**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

**FORM 10-Q**

 

**ý****  QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THESECURITIES EXCHANGE ACT OF 1934**

 

**For the Quarterly Period Ended June 30, 2002**

** **

**Commission File Number 000-25193**

** **

**CAPITAL CROSSING PREFERRED CORPORATION**

(Exact name of registrant as specified in its charter)

 

| **Massachusetts**                                              |   | **04-3439366**                       |
|----------------------------------------------------------------|--------|--------------------------------------|
| (State or other jurisdiction of incorporation or organization) |   | (I.R.S. Employer Identification No.) |
|                                                           |   |                                 |
| **101 Summer Street Boston, Massachusetts**                    |   | **02110**                            |
| (Address of principal executive offices)                       |   | (Zip Code)                           |

 

Registrant’s telephone number, including area code: **(617) 880-1000**

 

Indicateby check mark whether the registrant: (1) has filed all reports required to befiled by Section 13 or 15(d) of the Securities Exchange Act of 1934 during thepreceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days. Yes  ý   No  o

 

Thenumber of shares outstanding of the registrant’s sole class of common stock was100 shares, $.01 par value per share, as of August 5, 2002.

 

 

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**Capital Crossing PreferredCorporation**

**Table ofContents**

 
| **PART I – Financial Information**                                                                           |
|-------------------------------------------------------------------------------------------------------------------|
|                                                                                                              |   |
| Item 1.  Financial Statements:                                                                               |
|                                                                                                              |   |
|                                                                                                              | a)     Balance Sheets |
|                                                                                                              |   |
|                                                                                                              | b)    Statements of Income |
|                                                                                                              |   |
|                                                                                                              | c)    Statements of Changes in Stockholders’  Equity |
|                                                                                                              |   |
|                                                                                                              | d)    Statements of Cash Flows |
|                                                                                                              |   |
|                                                                                                              | e)    Notes to Financial Statements |
|                                                                                                              |   |
| Item  2.  Management’s Discussion and  Analysis of Financial Condition and   Results of Operations |
|                                                                                                              |   |
|                                                                                                              | Risk Factors and Other Factors Affecting  Forward-Looking Statements |
|                                                                                                              |   |
| Item  3.  Quantitative and Qualitative  Disclosures about Market Risk                                        |
|                                                                                                              |   |
| **PART II — Other Information**                                                                              |
|                                                                                                              |   |
| Item 1.  Legal Proceedings                                                                                   |
|                                                                                                              |   |
| Item  4.  Submission of Matters to a Vote of  Security Holders                                               |
|                                                                                                              |   |
| Item 6.  Exhibits and Reports on Form 8-K                                                                    |
|                                                                                                              |   |
|                Signatures                        |
|                                                                                                              |   |
|                Exhibit  Index                    |
|                                                                                                              |   |
|                                                                                                              | Exhibit 99.1 Certification signed by Richard Wayne,  President (Principal Executive Officer) |
|                                                                                                              |   |
|                                                                                                              | Exhibit 99.2 Certification signed by Edward F. Mehm,  Treasurer (Principal Financial Officer) |
|                                                                                                                   |  |  |  |  |

 

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**PART I**

 

**Item 1. Financial Statements**

 

**CapitalCrossing Preferred Corporation**

**Balance Sheets**

 
|                                                                                                                                                                                               |   | **June 30,  2002**                    |    | **December 31,  2001** |   |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------------|---------|------------------------|--------|
|                                                                                                                                                                                               |   | **(unaudited)**                       |    |                   |   |
|                                                                                                                                                                                               |   | **(in thousands, except share data)** |    |
| **ASSETS**                                                                                                                                                                                         |   |                                  |    |                   |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| Cash account with Capital Crossing Bank                                                                                                                                                            |   | $                                     | 87      |                   | $      | 86 |   |
| Interest-bearing deposits with Capital Crossing Bank                                                                                                                                               |   | 63,749                                |    | 87,903                 |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| Total cash and cash equivalents                                                                                                                                                                    |   | 63,836                                |    | 87,989                 |   |
| Certificate of deposit                                                                                                                                                                             |   | 100                                   |    | 100                    |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| Loans                                                                                                                                                                                              |   | 307,167                               |    | 166,446                |   |
| Less discount and net deferred loan income                                                                                                                                                         |   | (34,097                               | )       | (14,411                | )      |
| Less allowance for loan losses                                                                                                                                                                     |   | (8,896                                | )       | (4,659                 | )      |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| Loans, net                                                                                                                                                                                         |   | 264,174                               |    | 147,376                |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| Accrued interest receivable                                                                                                                                                                        |   | 1,433                                 |    | 896                    |   |
| Other assets                                                                                                                                                                                       |   | 10                                    |    | 4                      |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
|                                                                                                                                                                                               |   | $                                     | 329,553 |                   | $      | 236,365 |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                                                                      |   |                                  |    |                   |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| Accrued expenses and other liabilities                                                                                                                                                             |   | $                                     | 403     |                   | $      | 417 |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| Total liabilities                                                                                                                                                                                  |   | 403                                   |    | 417                    |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| Stockholders’ equity:                                                                                                                                                                         |   |                                  |    |                   |   |
| Preferred stock, Series A, 9.75% non-cumulative, exchangeable; $.01 par  value; $10 liquidation value per share; 1,449,000 shares authorized,  1,416,130 shares issued and outstanding             |   | 14                                    |    | 14                     |   |
| Preferred stock, Series B, 8% cumulative, non convertible; $.01 par  value; $1,000 liquidation value per share plus accrued dividends; 1,000  shares authorized, 941 shares issued and outstanding |   | —                                |    | —                 |   |
| Preferred stock, Series C, 10.25% non-cumulative, exchangeable; $.01  par value; $10 liquidation value per share; 1,840,000 shares authorized,  issued and outstanding                             |   | 18                                    |    | 18                     |   |
| Common stock, $.01 par value, 100 shares authorized, issued and  outstanding                                                                                                                       |   | —                                |    | —                 |   |
| Additional paid-in capital                                                                                                                                                                         |   | 318,964                               |    | 235,742                |   |
| Retained earnings                                                                                                                                                                                  |   | 10,154                                |    | 174                    |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
| Total stockholders’ equity                                                                                                                                                                    |   | 329,150                               |    | 235,948                |   |
|                                                                                                                                                                                               |   |                                  |    |                   |   |
|                                                                                                                                                                                               |   | $                                     | 329,553 |                   | $      | 236,365 |   |

 

The accompanying notes are an integral part of these unaudited interimfinancial statements.

 

1

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**Capital Crossing Preferred Corporation**

**Statements of Income**

**(unaudited)**

** **
|                                       |   | **Three  Months Ended  June 30,** |   | **Six Months Ended  June 30,** |   |
|--------------------------------------------|--------|-----------------------------------|--------|--------------------------------|--------|
|                                       |   | **2002**                          |   | **2001**                       |   | **2002** |   | **2001** |   |
|                                       |   | **(in thousands)**                |   |
| Interest income:                           |   |                              |   |                           |   |   |   |   |   |
| Interest and fees on loans                 |   | $                                 | 5,485  |                           | $      | 4,310 |   | $ | 10,455 |   | $ | 9,359 |   |
| Interest on interest-bearing deposits      |   | 366                               |   | 1,011                          |   | 947 |   | 1,830 |   |
| Total interest income                      |   | 5,851                             |   | 5,321                          |   | 11,402 |   | 11,189 |   |
|                                       |   |                              |   |                           |   |   |   |   |   |
| Other income:                              |   |                              |   |                           |   |   |   |   |   |
| Gain on sale of loans                      |   | —                            |   | —                         |   | 517 |   | — |   |
| Guarantee fee income                       |   | 20                                |   | 20                             |   | 40 |   | 40 |   |
| Total other income                         |   | 20                                |   | 20                             |   | 557 |   | 40 |   |
|                                       |   |                              |   |                           |   |   |   |   |   |
| Operating expenses:                        |   |                              |   |                           |   |   |   |   |   |
| Loan servicing and advisory services       |   | 157                               |   | 100                            |   | 261 |   | 219 |   |
| Other general and administrative           |   | 30                                |   | 19                             |   | 47 |   | 37 |   |
| Total operating expenses                   |   | 187                               |   | 119                            |   | 308 |   | 256 |   |
|                                       |   |                              |   |                           |   |   |   |   |   |
| Net income                                 |   | 5,684                             |   | 5,222                          |   | 11,651 |   | 10,973 |   |
|                                       |   |                              |   |                           |   |   |   |   |   |
| Preferred stock dividends                  |   | 836                               |   | 527                            |   | 1,671 |   | 891 |   |
| Net income available to common stockholder |   | $                                 | 4,848  |                           | $      | 4,695 |   | $ | 9,980 |   | $ | 10,082 |   |

 

The accompanying notes are an integral part of these unaudited interimfinancial statements.

 

2

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**Capital Crossing Preferred Corporation**

**Statements of Changes in Stockholders' Equity**

**(unaudited)**

 
|                                              |   | **Six  Months Ended June 30, 2002** |   |
|---------------------------------------------------|--------|-------------------------------------|--------|
|                                              |   | **Common  Stock**                   |   | **Preferred  Stock  Series A** |   | **Preferred  Stock  Series B** |   |
|                                              |   | **Shares**                          |   | **Amount** |   | **Shares** |   | **Amount** |   | **Shares** |   | **Amount** |   |
|                                              |   | **(dollars  in thousands)**         |   |
|                                              |   |                                |   |   |   |   |   |   |   |   |   |   |   |
| Balance at December 31, 2001                      |   | 100                                 |   | $ | — |   | 1,416,130 |   | $ | 14 |   | 941 |   | $ | — |   |
| Net income                                        |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Capital contribution from common stockholder      |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Dividends on preferred stock, Series A            |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Cumulative dividends on preferred stock, Series B |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Dividends on preferred stock, Series C            |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Balance at June 30, 2002                          |   | 100                                 |   | $ | — |   | 1,416,130 |   | $ | 14 |   | 941 |   | $ | — |   |

 
|                                              |   | **Six  Months Ended June 30, 2002** |   |
|---------------------------------------------------|--------|-------------------------------------|--------|
|                                              |   | **Preferred  Stock  Series C**      |   | **Additional  Paid-in  Capital** |   | **Retained  Earnings** |   | **Total  Stockholders'  Equity** |   |
|                                              |   | **Shares**                          |   | **Amount** |   |
|                                              |   | **(dollars  in thousands)**         |   |
|                                              |   |                                |   |   |   |   |   |   |   |   |   |
| Balance at December 31, 2001                      |   | 1,840,000                           |   | $ | 18 |   | $ | 235,742 |   | $ | 174 |   | $ | 235,948 |   |
| Net income                                        |   | —                              |   | — |   | — |   | 11,651 |   | 11,651 |   |
| Capital contribution from common stockholder      |   | —                              |   | — |   | 83,222 |   | — |   | 83,222 |   |
| Dividends on preferred stock, Series A            |   | —                              |   | — |   | — |   | (690 | ) | (690 | ) |
| Cumulative dividends on preferred stock, Series B |   | —                              |   | — |   | — |   | (38 | ) | (38 | ) |
| Dividends on preferred stock, Series C            |   | —                              |   | — |   | — |   | (943 | ) | (943 | ) |
| Balance at June 30, 2002                          |   | 1,840,000                           |   | $ | 18 |   | $ | 318,964 |   | $ | 10,154 |   | $ | 329,150 |   |

