10-Q 1 bnp-10q_0516.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 -------------------- FORM 10-Q -------------------- QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2005 For the transition period from to Commission File Number 000-23745 BNP US FUNDING L.L.C. (Exact name of registrant as specified in its charter) Delaware 13-3972207 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 787 Seventh Avenue New York, NY 10019 (Address of principal executive offices) (Zip Code) (212) 841-2000 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding twelve months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past ninety days. Yes |X| No |_| Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes |_| No |X| Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. All outstanding shares of Common Stock were held by BNP Paribas at March 31, 2005. The number of shares outstanding of each of the issuer's classes of common stock, as of the close of business on May 16, 2005, were as follows: Class Number of Shares Common Stock, $10,000 per share par value 53,011 Form 10-Q Index PART I PAGE ---- Item 1: Financial Statements (Unaudited) Balance Sheets 3 Statements of Income 4 Statements of Comprehensive Income (Loss) 5 Statements of Cash Flows 6 Notes to Financial Statements 7 Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations 14 Item 3: Quantitative and Qualitative Disclosures about Market Risk 18 Item 4: Controls and Procedures 22 PART II Item 1: Legal Proceedings 22 Item 2: Unregistered Sales of Equity Securities and Use of Proceeds 22 Item 3: Defaults Upon Senior Securities 22 Item 4: Submission of Matters to a Vote Security Holders 22 Item 5: Other Information 22 Item 6: Exhibits 22 Part I Item 1. FINANCIAL STATEMENTS BNP U.S. FUNDING L.L.C. BALANCE SHEETS (in thousands, except per share data) March 31, 2005 December 31, 2004 (unaudited) (audited) -------------- ----------------- ASSETS Cash and cash equivalents $ 24,528 $ 112,207 Certificates of deposits 120,000 - Investment securities (Notes 3 and 4) Available-for-sale, at fair value 930,371 986,218 Receivable arising from payment for securities, pursuant to the application of SFAS 125, as replaced by SFAS 140 (Note 3) 19,582 20,869 Accounts receivable 26 27 Accrued interest receivable 8,003 8,531 -------------- -------------- TOTAL ASSETS $ 1,102,510 $ 1,127,852 ============== ============== LIABILITIES Accrued interest payable $ 834 $ 2,749 Accrued expenses 434 338 Other liabilities 52,252 75,415 -------------- -------------- TOTAL LIABILITIES 53,520 78,502 -------------- -------------- Redeemable common securities, par value and redeemable value $10,000 per security; 150,000 securities authorized, 53,011 securities issued and outstanding 530,110 530,110 Preferred securities, liquidation preference $10,000 per security; 150,000 securities authorized, 50,000 securities issued and outstanding 500,000 500,000 Additional paid-in capital 651 651 Accumulated other comprehensive income 10,737 16,830 Retained earnings 7,492 1,759 -------------- -------------- TOTAL REDEEMABLE COMMON SECURITIES, PREFERRED SECURITIES AND SECURITYHOLDERS' EQUITY 1,048,990 1,049,350 -------------- -------------- TOTAL LIABILITIES AND TOTAL REDEEMABLE COMMON SECURITIES, PREFERRED SECURITIES AND SECURITYHOLDERS' EQUITY $ 1,102,510 $ 1,127,852 ============== ==============

See Notes to Financial Statements. BNP U.S. FUNDING L.L.C. STATEMENTS OF INCOME (UNAUDITED) (in thousands, except per share data) For the Three Months Ended March 31, ------------------------------------ INTEREST INCOME 2005 2004 -------------- -------------- Collateralized Mortgage Obligations: Floating-Rate REMICs $ 36 $ 34 Fixed-Rate REMICs 195 29 Mortgage Backed Securities: Agency ARMs 80 109 Agency Hybrid ARMs 162 198 Agency DUSs 2,023 1,272 Agency Debentures 2,451 4,299 Interest on deposits 834 65 -------------- -------------- Total 5,781 6,006 -------------- -------------- NONINTEREST INCOME (EXPENSE) Other financial instrument 299 (453) Fees and expenses (348) (317) -------------- -------------- (49) (770) -------------- -------------- NET INCOME APPLICABLE TO PREFERRED AND REDEEMABLE COMMON SECURITIES $ 5,732 $ 5,236 ============== ============== NET INCOME PER REDEEMABLE COMMON SECURITY $ 108.13 $ 98.77 ============== ============== See Notes to Financial Statements.

BNP U.S. FUNDING L.L.C. STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (UNAUDITED) (in thousands) For the Three Months Ended March 31, ------------------------------------ NET INCOME 2005 2004 -------------- -------------- NET INCOME $ 5,732 $ 5,236 OTHER COMPREHENSIVE INCOME (LOSS) Net change in unrealized gain in fair value of available-for-sale securities that are not treated as collateral and that are not hedged by derivative instruments (6,094) 3,766 -------------- -------------- TOTAL OTHER COMPREHENSIVE INCOME (LOSS) (6,094) 3,766 -------------- -------------- COMPREHENSIVE INCOME (LOSS) $ (362) $ 9,002 ============== ============== See Notes to Financial Statements.

BNP U.S. FUNDING L.L.C. STATEMENTS OF CASH FLOWS (UNAUDITED) (in thousands) For the Three Months Ended March 31, ------------------------------------ OPERATING ACTIVITIES 2005 2004 -------------- -------------- Net income $ 5,732 $ 5,236 Adjustments to reconcile net income to net cash provided by operating activities: Amortization 171 227 (Gain) loss on other financial instrument (299) 453 (Gain) loss on hedge activity 2,551 (181) Changes in assets and liabilities: Interest receivable 528 647 Accounts receivable 1 (43) Accrued expenses 97 115 Accrued interest payable (1,915) (1,687) -------------- -------------- Net cash provided by operating activities 6,866 4,767 -------------- -------------- INVESTING ACTIVITIES Purchase of certificates of deposits (120,000) - Proceeds from principal payments of securities, not treated as collateral 24,187 3,255 Proceeds from principal payments of securities, treated as collateral 1,268 3,297 -------------- -------------- Net cash provided by (used in) investing activities (94,545) 6,552 -------------- -------------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (87,679) 11,319 CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 112,207 25,181 -------------- -------------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 24,528 $ 36,500 ============== ============== NONCASH FINANCING AND INVESTING ACTIVITIES Decrease in receivable arising from payment for securities, pursuant to the application of SFAS 125, as replaced by SFAS 140 (Note 3) $ 1,268 $ 3,356 See Notes to Financial Statements.

