The following discussion of our financial condition and results of operations should be read in conjunction with the financial statements and notes to those statements included in Item 1 of this Form 10-Q. The discussion may contain certain forward-looking statements that involve risks and uncertainties. Forward-looking statements are those that are not historical in nature. As a result of many factors, such as those set forth under "Risk Factors" in our most recent Annual Report on Form 10-K and any subsequent Quarterly Reports on Form 10-Q, our actual results may differ materially from those anticipated in such forward-looking statements. Overview As used in this document, references to "
Bimini Capital," the parent company, and to or the general management of Bimini Capital'sportfolio of MBS refer to Bimini Capital Management, Inc.Through February 19, 2013, Bimini Capital'sconsolidated financial statements include Orchid Island Capital, Inc. ("Orchid") as a wholly-owned qualified REIT subsidiary. Orchid completed an initial public offering ("IPO") of its common stock effective February 20, 2013. After that date, Orchid continues to be consolidated as a variable interest entity ("VIE") as described below. As used in this document, discussions related to REIT qualifying activities include the MBS portfolios of Bimini Capitaland Orchid. References to Bimini Capital'staxable REIT subsidiaries or non-REIT eligible assets refer to Bimini Advisors, Inc.and Bimini Advisors, LLC(together, " Bimini Advisors") and to MortCo TRS, LLC("MortCo") and its consolidated subsidiaries. MortCo, which was previously named Opteum Financial Services, LLC, (referred to as "OFS") was renamed Orchid Island TRS, LLC(referred to as "OITRS") effective July 3, 2007and then renamed MortCo TRS, LLCeffective March 8, 2011. Hereinafter, any historical mention, discussion or references to Opteum Financial Services, LLC, Orchid Island TRS, LLC, OFS or to OITRS (such as in previously filed documents or Exhibits) now means MortCo. References to the "Company" refer to the consolidated entity which is the consolidation of Bimini Capital, Orchid, Bimini Advisors, MortCo and MortCo's consolidated subsidiaries. Bimini Capitalwas formed in September 2003to invest primarily in residential mortgage related securities issued by the Federal National Mortgage Association ("Fannie Mae"), the Federal Home Loan Mortgage Corporation ("Freddie Mac") and the Government National Mortgage Association("Ginnie Mae"). The Company deploys its capital into two core strategies. The two strategies are a levered MBS portfolio and an unlevered structured MBS portfolio. The leverage applied to the MBS portfolio will typically be less than twelve to one. The Company manages its portfolio of agency MBS and structured MBS to generate income derived from the net interest margin of its MBS portfolio, levered predominantly under repurchase agreement funding, net of associated hedging costs, and the interest income derived from its unlevered portfolio of structured MBS. The Company treats its remaining junior subordinated notes as an equity capital equivalent. The Company is self-managed and self-advised and has elected to be taxed as a REIT for U.S. federal income tax purposes.
Factors that Affect our Results of Operations and Financial Condition
A variety of industry and economic factors may impact our results of operations and financial condition. These factors include:
· interest rate trends;
· the difference between Agency MBS yields and our funding and hedging costs;
· competition for investments in Agency MBS; · recent actions taken by the Federal Reserve and the U.S. Treasury;
· prepayment rates on mortgages underlying our Agency MBS, and credit trends
insofar as they affect prepayment rates; and
· other market developments.
In addition, a variety of factors relating to our business may also impact our results of operations and financial condition. These factors include:
· our degree of leverage;
· our access to funding and borrowing capacity;
· our borrowing costs;
· our hedging activities;
· the market value of our investments; and
· the requirements to qualify as a REIT and the requirements to qualify for a
registration exemption under the Investment Company Act. 29
Consolidation of Orchid Island Capital, Inc.