 

 
|                                              |   | **Six  Months Ended June 30, 2001** |   |
|---------------------------------------------------|--------|-------------------------------------|--------|
|                                              |   | **Common  Stock**                   |   | **Preferred  Stock  Series A** |   | **Preferred  Stock  Series B** |   |
|                                              |   | **Shares**                          |   | **Amount** |   | **Shares** |   | **Amount** |   | **Shares** |   | **Amount** |   |
|                                              |   | **(dollars  in thousands)**         |   |
|                                              |   |                                |   |   |   |   |   |   |   |   |   |   |   |
| Balance at December 31, 2000                      |   | 100                                 |   | $ | — |   | 1,416,130 |   | $ | 14 |   | 946 |   | $ | — |   |
| Net income                                        |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Issuance of preferred stock, Series C             |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Dividends on preferred stock, Series A            |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Cumulative dividends on preferred stock, Series B |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Dividends on preferred stock, Series C            |   | —                              |   | — |   | — |   | — |   | — |   | — |   |
| Repurchase of preferred stock, Series B           |   | —                              |   | — |   | — |   | — |   | (5 | ) | — |   |
| Balance at June 30, 2001                          |   | 100                                 |   | $ | — |   | 1,416,130 |   | $ | 14 |   | 941 |   | $ | — |   |

 
|                                              |       | **Six  Months Ended June 30, 2001** |       |
|---------------------------------------------------|------------|-------------------------------------|------------|
|                                              |       | **Preferred  Stock  Series C**      |       | **Additional  Paid-in  Capital** |   | **Retained  Earnings** |   | **Total  Stockholders'  Equity** |   |
|                                              | **Shares** |                                | **Amount** |
|                                              |       | **(dollars  in thousands)**         |       |
|                                              |       |                                |       |   |   |   |   |   |   |   |   |
| Balance at December 31, 2000                      |       | —                              |       | $ | — |   | $ | 218,893 |   | $ | — |   | $ | 218,907 |   |
| Net income                                        |       | —                              |       | — |   | — |   | 10,973 |   | 10,973 |   |
| Issuance of preferred stock, Series C             |       | 1,840,000                           |       | 18 |   | 16,801 |   | — |   | 16,819 |   |
| Dividends on preferred stock, Series A            |       | —                              |       | — |   | — |   | (690 | ) | (690 | ) |
| Cumulative dividends on preferred stock, Series B |       | —                              |       | — |   | — |   | (38 | ) | (38 | ) |
| Dividends on preferred stock, Series C            |       | —                              |       | — |   | — |   | (163 | ) | (163 | ) |
| Repurchase of preferred stock, Series B           |       | —                              |       | — |   | (5 | ) | — |   | (5 | ) |
| Balance at June 30, 2001                          |       | 1,840,000                           |       | $ | 18 |   | $ | 235,689 |   | $ | 10,082 |   | $ | 245,803 |   |

 

The accompanying notes are an integral part of these unaudited interimfinancial statements.

 

3

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**Capital Crossing Preferred Corporation**

**Statements of Cash Flows**

**(unaudited)**

 
|                                                                          |   | **Six Months Ended June 30,** |   |
|-------------------------------------------------------------------------------|--------|-------------------------------|--------|
|                                                                          |   | **2002**                      |   | **2001** |   |
|                                                                          |   | **(in thousands)**            |   |
| Cash flows from operating activities:                                         |   |                          |   |   |   |
| Net income                                                                    |   | $                             | 11,651 |   | $ | 10,973 |   |
| Adjustments to reconcile net income to net cash from operating  activities:   |   |                          |   |   |   |
| Gain on sale of loans                                                         |   | (517                          | )      | — |   |
| Other, net                                                                    |   | 241                           |   | (38 | ) |
|                                                                          |   |                          |   |   |   |
| Net cash from operating activities                                            |   | 11,375                        |   | 10,935 |   |
|                                                                          |   |                          |   |   |   |
| Cash flows (used in) from investing activities:                               |   |                          |   |   |   |
| Amortization and payoffs on loans                                             |   | 39,094                        |   | 22,904 |   |
| Proceeds from sales of loans                                                  |   | 2,686                         |   | 167 |   |
| Purchase of loans from Capital Crossing Bank                                  |   | (75,637                       | )      | — |   |
|                                                                          |   |                          |   |   |   |
| Net cash (used in) from investing activities                                  |   | (33,857                       | )      | 23,071 |   |
|                                                                          |   |                          |   |   |   |
| Cash flows (used in) from financing activities:                               |   |                          |   |   |   |
| Issuance of preferred stock, Series C                                         |   | —                        |   | 16,819 |   |
| Repurchase of preferred stock, Series B                                       |   | —                        |   | (5 | ) |
| Payment of preferred stock dividends                                          |   | (1,671                        | )      | (728 | ) |
|                                                                          |   |                          |   |   |   |
| Net cash (used in) from financing activities                                  |   | (1,671                        | )      | 16,086 |   |
|                                                                          |   |                          |   |   |   |
| Net change in cash and cash equivalents                                       |   | (24,153                       | )      | 50,092 |   |
| Cash and cash equivalents at beginning of period                              |   | 87,989                        |   | 55,312 |   |
|                                                                          |   |                          |   |   |   |
| Cash and cash equivalents at end of period                                    |   | $                             | 63,836 |   | $ | 105,404 |   |
|                                                                          |   |                          |   |   |   |
| Supplemental information:                                                     |   |                          |   |   |   |
| Capital contributions from common stockholders in the form of mortgage  loans |   | $                             | 83,222 |   | $ | — |   |

 

The accompanying notes are an integral part of these unaudited interimfinancial statements.

 

4

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**Capital Crossing Preferred Corporation**

**Notesto Financial Statements**

**Three and Six Month Periods Ended June 30, 2002 and 2001**

 

Note 1.   Basis of Presentation

 

CapitalCrossing Preferred Corporation (“Capital Crossing Preferred”), is aMassachusetts corporation organized on March 20, 1998, to acquire and hold realestate assets. Capital Crossing Bank (“Capital Crossing”), a federally insuredMassachusetts trust company, owns all of Capital Crossing Preferred’s commonstock. At June 30, 2002, Capital Crossing was in compliance with its regulatorycapital requirements.

 

OnMarch 31, 1998, Capital Crossing Preferred was initially capitalized with theissuance to Capital Crossing of 100 shares of Capital Crossing Preferred’scommon stock, $.01 par value, and 1,000 shares of Series B preferred stock,$.01 par value, with Capital Crossing transferring to Capital CrossingPreferred a portfolio of loans at its estimated fair value of $140,740,000.Such loans were recorded in the accompanying balance sheet at CapitalCrossing’s historical cost, which approximated their estimated fair values.

 

In1999, Capital Crossing Preferred completed the sale of 1,416,130 shares ofSeries A preferred stock.  In 2001,Capital Crossing Preferred completed the sale of 1,840,000 shares of Series Cpreferred stock.

 

The financial information as of June 30, 2002 and theresults of operations for the three and six months ended June 30, 2002 and2001, changes in stockholders’ equity and cash flows for the six months endedJune 30, 2002 and 2001 are unaudited; however, in the opinion of management,the financial information reflects all adjustments (consisting solely of normalrecurring accruals) necessary for a fair presentation of such financialinformation in accordance with accounting principles generally accepted in theUnited States of America.  Interimresults are not necessarily indicative of results to be expected for the entireyear.  These interim statements areintended to be read in conjunction with the financial statements presented inCapital Crossing Preferred’s Annual Report on Form 10-K as of and for the yearended December 31, 2001.

 

In preparing financial statements in conformity withaccounting principles generally accepted in the United States of America,management is required to make estimates and assumptions that affect thereported amounts of assets and liabilities as of the date of the balance sheetand reported amounts of revenues and expenses during the reporting period.  Actual results could differ from thoseestimates.  Material estimates that areparticularly susceptible to significant change in the near term relate to thedetermination of the allowance for losses on loans, the allocation of purchasediscount between amortizing and non-amortizing portions, and the rate at whichdiscount is accreted into interest income.

 

Note 2.   Commitments andContingencies

 

Capital Crossing Preferred has guaranteed all of theobligations of Capital Crossing under advances Capital Crossing may receivefrom time to time from the Federal Home Loan Bank of Boston (“FHLBB”), and hasagreed to pledge a significant amount of its assets in connection with thoseadvances.  This guarantee would ranksenior to the preferred shares upon liquidation. Capital Crossing Preferred’sobligations under this agreement are limited by applicable laws pertaining tofraudulent conveyance and fraudulent transfer. The assets pledged to the FHLBBwill vary from time to time, however the potential exists for Capital CrossingPreferred to pledge all of its assets to the FHLBB to secure advances toCapital Crossing. In addition, Capital Crossing has pledged to the FHLBB all ofthe shares of Capital Crossing Preferred’s capital stock it owns as collateralfor its FHLBB borrowings.  Under theterms of the pledge, if Capital Crossing becomes undercapitalized the FHLBB mayrequire Capital Crossing to dissolve Capital Crossing Preferred such that theassets of Capital Crossing Preferred are distributed to Capital Crossing. Insuch circumstance, holders of the Series A and Series C preferred stock wouldreceive their liquidation preference only to the extent there are availableassets of Capital Crossing Preferred following satisfaction of its outstandingobligations, including its guarantee of Capital Crossing’s FHLBBborrowings.  At June 30, 2002,approximately $52.4 million, or 15.9%, of Capital Crossing Preferred’s assetshad been pledged to and accepted by the FHLBB to secure advances to CapitalCrossing.  Capital Crossing has alsoagreed with the FHLBB that it will not request or accept advances from theFHLBB in excess of Capital Crossing Preferred’s total stockholder’s equity,less the stockholder’s equity attributable to the Series A and Series Cpreferred shares. As of June 30, 2002, this restriction would limit CapitalCrossing’s ability to receive advances in excess of approximately $296.6million. As of June 30, 2002, Capital Crossing had $129.0 million in outstandingFHLBB borrowings.

 

5

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**Item 2. Management’s Discussion and Analysis of Financial Condition and Resultsof Operations**

 

Statements made or incorporated in this QuarterlyReport on Form 10-Q include a number of forward-looking statements within themeaning of Section 27A of the Securities Act of 1933, as amended, and Section21E of the Securities Exchange Act of 1934, as amended.  Forward-looking statements include, withoutlimitation, statements containing the words “anticipates,” “believes,”“estimates”, “assumes”, “expects,” “intends,” “future” and words of similarimport which express management’s belief, expectations or intentions regardingthe future performance of Capital Crossing Preferred.  These forward-looking statements are made as of the date of thisreport and we do not undertake to update them at anytime after the date hereof.Capital Crossing Preferred’s actual results could differ materially from thoseset forth in the forward-looking statements as a result, among other factors,of changes in general, national or regional economic conditions, changes ininterest rates, changes in loan default and charge-off rates relating to adecline in the commercial real estate market or otherwise, the possibleexchange of the preferred shares for preferred shares of Capital Crossing atthe direction of the FDIC if Capital Crossing becomes or may in the near termbecome undercapitalized or is placed in conservatorship or receivership, risksassociated with mortgage loans generally, and particularly the geographicconcentration of Capital Crossing Preferred’s loan portfolio at June 30, 2002in New England and California, and the failure by Capital Crossing Preferred tomaintain its status as a real estate investment trust (“REIT”) for federalincome tax purposes, changes in the assumptions used in making suchforward-looking statements, and the factors discussed in the section entitled“Risk Factors and Other Forward-Looking Statements” of this Form 10-Q.