UNAUDITED NOTE 1--ORGANIZATION AND BASIS OF PRESENTATION BNP U.S. Funding L.L.C. (the "Company" or the "Registrant") is a Delaware limited liability company formed on October 14, 1997, for the purpose of acquiring and holding certain types of eligible securities that generate net income for distribution to the holders of its Series A Preferred Securities (as defined below) and its redeemable Common Securities (as defined below). The Company has no subsidiaries and is a wholly owned subsidiary of the New York Branch (the "Branch") of BNP PARIBAS (formerly, Banque Nationale de Paris), a societe anonyme or limited liability corporation organized under the laws of the Republic of France (the "Bank", "BNP PARIBAS" or "BNPP"). The Company was continued pursuant to the Amended and Restated Limited Liability Company Agreement of the Company (the "Company's Charter" or the "Charter") entered into on December 5, 1997, by the Branch. The Company was initially capitalized on October 14, 1997, with the issuance to the Branch of one share of the Company's redeemable common securities, $10,000 par value (the "Common Securities"). On December 5, 1997 (inception), the Company commenced operations concurrent with the issuance of 50,000 noncumulative preferred securities, Series A, liquidation preference $10,000 per security (the "Series A Preferred Securities"), to qualified institutional buyers, and the issuance of an additional 53,010 Common Securities to the Branch. These issuances raised in the aggregate $1,030,115,873 of net capital (including $5,873 of additional paid-in capital). This entire amount was used to acquire a portfolio of debt securities (the "Initial Portfolio") at their fair values from the Branch. The Branch contributed additional paid-in capital of $3,000,000, $5,500,000, $7,500,000, $8,500,000, $6,800,000 on December 3, 2002, June 3, 2003, December 3, 2003, June 3, 2004 and December 2, 2004, respectively. The Company entered into a services agreement (the "Services Agreement") with the Branch on December 5, 1997, pursuant to which the Branch maintains the securities portfolio of the Company (the "Portfolio") and performs other administrative functions. The Company has no employees. All of the Company's officers are officers or employees of the Branch or the Bank or their affiliates. The securities in the Portfolio are held by Citibank N.A., acting as trustee (the "Trustee") under the trust agreement between the Company and Citibank N.A. dated December 1, 1997 (the "Trust Agreement"). The accounting and financial reporting policies of the Company conform to U.S. generally accepted accounting principles (the "GAAP") and current industry practices. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make certain estimates and assumptions that affect the reported amounts and disclosures and may vary from actual results. The accompanying financial statements are unaudited but, in the opinion of management, contain all the adjustments (consisting of those of a normal recurring nature) considered necessary to present fairly the financial position and the results of operations and cash flows for the periods presented in conformity with GAAP applicable to interim periods. The accompanying financial statements should be read in conjunction with the audited financial statements of BNP US Funding L.L.C reported in Form 10-K for the year ended December 31, 2004, filed on March 31, 2005. NOTE 2--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES INVESTMENT SECURITIES Investments in debt securities are classified as available-for-sale (recorded on a trade-date basis) and are carried at fair value. The debt securities can be categorized as hedged or non-hedged securities. Fair values of non-hedged debt securities are estimated based on quoted market price for these securities. For the hedged securities, changes in the fair market value of both the securities and the derivatives used as hedging instruments (cross currency and interest rate swaps) are reported in current earnings in the Statements of Income, pursuant to application of SFAS 133, (see below, "Accounting for Derivatives and Hedging Activities"). Unrealized gains and losses on the non-hedged securities are reported as a component of "Other Comprehensive Income (Loss)". The hedged securities are generally valued using discounted cash flows in a yield-curve model based on LIBOR. Interest on securities is included in interest income and is recognized using the interest method. Premiums and discounts are amortized in a manner that approximates the constant yield method. ACCOUNTING FOR DERIVATIVES AND HEDGING ACTIVITIES Statement of Financial Accounting Standards No. 133 ("SFAS 133"), "Accounting for Derivative Instruments and Hedging Activities", requires that an entity measure all derivatives at fair value and recognize those derivatives as either assets or liabilities on the balance sheet. The change in the derivative's fair value is generally to be recognized in current period earnings. However, if certain conditions are met, a derivative may be specifically designated as a hedge of an exposure to changes in fair value, variability of cash flows, or certain foreign currency exposures. The Company has made an assessment of all its financial instruments and concluded that it holds freestanding derivative instruments but no embedded derivative instruments at March 31, 2005. As part of its asset management activities the Company uses foreign exchange and interest rate swaps to modify the interest rate and foreign exchange characteristics of existing assets. The interest rate swaps have a high correlation between the instrument and the asset being hedged, both at inception and throughout the hedge period. CASH AND CASH EQUIVALENTS The Company considers all highly liquid investments with a maturity of three months or less at acquisition date to be cash equivalents. CERTIFICATES OF DEPOSITS The Company has four certificates of deposits stated at cost that mature in less than six months. DIVIDENDS Dividends on the Series A Preferred Securities, when, as and if declared by the Company's Board of Directors, are payable semi-annually in arrears on a non-cumulative basis on the fifth day of June and December of each year, commencing June 5, 1998, at a rate per annum of 7.738% of the liquidation preference through and including December 5, 2007. Thereafter, dividends, when, as and if declared by the Company's Board of Directors, will be payable quarterly in arrears on the third Wednesday of March, June, September, and December of each year and will be calculated on a weekly basis in each quarter at a rate per annum of the liquidation preference equal to 2.8% per annum above one-week LIBOR for the week concerned as determined on the related LIBOR Determination Date. Holders of Common Securities are entitled to receive dividends when, as and if declared by the Company's Board of Directors out of the Company's net income not required to be applied to fund dividends with respect to the Series A Preferred Securities. Dividends to the Preferred Securityholders may be paid out of (i) net income, determined without regard to capital gains or losses, and or (ii) amounts contributed by the Bank or the Branch to the Company's capital. As of March 31, 2005, the Branch has contributed a total of $31,300,000 of additional paid-in capital, which was used to facilitate the semi-annual payments of dividends to the holders of the Series A Preferred Securities. To date, the Company has declared and paid dividends as follows: Security Amount Date Paid ----------------------------- ------------ ----------------- Series A Preferred Securities $ 19,345,000 June 5, 1998 Common Securities $ 5,347,365 June 22, 1998 Series A Preferred Securities $ 19,345,000 December 5, 1998 Common Securities $ 8,787,127 December 15, 1998 Series A Preferred Securities $ 19,345,000 June 5, 1999 Common