The general partners are solely responsible for managing the partnership business, subject to the rights of the limited partners to vote on specified matters. Any one of the general partners acting alone has the power and authority to act for and bind the partnership. A majority of the outstanding limited partnership interests may, without the consent of the general partners, vote to: (i) terminate the partnership, (ii) amend the limited partnership agreement, (iii) approve or disapprove the sale of all or substantially all of the assets of the partnership and (iv) remove or replace one or all of the general partners. The approval of the majority of limited partners is required to elect a new general partner to continue the partnership business where there is no remaining general partner after a general partner ceases to be a general partner other than by removal.
The General Partners
Redwood Mortgage Corp. Redwood Mortgage Corp. is a licensed real estate broker incorporated in 1978 under the laws of the State of California, and is engaged primarily in the business of arranging and servicing mortgage loans. Redwood Mortgage Corp. acts as the loan broker and servicing agent in connection with loans.
Gymno LLC. Gymno LLC is a California limited liability company formed in 1986 as Gymno Corporation for the purpose of acting as a general partner of this partnership and of other limited partnerships formed by the individual general partners. Gymno is a wholly owned subsidiary of Redwood Mortgage Corp. and Michael R. Burwell is the Manager of Gymno.
Michael R. Burwell. Michael R. Burwell, age 55, past member of Board of Trustees and Treasurer, Mortgage Brokers Institute (1984-1986); President, Director, Chief Financial Officer, Redwood Mortgage Corp. (1979-present); Director, Secretary and Treasurer A & B Financial Services, Inc. (1980-2009); and President, Director, Chief Financial Officer and Secretary of Gymno Corporation (1986-2011); Manager of Gymno LLC (since 2011).
Financial Oversight by General Partners
The partnership does not have a board of directors or an audit committee. Accordingly, the general partners serve the equivalent function of an audit committee for, among other things, the following purposes: appointment, compensation, review and oversight of the work of our independent public accountants, and establishing the enforcing of the Code of Ethics. However, since the partnership does not have an audit committee and the general partners are not independent of the partnership, the partnership does not have an “audit committee financial expert.”
Code of Ethics
The general partners have adopted a Code of Ethics applicable to the general partners and to any agents, employees or independent contractors engaged by the general partners to perform the functions of a principal financial officer, principal accounting officer or controller of the partnership, if any. You may obtain a copy of this Code of Ethics, without charge, upon request by calling our Investor Services Department at (650) 365-5341.
Item 11
Item 11 - Executive Compensation
COMPENSATION OF THE GENERAL PARTNERS AND AFFILIATES BY PARTNERSHIP
As indicated above in Item 10, the partnership has no officers or directors. The partnership is managed by the general partners. There are certain fees and other items paid to management and related parties.
A more complete description of management compensation is found in the partnership’s prospectus dated August 4, 2005, under the section “Compensation of the General Partners and the Affiliates” (pages 23 through 28), which is herein incorporated by reference. Such compensation is summarized below.
I. THE FOLLOWING COMPENSATION HAS BEEN PAID TO THE GENERAL PARTNERS AND/OR THEIR AFFILIATES FOR SERVICES RENDERED DURING THE YEAR ENDED DECEMBER 31, 2011. ALL SUCH COMPENSATION IS IN COMPLIANCE WITH THE GUIDELINES AND LIMITATIONS SET FORTH IN THE PARTNERSHIP AGREEMENT.
II. FEES PAID BY BORROWERS ON MORTGAGE LOANS PLACED WITH THE PARTNERSHIP BY COMPANIES RELATED TO THE GENERAL PARTNERS DURING THE YEAR ENDED DECEMBER 31, 2011 (EXPENSES OF BORROWERS NOT OF THE PARTNERSHIP)
III. IN ADDITION, THE GENERAL PARTNERS AND/OR RELATED COMPANIES PAY CERTAIN EXPENSES ON BEHALF OF THE PARTNERSHIP FOR WHICH IT IS REIMBURSED AS NOTED IN THE CONSOLIDATED STATEMENTS OF INCOME DURING THE YEAR ENDED DECEMBER 31, 2011 . . . . . . . . . . . . . . . . . . . . . $1,195,000
Item 12
Item 12 - Security Ownership of Certain Beneficial Owners and Management, and Related Stockholder Matters
The general partners own an aggregate total of (0.44)% of the partnership and are allocated 1% of income and losses.
Item 13
Item 13 - Certain Relationships and Related Transactions, and Director Independence
See Note 3 (General Partners and Related Parties) to the financial statements in Part II, item 8, of this report for detailed presentations of transactions and agreements with related parties, which presentations are incorporated by this reference into this Item 13.
Also refer to the partnership’s prospectus, dated August 4, 2005, under the section “Compensation of General Partners and Affiliates” (pages 23 through 28), which is incorporated herein by reference.
For a description of the partnership’s policies and procedures for the review, approval or ratification of related party transactions, refer also to the partnership’s prospectus, dated August 4, 2005 for the discussion under the caption “Compensation of the General Partners and affiliates” beginning on page 23, the discussion under the caption “Conflicts of Interest” beginning on page 28 and the discussion under the captions “Investment Objectives and Criteria - Loans to General Partners and Affiliates” and “Investment Objectives and Criteria - Purchase of Loans From Affiliates and Other Third Parties” on page 42, which is incorporated herein by reference.