 

**Results of Operations**

 

***Three Months Ended June 30, 2002 and 2001***

 

Netincome available to common stockholders increased $153,000, or 3.3%, to $4.9million for the three months ended June 30, 2002 compared to $4.7 million forthe three months ended June 30, 2001. This increase is primarily attributable to an increase in total interestincome of $530,000, or 10.0%, to $5.9 million for the three months ended June30, 2002, compared to $5.3 million for the three months ended June 30, 2001.This increase in total interest income was partially offset by an increase of$309,000, or 58.6%, in preferred stock dividends to $836,000 for the threemonths ended June 30, 2002, compared to $527,000 for the three months endedJune 30, 2001 as a result of the issuance of the Series C preferred stock onMay 31, 2001.  Interest income fromloans for the three months ended June 30, 2002 increased $1.2 million, or27.3%, to $5.5 million compared to $4.3 million for the three months ended June30, 2001.  The increase in interest incomeis due to the significant growth in the loan portfolio partially offset by adecline in the yield on total interest-earning assets.

 

Thefollowing table sets forth the yields on Capital Crossing Preferred’s earningassets for the periods indicated:

 
|                      |   | **Three Months Ended June 30,** |    |
|---------------------------|--------|---------------------------------|---------|
|                      |   | **2002**                        |    | **2001** |   |
|                      |   | **Average**Balance              |    | **Interest**Income |   | **Yield** |   | **Average**Balance |   | **Interest**Income |   | **Yield** |   |
|                      |   | **(dollars in thousands)**      |    |
|                      |   |                            |    |   |   |   |   |   |   |   |   |   |   |
| Loans, net (1)            |   | $                               | 223,462 |   | $ | 5,485 |   | 9.85 | % | $ | 144,263 |   | $ | 4,310 |   | 11.98 | % |
| Interest-bearing deposits |   | 53,025                          |    | 366 |   | 2.77 |   | 87,153 |   | 1,011 |   | 4.65 |   |
|                      |   | $                               | 276,487 |   | $ | 5,851 |   | 8.49 | % | $ | 231,416 |   | $ | 5,321 |   | 9.22 | % |

 

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(1)Non-performing loans are excluded from average balance calculations.

 

The weighted averageyield on loans decreased to 9.85% for the three months ended June 30, 2002 from11.98% for the three months ended June 30, 2001. This decrease in yield for thethree months ended June 30, 2002 as compared to 2001 is attributable to thegeneral decline in the rate environment since the 2001 period. Average loans,net, for the three months ended June 30, 2002 totaled $223.5 million comparedto $144.3 million for the three months ended June 30, 2001.  The increase in the average loan balance isprimarily attributable to the acquisition of $158.0 million of loans fromCapital Crossing during 2002, partially offset by loan amortization payoffs andsales.

 

Income on loans includes the portion of the purchasediscount that is accreted into income over the remaining lives of the relatedloans using the interest method. Because the carrying value of the loanportfolio is net of purchase discount, the related yield on this portfoliogenerally is higher than the aggregate contractual rate paid on the loans. Thetotal yield includes the excess of a loan’s expected discounted future cashflows over its net investment, recognized using the interest method.

 

6

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When a loan is paid off,the excess of any cash received over the net investment is recorded as interestincome. In addition to the amount of purchase discount that is recognized atthat time, income may also include interest owed by the borrower prior toCapital Crossing’s acquisition of the loan, interest collected if onnon-performing status and other loan fees (“other interest and fee income”).The following table sets forth, for the periods indicated, the components ofinterest and fees on loans. There can be no assurance regarding future interestincome, including the yields and related level of such income, or the relativeportion attributable to loan payoffs as compared to other sources, willincrease or remain the same in the future.

 
|                                                 |   | **Three Months Ended June 30,** |   |      |
|------------------------------------------------------|--------|---------------------------------|--------|-----------|
|                                                 |   | **2002**                        |   | **2001**  |   |   |
|                                                 |   | **Interest  Income**            |   | **Yield** |   | **Interest  Income** |   | **Yield** |   |   |
|                                                 |   | **(dollars in thousands)**      |   |      |
|                                                 |   |                            |   |      |   |   |   |   |   |
| Regularly scheduled interest and accretion income    |   | $                               | 4,555  |      | 8.18 | % | $ | 3,648 |   | 10.14 | % |
| Interest and fee income recognized on loan pay-offs: |   |                            |   |      |   |   |   |   |   |
| Non-amortizing discount                              |   | 519                             |   | 0.93      |   | 391 |   | 1.09 |   |
| Amortizing discount                                  |   | 295                             |   | 0.53      |   | 199 |   | 0.55 |   |
| Other interest and fee income                        |   | 116                             |   | 0.21      |   | 72 |   | 0.20 |   |
|                                                 |   | 930                             |   | 1.67      |   | 662 |   | 1.84 |   |
|                                                 |   | $                               | 5,485  |      | 9.85 | % | $ | 4,310 |   | 11.98 | % |
|                                                      |        |                                 |        |           |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

The amount of loanpayoffs and related income is influenced by several factors, including theinterest rate environment, the real estate market in particular areas, thetiming of transactions, and circumstances related to individual borrowers andloans. The decision to payoff a loan rests with the borrower.  The amount of individual loan payoffs isoftentimes a result of negotiations between Capital Crossing Preferred and theborrower.  Based upon credit riskanalysis and other factors, Capital Crossing Preferred will, in certaininstances, accept less than the full amount contractually due in accordance withthe loan terms.

 

The average balance ofinterest-bearing deposits decreased $34.1 million to $53.0 million for thethree months ended June 30, 2002, compared to $87.2 million for 2001. Thisdecrease is attributable to the purchase of $75.2 million of loans from CapitalCrossing partially offset by cash accumulated from loan amortization andpayoffs. The yield on interest-bearing deposits decreased in 2002 because therate paid by Capital Crossing on the money market account held by CapitalCrossing Preferred decreased consistently with deposit interest rates generallycompared to 2001.

 

Loan servicing andadvisory services for the three months ended June 30, 2002 increased $57,000,or 57.0%, to $157,000 compared to $100,000 for the three months ended June 30,2001. This increase is due to the overall increase in the average balance ofthe loan portfolio.

 

General andadministrative expenses for the three months ended June 30, 2002 increased$11,000, or 57.9%, to $30,000 compared to $19,000 for the three months endedJune 30, 2001.  This increase is dueprimarily to an increase in professional services.

 

Preferred stock dividendsincreased as a result of dividends on Series C preferred stock issued on May31, 2001.

 

Capital CrossingPreferred intends to pay dividends on its preferred stock and common stock inamounts necessary to continue to preserve its status as REIT under the InternalRevenue Code.

 

***Six Months Ended June 30, 2002 and 2001***

 

Netincome available to common stockholders decreased $102,000, or 1.0%, to $10.0million for the six months ended June 30, 2002 compared to $10.1 million forthe six months ended June 30, 2001. This decrease is primarily attributable to an increase in preferredstock dividends of $780,000, or 87.5%, to $1.7 million for the six months endedJune 30, 2002 compared to $891,000 during the same period in 2001 as a resultof the issuance of the Series C preferred stock on May 31, 2001. The increasein preferred stock dividends was offset by a gain on sale of loans of $517,000during the first quarter of 2002 and an increase in total interest income of$213,000, or 1.9%, to $11.4 million for the six months ended June 30, 2002,compared to $11.2 million for the six months ended June 30, 2001.

 

7

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Theyields on Capital Crossing Preferred’s earning assets are summarized asfollows:

 
|                      |   | **Six Months Ended June 30,** |    |
|---------------------------|--------|-------------------------------|---------|
|                      |   | **2002**                      |    | **2001** |   |
|                      |   | **Average**Balance            |    | **Interest**Income |   | **Yield** |   | **Average**Balance |   | **Interest**Income |   | **Yield** |   |
|                      |   | **(dollars in thousands)**    |    |
|                      |   |                          |    |   |   |   |   |   |   |   |   |   |   |
| Loans, net(1)             |   | $                             | 187,537 |   | $ | 10,455 |   | 11.24 | % | $ | 150,873 |   | $ | 9,359 |   | 12.51 | % |
| Interest-bearing deposits |   | 71,648                        |    | 947 |   | 2.67 |   | 75,018 |   | 1,830 |   | 4.92 |   |
|                      |   | $                             | 259,185 |   | $ | 11,402 |   | 8.87 | % | $ | 225,891 |   | $ | 11,189 |   | 9.99 | % |

 

----

(1)Non-performing loans are excluded from average balance calculations.

 

Interestincome from loans for the six months ended June 30, 2002 increased $1.1million, or 11.7%, to $10.5 million compared to $9.4 million for the six monthsended June 30, 2001. The increase in interest income from loans is attributableto the growth in the loan portfolio partially offset by a decline in the yieldon the portfolio. For the six months ended June 30, 2002 and 2001, theyield on the loan portfolio was 11.24% and 12.51%, respectively. This decreasein yield for the six months ended June 30, 2002 as compared to 2001 isattributable to a decline in yield related to regularly scheduled interest dueto a lower interest rate environment since the 2001 period. This decrease wasoffset by a higher than usual amount of interest and fee income recognized onloan payoffs. For the six months ended June 30, 2002, interest and fee incomerecognized on loan payoffs increased $1.0 million, or 64.1%, to $2.6 millionfrom $1.6 million for the six months ended June 30, 2001. The level of interestand fee income recognized on loan payoffs varies for numerous reasons, asfurther discussed below.

 

Average loans, net, forthe six months ended June 30, 2002 totaled $187.5 million compared to $150.9million for the six months ended June 30, 2001.  The increase in the average loan balance is primarilyattributable to the acquisition of $158.0 million of loans from CapitalCrossing during 2002, partially offset by loan amortization payoffs and sales.

 

Income on loans includesthe portion of the purchase discount that is accreted into income over theremaining lives of the related loans using the interest method. Because thecarrying value of the loan portfolio is net of purchase discount, the relatedyield on this portfolio generally is higher than the aggregate contractual ratepaid on the loans. The total yield includes the excess of a loan’s expecteddiscounted future cash flows over its net investment, recognized using theinterest method.