Securities $ 8,454,284 June 15, 1999 Series A Preferred Securities $ 19,345,000 December 5, 1999 Common Securities $ 10,352,672 December 15, 1999 Series A Preferred Securities $ 19,345,000 June 5, 2000 Common Securities $ 12,508,486 June 19, 2000 Series A Preferred Securities $ 19,345,000 December 5, 2000 Common Securities $ 14,792,297 December 19, 2000 Series A Preferred Securities $ 19,345,000 June 5, 2001 Common Securities $ 10,718,708 June 19, 2001 Series A Preferred Securities $ 19,345,000 December 5, 2001 Series A Preferred Securities $ 19,345,000 June 5, 2002 Series A Preferred Securities $ 19,345,000 December 5, 2002 Series A Preferred Securities $ 19,345,000 June 5, 2003 Series A Preferred Securities $ 19,345,000 December 5, 2003 Series A Preferred Securities $ 19,345,000 June 5, 2004 Series A Preferred Securities $ 19,345,000 December 5, 2004 If the Bank's financial condition were to deteriorate with the consequence that a Shift Event (as defined below) were to occur, substantially all of the Common Securities would be redeemed automatically without prior redemption of the Series A Preferred Securities and dividends payable on each Series A Preferred Security could be substantially reduced or completely eliminated. In addition, if the Bank's Tier 1 risk-based capital ratio were to decline below the minimum percentage required by French banking regulations (currently 4%), the Company would pay a special dividend consisting of all of the Company's net assets (other than assets having a total market value of approximately $40,000,000) to the Branch as holder of the Common Securities. A "Shift Event" would be deemed to have occurred if (i) the Bank's total risk-based capital ratio or Tier 1 risk-based capital ratio were to decline below the minimum percentages required by French banking regulations, (ii) the Bank were to become subject to certain specified receivership proceedings or (iii) the French Banking Commission (Commission Bancaire), in its sole discretion, were to notify the Bank and the Company that it has determined that the Bank's financial condition was deteriorating such that either of the foregoing clauses (i) or (ii) would apply in the near term. French banking regulations currently require French banks to maintain a minimum total risk-based capital ratio of at least 8.0% and a minimum Tier 1 risk-based capital ratio of at least 4.0%. The Company may not pay dividends or make other distributions on the Common Securities or the Series A Preferred Securities if, after giving effect to the distributions, the Company's liabilities would exceed the fair value of its assets. Additionally, as long as any Series A Preferred Securities are outstanding, except during a Shift Period (i.e., following the occurrence of a Shift Event causing a shift in dividend preference and before the termination thereof), the amount of dividends on the Common Securities in any fiscal year may not exceed the amount by which the net income of the Company for such fiscal year exceeds the stated dividends on the Series A Preferred Securities scheduled to be paid during such fiscal year irrespective of whether dividends on the Series A Preferred Securities are in fact declared and paid. Additionally, other than during a Shift Period, no dividends may be declared, paid or set apart for payment on the Common Securities (a) with respect to any period of time included in any Dividend Period unless full dividends have been or contemporaneously are declared and paid, or declared and a sum sufficient for the payment thereof is set apart for such payment on the Series A Preferred Securities for the then-current Dividend Period and (b) the Company may not declare, pay or set apart funds for any dividends or other distributions with respect to any Common Securities unless and until (x) full dividends on the Series A Preferred Securities for the two most recent preceding Dividend Periods are declared and paid, or declared and a sum sufficient for payment has been paid over to the dividend disbursing agent for payment of such dividends and (y) the Company has declared a cash dividend on the Series A Preferred Securities at the annual dividend rate for the then-current Dividend Period, and sufficient funds have been paid over to the dividend disbursing agent for payment of such cash dividends for such then-current Dividend Period. COMPREHENSIVE INCOME (LOSS) Statement of Financial Accounting Standards No. 130, ("SFAS 130"), "Reporting Comprehensive Income," established standards for reporting and display of comprehensive income (loss) and its components. Components of comprehensive income (loss) include net income. Other comprehensive income (loss) consists of unrealized gains and losses on marketable securities available for sale. NET INCOME PER REDEEMABLE COMMON SECURITY Net income per redeemable common security is calculated by dividing net income after preferred dividends by the weighted average number of Common Securities outstanding. INCOME TAXES The Company is treated as a partnership for U.S. federal income tax purposes. As a partnership it is not a taxable entity, the Company will not be subject to U.S. federal, state and local income tax on its income. Instead, each securityholder is required to take into account its allocable share of items of income, gain, loss and deduction of the Company in computing its U.S. federal tax liability. Accordingly, the Company has made no provision for income taxes in the accompanying statements of income. FOREIGN CURRENCY TRANSLATION Assets denominated in foreign currencies are translated to U.S. dollars using applicable rates of exchange. All of the Company's assets denominated in a foreign currency are included in its available-for-sale securities portfolio, and their foreign currency exchange risk is hedged by means of cross currency swaps. In accordance with the requirements of SFAS 133, the change in fair value, due to the change in the foreign currency exchange rate, of both the hedged securities and the hedging instruments is recorded in current period earnings. Revenues and expenses are translated monthly at amounts which approximate weighted average exchange rates. NOTE 3--RECEIVABLE ARISING FROM PAYMENT FOR SECURITIES Statement of Financial Accounting Standards No. 140 ("SFAS 140"), "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities" addresses the accounting for the transfer of financial assets. Under SFAS 140, transfers of financial assets that do not meet certain sale accounting requirements must be accounted for as a secured borrowing transaction with a pledge of collateral. Due to the potential consequences of a Shift Event (as described above), the Company's purchase of the Initial Portfolio from the Branch did not meet certain SFAS 125, as replaced by SFAS 140, sale accounting requirements. Therefore, the purchase of the Initial Portfolio has been accounted for as a secured borrowing transaction with a pledge of collateral. In accounting for this transaction as a secured borrowing transaction in accordance with SFAS 125, as replaced by SFAS 140, the Company has recorded a receivable in an amount equal to the remaining amount paid to the Branch to acquire the Initial Portfolio. In this case, however, having delivered the securities in the Initial Portfolio to the Company, neither the Branch nor BNPP has any further obligation to the Company to repay any part of the purchase price for the Initial Portfolio or otherwise to repurchase or redeem any securities in the Initial Portfolio. The Company has not sold or repledged the collateral; the securities within the Initial Portfolio mature or prepay over time. As they do, the Company recognizes the cash proceeds as a reduction in the receivable arising from payment for securities. The collateral at March 31, 2005 is reported in Note 4 below. NOTE 4--INVESTMENT SECURITIES The amortized cost and estimated fair value of the