UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark one)
[x] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
For the fiscal year ended February 10, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File No. 1-12655
HomeSide, Inc.
(Exact name of registrant as specified in its charter)
Delaware 59-3387041
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
7301 Baymeadows Way, Jacksonville, FL 32256
(Address of principal executive offices) (Zip Code)
(904) 281-3000
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
Common Stock, $.01 Par Value New York Stock Exchange
- ---------------------------- -----------------------
Securities registered pursuant to Section 12(g) of the Act: None
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 12 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 90 days. Yes _x_ No __
As of May 1, 1998, there was 1 share of HomeSide, Inc. common stock, $.01 par
value, outstanding and no shares of Class C common stock, $1.00 par value,
outstanding.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (Section 229.405 of this chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K.
DOCUMENTS INCORPORATED BY REFERENCE
(i) Portions of the HomeSide, Inc. 1998 Annual Report to Stockholders
are incorporated by reference into Parts II and IV of this Annual Report on Form
10-K. With the exception of those portions which are specifically incorporated
by reference in this Annual Report on Form 10-K, the HomeSide, Inc. 1998 Annual
Report to Stockholders is not to be deemed filed as part of this Report.
(ii) Current Report on Form 8-K dated February 25, 1998, April 3, 1998,
April 15, 1998 and May 8, 1998.
PART I
ITEM 1. BUSINESS
General
HomeSide, Inc. (the "Company" or "HomeSide"), through its indirect,
wholly-owned subsidiary Homeside Lending, Inc., is one of the largest
full-service residential mortgage banking companies in the United States.
HomeSide's strategy emphasizes variable cost mortgage origination and low cost
servicing. HomeSide's mortgage loan production volume, excluding bulk purchases,
was $20.5 billion for the period from March 1, 1997 to February 10, 1998 and
$20.9 billion for the period from March 16, 1996 to February 28, 1997. Its
servicing portfolio was $100.0 billion on February 10, 1998 and $90.2 billion on
February 28, 1997. HomeSide ranks as the 5th largest originator and 6th largest
servicer in the United States for calendar year 1997 based on data published by
Inside Mortgage Finance. Effective April 30, 1998, HomeSide amended its charter
to change its name to HomeSide International, Inc.
The residential mortgage market totaled over $3.9 trillion in 1996 and
is the second largest debt market in the world, exceeded only by the United
States Treasury market. The residential mortgage market has grown at a compound
annual rate of approximately 8% since 1985. HomeSide competes in a mortgage
banking market which is highly fragmented with no single company controlling or
dominating the market. In 1997, the largest originator represented 6.5% of the
market and the largest servicer represented 5.0%, while the top 30 originators
and servicers represented 48.0% and 48.7% of their markets, respectively, based
on data published by Inside Mortgage Finance. Residential mortgage lenders
compete primarily on the basis of loan pricing and service, making effective
cost management essential. The industry has experienced rapid consolidation
which has been accelerated by the introduction of significant technology
improvements and the economies of scale present in mortgage servicing. The top
10 mortgage loan servicers have increased their aggregate market share from
16.6% in 1990 to 30.2% in 1997.
HomeSide's business strategy is to increase the volume of its loan
originations and the size of its servicing portfolio while continuing to improve
operating efficiencies. In originating mortgages, HomeSide focuses on variable
cost channels of production, including correspondent, broker, consumer direct,
affinity, and co-issue sources. HomeSide also pursues strategic relationships
with other production sources to acquire and service residential mortgage loans.
Management believes that these variable cost channels of production deliver
consistent origination opportunities for HomeSide without the fixed cost
investment associated with traditional retail mortgage branch networks. HomeSide
believes that its ongoing investment in technology will further enhance and
expand existing processing capabilities and improve its efficiency. Based on
independent surveys of direct cost per loan and loans serviced per employee,
management believes that HomeSide has been one of the industry's most efficient
mortgage servicers. The Company's average cost per employee approximates the
average cost per employee of its major competitors.
HomeSide plans to build its core operations through (i) improved
economies of scale in servicing costs; (ii) increased productivity using
proprietary technology; and (iii) expanded and diversified variable cost
origination channels. In addition, HomeSide intends to pursue additional loan
portfolio acquisitions and strategic origination relationships similar to its
existing agreement with BankBoston, N.A. ("BKB").
HomeSide's business activities consist primarily of:
Mortgage production: origination and purchase of residential single
family mortgage loans through multiple channels including correspondents,
strategic partners (BKB and Barnett), mortgage brokers, co-issue partners,
direct consumer telemarketing and affinity programs;
Servicing: administration, collection and remittance of monthly
mortgage principal and interest payments, collection and payment of
property taxes and insurance premiums and management of certain loan
default activities;
Secondary marketing: sale of residential single family mortgage loans
as pools underlying mortgage-backed securities guaranteed or issued by
governmental or quasi-governmental agencies or as whole loans or private
securities to investors; and
Risk management: management of a program designed primarily to protect
the economic performance of the servicing portfolio that could otherwise be
adversely affected by loan prepayments due to declines in interest rates.
Production
HomeSide, Inc. participates in several origination channels, with a
focus on wholesale origination. Since the acquisition of BancBoston Mortgage
Company ("BBMC"), wholesale channels (correspondent, co-issue, and broker) have
represented more than 95% of HomeSide's total production. Excluding the volumes
purchased from BKB and Barnett Bank, N.A. ("Barnett"), no single source within
the correspondent or broker channels accounted for more than 3% of total
production during the period from March 1, 1997 to February 10, 1998 and 2% of
total production during the period from March 16, 1996 to February 28, 1997.
HomeSide's other origination channels include telemarketing, direct mail
campaigns and other advertising, and mortgages related to affinity group and
co-branding partnerships. HomeSide also purchases servicing rights in bulk from
time to time. This multi-channel production base provides access to and
flexibility among production channels in a wide variety of market and economic
conditions. The following table sets forth production detail by HomeSide's
origination channels (in millions):
Residential Loan Production by Channel
For the Period From For the Period From
March 1, 1997 to March 16, 1996 to
February 10, 1998 February 28, 1997
----------------- -----------------
Correspondent $ 13,304 $ 11,113
Co-issue 5,584 8,222
Broker 1,305 843
--------------------------------------
Total wholesale 20,193 20,178
Direct 337 700
--------------------------------------
Total production 20,530 20,878
Bulk acquisitions 3,446 4,073
======================================
Total production and acquisitions $ 23,976 $ 24,951
======================================
HomeSide competes nationwide by offering a wide variety of mortgage
products designed to respond to consumer needs and tailored to address market
competition. HomeSide is primarily an originator of fixed rate 15- and 30-year
mortgage loans, which collectively represented 76% of the total production in
the period from March 1, 1997 to February 10, 1998 and 73% of the total
production in the period from March 16, 1996 to February 28, 1997. HomeSide also
offers other products, such as ARMs, balloon and jumbo mortgages.
HomeSide's national loan production operation has resulted in
geographically diverse originations, enabling HomeSide to diversify its risk
across many markets in the United States. HomeSide's servicing portfolio
composition reflects its production markets. The largest segments of the
servicing portfolio by state on February 10, 1998 were Florida (17.2% of unpaid
principal balance of production), California (15.3%), Massachusetts (7.0%),
Texas (6.3%), and Maryland (4.6%). The largest segments of the servicing
portfolio by state on February 28, 1997 were Florida (18.7% of unpaid principal
balance of production), California (15.4%), Massachusetts (8.4%), Texas (6.1%),
and Maryland (4.6%).
The mortgage banking industry is generally subject to seasonal trends.
These trends reflect the general national pattern of sales and resales of homes.
Sales and resales of homes typically peak during the spring and summer seasons
and decline to lower levels from mid-November through February. Refinancings
tend to be less seasonal and more closely related to changes in interest rates.
Historically, changes in the interest rate environment have mitigated the impact
of seasonality on HomeSide's results of operations. In addition, delinquency
rates typically rise in the winter months, which result in higher servicing
costs. However, late charge income has historically been sufficient to offset
such incremental expenses.
HomeSide's production strategy is to maintain and improve its
reputation as one of the largest, most cost effective originators of mortgage
loans nationwide. HomeSide pursues this strategy through an emphasis on
wholesale and centralized direct production, the use of contract and delegated
underwriters, a high degree of automation in its processing and direct
originations and quality control. HomeSide plans to expand production through
its low cost wholesale and direct channels and to continue to streamline its
production operation. HomeSide plans to continue to pursue bulk acquisitions in
the secondary market for mortgage servicing rights on an opportunistic basis.
Wholesale Production
Correspondent Production
Through its correspondent program, HomeSide purchases loans from
approximately 500 commercial banks, savings and loan associations, licensed
mortgage lenders and other financial intermediaries. The correspondent takes the
mortgage application and processes the loan, which is either underwritten
through contract underwriters or, in some cases, the correspondent to whom
underwriting authority has been delegated. Closing documents are submitted to
HomeSide for legal review and funding. The participants in this program are
prequalified and monitored on an ongoing basis by HomeSide. If a correspondent
subsequently fails to meet HomeSide's requirements, HomeSide typically
terminates the relationship. Correspondents are also required to repurchase
loans in the event of fraud or misrepresentation in the origination process and
for certain other reasons.
Co-Issue Production
Co-issue production, which represents the purchase of servicing rights
from a correspondent under contracts to deliver specified volumes on a monthly
or quarterly basis, is another main source of HomeSide's production. The
co-issue correspondent controls the entire loan process from application to
closing. This arrangement particularly suits large originators who have the
ability to deliver on an automated basis. Reflecting this delegated underwriting
authority, the co-issue correspondent is obligated to make certain
representations and warranties and is required to repurchase loans in the event
of fraud or misrepresentation in the origination process or for certain other
reasons.
Broker Production
Under its broker program, HomeSide funds loans at closing from a
network of approximately 450 mortgage brokers nationwide. The broker controls
the process of application and loan processing. A pre-closing quality control
review is performed by HomeSide to verify the borrower's credit. All loans
originated through brokers are underwritten by HomeSide's approved contract
underwriters. Loans are funded by HomeSide and may be closed in either the
broker's name or HomeSide's name. Participants in this program prequalify on the
basis of creditworthiness, mortgage lending experience and reputation. Each
broker is subject to annual and ongoing reviews by HomeSide.
Direct Production
HomeSide's direct production includes the use of telemarketing to solicit
loans from several sources, including refinancing of mortgage loans in
HomeSide's existing servicing portfolio, leads generated from direct mail
campaigns and other advertising, and mortgages related to affinity group and
co-branding partnerships. HomeSide believes that these efforts will have a
significant effect on increasing the percentage of loans captured by the direct
division from loan prepayments in HomeSide's servicing portfolio. Refinancing
retention represents the percentage of loans refinanced through HomeSide's
direct channel that were serviced by HomeSide prior to refinancing.
Bulk Acquisition
Bulk acquisition is the large scale purchase of mortgage servicing rights.
In connection with such acquisitions, HomeSide does not purchase the underlying
mortgage loans which were originated by other originators. HomeSide may purchase
servicing rights on an exclusive basis or through a competitive bidding process
and plans to continue this practice on an opportunistic basis in order to grow
its servicing portfolio and benefit from economies of scale.
Underwriting and Quality Control
Underwriting
HomeSide's loans are underwritten in accordance with applicable Fannie
Mae, FHLMC, VA, and FHA guidelines, as well as certain private investor
requirements. The underwriting process is organized by origination channel and
by loan type. HomeSide currently employs underwriters with an average of ten
years of underwriting experience.
HomeSide requires approximately 80% of its correspondent lenders to
have their loans underwritten by third party contract underwriters prior to
purchase. These contract underwriters are designated by HomeSide and include
General Electric Capital Corp., Mortgage Guaranty Insurance Corp., and Private
Mortgage Insurance Corp. HomeSide grants delegated underwriting status to the
remaining approximately 20% of correspondents which enables the correspondents
to submit conventional loans to HomeSide without prior underwriting approval.
Generally, HomeSide grants delegated underwriting status to its larger
correspondents who meet financial strength, delinquency, underwriting and
quality control standards, and such correspondents are monitored regularly. The
FHA and VA require that loans be underwritten by the originating lender on an
Agency-approved or delegated basis. If issuance of FHA guarantees or VA
insurance certificates is denied, the correspondent must repurchase the loan.
HomeSide's underwriting process for its retail production operation is
fully automated. The automated underwriting technology incorporates credit
scoring and appraisal evaluation systems. These systems employ rules-based and
statistical technologies to evaluate the borrower, the property and salability
of the loan to the secondary market. HomeSide believes that these technologies
have contributed to improved productivity and reduced underwriting and
processing turnaround time.
Quality Control
HomeSide maintains a compliance and quality assurance department that
operates independently of the production, underwriting, secondary marketing and
loan administration department. For its production compliance process, HomeSide
randomly selects a statistical sample of all closed loans monthly for review.
The sample generally comprises 3.5% - 4% of all loans closed each month. This
review includes a credit scoring and reunderwriting of such loans, ordering
second appraisals on 10% of the sample, reverifying funds, employment and final
applications and reordering credit reports on all loans selected. In addition, a
full underwriting review is conducted on (i) all jumbo loans that go into
default during the first thirty-six months from the date of origination and (ii)
all other loans that go into default during the first six months from the date
of origination. Document and file reviews are also undertaken to ensure
regulatory compliance. In addition, random reviews of the servicing portfolio,
covering selected aspects of the loan administration process, are conducted.
HomeSide monitors the performance of the underwriting department through
quality assurance reports, HUD/VA reports and audits, reviews and audits by
regulatory agencies, investor reports and mortgage insurance company audits.
According to HomeSide's quality control findings, less that 1% of its loans have
underwriting issues that affect salability to the secondary market. Flaws in
these loans are generally corrected; otherwise, the holder of the
mortgage-backed security is indemnified against future losses resulting from
such flaws by HomeSide or, ultimately, the originating correspondent.
Correspondents or co-issue partners are required to repurchase any flawed loans
originated by them.
Secondary Marketing
HomeSide customarily sells all loans that it originates or purchases while
retaining the servicing rights to such loans. HomeSide aggregates mortgage loans
into pools and sells these pools, as well as individual mortgage loans, to
investors principally at prices established under forward sales commitments.
HomeSide's FHA and VA loans are generally pooled and sold in the form of
GinnieMae ("GNMA") Mortgage Backed Securities. Conforming conventional mortgage
loans are generally pooled and exchanged under the purchase and guarantee
programs sponsored by Fannie Mae and FHLMC for Fannie Mae Mortgage Backed
Securities or FHLMC participation certificates, respectively. HomeSide pays
certain guarantee fees to the Agencies in connection with these programs and
then sells the GNMA, Fannie Mae and FHLMC securities to securities dealers. A
limited number of mortgage loans (i.e. non-conforming loans) are sold to private
investors. For the period from March 1, 1997 to February 10, 1998, approximately
92% of the mortgage loans originated by HomeSide were sold to GNMA (47%), Fannie
Mae (31%), and FHLMC (14%). For the period from March 16, 1996 to February 28,
1997, approximately 78% of the mortgage loans originated by HomeSide were sold
to GNMA (38%), Fannie Mae (27%), and FHLMC (13%). The remaining were sold to
private investors.
The sale of mortgage loans may generate a gain or loss to HomeSide. Gains
or losses result primarily from two factors. First, HomeSide may purchase a loan
at a price that may be higher or lower than HomeSide would receive if it
immediately sold the loan in the secondary market. These pricing differences
occur principally as a result of competitive pricing conditions in the primary
loan origination market. Second, gains or losses may result from fluctuations in
interest rates that create changes in the market value of the loans or
commitments to purchase loans, from the time the interest rate commitment is
given to the mortgagor until the loan is sold to an investor.
HomeSide assesses the interest rate risk associated with outstanding
commitments that it has extended to fund loans and hedges the interest rate risk
of these commitments based upon a number of factors, including the remaining
term of the commitment, the interest rate at which the commitment was provided,
current interest rates and interest rate volatility. HomeSide constantly
monitors these factors and adjusts its hedging on a daily basis as needed.
HomeSide uses the Quantitative Risk Management system, a sophisticated hedging,
reporting and evaluation system, which has the ability to perform analyses under
various interest rate scenarios. HomeSide's interest rate risk is currently
hedged using a combination of forward sales of mortgage backed securities and
over-the-counter options, including both puts and calls, on fixed income
securities. HomeSide generally commits to sell to investors for delivery at a
future time for a stated price all of its closed loans and a percentage of the
mortgage loan commitments for which the interest rate has been established.
HomeSide aims to price loans competitively, hedge the interest rate risk of loan
originations and sell loans on a break-even basis. For the period from March 1,
1997 to February 10, 1998 and the period from March 16, 1996 to February 28,
1997, HomeSide has not experienced secondary marketing losses on an aggregate
basis.
HomeSide's policy is to sell mortgage loans on a non-recourse basis.
However, in the case of VA loans used to form GNMA pools, the VA's loan
guarantees do not cover the entire principal balance of the loan and HomeSide is
responsible for losses which exceed the VA's guaranteed limitations. In
connection with HomeSide's loan exchanges and sales, HomeSide makes
representations and warranties customary in the industry relating to, among
other things, compliance with laws, regulations and program standards, and to
the accuracy of information. In the event of a breach of these representations
and warranties, HomeSide typically corrects such problems, but, if the problems
cannot be corrected, may be required to repurchase such loans. In cases where
loans are originated by a correspondent, HomeSide may sell the flawed loan back
to the correspondent under a repurchase obligation.
Loan Servicing
HomeSide derives its revenues predominantly from its servicing operations.
HomeSide anticipates that the sale of servicing rights will not be a significant
component of its business strategy in the future. Since its formation, HomeSide
has also maintained a risk management program designed to protect, within
certain parameters, the economic value of its servicing portfolio, which is
subject to prepayment risk when interest rates decline, providing mortgagors
with refinancing opportunities.
Loan servicing includes collecting payments of principal and interest from
borrowers, remitting aggregate loan payments to investors, accounting for
principal and interest payments, holding escrow funds for payment of mortgage
related expenses such as taxes and insurance, making advances to cover
delinquent payments, inspecting the mortgaged premises as required, contacting
delinquent mortgagors, supervising foreclosures and property dispositions in the
event of unremedied defaults, and other miscellaneous duties related to loan
administration. HomeSide collects servicing fees from monthly mortgage payments.
These fees generally range from 0.25% to 0.50% of the declining principal
balances of the loans per annum. HomeSide's weighted average servicing fee
including ancillary income was 0.439% for the period from March 1, 1997 to
February 10, 1998 and 0.431% for the period from March 16, 1996 to February 28,
1997. HomeSide also maintains certain subservicing relationships whereby
servicing is performed by another servicer under an agreement with HomeSide,
which remains contractually responsible for servicing the loans. Subservicing
relationships are often entered into as part of a bulk servicing acquisition
where the selling institution continues to perform servicing until the loans are
transferred to the purchasing institution.
HomeSide's servicing strategy is to continue to build its mortgage
servicing portfolio and benefit from the economies of scale inherent in the
business. HomeSide services substantially all of the mortgage loans that it
originates. In addition, HomeSide purchases the rights to service mortgage loans
originated by other lenders.
As part of the BMC Acquisition, HomeSide acquired a full-service mortgage
company in Hawaii, Honolulu Mortgage Co. Honolulu Mortgage's servicing portfolio
totaled $1.9 billion at November 30, 1996 and its loan production was $257.4
million from its acquisition on May 31, 1996 to February 28, 1997. In February
1997, Honolulu Mortgage Co. sold substantially all its assets to an unaffiliated
third party. The sale did not materially affect HomeSide's financial results.
HomeSide's servicing strategy is also to enhance the profitability of its
servicing activities through low cost and efficient processes. This strategy is
pursued through highly automated, cost effective processing systems, strategic
outsourcing of selected servicing functions and effective control of
delinquencies and foreclosures. HomeSide outsources to third party vendors
functions relating to insurance, taxes and default management, contributing to
HomeSide's ability to maintain a highly variable cost structure. Using a variety
of factors, including loans serviced per employee and direct cost per loan,
management believes that HomeSide is one of the nation's most efficient
servicers based on industry surveys. Management believes that its low cost
servicing provides it with a competitive advantage in the industry.
Servicing Portfolio Composition
HomeSide originates and purchases servicing rights for mortgage loans
nationwide. The broad geographic distribution of HomeSide's servicing portfolio
reflects the national scope of HomeSide's originations and bulk servicing
acquisitions. The nine largest states accounted for 64.5% of the outstanding
unpaid principal balance of HomeSide's total servicing portfolio on February 10,
1998, while the largest volume by state is Florida with a 17.2% share of the
total portfolio on February 10, 1998. The nine largest states accounted for
66.9% of the outstanding unpaid principal balance of HomeSide's total servicing
portfolio on February 28, 1997, while the largest volume by state is Florida
with a 18.7% share of the total portfolio on February 28, 1997. HomeSide
actively monitors the geographic distribution of its servicing portfolio to
maintain a mix that it deems appropriate and makes adjustments as it considers
necessary.
The following table sets forth the geographic distribution of the
Company's servicing portfolio as of February 10, 1998 and February 28, 1997:
<PAGE>
Servicing Portfolio by State (a)
At February 10, 1998 At February 28, 1997
-------------------------------------------------------
(dollars in millions) UPB % of UPB UPB % of UPB
-------------------------------------------------------
Florida $ 16,664 17.2% $ 16,559 18.7%
California 14,858 15.3 13,686 15.4
Massachusetts 6,792 7.0 7,383 8.4
Texas 6,096 6.3 5,434 6.1
Maryland 4,424 4.6 4,079 4.6
Georgia 3,720 3.8 3,427 3.9
Virginia 3,377 3.5 3,218 3.6
Illinois 3,729 3.8 2,913 3.3
New York 2,939 3.0 2,517 2.9
Other (b) 34,327 35.5 29,244 33.1
======================================================
Total $ 96,926 100.0% $ 88,460 100.0%
======================================================
- -------------
(a) Servicing statistics are based on loans serviced by HomeSide and exclude
loans purchased not yet on servicing system. (b) No other state represents more
than 2.9% of HomeSide's servicing portfolio. At February 10, 1998,
HomeSide's servicing portfolio consisted of $74.9 billion of FHA/VA
servicing and $25.0 billion of conventional servicing. At February 28, 1997,
HomeSide's servicing portfolio consisted of $29.4 billion of FHA/VA servicing
and $59.0 billion of conventional servicing.
The weighted average interest rate of the loans in the Company's servicing
portfolio at February 10, 1998 was 7.89% and at February 28, 1997 was 7.92%.
HomeSide's servicing portfolio of loans was stratified by interest rate as
follows:
<TABLE>
<CAPTION>
Servicing Portfolio by Interest Rate
At February 10, 1998 At February 28, 1997
-----------------------------------------------------------------------------
Interest Rate Cumulative Cumulative
- ------------- UPB (a) % of UPB % of UPB UPB (a) % of UPB % of UPB
------- -------- --------- ------- -------- --------
(dollars in (dollars in
millions) millions)
<S> <C> <C> <C> <C> <C> <C>
Less than 6.0% $ 922 0.9% 0.9% $ 983 1.1% 1.1%
6.0% to 6.9% 10,851 11.2 12.1 9,633 10.9 12.0
7.0% to 7.9% 44,895 43.2 55.3 37,542 42.4 54.4
8.0% to 8.9% 34,077 35.2 90.5 29,293 33.1 87.5
9.0% to 9.9% 6,331 6.5 97.0 7,274 8.2 95.7
10.0% to 10.9% 2,227 2.3 99.7 2,912 3.3 99.0
Over 11.0% 624 0.7 100.0 823 1.0 100.0
------------ ---------- ------------ ----------
Total $ 96,926 100.0% $ 88,460 100.0%
============ ========== ============ ==========
- --------------
(a) Servicing statistics are based on loans serviced by HomeSide and exclude
loans purchased but not yet on the servicing system.
</TABLE>
Loan Servicing Credit Issues
HomeSide is affected by loan delinquencies and defaults on loans that it
services. Under certain types of servicing contracts, particularly contracts to
service loans that have been pooled or securitized, HomeSide must forward all or
part of the scheduled payments to the owner of the loan, even when loan payments
are delinquent. Also, to protect their liens on mortgaged properties, owners of
loans usually require a servicer to advance scheduled mortgage and hazard
insurance and tax payments even if sufficient escrow funds are not available.
HomeSide is generally reimbursed, subject to certain limitations with respect to
FHA/VA loans as described below, by the mortgage owner or from liquidation
proceeds for payments advanced that the servicer is unable to recover from the
mortgagor, although the timing of such reimbursements is typically uncertain. In
the interim, HomeSide absorbs the cost of funds advanced during the time the
advance is outstanding. Further, HomeSide bears the increased costs of
collection activities on delinquent and defaulted loans. HomeSide also foregoes
servicing income from the time such loans become delinquent until foreclosure,
when, if any proceeds are available, HomeSide may recover such amounts.
Delinquency rates typically rise in the winter months, which result in higher
servicing costs. However, late charge income has historically been sufficient to
offset such incremental expenses.
HomeSide periodically incurs losses attributable to servicing FHA and VA
loans for investors, including actual losses for final disposition of loans that
have been foreclosed or assigned to the FHA or VA and accrued interest on such
FHA or VA loans for which payment has not been received. For HomeSide, servicing
losses on investor-owned loans and related foreclosure expenses totaled $22.0
million for the period March 1, 1997 to February 10, 1998, and $17.9 million for
the period from March 16, 1996 to February 28, 1997, primarily representing
losses on VA loans. The VA guarantees the initial losses on a loan. The
guaranteed amount generally ranges from 20% to 35% of the original principal
balance. Before each foreclosure sale, the VA determines whether to bid by
comparing the estimated net sale proceeds to the outstanding principal balance
and the servicer's accumulated reimbursable costs and fees. If this amount is a
loss and exceeds the guaranteed amount, the VA typically issues a no-bid and
pays the servicer the guaranteed amount. Whenever a no-bid is issued, the
servicer absorbs the loss, if any, in excess of the sum of the guaranteed
principal and amounts recovered at the foreclosure sale. HomeSide's historical
delinquency and foreclosure rate experience on VA loans has generally been
consistent with that of the industry.
Management believes that it has an adequate level of reserve based on
HomeSide's servicing volume, portfolio composition, credit quality and
historical loss rates, as well as estimated future losses.
The following table sets forth HomeSide's delinquency and foreclosure
experience:
Servicing Portfolio Delinquencies
(Percent by Loan Count)
At February 10, At February 28,
1998 1997
--------------- ----------------
Delinquent Mortgage Loans (at end of period)
30 Days 3.52% 3.27%
60 Days 0.78 0.69
90 Days 0.72 0.54
Total Delinquencies 5.02% 4.50%
Foreclosure Pending (at end of period) 0.74% 0.72%
Servicing Portfolio Hedging Program
The value of HomeSide's servicing portfolio is subject to volatility in
the event of unanticipated changes in prepayments. As interest rates increase,
prepayments by mortgagors decrease as fewer owners refinance, increasing
expected future cash flows from servicing revenue. Conversely, as interest rates
decrease, prepayments by mortgagors increase as homeowners seek to refinance
their mortgages, reducing expected future cash flows from servicing revenues on
those prepaid mortgages. Since the value of servicing rights is based on the net
present value of future cash flows, the value of the portfolio decreases in a
declining interest rate environment and increases in a rising rate environment.
HomeSide's risk management policy is designed to minimize exposure to loss
in the value of the servicing portfolio caused by prepayments due to declines in
interest rates. The servicing portfolio is valued using market discount rates
and market consensus prepayment speeds, among other variables. The value is then
analyzed under various interest rate scenarios that help HomeSide estimate its
exposure to loss. This potential loss exposure determines the hedge profile,
which is monitored daily and may be adjusted to reflect significant moves in key
variables such as interest rate and yield curve changes and revised prepayment
speed assumptions. Results of the risk management program depend on a variety of
factors, including the hedge instruments typically issued by HomeSide, the
relationship between mortgage rates and Treasury securities and certain other
factors. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations - HomeSide - for the period from March 1, 1997 to February
10, 1998 and the period from March 16, 1996 to February 28, 1997- Results of
Operations - Risk Management Activities".
The FASB has been evaluating the accounting for derivative financial
instruments and hedging activities. The FASB has issued an exposure draft and
numerous comments have been received. It is unclear what changes will ultimately
be made to such exposure draft. Under current practice, derivative financial
instruments may be accounted for as hedges with changes in the value deferred as
a component of the asset or liability being hedged, provided the instruments are
designated as a hedge and reduce exposure to loss with a high correlation.
Management of HomeSide is unable to predict what effect, if any, changes in
accounting principles would have on HomeSide's financial statements or
HomeSide's use of hedge accounting.
Servicing Integration
HomeSide intends to convert the entire servicing platform to its
proprietary software. This proprietary servicing technology accommodates all
areas of loan servicing, including loan setup and maintenance, cashiering,
escrow administration, investor accounting, customer service and default
management. The platform is mainframe based, with on-line, real-time
architecture and is supported by an experienced staff of over 30 technology
providers.
HomeSide expects to achieve significant competitive advantages over time
by converting to the proprietary servicing software, which is expected to cost
less to operate and is configured to accommodate growth more efficiently than
HomeSide's current outsourced system. Once the conversion has been completed,
this architecture is expected to support HomeSide's portfolio growth up to
approximately twice the number of loans serviced on a single system. The system
is also expected to permit continued development of workflow and other
client-server applications, contributing to increased productivity.
At February 10, 1998 and February 28, 1997, approximately 512,732 and
406,221 loans, respectively, were serviced on the proprietary system at
HomeSide's San Antonio facility. The remainder of the loans serviced at the
Jacksonville facility is expected to be transferred by the end of calendar year
1998.
Regulation
HomeSide's mortgage banking business is subject to the rules and
regulations of HUD, FHA, VA, Fannie Mae, FHLMC, GNMA and other regulatory
agencies with respect to originating, processing, underwriting, selling,
securitizing and servicing mortgage loans. In addition, there are other federal
and state statutes and regulations affecting such activities. These rules and
regulations, among other things, impose licensing obligations on HomeSide,
prohibit discrimination and establish underwriting guidelines which include
provisions for inspections and appraisals, require credit reports on prospective
borrowers and set maximum loan amounts. Moreover, lenders such as HomeSide are
required annually to submit audited financial statements to Fannie Mae, FHLMC,
GNMA and HUD and to comply with each regulatory entity's own financial
requirements. HomeSide's business is also subject to examination by Fannie Mae,
FHLMC and GNMA and state regulatory agencies at all times to assure compliance
with applicable regulations, policies and procedures.