 

When a loan is paid off,the excess of any cash received over the net investment is recorded as interestincome. In addition to the amount of purchase discount that is recognized atthat time, income may also include interest owed by the borrower prior toCapital Crossing’s acquisition of the loan, interest collected if onnon-performing status and other loan fees (“other interest and fee income”).The following table sets forth, for the periods indicated, the components ofinterest and fees on loans and leases. There can be no assurance regarding future interest income, includingthe yields and related level of such income, or the relative portionattributable to loan payoffs as compared to other sources, will increase orremain the same in the future.

 
|                                                 |   | **Six Months Ended June 30,** |   |
|------------------------------------------------------|--------|-------------------------------|--------|
|                                                 |   | **2002**                      |   | **2001** |   |
|                                                 |   | **Interest  Income**          |   | **Yield** |   | **Interest  Income** |   | **Yield** |   |
|                                                 |   | **(dollars in thousands)**    |   |
|                                                 |   |                          |   |   |   |   |   |   |   |
| Regularly scheduled interest and accretion income    |   | $                             | 7,854  |   | 8.44 | % | $ | 7,774 |   | 10.39 | % |
| Interest and fee income recognized on loan pay-offs: |   |                          |   |   |   |   |   |   |   |
| Non-amortizing discount                              |   | 1,172                         |   | 1.26 |   | 911 |   | 1.22 |   |
| Amortizing discount                                  |   | 1,279                         |   | 1.38 |   | 437 |   | 0.58 |   |
| Other interest and fee income                        |   | 150                           |   | 0.16 |   | 237 |   | 0.32 |   |
|                                                 |   | 2,601                         |   | 2.80 |   | 1,585 |   | 2.12 |   |
|                                                 |   | $                             | 10,455 |   | 11.24 | % | $ | 9,359 |   | 12.51 | % |

 

The amount of loanpayoffs and related income is influenced by several factors, including theinterest rate environment, the real estate market in particular areas, thetiming of transactions, and circumstances related to individual borrowers andloans. The decision to payoff a loan rests with the borrower.  The amount of individual loan payoffs isoftentimes a result of negotiations between Capital Crossing Preferred and theborrower.  Based upon credit riskanalysis and other factors, Capital Crossing Preferred will, in certaininstances, accept less than the full amount contractually due in accordancewith the loan terms.

 

8

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The average balance ofinterest-bearing deposits decreased $3.4 million to $71.6 million for the sixmonths ended June 30, 2002, compared to $75.0 million for 2001.  This decrease is primarily a result of thepurchase of $75.2 million of loans from Capital Crossing offset by cashaccumulated from loan amortization payoffs and sales. The yield oninterest-bearing deposits decreased in 2002 because the rate paid by CapitalCrossing on the money market account held by Capital Crossing Preferreddecreased consistently with deposit interest rates generally compared to 2001.

 

The gain on sales of loansof $517,000 is the result of the sale of one loan to an unaffiliated thirdparty. There were no loans sold to unaffiliated third parties during the sixmonths ended June 30, 2001.

 

Loan servicing andadvisory services expenses for the six months ended June 30, 2002 increased$42,000, or 19.2%, to $261,000 compared to $219,000 for the six months endedJune 30, 2001. This increase was due to the overall increase in the averagebalance of the loan portfolio.

 

Preferred stock dividendsincreased as a result of dividends on Series C preferred stock issued on May31, 2001.

 

General andadministrative expenses for the six months ended June 30, 2002 increased$10,000, or 27.0%, to $47,000 compared to $37,000 for the six months ended June30, 2001.  This increase was dueprimarily to an increase in professional services, including consulting andlegal services.

 

**Financial Condition**

 

**Interest-bearing Deposits withCapital Crossing Bank**

 

Interest-bearing deposits consist of a money marketaccount with a balance of $63.7 million at June 30, 2002. The decrease ininterest-bearing deposits is a result of the purchase of $75.2 million of loansfrom Capital Crossing partially offset by the cash accumulated from loanamortization and payoffs.

 

**Loan Portfolio**

 

Todate, all of Capital Crossing Preferred’s loans have been acquired from CapitalCrossing. The following table sets forth information regarding the compositionof the loan portfolio at the dates indicated:

 
|                           |   | **June 30,  2002** |    | **December 31,  2001** |   |
|--------------------------------|--------|--------------------|---------|------------------------|--------|
|                           |   | **(in thousands)** |    |
| Mortgage loans on real estate: |   |               |    |                   |   |
| Commercial real estate         |   | $                  | 213,444 |                   | $      | 106,291 |   |
| Multi-family residential       |   | 84,862             |    | 55,868                 |   |
| One-to-four family residential |   | 3,011              |    | 3,073                  |   |
| Land                           |   | 5,850              |    | 1,214                  |   |
| Total, gross                   |   | 307,167            |    | 166,446                |   |
|                           |   |               |    |                   |   |
| Less:                          |   |               |    |                   |   |
| Non-amortizing discount (1)    |   | (9,256             | )       | (6,062                 | )      |
| Amortizing discount            |   | (24,717            | )       | (8,257                 | )      |
| Allowance for loan losses      |   | (8,896             | )       | (4,659                 | )      |
| Net deferred loan fees         |   | (124               | )       | (92                    | )      |
|                           |   |               |    |                   |   |
| Loans, net                     |   | $                  | 264,174 |                   | $      | 147,376 |   |

 

----

(1)          Non-amortizing discount is an allocation of the total discount onpurchased loans accounted for on the cost recovery method until it isdetermined that the amount and timing of collections are reasonably estimableand collection is probable.

 

CapitalCrossing Preferred acquires primarily performing commercial real estate andmulti-family residential mortgage loans. Total net loans acquired during the six months ended June 30, 2002 were$158.0 million consisting of $75.2 million of loans purchased from CapitalCrossing and $82.8 million of loans contributed by Capital Crossing.

 

9

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CapitalCrossing Preferred intends that each loan acquired from Capital Crossing in thefuture will be a whole loan, and will be originated or acquired by CapitalCrossing in the ordinary course of its business. Capital Crossing Preferredalso intends that all loans held by it will be serviced pursuant to its masterservice agreement with Capital Crossing.

 

Non-performingloans, net of discount, totaled $962,000 and $153,000 at June 30, 2002 andDecember 31, 2001, respectively.

 

Theaccrual of interest and accretion of discount are generally discontinued whenthe collectibility of principal and interest is not probable or estimable.Unpaid interest income previously accrued on such loans is reversed againstcurrent period interest income. A loan is returned to accrual status when it isbrought current in accordance with management’s anticipated cash flows at thetime of acquisition.

 

**Allowance for Loan Losses**

 

Theallowance for loan losses is based upon losses estimated to have occurred andis established through a provision for loan losses charged to earnings and byadditions in connection with loan acquisitions. Loan losses are charged againstthe allowance for loan losses when management believes the loan balance, or aportion thereof, is uncollectible. Subsequent recoveries, if any, are creditedto the allowance for loan losses.

 

Theallowance for loan losses is evaluated on a regular basis by management and isbased upon management’s periodic review of the collectibility of the loans inlight of known and inherent risks in the nature and volume of the loanportfolio, adverse situations that may affect the borrower’s ability to repay,the estimated value of any underlying collateral, and prevailing economicconditions. This evaluation is inherently subjective as it requires estimatesthat are susceptible to significant revision as more information becomesavailable. In addition, regulatory agencies periodically review the adequacy ofthe allowance for loan losses and may require Capital Crossing Preferred tomake additions to its allowance for loan losses. While management believesthese estimates and assumptions are reasonable, there can be no assurance thatthey will be proven to be correct in the future. The actual amount of futureprovisions that may be required cannot be determined, and such provisions mayexceed the amounts of past provisions. Management believes that the allowancefor loan losses is adequate to absorb the known and inherent risks in CapitalCrossing Preferred’s loan portfolio at each date based on the facts known tomanagement as of such date. Capital Crossing Preferred continues to monitor andmodify its allowances for general and specific loan losses as economicconditions dictate.

 

CapitalCrossing Preferred performs periodic reviews of its loan portfolio to identifyloans for which specific allocations are considered prudent. Specificallocations include the results of measuring impaired loans under Statement ofFinancial Accounting Standards No. 114. General risk allocations aredetermined by a formula whereby the loan portfolio is stratified by loan typeand by internal risk rating categories. Loss factors are then applied to eachstrata based on various considerations including historic loss experience,delinquency trends, current economic conditions, industry standards andregulatory guidelines. An additional allowance is maintained based on ajudgment by management after consideration of qualitative and quantitativeassessments of certain factors including regional credit concentration,industry concentration, results of regulatory examinations, historical lossranges, portfolio composition, economic conditions such as interest rates andenergy costs and other changes in the portfolio. The allowance for loan lossesis management’s estimate of the probable loan losses incurred as of the balancesheet date. The allowance for loan losses is increased by provisions charged toearnings and by recoveries of amounts previously charged-off, and is reduced bycharge-offs on loans. Any remaining unallocated portion is reviewed foradequacy in relation to the overall loan portfolio and in recognition ofestimates inherent in the calculation methodology.

 

Additionalfactors influencing the calculation of the allowance for loan losses areparticular concentrations within the portfolio, including the geographicconcentration of loans in California, which represented approximately 41.5% ofthe portfolio at June 30, 2002, and concentrations of loans to individualborrowers.

 

Capital CrossingPreferred also considers historical losses in assessing the adequacy of theallowance for loan losses.  Due to thelimited operating history of Capital Crossing Preferred, historical losses arenot currently an indicator of losses inherent in the portfolio.  Management will continue to monitorhistorical losses to assess the adequacy of the allowance for loan losses.

 

10

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The following table sets forth an analysis of the allowance for loanlosses for the periods indicated:

 
|                                               |   | **Three Months Ended June 30,** |   | **Six Months Ended June 30,** |   |
|----------------------------------------------------|--------|---------------------------------|--------|-------------------------------|--------|
|                                               |   | **2002**                        |   | **2001**                      |   | **2002** |   | **2001** |   |
|                                               |   | **(in thousands)**              |   |
|                                               |   |                            |   |                          |   |   |   |   |   |
| Balance at beginning of period                     |   | $                               | 5,140  |                          | $      | 3,792 |   | $ | 4,659 |   | $ | 3,795 |   |
| Transfer from Capital Crossing with loans acquired |   | 3,763                           |   | —                        |   | 4,250 |   | — |   |
| Transfer to Capital Crossing with loans sold       |   | (7                              | )      | —                        |   | (13 | ) | (3 | ) |
| Balance at end of period                           |   | $                               | 8,896  |                          | $      | 3,792 |   | $ | 8,896 |   | $ | 3,792 |   |

 

***Non-Amortizing Discount.***  At the time of acquisition, the excess ofthe contractual loan balances over the amount of reasonably estimable andprobable future cash collections is recorded as non-amortizing discount. Thenon-amortizing discount is not transferred to amortizing discount and accretedinto income until it is determined that the amount and timing of the cash flowsrelated to the non-amortizing discount are reasonably estimable and collectionis probable. Non-amortizing discount generally is reduced and offset againstthe related principal balance when the amount at which a loan is resolved orrestructured is determined. There is no effect on the income statement as aresult of these reductions.  If cash flow projections deteriorate subsequent toacquisition, the decline is accounted for through the allowance for loanlosses.

 

The followingtable sets forth certain information relating to the activity in the non–amortizingdiscount for the periods indicated:

 
|                                                               |   | **Three Months Ended  June 30,** |   | **Six Months Ended  June 30,** |   |
|--------------------------------------------------------------------|--------|----------------------------------|--------|--------------------------------|--------|
|                                                               |   | **2002**                         |   | **2001**                       |   | **2002** |   | **2001** |   |
|                                                               |   | **(in thousands)**               |   |
|                                                               |   |                             |   |                           |   |   |   |   |   |
| Balance at beginning of period                                     |   | $                                | 4,388  |                           | $      | 5,571 |   | $ | 6,062 |   | $ | 6,704 |   |
| Transfers to amortizing portion, net                               |   | (519                             | )      | (391                           | )      | (1,416 | ) | (1,013 | ) |
| Additions in connection with loans acquired from Capital Crossing  |   | 5,459                            |   | —                         |   | 5,667 |   | — |   |
| Net reductions related to resolutions and restructures             |   | —                           |   | (71                            | )      | (678 | ) | (398 | ) |
| Non-amortizing discount relating to loans sold to Capital Crossing |   | (72                              | )      | —                         |   | (379 | ) | (184 | ) |
| Balance at end of period                                           |   | $                                | 9,256  |                           | $      | 5,109 |   | $ | 9,256 |   | $ | 5,109 |   |

 

**Interest Rate Risk**

 

CapitalCrossing Preferred’s income consists primarily of interest income on mortgageassets. Capital Crossing Preferred does not intend to use any derivativeproducts to manage its interest rate risk. If there is a decline in marketinterest rates, Capital Crossing Preferred may experience a reduction ininterest income on its mortgage loans and a corresponding decrease in fundsavailable to be distributed to its stockholders. The reduction in interestincome may result from downward adjustments of the indices upon which theinterest rates on loans are based and from prepayments of mortgage loans withfixed interest rates, resulting in reinvestment of the proceeds in loweryielding mortgage loans.