securities were as follows based on management's prepayment assumptions (in thousands): March 31, 2005 -------------- Gross Gross Unrealized Unrealized Non-Collateral Amortized Cost Gains Losses Fair Value ---------------- -------------- ---------- ---------- ---------- Collateralized Mortgage Obligations: Floating-Rate REMICs $ 493 $ --- $ 5 $ 488 Fixed-Rate REMICs 30,915 1,743 --- 32,658 Mortgage Backed Securities: Agency ARMs 3,030 12 28 3,014 Agency Hybrid ARMs 6,074 45 3 6,116 Agency DUSs 324,675 17,000 --- 341,675 Agency Debentures 505,522 41,350 452 546,420 ---------- ---------- ---------- ---------- Total Non-Collateral $ 870,709 $ 60,150 $ 488 $ 930,371 ---------- ---------- ---------- ---------- Collateral ---------- Collateralized Mortgage Obligations: Floating-Rate REMICs $ 4,893 $ --- $ 58 $ 4,835 Fixed-Rate REMICs --- --- --- --- Mortgage Backed Securities: Agency ARMs 5,405 38 2 5,441 Agency Hybrid ARMs 9,284 38 59 9,263 Agency DUSs --- --- --- --- Agency Debentures --- --- --- --- ---------- ---------- ---------- ---------- Total Collateral $ 19,582 $ 76 $ 119 $ 19,539 ---------- ---------- ---------- ---------- March 31, 2005 Total Portfolio $ 890,291 $ 60,226 $ 607 $ 949,910 ------------------------------ ========== ========== ========== ==========

The breakdown of the Company's securities by category and weighted average life distribution (stated in terms of amortized cost) is summarized below based on management's prepayment assumptions (Actual maturities may differ from maturities shown below due to prepayments) (in thousands): March 31, 2005 -------------- Due after 1 Due after 5 Due in 1 year through 5 through 10 Due after 10 Non-Collateral or less years years years Total -------------- ------------- ----------- ----------- ------------ ----------- Collateralized Mortgage Obligations: Floating-Rate REMICs $ --- $ 493 $ --- $ --- $ 493 Fixed-Rate REMICs --- 30,915 --- --- 30,915 Mortgage Backed Securities: Agency ARMs --- 2,277 502 251 3,030 Agency Hybrid ARMs 268 4,130 562 1,114 6,074 Agency DUSs --- 324,675 --- --- 324,675 Agency Debentures --- 505,522 --- --- 505,522 ----------- ----------- ----------- ----------- ----------- Total Non-Collateral $ 268 $ 868,012 $ 1,064 $ 1,365 $ 870,709 ----------- ----------- ----------- ----------- ----------- Collateral ---------- Collateralized Mortgage Obligations: Floating-Rate REMICs $ 839 $ 4,054 --- --- $ 4,893 Fixed-Rate REMICs --- --- --- --- --- Mortgage Backed Securities: Agency ARMs --- 1,270 851 3,284 5,405 Agency Hybrid ARMs --- 2,070 6,285 929 9,284 Agency DUSs --- --- --- --- --- Agency Debentures --- --- --- --- --- ----------- ----------- ----------- ----------- ----------- Total Collateral $ 839 $ 7,394 $ 7,136 $ 4,213 $ 19,582 ----------- ----------- ----------- ----------- ----------- March 31, 2005 Total Portfolio $ 1,107 $ 875,406 $ 8,200 $ 5,578 $ 890,291 ------------------------------ =========== =========== =========== =========== ===========

The breakdown of the Company's securities by category and yield, before the result of hedges, is summarized below: Due after 1 Due after 5 Due in 1 year through 5 through 10 Due after 10 Yield after March 31, 2005 or less years years years Total Hedging --------------- ------------- ----------- ----------- ------------ ------- ----------- Collateralized Mortgage Obligations: Floating-Rate REMICs 2.37% 2.63% ---% ---% 2.59% 2.59% Fixed-Rate REMICs --- 6.59 --- --- 6.59 2.53 Mortgage Backed Securities: Agency ARMs --- 3.81 3.76 3.71 3.74 3.74 Agency Hybrid ARMs 5.68 4.18 3.62 5.62 4.15 4.15 Agency DUSs 2.33 6.13 --- --- 6.12 2.47 Agency Debentures --- 5.87 --- --- 5.87 1.94 -------- -------- -------- -------- -------- -------- Total 2.63% 5.98% 3.65% 4.41% 5.93% 2.21% ======== ======== ======== ======== ======== ========

NOTE 5--FAIR VALUE OF FINANCIAL INSTRUMENTS The fair values of securities at March 31, 2005 was obtained from independent market sources and is summarized in Note 4. The carrying values of securities, as shown in Note 4, approximates their fair value. The fair value of the receivable arising from payment for securities, pursuant to the application of SFAS 125, as replaced by SFAS 140, was $19,538,851 at March 31, 2005. The carrying value of cash and cash equivalents, certificates of deposits, accounts receivable, accrued interest receivable, accrued expenses, and accounts payable approximates fair value due to their short-term maturity of less than nine months. The fair value of the cross currency and interest rate swaps was $(52,252,050) at March 31, 2005 and is reflected in "Other liabilities". NOTE 6--DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES The Company maintains an overall risk management strategy that incorporates the use of derivative instruments to hedge the interest rate risk and foreign currency risk of fixed-income securities. As a result of interest rate or exchange rate fluctuations, hedged fixed-rate assets will appreciate or depreciate in market value. The effect of this unrealized appreciation or depreciation is expected to substantially offset the Company's gains or losses on the derivative instruments that are linked to these hedged assets and liabilities. The Company considers its use of derivatives to be a prudent method of managing interest rate and foreign currency rate sensitivity, as it prevents earnings from being exposed to undue risk posed by changes in interest and exchange rates in compliance with the Company's policies. Derivative instruments that are used as part of the Company's interest rate risk management strategy include interest rate and cross currency swap contracts that have indices related to the pricing of specific balance sheet assets and liabilities. As a matter of policy, the Company does not use highly leveraged derivative instruments for interest rate risk management. Interest rate swaps generally involve the exchange of fixed and variable rate interest payments between two parties, based on a common notional principal amount and maturity date. By using derivative instruments, the Company exposes itself to credit and market risk. If a counterparty fails to fulfill its performance obligations under a derivative contract, the Company's credit risk will equal the fair value gain in a derivative. Generally, when the fair value of a derivative contract is positive, this indicates that the counterparty owes the Company, thus creating a repayment risk for the Company. When the fair value of a derivative contract is negative, the Company owes the counterparty and, therefore, assumes no repayment risk. The Company minimizes the credit (or repayment) risk in derivative instruments by entering into transactions with BNP PARIBAS S.A. Consequently, the Company does not require that collateral be provided by the counterparty. Market risk is the adverse effect that a change in interest rates, currency, or implied volatility rates might have on the value of a financial instrument. The Company does not expose itself to market risk by using derivatives but rather reduces market risk since it uses derivatives only for fair value hedges that effectively offset fluctuations in the fair value of the hedged items. The Company formally documents all relationships between derivatives and hedged items, as well as its risk management objectives and strategies for undertaking various hedge transactions. This process includes linking all derivatives that are designated as fair value or cash flow hedges to (1) assets and liabilities on the balance sheet, (2) firm commitments or (3) forecasted transactions. Fair Value Hedges The Company mainly enters into interest rate swaps and cross currency interest rate swaps to convert fixed rate Agency Debentures, Agency DUSs and Fixed-Rate REMICs into variable rate securities. All of the Company's outstanding hedging transactions are fair value hedges. The fair value of these hedging instruments