Mortgage origination activities are subject to the provisions of various
federal and state statutes including, among others, the Equal Credit Opportunity
Act, the Federal Truth-in Lending Act, RESPA, the Fair Housing Act, and the
regulations promulgated thereunder, which among other provisions, prohibit
discrimination, prohibit unfair and deceptive trade practices and require the
disclosure of certain basic information to mortgagors concerning credit terms
and settlement costs, limit fees and charges paid by borrowers and lenders, and
otherwise regulate terms and conditions of credit and the procedures by which
credit is offered and administered. Many of the aforementioned regulatory
requirements are designed to protect the interests of consumers, while others
protect the owners or insurers of mortgage loans. Failure to comply with these
requirements can lead to loss of approved status, termination of servicing
contracts without compensation to the servicers, demands for indemnification or
loan repurchases, class action lawsuits and administrative enforcement actions.
Such regulatory requirements are subject to change from time to time and may in
the future become more restrictive, thereby making compliance more difficult or
expensive or otherwise restricting HomeSide's ability to conduct its business as
it is now conducted.
During the period that BKB or Barnett, or any of their subsidiaries, held
a material ownership interest in HomeSide, HomeSide and its subsidiaries (i)
were under the jurisdiction, supervision, and examining authority of the OCC,
and (ii) could only engage in activities that were part of, or incidental to,
the business of banking. The OCC has specifically ruled that mortgage banking is
a proper incident to the business of banking.
There are various other state and local laws and regulations affecting
HomeSide's operations. HomeSide is licensed in those states that require
licensing to originate, purchase and/or service mortgage loans. Conventional
mortgage operations may also be subject to state usury statutes. FHA and VA
loans are exempt from the effect of such statutes.
Competition
Mortgage bankers operate in a highly competitive and fragmented market. In
1997 the largest originator of loans represented 6.5% of the market and the
largest servicer represented 5.0%, while the top 30 originators and servicers
represented 48% and 49% of their markets, respectively, based on data published
by Inside Mortgage Finance.
<PAGE>
TOP 10 ORIGINATORS AND SERVICERS
(dollars in billions)
1997 Originations Servicing Portfolio at December 31, 1997
1 Norwest Mortgage, IA $55.3 1 Norwest Mortgage, IA $205.8
2 Countrywide Home Loans, CA 43.1 2 Countrywide Home Loans, CA 171.4
3 Chase Manhattan Mortgage 3 Chase Manhattan Mortgage
Holdings, FL 40.1 Holdings, FL 169.3
4 Washington Mutual, WA 23.4 4 NationsBanc & Affiliates, TX 122.3
5 HomeSide Lending, FL 21.8 5 Fleet Mortgage Group, SC 121.0
6 Dime/North American
Mortgage, CA 16.1 6 HomeSide Lending, FL 99.2
7 BankAmerica, CA 16.0 7 GE Capital Mortgage Svcs., NC 99.0
8 Fleet Mortgage Group, SC 15.6 8 Washington Mutual, WA 97.7
9 ABN AMRO Mtg., IL
(Standard Federal) 15.2 9 BankAmerica, CA 89.7
10 NationsBanc & Affiliates, TX 15.1 10 Mellon Mortgage, TX 66.6
- -----------------
Source: Inside Mortgage Finance.
HomeSide competes with other mortgage bankers, financial institutions,
and other providers of financial services. The underwriting guidelines and
servicing requirements set by the participants in the secondary markets are
standardized. As a result, mortgage banking products (i.e., mortgage loans and
the servicing of those loans) have become difficult to differentiate. Therefore,
mortgage bankers compete primarily on the basis of price or service, making
effective cost management essential.
Mortgage bankers generally seek to develop cost efficiencies in one of two
ways: economies of scale or specialization. Large full-service national or
regional mortgage bankers have sought economies of scale through an emphasis on
wholesale originations, the introduction of automated processing systems and
expansion through acquisition. Smaller companies frequently identify and pursue
a particular expertise or customer base in an attempt to create a market niche.
The industry has experienced rapid consolidation which has been
accelerated by the introduction of significant technology improvements and the
economies of scale present in mortgage servicing. The automation of many
functions in mortgage banking, especially those related to servicing, has
reduced costs significantly for industry participants. Many mortgage bankers
that were not low cost, high volume producers or did not operate in a low cost
specialized field experienced earnings declines in the nineties, causing many to
exit the business or to be acquired. Surviving cost effective firms purchased
servicing portfolios or other companies to expand their servicing economies of
scale, while others acquired market niche operations. As evidence of this
consolidation, the top 25 mortgage loan servicers have increased their aggregate
market share from 16.6% in 1990 to 30.9% in 1997.
Employees
As of February 10, 1998 and February 28, 1997, respectively, HomeSide had
approximately 1,891 and 1,689 total employees, substantially all of whom were
full-time employees. HomeSide has no unionized employees and considers its
relationship with its employees generally to be satisfactory.
<PAGE>
ITEM 2. PROPERTIES
HomeSide's corporate, administrative, and servicing headquarters are
located in Jacksonville, Florida, in facilities, which comprise approximately
145,000 square feet of owned space and approximately 202,000 square feet of
leased space. The servicing center lease expires on August 31, 1999 unless
HomeSide exercises its options to renew, which could extend the lease for an
additional six years. HomeSide also leases approximately 53,000 square feet of
warehouse space in Jacksonville, Florida for storing certain loan files, loan
servicing documents and other corporate records. In addition HomeSide owns an
additional 190,000 square feet of space in San Antonio, Texas. HomeSide believes
that its present facilities are adequate for its operations.
ITEM 3. LEGAL PROCEEDINGS
HomeSide is a defendant in a number of legal proceedings arising in the
normal course of business. HomeSide, in management's estimation, has recorded
adequate reserves in the financial statements for pending litigation.
Management, after reviewing all actions and proceedings pending against or
involving HomeSide, considers that the aggregate liability or loss, if any,
resulting from the final outcome of these proceedings will not have a material
effect on the financial position of HomeSide.
In recent years, the mortgage banking industry has been subject to class
action lawsuits which allege violations of federal and state laws and
regulations, including the propriety of collecting and paying various fees and
charges. Class action lawsuits may be filed in the future against the mortgage
banking industry.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year ended February 10, 1998, except that in December
1997, the stockholders adopted an Agreement and Plan of Merger (the "Merger
Agreement") pursuant to which a newly formed wholly-owned subsidiary of National
Australia Bank Limited ("NAB") was merged with and into the Company. Pursuant to
the Merger Agreement, the Company became an indirect, wholly-owned subsidiary of
NAB.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
The information set forth under the caption, "Market for the Registrant's
Common Equity and Related Stockholder Matters" which appears on page 53 of the
Company's 1998 Annual Report to Stockholders is incorporated herein by
reference.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The information set forth under the caption, "Selected Consolidated
Financial Data" which appears on page 9 of the Company's 1998 Annual Report to
Stockholders is incorporated herein by reference.
ITEM 7. MANAGEMENT'S' DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The information set forth under the caption, "Management's Discussion and
Analysis of Financial Condition and Results of Operations" which appears on
pages 10 through 21 of the Company's 1998 Annual Report to Stockholders is
incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements, together with the reports
therein of Arthur Andersen LLP and Coopers and Lybrand LLP appearing on pages 22
through 52 of the Company's 1998 Annual Report to Stockholders are incorporated
herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
Effective April 1, 1998, HomeSide, Inc. dismissed its prior certifying
accountants, Arthur Andersen, L.L.P. and retained as its new certifying
accountants, KPMG Peat Marwick, L.L.P. Arthur Andersen's report on HomeSide's
financial statements during the two most recent fiscal years and all subsequent
interim periods preceding the date hereof contained no adverse opinion or a
disclaimer of opinions, and was not qualified as to uncertainty, audit scope or
accounting principles. The decision to change accountants was approved by
HomeSide's Board of Directors.
During the last two fiscal years and the subsequent interim period to
the date hereof, there were no disagreements between HomeSide and Arthur
Andersen on any matters of accounting principles or practices, financial
statement disclosure, or auditing scope or procedure, which disagreements, if
not resolved to the satisfaction of Arthur Andersen would have caused it to make
a reference to the subject matter of the disagreements in connection with its
reports.
None of the "reportable events" described in Item 304(a)(1) of
Regulation S-K occurred with respect to HomeSide within the last two fiscal
years and the subsequent interim period to the date hereof.
Effective April 1, 1998, HomeSide engaged KPMG Peat Marwick, L.L.P. as
its principal accountants. During the last two fiscal years and the subsequent
interim period to the date hereof, HomeSide did not consult KPMG Peat Marwick
regarding any of the matters or events set forth in Item 304(a)(2) of Regulation
S-K.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
<TABLE>
<CAPTION>
DIRECTORS
None of the following directors are related to any other director or to any
executive officer of the Company.
Position with the Company Year First
or Principal Occupation Elected a
Name of Nominee During the Past Five Years Age Director
- --------------- -------------------------- --- ----------
<S> <C> <C> <C>
Joe K. Pickett Chairman of the Board, Chief Executive Officer and a 51 1996
Director of the Company since March 14, 1996. Chairman of
the Board and Chief Executive Officer of the Company's
wholly-owned subsidiary HomeSide Lending, Inc.
("HomeSideLending") since April 1990. Director of Fannie
Mae and Baptist Medical Center, Jacksonville, Florida.
- -----------------------------
Hugh R. Harris President, Chief Operating Officer and a Director of the 45 1996
Company since March 14, 1996. President and Chief
Operating Officer of HomeSide Lending since January 1993.
Previously, Vice-Chairman of HomeSide Lending. Director of
Republic Mortgage Insurance Company.
- -----------------------------
Thomas M. Hagerty Managing Director, Thomas H. Lee Company, where he has been 34 1995
employed since 1988. President of the Company from its
organization on December 11, 1995, to March 14, 1996.
Treasurer of the Company from March 14,1 996 to October
1996. Vice President and Trustee of THL Equity Trust III,
the General Partner of THL Equity Advisors III Limited
Partnership, which is the General Partner of Thomas H. Lee
Equity Fund III, L.P. Director of Select Beverages, Inc.
- -----------------------------
David V. Harkins Senior Managing Director, Thomas H. Lee Company, where he 55 1995
has been employed since 1986. Senior Vice President and
Trustee of Thomas H. Lee Advisors I and T. H. Lee Mezzanine
II, affiliates of ML-Lee Acquisition Fund L.P. and the
ML-Lee Acquisition Funds, respectively. President and
Trustee of THL Equity Trust III, the General Partner of THL
Equity Advisors III Limited Partnership, which is the
General Partner of Thomas H. Lee Equity Fund III, L.P.
Chairman and Director of National Dentex Corporation,
Director of Stanley Furniture Company, Inc. and First
Alert, Inc.
- -----------------------------
Justin S. Huscher Vice President of Madison Dearborn Partners, Inc. since 43 1995
January 1993. From April 1990 until January 1993, Senior
Investment Manager of First Chicago Venture Capital.
Member of operating committees of the General Partners of
Huntway Partners L.P. and Golden Oak Mining Company, L.P.,
respectively, and Director of Bay State Paper Holding
Company.
- -----------------------------
Peter J. Manning Executive Vice President, Mergers and Acquisitions of 57 1995
BankBoston, N.A. and BankBoston Corporation since 1993.
From 1990 to 1993, Executive Vice President, Chief
Financial Officer and Treasurer of BankBoston Corporation
and Chief Financial Officer of BankBoston, N.A.
- -----------------------------
Kathleen M. McGillycuddy Group Executive Director, Global Treasury of BankBoston, 47 1996
N.A., where she has been employed since 1992.
Previously Executive Vice President, Corporate
Liquidity and Funds Management at Fleet/Norstar
Bank.
- -----------------------------
Hinton F. Nobles, Jr. Since 1989, Executive Vice President and member of the 51 1996
Management Executive Committee of Barnett Banks, Inc.
("BBI") where he has been employed since 1974.
- -----------------------------
Douglas K. Freeman Chief Consumer Credit Executive and member of the 46 1996
Management Operating Committee of BBI. From 1991 to 1995,
Chief Corporate Banking Executive of BBI. Chair of the
Governor's Capital Partnership Board of Florida and
Director of The Small Business Foundation of America, Inc.
- -----------------------------
Charles W. Newman Chief Financial Officer and member of the Management 47 1996
Executive Committee of BBI since 1992. Previously, Vice
President and Deputy Controller, Senior Vice President and
Controller and Executive Vice President of BBI.
- -----------------------------
Thomas J. Hollister Director of the Company since October 2, 1997. Mr. 43 1997
Hollister joined BankBoston in 1979 and has served in
various management positions since that time. He currently
serves as the Executive Vice President of Consumer and
Small Business Banking.
</TABLE>
<PAGE>
<TABLE>
MANAGEMENT
The following table sets forth the name, age and position with the Company of
each person who is an executive officer or director of the Company.
<CAPTION>
Name Age Position
<S> <C> <C>
Joe K. Pickett................. 52 Chairman of the Board and Chief Executive Officer, Director
Hugh R. Harris................. 46 President and Chief Operating Officer; Director
Kevin D. Race.................. 37 Vice President and Chief Financial Officer
Robert J. Jacobs............... 45 Vice President, Secretary and General Counsel
Betty L. Francis............... 51 Chief Credit Officer and Vice President
Mark F. Johnson................ 43 Vice President - Production
William Glasgow, Jr............ 48 Vice President - Servicing
Daniel T. Scheuble............. 39 Vice President - Technology
Thomas H. Fisher............... 65 Vice President and Assistant Secretary
W. Blake Wilson................ 32 Vice President, Director of Capital Markets
Charles D. Gilmer.............. 50 Senior Vice President and Treasurer of HomeSide Lending
Ann R. Mackey.................. 40 Senior Vice President and Finance Director of HomeSide Lending
Debra F. Watkins............... 40 Senior Vice President, Cash Management, of HomeSide Lending
</TABLE>
Joe K. Pickett has served as Chairman of the Board and Chief Executive Officer
of HomeSide Lending since April 1990 and as Chairman of the Board, Chief
Executive Officer and a Director of HomeSide since March 14, 1996. From October
1994 through October 1995, Mr. Pickett served concurrently as President of the
Mortgage Bankers Association of America. Mr. Pickett also serves as a Director
of Fannie Mae and of Baptist Medical Center, Jacksonville, Florida.
Hugh R. Harris has served as President and Chief Operating Officer of HomeSide
Lending since January 1993 and as President, Chief Operating Officer and a
Director of HomeSide since March 14, 1996. From January 1988 to January 1993,
Mr. Harris served as Vice Chairman of HLI in charge of production and secondary
marketing. Mr. Harris currently serves as a Director of Republic Mortgage
Insurance Company (RMIC).
Kevin D. Race has served as Executive Vice President and Chief Financial Officer
of HomeSide Lending and Vice President, Chief Financial Officer and Treasurer of
HomeSide since October 1996. From 1993 to 1996, Mr. Race served as Executive
Vice President, Chief Financial Officer and Treasurer of Fleet Mortgage Group.
In 1996, Mr. Race was named president of Fleet Mortgage Group. In 1989, Mr. Race
served in the mortgage capital markets and non-conforming products areas of
Fleet Mortgage Group. From 1985 to 1989, Mr. Race served as Vice President and
National Product Manager for Mortgage Backed Securities for Citicorp. From 1982
to 1985, Mr. Race served in the secondary marketing area of North American
Mortgage Company.
Robert J. Jacobs has served as Executive Vice President and Secretary of
HomeSide Lending since February 2, 1996. Mr. Jacobs has served as a Director of
HLI since March 14, 1996. Mr. Jacobs has also served as Secretary of HomeSide
since March 14, 1996 and as Vice president of HomeSide since April 10, 1996.
From 1987 to 1996, Mr. Jacobs served as a Senior Vice President and Chief Legal
Officer of Chase Manhattan Mortgage Corporation, and served as General Counsel
for Citicorp Savings of Florida from 1984 to 1986. Mr. Jacobs currently serves
as President and Legislative Chairman of the Mortgage Bankers Association of
Florida.
Betty L. Francis has served as Chief Credit Officer and as Executive Vice
President of HomeSide Lending since October 1996 and as Vice President of
HomeSide since April 10, 1996. Ms. Francis served from March 1994 to October
1996 as Chief Financial Officer of HLI. Ms. Francis served from April 1993 to
March 1994 as the Senior Finance Officer of the Personal Banking Group, and from
April 1990 to April 1993 as the Comptroller of Bank of Boston and BKBC. Ms.
Francis is a Trustee of Commonwealth Energy Services, a gas and electric utility
in Massachusetts.
Mark F. Johnson has served as Executive Vice President of Production of HomeSide
Lending since April 1, 1992. From 1988 to 1992, Mr. Johnson served as Senior
Vice President and Director of Wholesale Lending for HLI. Mr. Johnson also has
served as Vice President of HomeSide since April 10, 1996.
William Glasgow, Jr. has served as Executive Vice President of HomeSide Lending
since July 1991. From October 1989 to July 1991, Mr. Glasgow served as Senior
Vice President with Citicorp Mortgage Inc. in St. Louis, Missouri. Mr.Glasgow
has also served as Vice President of HomeSide since April 10, 1996.
Daniel T. Scheuble has served as Executive Vice President for Technology, Loan
Processing and Consumer Direct Lending of HomeSide Lending since 1993. From 1990
to 1992, Mr. Scheuble served as a Senior Technology and Operational Manager at
Bank of Boston. Mr. Scheuble has also served as Vice President of HomeSide since
April 10, 1996.
Thomas H. Fish has served as Executive Vice President of HomeSide Lending since
1988. Mr. Fish has served as Assistant Secretary of HLI since March 14, 1996.
Mr. Fish served as Secretary and General Counsel of HLI from 1988 to March 14,
1996.
W. Blake Wilson has served as Executive Vice President and Director of Capital
Markets of HomeSide Lending since September 1997. He previously served as Senior
vice President and Director of Capital Markets of HomeSide Lending from June
1996. Before joining HLI, Mr. Wilson served in Capital Markets for Prudential
Home Mortgage ("PHM") from 1992 through June 1996. Prior to joining PHM, he
worked in KPMG Peat Marwick's National Mortgage and Structured Finance Group in
Washington, D.C.
Charles D. Gilmer has served as Senior Vice President and Treasurer of HomeSide
Lending since October 1993. Mr. Gilmer previously served as the Director of
Liability Management for Citicorp from November 1989 to October 1993.
Ann R. Mackey has served as Senior Vice President and Finance Director of
HomeSide Lending since July 1993. From September 1992 to July 1993, Ms. Mackey
served as a manager in International Risk Management for Bank of Boston. Ms.
Mackey previously served as Senior Audit Manager at KPMG Peat Marwick from 1985
to 1992.
Debra F. Watkins has served as Senior Vice President, Cash Management and
Marketing Operations of HomeSide Lending since October 1993. From July 1987 to
October 1993, Ms. Watkins served in various management positions in Secondary
Marketing and Production Operations at HomeSide Lending. Ms. Watkins currently
serves as Chairperson of the GNMA Liaison Committee of Mortgage Association of
America.
<PAGE>
COMPLIANCE WITH SECTION 16 (a) OF THE
SECURITIES EXCHANGE ACT OF 1934
Section 16 (a) of the Securities Exchange Act of 1934 (the "Act")
requires the Company's Directors and executive officers and persons who own more
than 10% of the Company's Common Stock to file with the Securities and Exchange
Commission and the New York Stock Exchange reports concerning their ownership of
the Company's Common Stock and changes in such ownership. Copies of such reports
are required to be furnished to the Company. To the Company's knowledge, based
solely on a review of copies of such reports furnished to the Company during or
with respect to the Company's most recent fiscal year, all Section 16 (a) filing
requirements applicable to persons who were, during the most recent fiscal year,
officers or directors of the Company or greater than 10% beneficial owners of
its Common Stock were complied with.
ITEM 11. EXECUTIVE COMPENSATION
EXECUTIVE COMPENSATION
Executive Compensation
The following table sets forth all compensation awarded to, earned by
or paid to the Company's Chief Executive Officer and the Company's five most
highly compensated executive officers other than the Chief Executive Officer
whose total annual salary and bonus exceeded $100,000 for all services rendered
in all capacities to the Company and its subsidiaries for the periods from March
1, 1997 to February 10, 1998, and from March 16, 1996 to February 28, 1997.
<PAGE>
<TABLE>
Summary Compensation Table
<CAPTION>
Long-Term
Compensation
Awards
Annual --------------
Compensation Securities
Name and Principal Fiscal --------------------- Underlying All Other
HomeSide Position Year Salary Bonus Options Compensation
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Joe K. Pickett ....................... 1998 $ 372,000 $ 500,000 45,000 $ 23,954
Chairman & CEO 1997 312,000 362,000 242,862(a) 16,135(b)
Hugh R. Harris....................... 1998 360,000 470,000 45,000 14,411
President and Chief 1997 300,000 350,000 242,862(a) 7,842(b)
Operating Officer
Kevin D. Race ......................... 1998 250,000 300,000 45,000 9,333
Executive Vice President 1997 250,000 100,000 97,155(a) 413,145(b)(d)
and Chief Financial (c)
Officer
Mark F. Johnson ...................... 1998 230,000 200,000 30,000 10,623
Executive Vice President 1997 200,000 150,000 97,155(a) 6,714(b)
Secondary Marketing and
Production
William Glasgow, Jr. ............... 1998 230,000 200,000 30,000 14,299
Executive Vice President 1997 200,000 150,000 97,155(a) 6,52 (b)
</TABLE>
- ---------------------
(a) Reflects a 17 for 1 stock split of the Company's Common Stock effected
immediately prior to the Company's January 1997 initial public offering.
(b) Includes amounts received for (1) matching contributions under the
Company's savings plan of $6,000 with respect to each of Messrs. Pickett,
Harris, Johnson, Glasgow; and (2) the dollar value of life insurance
premiums paid by the Company with respect to: Mr. Pickett $10,135; Mr.
Harris $1,842; Mr. Race $74; Mr. Johnson $714; Mr. Glasgow $522.
(c) The salary of Mr. Race is per annum. Mr. Race has been employed by the
Company since October 1996.
(d) Includes a bonus of $375,000 received by Mr. Race as an inducement to join
the Company and $38,071 in relocation expenses.
Option Grants for the Period from March 1, 1997 to February 10, 1998
The following table provides information on option grants with respect
to common Stock of the Company for the period from March 1, 1997 to February 10,
1998 to the named executive officers. Pursuant to applicable regulations of the
Securities and Exchange commission (the "Commission"), the following table also
sets forth the hypothetical value which might have been realized with respect to
such options based on assumed rates of stock appreciation of 5% and 10%
compounded annually from date of grant to the end of the option terms:
<PAGE>
<TABLE>
Individual Grants
------------------------------------------------------------------
<CAPTION>
Number of
Securities % of Total Potential Realizable
Value at
Underlying Options Assumed Annual Rates of Stock
Options Granted to Exercise Price Appreciation for Option
Granted Employees Price Expiration Term (a)
---------------------
Name (#) in 1997 ($/Sh) Date 5% 10%
- --------------------- ------------ ------------- --------------- ------------------ -------- --------
<S> <C> <C> <C> <C> <C> <C>
Joe K. Pickett....... 15,000(b) 10.84% $20.500 07/10/07 193,385 490,076
30,000(c) 10.84% $20.500 01/10/07 362,919 907,645
Hugh R. Harris....... 15,000(b) 10.84% $20.500 05/31/07 193,385 490,076
30,000(c) 10.84% $20.500 11/20/06 362,919 907,645
Kevin D. Race........ 15,000(b) 10.84% $20.500 10/08/07 193,385 490,076
30,000(c) 10.84% $20.500 04/08/07 362,919 907,645
Mark F. Johnson...... 10,000(b) 7.23% $20.500 05/31/06 128,923 326,717
20,000(c) 7.23% $20.500 11/30/05 241,946 605,096
William Glasgow, Jr.. 10,000(b) 7.23% $20.500 05/31/06 128,923 326,717
20,000(c) 7.23% $20.500 11/30/05 241,946 605,096
</TABLE>
- --------------
(a) These values are based on assumed rates of appreciation only. Actual
gains, if any, on shares acquired on option exercises are dependent on
the future performance of the Company's Common Stock.
(b) Non-qualified, timed-based options granted pursuant to the Company's
1996 Stock Option Plan. Options vest annually in arrears in five equal
installments of 20% per year.
(c) Non-qualified, performance-based options granted pursuant to the
Parent's 1996 Time Accelerated Restricted Stock Option Plan. These
options vest no later than nine years from the date of grant unless
accelerated based on the achievement of certain performance criteria.
Aggregated Option Exercises and Option Values
for the Period from March 1, 1997 to February 10, 1998
The following table provides information on option exercises during the
period from March 1, 1997 to February 10, 1998 with respect to the Common Stock
of the Company and on the values of the named executive officers' unexercised
options at February 10, 1998:
<TABLE>
<CAPTION>
Shares Number of Securities Value of Unexercised
Acquired Underlying Unexercised In-the-Money
on Value Options at Year-End (#) Options at Year-End
Name Exercise Realized Exercisable Unexercisable Exercisable Unexercisable (a)
- ---------------------- ----------- ---------- ------------- ------------------ ------------- ------------------
<S> <C> <C> <C> <C> <C> <C>
Joe K. Pickett........ 0 $0 48,573 239,289 $500,010 $2,922,511
Hugh R. Harris........ 0 0 48,573 239,289 500,010 2,922,511
Kevin D. Race......... 0 0 19,431 122,724 200,023 1,722,591
Mark F. Johnson....... 0 0 19,431 107,724 200,023 1,415,091
William Glasgow, Jr... 0 0 19,431 107,724 200,023 1,415,091
</TABLE>
- -----------
(a) Value of unexercised in-the-money stock options represents the
difference between the exercise prices of the stock options and the
closing price of the Parent's Common Stock on The New York Stock
Exchange on February 10, 1998
<PAGE>
Employment Contracts and Termination of Employment Arrangements
Certain of the Company's executive officers including each of the named
executive officers are party to employment agreements and/or non-competition
agreements with the Company. The Company is therefore contractually obligated to
continue to pay such salaries during the executive officer's term of employment
with the Company.
Pursuant to severance agreements with the Company, certain executive
officers, including each of the named executive officers, were entitled to
severance benefits if he were terminated, or constructively terminated through
diminution in job responsibilities or compensation following an acquisition (a
"Trigger Event"). If such named executive officer offers to remain in the employ
of the Company for one year following any Trigger Event, and is either
terminated during the first year or has his job responsibilities or compensation
diminished, he is entitled to a severance benefit. The severance benefit will be
a lump sum payment in cash equal in the case of each of Messrs. Pickett and
Harris to the sum of (i) twice his annual salary in effect at the time of
termination, (ii) twice his annual bonus received for the preceding year and
(iii) a pro rata portion of the bonus he would have received for the year in
which termination occurs (paid at the time the amount of such bonus would have
been determined). The severance benefit for the other named executive officers
will be equal to the sum of (i) such officer's annual salary in effect at the
time of termination, (ii) his annual bonus received for the year in which
termination occurs (paid at the time the amount of such bonus would have been
determined). The named executive officers will also receive continued coverage
under the Company's medical benefit plans for one year following such
termination, or two years following termination in the case of Messrs. Pickett
and Harris. Each of the Severance Agreements is for a term of one (1) year which
is automatically renewed on April 1 of each year for additional one-year periods
unless either the Company or the executive has given notice not later than
December 31st of the previous year to the other not to extend the term of the
Agreement. If a Trigger Event has occurred during the term of the Severance
Agreement, however, the Agreement continues for one (1) year following the
closing of the Trigger Event.
Since the 1998 fiscal year end and the NAB merger, all severance
agreements have been canceled.
Historical Executive Compensation
The following table sets forth all compensation awarded to, earned by
or paid to the Company's Chief Executive Officer and the Company's four most
highly compensated Executive Officers other than the Chief executive officer
whose total annual salary and bonus exceeded $100,000 for all services rendered
in all capacities to BancBoston Mortgage Corporation and its subsidiaries for
the fiscal year ended December 31, 1995. None of the Company's named executive
officers received any compensation from Barnett Mortgage Company during 1995.
<PAGE>
<TABLE>
Summary Compensation Table
<CAPTION>
Long-Term Compensation
------------------------------------------
Awards (b) Payouts
------------------ -----------
Annual Long-Term
Name and Principal Fiscal Compensation Restricted Securities Incentive
--------------------- Stock Underlying Plan
Position Year Salary(a) Bonus(a) Awards Options Payouts (c) Compensation (d)
- ----------------------- ------- ----------- ---------- -------------- ------------ ------------ --------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Joe K. Pickett......... 1995 $ 287,000 $ 200,000 $ 68,700 9,600 $ 215,156 $ 11,480
Chairman & CEO
Hugh R. Harris......... 1995 275,000 225,000 42,938 6,000 -- 11,000
President
Charles D. Gilmer...... 1995 170,769 155,000 -- -- -- --
Director, Risk
Management
Mark F. Johnson........ 1995 190,577 125,000 28,625 4,000 -- 7,623
Director,
Wholesale/Securities
Marketing
William Glasgow, Jr.... 1995 189,230 125,000 28,625 4,000 -- 7,569
Director, Loan
Administration
</TABLE>
- ------------
(a) The salary and bonus amounts presented were earned in 1995. The payment
of certain such amounts occurred in 1996. The amounts reflected in the
table do not include the following bonuses paid to the named executive
officers in 1996 in connection with the closing of the acquisition of
BancBoston Mortgage Corporation: Mr. Pickett, $50,000; Mr. Harris,
$225,000; Mr. Gilmer, $175,000; Mr. Johnson, $200,000; and Mr. Glasgow,
$200,000.
(b) Involves common stock of BKBC. As of December 31, 1995, the named
executive officers held the following number of restricted shares of
BKBC common stock having the corresponding year-end market values:
As of December 31, 1995
Total Number of Aggregate
Name Restricted Shares Held Market Value
---------------------- ------------
Joe K. Pickett........... 5,600 $ 259,900
Hugh R. Harris........... 4,135 191,244
Charles D. Gilmer........ -- --
Mark F. Johnson.......... 1,784 82,510
William Glasgow, Jr...... 1,700 78,625
In connection with the BancBoston Mortgage Corporation acquisition,
vesting on all of the restricted stock owned by its employees,
including the restricted stock listed above, was accelerated and all
prior forfeiture and transferability restrictions thereon were removed.
(c) Represents the dollar value of vested shares of performance restricted
stock calculated by multiplying the closing price of BKBC common stock
on each vesting date by the number of shares that vested on that date.
(d) Includes matching employer contributions and credits under the
BankBoston thrift-incentive plan and the BankBoston deferred
compensation plan for the named executive officers.