Subsequent to Orchid's IPO and as of
June 30, 2014, management has concluded that Orchid is a VIE, as defined in generally accepted accounting principles, because Orchid's equity holders lack the ability through voting rights to make decisions about the activities that have a significant effect on the success of Orchid. Management has also concluded that Bimini Capitalis the primary beneficiary of Orchid because, under the management agreement between Bimini Advisorsand Orchid, Bimini Capitalhas the power to direct the activities of Orchid that most significantly impact its economic performance. As a result, subsequent to Orchid's IPO and through June 30, 2014, the Company has continued to consolidate Orchid in its Consolidated Financial Statements even though, as of June 30, 2014, Bimini owned 10.2% of the outstanding common stock of Orchid. The noncontrolling interests reported in the Company's consolidated financial statements represent the portion of equity ownership in Orchid held by stockholders other than Bimini Capital. Noncontrolling interests is presented in the equity section of the consolidated balance sheets, separate from equity attributed to Bimini Capital. Net income of Orchid is allocated between the noncontrolling interests and to Bimini Capitalin proportion to their relative ownership interests in Orchid. The consolidation of Orchid's assets and liabilities with those of Bimini Capitaland its wholly-owned subsidiaries gives the appearance of a much larger organization. However, the assets recognized as a result of consolidating Orchid do not represent additional assets that could be used to satisfy claims against Bimini Capital'sassets, nor do they represent amounts that are available to be distributed to Bimini Capital'sstockholders. Conversely, liabilities recognized as a result of consolidating Orchid do not represent additional claims on Bimini Capital'sassets; rather, they represent claims against the assets of Orchid. In addition to the presentation of the Company's consolidated portfolio activities in this section, we have also provided additional discussion related to the portfolio activities of Bimini Capitalon its own. We believe that this "parent-only" information along with the consolidated presentation provides useful information about the activities that are relevant to shareholders of Bimini Capital. Dividends To Stockholders In order to maintain its qualification as a REIT, Bimini Capitalis required (among other provisions) to annually distribute dividends to its stockholders in an amount at least equal to, generally, 90% of Bimini Capital'sREIT taxable income. REIT taxable income is a term that describes Bimini Capital'soperating results calculated in accordance with rules and regulations promulgated pursuant to the Internal Revenue Code. Beginning with its initial short tax period ended December 31, 2013, Orchid expects to qualify and elect to be taxed as a REIT. As such, the same taxation rules apply separately to Orchid. REIT taxable income is computed differently from net income as computed in accordance with generally accepted accounting principles ("GAAP net income"), as reported in the Company's accompanying consolidated financial statements. Depending on the number and size of the various items or transactions being accounted for differently, the differences between REIT taxable income and GAAP net income can be substantial and each item can affect several reporting periods. Generally, these items are timing or temporary differences between years; for example, an item that may be a deduction for GAAP net income in the current year may not be a deduction for REIT taxable income until a later year. The most significant differences are as follows: the results of the Company's taxable REIT subsidiaries do not impact REIT taxable income, unrealized gains or losses on the MBS do not impact REIT taxable income, interest income on MBS securities is computed differently for REIT taxable income and GAAP, and for tax reporting purposes Orchid's IPO expenses are considered capital costs. 30 -------------------------------------------------------------------------------- A REIT may be subject to a federal excise tax if it distributes less than 85% of its REIT taxable income by the end of the calendar year. Accordingly, dividends are based on its REIT taxable income (after considering the possible impact of applying NOLs to the income as described below in "Net Operating Losses"), as determined for federal income tax purposes, as opposed to its net income computed in accordance with GAAP (as reported in the accompanying consolidated financial statements). During the six and three months ended June 30, 2014, Bimini Capitalmade no dividend distributions as a separately reporting tax REIT. All distributions are made at the discretion of the Company's Board of Directors and will depend on the Company's results of operations, financial conditions, maintenance of REIT status, availability of net operating losses and other factors that may be deemed relevant. Bimini Capitaldeclared a special dividend in December 2009and a regular dividend in each of the six quarters thereafter. Bimini Capitalcontinues to evaluate its dividend payment policy. However, as more fully described below, due to net operating losses incurred in prior periods, Bimini Capitalis unlikely to declare and pay dividends to stockholders until such net operating losses have been consumed. Orchid paid its first dividend on March 27, 2013to stockholders of record as of March 25, 2013in an amount of $0.135per share of its common stock. Orchid has also paid dividends each month since then for a total amount of $1.395per share of its common stock during 2013 and $1.08during the six months ended June 30, 2014. Net Operating Losses As described above, a REIT may be subject to a federal excise tax if it distributes less than 85% of its REIT taxable income by the end of a calendar year. In calculating the amount of excise tax payable in a given year, if any, Bimini Capitalreduces REIT taxable income by distributions made to stockholders in the form of dividends and/or NOL carryforwards from prior years, to the extent any are available. Since income subject to excise tax is REIT taxable income less qualifying dividends and the application of NOLs, if a REIT has sufficient NOLs it could apply such NOLs against its taxable income and avoid excise taxes without paying qualifying dividends to stockholders. Accordingly, if in future periods Bimini Capitalhas taxable income, it can avoid the obligation to pay excise taxes by applying the estimated $17.9 millionof NOLs available as of December 31, 2013against such taxable income until the NOLs are exhausted in lieu of making distributions to stockholders. Further, Bimini Capital, could avoid the obligation to pay excise taxes through a combination of qualifying dividends and the application of NOLs. In any case, future distributions to stockholders are expected to be less than REIT taxable income until the existing NOLs are consumed.