was $(50,807,823) at March 31, 2005, and has been recorded in "Other liabilities". It has been offset, except for the ineffective portion of the hedge, by the revaluation of the respective hedged investment securities. The fair value of the hedging instruments does not include accrued interest receivable and payable, which are shown separately on the balance sheet. For the three months ended March 31, 2005, the Company recognized a loss of $(2,550,875) in earnings related to the ineffective portion of fair value hedges. The Company also recognized a gain of $298,644 in current year's earnings related to a cross currency swap that no longer qualified as a fair value hedging instrument. Cash Flow Hedges For the three months ended March 31, 2005, the Company did not enter into cash flow hedge transactions and it is not the intention of the Company to use interest rate swaps to convert floating rate financial instruments to fixed rate financial instruments as part of a cash flow hedge strategy. At March 31, 2005, the Company had outstanding interest rate and cross currency swap agreements with a notional principal amount of $644,989,150. NOTE 7-- RELATED PARTY TRANSACTIONS The Company entered into a Services Agreement with the Branch on December 5, 1997 pursuant to which the Branch manages the securities portfolio of the Company and performs other administrative functions. Expenses incurred under such Agreement was $246,917 for the period ended March 31, 2005. Under a specific allocation methodology, the costs of personnel servicing the Company is based on actual man-hours devoted to the activities of the Company and remains at arms length. The counterparty to all cross currency and interest rate swaps is BNP Paribas. The Branch also serves as the dividend paying agent, registrar and transfer agent with respect to the Series A Preferred Securities. The fee is $4,000 per annum for these services. All of the Company's officers and employees and all but one of the members of the Company's Board of Directors are officers and employees of the Branch or BNP Paribas or their affiliates. Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations Set forth on the following pages is management's discussion and analysis of the results of operations for the three months ended March 31, 2005, 2004 and 2003. Such information should be read in conjunction with our Financial Statements together with the Notes to the Financial Statements. General The Company was formed on October 14, 1997, and commenced operations on December 5, 1997, by the sale to qualified institutional buyers of 50,000 Series A Preferred Securities and the sale to the Branch of 53,010 Common Securities. Together, such sales raised net capital of $1,030,115,873, which the Company used to purchase the Initial Portfolio from the Branch. The Branch has contributed $6,800,000, $8,500,000, $7,500,000, $5,500,000, and $3,000,000 of additional paid-in capital on December 2, 2004, June 3, 2004, December 3, 2003, June 3, 2003 and December 3, 2002, respectively. The Company's sole business is to acquire, hold and manage debt instruments, largely consisting of mortgage obligations, in the Portfolio, which generate net income for distribution to securityholders. The Company's major source of income is interest generated by the securities in the Portfolio. Critical Accounting Policies The Notes to the Financial Statements contain a summary of the Company's significant accounting policies, including a discussion of recently issued accounting pronouncements. Certain of these policies as well as estimates made by management are considered to be important to the portrayal of the Company's financial condition, since they require management to make difficult, complex or subjective judgments and estimates, some of which may relate to matters that are inherently uncertain. Additional information about these policies can be found in Note 2 to the Financial Statements. Valuations of Financial Instruments Investments include mortgage backed securities and derivatives. the Company carries its investments at fair value if they are considered to be available-for-sale. For a substantial majority of the Company's investments, fair values are determined based upon quoted prices or validated models with externally verifiable model inputs. If available, quoted market prices provide the best indication of fair value. If quoted market prices are not available for mortgage backed securities and derivatives, the Company discounts the expected cash flows using market interest rates commensurate with the duration of the investment. The Company has made an assessment of all its financial instruments and concluded that it holds freestanding derivative instruments but no embedded derivative instruments at March 31, 2005. As part of its asset management activities the Company uses foreign exchange and interest rate swaps to modify the interest rate and foreign exchange characteristics of existing assets. The interest rate swaps have a high correlation between the instrument and the asset being hedged, both at inception and throughout the hedge period. Results of Operations The following discussion pertains to the three months ended March 31, 2005, March 31, 2004, and March 31, 2003 (the "2005 Period", the "2004 Period" and the "2003 Period," respectively). Portfolio The average amortized cost of the Portfolio during the 2005 Period, 2004 Period and 2003 Period was $893,495,517, $997,292,946 and $995,300,406, respectively. This reflects the following prepayments and reinvestments: PREPAYMENTS 2005 2004 2003 ----------------------------------- ------------ ------------ ------------ Floating-Rate REMICs............... $ 819,821 $ 1,642,747 $ 3,387,183 Fixed-Rate REMICs.................. $ --- $ 298,027 $ 3,572,384 Agency ARMs........................ $ 241,694 $ 1,135,209 $ 4,741,166 Agency Hybrid ARMs................. $ 717,155 $ 2,058,420 $ 4,534,169 Agency DUS......................... $ 23,674,642 $ 1,418,248 $ 1,054,488 Agency Debentures.................. $ --- $ --- $ --- ------------------------------------------------------------------------------------------- REINVESTMENTS 2005 2004 2003 ----------------------------------- ------------ ------------ ------------ Floating-Rate REMICs............... $ --- $ --- $ --- Fixed-Rate REMICs.................. $ --- $ --- $ --- Agency ARMs........................ $ --- $ --- $ --- Agency Hybrid ARMs................. $ --- $ --- $ --- Agency DUS......................... $ --- $ --- $ 27,089,545 Agency Debentures.................. $ --- $ --- $ 20,038,400

As of March 31, 2005, 2004, and 2003, as calculated by aggregate amortized cost, approximately 43.22%, 49.15% and 49.68%, respectively, of the Portfolio consisted of collateralized mortgage obligations (Floating-Rate REMICs and Fixed-Rate REMICs) and mortgage backed securities (Agency ARMs, Agency Hybrid ARMs and Agency DUSs), and approximately 56.78%, 50.85%, and 50.32%, respectively, consisted of Agency Debentures. As of March 31, 2005, 2004 and 2003, floating rate securities accounted for approximately 3.28%, 4.09% and 7.54%, respectively, of the Portfolio's collateralized mortgage obligations and mortgage backed securities. In addition, a significant portion of the Agency Debentures and the Agency DUSs are hedged so that in all but one case, the fixed interest rates received on the bonds are converted into prevailing floating rates. The aggregate market value of the securities in the Portfolio as of March 31, 2005, 2004 and 2003 was higher than the amortized cost by approximately 6.70%, 13.26%, and 11.48%, respectively, due to a net decrease in interest rates from the time of their original purchase. For the hedged securities, changes in the fair market value of both the securities and the derivatives used as hedging instruments (cross currency and interest rate swaps) are reported in current