Retirement Benefits
The following table shows the years of service and the estimated annual
retirement benefits that are payable at age 65 from BKBC to each of the named
executive officers in the form of a single lifetime annuity with an assumed
future annual interest rate of 6.3% through 1996 and 5.5% thereafter on each
individual's cash balance account:
Prior Years of Service Estimated Annual
Name as of 12/31/95 Retirement Benefit
- ---------------------- ----------------------- ------------------
Joe K. Pickett........ 15 $ 73,883
Hugh R. Harris........ 12 50,676
Charles D. Gilmer..... 2 2,386
Mark F. Johnson....... 13 48,616
William Glasgow, Jr.. 4 6,836
The estimates shown above reflect BankBoston's cash balance formula as
of December 31, 1995 (under which credits are made annually to an individual's
account at a rate based on the individual's age and years of service), plus any
accrued benefits under the prior plan formula. These benefits are provided under
a combination of BankBoston's tax-qualified retirement plan and certain
supplemental plans.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT
The following table and the paragraphs that follow set for the information with
respect to the beneficial ownership of shares of the Company's voting securities
as of February 10, 1998 by (i) all shareholders of the Company who own more than
5% of any class of such voting securities; (ii) each director who is a
stockholder; (iii) certain executive officers; and (iv) all directors and
executive officers as a group, as determined in accordance with Section 13 (d)
of the Securities Exchange Act of 1934 and the rules thereunder.
<TABLE>
<CAPTION>
Amount and Nature of
Name of Beneficial Owner Title of Class Beneficial Ownership Percentage of Class
- ------------------------ -------------- -------------------- -------------------
<S> <C> <C> <C>
BankBoston, N.A. Common Stock 11,461,400 26.42%
100 Federal Street
Boston, MA
Siesta Holdings, Inc. Common Stock 11,461,400 26.42%
3800 Howard Hughes
Parkway, Suite 1560
Las Vegas, NV
THL (a) Common Stock 8,596,050 19.82%
75 State Street
Boston, MA
Madison Dearborn Capital Common Stock 2,865,350 6.60%
Partners, L.P.
Three First National Plaza
Chicago, IL
Joe K. Pickett Common Stock 126,797 (a) *
Hugh R. Harris Common Stock 121,435 (a) *
Kevin D. Race Common Stock 48,586 (b) *
William Glasgow, Jr. Common Stock 63,955 (b) *
Mark F. Johnson Common Stock 68,051 (b) *
Thomas M. Hagerty Common Stock 25,194 (c) *
David V. Harkins Common Stock 39,661 (d) *
All Directors and Executive
Officers as a Group
(18 persons) Common Stock 593,568 (e) 1.36%
</TABLE>
- ---------------
* Less than 1%
(a) Includes 48,573 shares currently exercisable under the Parent's stock
option plan.
(b) Includes 19,431 shares currently exercisable under the Parent's stock
option plan.
(c) Does not include 8,570,856 shares owned by THL, as to which Mr. Hagerty
disclaims beneficial ownership.
(d) Does not include 8,556,389 shares owned by THL, as to which Mr. Harkins
disclaims beneficial ownership.
(e) Does not include the shares held by THL, MDP, Bank of Boston and Siesta,
with which certain directors are affiliated; includes 202,073 shares
currently exercisable under the Parent's stock option plan.
The Company was formed on December 11, 1995, to acquire HomeSide
(formerly BancBoston Mortgage Corporation) the mortgage banking subsidiary of
BankBoston Corporation. That acquisition was completed on March 15, 1996. On May
31, 1996 the Company acquired HomeSide Holdings, Inc. (formerly Barnett Mortgage
Company), the mortgage banking subsidiary of Barnett Banks, Inc. ("Barnett").
In addition to those shares of capital stock set forth in the preceding
table, 97,138 shares of Class C Common Stock (non-voting) of the Company are
beneficially owned by Robert Morrissey, constituting 100% of the outstanding
Class C Common Stock. Within 180 days of the initial public offering of Common
Stock of the Company in January 1997, a holder of Class C Common Stock at a
price based upon the average bid prices of the Common Stock for the preceding 20
days. In addition, upon consummation of a merger or sale of substantially all of
the assets of the Company, a holder of Class C Common Stock may require the
Company to purchase any portion of its shares of Class C Common Stock at an
appraised fair market value price.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
COMPENSATION COMMITTEE INTERLOCKS AND
INSIDER PARTICIPATION
During the period from March 1, 1997 to February 10, 1998, the members of
the Compensation Committee were David V. Harkins, Thomas J. Hollister and
Douglas K. Freeman. Mr. Shea, who was an officer of BankBoston Corporation,
resigned from the Board of Directors of the Company in October 1997, and was
succeeded by Mr. Hollister, an Executive Vice President of BankBoston
Corporation. Each of the members of the Compensation Committee is an employee of
a Principal Shareholder of the Company.
Amended and Restated Shareholder Agreement
Each of the Principal Shareholders and certain other stockholders named
therein entered into an Amended and Restated Shareholder Agreement with the
Company dated May 31, 996 in connection with the acquisition of Barnett Mortgage
Company (the "Shareholder Agreement"). The Shareholder Agreement terminated upon
the consummation of the January 1997 public offering of Common Stock of the
Company, except for provisions pursuant to which the Company has agreed not to
enter into transactions with certain affiliated parties except on terms which
the Company could have received in comparable arms-length transactions.
Amended and Restated Registration Rights Agreement
Subject to certain limitations, pursuant to the Amended and Restated
Registration Rights Agreement among the Company and the Principal Shareholders
dated May 31, 1996, upon the request of (i) holders of shares of Common Stock
then held by THL, (ii) BankBoston, (iii) MDP, or (iv) Siesta (provided that no
request may be made for registration of securities with an expected aggregate
offering price to the public of less than $20,000,000), the Company will use its
best efforts to effect the registration of the Common Stock of the Company
requested by such stockholder to be registered and the Common Stock of all other
holders who have requested registration in connection therewith; provided that
the Company is not required to effect more than two registrations pursuant to
any request made by any of the foregoing parties. Under certain circumstances,
if the Company proposes to register shares of its Common Stock, it will, upon
the written request of any stockholder, register such requesting stockholder's
Common Stock, subject to pro rata reduction in the event all securities
requested to be included in the registrations statement cannot, in the opinion
of the managing underwriter, be so included.
Exclusive Marketing Agreements
HomeSide has entered into a Marketing Agreement dated March 15, 1996 (the
"BKBC Marketing Agreement") with BankBoston Corporation ("BKBC") pursuant to
which HomeSide and BKBC may market services to HomeSide customers who are also
BKBC customers ("BKBC Customers") and other customers of HomeSide. Under this
agreement: (a) HomeSide has the exclusive right, subject to certain limitations,
to market to all customers any mortgage loan refinancing, (b) HomeSide has the
non-exclusive right to market first mortgage loans (other than refinancing) to
BKBC Customers and the exclusive right market such loans to other HomeSide
customers, (c) HomeSide has the exclusive right to market "other" mortgage loans
to customers who are not BKBC Customers, (d) HomeSide has the non-exclusive
right, subject to certain limitations, to offer certain "Eligible Products"
(mortgage credit insurance, relocation services, title insurance, title search,
appraisal services, private mortgage insurance, escrow services, hazard
insurance services and certain other products) to BKBC Customers and the
exclusive right to offer Eligible Products to other customers, and (e), BKBC has
the exclusive right to offer certain banking services to BKBC Customers and the
non-exclusive right to offer such services to other customers.
Under the BKBC Marketing Agreement, BKBC may not engage in a formal program
to solicit HomeSide's customers for refinancing.
The terms of the BKBC Marketing Agreement is the later of: (a) eight years,
or (b) the third anniversary of the termination of the Operating Agreement
(which has a term of five years). See "--Other BKBC Agreements -- Operating
Agreement" below.
HomeSide has also entered into a marketing Agreement dated May 31, 1996
(the "Barnett Marketing Agreement") with Barnett which is substantially similar
to the BKBC Marketing Agreement, except that it governs rights with respect to
"Barnett Customers" as defined therein rather than with respect to BKBC
Customers.
HomeSide does not pay any fee or moneys (other than certain reimbursement
obligations) to BKBC or Barnett for its marketing and other rights under the
BKBC Marketing Agreement or Barnett Marketing Agreement.
Transitional Services Agreements
Bank Boston and its affiliate banks (the "BKB Banks") and HomeSide entered
into a series of Transitional Services Agreement dated March 15, 1996, pursuant
to which the BKB Banks agreed to make available to HomeSide, at the BKB Banks'
cost, certain corporate services, including travel and relocation, general
ledger support, audit, payroll, retirement plans, computer services,
disbursement accounting, purchasing, telecommunications/workstation support and
human resources. HomeSide also agreed to make available to the BKB Banks, at
HomeSide's cost, certain administrative services, including mortgage loan
origination support, mortgage loan quality control services, affordable housing
loan support and pledged loan support services. For the period from March 1,
1997 to February 10, 1998, HomeSide paid to BKB Banks approximately $5.2 million
under such Transitional Services Agreements. For the period from March 16, 1996
to February 28, 1997, HomeSide paid to BKB Banks approximately $2.5 million
under such Transitional Services Agreements.
Barnett and HomeSide entered into a Transitional Services Agreement dated
May 31, 1996, pursuant to which Barnett agreed to make available to HomeSide
office space and certain corporate services, including finance services,
accounting services, purchasing services, benefits and compensation
administration, human resources and staffing services and technology services.
HomeSide pays Barnett a monthly fee based on rates established under a fee
schedule for the different services provided to HomeSide. For the period from
March 1, 1997 to February 10, 1998, HomeSide paid to Barnett approximately $0.5
million under such Transitional Services Agreements. For the period from March
16, 1996 to February 28, 1997, HomeSide paid to Barnett approximately $0.9
million under such Transitional Services Agreements.
The terms of the services provided under the Transitional Services
Agreements vary. As a general matter, the services were to be provided to the
receiving party until the receiving party no longer requires the services, but
in no event later than December 31, 1996. The term was extended to June 30, 1997
with respect to some services.
Other BKBC Agreements
Operating Agreement
The BKB Banks and HomeSide have entered into an Operating Agreement, dated
March 15, 1996 (the "BKBC Operating Agreement"), which sets forth the parties'
roles with respect to new loan originations and servicing rights. With certain
exceptions, the BKB Banks are required to sell all mortgage loan production to
HomeSide during the term of the BKBC Operating Agreement. In particular, among
other things, the BKBC Operating Agreement: (a) describes the mortgage loan
products to be purchased by HomeSide from BKB Banks, (b) ensures that the BKB
Banks receive the most favorable pricing and service released premiums offered
by HomeSide to correspondent lenders, (c) describes HomeSide's customer service
levels, (d) sets forth warehouse and pipeline management rights and obligations,
(e) describes the technology support which the parties provide to one another,
(f) describes the mortgage loan production and support functions to be provided
by the parties, (g) describes the reports and information provided periodically
by HomeSide to the BKB Banks, including, but not limited to, risk management,
internal performance and management reports, (h) sets forth the penalties to be
paid by the BKB Banks for failing to satisfy the buy price expiration dates, (i)
describes BKB Banks' mortgage loan repurchase obligations, and (j) restricts
HomeSide's ability to sell servicing rights relating to BKB Banks' portfolio
mortgage loans.
The term of the BKBC Operating Agreement is five years. The termination of
the BKBC Operating Agreement will not affect HomeSide's right to service
mortgage loans serviced prior to the termination date.
Correspondent Loan Purchase and Sale Agreement
HomeSide and the BKB Banks have also entered into a Correspondent Loan
Purchase and Sale Agreement, dated March 15, 1996 (the "BKB Correspondent Loan
Purchase Agreement"), which describes the mortgage loans eligible for sale to
HomeSide by BKB, and related pricing and delivery requirements for such loans.
The BKB Banks receive the most favorable pricing offered by HomeSide to
correspondent lenders. For the periods from March 1, 1997 to February 10, 1998
and March 16, 1996 to February 28, 1997, HomeSide paid approximately $5.3
million and $4.7 million, respectively to the BKB Banks under the BKB
Correspondent Loan Purchase and Sale Agreement. Under certain conditions, the
BKB Banks must indemnify HomeSide or repurchase mortgage loans from HomeSide.
The agreement provides certain underwriting, appraisal, mortgage insurance and
escrow requirements.
The term of the BKB Correspondent Loan Purchase Agreement is five years but
will automatically terminate upon the termination of the Operating Agreement.
PMSR Flow Agreement
HomeSide and the BKB Banks have entered into a PMSR Flow Agreement dated
March 15, 1996, which requires the BKB Banks, subject to certain exceptions, to
sell to HomeSide the servicing rights to the BKB Banks' portfolio mortgage
loans. The purchase price for the servicing rights is based upon a percentage
(which varies depending on the type of loan) of the principal balance of the
loan, as may be adjusted based on an independent third party's revaluation. For
the periods from March 1, 1997 to February 10, 1998 and March 16, 1996 to
February 28, 1997, HomeSide paid approximately $1.6 million and $1.3 million,
respectively, to the BKB Banks under this PMSR Flow Agreement. The agreement
also requires the BKB Banks to provide certain notices to government agencies,
flood service providers, insurance carriers and borrowers upon the transfer of
servicing rights to HomeSide. The agreement describes the BKB Banks' obligation
to prepare and record assignments of mortgage and pay tax, service-related fees
and flood service fees. Under certain conditions, the BKB Banks must reimburse
the servicing rights purchase price to HomeSide.
The term of the PMSR Flow Agreement is five years but will automatically
terminate upon the termination of the BKBC Operating Agreement.
Mortgage Loan Servicing Agreement
HomeSide and the BKB Banks have entered into a Mortgage Loan Servicing
Agreement dated March 15, 1996 (the "BKBC Servicing Agreement"), which requires
HomeSide, subject to certain exceptions, to service the BKB Banks' portfolio
mortgage loans. HomeSide is also required to use reasonable efforts to collect
mortgage loan payments, to remit principal and interest to the BKB Banks each
month and to perform certain default loan administration and foreclosure
activities. HomeSide provides additional services for the BKB Banks' private
banking clients.
The servicing fees paid by the BKB Banks to HomeSide are market-based fees
consistent with the fees charged by HomeSide to other mortgagees. For the
periods from March 1, 1997 to February 10, 1998 and March 16, 1996 to February
2, 1997, the BKB Banks paid approximately $3.8million and $5.3 million,
respectively, to HomeSide under the BKBC Servicing Agreement.
The term of the BKBC Servicing Agreement is five years. The BKB Banks will
not be obligated to deliver portfolio mortgage loan servicing rights to HomeSide
upon the termination of the BKBC Operating Agreement. However, the termination
of the BKBC Operating Agreement will not affect HomeSide's right to continue
servicing the BKB Banks' portfolio loans that are being serviced by HomeSide as
of such termination date.
<PAGE>
Other Barnett Agreements
Operating Agreement
Barnett and HomeSide have entered into an Operating Agreement, dated May
31, 1996 (the "Barnett Operating Agreement"), which sets forth the parties'
roles with respect to new loan originations and servicing rights. With certain
exceptions, Barnett and its affiliate banks (the "Barnett Banks") are required
to sell all mortgage loan production to HomeSide during the term of the Barnett
Operating Agreement. In particular, among other things, the Barnett Operating
Agreement: (a) describes the mortgage loan products to be purchased by HomeSide
from Barnett Banks, (b) ensures that the Barnett Banks receive the most
favorable pricing and servicing released premiums offered by HomeSide to
mortgage correspondents, (c) describes HomeSide's customer service levels, (d)
sets forth warehousing and pipeline management rights and obligations, (e)
describes the technology support which the parties provide to one another, (f)
describes the mortgage loan production and support functions to be provided by
the parties, (g) describes the reports and information provided periodically by
HomeSide to the Barnett Banks, including, but not limited to, risk management,
internal performance and management reports, (h) sets forth penalties to be paid
by the Barnett Banks for failing to satisfy the buy price expiration dates, (i)
describes Barnett Banks' mortgage loan repurchase obligations, and (j) restricts
HomeSide's ability to sell servicing rights relating to the Barnett Banks'
portfolio mortgage loans.
Correspondent Loan Purchase Agreement
HomeSide and Barnett Banks have entered into a Correspondent Loan Purchase
Agreement, dated May 16, 1996 (the "Barnett Correspondent Loan Purchase
Agreement"), which describes the mortgage loans which are eligible for sale to
HomeSide by the Barnett Banks and related pricing and delivery requirements for
such loans. The Barnett Banks receive the most favorable pricing offered by
HomeSide to other correspondents. For the periods from March 1, 1997 to February
10, 1998 and March 16, 1996 to February 28, 1997, HomeSide paid approximately
$45.4 million and $27.6 million, respectively to Barnett under the Barnett
Correspondent Agreement. Under certain conditions, the Barnett Banks must
repurchase mortgage loans for HomeSide. The Barnett Correspondent Loan Purchase
Agreement provides certain underwriting, appraisal, mortgage insurance and
escrow requirements.
PMSR Flow Agreement
HomeSide and the Barnett Banks have entered into a PMSR Flow Agreement
dated May 31, 1996 ("PMSR Flow Agreement"), which requires the Barnett Banks,
subject to certain exceptions, to sell to HomeSide the servicing rights to the
Barnett Banks' portfolio mortgage loans. The purchase price for the servicing
rights is based upon a percentage (which varies depending on the type of loan)
of the principal balance of the loan, as may be adjusted based on an independent
third party's revaluation. For the periods from March 1, 1997 to February 10,
1998 and from March 16, 1996 to February 28, 1997, HomeSide paid approximately
$9.5 million and $8.2 million, respectively, to Barnett under this PMSR Flow
Agreement. The agreement also requires the Barnett Banks to provide certain
notices to government agencies, flood service providers, insurance carriers and
borrowers upon the transfer of servicing rights to HomeSide. The agreement
describes the Barnett Banks' obligation to prepare and record assignments of
mortgage and pay tax, service-related fees and flood service fees. Under certain
conditions, the Barnett Banks must reimburse the servicing rights purchase price
to HomeSide.
As a result of NationsBank Corporation's acquisition of Barnett Banks,
Inc., the Company agreed to release Barnett from its five year agreement to sell
certain of its mortgage loans to HomeSide. In consideration, the Company
received the right to purchase $5.0 billion in mortgage servicing rights, an
increase in the weighted average servicing fee for Barnett portfolio loans
currently serviced, and will receive $3.0 million cash in June 1998.
Mortgage Loan Servicing Agreement
HomeSide and the Barnett Banks have entered into a Mortgage Loan Servicing
Agreement dated as of May 31, 1996 (the "Barnett Servicing Agreement") which
requires HomeSide, subject to certain exceptions, to service the Barnett Banks'
portfolio mortgage loans. HomeSide is also required to use reasonable efforts to
collect mortgage loan payments, to remit principal and interest to the Barnett
Banks each month and to perform general ledger reconciliations and other related
tasks. HomeSide is also required to perform certain default loan administration
and foreclosure activities. HomeSide provides additional services for the
Barnett Banks' private banking clients. For the periods from March 1, 1997 to
February 10, 1998 and March 16, 1996 to February 28, 1997, Barnett paid $29.1
million and $23.6 million in servicing fees, respectively.
Each of the foregoing agreements described under "Certain Relationships and
Related Transactions" was entered into in connection with either the acquisition
of BancBoston Mortgage Corporation or Barnett Mortgage Company. No additional
consideration was paid or received by HomeSide in connection with the execution
and delivery thereof.
Management Agreements
HomeSide agreed to pay the Thomas H. Lee Company, MDP, BankBoston and
Barnett pursuant to management agreements entered into in connection with the
BancBoston Mortgage Corporation and the Barnett Mortgage Company acquisitions,
an annual management fee of $250,000, $83,334, $333,333 and $333,333,
respectively. Such management agreements had a term of five years automatically
extended for successive one year terms, except either party could terminate the
agreement by delivering notice thereof 90 days prior to the end of any such
term. The management agreements terminated upon consummation of the January 1997
offering of Common Stock of the Parent.
CERTAIN TRANSACTIONS
As of February 28, 1997, certain members of management owed $1.9 million
related to loans granted to purchase shares of the Company's common stock.
During the period from March 1, 1997 to February 10, 1998, all related loans
were repaid.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
FORM 8-K
(a) The following documents are filed as a part of this Report:
1. Financial Statements: See Part II, Item 7 hereof.
2. Financial Statement Schedule and Auditors' Report
All schedules omitted are inapplicable or the information required
is shown in the Consolidated Financial Statements or notes thereto.
3. The following exhibits are submitted herewith:
Unless otherwise indicated, all Exhibits are incorporated by
reference to the Company's Registration Statement on Form S-1, No.
333-17685.
Number Description
3.1 Certificate of Incorporation of HomeSide, Inc.
3.2 By-Laws of HomeSide, Inc.
3.3 Form of Restated Certificate of Incorporation of HomeSide,
Inc.
3.4 Form of Amended and Restated By-Laws of HomeSide, Inc.
3.5 Certificate of Amendment of Certificate of Incorporation of
HomeSide, Inc.
4.1 Form of Common Stock Certificate
10.1 Stock Purchase Agreement dated December 11, 1995 between
HomeAmerica Capital, Inc. (currently known as HomeSide,
Inc.) and The First National Bank of Boston (the "BBMC
Purchase Agreement")
10.2 Amendment No. 1, dated as of March 15, 1996, to the BBMC
Purchase Agreement
10.3 Marketing Agreement dated as of March 15, 1996 between
HomeSide, Inc. and The First National Bank of Boston
10.4 Repurchase of Mortgage Loan Servicing Rights Letter
Agreement between The First National Bank of Boston
(currently known as BankBoston, N.A.) and BancBoston
Mortgage Corporation (currently known as HomeSide Lending,
Inc.)
10.5 Operating Agreement effective as of March 15, 1996 between
The First National Bank of Boston (currently known as
BankBoston, N.A.) and BancBoston Mortgage Corporation
(currently known as HomeSide Lending, Inc.)
10.6 Brokered Loan Purchase and Sale Agreement dated as of March
15, 1996 between BancBoston Mortgage Corporation (currently
known as HomeSide Lending, Inc.) and each of The First
National Bank of Boston (currently known as BankBoston
N.A.), Bank of Boston Connecticut, Rhode Island Hospital
Trust National Bank and Bank of Boston Florida, N.A.
10.7 Master Take-Out Commitment dated as of March 15, 1996
between BancBoston Mortgage Corporation (currently known as
HomeSide Lending, Inc.) and each of The First National Bank
of Boston (currently known as BankBoston, N.A.), Bank of
Boston Connecticut, Rhode Island Hospital Trust National
Bank and Bank of Boston Florida, N.A.
10.8 Neighborhood Assistance Corporation of America Mortgage Loan
Take-Out Commitment dated as of March 15, 1996 between
BancBoston Mortgage Corporation (currently known as HomeSide
Lending, Inc.) and The First National Bank of Boston
(currently known as BankBoston, N.A.)
10.9(DELTA) PMSR Flow Agreement dated as of March 15, 1996 between
BancBoston Mortgage Corporation (currently known as HomeSide
Lending, Inc.) and each of The First national Bank of Boston
(currently known as BankBoston, N.A.), Bank of Boston
Connecticut, Rhode Island Hospital Trust National Bank and
Bank of Boston Florida, N.A.
10.10(DELTA) Mortgage Loan Servicing Agreement dated as of March 15,
1996 between BancBoston Mortgage Corporation (currently
known as HomeSide Lending, Inc.) and each of the First
National Bank of Boston, Bank of Boston Connecticut, Rhode
Island Hospital Trust National Bank and Bank of Boston
Florida, N.A.
10.11 Stock Purchase Agreement dated as of March 4, 1996 between
Grant America, Inc. (currently known as HomeSide, Inc.) and
Barnett Banks, Inc. (the "BMC Purchase Agreement")
10.12 Amendment No. 1, dated as of May 31, 1996, to the BMC
Purchase Agreement
10.13 Tax Indemnity Letter Agreement dated as of March 4, 1996
between Barnett Mortgage Company (currently known as
HomeSide Holdings, Inc.) and Barnett Banks, Inc.
10.14 Amended and Restated Shareholder Agreement dated as of May
31, 1996 among HomeSide Lending, Inc. and the shareholders
thereof
10.15 Amended and Restated Registration Rights Agreement dated as
of May 31, 1996 between HomeSide, Inc. and certain
shareholders thereof
10.16 Marketing Agreement dated as of May 31, 1996 between
HomeSide, Inc. and Barnett Banks, Inc.
10.17 Transitional Services Agreement dated as of may 31, 1996
between Barnett Banks, Inc., Barnett Mortgage Company
(currently known as HomeSide Holdings, Inc.) and HomeSide,
Inc.
10.18 Operating Agreement dated as of May 31, 1996 between
HomeSide Lending, Inc. and Barnett Banks, Inc.
10.19(DELTA) Mortgage Loan Servicing Agreement dated as of April, 1996
between HomeSide Lending, Inc. and Barnett Banks, Inc.
10.20(DELTA) PMSR Flow Agreement dated as of May 31, 1996 between
HomeSide Lending, Inc. and Barnett Banks, Inc.
10.21 Correspondent Agreement dated May 16, 1996 between HomeSide
Lending, Inc. and Barnett Banks, Inc.
10.22 Delegated Underwriting Agreement dated as of May 15, 1996
between HomeSide Lending, Inc. and HomeSide Holdings, Inc.
10.23* Amended and Restated Credit Agreement dated as of January
31, 1997 among HomeSide Lending, Inc., Honolulu Mortgage
Company, Inc., the Lenders parties thereto, and The Chase
Manhattan Bank as Administrative Agent (the "Credit
Agreement")
10.24* Amended and Restated Holdings Pledge Agreement dated as of
January 31, 1997 between HomeSide, Inc. and The Chase
Manhattan Bank, as Administrative Agent for the Lenders
parties to the Credit Agreement
10.25* Amended and Restated HomeSide Pledge Agreement dated as of
January 31, 1997 between HomeSide Lending, Inc. and The
Chase Manhattan Bank, as Administrative Agent for the
Lenders parties to the Credit Agreement
10.26* Amended and Restated BMC Pledge Agreement dated as of
January 31, 1997 between HomeSide Holdings, Inc. and The
Chase Manhattan Bank, as Administrative Agent for the
Lenders parties to the Credit Agreement
10.27 Registration Rights Agreement dated as of May 14, 1996 among
HomeSide, Inc. and Merrill Lynch & Co., Merrill Lynch,
Pierce, Fenner & Smith Incorporated, Smith Barney Inc. and
Friedman, Billings, Ramsey & Co., Inc.
10.28* Amended and Restated Holdings Guaranty dated as of January
31, 1997 by HomeSide, Inc. in favor of The Chase Manhattan
Bank, as Administrative Agent for the Lenders parties to the
Credit Agreement
10.29* Amended and Restated HomeSide Guaranty dated as of January
31, 1997 by HomeSide Lending, Inc. in favor of The Chase
Manhattan Bank, as Administrative Agent for the Lenders
parties to the Credit Agreement
10.30* Amended and Restated Subsidiaries Guaranty dated as of
January 31, 1997 by each of SWD Properties, Inc., Stockton
Plaza, Inc., HomeSide Mortgage Securities, Inc. and Honolulu
Mortgage Company, Inc. in favor of The Chase Manhattan Bank,
as Administrative Agent for the Lenders parties to the
Credit Agreement
10.31* Amended and Restated BMC Guaranty dated as of January 31,
1997 by HomeSide Holdings, Inc. in favor of The Chase
Manhattan Bank, as Administrative Agent for the Lenders
parties to the Credit Agreement
10.32* Amended and Restated Security and Collateral Agency
Agreement dated as of January 31, 1997 between HomeSide
Lending, Inc. and The Chase Manhattan Bank, as
Administrative Agent for the Lenders parties to the Credit
Agreement
10.33* Amended and Restated Security and Collateral Agency
Agreement dated as of January 31, 1997 between Honolulu
Mortgage Company, Inc. and The Chase Manhattan Bank, as
Administrative Agent for the Lenders parties to the Credit
Agreement
10.34* Amended and Restated Security and Collateral Agency
Agreement dated as of January 31, 1997 between HomeSide
Holdings, Inc. and The Chase Manhattan Bank, as
Administrative Agent for the Lenders parties to the Credit
Agreement
10.35* Intercreditor Agreement dated as of May 31, 1996 between
HomeSide, Inc., HomeSide Holdings, The Bank of New York, as
Trustee, and The Chase Manhattan Bank, as Administrative
Agent under the Credit Agreement
10.36 HomeSide, Inc. Time Accelerated Restricted Stock Option Plan
10.37 HomeSide, Inc. Non-Qualified Stock Option Plan
10.38 Class B Non-Voting Common Stock Issuance Agreement dated as
of March 14, 1996 between HomeSide, Inc. and Smith Barney
Inc.
10.39 Transitional Services Agreement dated as of March 15, 1996
between The First National Bank of Boston (currently known
as BankBoston, N.A.) and BancBoston Mortgage Corporation
(currently known as HomeSide Lending, Inc.)
10.40 Transitional Services Agreement dated as of March 15, 1996
between The First National Bank of Boston (currently known
as BankBoston, N.A.) and BancBoston Mortgage corporation
(currently known as HomeSide Lending, Inc.)
10.41 Management Agreement dated as of March 15, 1996 between
BancBoston Mortgage Corporation (currently known as HomeSide
Lending, Inc.) and The First National Bank of Boston
(currently known as BankBoston, N.A.)
10.42 Management Agreement dated as of March 15, 1996 between
BancBoston Mortgage Corporation (currently known as HomeSide
Lending, Inc.) and Thomas H. Lee Company
10.43 Management Agreement dated as of March 15, 1996 between
BancBoston Mortgage Corporation (currently known as HomeSide
Lending, Inc.) and Madison Dearborn Partners, Inc.
10.44 Management Stockholder Agreement dated as of May 15, 1996
between HomeSide, Inc., The First National Bank of Boston
(currently known BankBoston, N.A.), Thomas H. Lee Equity
Fund III, L.P. and certain affiliates thereof, Madison
Dearborn Capital Partners, L.P. and certain employees of
HomeSide, Inc. and its subsidiaries
10.45 Management Agreement dated as of May 31, 1996 between
HomeSide Lending, Inc. and Barnett Banks, Inc.
10.46 Form of HomeSide Severance Agreement
10.47* Loan and Security Agreement dated January 15, 1997 between
HomeSide Lending, Inc. and The Chase Manhattan Bank
10.48* First Amendment dated February 28, 1997 to Loan and Security
Agreement dated January 15, 1997 between HomeSide Lending,
Inc. and The Chase Manhattan Bank
10.49* Second Amendment dated March 31, 1997 to Loan and Security
Agreement dated January 15, 1997 between HomeSide Lending,
Inc. and The Chase Manhattan Bank.
10.50* Loan and Security Agreement dated March 14, 1997 between
HomeSide Lending, Inc. and Merrill Lynch Mortgage Capital
Inc.