Results of Operations
Described below are the Company's results of operations for the six and three months ended
June 30, 2014, as compared to the six and three months ended June 30, 2013. Net Income (Loss) Summary Consolidated net income for the six months ended June 30, 2014was $5.7 million, or $0.47basic and diluted income per share of Class A Common Stock, as compared to consolidated net loss of $2.6 million, or $0.24basic and diluted loss per share of Class A Common Stock, for the six months ended June 30, 2013. Consolidated net income for the three months ended June 30, 2014was $3.3 million, or $0.27basic and diluted income per share of Class A Common Stock, as compared to consolidated net income of $0.2 million, or $0.02basic and diluted income per share of Class A Common Stock, for the three months ended June 30, 2013. 31
-------------------------------------------------------------------------------- The components of net income (loss) for the six and three months ended
June 30, 2014and 2013, along with the changes in those components are presented in the table below: (in thousands) Six Months Ended June 30, Three Months Ended June 30, 2014 2013 Change 2014 2013 Change Net portfolio interest income $ 10,053 $ 3,398 $ 6,655 $ 6,391 $ 2,119 $ 4,272Interest expense on junior subordinated notes (489 ) (496 ) 7 (245 ) (248 ) 3 Gains (losses) on MBS and derivative instruments 7,725 (5,162 ) 12,887 6,804 (4,275 ) 11,079 Net portfolio income (deficiency) 17,289 (2,260 ) 19,549 12,950 (2,404 ) 15,354 Other income 2,426 4,784 (2,358 ) 2,243 2,801 (558 ) Expenses, including income taxes (1,478 ) (5,625 ) 4,147 (2,279 ) (1,288 ) (991 ) Net income (loss) 18,237 (3,101 ) 21,338 12,914 (891 ) 13,805 Income (loss) attributable to noncontrolling interests 12,538 (531 ) 13,069 9,584 (1,092 ) 10,676 Net income (loss) attributable to Bimini Capital Management, Inc. $ 5,699 $ (2,570 ) $ 8,269 $ 3,330 $ 201 $ 3,129As described below, "other income" includes gains on fair value adjustments on retained interests in securitizations. During the six and three months ended June 30, 2013, "other income" also includes approximately $3.0 millionfor the reversal of reserves related to certain loans MortCo had originated in its prior business.
GAAP and Non-GAAP Reconciliation
To date, the Company has used derivatives, specifically Eurodollar futures contracts and an interest rate swaption, to hedge the interest rate risk on its repurchase agreements and junior subordinate notes in a rising rate environment. Each Eurodollar contract covers a specific three month period, but the Company typically has many contracts in place at any point in time - usually covering several years in the aggregate. We currently have one interest rate swaption agreement in place, giving us the option to enter into a swap covering future periods. The Company has not elected to designate its derivative holdings for hedge accounting treatment under the
Financial Accounting Standards Board, (the "FASB"), Accounting Standards Codification, ("ASC"), Topic 815, Derivatives and Hedging. Changes in fair value of these instruments are presented in a separate line item in the Company's consolidated statements of operations and not included in interest expense. As such, for financial reporting purposes, interest expense and cost of funds are not impacted by the fluctuation in value of the derivative instruments. In the future, the Company may use other derivative instruments to hedge its interest expense and/or elect to designate its derivative holdings for hedge accounting treatment. For the purpose of computing economic net interest income and ratios relating to cost of funds measures, GAAP interest expense has been adjusted to reflect the realized gains or losses on specific derivative instruments that pertain to each period presented. As of June 30, 2014, the Company has Eurodollar futures contracts in place through 2018, and one interest rate swaption agreement in place covering periods beginning in 2015 through 2020. Adjusting our interest expense for the periods presented by the gains or losses on all derivative instruments would not accurately reflect our economic interest expense for these periods. For each period presented, the Company has combined the effects of the derivative financial instruments in place for the respective period with the actual interest expense incurred on repurchase agreements and junior subordinated notes to reflect total expense for the applicable period. Interest expense, including the effect of derivative instruments for the period, is referred to as economic interest expense. Net interest income, when calculated to include the effect of derivative instruments for the period, is referred to as economic net interest income. 32
However, under ASC 815, because the Company has not elected hedging treatment, the gains or losses on all of the Company's derivative instruments held during the period are reflected in our statements of operations. This presentation includes gains or losses on all contracts in effect during the reporting period, including those covering both the current period as well as future periods. The Company believes that economic interest expense and economic net interest income provides meaningful information to consider, in addition to the respective amounts prepared in accordance with GAAP. The non-GAAP measures help the Company to evaluate its financial position and performance without the effects of certain transactions and GAAP adjustments that are not necessarily indicative of its current investment portfolio or operations. The realized and unrealized gains or losses presented in the Company's consolidated statements of operations are not necessarily representative of the total interest rate expense that the Company will ultimately realize. This is because as interest rates move up or down in the future, the gains or losses the Company ultimately realizes, and which will affect the Company's total interest rate expense in future periods, may differ from the unrealized gains or losses recognized as of the reporting date. The Company's presentation of the economic value of its hedging strategy has important limitations. First, other market participants may calculate economic interest expense and economic net interest income differently than the Company calculates them. Second, while the Company believes that the calculation of the economic value of our hedging strategy described above helps to present our financial position and performance, it may be of limited usefulness as an analytical tool. Therefore, the economic value of the Company's investment strategy should not be viewed in isolation and is not a substitute for interest expense and net interest income computed in accordance with GAAP. The tables below present a reconciliation of the adjustments to interest expense shown for each period relative to our derivative instruments, and the income statement line item, gains (losses) on derivative instruments, calculated in accordance with GAAP for the six months ended
June 30, 2014and 2013 and each quarter during 2014 and 2013.