earnings in the Statements of Income, pursuant to application of SFAS 133 (Note 2). Unrealized gains and losses on the non-hedged securities are reported as a component of Other Comprehensive Income (Loss). Revenue For the 2005 Period, 2004 Period and 2003 Period, the Company had revenues of $5,780,454, $6,005,545 and $6,886,906, respectively. These amounts consisted of interest income on the investment securities, the unrealized gain/loss on hedged securities and derivatives used as hedging instruments, and interest on deposits. The Company believes the factor having the greatest impact on revenues is the interest rate environment. The decrease in revenues, is mainly due to the derivatives used as hedging instruments. The floating rate component of the swaps has generated less income due to decreasing interest rates in 2003 Period continuing through beginning of 2005 Period. The Company's net income for the 2005 Period, 2004 Period and 2003 Period was $5,731,742, $5,235,993 and $6,250,803, respectively. The Company has declared and paid dividends for the 2005 Period, 2004 Period and 2003 Period as follows: ------------------------------------------------------------------------------- Security Amount Date Paid ------------------------------------------------------------------------------- Series A Preferred $19,345,000 December 5, 2004 ------------------------------------------------------------------------------- Series A Preferred $19,345,000 June 5, 2004 ------------------------------------------------------------------------------- Series A Preferred $19,345,000 December 5, 2003 ------------------------------------------------------------------------------- Series A Preferred $19,345,000 June 5, 2003 ------------------------------------------------------------------------------- Series A Preferred $19,345,000 December 5, 2002 ------------------------------------------------------------------------------- Series A Preferred $19,345,000 June 5, 2002 ------------------------------------------------------------------------------- Interest Income and Yields For the 2005 Period, 2004 Period and 2003 Period, interest on the securities in the Portfolio amounted to $10,431,548, $12,326,457 and $11,970,537, respectively, representing an aggregate yield of 6.20%, 6.11 and 6.95%, respectively. Interest earned and average yield with respect to each category of security in the Portfolio was as follows (yield based on average amortized cost): 2005 2004 2003 --------------------- --------------------- --------------------- Floating-Rate REMICs...... $ 36,182 2.59% $ 33,914 1.31% $ 129,580 2.30% Fixed-Rate REMICs......... $ 509,342 6.59% $ 169,104 6.76% $ 606,983 6.57% Agency ARMs............... $ 79,563 3.74% $ 108,967 3.77% $ 239,752 4.48% Agency Hybrid ARMs........ $ 161,602 4.15% $ 197,979 3.91% $ 419,037 4.95% Agency DUS................ $ 5,007,226 6.12% $ 7,071,208 6.44% $ 5,868,197 6.28% Agency Debentures......... $ 4,637,633 5.87% $ 4,745,285 6.00% $ 4,706,988 5.95%

The yield on Agency Debentures is based on U.S. dollar denominated securities which excludes the Japanese Yen denominated securities. During the 2005 Period, the yields on the Agency DUSs, Agency Debentures and Fixed-Rate REMICs were approximately 2.47%, 1.94% and 2.53%, respectively, when taking into account the income and expense from the derivative products used to hedge these securities. During the 2004 Period, the yields on the Agency DUSs, Agency Debentures and Fixed-Rate REMICS were approximately 1.16%, 3.40% and 1.15%, respectively, when taking into account the income and expense from the derivative products used to hedge these securities. During the 2003 Period, the yields on the Agency DUSs, Agency Debentures and Fixed-Rate REMICS were approximately 1.40%, 3.33% and 5.12%, respectively, when taking into account the income and expense from the derivative products used to hedge these securities. The Company also recorded interest income from short-term investments for the 2005 Period, 2004 Period and 2003 Period of $833,580, $65,226 and $102,368, respectively. These amounts are attributable to the interest earned on (i) interest payments on securities in the Portfolio, (ii) prepayments of principal pending their reinvestment and (iii) short-term investments classified as cash equivalents. In the fourth quarter of 2004, the Company began reinvesting prepayments mainly into short-term Certificates of Deposits. Operating Expenses Operating expenses for the 2005 Period, 2004 Period and 2003 Period totaled $347,356, $316,604 and $332,402, respectively. Operating expenses consisted largely of fees paid to the Branch under the Services Agreement, fees to Citibank as Trustee, consulting fees and audit fees. The cost of Branch personnel servicing the Company is based on actual man-hours devoted to the activities of the Company and remains at arms length. Expenses incurred under the Services Agreement for the 2005 Period, 2004 Period and 2003 Period totaled $246,917, $203,876 and $241,941, respectively. Receivable Arising from Payment for Securities Due to the potential consequences of a Shift Event (as defined in Item 1 Note 2 herein), the Company's purchase of the Initial Portfolio (as defined in Item 1 herein) from the Branch did not meet certain SFAS 125, as replaced by SFAS 140, sale accounting requirements. Accordingly, the Company recorded at December 5, 1997 a receivable for the consideration paid to the Branch for the Initial Portfolio treated as collateral. As a legal and economic matter, however, there is no such receivable since (a) neither the Bank nor the Branch has any obligation to repay any part of the purchase price for the Initial Portfolio or to repurchase or redeem any of the securities included therein, and (b) the Company has no obligation to return any of such securities to the Bank or the Branch (except in the limited circumstances and to the extent that the occurrence of a Shift Event under the Charter would require the transfer of any assets held by the Company at the time). As the securities in the Initial Portfolio are paid, the receivable will be deemed to be realized by an amount corresponding to the amount of the payments received. At March 31, 2005, the receivable arising from payment for securities amounted to $19,581,388 respectively. The decrease in the amount of such receivable between the two dates reflects the prepayment of securities in the Initial Portfolio. The Company recognized the cash proceeds of such prepayments as a reduction in the receivable. Such decreases in the receivable did not affect the Company's results of operations or cash flow. Disclosures required under SFAS 125, as replaced by SFAS 140, are included in Note 3. Investment Income The interest income on the investment securities includes interest income on the remaining securities in the Initial Portfolio, which are considered to be collateral held by the Company and which are no longer recognized on the balance sheet pursuant to guidance in Statement of Financial Accounting Standards No. 140 ("SFAS 140"), "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, a replacement of SFAS 125", which modified SFAS 125 in this respect, as explained in Note 3 to the financial statements. The receivable for the consideration paid to the Branch for the Initial Portfolio is recognized on the balance sheet and is an asset of similar size as the remaining securities in the Initial Portfolio. The balance sheet presentation results from compliance with SFAS 140 but does not reflect the economic substance of the transaction, as further explained in the section on the application of SFAS 125, as replaced by SFAS 140, below. For all economic intent and purposes, the securities in the Initial Portfolio are owned by the Company and managed as any other investment security, with related revenues belonging to the Company and recorded as such in the income