10.51* First Amendment dated March 31, 1997 to Loan and Security
Agreement dated March 14, 1997 between HomeSide Lending,
Inc. and Merrill Lynch Mortgage Capital Inc.
10.52* Third Amendment dated April 11, 1997 to Loan and Security
Agreement dated January 15, 1997 between HomeSide Lending,
Inc. and The Chase Manhattan Bank.
10.53* Second Amendment dated April 14, 1997 to Loan and Security
Agreement dated March 14, 1997 between HomeSide Lending,
Inc. and Merrill Lynch Mortgage Capital Inc.
10.54* Fourth Amendment dated April 29, 1997 to Loan and Security
Agreement dated January 15, 1997 between HomeSide Lending,
Inc. and The Chase Manhattan Bank.
10.55* Third Amendment dated April 29, 1997 to Loan and Security
Agreement dated March 14, 1997 between HomeSide Lending,
Inc. and Merrill Lynch Mortgage Capital Inc.
10.56* Amendment dated as of September 30, 1997 to the Credit
Agreement dated as of January 31, 1997
10.57* Second Amendment dated as of December 31, 1997 to the Credit
Agreement dated as of January 31, 1997.
10.58* Employment Agreement and Confidentiality and Non-Competition
Agreement, each dated as of October 25, 1997, each between
HomeSide Lending, Inc. and Joe K. Pickett.
10.59* Employment Agreement and Confidentiality and Non-Competition
Agreement, each dated as of October 25, 1997, each between
HomeSide Lending, Inc. and Hugh R. Harris.
10.60* Employment Agreement and Confidentiality and Non-Competition
Agreement, each dated as of October 25, 1997, each between
HomeSide Lending, Inc. and Kevin D. Race.
10.61* Employment Agreement and Confidentiality and Non-Competition
Agreement, each dated as of October 25, 1997, each between
HomeSide Lending, Inc. and William Glasgow.
10.62* Employment Agreement and Confidentiality and Non-Competition
Agreement, each dated October 25, 1997, each between
HomeSide Lending, Inc., and Mark F. Johnson.
13 1998 annual Report for HomeSide, Inc.
21.1* List of subsidiaries of HomeSide, Inc.
23.6(a) Consent of Hutchins, Wheeler & Dittmar, A Professional
Corporation (included in Exhibit 5.1)
24.1 Powers of Attorney
26.0 Excerpts from 1997 and 1998 Annual Report to Stockholders
26.1 Item 15 of the Company's Registration Statement on form S-1,
No. 333-17685
27.1 Financial Data Schedule
- -----------
* Incorporated by reference to Exhibits of HomeSide Lending, Inc.'s (a
wholly-owned subsidiary of the Registrant Registration Statement on
Form S-1, Registration No. 333-21193
(DELTA) Portions of this Exhibit have been omitted pursuant to an order
by the Securities and Exchange Commission granting confidential
treatment.
(b) Reports on form 8-K
HomeSide filed no reports on form 8-K for the period from December 1,
1997 to February 10, 1998.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized.
HomeSide, Inc.
--------------
(Registrant)
By: /s/ Joe K. Pickett
------------------
Joe K. Pickett
Chairman and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons in the capacities and on the
dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
/s/ Joe K. Pickett
- ---------------------------- Chairman of the Board, Chief Executive Officer and May 8, 1998
Joe K. Pickett Director (Principal Executive Officer)
/s/ Hugh R. Harris
- ---------------------------- President, Chief Operating Officer and Director May 8, 1998
Hugh R. Harris
/s/ Kevin D. Race
- ---------------------------- Vice President and Chief Financial Officer and Treasurer May 8, 1998
Kevin D. Race (Principal Financial and Accounting Officer)
- ---------------------------- Director May 8, 1998
Thomas M. Hagerty
- ---------------------------- Director May 8, 1998
David V. Harkins
- ---------------------------- Director May 8, 1998
Justin S. Huscher
- ---------------------------- Director May 8, 1998
Peter J. Manning
- ---------------------------- Director May 8, 1998
Kathleen M. McGillycuddy
/s/ Hinton F. Nobles, Jr.
- ---------------------------- Director May 8, 1998
Hinton F. Nobles, Jr.
/s/ Douglas K. Freeman
- ---------------------------- Director May 8, 1998
Douglas K. Freeman
/s/ Charles W. Newman
- ---------------------------- Director May 8, 1998
Charles W. Newman
</TABLE>
HomeSide
Selected Consolidated Financial Data
The selected consolidated financial and operating information of HomeSide
set forth below is for the periods from March 1, 1997 to February 10, 1998
and March 16, 1996 to February 28, 1997 and should be read in conjunction
with, and is qualified in its entirety by reference to, the Consolidated
Financial Statements and the Notes thereto and in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" of HomeSide included elsewhere in this document.
For the Period From For the Period From
March 1, 1997 to March 16, 1996 to
February 10, February 28,
(In Thousands, Except Share Data) 1998 1997
------------------- -------------------
Selected Statement of Income Data:
Revenues:
Mortgage servicing fees $ 398,159 $ 312,341
Amortization of mortgage servicing rights (210,200) (155,827)
Net servicing revenue 187,959 156,514
Interest income 97,050 81,507
Interest expense (97,028) (87,700)
Net interest revenue 22 (6,193)
Net mortgage origination revenue 85,206 66,073
Other income 1,671 682
Total revenues 274,858 217,076
Expenses:
Salaries and employee benefits 75,419 72,976
Occupancy and equipment 15,447 11,770
Servicing losses on investor-owned loans and
foreclosure-related expenses 21,974 17,934
Other expenses 39,415 41,714
Total expenses 152,255 144,394
Income before provision for income taxes and
extraordinary loss 122,603 72,682
Provision for income taxes 47,816 29,273
Income before extraordinary loss 74,787 43,409
Extraordinary loss (Note 9) - 6,440
Net income $ 74,787 $ 36,969
Per Share Data (diluted):
Net income per share before extraordinary loss $ 1.69 $ 1.33
Weighted average shares outstanding 44,365,823 32,687,780
Selected Balance Sheet Data at Period End:
Mortgage loans held for sale $ 1,292,403 $ 805,274
Mortgage servicing rights 1,781,134 1,614,307
Total assets 3,883,603 2,752,182
Bank credit facility 2,074,956 1,818,503
Long-term debt 900,466 151,128
Total liabilities 3,294,470 2,239,886
Total stockholders' equity 589,133 512,296
Selected Operating Data:
Volume of loan production $20,529,531 $20,877,535
Loan servicing portfolio (at period end) 99,956,050 90,192,247
Loan servicing portfolio
(average outstanding during the period) 96,083,220 75,692,214
Weighted average interest rate of
the servicing portfolio (at period end) 7.85% 7.92%
Weighted average servicing fee of the servicing
portfolio, including ancillary income
(during the period) 0.439% 0.431%
Management's Discussion and Analysis of Financial Condition and Results of
Operations
For the period from March 1, 1997 to February 10, 1998 and for the period
from March 16, 1996 to February 28, 1997
General
HomeSide, Inc., through its wholly-owned operating subsidiary HomeSide
Lending, Inc., is one of the largest full service residential mortgage
banking companies in the United States, formed through the acquisition of
the mortgage banking operations of BankBoston, N.A., formerly known as The
First National Bank of Boston ("BankBoston"), and Barnett Banks, Inc.
("Barnett"). HomeSide's strategy emphasizes variable cost mortgage loan
originations, low cost mortgage servicing and effective risk management.
Headquartered in Jacksonville, Florida, HomeSide ranks as the 5th largest
mortgage loan originator and the 6th largest servicer in the United States
for the twelve months ended December 31, 1997 based on data published by
Inside Mortgage Finance.
HomeSide plans to build its core operations through (i) improved economies
of scale in servicing costs; (ii) increased productivity using proprietary
technology; and (iii) expanded and diversified variable cost origination
channels. In addition, HomeSide intends to pursue additional loan portfolio
acquisitions and strategic origination relationships similar to the
existing BankBoston and Barnett arrangements (see Note 4).
On February 10, 1998, National Australia Bank Limited (the "National")
acquired all outstanding shares of common stock of HomeSide, Inc. for
$27.825 per share or approximately $1.2 billion. Following this
transaction, the National owns 100% of the registrant's common stock and
HomeSide, Inc. is an indirect wholly-owned subsidiary of the National.
Forward-Looking Statements
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for certain forward-looking statements. This report contains
forward-looking statements, which reflect the Company's current views with
respect to future events and financial performance. These forward-looking
statements are subject to certain risks and uncertainties, including those
identified below, which could cause actual results to differ materially
from historical results or those anticipated. The words "believe,"
"expect," "anticipate," "intend," "estimate" and other expressions, which
indicate future events and trends, identify forward-looking statements,
which speak only as of their dates. The Company undertakes no obligation to
publicly update or revise any forward-looking statements whether as a
result of new information, future events or otherwise. The following
factors could cause actual results to differ materially from historical
results or those anticipated: (1) the Company's ability to grow which is
dependent on its ability to obtain additional financing in the future for
originating loans, investment in servicing rights, working capital, capital
expenditures and general corporate purposes, (2) economic factors may
negatively affect the Company's profitability as the frequency of loan
default tends to increase in such environments and (3) changes in interest
rates may affect the volume of loan originations and acquisitions, the
interest rate spread on loans held for sale, the amount of gain or loss on
the sale of loans and the value of the Company's servicing portfolio. These
risks and uncertainties are more fully detailed in the Company's filings
with the Securities and Exchange Commission.
Mortgage Banking
Mortgage banking is a specialized branch of the financial services industry
which primarily involves (i) originating and purchasing mortgage loans
("origination" and/or "production"); (ii) selling the originated mortgages
to third parties either as mortgage-backed securities or as whole loans
("secondary marketing"); (iii) servicing of mortgage loans on behalf of the
ultimate purchasers, which includes the collection and disbursement of
payments of mortgage principal and interest, the collection of payments of
taxes and insurance premiums to pay property taxes and insurance premiums
and management of certain loan default activities (collectively,
"servicing"); and (iv) risk management, a program primarily designed to
protect the economic performance of the servicing portfolio that could
otherwise be adversely affected by increased loan prepayments due to
declines in interest rates.
Mortgage bankers originate loans generally through two channels: wholesale
and direct. Wholesale origination involves the origination of mortgage
loans from sources other than homeowners, including mortgage brokers and
other mortgage lenders. Direct origination typically includes (i) networks
of retail loan offices with sales staff that solicit business from
homeowners, realtors, builders and other real estate professionals, (ii)
centers that use telemarketing, direct mail, and advertising to market
loans directly to home buyers or homeowners, (iii) affinity and co-branding
partnerships and (iv) corporate relocation programs. Once originated or
purchased, mortgage bankers hold the loans temporarily ("warehousing")
until they are sold, typically earning an interest spread equal to the
difference between the loan's interest rate and the cost of financing the
loan. Each loan is sold either excluding or including the associated right
to service the loan ("servicing retained" or "servicing released,"
respectively).
Mortgage bankers rely mainly on short-term borrowings, such as warehouse
lines, to finance the origination of mortgages that are sold. Mortgage
bankers also borrow on a longer termbasis to finance their servicing assets
and working capital requirements. Revenues consist primarily of those
related to servicing and, to a lesser extent, fees and interest spreads
from originations. The major expenses of a mortgage banker include costs of
financing, operating costs related to origination and servicing and the
amortization of mortgage servicing rights.
Mortgage bankers typically seek to retain the rights to service the loans
they originate or acquire in order to generate recurring fee income. The
purchase and sale of servicing rights can occur on a loan-by-loan basis
("flow") or on a portfolio (group of loans) basis ("bulk" or "mini-bulk").
Prices for servicing rights are typically stated as a multiple of the
servicing fee or as a percentage of the outstanding unpaid principal
balance for a group of mortgage loans. Values of servicing portfolios are
generally based on the present value of the servicing fee income stream,
net of servicing costs, expected to be received over the estimated life of
the loans. The assets of a mortgage banking company consist primarily of
mortgage loans held for sale and the value of the servicing rights.
Loan Production Activities
As a multi-channel loan production lender, HomeSide has one of the
industry's largest correspondent lending production operations, a
full-service brokered loan program and a national production center for
consumer direct mortgage lending. By focusing on production channels with a
variable cost structure, HomeSide eliminates the fixed costs associated
with traditional mortgage branch offices. Without the burden of high fixed
cost loan origination networks, HomeSide is positioned to weather a variety
of interest rate environments.
The following information regarding loan production activities for HomeSide
is presented to aid in understanding the results of operations and
financial condition of HomeSide for the period from March 1, 1997 to
February 10, 1998 and for the period from March 16, 1996 to February 28,
1997 (in millions):
For the For the
Period From Period From
March 1, 1997 March 16, 1996
to February 10, to February 28,
1998 1997
Correspondent $13,304 $11,113
Co-issue 5,584 8,222
Broker 1,305 843
Total wholesale 20,193 20,178
Consumer Direct 337 700
Total production 20,530 20,878
Bulk acquisitions 3,446 4,073
Total production and acquisitions $23,976 $24,951
Total loan production, excluding bulk acquisitions, was $20.5 billion for
the period from March 1, 1997 to February 10, 1998, relatively equal to the
period from March 16, 1996 to February 28, 1997. HomeSide also purchased
bulk servicing acquisitions of $3.4 billion and $4.1 billion during the
period from March 1, 1997 to February 10, 1998 and the period from March
16, 1996 to February 28, 1997, respectively.
HomeSide continues to examine a number of ways to diversify and grow
revenue sources from its existing and new customer base. As part of this
effort, HomeSide has announced an alliance with a subprime lender, which
allows HomeSide to offer additional mortgage-related products to the
production network. HomeSide then sells the loans, servicing released, to
its strategic partners. The subprime lending unit began operations in
January 1998.
Servicing Portfolio
Management believes that HomeSide is one of the most efficient mortgage
loan servicers in the industry based on its servicing cost per loan and the
number of loans serviced per employee. The servicing operation makes
extensive use of state-of-the-art technology, process re-engineering and
expense management. With a portfolio size of $100 billion, HomeSide
services the loans of approximately 1.2 million homeowners from across the
United States and is committed to protecting the value of this important
asset by a sophisticated risk management strategy. HomeSide anticipates its
low cost of servicing loans will continue to maximize the bottom-line
impact of its growing servicing portfolio. HomeSide's focus on efficient
and low cost processes is pursued through the selective use of automation
as well as the strategic outsourcing of selected servicing functions and
effective control of delinquencies and foreclosures.
The following information on the dollar amounts of loans serviced is
presented to aid in understanding the results of operations and financial
condition of HomeSide for the period from March 1, 1997 to February 10,
1998 and for the period from March 16, 1996 to February 28, 1997 (in
millions):
For the For the
Period From Period From
March 1, 1997 March 16, 1996
to February 10, to February 28,
1998 1997
Balance at beginning
of period $90,192 $42,907
Acquisition of
Barnett Mortgage
Company - 33,082
Other additions 23,976 25,252
Total additions 23,976 58,334
Scheduled amortization 2,038 1,822
Prepayments 11,097 6,226
Foreclosures 682 514
Sales of servicing 395 2,487 (a)
Total reductions 14,212 11,049
Balance at end of period $99,956 $90,192
(a) Includes $1.9 billion of servicing sold as part of the sale of
Honolulu Mortgage Company.
The number of loans serviced at February 10, 1998 was 1,185,241, compared
to 1,087,336 at February 28, 1997. HomeSide's strategy is to build its
mortgage servicing portfolio by concentrating on variable cost loan
origination strategies, and as a result, benefit from improved economies of
scale. A key to HomeSide's future growth is the proprietary servicing
software purchased from Barnett. This system will allow HomeSide to double
the number of loans serviced on a single system. During the period from
March 1, 1997 to February 10, 1998, HomeSide transferred approximately
210,000 of the loans serviced to its proprietary servicing software. After
the transfer, over half the servicing portfolio is serviced on the
proprietary system. The transfer of the remaining portfolio is expected to
occur by the end of calendar 1998.
Results of Operations
For the period from March 1, 1997 to February 10, 1998 compared to the
period from March 16, 1996 to February 28, 1997
Summary
HomeSide's net income increased 102% to $74.8 million for the period from
March 1, 1997 to February 10, 1998 from $37.0 million for the period from
March 16, 1996 to February 28, 1997. Total revenues for the period from
March 1, 1997 to February 10, 1998 increased 27% to $274.9 million from
$217.1 million for the period from March 16, 1996 to February 28, 1997. The
increases in net income and revenues for the period from March 1, 1997 to
February 10, 1998 compared to the period from March 16, 1996 to February
28, 1997 were primarily attributable to the acquisition of Barnett Mortgage
Company ("BMC") on May 31, 1996 and increases of $31.4 million in net
servicing revenue, $19.1 million in net mortgage origination revenue and
$6.2 million in net interest revenue. The BMC servicing portfolio was $33.1
billion at May 31, 1996. Its acquisition increased HomeSide's servicing
portfolio by 75% on that date, and was a major factor in the increase in
net servicing revenue. In addition, subsequent increases in the size of the
servicing portfolio contributed to the increased revenue. The servicing
portfolio increased to $100.0 billion at February 10, 1998 from $90.2
billion at February 28, 1997, an 11% increase. As part of the BMC
acquisition, Barnett agreed to sell HomeSide the loans produced by the loan
production networks retained by Barnett, which contributed to the increase
in net mortgage origination revenue. Net interest revenue increased
primarily because of lower borrowing costs resulting from the lower
interest rate environment during the period ending February 10, 1998,
improved terms for the bank line of credit and the issuance of medium-term
notes. The Company's improved credit ratings lowered the cost of borrowing
under the bank line of credit and enabled HomeSide to issue publicly traded
notes, which expanded borrowing capacity.
Net Servicing Revenue
Net servicing revenue was $188.0 million for the period from March 1, 1997
to February 10, 1998 compared to $156.5 million for the period from March
16, 1996 to February 28, 1997. Net servicing revenue is comprised of
mortgage servicing fees, ancillary servicing revenue, and amortization of
mortgage servicing rights expense.
Mortgage servicing fees increased 27% to $398.2 million for the period from
March 1, 1997 to February 10, 1998 from $312.3 million for the period from
March 16, 1996 to February 28,1997, primarily as a result of the BMC
acquisition and growth of the servicing portfolio through loan production
channels and bulk servicing acquisitions. The servicing portfolio increased
to $100.0 billion at February 10, 1998 compared to $90.2 billion at
February 28, 1997. HomeSide's weighted average interest rate of the
mortgage loans in the servicing portfolio was 7.85% at February 10, 1998
and 7.92% at February 28, 1997. The weighted average servicing fee,
including ancillary income, for the servicing portfolio was 0.439% and
0.431% for the period from March 1, 1997 to February 10, 1998 and the
period from March 16, 1996 to February 28, 1997, respectively. The increase
in the weighted average servicing fee for the period from March 1, 1997 to
February 10, 1998 compared to the period from March 16, 1996 to February
28, 1997 was due to growth of ancillary revenues, including late fees and
other mortgage-related products.
Amortization expense increased to $210.2 million for the period March 1,
1997 to February 10, 1998 from $155.8 million for the period from March 16,
1996 to February 28, 1997 mainly as a result of a higher average balance of
mortgage servicing rights and a decrease of 86 basis points in average
mortgage interest rates from the period from March 16, 1996 to February 28,
1997 to the period from March 1, 1997 to February 10, 1998. Amortization
charges are highly dependent upon the level of prepayments during the
period and changes in prepayment expectations, which are significantly
influenced by the direction and level of long-term interest rate movements.
A decrease in mortgage interest rates results in an increase in prepayment
estimates used in calculating periodic amortization expense. Because
mortgage servicing rights are amortized over the expected period of service
fee revenues, an increase in mortgage prepayment activity typically results
in a shorter estimated life of the mortgage servicing assets and,
accordingly, higher amortization expense.
Net Interest Revenue
Net interest revenue is driven by the level of interest rates, the
direction in which rates are moving and the spread between short and
long-term interest rates. These factors influence the size of the
residential mortgage origination market, HomeSide's loan production volumes
and the interest rates HomeSide earns on loans and pays to its lenders.
Loan refinancing levels are the largest contributor to changes in the size
of the mortgage origination market. To reduce the cost of their home
mortgages, borrowers tend to refinance their loans during periods of
declining interest rates, increasing the size of the origination market and
HomeSide's loan production volumes. Higher loan production volumes resulted
in higher average balances of loans held for sale and consequently higher
levels of interest income earned on such loans prior to their sale. This
higher level of interest income due to increased volumes is partially
offset by the lower rates earned on the loans.
Overall borrowing costs also fluctuate with changes in interest rates.
Currently, the interest expense HomeSide pays to finance mortgage loans
held for sale and other net assets is generally calculated with reference
to short-term interest rates. In addition, because mortgage loans held for
sale earn interest based on longer term interest rates, the level of net
interest revenue is also influenced by the spread between long-term and
short-term interest rates.
Net interest revenue increased $6.2 million for the period from March 1,
1997 to February 10, 1998 to $0.02 million from ($6.2) million for the
period from March 16, 1996 to February 28, 1997, primarily due to improved
funding rates obtained through improved credit ratings, the issue of
medium-term notes and the adoption of an early pool buyout program. During
the period from March 1, 1997 to February 10, 1998, HomeSide's primary
operating subsidiary, HomeSide Lending, Inc. issued $750.0 million of
medium-term notes to the public market at an average cost of 6.251% as of
February 10, 1998. The proceeds were used to pay down existing bank debt,
increasing HomeSide's borrowing capacity. An immediate benefit of this
increased borrowing capacity was the initiation of an early pool buyout
program, which involves the purchase of delinquent government loans from
pools early in the foreclosure process, thereby reducing the unreimbursed
interest expense that HomeSide incurs.
Interest income increased from the period from March 16, 1996 to February
28, 1997 to the period from March 1, 1997 to February 10, 1998, primarily
as a result of an increase of $246.6 million in the average balance of
loans held for sale. Interest expense increased from the period from March
16, 1996 to February 28, 1997 to the period from March 1, 1997 to February
10, 1998 as a result of increased borrowings to fund growth of the
servicing portfolio and loan origination activity. These expenses were
offset by an increase in credits received on borrowings as a result of
higher average balances of custodial deposits.
Net Mortgage Origination Revenue
Net mortgage origination revenue is comprised of fees earned on the
origination of mortgage loans, gains and losses on the sale of loans, gains
and losses resulting from hedging of secondary marketing activities and
fees charged to review loan documents for purchased loan production.
Net mortgage origination revenue was $85.2 million for the period from
March 1, 1997 to February 10, 1998 compared to $66.1 million for the period
from March 16, 1996 to February 28, 1997, a 29% increase. The increase in
net mortgage origination revenue during the period from March 1, 1997 to
February 10, 1998 as compared to the period from March 16, 1996 to February
28, 1997 is due in part to an increase in loan production volumes resulting
from the preferred seller relationships with Barnett and BankBoston and
HomeSide's broker and correspondent lending channels. The increase also
reflects larger gains from secondary marketing activities.
Salaries and Employee Benefits
Salaries and employee benefits expense was $75.4 million for the period
from March 1, 1997 to February 10, 1998 compared to $73.0 million for the
period from March 16, 1996 to February 28, 1997 due to growth in the number
of employees as a result of the purchase of the BMC mortgage servicing
operations acquired on May 31, 1996. The average number of full-time
equivalent employees increased to 1,805 for the period from March 1, 1997
to February 10, 1998 from 1,593 for the period from March 16, 1996 to
February 28, 1997.
Occupancy and Equipment Expense
Occupancy and equipment expense primarily includes rental expense, repairs
and maintenance costs, certain computer software expenses and depreciation
of HomeSide's premises and equipment. Occupancy and equipment expense for
the period from March 1, 1997 to February 10, 1998 was $15.4 million
compared to $11.8 million for the period from March 16, 1996 to February
28, 1997. The increase in expense was mainly due to increases in the costs
of information systems required to handle the growing mortgage servicing
portfolio.
Servicing Losses on Investor-Owned Loans and Foreclosure-Related Expenses
Servicing losses on investor-owned loans represent anticipated losses
primarily attributable to servicing FHA and VA loans for investors. These
amounts include actual losses for final disposition of loans,
non-recoverable foreclosure costs, accrued interest for which payment has
been denied and estimates for potential losses based on HomeSide's
experience as a servicer of government loans.
During the period from March 1, 1997 to February 10, 1998, the servicing
losses on investor-owned loans and foreclosure-related expenses totaled
$22.0 million compared to $17.9 million for the period from March 16, 1996
to February 28, 1997. The increase was largely attributable to the growth
of the servicing portfolio resulting from loan production and increased
foreclosure losses.
Included in accounts payable and accrued liabilities at February 10, 1998
and February 28, 1997 is a reserve for estimated servicing losses on
investor-owned loans of $21.7 million. The reserve has been established for
potential losses related to the mortgage servicing portfolio. Increases to
the reserve are charged to earnings as servicing losses on investor-owned
loans. The reserve is decreased for actual losses incurred related to the
mortgage servicing portfolio. HomeSide's historical loss experience on VA
loans generally has been consistent with industry experience. Management
believes that HomeSide has an adequate level of reserve based on servicing
volume, portfolio composition, credit quality and historical loss rates, as
well as estimated future losses. Servicing portfolio delinquencies
increased from prior year due to an increased delinquency trend throughout
the industry.
The following table sets forth HomeSide's delinquency and foreclosure
experience:
Servicing Portfolio Delinquencies
(Percent by Loan Count)
February 10, February 28,
1998 1997
Servicing Portfolio Delinquencies,
excluding bankruptcies(at end of period)
30 days 3.52% 3.27%
60 days 0.78% 0.69%
90+ days 0.72% 0.54%
Total past due 5.02% 4.50%
Foreclosures pending 0.74% 0.72%
Other Expenses
Other expenses consist mainly of professional fees, communications expense,
advertising and public relations, data processing expenses and certain loan
origination expenses. The level of other expenses fluctuates in part based
upon the level of HomeSide's mortgage servicing portfolio and loan
production volumes.
Other expenses during the period from March 1, 1997 to February 10, 1998
were $39.4 million, compared to $41.7 million for the period from March 16,
1996 to February 28, 1997. The decrease was primarily due to decreases in
advertising and certain loan origination expenses.
Income Tax Expense
HomeSide's income tax expense was $47.8 million for the period from March
1, 1997 to February 10, 1998 and $29.3 million for the period from March
16, 1996 to February 28, 1997. The increase was attributable to an increase
in net income. The effective income tax rate for the period from March 1,
1997 to February 10, 1998 and the period from March 16, 1996 to February
28, 1997 was approximately 39% and 40%, respectively.
Risk Management Activities
HomeSide has a risk management program designed to protect the economic
value of its mortgage servicing portfolio from declines in value due to
increases in estimated loan prepayment speeds, which are primarily
influenced by declines in interest rates. When loans prepay faster than
anticipated, the cash flow HomeSide expects to receive from servicing such
loans is reduced. The value of mortgage servicing rights is based on the
present value of the cash flows to be received over the life of the loan
and therefore, the value of the servicing portfolio declines as prepayments
increase.
During the period from March 1, 1997 to February 10, 1998, HomeSide
utilized options on U.S. Treasury bond futures and U.S. Treasury bond
futures to protect a significant portion of the market value of its
mortgage servicing portfolio from a decline in value. The risk management
contracts used by HomeSide have characteristics such that they tend to
increase in value as interest rates decline. Conversely, these risk
management contracts tend to decline in value as interest rates rise.
Accordingly, changes in value of these risk management instruments will
tend to move inversely with changes in value of HomeSide's mortgage
servicing rights.
These risk management instruments are designated as hedges on the purchase
date and such designation is at a level at least as specific as the level
at which mortgage servicing rights are evaluated for impairment. The risk
management instruments are marked-to-market with changes in market value
deferred and applied as an adjustment to the basis of the related mortgage
servicing right asset being hedged. As a result, any changes in market
value that are deferred are amortized and evaluated for impairment in the
same manner as the related mortgage servicing rights. The effectiveness of
HomeSide's hedging activity can be measured by the correlation between
changes in the value of the risk management instruments and changes in the
value of HomeSide's mortgage servicing rights. This correlation is assessed
on a quarterly basis to ensure that high correlation is maintained over the
term of the hedging program. During the periods presented, HomeSide has
experienced a high measure of correlation between changes in the value of
mortgage servicing rights and the risk management contracts. However, in
periods of rising interest rates, the increase in value of mortgage
servicing rights may outpace the decline in value of the options included
in the hedge position, because the loss on the options is limited to the
premium paid.
During the period from March 1, 1997 to February 10, 1998, deferred gains
and losses on risk management contracts resulted in net deferred hedge
gains of $142.7 million. As of February 10, 1998, net deferred hedge gains
of $39.5 million are included in the carrying value of mortgage servicing
rights. Activity in the deferred hedge account during the period from
March 1, 1997 to February 10, 1998 is as follows (in thousands):
Net deferred hedge loss at February 28, 1997 $(110,637)
Amortization of net deferred hedge losses 7,423
Net deferred hedge gains 142,667
Net deferred hedge gain at February 10, 1998 $ 39,453
HomeSide's future cash needs as they relate to its hedging program will be
influenced by such factors as long-term interest rates, loan production
levels and growth in the mortgage servicing portfolio. The fair value of
open risk management contracts at February 10, 1998 was $43.9 million,
which was equal to their carrying amount because the risk management
contracts are marked-to-market at each reporting date. See "-Liquidity and
Capital Resources" for further discussion of HomeSide's sources and uses
of cash. See Note 3 of Notes to Consolidated Financial Statements for a
description of HomeSide's accounting policy for its risk management
contracts. See Notes 14 and 15 of Notes to Consolidated Financial
Statements for additional fair value disclosures with respect to HomeSide's
risk management contracts.
Liquidity and Capital Resources
The Company's principal financing needs are the financing of loan
origination activities and the investment in mortgage servicing rights. To
meet these needs, the Company currently utilizes funding from an
independent syndicate of banks, including a warehouse credit facility and a
servicing-related facility, medium-term notes and cash flow from
operations. In the past, the Company has also utilized short-term credit
facilities and public offerings of common stock. HomeSide continues to
investigate and pursue alternative and supplementary methods to finance its
growing operations through the public and private capital markets. These
may include methods designed to expand the Company's financial capacity and
reduce its cost of capital. In addition, to facilitate the sale and
distribution of certain mortgage products, HomeSide Mortgage Securities,
Inc., a wholly-owned subsidiary of HomeSide Lending, Inc., may continue to
issue mortgage backed securities.