 

**Significant Concentration of CreditRisk**

 

Concentrationof credit risk generally arises with respect to Capital Crossing Preferred’sloan portfolio when a significant number of borrowers engage in similarbusiness activities, or activities in the same geographical region.Concentration of credit risk indicates the relative sensitivity of CapitalCrossing Preferred’s performance to both positive and negative developmentsaffecting a particular industry or geographical region. Capital CrossingPreferred’s balance sheet exposure to geographic concentrations directlyaffects the credit risk of the loans within its loan portfolio.

 

AtJune 30, 2002, 41.5% and 17.1%, respectively, of Capital Crossing Preferred’stotal loan portfolio consisted of loans located in California and New England.At December 31, 2001, 39.4% and 28.4%, respectively, of Capital CrossingPreferred’s total loan portfolio consisted of loans located in California andNew England. Consequently, the portfolio may experience a higher default rate,than its current default rate, in the event of adverse economic, political orbusiness developments or natural hazards in California or New England that mayaffect the ability of property owners to make payments of principal andinterest on the underlying mortgages.

 

11

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**Liquidity Risk Management**

 

Theobjective of liquidity risk management is to ensure the availability ofsufficient cash flows to meet all of Capital Crossing Preferred’s financialcommitments and to capitalize on opportunities for Capital Crossing Preferred’sbusiness expansion. In managing liquidity risk, Capital Crossing Preferredtakes into account various legal limitations placed on a REIT.

 

CapitalCrossing Preferred’s principal liquidity needs are:

 

(1)  to maintain the current portfolio sizethrough the acquisition of additional mortgage assets as mortgage assetscurrently in the loan portfolio mature, pay down or repay, and

 

(2)  to pay dividends on the preferred shares andcommon shares.

 

Theacquisition of additional mortgage assets is intended to be funded primarilythrough repayment of principal balances of mortgage assets by individualborrowers. Capital Crossing Preferred does not have and does not anticipatehaving any material capital expenditures. To the extent that the Board ofDirectors determines that additional funding is required, Capital CrossingPreferred may raise such funds through additional equity offerings, debtfinancing or retention of cash flow (after consideration of provisions of theInternal Revenue Code requiring the distribution by a REIT of at least 90% ofits REIT taxable income and taking into account taxes that would be imposed onundistributed income), or a combination of these methods. Except for itsobligation to guarantee certain borrowings of Capital Crossing, CapitalCrossing Preferred does not currently intend to incur any indebtedness. Theorganizational documents of Capital Crossing Preferred limit the amount ofindebtedness which it is permitted to incur without the approval of the SeriesA and the Series C preferred stockholders to no more than 100% of the totalstockholders’ equity of Capital Crossing Preferred. Any such debt may include intercompany advancesmade by Capital Crossing to Capital Crossing Preferred.

 

**RISK FACTORS****AND OTHER FACTORSAFFECTING FORWARD–LOOKING STATEMENTS**

 

ThisForm 10-Q contains statements that are “forward-looking statements.”Capital Crossing Preferred may also make forward-looking statements in otherdocuments it files with the SEC, in press releases and other written materials,and in oral statements made by its officers, directors or employees. Forward–lookingstatements can be identified by the use of the words “believe,” “expect,”“anticipate,” “intend,” “estimate,” “assume” and other similar expressionswhich predict or indicate future events and trends and which do not relate tohistorical matters. Forward-looking statements should not be relied upon,because they involve known and unknown risks, uncertainties and other factors,some of which are beyond the control of Capital Crossing Preferred. Theserisks, uncertainties and other factors may cause the actual results,performance or achievements of Capital Crossing Preferred to be materiallydifferent from the anticipated future results, performance or achievementsexpressed or implied by the forward–looking statements.

 

Someof the factors that might cause these differences include those set forthbelow. All of these factors should be carefully reviewed and there may be otherfactors that could cause these differences. These forward–lookingstatements were based on information, plans and estimates at the date of thisreport, and Capital Crossing Preferred does not undertake to update any forward–lookingstatements to reflect changes in underlying assumptions or factors, newinformation, future events or other changes.

 

**A decline inCapital Crossing’s capital levels may result in the Series A and Series Cpreferred shares being subject to automatic exchange into preferred shares ofCapital Crossing**

 

Thereturns from an investment in the Series A or Series C preferred shareswill depend to a significant extent on the performance and capital of CapitalCrossing. A significant decline in the performance and capital levels ofCapital Crossing or the placement of Capital Crossing into bankruptcy,reorganization, conservatorship or receivership could result in the automaticexchange of the Series A and Series C preferred shares for preferredshares of Capital Crossing, which would represent an investment in CapitalCrossing and not in Capital Crossing Preferred. Under these circumstances:

 

•                                          a holder of Series A or Series C preferredshares would be a preferred stockholder of Capital Crossing at a time whenCapital Crossing’s financial condition was deteriorating or when CapitalCrossing had been placed into bankruptcy, reorganization, conservatorship orreceivership and, accordingly, it is unlikely that Capital Crossing would be ina financial position to pay any dividends on the preferred shares of CapitalCrossing. An investment in Capital Crossing is also subject to risks that aredistinct from the risks associated with an investment in Capital CrossingPreferred. For example, an investment in Capital Crossing would involve risksrelating to the capital levels of, and other federal and state regulatoryrequirements applicable to, Capital Crossing, and the performance of CapitalCrossing’s overall loan portfolio and other business lines. Capital Crossingalso has significantly greater liabilities and significantly less stockholders’equity than does Capital Crossing Preferred;

 

12

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•                                          if a liquidation of Capital Crossing occurs, theclaims of depositors and creditors of Capital Crossing and of the FDIC wouldhave priority over the claims of holders of the preferred shares of CapitalCrossing, and therefore, a holder of Series A and Series C preferredshares likely would receive substantially less than such holder would receivehad the Series A and Series C preferred shares not been exchanged forpreferred shares of Capital Crossing; and

 

•                                          the exchange of the Series A or Series Cpreferred shares for preferred shares of Capital Crossing would be a taxableevent to a holder of Series A or Series C preferred shares under theInternal Revenue Code, and such holder would incur a gain or a loss, as thecase may be, measured by the difference between such holder’s basis in theSeries A or Series C preferred shares and the fair market value of CapitalCrossing preferred shares received in the exchange.

 

**Because ofCapital Crossing Preferred’s obligations to creditors, it may not be able tomake dividend or liquidation payments to holders of the Series A andSeries C preferred shares**

 

The Series A and Series C preferred shares rank:

 

•                                          junior to borrowings of Capital CrossingPreferred, including claims of the FHLBB for amounts due or which may becomedue under Capital Crossing Preferred’s guarantee of Capital Crossing’sobligations to the FHLBB, and any other obligations to Capital CrossingPreferred’s creditors upon its liquidation; and

 

•                                          senior to Capital Crossing Preferred’s commonstock and its Series B preferred stock with regard to payment of dividendsand amounts upon liquidation.

 

If Capital Crossing Preferred incurs significant indebtedness, it maynot have sufficient funds to make dividend or liquidation payments on theSeries A or Series C preferred shares. Upon Capital Crossing Preferred’sliquidation, its obligations to its creditors would rank senior to theSeries A and Series C preferred shares. At June 30, 2002, Capital CrossingPreferred had approximately $112,000 in accounts payable and other liabilitieswhich, upon its liquidation, would be required to be paid before any paymentscould be made to holders of the Series A or Series C preferred shares. Inaddition, upon Capital Crossing Preferred’s liquidation, dissolution or windingup, if it does not have sufficient funds to pay the full liquidation amount tothe holders of the Series A and Series C preferred shares, such holdersmay receive less than the $10.00 per share liquidation amount.

 

The terms of the Series A and Series C preferred shares limitCapital Crossing Preferred’s ability to incur debt in excess of 100% of itsstockholders’ equity without the approval of the holders of all of theoutstanding Series A and Series C preferred shares but do not require thatCapital Crossing Preferred obtain the approval of the holders of theSeries A and Series C preferred shares to issue additional series ofpreferred shares which rank equal to the Series A and Series C preferredshares as to payment of dividends or amount upon liquidation. As a result,subject to these limitations, Capital Crossing Preferred may incur obligationswhich may further limit its ability to make dividend or liquidation payments inthe future.

 

**Bank regulatorsmay limit the ability of Capital Crossing Preferred to implement its businessplan and may restrict its ability to pay dividends**

 

Because Capital Crossing Preferred is a subsidiary of Capital Crossing,federal and state regulatory authorities will have the right to examine it andits activities and under certain circumstances, to impose restrictions onCapital Crossing or Capital Crossing Preferred which could impact CapitalCrossing Preferred’s ability to conduct its business according to its businessplan, which could materially adversely affect the financial condition andresults of operations of Capital Crossing Preferred:

 

•                                          if Capital Crossing’s regulators determine thatCapital Crossing’s relationship to Capital Crossing Preferred results in anunsafe and unsound banking practice, the regulators could restrict CapitalCrossing Preferred’s ability to transfer assets, to make distributions to itsstockholders, including dividends on its Series A and Series C preferredshares, or to redeem shares of Series A and Series C preferred stock oreven require Capital Crossing to sever its relationship with or divest itsownership interest in Capital Crossing Preferred. Such actions couldpotentially result in Capital Crossing Preferred’s failure to qualify as aREIT.

 

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•                                          payment of dividends on the Series A andSeries C preferred shares could also be subject to regulatory limitations ifCapital Crossing becomes undercapitalized. Capital Crossing will be deemedundercapitalized if its total risk-based capital ratio is less than 8.0%, itsTier 1 risk-based capital ratio is less than 4.0% or its Tier 1 leverage ratiois less than 4.0%. At June 30, 2002, Capital Crossing had a total risk-basedcapital ratio of 14.12%, a Tier 1 risk-based capital ratio of 12.85% and a Tier1 leverage ratio of 10.95%, which is sufficient for Capital Crossing to beconsidered well-capitalized. As part of its common stock repurchase program,Capital Crossing has also agreed with the FDIC to maintain, for so long as therepurchase program continues, its Tier 1 leverage ratio at least 8.00%. CapitalCrossing Preferred makes no assurance that Capital Crossing will bewell-capitalized under applicable regulations as of any future date. Forpurposes of calculating these capital ratios as a percentage of CapitalCrossing’s risk-weighted assets, as opposed to its total assets, Capital Crossing’sassets are assigned to risk categories based on the relative credit risk of theasset in question. These risk weights consist of 0% for assets deemed leastrisky such as cash, claims backed by the full faith and credit of the U.S.government, and balances due from Federal Reserve banks; 20% for assets deemedslightly more risky such as portions of obligations conditionally guaranteed bythe U.S. government or federal funds sold; 50% for assets deemed still morerisky such as government issued-revenue bonds, one-to-four family residentialfirst mortgage loans and well-collateralized multi-family residential firstmortgage loans; and 100% for all other assets, including private sector loanssuch as commercial mortgage loans as well as bank-owned real estate.