statements. Liquidity and Capital Resources The objective of liquidity management is to ensure the availability of sufficient cash flows to meet all of the Company's financial commitments. The Company's sole liquidity needs are to acquire reinvestment securities as original securities repay or prepay and to pay dividends on the Series A Preferred Securities. The acquisition of reinvestment securities is funded with the proceeds of principal repayments or prepayments on original securities, and the payments of dividends on the Series A Preferred Securities are funded through interest income from the securities in the Portfolio. The low interest rate environment has adversely affected the Company's income. The Company has not declared dividends on the Common Securities since June 2001 in order to retain earnings available for the payment of dividends to the holders of the Series A Preferred Securities. Dividends to the Preferred Securityholders may be paid out of (i) net income, determined without regard to capital gains or losses, or (ii) amounts contributed by the Bank or the Branch to the Company's capital. As of March 31, 2005, the Branch has contributed a total of $31,300,000 of additional paid-in capital, which was used to facilitate the semi-annual payments of dividends to the holders of the Series A Preferred Securities. The Company cannot make any assurances that a decrease in interest rates, only a modest increase in interest rates or the sustained low interest rate environment will not adversely effect the Company's future income. Based on 2005 projected earnings, the Company may require additional cash contributions from the Branch to facilitate payment of preferred dividends. BNP PARIBAS Group's total and Tier 1 risk-based capital ratios at March 31, 2005 were 10.0% and 7.4%, which are well above the minimum standards required by French banking regulations, currently 8% for total risk-based capital and 4% for Tier 1 risk-based capital. A "Shift Event" would occur if BNP PARIBAS' risk-based capital fell below these minimum standards of 8% and 4%, respectively. See Note 2 of the attached financial statements for a detailed explanation of "Shift Events". Accounting and Reporting Developments In May 2003, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 150 ("SFAS No. 150"), "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity". The statement requires that an issuer classify financial instruments that are within its scope as a liability. Many of those instruments were classified as equity under previous guidance. SFAS No. 150 is effective for all financial instruments entered into or modified after May 31, 2003. Otherwise, it is effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 did not have an impact on the Company's Balance Sheet or Statement of Income. In April 2003, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS No. 149"), "Amendment of Statement 133 on Derivative Instruments and Hedging Activities" ("SFAS 149"). SFAS 149 amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under SFAS No. 133, and decisions made in connection with other FASB projects dealing with financial instruments and in connection with implementation issues raised in relation to the application of the definition of a derivative and characteristics of a derivative that contains financing components. In addition, it clarifies when a derivative contains a financing component that warrants special reporting in the statement of cash flows. SFAS 149 is effective for contracts entered into or modified after June 30, 2003 and for hedging relationships designated after June 30, 2003. SFAS 149 did not have a material impact on our Balance Sheet or Statement of Income. SFAS 133 requires that an entity measure all derivatives at fair value and recognize those derivatives as either assets or liabilities on the balance sheet. The change in the derivative's fair value is generally to be recognized in current period earnings. However, if certain conditions are met, a derivative may be specifically designated as a hedge of an exposure to changes in fair value, variability of cash flows, or certain foreign currency exposures. Item 3: Quantitative and Qualitative Disclosures About Market Risk Interest Rate Sensitivity The Company's principal market risk exposure is to changes in interest rates. This exposure arises from its investments in collateralized mortgage obligations, mortgage-backed securities, agency debentures, agency DUSs and certain derivative instruments used by the Company to modify interest rate exposure. The outstanding principal amount and estimated fair value as of March 31, 2005, by each category of investment, is depicted in Item 1. Interest Rate Risk The Company's income consists primarily of interest payments on collateralized mortgage obligations, mortgage-backed securities, agency debentures and agency DUSs. Currently, the Company uses derivative products to manage a portion of its interest rate risk. For the three months ended March 31, 2005, the interest rate environment remained at a historically low level. This situation continues to affect the Company's income through the floating rate component of the portfolio (floating-rate securities and fixed-rate securities converted to floating-rate instruments through interest rate swaps based upon LIBOR). This situation will likely prevail as long as LIBOR rates remain near or below the March 31, 2005 rate. The Company regularly reviews its hedging requirements. In the future, the Company may enter into additional swaps and unwind part or all of the initial and any future swaps. This strategy is implemented in order to rebalance the fixed and floating mix of interest obligations (including those arising as a result of previous interest rate swaps entered into) and the fixed and floating mix of interest payments. The Company's interest rate management strategy will continue to be rebalanced with any purchases of new investments. There can be no assurance, however, that the Company's interest rate risk management strategies will be effective in this regard. The Company is a party to thirty interest rate swaps and six cross currency swaps with BNP PARIBAS, as set out in the table below. In all but one of these swaps, the Company pays a fixed coupon and receives floating rate payments on the notional balances. The notional amount of each swap is tied to the outstanding principal of the securities they hedge. The maturity dates of the swaps reflect the maturity of these securities. However, the maturity date maybe earlier due to prepayments on some of these securities. Fair Value at March 31, 2005 Notional Balance Value Date Maturity Date Fixed Rate Receive Rate (in 000's) (in 000's) ----------------- ----------------- ------------ ---------------------- ------------------ ---------------- November 25, 1998 March 26, 2008 JPY 1.75 U.S. Three Month LIBOR $ (6,628) $ 42,000 Plus Six Basis Points November 25, 1998 October 9, 2007 JPY 2.125 U.S. Three Month LIBOR (10,373) 58,000 Plus Six Basis Points November 25, 1998 August 25, 2008 U.S. 6.15 U.S. One Month LIBOR (959) 18,273 Plus Five Basis Points February 11, 1999 March 14, 2007 U.S. 6.80 U.S. Three Month LIBOR (2,469) 50,000 Minus Two Basis Points February 12, 1999 March 5, 2007 U.S. 6.68 U.S. Three Month LIBOR (2,551) 50,000 Minus Two Basis Points February 25, 1999 February 25, 2009 U.S. 5.95 U.S. One Month LIBOR (1,015) 19,894 Plus Three Basis Points March 29, 1999 October 9, 2007 JPY 2.125 U.S. Three Month LIBOR (4,389) 30,000 Minus Two and Half Basis Points April 6, 1999 October 9, 2007 JPY 2.125 U.S. Three Month LIBOR (4,740) 26,400 Minus One Basis Point June 25, 1999 June 25, 2009 U.S. 6.06 U.S. One Month LIBOR (1,446) 25,112 Plus Three and Half Basis Points July 1, 1999 June 25, 2009 U.S. 6.39 U.S. One Month LIBOR (1,061) 15,140 Plus Three and Half Basis Points September 27, 1999 March 25, 2008 U.S. 