Operations
Net cash used in operations for the period from March 1, 1997 to February
10, 1998 was $247.7 million. Net cash provided by operations for the period
from March 16, 1996 to February 28, 1997 was $203.8 million. The primary
uses of cash in operations were to fund loan originations and pay corporate
expenses. These uses of cash were offset by cash provided from servicing
fee income, loan sales and principal repayments. Cash flows from loan
originations are dependent upon current economic conditions and the level
of long-term interest rates. Decreases in long-term interest rates
generally result in higher loan refinancing activity, which results in
higher cash demands to meet increased loan production levels. Higher cash
demands to meet increased loan production levels are primarily met through
borrowings and loan sales.
Investing
Net cash used in investing activities was $773.7 million for the period
from March 1, 1997 to February 10, 1998 and $862.2 million for the period
from March 16, 1996 to February 28, 1997. Cash used in investing activities
was for the purchase and origination of mortgage servicing rights. For the
period from March 1, 1997 to February 10, 1998, cash was also used for
funding the early pool buyout program. During the period from March 1, 1997
to February 10, 1998, these uses of cash were offset by net proceeds from
risk management contracts, while during the period from March 16, 1996 to
February 28, 1997, cash was used to purchase risk management contracts.
Other assets increased $41.7 million to $134.6 million at February 10, 1998
from $92.9 million at February 28, 1997 primarily as a result of an
increase in HomeSide's hedge assets. Early pool buyout advances, a program
initiated in fiscal 1998, totaled $374.1 million at February 10, 1998.
During the period from March 16, 1996 to February 28, 1997, HomeSide also
made net payments of $133.4 million and $106.2 million to acquire certain
mortgage banking operations of BBMC and BMC, respectively (see Note 4 of
Notes to Consolidated Financial Statements). Future uses of cash for
investing activities will be dependent on the mortgage origination market
and HomeSide's hedging needs. Except for the Banc One acquisition, HomeSide
is not able to estimate the timing and amount of cash uses for future
acquisitions of other mortgage banking entities, if such acquisitions were
to occur. HomeSide will fund the Banc One acquisition under existing
borrowing capacity.
Financing
Net cash provided by financing activities was $1,000.8 million for the
period from March 1, 1997 to February 10, 1998 and $711.1 million for the
period from March 16, 1996 to February 28, 1997. The primary source of cash
from financing activities during the period from March 1, 1997 to February
10, 1998 was $750.0 million from the issuance of medium-term notes and net
borrowings of $256.5 million from HomeSide's line of credit. The primary
sources of cash from financing activities during the period from March 16,
1996 to February 28, 1997 were net borrowings under HomeSide's lines of
credit of $334.2 million, $269.6 million from proceeds from issuance of
common stock and $200.0 million from the issuance of Notes. Cash used in
financing activities during the period ended February 10, 1998 was used for
the payment of debt issue costs. Cash used in financing activities for the
period ended February 28, 1997 was used to repay a $90.0 million bridge
loan, $70.6 million of Notes and the payment of debt issue costs.
During the period from March 1, 1997 to February 10, 1998, net cash used in
operations was $247.7 million, net cash used in investing activities was
$773.7 million and net cash provided by financing activities was $1,000.8
million, resulting in a net decrease in cash of $20.6 million. HomeSide
expects that to the extent cash generated from operations is inadequate to
meet its liquidity needs, those needs can be met through financing from its
bank credit facility and other facilities which may be entered into from
time to time, as well as from the issuance of debt securities in the
public markets. Accordingly, HomeSide does not currently anticipate that it
will make sales of servicing rights to any significant degree for the
purpose of generating cash. Nevertheless, in addition to its cash and
mortgage loans held for sale balances, HomeSide's portfolio of mortgage
servicing rights provides a potential source of funds to meet liquidity
requirements, especially in periods of rising interest rates when loan
origination volume slows. Repurchase agreements also provide an alternative
to the bank line of credit for mortgages held for sale. Future cash needs
are highly dependent on future loan production and servicing results, which
are influenced by changes in long-term interest rates.
Year 2000 Compliance
HomeSide uses and is dependent upon a significant number of computer
software programs and operating systems to conduct its business. Such
programs and systems include those developed and maintained by HomeSide,
software and systems purchased from outside vendors and software and
systems used by HomeSide's third party providers. HomeSide has initiated a
review and assessment of all hardware and software to determine whether it
will function properly in the Year 2000. It is anticipated that some level
of modification or replacement of hardware and software will be necessary
in order to make HomeSide's systems "Year 2000 Compliant." HomeSide
presently estimates these remediation costs to total approximately $15.0
million. Remediation costs are expected to be expensed as incurred, with
the exception of new software purchases, which will be capitalized. The
Company has not incurred significant remediation costs prior to February
10, 1998. Year 2000 remediation costs are based on management's best
estimates, which were derived utilizing numerous assumptions of future
events including the continued availability of certain resources, third
party modification plans and other factors. However, there can be no
guarantee that these estimates will be achieved and actual results could
differ materially from those plans. In addition, HomeSide has relationships
with vendors, customers and other third parties that rely on software and
systems that may not be Year 2000 compliant. With respect to such third
parties, Year 2000 compliance matters will not be within HomeSide's direct
control. There can be no assurance that Year 2000 compliance failures by
such third parties will not have a material adverse effect on HomeSide's
results of operations.
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Stockholder of HomeSide, Inc.
We have audited the accompanying consolidated balance sheets of HomeSide,
Inc., (a Delaware corporation, see Note 1) and subsidiaries as of February
10, 1998 and February 28, 1997, and the related consolidated statements of
income, changes in stockholders' equity and cash flows for the periods from
March 1, 1997 to February 10, 1998 and March 16, 1996 to February 28, 1997.
These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of HomeSide,
Inc. and subsidiaries as of February 10, 1998 and February 28, 1997 and the
results of their operations and their cash flows for the periods from March
1, 1997 to February 10, 1998 and March 16, 1996 to February 28, 1997, in
conformity with generally accepted accounting principles.
Arthur Andersen LLP
Jacksonville, Florida
April 15, 1998
HomeSide, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands, Except Share Data)
February 10, February 28,
1998 1997
Assets
Cash and cash equivalents $ 32,113 $ 52,691
Mortgage loans held for sale, net 1,292,403 805,274
Mortgage servicing rights, net 1,781,134 1,614,307
Accounts receivable, net 227,294 157,518
Early pool buyout advances 374,097 -
Premises and equipment, net 41,982 29,515
Other assets 134,580 92,877
Total Assets $3,883,603 $2,752,182
Liabilities and Stockholders' Equity
Notes payable $2,074,956 $1,818,503
Accounts payable and accrued liabilities 143,870 140,304
Deferred income taxes 175,178 129,951
Long-term debt 900,466 151,128
Total Liabilities 3,294,470 2,239,886
Commitments and Contingencies
Stockholders' Equity:
Common stock:
Common stock, $.01 par value,
119,610,000 shares authorized;
43,394,861 and 43,375,430 shares issued
and outstanding in 1998 and 1997,respectively 434 434
Class C non-voting common stock,
$1.00 par value, 195,000 shares authorized;
97,138 shares issued and outstanding 97 97
Additional paid-in capital 476,846 476,646
Retained earnings 111,756 36,969
589,133 514,146
Less: Notes received in payment for capital stock - (1,850)
Total Stockholders' Equity 589,133 512,296
Total Liabilities and Stockholders' Equity $3,883,603 $2,752,182
The accompanying notes are an integral part of these financial statements.
Homeside, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in Thousands, Except Per Share Data)
For the Period From For the Period From
March 1, 1997 to March 16, 1996 to
February 10, February 28,
1998 1997
Revenues:
Mortgage servicing fees $ 398,159 $ 312,341
Amortization of mortgage servicing rights (210,200) (155,827)
Net servicing revenue 187,959 156,514
Interest income 97,050 81,507
Interest expense (97,028) (87,700)
Net interest revenue 22 (6,193)
Net mortgage origination revenue 85,206 66,073
Other income 1,671 682
Total Revenues 274,858 217,076
Expenses:
Salaries and employee benefits 75,419 72,976
Occupancy and equipment 15,447 11,770
Servicing losses on investor-owned loan
and foreclosure-related expenses 21,974 17,934
Other expenses 39,415 41,714
Total Expenses 152,255 144,394
Income before income taxes and
extraordinary loss 122,603 72,682
Income tax expense 47,816 29,273
Income before extraordinary loss 74,787 43,409
Extraordinary loss, net of tax (Note 9) - 6,440
Net Income $ 74,787 $ 36,969
Basic income per share:
Income per share before
extraordinary loss $ 1.72 $ 1.34
Extraordinary loss, net of tax - .20
Net income $ 1.72 $ 1.14
Diluted income per share:
Income per share before
extraordinary loss $ 1.69 $ 1.33
Extraordinary loss, net of tax - .20
Net income $ 1.69 $ 1.13
The accompanying notes are an integral part of these financial statements.
HomeSide, Inc. and Subsidiaries
STATEMENT OF CHANGES IN CONSOLIDATED STOCKHOLDERS' EQUITY
(Dollars in Thousands, Except Share Data)
<TABLE>
<CAPTION>
Notes
Total Additional Received in
Number of Common Stock Subscription Paid-in Payment for Retained
Shares(d) Class A Class B Class C Receivable Captial Capital Stock Earnings Total
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balance,
March 15, 1996(a) 19,457,724 $193 $- $97 $(200,000) $199,710 $ - $ - $ -
Subscription payment
associated with
acquisition of
BancBoston
Mortgage
Corporation 200,000 (1,850) 198,150
Issuance of common
stock associated
with acquisition of
Barnett Mortgage
Company(b) 15,562,344 156 160,135 160,291
Public offering of
common stock(c) 8,452,500 85 116,801 116,886
Net income 36,969 36,969
Balance,
February 28, 1997 43,472,568 434 - 97 - 476,646 (1,850) 36,969 512,296
Exercise of stock
options for
common stock 19,431 200 200
Repayment of notes
received in payment
for capital stock 1,850 1,850
Net income 74,787 74,787
Balance,
February 10, 1998 43,491,999 $434 $- $97 $ - $476,846 $ - $111,756 $589,133
</TABLE>
(a) Total number of shares includes 19,263,448 shares of Class A common
stock (par value $.01), 97,138 shares of Class B common stock (par value
$.01) and 97,138 shares of Class C common stock (par value $1.00).
(b) Total number of shares includes 15,562,344 shares of Class A common stock.
(c) Total number of shares includes 8,452,500 shares of Class A common
stock of which 97,138 shares of Class B common stock were converted to
Class A on a 1-for-1 basis.
(d) Number of shares reflects a 17-for-1 stock split resulting from the
initial public offering.
The accompanying notes are an integral part of these financial statements.
Homeside, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands)
<TABLE>
<CAPTION>
For the Period From For the Period From
March 1, 1997 to March 16, 1996 to
February 10, February 28,
1998 1997
<S> <C> <C>
Cash Flows (Used In) Provided by Operating
Activities:
Net income $ 74,787 $ 36,969
Adjustments to reconcile net income to net cash
(used in) provided by operating activities:
Amortization of mortgage servicing rights 210,200 155,827
Depreciation and amortization 10,439 9,015
Servicing losses on investor-owned loans 12,346 13,683
Deferred income tax expense 45,227 24,973
Capitalized servicing rights - (21,015)
Mortgage loans originated and purchased
for sale (23,975,752) (12,504,567)
Proceeds and principal repayments of
mortgage loans held for sale 23,540,371 12,572,217
Change in accounts receivable (82,121) (63,378)
Change in other assets and accounts payable
and accrued liabilities (83,250) (19,900)
Net cash (used in) provided by
operating activities (247,753) 203,824
Cash Flows Used in Investing Activities:
Purchase of premises and equipment, net (17,252) (4,929)
Acquisition of mortgage servicing rights (519,694) (475,729)
Net proceeds from (purchases of) risk management
contracts 137,393 (141,944)
Purchase of early pool buyout advances,
net of repayments (374,097) -
Acquisition of BancBoston Mortgage Corp.,
net of cash acquired - (133,392)
Acquisition of Barnett Mortgage Co.,
net of cash acquired - (106,244)
Net cash used in investing activities (773,650) (862,238)
Cash Flows Provided by Financing Activities:
Net borrowings 256,453 334,170
Issuance of notes payable 750,000 200,000
Payment of debt issue costs (7,017) (22,090)
Repayment of long-term debt (661) (70,567)
Repayment of stockholder loans 1,850 -
Proceeds from issuance of common stock 200 269,592
Issuance of bridge financing - 90,000
Repayment of bridge financing - (90,000)
Net cash provided by financing activities 1,000,825 711,105
Net (decrease) increase in cash and cash
equivalents (20,578) 52,691
Cash and cash equivalents at beginning of period 52,691 -
Cash and cash equivalents at end of period $ 32,113 $ 52,691
</TABLE>
The accompanying notes are an integral part of these financial statements.
Notes to Consolidated Financial Statements
1. BASIS OF PRESENTATION
HomeSide, Inc. ("HomeSide" or the "Company"), through its primary operating
subsidiary HomeSide Lending, Inc., is engaged in the mortgage banking
business and as such originates, purchases, sells and services mortgage
loans throughout the United States. The accompanying consolidated financial
statements of HomeSide include the accounts of HomeSide and its
subsidiaries, after elimination of all material intercompany balances and
transactions. Amounts of acquired companies have been included from the
date of acquisition.
The accompanying financial statements of HomeSide, Inc. have been prepared
for the period March 1, 1997 to February 10, 1998 and for the period March
16, 1996 to February 28, 1997 to coincide with the commencement of
operations of HomeSide and the merger as discussed in Note 2 below. The
financial statements do not reflect the effects of HomeSide's acquisition
by National Australia Bank Limited ("the National"). HomeSide will adopt a
fiscal year end of September 30 to conform to the fiscal year of the
National.
2. ORGANIZATION
On December 11, 1995, HomeSide was formed by an investor group, consisting
of Thomas H. Lee Company and Madison Dearborn Partners (collectively, the
"Investors"), and signed a definitive stock purchase agreement with The
First National Bank of Boston ("BankBoston") for the purpose of acquiring
certain assets and liabilities of the mortgage banking business owned by
BankBoston. BankBoston received cash and an ownership interest in HomeSide.
The transaction closed on March 15, 1996 and HomeSide began operations on
March 16, 1996 through its operating subsidiary, HomeSide Lending, Inc.
On May 31, 1996, Barnett Banks, Inc. ("Barnett") sold certain of its
mortgage banking operations, primarily its servicing portfolio, mortgage
servicing operations and proprietary mortgage banking software systems, to
HomeSide. Barnett received cash and an ownership interest in HomeSide. The
accompanying financial statements reflect the effects of both of these
acquisitions. For more information on these acquisitions, see Note 4. From
May 31, 1996 until the 1997 public offering of common stock, the Investors
as a group, BankBoston and Barnett each owned approximately one-third of
HomeSide. Following the public offering, the Investors as a group,
BankBoston and Barnett owned in the aggregate approximately 79% of the
outstanding common stock.
On January 9, 1998, Nations Bank Corporation acquired all the outstanding
common stock of Barnett Banks, Inc. (see Note 16).
On February 10, 1998, the National acquired all outstanding shares of the
common stock of HomeSide, Inc. As consideration, the National paid $27.825
per share for all of the outstanding common stock and paid $17.7 million
cash to retire all outstanding stock options. The total purchase price was
approximately $1.2 billion. The National paid for the purchase with
borrowed and available funds. The transaction was accounted for as a
purchase. As a result, all assets and liabilities were recorded at their
fair value on February 11, 1998, and the purchase price in excess of the
fair value of net assets acquired of $713.6 million was recorded as
goodwill. Following the transaction described above, the National now owns
100% of HomeSide's common stock and HomeSide, Inc. has become an indirect
wholly-owned subsidiary of the National.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities, the
disclosure of contingent liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Risk management of mortgage loan originations
HomeSide utilizes a risk management program to protect and manage the value
of its mortgage loans held for sale and mortgage commitment pipeline. As a
result, the Company is party to various derivative financial instruments to
reduce its exposure to interest rate risk. These financial instruments
primarily include mandatory forward delivery commitments, put and call
option contracts and treasury futures contracts. The Company uses these
financial instruments for the purposes of managing its resale pricing and
interest rate risks. These financial instruments are designated as hedges
to the extent they demonstrate a high degree of correlation with the
underlying hedged items. Accordingly, hedging gains and losses related to
this risk management program are deferred and recognized as a component of
the gain or loss on sale of the underlying mortgage loans or
mortgage-backed securities. Such gains and losses are included in mortgage
origination revenue. Hedge losses are recognized currently if the deferral
of such losses would result in mortgage loans held for sale and the
pipeline being valued in excess of their estimated net realizable value.
Premiums paid for purchased put and call option contracts are included in
other assets and amortized over the options' contract period as a component
of mortgage origination revenue. Unamortized premiums are recognized as a
component of the gain or loss on sale of loans at the earlier of the
expiration of the underlying contract or when exercise of the contract is
considered unlikely.
Risk management of mortgage servicing rights
Mortgage servicing rights permit HomeSide to receive a portion of the
interest coupon and fees collected from the mortgagor for performing
specified servicing activities. The mortgage notes underlying the mortgage
servicing rights permit the borrower to prepay the loan. As a result, the
value of the related mortgage servicing rights tends to diminish in periods
of declining interest rates and increase in value in periods of rising
rates. This tendency subjects HomeSide to substantial interest rate risk.
It also directly affects the volatility of reported earnings because
mortgage servicing rights are carried at the lower of amortized cost or
fair value. It is HomeSide's policy to mitigate and hedge this risk
through its risk management program.
The risk management instruments used by HomeSide have characteristics such
that they tend to increase in value as interest rates decline. Conversely,
these risk management instruments tend to decline in value as interest
rates rise. Accordingly, changes in value of these hedge instruments will
tend to move inversely with changes in value of HomeSide's mortgage
servicing rights.
Options on U.S. Treasury bond futures and U.S. Treasury bond futures have
been purchased by HomeSide to manage interest rate risk. When purchased,
the options and futures contracts are designated to a specific strata of
mortgage servicing rights. The risk management instruments are
marked-to-market and changes in market value are included as adjustments to
the basis of the related mortgage servicing right asset being hedged.
Deferred hedge gains and losses are amortized and evaluated for impairment
in the same manner as the related mortgage servicing rights. Correlation
between changes in the risk management contracts and changes in value of
HomeSide's mortgage servicing rights is assessed on a quarterly basis to
ensure that high correlation is maintained over the term of the hedging
program.
Mortgage loans
Mortgage loans held for sale are carried at the lower of aggregate cost or
fair value. Fair value is based on the contract prices at which the
mortgage loans will be sold or, if the loans are not committed for sale,
the current market price. Deferred hedge gains and losses on risk
management hedging instruments are included in the cost of the mortgage
loans held for sale for the purpose of determining the lower of aggregate
cost or fair value.
Mortgage loans held for investment are included in other assets and stated
at the lower of cost or fair value at the time the permanent investment
decisions are made. Discounts, if any, are amortized over the anticipated
life of the investment.
Loans are placed on non-accrual status when any portion of the principal or
interest is ninety days past due or earlier when concern exists as to the
ultimate collectibility of principal or interest. When loans are placed on
nonaccrual status, the related interest receivable is reversed against
interest income of the current period. Interest payments received on
nonaccrual loans are applied as a reduction of the principal balance when
concern exists as to the ultimate collection of principal; otherwise, such
payments are recognized as interest income. Loans are removed from
nonaccrual status when principal and interest become current and they are
anticipated to be fully collectible.
Mortgage servicing rights
The total cost of loans originated or acquired is allocated between the
mortgage servicing rights and the mortgage loans (without the servicing
rights) based on relative fair values. The value of servicing rights
acquired through bulk acquisitions is capitalized at cost.
Effective January 1, 1997, the Company adopted SFAS No. 125, "Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities." SFAS No. 125 supersedes SFAS No. 122 and is effective for
transfers and servicing of financial assets and extinguishments of
liabilities occurring after December 31, 1996. SFAS No. 125 is based on a
financial-components approach which focuses on control. Under the approach
required by this standard, after a transfer of financial assets (for
example, the sale of mortgage loans), an entity recognizes the financial
and servicing assets it controls and the liabilities it has incurred,
derecognizes financial assets when control has been surrendered and
derecognizes liabilities when extinguished. The capitalization,
amortization and impairment principles of SFAS No. 125 are substantially
consistent with the principles previously defined by SFAS No. 122, insofar
as they relate to the mortgage banking activities of HomeSide. Accordingly,
the impact of the adoption of SFAS No. 125 was not material to the
Company's financial statements.
Mortgage servicing rights are amortized in proportion to and over the
period of the estimated net servicing revenue. They are evaluated for
impairment by comparing the carrying amount of the servicing rights to
their fair value. Fair value is estimated based on the market prices of
similar servicing assets and on discounted anticipated future net cash
flows considering market prepayment estimates, historical prepayment rates,
portfolio characteristics, interest rates and other economic factors. For
purposes of measuring impairment, the mortgage servicing rights are
stratified by the predominant risk characteristics which include product
types of the underlying loans and interest rates of mortgage notes.
Impairment is recognized through a valuation reserve for each impaired
stratum and is included in amortization of mortgage servicing rights. An
analysis of HomeSide's mortgage servicing rights is included in Note 5.
Prior to January 1, 1997, mortgage servicing rights included excess
mortgage servicing rights, which represent the present value of servicing
fee income in excess of a normal servicing fee rate. Until the adoption of
SFAS No. 125 on January 1, 1997, when loans were sold, the estimated excess
servicing was recognized as income and amortized over the estimated
servicing period in proportion to the aggregate net cash flows from the
loans serviced. Remaining asset balances were evaluated for impairment
based on current estimates of future discounted cash flows. Such
write-downs were included in amortization of mortgage servicing rights.
Upon the adoption of SFAS No. 125, previously recognized excess mortgage
servicing rights were combined with and accounted for as mortgage servicing
rights.
Accounts receivable
Accounts receivable includes advances, consisting primarily of payments for
property taxes and insurance premiums, as well as principal and interest
remitted to investors before they are collected from mortgagors, made in
connection with loan servicing activities. Accounts receivable also
includes loans purchased from mortgage-backed securities serviced by
HomeSide for others and mortgage claims filed primarily with the FHA and
the VA.
Early pool buyout advances
Early pool buyout advances consist of delinquent government loans in
foreclosure process that have been purchased from pools. The program
reduces the unreimbursed interest expense that HomeSide incurs. The funding
of the purchases of these delinquent loans for the early pool buyout
program is recorded as interest expense. Interest income earned from the
guarantor agency during the foreclosure process is accrued to match the
funding expense incurred. Scheduled interest payments made to the investor
before the loans were purchased from the pool are recorded as early pool
buyout advances with a reserve for advances which will not ultimately be
collected.
Premises and equipment
Premises and equipment are stated at cost less accumulated depreciation.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets. Leasehold improvements are amortized over the
shorter of the estimated life of the improvement or the term of the lease.
Long-lived assets are evaluated regularly for the other-than-temporary
impairment. If circumstances suggest that their value may be impaired and
the write-down would be material, an assessment of recoverability is
performed prior to any write-down of the asset. Impairment, if any, is
recognized through a valuation allowance with a corresponding charge
recorded in the statement of income.
Goodwill
Net assets acquired in purchase transactions are recorded at fair value at
the inception of the date of acquisition. Goodwill, representing the excess
of the purchase price over the fair value of the net assets purchased, is
amortized on a straight-line basis over 15 years. Goodwill is reviewed
periodically for events or changes in circumstances that may indicate that
the carrying amounts of the assets are not recoverable on an undiscounted
cash flow basis.
Mortgage servicing fees
Mortgage servicing fees represent servicing and other fees earned for
servicing mortgage loans owned by investors. Servicing fees are generally
calculated on the outstanding principal balances of the loans serviced and
are recognized as income on an accrual basis.
HomeSide's mortgage servicing portfolio totaled $100.0 billion at February
10, 1998. Related custodial deposits are segregated in trust accounts,
principally held with depository institutions, and are not included in the
accompanying financial statements.
Interest expense
Interest expense is reduced by credits received from depository
institutions for custodial balances placed with such institutions.
Net mortgage origination revenue
Mortgage origination revenue includes gains and losses from sales of
mortgage loans and fees associated with the origination and purchase of
mortgage loans.
Servicing losses on investor-owned loans and foreclosure-related expenses
HomeSide records losses attributable to servicing FHA and VA loans for
investors. These amounts include actual losses for final disposition of
loans, foreclosure-related expenses, accrued interest for which payment is
uncollectible and estimates for potential losses based on HomeSide's
experience as a servicer of government loans.
A reserve for estimated servicing losses on investor-owned loans is
available for potential losses related to the mortgage servicing portfolio
and is included in accounts payable and accrued liabilities (see Note 7).
Income taxes
Current tax liabilities or assets are recognized through charges or credits
to the current tax provision for the estimated taxes payable or refundable
for the current year.
Deferred tax liabilities are recognized for temporary differences that will
result in amounts taxable in the future and deferred tax assets are
recognized for temporary differences and tax benefit carryforwards that
will result in amounts deductible or creditable in the future. Net deferred
tax liabilities or assets are recognized through charges or credits to the
deferred tax provision. A deferred tax valuation reserve is established if
it is more likely than not that all or a portion of the deferred tax
assets will not be realized. Changes in the deferred tax valuation reserve
are recognized through charges or credits to the deferred tax provision.
The effect of enacted changes in tax law, including changes in tax rates,
on deferred tax assets and liabilities is recognized in income in the
period that includes the enactment date.
Statement of cash flow
For purposes of reporting on the statement of cash flows, cash and cash
equivalents include cash and due from banks and interest-bearing deposits
with an original maturity of three months or less.
Income per share
The company adopted Statement of Financial Accounting Standard ("SFAS")
No. 128, "Earnings Per Share," as of December 31, 1997. Accordingly, all
prior period earnings per share amounts have been restated in accordance
with this standard.
Basic income per share amounts were computed by dividing net income by the
weighted average number of common shares outstanding. Diluted income per
share amounts were computed by dividing net income, adjusted for the effect
of assumed conversions, by the weighted average number of common shares
outstanding plus dilutive potential common shares calculated for stock
options outstanding using the treasury stock method.
New accounting standards
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive
Income." This statement establishes standards for reporting and display of
comprehensive income and its components in a full set of general-purpose
financial statements with the same prominence as other financial
statements. This statement is effective for fiscal years beginning after
December 15, 1997. Management expects that the impact of this statement on
the presentation of the financial statements of HomeSide will be immaterial.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information." This statement establishes
standards for the way that public business enterprises report information
about operating segments in annual financial statements and interim
financial reports issued to shareholders. It also establishes standards for
related disclosures about products and services, geographic areas, and
major customers. This statement is effective for fiscal years beginning
after December 15, 1997. Management expects that the impact of this
statement on the presentation of the financial statements of HomeSide will
be immaterial.
4. ACQUISITIONS
Acquisition of BancBoston Mortgage Corporation
On March 15, 1996, HomeSide acquired from BankBoston all of the outstanding
stock of BancBoston Mortgage Corporation ("BBMC"), which was subsequently
renamed HomeSide Lending, Inc. Certain assets and liabilities of BBMC were
retained by BankBoston, including BBMC's mortgage retail production
operations in New England.
HomeSide made cash payments of $139.5 million in cash and issued $86.8
million of common stock to BankBoston in consideration for certain assets,
net of assumed liabilities, and the stock of BBMC. Also, in connection with
the BBMC acquisition, the Investors purchased approximately 55% of the then
outstanding common stock of HomeSide for $107.2 million in cash.
Simultaneously, BankBoston paid approximately $1.0 million in cash for all
of HomeSide's class C non-voting common stock. In consideration of services
rendered to HomeSide with respect to the BBMC Acquisition, class B
non-voting stock valued at $1.0 million was issued to an investment bank.
Management purchased common stock for $4.1 million in cash, $1.9 million of
which was financed by loans from HomeSide. On May 31, 1996, HomeSide paid
an additional $5.0 million to BankBoston in connection with the closing of
the Barnett Mortgage Company ("BMC") acquisition. The transaction was
accounted for under the purchase method of accounting. The assets and
liabilities of BBMC were recorded at their fair values at March 16, 1996,
which totaled $1.5 billion and $1.2 billion, respectively. The total
purchase price paid for BBMC, including transaction costs and interest, was
$247.0 million. The excess of fair value of net assets acquired over cost
was $56.0 million and was allocated as a reduction to mortgage servicing
rights.
Acquisition of Barnett Mortgage Company
On May 31, 1996, HomeSide acquired from Barnett certain assets, net of
assumed liabilities, and the outstanding common stock of BMC (the "BMC
Acquisition"). Certain assets and liabilities of BMC were retained by
Barnett, including those assets of BMC and its subsidiaries (other than
Honolulu Mortgage Company, Inc.) associated withthe loan origination or
production activities.
HomeSide made cash payments of $228.0 million to Barnett in consideration
for certain assets, net of assumed liabilities, and the stock of BMC. In
connection with the BMC Acquisition, an affiliate of Barnett purchased
shares of HomeSide common stock for an aggregate purchase price of $118.0
million. Also in connection with the BMC Acquisition, BankBoston and the
Investors paid approximately $42.3 million in cash for additional shares of
HomeSide. The transaction was accounted for using the purchase method of
accounting and, accordingly, the results of operations of HomeSide include
BMC from the date of acquisition. The assets and liabilities of BMC were
recorded by HomeSide at their estimated fair values at May 31, 1996, which
totaled $764.8 million and $521.4 million, respectively. The total purchase
price paid for BMC, including transaction costs and interests, was $235.0
million. The excess of the purchase price over the fair value of net assets
acquired was $8.4 million and was allocated to goodwill and is being
amortized on a straight-line basis over 15 years.
The unaudited condensed pro forma statement of income for the period from
March 16, 1996 to February 28, 1997, assuming BMC had been acquired as of
March 16, 1996 is as follows (in millions, except per share data):
Pro Forma for
the Period From
March 16, 1996
to February 28,
1997
Net servicing revenue $ 167.3
Net interest revenue (4.5)
Net mortgage origination revenue 67.1
Other income 0.7
Total revenues 230.6
Expenses (157.5)
Income before income taxes
and extraordinary loss 73.1
Income tax expense 29.5
Income before extraordinary loss 43.6
Extraordinary loss (6.4)
Net income $ 37.2
Net income per share:
Basic $ 1.15
Diluted $ 1.14
The purchase accounting adjustments in the above pro forma statement of
operations are based on the actual purchase price and the amount of assets
and liabilities actually acquired. No adjustments have been made for
restructuring costs that might have been incurred or for cost efficiencies
that might have been realized during the period presented. Accordingly,
these pro forma results are not indicative of future results.