 

•                                          while Capital Crossing Preferred believes thatdividends on the Series A and Series C preferred shares should not beconsidered distributions by Capital Crossing, the FDIC may not agree with thisposition. Under FDIC regulations on capital distributions, the ability ofCapital Crossing to make a capital distribution varies depending primarily onCapital Crossing’s earnings and regulatory capital levels. Capitaldistributions are defined to include payment of dividends, stock repurchases,cash-out mergers and other distributions charged against the capital accountsof an institution. The FDIC could limit or prohibit the payment of dividends onthe Series A and Series C preferred shares if it determines that thepayment of those dividends is a capital distribution by Capital Crossing andthat Capital Crossing’s earnings and regulatory capital levels are belowspecified levels.

 

**CapitalCrossing Preferred does not have insurance to cover its exposure to borrowerdefaults and bankruptcies and special hazard losses that are not covered by itsstandard hazard insurance policies**

 

Capital Crossing Preferred does not generally obtain general creditenhancements such as mortgagor bankruptcy insurance or obtain special hazardinsurance for its mortgage assets, other than standard hazard insurance, whichwill in each case only relate to individual mortgage loans. Accordingly,Capital Crossing Preferred will be subject to risks of borrower defaults andbankruptcies and special hazard losses, such as losses occurring from floodsthat are not covered by standard hazard insurance. In the event of a default onany mortgage loan held by Capital Crossing Preferred resulting from decliningproperty values or worsening economic conditions, among other factors, it wouldbear the risk of loss of principal to the extent of any deficiency between(1) the value of the related mortgaged property, plus any payments from aninsurer or guarantor in the case of commercial mortgage loans, and (2) theamount owing on the mortgage loan.

 

**CapitalCrossing Preferred’s results will be affected by factors beyond its control**

 

Capital Crossing Preferred’s mortgage loan portfolio is subject tolocal economic conditions which could affect the value of the real estateassets underlying its loans and therefore, its results of operations will beaffected by various conditions in the real estate market, all of which arebeyond its control, such as:

 

•                                          local and other economic conditions affectingreal estate values;

 

•                                          the continued financial stability of a borrowerand the borrower’s ability to make mortgage payments;

 

•                                          the ability of tenants to make lease payments;

 

•                                          the ability of a property to attract and retaintenants, which may in turn be affected by local conditions, such as oversupplyof space or a reduction in demand for rental space in the area;

 

•                                          interest rate levels and the availability ofcredit to refinance mortgage loans at or prior to maturity; and

 

•                                          increased operating costs, including energycosts, real estate taxes and costs of compliance with environmental controlsand regulations.

 

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**CapitalCrossing Preferred’s loans are concentrated in California and New England andadverse conditions in those markets could adversely affect its operations**

 

Properties underlying Capital Crossing Preferred’s current mortgageassets are concentrated primarily in California and New England. As of June 30,2002, approximately 41.5% of its mortgage assets were secured by propertieslocated in California and 17.1% in New England. Adverse economic, political orbusiness developments or natural hazards may affect these areas and the abilityof property owners in these areas to make payments of principal and interest onthe underlying mortgages. If either region experienced adverse economic,political or business conditions, Capital Crossing Preferred would likelyexperience higher rates of loss and delinquency on its mortgage loans than ifits loans were more geographically diverse.

 

**A substantialmajority of Capital Crossing Preferred’s loans were originated by other partieswhose level of due diligence may be different than Capital Crossing’s level ofdue diligence**

 

At June 30, 2002, approximately 92.4% of Capital CrossingPreferred’s loan portfolio consisted of loans originated by third parties thatwere purchased by Capital Crossing and subsequently acquired by CapitalCrossing Preferred from Capital Crossing. Because these loans were originatedby third parties, Capital Crossing generally is not able to conduct the samelevel of due diligence on these loans that it would have conducted had itoriginated them. Generally, while Capital Crossing conducts an acquisitionreview, it relies on the underwriting standards of the parties originating theloans it acquires. The standards of these loan originators may be substantiallydifferent than those of Capital Crossing. These differences may include lessrigorous appraisal requirements and debt service coverage ratios, and lessrigorous analysis of property location and environmental factors, buildingcondition and age, tenant quality, compliance with zoning regulations, any userestrictions, easements or right of ways that may impact the value and theborrower’s ability to manage the property. Other disadvantages of purchasedloans versus originated loans may include the lack of current financialinformation, incomplete legal documentation and outdated appraisals.

 

**More than halfof Capital Crossing Preferred’s loan portfolio is made up of commercialmortgage loans which are riskier than other types of loans**

 

Commercial mortgage loans constituted approximately 69.5% of the loansin Capital Crossing Preferred’s loan portfolio at June 30, 2002 andgenerally subject it to greater risks than other types of loans. CapitalCrossing Preferred’s commercial mortgage loans, like most commercial mortgageloans, generally lack standardized terms, tend to have shorter maturities thanresidential mortgage loans and may not be fully amortizing, meaning that theyhave a principal balance or “balloon” payment due on maturity. The commercialreal estate properties underlying Capital Crossing Preferred’s commercialmortgage loans also tend to be unique and are more difficult to value thanresidential real estate properties. They are also subject to relatively greaterenvironmental risks than other types of loans and to the corresponding burdensand costs of compliance with environmental laws and regulations. Because ofthese risks related to Capital Crossing Preferred’s commercial mortgage loans,Capital Crossing Preferred may experience higher rates of default on itsmortgage loans than it would if its loan portfolio was more diversified andincluded a greater number of residential and other mortgage loans.

 

**CapitalCrossing Preferred may not be able to purchase loans at the same volumes orwith the same yields as it has historically purchased**

 

To date Capital Crossing Preferred has purchased all of the loans inits portfolio from Capital Crossing. Historically, Capital Crossing hasacquired such loans (1) from institutions which sought to eliminatecertain loans or categories of loans from their portfolios, (2) frominstitutions participating in securitization programs, (3) from failed orconsolidating financial institutions and (4) from government agencies.Future loan purchases will depend on the availability of pools of loans offeredfor sale and Capital Crossing’s ability to submit successful bids or negotiatesatisfactory purchase prices. The acquisition of whole loans is highlycompetitive. Consequently, Capital Crossing Preferred cannot provide assurancethat Capital Crossing will be able to purchase loans at the same volumes orwith the same yields as it has historically purchased. This may interfere withCapital Crossing Preferred’s ability to maintain the requisite level ofmortgage assets to maintain its qualification as a REIT. If volumes of loanspurchased decline or the yields on these loans decline further, CapitalCrossing Preferred would experience a material adverse effect on its business,financial condition and results of operations.

 

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**CapitalCrossing Preferred could be held responsible for environmental liabilities ofproperties it acquires through foreclosure**

 

If Capital Crossing Preferred is forced to foreclose on a defaultedmortgage loan to recover its investment it may be subject to environmentalliabilities related to the underlying real property. Approximately 69.5% of theloans in Capital Crossing Preferred’s portfolio at June 30, 2002 werecommercial mortgage loans, which generally are subject to relatively greaterenvironmental risks than other types of loans. Hazardous substances or wastes,contaminants, pollutants or sources thereof may be discovered on propertiesduring Capital Crossing Preferred’s ownership or after a sale to a third party.The amount of environmental liability could exceed the value of the realproperty. There can be no assurance that Capital Crossing Preferred would notbe fully liable for the entire cost of any removal and clean-up on an acquiredproperty, that the cost of removal and clean-up would not exceed the value ofthe property or that Capital Crossing Preferred could recoup any of the costsfrom any third party. In addition, Capital Crossing Preferred may find itdifficult or impossible to sell the property prior to or following any suchremediation.

 

**Capital Crossing Preferred is dependent in virtually everyphase of its operations on the diligence and skill of the management of CapitalCrossing**

 

Capital Crossing, which holds all of Capital Crossing Preferred’scommon stock, is involved in virtually every aspect of Capital CrossingPreferred’s existence.  Capital CrossingPreferred has five officers and no other employees and does not have anyindependent corporate infrastructure. Capital Crossing Preferred does not have any employees because it hasretained Capital Crossing to perform all necessary functions pursuant to theadvisory agreement and the master service agreement.  All of Capital Crossing Preferred’s officers are also officers ofCapital Crossing.  Under an advisoryagreement between Capital Crossing Preferred and Capital Crossing, CapitalCrossing administers day-to-day activities, including monitoring of Capital CrossingPreferred’s credit quality and advising it with respect to the acquisition,management, financing and disposition of mortgage assets and its operationsgenerally.  Under a master serviceagreement between Capital Crossing Preferred and Capital Crossing, CapitalCrossing services Capital Crossing Preferred’s loan portfolio.  The advisory agreement has an initial termof five years with an automatic renewal feature and the master serviceagreement has a one year term with an automatic renewal feature.  Both the master service agreement and theadvisory agreement are subject to earlier termination upon provision of 30 daysand 90 days notice, respectively. Capital Crossing may subcontract all or a portion of its obligationsunder the advisory agreement to its affiliates or, with the approval of amajority of the Board of Directors as well as a majority of the independentdirectors, subcontract its obligations under the advisory agreement tounrelated third parties.  CapitalCrossing will not, in connection with the subcontracting of any of itsobligations under the advisory agreement, be discharged or relieved from itsobligations under the advisory agreement. The loss of the services of Capital Crossing, or the inability ofCapital Crossing to effectively provide such services whether as a result ofthe loss of key members of Capital Crossing’s management, early termination ofthe agreements or otherwise, and Capital Crossing Preferred’s inability toreplace such services on favorable terms, or at all, could adversely affectCapital Crossing Preferred’s ability to conduct its operations.

 

**CapitalCrossing Preferred’s relationship with Capital Crossing may create conflicts ofinterest**

 

Capital Crossing and its affiliates may have interests which are not identicalto Capital Crossing Preferred’s and therefore conflicts of interest have arisenand may arise in the future with respect to transactions between CapitalCrossing Preferred and Capital Crossing such as:

 

***Acquisition of mortgage assets.***  CapitalCrossing Preferred anticipates that it will from time to time continue topurchase additional mortgage assets. Capital Crossing Preferred intends toacquire all or substantially all of such mortgage assets from Capital Crossing,on terms that are comparable to those that could be obtained by CapitalCrossing Preferred if such mortgage assets were purchased from unrelated thirdparties. Neither Capital Crossing Preferred nor Capital Crossing currently havespecific policies with respect to the purchase by Capital Crossing Preferredfrom Capital Crossing of particular loans or pools of loans, other than thatsuch assets must be eligible to be held by a REIT. Although these purchases arestructured to take advantage of the underwriting procedures of Capital Crossing,and while Capital Crossing Preferred believes that any agreements andtransactions between it, on the one hand, and Capital Crossing and/or itsaffiliates on the other hand, are fair to all parties and consistent withmarket terms, neither Capital Crossing Preferred nor Capital Crossing haveobtained any third–party valuation to confirm whether Capital CrossingPreferred will be paying fair market value for these loans, nor does CapitalCrossing Preferred anticipate doing so in the future. Additionally, throughlimiting Capital Crossing Preferred’s source of purchased mortgage assetssolely to those originated or purchased by Capital Crossing, Capital CrossingPreferred’s portfolio will generally reflect the nature, scope and risk ofCapital Crossing’s portfolio rather than a more diverse portfolio composed ofmortgage loans also purchased from other lenders.