6.29 U.S. One Month LIBOR (2,161) 41,270 Plus Five Basis Points September 27, 1999 March 25, 2009 U.S. 5.858 U.S. One Month LIBOR (1,304) 27,076 Plus Four Basis Points November 26, 1999 April 25, 2009 U.S. 6.04 U.S. One Month LIBOR (819) 14,858 Plus Four Basis Points June 26, 2000 October 1, 2007 U.S. 6.68 U.S. One Month LIBOR (451) 7,965 Plus One and Half Basis Points June 26, 2000 October 1, 2008 U.S. 6.26 U.S. One Month LIBOR (525) 8,938 August 1, 2000 December 25, 2007 U.S. 6.42 U.S. One Month LIBOR (385) 7,000 October 2, 2000 June 1, 2007 U.S. 7.024 U.S. One Month LIBOR (352) 5,920 Minus Two Basis Points October 2, 2000 July 1, 2007 U.S. 7.405 U.S. One Month LIBOR (521) 7,395 Minus Two Basis Points November 2, 2000 October 9, 2007 JPY 2.125 U.S. Three Month LIBOR (912) 15,000 Minus Two Basis Points March 25, 2001 October 25, 2007 U.S. 6.94 U.S. One Month LIBOR (397) 6,203 Plus Two Basis Points May 1, 2002 October 25, 2007 U.S. 6.63 U.S. One Month LIBOR (501) 8,913 Plus One Basis Point May 3, 2002 August 25, 2007 U.S. 6.74 U.S. One Month LIBOR (570) 10,000 Plus One Basis Point August 25, 2002 August 25, 2007 U.S. 4.90 U.S. One Month LIBOR (389) 26,500 Plus Five Basis Points September 25, 2002 June 25, 2007 U.S. 7.007 U.S. One Month LIBOR (588) 10,239 Plus Seven Basis Points March 21, 2003 February 25, 2009 U.S. 5.945 U.S. One Month LIBOR (761) 15,661 Plus Nine Basis Points May 8, 2003 July 25, 2006 U.S. 7.239 U.S. One Month LIBOR (442) 10,716 Plus Seven Basis Points August 1, 2003 April 25, 2008 U.S. 6.568 U.S. One Month LIBOR (792) 12,950 Plus Ten Basis Points August 1, 2003 October 25, 2007 U.S. 6.812 U.S. One Month LIBOR (1,103) 18,641 Plus Ten Basis Points October 9, 2003 October 25, 2007 U.S. 6.96 U.S. One Month LIBOR (1,031) 16,010 Plus Five Basis Points April 1, 2004 August 25, 2007 U.S. 6.74 U.S. One Month LIBOR (1,173) 20,915 ------- ------ Plus Five Basis Points Total Swaps- Fair Value Hedges $ (50,808) $ 626,989 ---------- ---------- January 17, 2001 March 26, 2008 JPY 1.750 U.S. 5.80 (1,444) 18,000 ---------- ---------- Other Swap $ (1,444) $ 18,000 ---------- ---------- Total Swap Portfolio (Other liabilities) $ (52,252) $ 644,989 ========== ==========

The main feature of the mortgage securities is their sensitivity to the prepayment of mortgage loans, creating a contraction risk when interest rates decline and an extension risk when interest rates increase. The estimate of the prepayment rate is given either by the CPR (Conditional Prepayment Rate) or the PSA (Public Securities Association) prepayment model. Because of this risk, the securities are valued based on their average life rather than on their stated maturity date. The prepayment risk is evaluated and analyzed as this impacts the structure of the portfolio and the re-investment policy. The breakdown of the Company's securities by category and weighted average life distribution (stated in terms of amortized cost) is summarized below based on management's prepayment assumptions (see Note 4 under Item 1 for yield information) (actual maturities may differ from maturities shown below due to prepayments) (in thousands): March 31, 2005 -------------- Due Due Due Due Due Due Due In after after after after After After Non-Collateral 2005 2005 2006 2007 2008 2009 2010 Total -------------- --------- --------- --------- --------- --------- --------- --------- --------- Fixed-Rate Instruments: Fixed-Rate REMICs...................... $ --- $ --- $ 30,915 $ --- $ --- $ --- $ --- $ 30,915 Agency DUS.............................. --- 10,716 92,845 143,193 77,921 --- --- 324,675 Agency Debentures ...................... --- --- 373,817 131,705 --- --- --- 505,522 --------- --------- --------- --------- --------- --------- --------- --------- Total Fixed-Rate Instruments.............. --- 10,716 497,577 274,898 77,921 --- --- 861,112 --------- --------- --------- --------- --------- --------- --------- --------- Floating-Rate Instruments: Floating-Rate REMICs.................... --- --- 493 --- --- --- --- 493 Agency ARMs............................. --- 95 620 --- 1,562 --- 753 3,030 Agency Hybrid ARMs...................... 86 182 459 2,607 1,064 --- 1,676 6,074 --------- --------- --------- --------- --------- --------- --------- --------- Total Floating-Rate Instruments........... 86 277 1,572 2,607 2,626 ---- 2,429 9,597 --------- --------- --------- --------- --------- --------- --------- --------- Total Non-Collateral $ 86 $ 10,993 $ 499,149 $ 277,505 $ 80,547 $ --- $ 2,429 $ 870,709 --------- --------- --------- --------- --------- --------- --------- --------- Collateral Fixed-Rate Instruments: Fixed-Rate REMICs....................... $ --- $ --- $ --- $ --- $ --- $ --- $ --- $ --- Agency DUS.............................. --- --- --- --- --- --- --- --- Agency Debentures ...................... --- --- --- --- --- --- --- --- --------- --------- --------- --------- --------- --------- --------- --------- Total Fixed-Rate Instruments.............. --- --- --- --- --- --- --- --- --------- --------- --------- --------- --------- --------- --------- --------- Floating-Rate Instruments: Floating-Rate REMICs.................... 606 233 2,742 1,312 --- --- --- 4,893 Agency ARMs............................. --- --- --- 1,270 --- --- 4,135 5,405 Agency Hybrid ARMs...................... --- --- --- --- 2,070 2,846 4,368 9,284 --------- --------- --------- --------- --------- --------- --------- --------- Total Floating-Rate Instruments........... 606 233 2,742 2,582 2,070 2,846 8,503 19,582 --------- --------- --------- --------- --------- --------- --------- --------- Total Collateral.......................... $ 606 $ 233 $ 2,742 $ 2,582 $ 2,070 $ 2,846 $ 8,503 $ 19,582 --------- --------- --------- --------- --------- --------- --------- --------- March 31, 2005 Total Portfolio $ 692 $ 11,226 $ 501,891 $ 280,087 $ 82,617 $ 2,846 $ 10,932 $ 890,291 ========= ========= ========= ========= ========= ========= ========= =========

Item 4: Controls and Procedures Evaluation of Disclosure Controls and Procedures As of March 31, 2005, the Company carried out an evaluation under the supervision and with the participation of the Company's management, including the President and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives. Based upon and as of the date of the Company's evaluation, the President and Chief Financial Officer concluded that the disclosure controls and procedures are effective in all material respects to provide reasonable assurance that information required to be disclosed in the reports the Company files and submits under the Exchange Act is recorded, processed, summarized and reported as and when required. There have been no significant changes in the Company's internal control over financial reporting that occurred during the first fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting. Part II Item 1: Legal Proceedings None. Item 2: Unregistered Sales of Equity Securities and Use of Proceeds None. Item 3: Defaults upon Senior Securities None. Item 4: Submission of Matters to a Vote of Securityholders None. Item 5: Other Information None Item 6: Exhibits EXHIBITS A) Exhibits: 11) Computation of Per Share Earnings (omitted in accordance with section (b)(11) of Item 601 of Regulation S-K) 12) Computation of ratio of earnings to fixed charges and preferred security dividends 31.1) Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2) Certification of President pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32) Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 Signature Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereto duly authorized. BNP U.S. FUNDING L.L.C. Registrant Date: May 16, 2005 By /s/ Oliver Meisel ------------------------- Olivier Meisel President and Director Date: May 16, 2005 By /s/ Thomas Clyne ------------------------- Thomas Clyne Chief Financial Officer and Director

BNP US FUNDING LLC 10-Q