5. MORTGAGE SERVICING RIGHTS
An analysis of mortgage servicing rights is as follows (in thousands):
February 10, February 28,
1998 1997
Beginning balance $1,614,307 $ -
Additions, including BBMC
and BMC acquisitions 416,822 1,685,242
Sales of servicing (342) (25,745)
Net deferred hedge (gain)
loss, net of amortization (39,453) 110,637
Amortization (210,200) (155,827)
Ending balance $1,781,134 $1,614,307
At February 10, 1998, the net deferred hedge gain of $39.5 million consists
of the net deferred loss for the period from March 16, 1996 to February 28,
1997 of $110.6 million adjusted for gains of $195.2 million, losses of
$52.5 million, and amortization of $7.4 million. For the period from March
16, 1996 to February 28, 1997, the net deferred hedge loss of $110.6
million consists of gains of $133.3 million and losses of $254.9 million,
less $11.0 million of amortization.
6. PREMISES AND EQUIPMENT
Premises and equipment consist of the following (in thousands):
February 10, February 28,
1998 1997
Land $ 3,451 $ 3,451
Buildings and
building improvements 10,604 10,986
Furniture and equipment 22,464 15,739
Leasehold improvements 14,717 3,808
51,236 33,984
Accumulated depreciation
and amortization (9,254) (4,469)
Ending balance $ 41,982 $ 29,515
7. RESERVE FOR ESTIMATED SERVICINGLOSSES ON INVESTOR-OWNED LOANS
An analysis of the reserve for estimated servicing losses on investor-owned
loans is as follows (in thousands):
For the Period For the Period
March 1, 1997 March 16, 1996
to February 10, to February 28,
1998 1997
Beginning balance $ 21,650 $ 11,100
Provision for servicing losses
on investor-owned loans 12,346 13,683
Charge-offs (12,747) (10,295)
Recoveries 401 60
Additions from
acquisition of BMC - 7,102
Ending balance $ 21,650 $ 21,650
8. NOTES PAYABLE
Notes payable consist of the following (in thousands):
Weighted Average
Interest Rate
Total At Period During
Outstanding End the Period
Bank line of credit,
February 10, 1998 $2,074,956 6.00% 6.04%
Bank line of credit,
February 28, 1997 1,778,496 5.65% 5.83%
Short-term
credit facilities 40,007 8.25% 8.25%
Total,
February 28, 1997 $1,818,503
HomeSide borrows funds on a demand basis from an independent syndicate of
banks under a $2.5 billion credit facility which, at the request of
HomeSide, may be increased to $3.0 billion. The line of credit is used to
provide funds for HomeSide's business of originating, acquiring and
servicing mortgage loans. The line of credit includes both a warehouse
credit facility, which is limited to 98% of the fair value of eligible
mortgage loans held for sale, and a servicing-related facility, which is
capped at $950.0 million. On February 14, 2000, the line of credit will
terminate. The credit agreement contains covenants that impose limitations
and restrictions on HomeSide, including the maintenance of certain net
worth and ratio requirements. Under certain circumstances set forth in the
credit agreement, borrowings under the agreement become collateralized by
substantially all of HomeSide's assets. HomeSide is in compliance with all
requirements included in the credit agreement. At February 10, 1998 and
February 28, 1997, $2.1 billion and $1.8 billion, respectively, was
outstanding under the credit line. Amounts outstanding at February 10, 1998
and February 28, 1997 under the bank line of credit are comprised of a
warehouse credit facility of $1.2 billion and $0.8 billion and a
servicing-related credit facility of $0.9 billion and $0.9 billion,
respectively. The amount of the unused bank line of credit was $0.4 billion
and $0.7 billion as of February 10, 1998 and February 28, 1997,
respectively.
Borrowings under the bank line of credit bear interest at rates per annum,
based on, at HomeSide's option (A) the highest of (i) the lead bank's prime
rate, (ii) the secondary market rate of certificates of deposit plus 100
basis points and (iii) the federal funds rate in effect from time to time
plus 0.5% or (B) various rates based on federal fund rates.
On January 15, 1997, HomeSide entered into a short-term credit facility
with a bank in a maximum aggregate principal amount of $85.0 million. On
March 14, 1997, HomeSide entered into another short-term credit facility in
an aggregate principal amount of $100.0 million. The facilities each
expired on May 1, 1997 and amounts borrowed under these lines were repaid.
9. LONG-TERM DEBT
Long-term debt consists of the following (in thousands):
February 10, February 28,
1998 1997
Medium-term notes $750,000 $ -
11.25% Notes 130,000 130,000
Mortgage note payable 20,466 21,128
Total $900,466 $151,128
Medium-term notes
As of February 10, 1998, $650.0 million of the outstanding medium-term
notes had been effectively converted by interest rate swap agreements to
floating-rate notes. The weighted average borrowing rates on medium-term
borrowings issued for the period from March 1, 1997 to February 10, 1998,
including the effect of the interest rate swap agreements, was 6.251% . Net
proceeds from the issuance were primarily used to reduce the amounts
outstanding under the bank credit agreement. Amounts were subsequently
reborrowed under the bank credit facility to fund the early pool buyout
program.
As of February 10, 1998, outstanding medium-term notes issued by HomeSide
Lending, Inc., under a $1.0 billion shelf registration statement were as
follows (in thousands):
Stated
Outstanding Interest
Issue Date Balance Rate Maturity Date
May 20, 1997 $250,000 6.890% May 15, 2000
June 30, 1997 200,000 6.883% June 30, 2002
June 30, 1997 40,000 6.820% July 2, 2001
July 1, 1997 15,000 6.860% July 2, 2001
July 31, 1997 200,000 6.818% August 1, 2004
September 15, 1997 45,000 6.770% September 17, 2001
Total $750,000
As of February 10, 1998, $250.0 million was available for future issuances
under the shelf registration. On March 6, 1998, HomeSide Lending, Inc.
filed an amendment increasing the shelf registration to $1.5 billion.
11.25% Notes
On May 14, 1996, HomeSide issued $200.0 million of 11.25% notes ("Notes")
maturing on May 15, 2003 and paying interest semiannually in arrears on May
15 and November 15 of each year, commencing on November 15, 1996. The Notes
are redeemable at the option of HomeSide, in whole or in part, at any time
on or after May 15, 2001, at certain redemption prices. The indenture
contains covenants that impose limitations and restrictions on HomeSide,
including the maintenance of certain net worth and ratio requirements. In
addition, the Notes are secured by a second priority pledge of the common
stock of HomeSide Lending, Inc. HomeSide is in compliance with all net
worth and ratio requirements contained in the indenture relating to the
notes. The amount of Notes outstanding at February 10, 1998 is $130.0
million.
On February 5, 1997, the Company issued 8,452,500 shares of common stock to
the public at $15 per share. A portion of the proceeds from the offering
was used to pre-pay $70.0 million of the Notes at a premium of $7.9
million. In connection with the early repayment of the Notes, HomeSide
wrote off a portion of the unamortized debt issuance costs related to the
Notes and incurred a prepayment penalty equal to one year's interest on the
Notes retired. The loss amounted to $6.4 million, net of tax, and was
recorded as an extraordinary item. The remaining proceeds were used to
reduce amounts outstanding under the bank line of credit.
Mortgage note payable
HomeSide assumed a mortgage note payable that is due in 2017 and bears
interest at a stated rate of 9.50%. HomeSide's main office building is
pledged as collateral. A purchase accounting premium was recorded in
connection with HomeSide assuming the mortgage note payable.
Principal payments due on long-term debt at February 10, 1998 are as
follows (in thousands):
Fiscal Year
1999 $ 256
2000 250,281
2001 100,309
2002 200,340
2003 130,373
Thereafter 211,724
Unamortized purchase accounting premium 7,183
Total $900,466
10. INCOME TAXES
The Company files a consolidated federal income tax return. All companies
included in the consolidated federal income tax return are jointly and
severally liable for any tax assessments based on such consolidated return.
Components of the provision for income taxes before the effect of the tax
benefit associated with the early extinguishment of debt were as follows
(in thousands):
For the For the
Period From Period From
March 1, 1997 March 16, 1996
to February 10, to February 28,
1998 1997
Current:
Federal $ 2,589 $ -
State - -
2,589 -
Deferred
Federal 38,043 23,756
State 7,184 5,517
45,227 29,273
Total $47,816 $29,273
The following is a reconciliation of the statutory federal income tax rate
to the effective income tax rate as reflected in the consolidated
statements of income.
For the For the
Period From Period From
March 1, 1997 March 16, 1996
to February 10, to February 28,
1998 1997
Statutory federal
income tax rate 35.0% 35.0%
State income and franchise
taxes, net of federal tax effect 3.5% 4.0%
Other .5% 1.0%
Effective income tax rate 39.0% 40.0%
For the period from March 16, 1996 to February 28, 1997, the extraordinary
loss on the early extinguishment of debt is stated net of the related tax
benefit of $4.3 million at an effective tax rate of 40%.
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities are
presented below (in thousands):
February 10, February 28,
1998 1997
Deferred tax assets:
Net operating loss
carryforwards $ 45,446 $ 53,355
Alternative minimum tax
credit carry forward 2,589 -
Loss reserves 25,404 17,563
Hedge activities 30,754 -
Other assets 4,879 12,087
Total gross deferred
tax assets $109,072 $ 83,005
Deferred tax liabilities:
Mortgage servicing fees $267,871 $207,278
Other liabilities 16,379 5,678
Total gross deferred tax liabilities 284,250 212,956
Net deferred tax liability $175,178 $129,951
In assessing the realizability of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the deferred
tax assets will not be realized. The ultimate realization of deferred tax
assets is dependent upon the generation of future taxable income during the
periods in which these temporary differences become deductible. Management
considers the scheduled reversal of deferred tax liabilities, projected
future taxable income and tax planning strategies in making this
assessment. No valuation allowance was recorded at February 10, 1998 or
February 28, 1997.
The Company has consolidated tax net operating loss carryforwards at
February 10, 1998. These carryforwards expire in the years 2002 to 2012.
11. LEASE COMMITMENTS
HomeSide leases office facilities and equipment under noncancelable leases
that include renewal options and escalation clauses which extend into 2004.
Rental expense for leases of office facilities and equipment was $4.5
million and $3.9 million for the period March 1, 1997 to February 10, 1998
and for the period March 16, 1996 to February 28, 1997, respectively.
HomeSide's minimum future lease commitments are as follows (in thousands):
Fiscal Year
1999 $2,124
2000 984
2001 800
2002 710
2003 625
Thereafter 700
Total $5,943
12. STOCKHOLDERS' EQUITY
On March 15, 1996, in connection with the BBMC acquisition discussed in
Note 4, the Investors contributed cash of $107.3 million for 10,863,293
shares of common stock. Also on March 15, 1996, HomeSide issued 8,427,155
shares of common stock and cash to BankBoston in exchange for BBMC. The
common stock issued to BankBoston was assigned a value of $86.8 million.
Simultaneously with the closing of the BBMC acquisition, HomeSide also
issued 97,138 shares of its class B non-voting common stock to an
investment bank in consideration of services rendered to HomeSide in
connection with the BBMC acquisition. BankBoston also paid $1.0 million in
cash for 97,138 shares of HomeSide's class C non-voting common stock.
BankBoston then sold the class C shares to an unaffiliated third party.
On May 31, 1996, in connection with the BMC Acquisition discussed in Note
4, BankBoston, the Investors and certain directors and executive managers
of HomeSide contributed a total of approximately $46.0 million in cash for
4,100,944 shares of common stock. Approximately, $1.9 million of the amount
contributed by management was financed by HomeSide and, accordingly, was
reported as a reduction of stockholders' equity. Also on May 31, 1996,
HomeSide issued 11,461,400 shares of common stock and cash to Barnett in
exchange for BMC. The common stock issued to Barnett was assigned a value
of $118.0 million.
On February 5, 1997, HomeSide issued 8,452,500 shares of common stock to
the public at $15 per share. The stock was listed on the New York Stock
Exchange under the symbol HSL. The transaction resulted in net proceeds to
the Company of $116.9 million. A portion of the proceeds from the sale was
to pre-pay $70.0 million of Notes at a pre-tax premium of $7.9 million. Pro
forma earnings per share giving effect for the public offering as of the
date of the issuance of the Notes and the related use of proceeds to repay
$70.0 million of the Notes and to reduce the bank line of credit borrowings
was $1.27 per share. Upon completion of the issue, all shares of class B
non-voting common stock converted automatically, on a 1-for-1 basis, into
shares of common stock.
On December 31, 1997, HomeSide issued 19,431 shares of common stock at
$10.29 per share for stock options exercised under the HomeSide 1996
Employee Stock Option Plan.
13. SUPPLEMENTAL CASH FLOW INFORMATION
During the period March 16, 1996 to February 28, 1997, HomeSide extended
loans totaling $1.9 million to certain members of management in connection
with their purchase of shares of common stock. These loans were repaid in
fiscal 1998 in anticipation of HomeSide's acquisition by the National.
In connection with the acquisitions of BBMC and BMC, HomeSide recorded
non-cash assets and assumed liabilities, including fair value adjustments,
of approximately $2.3 billion and $1.7 billion in 1998 and 1997,
respectively.
HomeSide paid $70.5 million and $81.8 million of interest during the period
from March 1, 1997 to February 10, 1998 and March 16, 1996 to February 28,
1997, respectively. HomeSide paid taxes totaling $0.3 million and received
$51.7 million cash for reinstated loans from early pool buyout advances for
the period from March 1, 1997 to February 10, 1998.
14. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
Fair value estimates are made as of a specific point in time based on the
characteristics of the financial instruments and the relevant market
information. Where available, quoted market prices are used. In other
cases, fair values are based on estimates using other valuation techniques,
such as discounting estimated future cash flows using a rate commensurate
with the risks involved or other acceptable methods. These techniques
involve uncertainties and are significantly affected by the assumptions
used and the judgments made regarding risk characteristics of various
financial instruments, prepayments, discount rates, estimates of future
cash flows, future anticipated loss experience and other factors. Changes
in assumptions could significantly affect these estimates. Derived fair
value estimates cannot be substantiated by comparison to independent
markets and, in many cases, could not be realized in an immediate sale of
the instrument. Also because of differences in methodologies and
assumptions used to estimate fair value, the Company's fair values should
not be compared to those of other companies.
Fair value estimates are based on existing financial instruments without
attempting to estimate the value of anticipated future business and the
value of assets and liabilities that are not considered financial
instruments. Accordingly, the aggregate fair value amounts presented do not
represent the underlying value of the Company. For certain assets and
liabilities, the information required is supplemented with additional
information relevant to an understanding of the fair value.
The methods and assumptions used to estimate the fair values of each class
of financial instruments are as follows:
Cash and cash equivalents
The carrying amount reported in the balance sheet approximates fair value.
Mortgage loans held for sale
Fair values are based on the estimated value at which the loans could be
sold in the secondary market. These loans are priced to be sold with
servicing rights retained, as this is the Company's normal business
practice.
Accounts receivable, early pool buyout advances and accounts payable
Carrying amounts are considered to approximate fair value. Accounts payable
do not include the effects of additional costs incurred and additional
liabilities assumed in connection with HomeSide's acquisition by the
National.
Risk management contracts
Fair values are estimated based on actual market quotes or option models.
Notes payable
The carrying amount of the notes payable reported in the balance sheet
approximates its fair value due to the short-term nature of the borrowings
under the credit agreements.
Long-term debt
Fair value of long-term debt is estimated by discounting estimated future
cash flows using a rate consistent with the Company's current borrowing
rate as adjusted for the effects of certain prepayment penalties.
Commitments to originate mortgage loans
Fair value is estimated using quoted market prices for securities backed by
similar loans adjusted for differences in loan characteristics.
Forward contracts to sell mortgages
Forward contracts to sell mortgages, which represent legally binding
agreements to sell loans to permanent investors at a specified price or
yield, are valued using market prices for securities backed by similar
loans and are reflected in the fair values of the mortgages held for sale,
to the extent that these commitments relate to mortgage loans already
originated, or of the related commitments to extend credit.
Options on mortgage-backed securities and U.S. treasury bond futures
The fair values of options are estimated based on actual market quotes. In
some instances, quoted prices for the underlying loans or valuations
determined by option models are used.
Interest rate swaps
The fair values of interest rate swaps are estimated based on dealer quotes.
Fair Value
The fair values of the Company's financial instruments are as follows (in
thousands):
February 10, 1998 February 28, 1997
Carrying Fair Carrying Fair
Amount Value Amount Value
Assets
Cash and cash equivalents $ 32,113 $ 32,113 $ 52,691 $ 52,691
Mortgage loans held for sale 1,292,403 1,296,685 805,274 806,432
Accounts receivable and early pool
buyout advances 601,391 601,391 157,518 157,518
Risk management contracts for
mortgage servicing rights 43,947 43,947 45,212 45,212
Liabilities
Notes payable 2,074,956 2,074,956 1,818,503 1,818,503
Long-term debt 900,466 929,893 151,128 151,128
Accounts payable and accrued
liabilities 143,870 143,870 140,304 140,304
Off-Balance Sheet(1)
Commitments to originate mortgage
loans - (1,510) - (2,805)
Mandatory forward contracts to sell
mortgages - (3,621) - 3,588
Mandatory forward contracts to sell
U.S. treasuries - 65 - 7
Options on mortgage-backed securities 3,543 5,890 2,025 1,741
Options on U.S treasury bond futures 743 604 321 (147)
Interest rate swaps - 13,496 - -
(1) Parenthesis denote a liability
Fair value estimates are made as of a specific point in time, based on
relevant market data and information about the financial instrument. These
estimates do not reflect any premium or discount that could result from
offering for sale the Company's entire holding of a particular financial
instrument. Because no active market exists for some portion of the
Company's financial instruments, fair value estimates are based on
judgments regarding future expected loss experience, current economic
conditions, current interest rates and prepayment trends, risk
characteristics of various financial instruments and other factors.
These estimates are subjective in nature and involve uncertainties and
matters of significant judgment and, therefore, cannot be determined with
precision. Changes in any of these assumptions used in calculating fair
value would also significantly affect the estimates. Further, the fair
value estimates were calculated as of February 10, 1998 and February 28,
1997. Subsequent changes in market interest rates and prepayment
assumptions could significantly change the fair value.
15. RISK MANAGEMENT AND OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
As discussed in Note 3, HomeSide utilizes risk management financial
instruments to manage interest rate risk related to the value of its
mortgage servicing rights. A summary of HomeSide's position in risk
management financial instruments at February 10, 1998 and February 28, 1997
is included on the following page.
The fair value of HomeSide's risk management contracts is based on quoted
market prices of the underlying instruments at February 10, 1998 and
February 28, 1997. The notional amounts represent the par value of the
underlying U.S. Treasury bonds. However, the notional amounts are not
recognized in the balance sheet and should not be considered as a measure
of credit risk or future cash requirement.
The amount of the risk management contracts maintained depends on factors
such as interest rates, interest volatility and growth in the mortgage
servicing portfolio. HomeSide is subject to market risk to the extent that
interest rates fluctuate; however, the purpose of the risk management
contracts is to hedge the value of the mortgage servicing rights portfolio.
HomeSide's risk management financial instruments qualify as hedges, and
gains or losses on the risk management instruments correlate to movements
in the value of the mortgage servicing rights. Cash requirements for
HomeSide's option contracts are limited to premiums paid. Cash requirements
for futures contracts are managed based on limits established by HomeSide's
risk management committee. HomeSide's credit risk on its risk management
contracts is limited because the contracts are traded on a national
exchange which guarantees counterparty performance.
As discussed in Note 3, HomeSide purchases financial instruments and enters
into financial agreements with off-balance sheet risk in the normal course
of business through the origination and selling of mortgage loans and as
part of its risk management programs. These instruments involve, to
varying degrees, elements of credit and interest rate risk. Credit risk
is the possibility that a loss may occur if a counterparty to a transaction
fails to perform according to the terms of the contract. Interest rate risk
is the possibility that a change in interest rates will cause the value of
a financial instrument to decrease or become more costly to settle.
Options and forward contracts
The notional amount of the options and forward contracts used in HomeSide's
risk management programs is the amount upon which interest and other
payments under the contract are based and is generally not exchanged.
Therefore, the notional amounts should not be taken as the measure of
credit risk or a reflection of future cash requirements. The risk
associated with options and forwards is the exposure to current and
expected market movements in interest rates and the ability of the
counterparties to meet the terms of the contracts. The cash requirements
associated with these options and forward contracts, aside from the initial
purchase price, are minimal. These contracts generally require future
performance on the part of the counterparty upon exercise of the option or
execution of the forward contract by HomeSide.
HomeSide is exposed to credit loss in the event of nonperformance by the
counterparties to the various instruments. HomeSide controls credit and
market risk associated with interest rate products by establishing and
monitoring limits with counterparties as to the types and degree of risks
that may be undertaken. HomeSide's exposure to credit risk in the event of
default by the counterparties for the options is $57.0 million at February
10, 1998.
HomeSide's exposure to credit risk in the event of default by the
counterparty for mandatory forward commitments to sell mortgage loans is
the difference between the contract price and the current market price,
offset by any available margins retained by HomeSide or an independent
clearing agent, which totaled $30.2 million at February 10, 1998. The
amount of credit risk as of February 10, 1998, if all counterparties failed
completely and if the margins, if any, retained by HomeSide or an
independent clearing were to become unavailable, was approximately $4.4
million for mandatory forward commitments of mortgage-backed securities.
The following is a summary of HomeSide's notional amounts and fair values
of interest rate products (in thousands):
February 10, 1998 February 28, 1997
Notional Fair Notional Fair
Amount Value(1) Amount Value(1)
Purchased commitments to sell mortgage
loans:
Mandatory forward contracts $2,847,668 $(3,556) $1,445,345 $3,588
Options on mortgage-backed securities 835,000 5,890 755,000 1,741
Options on U.S. treasury bond futures 145,000 604 140,000 (147)
Risk management contracts on mortgage
servicing rights:
Options on U.S. treasury bond futures 4,440,100 50,487 3,572,300 45,212
Futures contracts on U.S. treasury bonds 2,121,800 (6,540) - -
(1) Fair value represents the amount at which a given instrument could be
exchanged in an arms length transaction with a third party as of the
balance sheet date.
Commitments to originate mortgage loans
HomeSide regularly enters into commitments to originate and purchase
mortgage loans at a future date subject to compliance with stated
conditions. Commitments to originate mortgage loans have off-balance sheet
risk to the extent HomeSide does not have matching commitments to sell
loans, which exposes HomeSide to lower of cost or market valuation
adjustments in a rising interest rate environment. Additionally, the
extension of a commitment, which is subject to HomeSide's credit review and
approval policies, gives rise to credit exposure when certain borrowing
conditions are met and the loan is made. Until such time, it represents
only potential exposure. The obligation to lend may be voided if the
customer's financial condition deteriorates or if the customer fails to
meet certain conditions. Commitments to originate mortgage loans do not
necessarily reflect future cash requirements since some of the commitments
will not be drawn upon before expiration. Commitments to originate mortgage
loans totaled $3.2 billion and $2.7 billion at February 10, 1998 and
February 28, 1997, respectively.
Mortgage loans sold with recourse
HomeSide sells mortgage loans with recourse to various investors and
retains the servicing rights and responsibility for credit losses on these
loans. The total outstanding balance of loans sold with recourse does not
necessarily represent future cash outflows. The total outstanding principal
balance of loans sold with recourse was $16.7 million and $14.2 million at
February 10, 1998 and February 28, 1997, respectively.
For five years following the May 31, 1996 acquisition of BMC, Barnett is
obligated to repurchase or reimburse HomeSide for any credit losses related
to $101.0 million of loans serviced with recourse.
Servicing commitment to investors
HomeSide is required to submit to certain investors, primarily GNMA,
guaranteed principal and interest payments from the underlying mortgage
loans regardless of actual collections.
Purchase mortgage servicing rights commitments
HomeSide routinely enters into commitments to purchase mortgage servicing
rights associated with mortgages originated by third parties, subject to
compliance with stated conditions. These commitments to purchase mortgage
servicing rights correspond to mortgage loans having an aggregate loan
principal balance of approximately $0.6 billion and $2.3 billion at
February 10, 1998 and February 28, 1997, respectively.
Geographical concentration of credit risk
HomeSide is engaged in business nationwide and has no material
concentration of credit risk in any geographic region.
16. OTHER RELATED PARTY TRANSACTIONS
HomeSide entered into an agreement with BankBoston and Barnett for certain
corporate support services. For the period from March 1, 1997 to February
10, 1998, HomeSide paid BankBoston and Barnett approximately $5.2 million
and $0.5 million, respectively, for these services. For the period from
March 16, 1996 to February 28, 1997, HomeSide paid BankBoston and Barnett
approximately $2.5 million and $0.9 million, respectively, for these
services.
HomeSide purchases mortgage loans eligible for sale from BankBoston and
Barnett. For the period from March 1, 1997 to February 10, 1998, HomeSide
paid approximately $5.3 million and $45.4 million, respectively, to
BankBoston and Barnett for the purchase of mortgage servicing rights. For
the period from March 1, 1996 to February 28, 1997, HomeSide paid
approximately $4.7 million and $27.6 million, respectively, to BankBoston
and Barnett for the purchase of mortgage servicing rights. HomeSide also
purchases the mortgage servicing rights to the mortgage loans BankBoston
and Barnett hold in their portfolios. For the period from March 1, 1997 to
February 10, 1998, HomeSide purchased mortgage servicing rights for loans
retained by BankBoston and Barnett totaling approximately $1.6 million and
$9.5 million, respectively. For the period from March 16, 1996 to February
28, 1997 HomeSide purchased mortgage servicing rights for loans retained by
BankBoston and Barnett totaling approximately $1.3 million and $8.2
million, respectively. The BankBoston and Barnett purchases represent 2.8%
and 20.4%, respectively, of the Company's total production for the period
from March 1, 1997 to February 10, 1998. For the period from March 16, 1996
to February 28, 1997, the BankBoston and Barnett purchases represented 2.8%
and 16.0%, respectively, of the Company's total production.
HomeSide services residential mortgage loans held in portfolio by
BankBoston and Barnett. The servicing fees paid by BankBoston and Barnett
to HomeSide are market-based fees consistent with the fees charged by
HomeSide to other investors. For the period from March 1, 1997 to February
10, 1998, BankBoston and Barnett paid $3.8 million and $29.1 million in
servicing fees, respectively. For the period from March 16, 1996 to
February 28, 1997, BankBoston and Barnett paid $5.3 million and $23.6 million
in servicing fees, respectively.
As a result of NationsBank Corporation's acquisition of Barnett Banks,
Inc., the Company agreed to release Barnett from a five year agreement to
sell certain of its mortgage loans to HomeSide. In consideration, the
Company received the right to purchase $5.0 billion in mortgage servicing
rights, an increase in the weighted average servicing fee for Barnett
portfolio loans currently serviced, and will receive $3.0 million cash in
June 1998.
As of February 28, 1997, certain members of management owed $1.9 million
related to loans granted to purchase shares of the Company's common stock.
During the period from March 1, 1997 to February 10, 1998, all related
loans were repaid.
17. STOCK BASED COMPENSATION
HomeSide established the HomeSide 1996 Employee Stock Option Plan under
which 582,845 shares of Common Stock are reserved for issuance. Options
issued under the plan may be either non-qualified or incentive stock
options. The options will be exercisable at such prices as are set by
HomeSide's board of directors.
HomeSide has also adopted a 1996 Time Accelerated Restricted Stock Option
Plan under which 1,165,724 shares of Common Stock are reserved for
issuance. Options granted under this plan will be non-qualified and will be
exercisable at such prices as are set by the board of directors. Options
granted under the plan will vest nine years from the date of grant. Vesting
will accelerate upon the achievement of certain performance criteria.
There was no compensation expense associated with the above option grants
since the exercise price was equal to the estimated fair value of the
Common Stock at the date of grant.
Options outstanding and the activity for the period from March 1, 1997 to
February 10, 1998 and for the period from March 16, 1996 to February 28,
1997 are presented below:
For the Period From For the Period From
March 1, 1997 to March 16, 1996 to
February 10, 1998 February 28, 1997
Weighted Weighted
Options Average Price Options Average Price
Employee stock option plans:
Outstanding at beginning of year 1,321,716 $10.294 - -
Granted 415,000 20.386 1,341,198 $10.294
Exercised 19,431 10.294 - -
Forfeited - - 19,482 $10.294
Outstanding at period end 1,717,285 $12.733 1,321,716 $10.294
Options exercisable at period end 244,912 $10.294 - -
Weighted average fair value of
options granted during the period $11.06 $3.21
The company applies the provisions of Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees," in accounting for its
stock option plans and has adopted the disclosure-only option under SFAS
No. 123, "Accounting for Stock-Based Compensation." If the company had
adopted the accounting provisions of SFAS 123 and recognized expense for
the fair value of employee stock options granted during the period from
March 1, 1997 to February 10, 1998 and the period from March 16, 1996 to
February 28, 1997, over the vesting life of the options, pro forma net
income before extraordinary loss would be as indicated below (dollars in
thousands, except share data):
<TABLE>
<CAPTION>
As Reported Pro Forma
For the Period from For the Period from For the Period from For the Period from
March 1, 1997 to March 16, 1996 to March 1, 1997 to March 16, 1996 to
February 10, 1998 February 28, 1997 February 10, 1998 February 28, 1997
<S> <C> <C> <C> <C>
Net income $74,787 $36,969 $74,158 $36,692
Basic income per share $ 1.72 $ 1.14 $ 1.71 $ 1.14
Diluted income per share $ 1.69 $ 1.13 $ 1.67 $ 1.12
</TABLE>
In determining the pro forma disclosures above, the fair value of options
granted was estimated on the date of grant using the Black-Scholes
option-pricing model. The Black-Scholes model was developed to estimate the
fair value of traded options, which have different characteristics than
employee stock options, and changes to the subjective assumptions used in
the model can result in materially different fair value estimates. The
weighted-average grant date fair values of the options granted during the
period from March 1, 1997 to February 28, 1998 and the period from March
16, 1996 to February 28, 1997 were based on the following assumptions:
<TABLE>
<CAPTION>
Risk-Free Interest Rates Dividend Yield
For the Period From For the Period From For the Period From For the Period From
March 1, 1997 to March 16, 1996 to March 1, 1997 to March 16, 1996 to
February 10, 1998 February 28, 1997 February 10, 1998 February 28, 1997
<S> <C> <C> <C> <C>
1996 Time accelerated restricted
option plan 6.31 to 6.97% 6.61 to 6.98% 0.0 0.0
1996 Employee stock option plan 6.27 to 6.93% 6.50 to 6.86% 0.0 0.0
</TABLE>
<TABLE>
<CAPTION>
Expected Lives Volatility
For the Period From For the Period From For the Period From For the Period From
March 1, 1997 to March 16, 1996 to March 1, 1997 to March 16, 1996 to
February 10, 1998 February 28, 1997 February 10, 1998 February 28, 1997
<S> <C> <C> <C> <C>
1996 Time accelerated restricted
option plan 8.5 years 8.5 years .35 .35
1996 Employee stock option plan 7.5 years 7.5 years .35 .35
</TABLE>
Compensation expense under the fair value-based method is recognized over
the vesting period of the related stock options. Accordingly, the pro forma
results of applying SFAS No. 123 may not be indicative of future amounts.