 

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***Servicing of Capital CrossingPreferred mortgage assets by Capital Crossing.***  CapitalCrossing Preferred’s loans are serviced by Capital Crossing pursuant to theterms of the master service agreement. Capital Crossing in its role as servicerunder the terms of the master service agreement receives a fee equal to 0.20%per annum, payable monthly, on the gross outstanding principal balances ofloans serviced. The master service agreement requires Capital Crossing toservice the loan portfolio in a manner substantially the same as for similarwork performed by Capital Crossing for transactions on its own behalf. Thiswill become especially important as Capital Crossing services any loans whichbecome classified or are placed on non-performing status, or are renegotiateddue to the financial deterioration of the borrower. While Capital CrossingPreferred believes that Capital Crossing will diligently pursue collection ofany non-performing loans, Capital Crossing Preferred cannot provide assurancethat this will be the case. Capital Crossing Preferred’s ability to make timelypayments of dividends will depend in part upon Capital Crossing’s promptcollection efforts on behalf of Capital Crossing Preferred.

 

***Future dispositions by CapitalCrossing Preferred of mortgage assets to Capital Crossing or its affiliates.***  Themaster service agreement provides that foreclosures and dispositions of themortgage assets are to be performed with a view toward maximizing CapitalCrossing Preferred’s recovery as owner of the mortgage assets, and CapitalCrossing shall service the mortgage assets solely with a view toward CapitalCrossing Preferred’s interests, and without regard to the interests of CapitalCrossing or any of its affiliates. However, Capital Crossing Preferred cannotprovide assurance that any such agreement or transaction will be on terms asfavorable to it as would have been obtained from unaffiliated third parties.Capital Crossing may seek to exercise its influence over Capital CrossingPreferred’s affairs so as to cause the sale of the mortgage assets owned byCapital Crossing Preferred and their replacement by lesser quality loanspurchased from Capital Crossing or elsewhere which could adversely affectCapital Crossing Preferred’s business and its ability to make timely paymentsof dividends.

 

***Future modifications of the advisoryagreement or master service agreement.***  ShouldCapital Crossing Preferred seek to modify either the advisory agreement or themaster service agreement, it would rely upon its officers, all of whom are alsoofficers of Capital Crossing, and/or its directors, three of whom are alsoofficers of Capital Crossing. Thus, Capital Crossing Preferred’s officersand/or directors would be responsible for taking positions with respect to suchagreements that, while in Capital Crossing Preferred’s best interests, wouldnot be in the best interests of Capital Crossing. Although the termination,modification or decision not to renew the advisory agreement and/or the masterservice agreement requires the approval of a majority of Capital CrossingPreferred’s independent directors, Capital Crossing, as holder of all ofCapital Crossing Preferred’s outstanding common stock, controls the election ofall Capital Crossing Preferred directors, including the independent directors.Capital Crossing Preferred cannot provide assurance that such modificationswill be on terms as favorable to it as those that could have been obtained fromunaffiliated third parties.

 

***The terms of Capital CrossingPreferred’s guarantee of obligations of Capital Crossing.***  CapitalCrossing Preferred has guaranteed all of the obligations of Capital Crossingunder advances Capital Crossing may receive from time to time from the FHLBB,and has agreed to pledge a significant amount of it’s assets in connection withthose advances. The assets Capital Crossing Preferred pledges to the FHLBB willvary from time to time; however, the potential exists for Capital CrossingPreferred to pledge all of its assets to the FHLBB to secure advances toCapital Crossing. In addition, Capital Crossing has pledged to the FHLBB all ofthe shares of Capital Crossing Preferred’s capital stock it owns as collateralfor its FHLBB borrowings. Under the terms of the pledge, if Capital Crossingbecomes undercapitalized the FHLBB may require Capital Crossing to dissolveCapital Crossing Preferred such that the assets of Capital Crossing Preferredare distributed to Capital Crossing. In this circumstance the holders ofSeries A and Series C Preferred shares would receive their liquidationpreference only to the extent there are available assets of Capital CrossingPreferred following satisfaction of its outstanding obligations, including itsguarantee of Capital Crossing’s FHLBB borrowings. At June 30, 2002,approximately $52.4 million, or 15.9%, of Capital Crossing Preferredassets have been pledged to and accepted by the FHLBB to secure advances toCapital Crossing. Capital Crossing has also agreed with the FHLBB that it willnot request or accept advances from the FHLBB in excess of Capital CrossingPreferred’s total stockholders equity, less the stockholders equityattributable to the Series A and Series C preferred shares. As ofJune 30, 2002, this restriction would limit Capital Crossing’s ability toreceive advances in excess of approximately $296.6 million. As ofJune 30, 2002, Capital Crossing had $129.0 million in outstandingFHLBB borrowings. The guarantee and pledge were approved by Capital CrossingPreferred’s independent directors, subject to certain requirements andlimitations, including the requirement that Capital Crossing pay CapitalCrossing Preferred a guarantee fee. Any default by Capital Crossing on itsobligations which would require Capital Crossing Preferred to satisfy itsguarantee could adversely affect its business and its ability to make timelypayments of dividends.

 

***The master loan purchase agreementwas not the result of arm’s-length negotiations.***  CapitalCrossing Preferred acquires loans pursuant to the master mortgage loan purchaseagreement between Capital Crossing Preferred and Capital Crossing, at an amountequal to Capital Crossing’s net carrying value for those mortgage assets. WhileCapital Crossing Preferred believes that the master mortgage loan purchaseagreement was fair to all parties and consistent with market terms, all of it’sofficers and three of its directors are also officers and/or directors ofCapital Crossing and/or affiliates of Capital Crossing. Capital Crossing, asholder of all of Capital Crossing Preferred’s outstanding common stock,controls the election of all Capital Crossing Preferred directors, includingthe independent directors. Capital Crossing Preferred cannot provide assurancethat the master mortgage loan purchase agreement was entered into on terms asfavorable to Capital Crossing Preferred as those that could have been obtainedfrom unaffiliated third parties.

 

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**Neither CapitalCrossing Preferred nor Capital Crossing have specific policies with respect tothe purchase by Capital Crossing Preferred from Capital Crossing of particularloans or pools of loans**

 

The lack of specific policies with respect to the purchase by CapitalCrossing Preferred of loans from Capital Crossing could result in CapitalCrossing Preferred acquiring lower quality mortgage assets from CapitalCrossing than if such policies were otherwise in place. Neither CapitalCrossing Preferred nor Capital Crossing currently have specific policies withrespect to the purchase by Capital Crossing Preferred from Capital Crossing ofparticular loans or pools of loans, other than that such assets must beeligible to be held by a REIT. Capital Crossing Preferred’s Board of Directorshas adopted certain policies to guide the acquisition and disposition of assetsbut these policies may be revised from time to time at the discretion of the Boardof Directors without a vote of Capital Crossing Preferred’s stockholders.Capital Crossing Preferred intends to acquire all or substantially all of theadditional mortgage assets it may acquire in the future from Capital Crossingon terms that are comparable to those that could be obtained by CapitalCrossing Preferred if such mortgage assets were purchased from unrelated thirdparties, but Capital Crossing Preferred cannot provide assurance that this willalways be the case.

 

**Capital Crossing Preferred’s Board of Directors hasbroad discretion to revise Capital Crossing Preferred’s strategies**

 

Capital Crossing Preferred’s Board of Directors has established CapitalCrossing Preferred’s investment and operating strategies. These strategies maybe revised from time to time at the discretion of the Board of Directorswithout a vote of Capital Crossing Preferred’s stockholders. Changes in CapitalCrossing Preferred’s strategies could have a negative effect on shareholders.

 

**Capital Crossing Preferred does not obtain third-partyvaluations and therefore it may pay more or receive less than fair market valuefor its mortgage assets**

 

To date, Capital Crossing Preferred has not obtained third-partyvaluations as part of its loan acquisitions or dispositions and does notanticipate obtaining third-party valuations for future acquisitions anddispositions of mortgage assets. Capital Crossing Preferred does not intend toobtain third-party valuations even where it is acquiring mortgage assets from,or disposing mortgage assets to, one of its affiliates, including CapitalCrossing. Accordingly, Capital Crossing Preferred may pay its affiliates,including Capital Crossing, more than the fair market value of mortgage assetsit acquires and may receive less than the fair market value of the mortgageassets it sells based on a third–party valuation.

 

**Capital Crossing Preferred may pay more than fairmarket value for mortgages it purchases from Capital Crossing because it doesnot engage in arm’s–length negotiations with Capital Crossing**

 

Capital Crossing Preferred acquires mortgage assets from CapitalCrossing under a master mortgage loan purchase agreement between it and CapitalCrossing, at an amount equal to Capital Crossing’s net carrying value for thosemortgage assets. Because Capital Crossing is an affiliate of Capital CrossingPreferred’s, Capital Crossing Preferred does not engage in any arm’s-lengthnegotiations regarding the consideration to be paid. Accordingly, if CapitalCrossing’s net carrying value exceeds the fair market value of the mortgageassets, Capital Crossing Preferred would pay Capital Crossing more than thefair market value for those mortgage assets.

 

**A decline ininterest rates could reduce Capital Crossing Preferred earnings and affect itsability to pay dividends**

 

Capital Crossing Preferred’s income consists primarily of interestearned on its mortgage assets and short-term investments. A significant portionof Capital Crossing Preferred’s mortgage assets bear interest at adjustablerates. If there is a decline in interest rates, then Capital Crossing Preferredwill experience a decrease in income available to be distributed to itsstockholders. If interest rates decline, Capital Crossing Preferred may alsoexperience an increase in prepayments on its mortgage assets and may find itdifficult to purchase additional mortgage assets bearing rates sufficient tosupport payment of dividends on the Series A and Series C preferredshares. Because the dividend rates on the Series A and Series C preferredshares are fixed, a significant decline in interest rates could materiallyadversely affect Capital Crossing Preferred’s ability to pay dividends on theSeries A and Series C preferred shares.

 

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**Tax Risks Relatedto REITs**

 

***If Capital Crossing Preferred failsto qualify as a REIT, it will be subject to federal income tax at regularcorporate rates.***IfCapital Crossing Preferred fails to qualify as a REIT for any taxable year, itwould be subject to federal income tax, including any applicable alternativeminimum tax, on its taxable income at regular corporate rates. As a result, theamount available for distribution to Capital Crossing Preferred’s stockholderswould be reduced for the year or years involved. In addition, unless entitledto relief under statutory provisions, Capital Crossing Preferred would bedisqualified from treatment as a REIT for the four taxable years following theyear which qualification was lost. The failure to qualify as a REIT would reduceCapital Crossing Preferred’s net earnings available for distribution to itsstockholders because of the additional tax liability for the year or yearsinvolved. Capital Crossing Preferred’s failure to qualify as a REIT would notby itself give it the right to redeem the Series A or Series C preferredshares, nor would it give the holders of the Series A or Series Cpreferred shares the right to have their shares redeemed.