Since the partnership does not have a board of directors and since the general partners are not considered independent of the partnership, the partnership does not have the equivalent of independent directors.
Item 14
Item 14 - Principal Accountant Fees and Services
Fees for services performed for the partnership by the principal accountant for 2011 and 2010 are as follows:
Audit Fees. The aggregate fees billed and accrued during the years ended December 31, 2011 and 2010 for professional services rendered for the audit of the partnership’s annual financial statements included in the partnership’s Annual Report on Form 10-K, review of financial statements included in the partnership’s Quarterly Reports on Form 10-Q and for services provided in connection with regulatory filings were $364,180 and $613,817, respectively.
Audit Related Fees. There were no fees billed during the years ended December 31, 2011 and 2010 for audit-related services.
Tax fees. The aggregate fees billed for tax services for the years ended December 31, 2011 and 2010 were $47,703 and $69,183, respectively. These fees relate to professional services rendered primarily for tax compliance.
All Other Fees. There were no other fees billed during the years ended December 31, 2011 and 2010.
All audit and non-audit services are approved by the general partners prior to the accountant being engaged by the partnership.
Part IV
Item 15
Item 15 - Exhibits and Financial Statement Schedules
A. Documents filed as part of this report are incorporated:
1.
In Part II, Item 8 under A - Consolidated Financial Statements.
2.
The Consolidated Financial Statement Schedules are listed in Part II - Item 8 under B - Consolidated Financial Statement Schedules.
3.
Exhibits.
Exhibit No.
Description of Exhibits
3.1
Limited Partnership Agreement
3.2
Form of Certificate of Limited Partnership Interest
3.3
Certificate of Limited Partnership
10.1
Escrow Agreement
10.2
Servicing Agreement
10.3
(a)
Form of Note secured by Deed of Trust for Construction Loans, which provides for principal and interest payments
(b)
Form of Note secured by Deed of Trust for Commercial and Multi-Family loans which provides for principal and interest payments
(c)
Form of Note secured by Deed of Trust for Commercial and Multi-Family loans which provides for interest only payments
(d)
Form of Note secured by Deed of Trust for Single Family Residential Loans, which provides for interest and principal payments
(e)
Form of Note secured by Deed of Trust for Single Family Residential loans, which provides for interest only payments
10.4
(a)
Deed of Trust, Assignment of Leases and Rents, Security Agreement and Fixture Filing to accompany Exhibits 10.3 (a), and (c)
(b)
Deed of Trust, Assignment of Leases and Rents, Security Agreement and Fixture Filing to accompany Exhibit 10.3 (b)
(c)
Deed of Trust, Assignment of Leases and Rents, Security Agreement and Fixture Filing to accompany Exhibit 10.3 (c)
10.5
Promissory Note for Formation Loan
10.6
Agreement to Seek a Lender
10.7
Sixth Amended and Restated Loan Agreement. Certain schedules and exhibits to this agreement have not been filed herewith. The Registrant agrees to furnish supplementally a copy of any omitted schedule or exhibit to the Securities and Exchange Commission upon request.
21.1
Subsidiaries of Redwood Mortgage Investors VIII
31.1
Certification of General Partner pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2
Certification of General Partner pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.3
Certification of General Partner pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1
Certification of General Partner pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2
Certification of General Partner pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.3
Certification of General Partner pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
99.1
Selected Portions of the Prospectus, dated August 4, 2005 and Supplement No. 6 dated April 28, 2008
101.INS
*
XBRL Instance Document
101.SCH
*
XBRL Taxonomy Extension Schema Document
101.CAL
*
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF
*
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB
*
XBRL Taxonomy Extension Label Linkbase Document
101.PRE
*
XBRL Taxonomy Extension Presentation Linkbase Document
All of the above exhibits, other than exhibits 21.1, 31.1, 31.2, 31.3, 32.1, 32.2, 32.3, 99.1 and 101 exhibits were previously filed as the exhibits to Registrant’s Registration Statement on Form S-11 (Registration No. 333-106900 and incorporated by reference herein), except Exhibit 10.7 is incorporated by reference herein from Exhibit 10.7 to our Form 10-K filed on April 14, 2011.
* XBRL (Extensible Business Reporting Language) information is furnished and not filed herewith, is not a part of a registration statement of Prospectus for purposes of sections 11 or 12 of the Securities Act of 1933, is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, and otherwise is not subject to liability under these sections.
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934 the registrant has duly caused this report to be signed on its behalf by the undersigned, thereto duly authorized on the 16th day of April, 2012.
REDWOOD MORTGAGE INVESTORS VIII
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacity indicated on the 16th day of April, 2012.
Signature
Title
Date
/s/ Michael R. Burwell
Michael R. Burwell
President, Secretary/Treasurer of Redwood Mortgage Corp. (Principal Financial and Accounting Officer);
Director of Redwood Mortgage Corp.
April 16, 2012
/s/ Michael R. Burwell
Michael R. Burwell
Manager of Gymno LLC
April 16, 2012
/s/ Michael R. Burwell
Michael R. Burwell
General Partner
April 16, 2012