The following table summarizes information about stock options outstanding
at February 10, 1998:
Outstanding Exercisable
Average Average
Average Exercise Exercise
Shares Life Price Shares Price
1,302,285 7.3 $10.29 244,912 $10.29
10,000 8.2 15.75 - -
405,000 8.2 20.50 - -
1,717,285 7.5 $12.73 244,912 $10.29
In connection with the National merger, vesting of all outstanding stock
options was accelerated or the related options were canceled.
18. EARNINGS PER SHARE
In February 1997, the FASB issued SFAS No. 128, "Earnings per Share." This
Statement establishes standards for computing and presenting earnings per
share (EPS) and applies to entities with publicly held common stock or
potential common stock. It replaces the presentation of primary EPS with a
presentation of basic EPS and requires dual presentation of basic and
diluted EPS on the face of the income statement and a reconciliation of the
numerator and denominator of the diluted EPS computation.
This statement is effective for financial statements issued for periods
ending after December 15, 1997, including interim periods. The Company is
required to retroactively adopt this standard when reporting its operating
results for periods after December 15, 1997. Income per share after
extraordinary loss and weighted average shares are as follows:
For the Period From
March 1, 1997 to February 10, 1998
Per-Share
Income Shares Amount
Basic Earnings per Share
Net income available to common
stockholders $74,787,000 43,474,864 $ 1.72
Option issued (See Note 17) - 890,959
Diluted Earnings per Share
Income available to
common stockholders
plus assumed conversions $74,787,000 44,365,823 $ 1.69
For the Period From
March 16, 1996 to February 28, 1997
Per-Share
Income Shares Amount
Basic Earnings per Share
Net income available to common
stockholders $36,969,000 32,288,313 $ 1.14
Options issued (See Note 17) - 399,467
Diluted Earnings per Share
Income available to
common stockholders
plus assumed conversions $36,969,000 32,687,780 $ 1.13
19. CONTINGENCIES
HomeSide, along with its subsidiaries, is a defendant in a number of legal
proceedings arising in the normal course of business. HomeSide, in
management's estimation, has recorded adequate reserves in the financial
statements for pending litigation. Management, after reviewing all actions
and proceedings pending against or involving HomeSide, considers that the
aggregate liabilities or loss, if any, resulting from the final outcome of
these proceedings will not have a material effect on the financial
position, results of operations or liquidity of HomeSide.
20. EMPLOYEE BENEFITS
HomeSide offers a 401(k) defined contribution benefit plan in which
employees may contribute a portion of their compensation. Substantially all
employees are eligible for participation in the plan. The Company matches
100% of amounts contributed up to 4% of an employee's compensation.
Further, the Company may contribute additional amounts at its discretion.
Total expense related to the benefit plan was approximately $3.0 million
and $4.0 million for the period from March 1, 1997 to February 10, 1998 and
the period from March 16, 1996 to February 28, 1997, respectively.
21. QUARTERLY FINANCIAL DATA (Unaudited)
<TABLE>
<CAPTION>
For the Period From For the Three For the Three For the Three
December 1, 1997 to Months Ended Months Ended Months Ended
February 10, November 30, August 31, May 31,
(In Thousands, Except Share Data) 1998 1997 1997 1997
<S> <C> <C> <C> <C>
Revenue $62,523 $72,131 $72,746 $67,458
Expenses 36,254 38,537 39,733 37,731
Provision for income taxes 10,245 13,102 12,875 11,594
Net income $16,024 $20,492 $20,138 $18,133
Net income per share(1)
Basic $ 0.37 $ 0.47 $ 0.46 $ 0.42
Diluted $ 0.36 $ 0.46 $ 0.46 $ 0.41
Weighted average shares
outstanding(1)
Basic 43,483,633 43,472,568 43,472,568 43,472,568
Diluted 44,425,067 44,350,533 44,132,639 43,968,011
</TABLE>
(1) Net income per share is computed independently for each of the
quarters presented. Therefore, the sum of the quarterly earnings per share
amounts may not equal the annual amount. This is caused by rounding and the
averaging effect of the number of share equivalents utilized throughout the
year, which changes with the market price of the common stock.
<TABLE>
<CAPTION>
For the Three For the Three For the Three For the Period From
Months Ended Months Ended Months Ended March 16, 1996
February 28, November 30, August 31, to May 31,
(In Thousands, Except Share Data) 1997 1996 1996 1996
<S> <C> <C> <C> <C>
Revenue $63,171 $62,325 $57,863 $33,717
Expenses 40,288 40,655 40,842 22,609
Provision for income taxes 8,750 9,015 6,954 4,554
Extraordinary loss from the early
extinguishment of debt, net of tax 6,440 - - -
Net income $ 7,693 $12,655 $10,067 $ 6,554
Net income per share before
extraordinary loss on early
extinguishment of debt(1)
Basic $ 0.37 $ 0.36 $ 0.29 $ 0.34
Diluted $ 0.37 $ 0.36 $ 0.29 $ 0.34
Net income per share(1)
Basic $ 0.20 $ 0.36 $ 0.29 $ 0.34
Diluted $ 0.20 $ 0.36 $ 0.29 $ 0.34
Weighted average shares outstanding(1)
Basic 37,743,651 35,020,068 35,020,068 19,040,000
Diluted 38,143,118 35,329,380 35,329,380 19,349,312
</TABLE>
(1) Net income per share is computed independently for each of the
quarters presented. Therefore, the sum of the quarterly earnings per share
amounts may not equal the annual amount. This is caused by rounding and the
averaging effect of the number of share equivalents utilized throughout the
year, which changes with the market price of the common stock.
22. PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
Balance Sheets
February 10, February 28,
(Dollars in Thousands) 1998 1997
Assets
Investment in subsidiary $700,374 $629,513
Other assets 22,202 17,105
Total Assets $722,576 $646,618
Liabilities and Stockholders' Equity
Accounts payable and accrued expenses $ 3,443 $ 4,322
Long-term debt 130,000 130,000
Total Liabilities 133,443 134,322
Commitments and Contingencies
Stockholders' Equity:
Common stock 531 531
Additional paid-in capital 476,846 476,646
Retained earnings 111,756 36,969
589,133 514,146
Less: Notes received in
payment for capital stock - (1,850)
Total stockholders' equity 589,133 512,296
Total Liabilities and Stockholders' Equity $722,576 $646,618
Statements of Income
For the For the
Period From Period From
March 1, 1997 March 16, 1996
to February 10, to February 28,
(Dollars in Thousands) 1998 1997
Revenues
Dividends from subsidiary $14,712 $16,965
Total Revenues 14,712 16,965
Expenses
Interest expense 14,518 19,445
Other expenses 131 842
Total Expenses 14,649 20,287
Income (loss) before income
taxes, equity in undistributed income
of subsidiary and extraordinary loss 63 (3,322)
Income tax benefit 5,713 8,171
Income before equity in undistributed
income of subsidiary and
extraordinary loss 5,776 4,849
Equity in undistributed income of
subsidiary 69,011 38,560
Extraordinary loss, net of tax - 6,440
Net Income $74,787 $36,969
Statements of Cash Flows
For the For the
Period From Period From
March 1, 1997 March 16, 1996
to February 10, to February 28,
(Dollars in Thousands) 1998 1997
Cash flows Used in
Operating Activities:
Net income $ 74,787 $ 36,969
Adjustments to reconcile net income to
net cash provided by (used in)
operating activities:
Amortization - 842
Equity in undistributed earnings of
subsidiary (69,011) (38,560)
Deferred income
tax benefit (5,713) ( 8,171)
Change in other assets and accounts
payable and accrued liabilities (2,113) (3,810)
Net cash used in operating activities $ (2,050) $ (12,730)
Cash Flows Used in Investing Activities:
Capital contribution to subsidiary - (376,453)
Net cash used in investing activities - (376,453)
Cash Flows Provided by Financing Activities:
Issuance of bridge financing - 90,000
Repayment of bridge financing - (90,000)
Issuance of Notes - 200,000
Payment of debt issue costs - (10,409)
Repayment of long-term debt - (70,000)
Repayment of stockholder loans 1,850 -
Proceeds from issuance of common stock 200 269,592
Net cash provided by financing activities 2,050 389,183
Cash and cash equivalents at beginning
of period - -
Cash and cash equivalents at end of period - -
$ - $ -
23. SUBSEQUENT EVENTS
On April 1, 1998, HomeSide, Inc.'s primary operating subsidiary, HomeSide
Lending, Inc. ("HomeSide Lending"), entered into an agreement with Banc One
Mortgage Corporation ("Banc One") to acquire the mortgage servicing assets
of Banc One. HomeSide Lending and Banc One have also entered into a
Preferred Partner agreement, whereby Banc One will sell a significant
portion of its residential mortgage loans to HomeSide Lending over the next
five years. The total purchase consideration is $201.0 million cash. The
mortgage servicing rights acquired relate to mortgage servicing loans of
approximately $18 billion. The transaction is subject to regulatory
approvals and is expected to close late in the second calendar quarter of
1998.
On April 6, 1998, the Company signed an agreement with NationsBank
Corporation whereby NationsBank agreed to sell HomeSide a national
wholesale mortgage loan network which was formerly owned by Barnett Banks,
Inc.
BancBoston Mortgage Corporation
Summary Historical Consolidated Financial and Operating Information
The following table sets forth summary historical consolidated financial
and operating information for BBMC (formerly BancBoston Mortgage
Corporation and the Predecessor to the Issuer) for the periods prior to its
acquisition by the Parent. Such information should be read in conjunction
with, and is qualified in its entirety by reference to, the Consolidated
Financial Statements and the Notes thereto and in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" of BBMC included elsewhere in this document.
<TABLE>
<CAPTION>
For the Period From
January 1, 1996
Years ended December 31, to March 15,
(Dollars in Thousands) 1993 1994 1995 1996
<S> <C> <C> <C> <C>
Consolidated Statements of Operations Data:
Revenues:
Mortgage servicing fees $ 111,822 $ 140,491 $ 173,038 $ 38,977
Gain (loss) on risk management contracts 6,688 (6,702) 108,702 (128,795)
Amortization of mortgage servicing rights (112,492) (66,801) (108,013) (7,245)
Net servicing revenue 6,018 66,988 173,727 (97,063)
Interest income 50,156 31,585 24,324 8,423
Interest expense (44,199) (33,952) (27,128) (10,089)
Net interest revenue 5,957 (2,367) (2,804) (1,666)
Net mortgage origination revenue (expense) 6,173 4,983 3,417 7,638
Gain on sales of servicing rights 651 10,862 10,230 -
Other income 50 147 511 253
Total revenues 18,849 80,613 185,081 (90,838)
Expenses:
Salaries and employee benefits 33,096 40,370 45,381 10,287
Occupancy and equipment 7,966 9,012 10,009 2,041
Servicing losses on investor-owned loans 2,770 7,177 9,981 5,560
Real estate acquired 1,600 253 1,054 291
Other expenses 22,058 19,326 21,896 7,377
Total expenses 67,490 76,138 88,321 25,556
Income (loss) before income taxes and
cumulative effects of changes in
accounting principles $ (48,641) $ 4,475 $ 96,760 $ (116,394)
Net income (loss) $ (85,185) $ 5,405 $ 58,826 $ (73,861)
Selected Balance Sheet Data (at Period End):
Mortgage loans held for sale $ 607,506 $ 271,215 $ 388,436 $ 628,504
Mortgage servicing rights 281,727 431,148 551,338 542,862
Total assets 1,193,583 1,006,887 1,254,303 1,520,357
Note payable to Bank of Boston 1,019,011 779,021 966,000 1,256,000
Total liabilities 1,071,223 879,122 1,067,712 1,407,627
Total stockholders' equity 122,360 127,765 186,591 112,730
Selected Operating Data
Volume of loans originated and acquired $13,682,761 $14,473,000 $ 9,567,521 $ 4,187,603 (a)
Loan servicing portfolio (at period end) 27,999,100 37,971,200 41,555,354 44,158,163 (a)
Loan servicing portfolio (average) 25,852,400 33,178,600 39,283,700 43,158,072 (a)
Weighted average interest rate
(at period end) 8.07% 7.91% 7.97% 7.90%(a)
Weighted average servicing fee
(average for period) 0.372% 0.389% 0.383% 0.380%(a)
</TABLE>
(a) Period information is for the period January 1, 1996 to March 31, 1996
and period end information is at March 31, 1996.
Management's Discussion and Analysis of Financial Condition and Results of
Operations
BBMC-For the Period January 1, 1996 to March 15, 1996 and January 1, 1995 to
March 31, 1995 and for the Two Years Ended December 31, 1995
General
Prior to March 15, 1996, BBMC was a wholly-owned subsidiary of Bank of
Boston, a subsidiary of Bank of Boston Corporation ("BKBC"). On March 15,
1996, BBMC was acquired by HomeSide. The interim financial statements of
BBMC have been prepared for the period January 1, 1996 to March 15, 1996 to
coincide with the closing of the BBMC Acquisition. Results of operations
for periods subsequent to March 15, 1996 are included in the financial
statements of HomeSide. Results of operations for the three months ended
March 31, 1995 have been presented for comparative purposes. Unless
otherwise noted, references to the first quarter 1996 pertain to the period
January 1, 1996 to March 15, 1996. BBMC reported earnings on a calendar
year basis.
BBMC operates as a full-service mortgage banking firm emphasizing wholesale
mortgage originations and low cost mortgage servicing. Servicing activities
represent BBMC's primary revenue source. BBMC also generates revenue, to a
lesser extent, from mortgage loan origination fees. BBMC incurs expenses
for amortization of mortgage servicing rights, interest on its line of
credit and general corporate activities.
On June 1, 1995, BBMC purchased certain assets and assumed certain
liabilities of Bell Mortgage Company ("Bell Mortgage"), a privately-held
mortgage origination company located in Minneapolis, Minnesota. The
acquisition of Bell Mortgage was accounted for under the purchase method
of accounting. Results of operations of Bell Mortgage are included in the
1995 consolidated financial statements from the date of acquisition. See
Note 16 of Notes to Consolidated Financial Statements of BancBoston
Mortgage Corporation for further discussion.
Results of Operations
Summary
BBMC reported net income of $58.8 million in 1995 and $5.4 million in 1994.
Net income in 1994 included an after tax positive effect of $3.5 million
from a change in the accounting for mortgage servicing fee income. Prior to
the effect of such adjustment, BBMC had income of $58.8 million in 1995 and
$2.0 million in 1994. See Note 2 of Notes to Consolidated Financial
Statements for further discussion of BBMC's accounting changes.
The increase in net income in 1995 as compared to 1994 was primarily due to
factors that resulted from a decrease in interest rates coupled with growth
in BBMC's servicing portfolio. The lower interest rate environment resulted
in a gain related to BBMC's risk management activities in 1995 as compared
to a loss in 1994. BBMC also benefited from a 9% increase in the balance of
its residential servicing portfolio from $38.0 billion at December 31, 1994
to $41.6 billion at December 31, 1995. The increases were partially offset,
however, by higher mortgage servicing rights amortization charges as a
result of larger mortgage servicing volumes and higher prepayment activity
in 1995.
Long-term interest rates declined through mid-February 1996, the
continuation of a trend which began in 1995. This decline led to an
increase in loan production to $4.2 billion during the first quarter of
1996 from $1.2 billion during the first quarter of 1995, and resulted in
growth in BBMC's mortgage servicing portfolio, which increased from $41.6
billion at December 31, 1995 to $44.2 billion at March 31, 1996. Beginning
in late February and continuing through March 1996, long-term interest
rates increased and negatively affected BBMC's results of operations for
the first quarter. BBMC reported a net loss of $73.9 million during the
first quarter of 1996, compared to net income of $3.4 million in the first
quarter of 1995. The decrease in net income was primarily due to losses of
$128.8 million on BBMC's risk management contracts during the first quarter
of 1996, a result of increasing interest rates in late February and March
1996.
Net Servicing Revenue
Net servicing revenue increased from $67.0 million to $173.7 million, an
increase of $106.7 million or 159.3%, from 1994 to 1995. This growth was
comprised of a $115.4 million increase in gain on risk management contracts
and a $32.5 million increase in mortgage servicing fees, offset by a $41.2
million increase in amortization of mortgage servicing rights. The gain
on risk management contracts resulted primarily from a decline in interest
rates in the fourth quarter of 1995 and was substantially offset by a
related decrease in the economic value of the servicing portfolio, which
was not reflected in earnings for the period. The cost of acquiring the
right to service mortgage loans originated by others is capitalized and
amortized as a reduction of servicing fee revenue over the estimated
servicing period. The increases in mortgage servicing fees and
amortization of mortgage servicing rights were primarily due to growth in
BBMC's average servicing portfolio during 1995. Average servicing fees,
excluding ancillary income, decreased slightly from 0.389% in 1994 to
0.383% in 1995.
At December 31, 1995, BBMC serviced approximately 510,000 loans, including
loans purchased not yet on BBMC's servicing system, with an unpaid
principal balance ("UPB") of $41.6 billion, compared to approximately
484,000 loans with UPB of $38.0 billion at December 31, 1994, an increase
of $3.6 billion, or 9.5%. The average servicing volume increased from $33.2
billion in 1994 to $39.3 billion in 1995, an increase of $6.1 billion or
18.4%. Growth in BBMC's servicing portfolio was primarily generated by
wholesale loan production, which includes correspondent, co-issue and
broker channels. BBMC also purchased servicing rights in bulk from other
mortgage servicing entities. Bulk purchases totalled $5.5 billion and $0.7
billion in 1994 and 1995, respectively.
In addition to growth in the servicing portfolio, an increase in late fee
income contributed to the rise in mortgage servicing revenue during 1995.
Late fees are included as a component of mortgage servicing revenue. BBMC
instituted efforts to improve the collection of ancillary fee income during
the year which contributed to an increase in late fee charges collected
from $10.5 million in 1994 to $14.4 million in 1995. Late fee income also
increased as a result of increases in BBMC's servicing portfolio size and
average loan size. The higher average loan size translates into higher loan
payments on which late fees are based. There was little or no change in
the rate on which late fees were computed during 1995 as compared to 1994.
During the first quarter of 1996, BBMC had net servicing revenues of
$(97.1) million, as compared to servicing revenues of $24.2 million in the
first quarter of 1995. The net negative amount recorded as servicing
revenue in 1996 was primarily due to losses on BBMC's risk management
contracts. Excluding the effect of risk management contracts, net servicing
revenue increased from $20.6 million in the first quarter 1995 to $31.7
million in the first quarter 1996. In the first quarter of 1995, BBMC
recorded gains on risk management contracts of $3.6 million. Due to an
increase in long-term interest rates in late February and early March 1996,
BBMC experienced losses on risk management contracts of $128.8 million
during the quarter. Changes in the value of BBMC's mortgage servicing
rights substantially offset the loss on risk management contracts. However,
such changes in value were not fully recorded in the financial statements
of BBMC because servicing rights were recorded at the lower of amortized
cost or market value.
The decrease in net servicing revenue was partially offset by a reduction
in amortization of mortgage servicing rights from $23.1 million in the
first quarter of 1995 to $7.2 million in the first quarter of 1996. The
reduction in amortization was due to the increase in long-term interest
rates noted above, which had a favorable effect on the prepayment estimates
used in calculating BBMC's periodic amortization expense. Because mortgage
servicing rights are amortized over the expected period of service fee
revenues, a reduction in mortgage prepayment activity typically results in
a longer estimated life of the mortgage servicing asset and, accordingly,
lower amortization expense. Amortization charges are highly dependent upon
the level of prepayments during the period and changes in prepayment
expectations, which are significantly influenced by the direction and level
of long-term interest rate movements.
Risk Management Activities
BBMC had a risk management program designed to protect the economic value
of its mortgage servicing portfolio from declines in value due to increases
in estimated prepayment speeds, which are primarily influenced by declines
in interest rates. When loans prepay faster than anticipated, the cash flow
BBMC would expect to receive from servicing such loans was reduced. Because
the value of the mortgage servicing rights is based on the present value
of the net cash flows to be received over the life of the loan, the value
of the servicing portfolio declines as prepayments increase.
Prior to 1994, risk management of the mortgage servicing rights value was
principally conducted by BKB as part of a consolidated risk management
program. Through the third quarter of 1995, BKB continued to manage a
portion of the risk associated with the servicing portfolio.
To implement its risk management objectives, BBMC purchased risk management
contracts that increased in value when long-term interest rates declined,
or when prepayment speeds increased above a specified level. During 1994
and 1995, BBMC purchased options on long-term United States Treasury bond
futures to protect a significant portion of the market value of its
mortgage servicing portfolio from a decline in value. The value of BBMC's
risk management position was designed to perform inversely with changes in
value of mortgage servicing rights due to the effects of the changes in
interest rates. The options were marked to market at each reporting date
with changes in value reported in revenues. BBMC recognized a gain on risk
management contracts of $108.7 million in 1995. While the value of the
servicing portfolio declined, the full effect of such decline was not
reflected in BBMC's financial results because the value of the associated
service rights exceeded its book value. Due to a rising interest rate
environment, BBMC experienced a $6.7 million loss related to its risk
management contracts in 1994.
BBMC recognized a gain on risk management contracts of $108.7 million in
1995, of which $86.5 million was unrealized. During the first quarter of
1996, long-term interest rates increased, reversing the declining trend
which prevailed during 1995. As a result, through the date of the sale of
BBMC in March 1996, BBMC recognized a loss on risk management contracts of
$128.8 million, which included a reversal of such $86.5 million unrealized
gain recognized during 1995. In 1995 and 1996, changes in the value of
BBMC's mortgage servicing rights substantially offset the gain and loss on
the risk management contracts. However, such changes in value were not
fully recorded in the financial statements of BBMC because servicing rights
are recorded at the lower of amortized cost or market value.
Net Interest Revenue/Expense
Net interest expense was $2.4 million in 1994 and $2.8 million in 1995.
Interest income decreased $7.3 million in 1995 as compared with 1994,
primarily as a result of a decrease in the average rate earned on
warehouse loans from 9.52% in 1994 to 7.78% in 1995. The reduction in
interest income on warehouse loans was partially offset by a $2.1 million
increase in interest earned on mortgage loans held for investment. Interest
expense decreased $6.8 million in 1995 as compared with 1994 as a result of
a decline in the average rate paid on BBMC's borrowings from 7.14% in 1994
to 6.89% in 1995.
Net interest expense decreased from $2.0 million in the first quarter of
1995 to $1.7 million in the first quarter of 1996. Interest income
increased in the first quarter of 1996 as compared with the first quarter
of 1995 as a result of an increase in the average balance of mortgage loans
held for sale from $124.6 million during the first quarter of 1995 to
$535.6 million during the first quarter of 1996. Increased loan production
volumes, $4.2 billion in the first quarter of 1996 compared to $1.2 billion
in the first quarter of 1995, created the increased average balance of
mortgage loans held for sale. In addition, an increase in long-term
interest rates during February and March 1996 improved the yield on its
mortgage loans held for sale. Interest expense incurred on BBMC's credit
facility with Bank of Boston increased in the first quarter of 1996 as
compared with the first quarter of 1995 as a result of the increase in the
average balance of BBMC's loans held for sale. In the first quarter of 1996
as well as the first quarter of 1995, interest earned on loans held for
sale was less than interest expense on borrowings, thereby creating net
interest expense for BBMC; but the increase in long-term interest rates
during February and March 1996, without a corresponding increase in
short-term rates on BBMC's credit facility, resulted in a decrease in net
interest expense in the first quarter of 1996 as compared with the first
quarter of 1995.
Net Mortgage Origination Revenue
Net mortgage origination revenue decreased from $5.0 million in 1994 to
$3.4 million in 1995. Lower production volumes and gains on sales of
mortgage loans were the primary reasons for this decline.
Net mortgage origination revenue (expense) increased from $(1.1) million in
the first quarter of 1995 to $7.6 million in the first quarter of 1996.
The increase in net origination revenue during the first quarter of 1996
was partially due to the adoption of SFAS No. 122, "Accounting for
Mortgage Servicing Rights" as of January 1, 1996, which had the effect of
increasing net mortgage origination revenue by $3.1 million. In previous
periods, the cost of mortgage servicing rights for originated loans was
included in the basis of the related loan. SFAS No. 122 requires that the
cost of an originated loan be allocated between the loan sold and the
servicing rights retained. Consequently, the cost basis of loans
originated in 1996 was lower than the basis that would have been recorded
prior to the adoption of SFAS No. 122 and resulted in additional gain on
the sale of loans. The remaining increase was due to increases in
origination income resulting from higher loan production volumes.
Gain on Sales of Servicing Rights
Gain on sales of servicing rights decreased from $10.9 million in 1994 to
$10.2 million in 1995. Gains on sales of servicing rights represent the
excess of proceeds from the sale over the cost basis of the assets. Gains
tend to be higher on sales of servicing rights with little or no cost
basis, as was the case for BBMC's sales in 1994. The servicing rights sold
during 1994 consisted primarily of retail originated loans and
consequently had relatively low cost basis. The servicing rights sales in
1995 consisted of a higher percentage of servicing on purchased loans,
which had a higher basis because servicing rights on purchased loans are
capitalized.
Gain on sales of servicing rights during the first quarter of 1995 was $4.3
million. There were no sales of servicing rights during the first quarter
of 1996.
Salaries and Employee Benefits
Salaries and employee benefits increased from $40.4 million in 1994 to
$45.4 million in 1995, or 12.4%. Including capitalized direct loan
origination costs (principally salary and employee benefits), salaries and
employee benefits increased from $51.5 million to $56.5 million from 1994
to 1995, or 9.7%. The increase included a $3.9 million increase in
salaries and a $1.1 million increase in benefits and were the result of a
larger staff needed to support BBMC's growing servicing portfolio. The
increases in salaries and benefits were partially offset by the outsourcing
of certain default administration and tax payment administration activities
during 1995. BBMC determined that the performance of these services on a
contracted basis was more cost effective than maintaining the personnel and
infrastructure necessary to carry out these functions in-house.
Salaries and employee benefits decreased from $11.7 million in the first
quarter of 1995 to $10.3 million in the first quarter of 1996, or 12.1%. If
capitalized direct loan origination costs (principally salary and employee
benefits) were included, the salaries and employee benefits increased from
$12.8 million in the first quarter of 1995 to $13.5 million in the first
quarter of 1996, or 5.8%. The increase reflected general salary and benefit
increases as compared to the first quarter of 1995 and a slight increase in
the number of full time equivalent employees from 1,117 as of March 31,
1995 to approximately 1,120 as of March 15, 1996.
Occupancy and Equipment Expense
Occupancy and equipment expense increased from $9.0 million in 1994 to
$10.0 million in 1995, or 11.1%, due primarily to the acquisition of Bell
Mortgage and the larger servicing operations.
Occupancy and equipment expense decreased $0.4 million, from $2.4 million
for the first quarter of 1995 to $2.0 million for the first quarter of
1996. The decrease was primarily due to a decline in equipment repair and
maintenance expenses in the first quarter of 1996 as compared to the first
quarter of 1995.
Servicing Losses on Investor-Owned Loans
Servicing losses on investor-owned loans primarily represent anticipated
losses attributable to servicing FHA and VA loans for investors. These
amounts include actual losses for final disposition of loans, accrued
interest for which payment has been denied and estimates for potential
losses based on experience as a servicer of government loans. Servicing
losses on investor-owned loans totaled $7.2 million and $10.0 million for
1994 and 1995, respectively, primarily representing losses on VA loans. In
1994 and 1995, BBMC recorded provisions in excess of actual foreclosure
losses. Management believes that BBMC had an adequate level of reserve
based on its servicing volume, portfolio composition, credit quality and
historical loss rates, as well as estimated future losses. For an analysis
of changes in the reserve for estimated servicing losses on investor-owned
loans for each of the two years ended December 31, 1995, see Note 4 of
Notes to Consolidated Financial Statements of BancBoston Mortgage
Corporation.
Servicing losses on investor-owned loans increased from $0.7 million in the
first quarter of 1995 to $5.6 million in the first quarter of 1996. The
increase was primarily due to a change in the VA's method of calculating
the amount it will guarantee on any loan, coupled with planned military
base closings in California that may have an impact on the performance of
certain VA loans serviced by BBMC. The increase in the VA marketing rate
effectively represents a potential increase in BBMC's exposure on
properties conveyed to the VA. BBMC analyzed the effect of these factors on
the level of its reserve for estimated servicing losses and recorded a
higher provision in the first quarter of 1996 in order to bring the reserve
to an acceptable level.
Real Estate Owned Expense
Real estate owned expense increased from $0.3 million in 1994 to $1.1
million in 1995. Real estate owned expense is incurred from foreclosed
properties on which BBMC has taken title and includes declines in the value
of the property, as well as the incurrence of property holding and
maintenance costs. The change in real estate owned expense in 1995 was due
primarily to an increase in the average balance of real estate owned from
$1.4 million in 1994 to $1.6 million in 1995. As part of the BBMC
Acquisition, BKB retained all real estate owned.
Real estate owned expense increased from $0.2 million in the first quarter
of 1995 to $0.3 million in the first quarter of 1996. The change was due
to an increase in the average balance of real estate owned from $1.2
million during the first quarter of 1995 to $2.6 million during the first
quarter of 1996.
Other Expenses
Other expenses increased from $19.3 million to $21.9 million, or 13.3%,
from 1994 to 1995. The increase in other expenses from 1994 to 1995
included increases of $1.1 million in advertising and public relations,
$1.0 million in contracted services, $0.9 million in software costs and
$0.6 million in communication expenses. These increases were partially
offset by a $0.7 million reduction in loan-related expenses. The increase
in advertising and public relations expense was due to a major advertising
campaign carried out during 1995 in addition to normal advertising
activity. Contracted services increased due to an increase in bank service
charges for loan payment processing, which also increased with the larger
BBMC servicing volume. Software costs increased as BBMC continued to expand
and redesign its computer platform in order to deliver more efficient and
reliable service. The increase in communications expense was due to higher
telephone postage and delivery expenses resulting from higher loan
production levels.
Other expense increased $2.7 million, from $4.7 million during the first
quarter of 1995 to $7.4 million in the first quarter of 1996. The increase
was the result of a $0.5 million increase in communications expense and a
$0.4 million increase in loan expense, coupled with a decrease in expense
credits resulting from a decline in early pool buyout activity in 1996.
These increases are reflective of the increase in BBMC's servicing
portfolio, $44.2 billion at March 31, 1996 as compared to $37.8 billion at
March 31, 1995, and higher loan production levels in the first quarter of
1996 as compared to the first quarter of 1995.