 

AlthoughCapital Crossing Preferred currently intends to operate in a manner designed toqualify as a REIT, future economic, market, legal, tax or other considerationsmay cause it to determine that it is in its best interest and in the bestinterest of holders of its common stock and preferred stock to revoke its REITelection. The tax law prohibits Capital Crossing Preferred from electingtreatment as a REIT for the four taxable years following the year of any suchrevocation.

 

***If Capital Crossing Preferred doesnot distribute 90% of its net taxable income, it may not qualify as a REIT. ***In order to qualify as a REIT, Capital CrossingPreferred generally is required each year to distribute to its stockholders atleast 90% of its net taxable income, excluding net capital gains. CapitalCrossing Preferred may retain the remainder of REIT taxable income or all orpart of its net capital gain, but will be subject to tax at regular corporaterates on such income. In addition, Capital Crossing Preferred is subject to a4% nondeductible excise tax on the amount, if any, by which certain distributionsconsidered as paid by Capital Crossing Preferred with respect to any calendaryear are less than the sum of (1) 85% of its ordinary income for thecalendar year, (2) 95% of its capital gains net income for the calendaryear and (3) 100% of any undistributed income from prior periods. Undercertain circumstances, federal or state regulatory authorities may restrictCapital Crossing Preferred’s ability, as a subsidiary of Capital Crossing, tomake distributions to its stockholders in an amount necessary to retain itsREIT qualification. Such a restriction could result in Capital CrossingPreferred failing to qualify as a REIT. To the extent Capital CrossingPreferred’s REIT taxable income may exceed the actual cash received for aparticular period, Capital Crossing Preferred may not have sufficient liquidityto make distributions necessary to retain its REIT qualification.

 

***Capital Crossing Preferred mayredeem the Series A and Series C preferred shares at any time upon the occurrence of a tax event.***At any time following the occurrence of certainchanges in the tax laws or regulations concerning REITs, Capital CrossingPreferred will have the right to redeem the Series A and Series Cpreferred shares in whole, subject to the prior written approval of the FDIC.Capital Crossing Preferred would have the right to redeem the Series A andSeries C preferred shares if it received an opinion of counsel to the effectthat, as a result of changes to the tax laws or regulations:

 

(1)                                  dividends paid by Capital Crossing Preferred withrespect to its capital stock are not fully deductible by it for income taxpurposes; or

 

(2)                                  Capital Crossing Preferred are otherwise unableto qualify as a REIT.

 

The occurrence of such changes in the tax laws or regulations will not,however, give the holders of the Series A or Series C preferred shares anyright to have their shares redeemed.

 

***Capital Crossing Preferred has imposed ownership limitationsto protect its ability to qualify as a REIT, however, if ownership of thecommon stock of Capital Crossing becomes concentrated in a small number ofindividuals Capital Crossing Preferred may fail to qualify as a REIT.***Tomaintain Capital Crossing Preferred’s status as a REIT, not more than 50% invalue of Capital Crossing Preferred’s outstanding shares may be owned, directlyor indirectly, by five or fewer individuals, as defined in the Internal RevenueCode, or the Code, to include certain entities, during the last half of eachtaxable year. Capital Crossing Preferred currently satisfies this requirementbecause for this purpose Capital Crossing Preferred’s common stock held byCapital Crossing is treated as held by Capital Crossing’s stockholders.However, it is possible that the ownership of Capital Crossing might becomesufficiently concentrated in the future such that five or fewer individualswould be treated as having constructive ownership of more than 50% of the valueof Capital Crossing Preferred’s stock. Capital Crossing Preferred may havedifficulty monitoring the daily ownership and constructive ownership of itsoutstanding shares and, therefore, Capital Crossing Preferred cannot provideassurance that it will continue to meet the share ownership requirement. Thisrisk may be increased in the future as Capital Crossing implements common stockrepurchase programs because repurchases may cause ownership in Capital Crossingto become more concentrated. In addition, while the fact that the Series Aand the Series C preferred shares may be redeemed or exchanged will not affectCapital Crossing Preferred’s REIT status prior to any such redemption orexchange, the redemption or exchange of all or a part of the Series A andSeries C preferred shares could adversely affect Capital Crossing Preferred’sability to satisfy the share ownership requirements in the future.

 

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**Item 3. Quantitative and QualitativeDisclosures About Market Risk**

 

Market risk is the risk of loss from adverse changes in market pricesand interest rates. It is the objective of Capital Crossing Preferred toattempt to control risks associated with interest rate movements. CapitalCrossing Preferred’s market risk arises primarily from interest rate riskinherent in holding loans. To that end, management actively monitors andmanages the interest rate risk exposure of Capital Crossing Preferred.

 

In addition to theestimated changes in interest income resulting from the repricing ofcontractual loan rates, interest income can change substantially due tofluctuations in the amount of discount income and other interest and fee incomerecognized as a result of loan payoffs. The level of loan payoffs and relatedinterest income is influenced by several factors, including the interest rateenvironment, the real estate market in particular areas, the timing oftransactions, and circumstances related to individual borrowers and loans.Refer to pages 6-8 for a further analysis and discussion of the fluctuations indiscount income.

 

Capital Crossing Preferred’s management reviews, among other things, thesensitivity of Capital Crossing Preferred’s assets to interest rate changes,the book and market values of assets, purchase and sale activity, andanticipated loan pay-offs. Capital Crossing’s senior management also approvesand establishes pricing and funding decisions with respect to Capital CrossingPreferred’s overall asset and liability composition.

 

Capital Crossing Preferred’s methods for evaluating interest rate riskinclude an analysis of its interest–earning assets maturing or repricingwithin a given time period. Since Capital Crossing Preferred has no interest–bearingliabilities, a period of rising interest rates would tend to result in anincrease in net interest income. A period of falling interest rates would tendto adversely affect net interest income.

 

The following table sets forth Capital Crossing Preferred’sinterest-rate-sensitive assets categorized by repricing dates and weightedaverage yields at June 30, 2002. For fixed rate instruments, the repricing dateis the maturity date. For adjustable-rate instruments, the repricing date isdeemed to be the earliest possible interest rate adjustment date. Assets thatare subject to immediate repricing are placed in the overnight column.

 
|                         |   | **Overnight**               |   | **Within  One  Year** |   | **One to  Two  Years** |   | **Two to  Three  Years** |   | **Three to  Four  Years** |   | **Four to  Five  Years** |   | **Over  Five  Years** |   | **Total** |   |
|------------------------------|--------|-----------------------------|--------|-----------------------|--------|------------------------|--------|--------------------------|--------|---------------------------|--------|--------------------------|--------|-----------------------|--------|-----------|--------|
|                         |   | **(dollars  in thousands)** |   |
|                         |   |                        |   |                  |   |                   |   |                     |   |                      |   |                     |   |                  |   |      |   |
| Interest-bearing  deposits   |   | $                           | 63,749 |                  | $      | 100                    |   | $                        | — |                      | $      | —                   |   | $                     | — |      | $      | — |   | $ | — |   | $ | 63,849 |   |
| Average interest  rate       |   | 3.00                        | %      | 2.13                  | %      |                   |   |                     |   |                      |   |                     |   |                  |   |      |   |
| Fixed-rate  loans(1)         |   | —                      |   | 42,047                |   | 26,510                 |   | 18,229                   |   | 16,848                    |   | 11,632                   |   | 44,879                |   | 160,145   |   |
| Average interest  rate       |   |                        |   | 9.29                  | %      | 8.79                   | %      | 8.51                     | %      | 8.01                      | %      | 7.79                     | %      | 7.10                  | %      |      |   |
| Adjustable-rate  loans(1)    |   | 35,679                      |   | 69,081                |   | 5,024                  |   | 2,179                    |   | —                    |   | —                   |   | —                |   | 111,963   |   |
| Average interest  rate       |   | 7.75                        | %      | 7.38                  | %      | 9.16                   | %      | 8.90                     | %      |                      |   |                     |   |                  |   |      |   |
|                         |   |                        |   |                  |   |                   |   |                     |   |                      |   |                     |   |                  |   |      |   |
| Total  rate-sensitive assets |   | $                           | 99,428 |                  | $      | 111,228                |   | $                        | 31,534 |                      | $      | 20,408                   |   | $                     | 16,848 |      | $      | 11,632 |   | $ | 44,879 |   | $ | 335,957 |   |

 

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(1)                                  Loansare presented at net amounts before deducting the allowance for loan losses andexclude non-performing loans.

 

Based on CapitalCrossing Preferred’s experience, management applies the assumption that, onaverage, approximately 26% of the outstanding fixed and adjustable rate loanswill prepay annually.

 

At June 30, 2002,the fair value of net loans was $267,910,000 as compared to the net carryingvalue of net loans of $264,174,000.  Thefair value of interest-bearing deposits approximates carrying value.

 

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**PartII**

 

**Item1.  Legal Proceedings**

                

From time to time, Capital Crossing Preferred may beinvolved in routine litigation incidental to its business, including a varietyof legal proceedings with borrowers, which would contribute to Capital CrossingPreferred’s expenses, including the costs of carrying non-performing assets.Capital Crossing Preferred is not currently a party to any materialproceedings.

 

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

 

Capital Crossingexecuted a Written Consent of the Sole Common Stockholder as of June 3, 2002,which was in lieu of the annual meeting of stockholders of Capital CrossingPreferred, for the purpose of setting the number of directors and electing directorsto serve until the next annual meeting of stockholders.  Capital Crossing holds 100 shares of thecommon stock of Capital Crossing Preferred and is the sole stockholder of thecommon stock of Capital Crossing Preferred. Capital Crossing voted all of its shares in favor of setting the numberof directors at six and the election of the following directors:  Nicholas W. Lazares; Richard Wayne; EdwardF. Mehm; Jeffrey P. Ross; Michael J. Fox; and Douglas Shaw.

 

**Item6.  Exhibits and Reports on Form 8-K**

 

(a)           Exhibits.

 

99.1         Certification signed by Richard Wayne, President (ChiefExecutive Officer).

 

99.2         Certification signed by Edward F. Mehm, Treasurer (PrincipalFinancial Officer).

 

(b)                                 Reports on Form 8-K.

 

No reports on Form 8-K were filed in the quarterended June 30, 2002.

 

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**SIGNATURES**

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned, thereuntoduly authorized.

 

**CAPITALCROSSING PREFERRED CORPORATION**

 

 
| Date:  August 14, 2002 | By:  /s/ RICHARD WAYNE  |                                          |
|------------------------|-------------------------|-----------------------------------------------|
|                   |                    | Richard  Wayne                                |
|                   |                    | President  (Principal Executive Officer) |
|                   |                    |                                          |
|                   |                    |                                          |
|                   |                    |
| Date:  August 14, 2002 | By:  /s/ EDWARD F. MEHM |                                          |
|                   |                    | Edward  F. Mehm                               |
|                   |                    | Treasurer  (Principal Financial Officer)      |
|                        |                         |                                               |  |  |  |

 

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**EXHIBITINDEX**

 
| **Exhibit** |   | **Name**                                                                         |
|-------------|--------|----------------------------------------------------------------------------------|
|        |   |                                                                             |
| 99.1        |   | Certification signed by  Richard Wayne, President (Principal Executive Officer)  |
| 99.2        |   | Certification signed by Edward  F. Mehm, Treasurer (Principal Financial Officer) |

 

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