Provision for (Benefit from) Income Taxes
BBMC recorded a provision for income taxes of $2.5 million and $37.9
million for 1994 and 1995, respectively. The effective income tax rate was
39.2% and 56.4% for 1995 and 1994, respectively. The difference between
these rates and the statutory federal tax rate was primarily due to state
income taxes, net of federal tax benefit. The changes in the provisions
for, and benefit from, income taxes were the result of variances in BBMC's
pre-tax income and loss for each of the years presented. For additional
information regarding income taxes, refer to Note 10 of Notes to
Consolidated Financial Statements of BancBoston Mortgage Corporation.
BBMC's benefit from income taxes was $42.5 million during the first quarter
of 1996 as compared to a provision for income taxes of $2.3 million in the
first quarter of 1995. The change in BBMC's income tax provision was the
result of a decline in pre-tax income during the first quarter of 1996 as
compared to the first quarter of 1995, and a decrease in the effective tax
rate from 39.9% during the first quarter of 1995 to 36.5% during the first
quarter of 1996.
Accounting Changes
On January 1, 1994, BBMC changed its method of accounting for mortgage
servicing fees from the cash basis to the accrual basis. See Note 2 of
Notes to Consolidated Financial Statements of BancBoston Mortgage
Corporation on for further discussion of BBMC's accounting changes.
See "Liquidity and Capital Resources-New Accounting Standard" for
a discussion of Statement of Financial Accounting Standards No. 122,
"Accounting for Mortgage Servicing Rights," which was adopted by BBMC in
1996.
Liquidity and Capital Resources
Overview
BBMC's primary sources of cash were revenues earned from the servicing of
mortgage loans, sales of mortgage loans and servicing rights and borrowings
under BBMC's warehouse line of credit. BBMC's primary uses of cash were to
fund loan originations and purchases, purchase bulk servicing rights, repay
its warehouse line of credit and pay general corporate expenses. BBMC had
a net increase (decrease) in cash of ($4.8 million) and $0.3 million in
1995 and 1994, respectively, and ($4.4 million) and $22.4 million in the
first quarter of 1995 and the first quarter of 1996, respectively.
The net decrease in cash in 1995 compared with 1994 was primarily
attributable to the use of cash to meet growth in loan origination volume
and purchases of mortgage servicing rights, coupled with a reduction in
proceeds on sales of mortgage loans. Declining interest rates in 1995
increased loan production across the industry. Cash inflows in 1995 were
positively affected by an increase in the proceeds from risk management
contracts, which increased in value as a result of the decline in interest
rates.
Prior to the BBMC Acquisition, a line of credit with Bank of Boston was
used to fund the origination and purchase of mortgage loans until the loans
were sold to investors. The proceeds of such sales were typically used to
pay down the related warehouse debt, with any excess retained by BBMC.
Maximum borrowings under the line of credit were $1.25 billion. The higher
level of borrowings in 1995 was indicative of higher loan production and
purchase volumes during that year as compared to 1994.
Net cash provided by operating activities and investing activities
decreased in the first quarter of 1996 as compared with the first quarter
of 1995, principally as a result of an increase in net cash used in the
origination and purchase of loans held for sale and in the purchase and
origination of mortgage servicing rights and the purchase of risk
management contracts. These increases were the result of higher loan
production levels and an increasing loan servicing portfolio. As a result
of increased loan production and held for sale balances in the first
quarter of 1996 as compared to the first quarter of 1995, BBMC had net
borrowings of $290.0 million on its line of credit with Bank of Boston
during the first quarter of 1996, as opposed to net repayments of $130.5
million on the line of credit during the first quarter of 1995.
Impact of Inflation
Inflation affects BBMC primarily through its effect on interest rates
because interest rates normally increase during periods of high inflation
and decrease during periods of low inflation.
New Accounting Standard
In May 1995, FASB issued SFAS No. 122, "Accounting for Mortgage Servicing
Rights." This Statement, among other provisions, requires that the value of
mortgage servicing rights associated with mortgage loans originated by an
entity be capitalized as assets, which results in an increase in mortgage
origination revenues. The value of originated mortgage servicing rights is
determined by allocating the total costs of the mortgage loans between the
loans and the mortgage servicing rights based on their relative fair
values. Also, the Statement requires that capitalized servicing rights be
evaluated for impairment based on the fair value of these rights. For the
purposes of determining impairment, mortgage servicing rights that are
capitalized after the adoption of this Statement are stratified based on
one or more of the predominant risk characteristics of the underlying
loans. Impairment is recognized through a valuation allowance for each
impaired stratum. BBMC adopted this Statement effective January 1, 1996.
Reports of independent certified public accountants
The Board of Directors
BancBoston Mortgage Corporation
We have audited the accompanying consolidated balance sheet of BancBoston
Mortgage Corporation as of December 31, 1995, and the related consolidated
statements of operations and retained earnings and cash flows for the year
then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audit
provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of BancBoston
Mortgage Corporation as of December 31, 1995, and the consolidated results
of their operations and their cash flows for the year then ended, in
conformity with generally accepted accounting principles.
Coopers & Lybrand L.L.P.
Jacksonville, Florida
January 18, 1996, except
for the second paragraph
of Note 1 and the fifth
paragraph of Note 2, as to
which the date is March 4, 1996
To the Board of Directors of BancBoston Mortgage Corporation
We have audited the accompanying consolidated balance sheet of BancBoston
Mortgage Corporation and subsidiaries (see Note 1) as of March 15, 1996,
and the related consolidated statements of operations and retained earnings
and cash flows for the period from January 1, 1996 to March 15, 1996.
These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audit
provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of
BancBoston Mortgage Corporation and subsidiaries as of March 15, 1996 and
the consolidated results of their operations and their cash flows for the
period from January 1, 1996 to March 15, 1996, in conformity with
generally accepted accounting principles.
Arthur Andersen, L.L.P.
Jacksonville, Florida
March 14, 1997
BancBoston Mortgage Corporation
Consolidated Balance Sheets
(The Predecessor, Acquired by HomeSide, Inc. on March 15 1996, and now known
as HomeSide Lending, Inc.-Note 1)
At December 31, At March 15,
(In Thousands) 1995 1996
Assets
Cash $ 830 23,216
Mortgage loans
Held for sale, net 388,436 628,504
Held for investment 33,183 65,068
Purchased mortgage servicing rights, net 533,891 522,469
Excess mortgage servicing receivable, net 17,447 20,393
Accounts receivable 82,473 65,599
Accounts receivable from Bank of Boston and
affiliates 343 -
Pool loan purchases 65,272 56,261
Mortgage claims receivable, net 45,422 17,563
Accrued income tax receivable - 40,867
Deferred tax asset 40,724 36,390
Real estate acquired 2,627 2,797
Premises and equipment, net 25,386 25,071
Other assets 18,269 16,159
Total Assets $1,254,303 1,520,357
Liabilities and Stockholder's Equity
Note payable to Bank of Boston $ 966,000 $1,256,000
Accounts payable and accrued liabilities 51,683 137,837
Accrued income taxes 36,213 -
Long-term debt 13,816 13,790
Total liabilities 1,067,712 1,407,627
Commitments and Contingencies
(Notes 9, 11, 12, 13, 15 and 16)
Stockholder's Equity:
Common stock, $1 par value per share:
10,000 shares authorized;
100 shares issued and outstanding - -
Additional paid-in capital 156,666 156,666
Retained earnings (accumulated deficit) 29,925 (43,936)
Total stockholder's equity 186,591 112,730
Total Liabilities & Stockholder's Equity $ 1,254 $1,520,357
The accompanying notes are an integral part of these financial statements.
BancBoston Mortgage Corporation
Consolidated Statements of Operations and Retained Earnings
(The Predecessor, Acquired by HomeSide, Inc. on March 15 1996, and now known
as HomeSide Lending, Inc.-Note 1)
For the
Year Period From
Ended January 1, 1996
December 31, through March 15,
(In Thousands) 1995 1996
Revenues:
Mortgage servicing fees $ 173,038 $ 38,977
Gain (loss) on risk management contracts 108,702 (128,795)
Amortization of mortgage servicing rights (108,013) (7,245)
Net servicing revenue 173,727 (97,063)
Interest income 24,324 8,423
Interest expense (27,128) (10,089)
Net interest revenue (expense) (2,804) (1,666)
Net mortgage origination revenue 3,417 7,638
Gain on sales of servicing rights 10,230 -
Other income 511 253
Total Revenues 185,081 (90,838)
Expenses:
Salaries and employee benefits 45,381 10,287
Occupancy and equipment 10,009 2,041
Servicing losses on investor-owned loans 9,981 5,560
Real estate acquired 1,054 291
Other expenses 21,896 7,377
Total Expenses 88,321 25,556
Income (loss) before income taxes and cumulative
effect of change in accounting principle 96,760 (116,394)
Income tax expense (benefit) before cumulative
effect of change in accounting principle:
Current 47,646 (46,867)
Deferred (9,712) 4,334
Total Income Tax Expense (Benefit) 37,934 (42,533)
Income (loss) before cumulative effect of change
in accounting principle 58,826 (73,861)
Cumulative effect on prior years of change in
accounting for mortgage servicing fee income,
net of tax - -
Net Income (Loss) 58,826 (73,861)
Retained Earnings (Accumulated Deficit),
January 1 (28,901) 29,925
Retained Earnings (Accumulated Deficit),
end of period $ 29,925 $ (43,936)
The accompanying notes are an integral part of these financial statements.
BancBoston Mortgage Corporation
Consolidated Statements of Cash Flows
(The Predecessor, Acquired by HomeSide, Inc. on March 15 1996, and now known
as HomeSide Lending, Inc.-Note 1)
For the
Year Period From
Ended January 1, 1996
December 31, through March 15,
(In Thousands) 1995 1996
Cash flows provided by (used in) operating
activities:
Net income (loss) $ 58,826 $ (73,861)
Adjustments to reconcile net income (loss)
to cash provided by (used in) operations:
Cumulative effect of change in accounting
for mortgage servicing fees, net of tax - -
Amortization 108,404 7,327
Depreciation 3,133 719
Servicing losses on investor-owned loans 9,981 5,560
Deferred tax (benefit) expense (9,712) 4,334
Gain on sale of mortgage servicing rights (10,230) -
(Gain) loss on risk management contracts (108,702) 128,795
Write down of real estate acquired 1,699 1,067
Capitalized excess mortgage servicing
receivable (7,513) (3,967)
Mortgage loans originated and purchased
for sale (4,816,964) (2,027,741)
Proceeds and principal repayments of mortgage
loans held for sale 4,694,909 1,787,673
Change in accounts receivable (16,053) 17,217
Change in pool loan purchases 12,205 9,011
Change in mortgage claims receivable (5,383) 25,863
Change in accrued income taxes 31,388 (77,080)
Change in other assets and accounts payable
and accrued liabilities (11,899) 82,622
Net cash provided by (used in) operating
activities (65,911) (112,461)
Cash flows provided by (used in) investing
activities:
Principal payments on (net origination) of
mortgage loans held for investment 12,966 (31,885)
Purchase of premises and equipment (3,141) (404)
Acquisition of Bell Mortgage (891) -
Purchase of mortgage servicing rights (193,013) (60,171)
Proceeds from (amounts paid for) risk management
contracts, net 27,120 (63,426)
Proceeds from real estate acquired 2,610 759
Proceeds from sales of mortgage servicing rights 28,649 -
Net cash used in investing activities (125,700) (155,127)
Cash flows provided by (used in) financing
activities:
Borrowings from Bank of Boston 3,669,085 1,692,500
Repayments to Bank of Boston (3,482,106) (1,402,500)
Repayment of long-term debt (191) (26)
Net cash provided by (used in) financing
activities 186,788 289,974
Net increase (decrease) in cash (4,823) 22,386
Cash at January 1 5,653 830
Cash at end of period $ 830 $ 23,216
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 27,498 $ 9,211
Income taxes $ 16,258 $ 30,213
Supplemental schedule of non-cash investing
activities:
BBMC purchased bulk mortgage servicing rights
during the years 1994 and 1995. In conjunction
with purchases, accounts payable were assumed $ 23,022 $ -
The accompanying notes are an integral part of these financial statements.
Notes to Consolidated Financial Statements
1. ORGANIZATION
BancBoston Mortgage Corporation ("BBMC" or the "Company") was a
wholly-owned subsidiary of The First National Bank of Boston ("Bank of
Boston"), which was a wholly-owned subsidiary of Bank of Boston
Corporation. In December 1995, Bank of Boston Corporation signed an
agreement with Thomas H. Lee Company and Madison Dearborn Partners
("Investors") to sell BBMC, creating an independent mortgage company. Under
the terms of the agreement, Bank of Boston received cash and an equity
interest in the new company, HomeSide, Inc. The Investors acquired majority
interest in HomeSide, Inc. The transaction closed March 15, 1996. Upon
completion of the transaction, BBMC was renamed HomeSide Lending, Inc. BBMC
is the Predecessor company to both HomeSide, Inc. and HomeSide Lending, Inc.
On March 4, 1996, Barnett Banks, Inc. ("Barnett") entered into an agreement
to sell certain of its mortgage banking operations, primarily its servicing
portfolio and proprietary mortgage banking software systems to HomeSide,
Inc. Barnett received cash and an ownership interest in HomeSide, Inc. The
transaction closed May 31, 1996.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of presentation
The consolidated financial statements include BBMC and its wholly-owned
subsidiaries. All material intercompany transactions have been eliminated.
These financial statements have been prepared using the carrying values of
BBMC and do not reflect the purchase of BBMC as discussed in Note 1.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities, the
disclosure of contingent assets and liabilities at the date of the
financial statements, and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates. Specifically, management adjusts the amount of amortization
recorded based on the effect of anticipated changes in prepayment speeds.
Interest rate products
BBMC enters into financial agreements and purchases financial instruments
as part of its interest rate risk management strategy. These agreements are
not considered trading instruments and are primarily entered into for
purposes of managing the prepayment risk associated with mortgage servicing
rights and interest rate risk relative to commitments to originate mortgage
loans against market value declines resulting from fluctuations in interest
rates. These instruments and agreements are designated as a part of BBMC's
risk management strategy and are linked to the related assets being managed.
BBMC acquires financial instruments, including derivative contracts (risk
management contracts), to partially protect the value of mortgage servicing
rights from the effects of prepayment activity caused by interest rate
declines. These financial instruments increase or decrease in value in an
inverse relationship to changes in market interest rates. Accordingly, as
interest rates decline, these financial instruments will increase in value,
and as interest rates increase, these financial instruments will decline in
value. The value of these financial instruments will fluctuate daily with
interest rate changes, and these fluctuations may be significant. However,
thedecline in the value of these financial instruments is limited to the
value recorded in the balance sheet. These financial instruments primarily
include options on U.S. treasury futures, forward contracts, and interest
rate floors.
As of March 15, 1996, due to rising interest rates, the risk management
contracts had declined in value by the carrying amount recorded on the
balance sheet at December 31, 1995 (see Note 14).
The cost of option contracts to manage BBMC's fixed and variable rate loan
origination commitments are capitalized and amortized as an adjustment of
gain or loss over the life of the underlying option contract. Unamortized
premiums are included in other assets on the balance sheet. At March 15,
1996, BBMC had call options to purchase mortgage-backed securities with a
total face amount of $653.0 million. The unamortized premiums associated
with these options were $2.6 million at March 15, 1996. There were no put
options outstanding as of the balance sheet date.
Short-term option contracts that are used to manage interest rate risk on
BBMC's mortgage servicing rights are marked-to-market with gains or losses
recognized in current income. The current market value of these option
contracts are included in the balance of capitalized mortgage servicing
rights. At March 15, 1996, the current market value of these option
contracts included in mortgage servicing rights was $20.2 million.
Unrealized gains (losses) at December 31, 1995 and March 15, 1996, included
in the consolidated statements of operations were $86.5 million and ($56.6)
million, respectively.
Mortgage loans
Mortgage loans held for sale are carried at the lower of aggregate cost or
fair value. Fair value is based on the contract prices at which the
mortgage loans will be sold or, if the loans are not committed for sale,
the current market price. Loan origination fees and certain direct costs
are deferred until the related mortgage loans are sold.
Mortgage loans held for investment are stated at the lower of cost or fair
value at the time the permanent investment decisions are made. Discounts,
if any, are amortized over the anticipated life of the investment.
Loans are placed on nonaccrual status when any portion of the principal or
interest is ninety days past due or earlier when concern exists as to the
ultimate collectibility of principal or interest. When loans are placed on
nonaccrual status, the related interest receivable is reversed against
interest income of the current period. Interest payments received on
nonaccrual loans are applied as a reduction of the principal balance when
concern exists as to the ultimate collection of principal; otherwise, such
payments are recognized as interest income. Loans are removed from
nonaccrual status when principal and interest become current and they are
estimated to be fully collectible.
Purchased and originated mortgage servicing rights
Purchased mortgage servicing rights (PMSR) represent the cost of purchasing
the right to service mortgage loans originated by others. PMSR are
amortized as a reduction of servicing fee income over the estimated
servicing period in proportion to the estimated future net cash flows from
the loans serviced. Remaining PMSR asset balances are evaluated for
impairment by determining their estimated recoverable amount through
applying the discount rate in effect at the time the servicing was
purchased to the estimated future aggregate net cash flows from the
underlying mortgages. The carrying value is written down for any
impairment; such write-downs are included in the amortization of mortgage
servicing rights.
On January 1, 1996, BBMC adopted Statement of Financial Accounting
Standards (SFAS) No. 122 which, among other provisions, requires that the
value of mortgage servicing rights associated with mortgage loans
originated by an entity be capitalized as assets. The value of BBMC's
originated mortgage servicing rights (OMSR) is determined by allocating the
total costs of the mortgage loans between the loans and the mortgage
servicing rights based on their relative fair values. Previously, OMSRs
were included with the cost of the related loans and considered in
determining the gain or loss on sale when the loans were sold. Through
March 15, 1996, BBMC capitalized $3.1 million of OMSR, which had the effect
of increasing net mortgage origination revenue by $3.1 million for the
period January 1, 1996 to March 15, 1996 since a portion of the basis of
loans originated for sale was allocated to OMSR. Since SFAS No. 122
prohibits retroactive application, historical accounting results have not
been restated and, accordingly, the accounting results for the previous
years ended are not directly comparable with the period January 1, 1996
through March 15, 1996.
SFAS No. 122 also requires that capitalized mortgage servicing rights be
evaluated for impairment based on the fair value of these rights. For the
purposes of determining impairment, BBMC's mortgage servicing rights are
stratified based on interest rate and type of loan(conventional/government).
Impairment, if any, is recognized through a valuation allowance for each
impaired stratum. BBMC did not record any impairment charges related to its
mortgage servicing right portfolio for the period January 1, 1996 through
March 15, 1996.
Excess mortgage servicing receivable
Excess mortgage servicing receivable (EMSR) represents the present value of
servicing fee income in excess of a normal servicing fee. When loans are
sold, the estimated excess servicing is recognized as income and amortized
over the estimated servicing period in proportion to the estimated future
aggregate net cash flows from the loans serviced. Remaining asset balances
are evaluated for impairment based on current estimates of future
discounted cash flows. Such write-downs are included in amortization of
mortgage servicing rights.
Accounts receivable
Accounts receivable includes advances made in connection with loan
servicing activities. These advances consist primarily of payments for
property taxes and insurance premiums, as well as, principal and interest
remitted to investors before they are collected from mortgagors.
Pool loan purchases
Pool loan purchases are carried at cost and consist of FHA-insured,
VA-guaranteed, and conventional loans purchased from mortgage-backed
securities serviced by BBMC for others. At the purchase date, these loans
were delinquent or in the process of foreclosure or repayment. Losses
associated with pool loan purchases are largely reimbursed by the insurer.
Mortgage claims receivable
Mortgage claims receivable includes claims filed primarily with the FHA and
the VA. These receivables are carried at cost, less an allowance for
estimated amounts that are not collectible from the mortgage insuring
agencies.
Real estate acquired
Real estate acquired includes properties on which BBMC has foreclosed and
taken title. It is initially reported at the lower of the carrying value of
the loan or the fair value of the real estate obtained, less estimated
selling costs. The excess, if any, of the loan balance over the fair value
of the property at the time of transfer to real estate acquired is charged
to the reserve for estimated servicing losses on investor-owned loans.
Subsequent declines in the value of the property and costs related to
holding the property are charged against income.
Premises and equipment
Premises and equipment are stated at cost less accumulated depreciation.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets. Leasehold improvements are amortized over the
lesser of the estimated life of the improvement or the term of the lease.
Other assets
Other assets consist primarily of a prepaid pension asset of ($9.8 million
at March 15, 1996) allocated from the Bank of Boston, and the excess of
cost over fair value of net assets acquired. The excess of cost over fair
value of net assets acquired is amortized using a straight-line basis over
periods varying from seven to twenty-five years.
Mortgage servicing fees
Mortgage servicing fees represent fees earned for servicing mortgage loan
owned by investors. The fees are generally calculated on the outstanding
principal balances of the loans serviced and are recognized as income on an
accrual basis.
Servicing losses on investor-owned loans
BBMC records losses attributable to servicing FHA and VA loans for
investors. These amounts include actual losses for final disposition of
loans, accrued interest for which payment has been denied, and estimates
for potential losses based on BBMC's experience as a servicer of government
loans.
A reserve for estimated servicing losses on investor-owned loans is
available for potential losses related to the mortgage servicing portfolio
and is included in the balance of accounts payable and accrued liabilities.
Net mortgage origination revenue
Net mortgage origination revenue includes gains and losses from sales of
mortgage loans, deferred origination fees and expenses, and the present
value of gains from the EMSR.
Income taxes
BBMC files its federal tax return through inclusion in Bank of Boston
Corporation's consolidated return. Accordingly, Bank of Boston's federal
tax provision is allocated to all member subsidiaries as if each member
were a separate taxpayer. However, the timing of utilization of certain of
BBMC's tax attributes may differ from a stand-alone tax-paying basis. BBMC
accounts for income taxes in accordance with SFAS No. 109, "Accounting for
Income Taxes." Under SFAS No. 109, current tax liabilities or assets are
recognized through charges or credits to the current tax provision for the
estimated taxes payable or refundable for the current year.
Deferred tax liabilities are recognized for temporary differences that will
result in amounts taxable in the future and deferred tax assets are
recognized for temporary differences and tax benefit carryforwards that
will result in amounts deductible or creditable in the future. Net deferred
tax liabilities or assets are recognized through charges or credits to the
deferred tax provision. A deferred tax valuation reserve is established if
it is more likely than not that all or a portion of the deferred tax assets
will not be realized. Changes in the deferred tax valuation reserve are
recognized through charges or credits to the deferred tax provision.
The effect of enacted changes in tax law, including changes in tax rates,
on deferred tax assets and liabilities is recognized in income in the
period that includes the enactment date.
3. PURCHASED MORTGAGE SERVICING RIGHTS AND EXCESS MORTGAGE SERVICING
RECEIVABLE
PMSR consist of the following:
December 31, March 15,
(In Thousands) 1995 1996
PMSR $954,931 $951,817
Accumulated amortization (421,040) (429,348)
Balance $533,891 $522,469
EMSR consist of the following:
December 31, March 15,
(In Thousands) 1995 1996
EMSR $ 66,465 $ 70,432
Accumulated amortization (49,018) (50,039)
Balance $ 17,447 $ 20,393
4. RESERVE FOR ESTIMATED SERVICING LOSSES ON INVESTOR-OWNED LOANS
An analysis of the reserve for estimated servicing losses on investor-owned
loans is as follows:
December 31, March 15,
(In Thousands) 1995 1996
Balance at January 1 $ (6,650) $ (9,400)
Servicing losses on investor-owned loans (9,981) (5,560)
Charge-offs 7,473 2,725
Recoveries (242) -
Ending Balance $ (9,400) $ (12,235)
5. MORTGAGE SERVICING PORTFOLIO
BBMC's residential mortgage servicing portfolio totaled $41.5 billion and
$44.2 billion at December 31, 1995 and March 15, 1996, respectively, and
included mortgage-backed securities of $28.5 billion and $29.1 billion at
December 31, 1995 and March 15, 1996, respectively. In addition, BBMC's
commercial loan servicing portfolio totaled $0.9 billion and $0.2 billion
at December 31, 1995 and March 15, 1996, respectively. Related fiduciary
funds are segregated in trust accounts, principally deposited with Bank of
Boston, and are not included in the accompanying consolidated financial
statements.
BBMC has in force an errors and omissions policy in the amount of $25
million. Fidelity coverage up to a limit of $75 million, subject to a $1
million deductible, is provided under a Bank of Boston master program.
6. PREMISES AND EQUIPMENT
Premises and equipment consist of the following:
December 31, March 15,
(In Thousands) 1995 1996
Land $ 4,086 $ 4,086
Building 14,477 14,476
Furniture and equipment 26,870 25,967
Leasehold improvements 824 877
46,257 45,406
Accumulated depreciation
and amortization (20,871) (20,335)
Balance $ 25,386 $ 25,071
7. NOTE PAYABLE TO BANK OF BOSTON
BBMC borrows funds on a demand basis from Bank of Boston under a $1.25
billion line of credit, collateralized by substantially all of BBMC's
assets. At December 31, 1995 and March 15, 1996, the interest rate was 6.8%
and 7.7%, respectively, less the benefit received from balances held at
Bank of Boston. Interest expense, net of this benefit, was $20.5 million
and $6.7 million for the years ended December 31, 1995, and for the period
January 1, 1996 to March 15, 1996, respectively.
8. LONG-TERM DEBT
Long-term debt consists of a 30-year mortgage note, payable monthly with
interest at 9.5%, maturing in 2017. BBMC's main office building is pledged
as collateral. Principal payments due on long-term debt as of March 15,
1996, are as follows:
March 15,
(In Thousands) 1996
1997 $ 230
1998 234
1999 258
2000 283
2001 312
Thereafter 12,473
Total Due $13,790
9. EMPLOYEE BENEFITS
BBMC participates with Bank of Boston and its affiliates in a
non-contributory defined benefit pension plan (Plan) covering substantially
all full-time employees. Bank of Boston funds the Plan in compliance with
the requirements of the Employee Retirement Income Security Act.
The Plan is an account balance defined benefit plan in which each employee
has an account to which amounts are allocated based on level of pay and
years of service and which grows at a specific rate of interest. Benefits
accrued prior to 1989 are based on years of service, highest average
compensation, and social security benefits. Expense (income) associated
with this Plan was $0.5 million for the year ended December 31, 1995, and
$0.3 million for the period January 1, 1996 to March 15, 1996.
BBMC also maintains non-qualified deferred compensation and retirement
plans for certain officers. All benefits provided under these plans are
unfunded and any payments to plan participants are made by BBMC. As of
December 31, 1995 and March 15, 1996, approximately $0.7 million and $0.7
million, respectively, were included in accrued expenses and other
liabilities for these plans. For the year ended December 31, 1995 and for
the period January 1, 1996 to March 15, 1996, expense related to these
plans was $0.2 million and $0.1 million, respectively.
BBMC also participates with Bank of Boston and its affiliates in a thrift
incentive plan. Under this plan, employer contributions are generally based
on the amount of eligible employee contributions. The amounts charged to
operating expense under this plan were $0.2 million and $0.1 million for
the year ended December 31, 1995 and for the period January 1, 1996 to
March 15, 1996, respectively. BBMC employees are eligible to participate in
the thrift plan until October 1, 1996 at which time BBMC participant
accounts will become part of a similar plan offered by the new company.
BBMC participates with Bank of Boston and its affiliates by providing
certain health and life insurance benefits for retired employees. Eligible
employees currently receive credits up to $10 thousand based on years of
service, which are used to purchase post-retirement health care coverage.
Life insurance coverage is dependent on years of service at retirement.
Amounts charged to employee benefits expense for these benefits were $0.5
million and $0.8 million for the year ended December 31, 1995 and for the
period January 1, 1996 to March 15, 1996, respectively. After March 15,
1996 retiree benefits associated with current retirees will be assumed by
Bank of Boston.
The components of post-retirement benefits expense for the year ended
December 31 were as follows:
(In Thousands) 1995
Service cost (benefits earned during the period) $ 53
Interest cost on projected benefit obligation 264
Amortization:
Unrecognized net asset 250
Unamortized gain (53)
Net post-retirement benefit cost $514
BBMC's unfunded accumulated post-retirement benefit obligation for the
year ended December 31 was as follows:
(In Thousands) 1995
Accumulated post-retirement benefit
obligation for retirees $ 3,515
Unrecognized net gain 1,541
Unrecognized net obligation (4,250)
Post-retirement benefit liability $ 806
Assumptions used in actuarial computations were:
1995
Rate of increase in future
compensation levels 4.50%
Weighted average discount rate 7.25%
Medical inflation rate 8% declining to 5% in 1999
An increase of 1% in the assumed health care cost trend rate would result
in an increase of 5.8% in the accumulated post-retirement benefit
obligation and 4.9% in annual post-retirement benefit expense for the year
ended December 31, 1995.
These retirement plans are assessed annually. There was no actuarial
valuation at March 15, 1996. Post-retirement benefit expense for the period
January 1, 1996 to March 15, 1996 was $0.1 million.
10. INCOME TAXES
The components of the net deferred tax asset are as follows:
December 31, March 15,
(In Thousands) 1995 1996
PMSR $34,008 $28,167
EMSR 8,957 8,881
Reserve for estimated servicing
losses on investor-owned loans 3,657 4,759
Other (1,301) (1,303)
Valuation reserve (4,597) (4,114)
Net deferred tax assets,
net of reserve $40,724 $36,390
The deferred tax assets, net of the valuation reserve, can be realized from
the reversal of existing deferred tax liabilities and by carryback to
previous years with taxable income. The valuation reserve has been
primarily established against state deferred tax assets where carryback is
not permitted.
The components of the provision for (benefit from) income taxes are as
follows:
December 31, March 15,
(In Thousands) 1995 1996
Current tax provision (benefit) $47,646 $(46,867)
Deferred tax (benefit)expense on income (8,651) 4,817
Change in valuation reserve (1,061) (483)
Net deferred tax (benefit)expense (9,712) 4,334
Income tax provision (benefit) before
cumulative effect of changes
in accounting principles 37,934 (42,533)
Change in accounting for
mortgage servicing fee - -
Total income tax provision (benefit) $37,934 $(42,533)
The following table reconciles the expected federal tax provision (benefit)
on income (loss) before cumulative effect of change in accounting
principle, based on the federal statutory tax rate of 35%, to the actual
tax provision (benefit) before cumulative effect of changes in accounting
principles:
December 31, March 15,
(In Thousands) 1995 1996
Expected tax provision (benefit)
applicable to income (loss) before
cumulative effect of change in
accounting principle $33,866 $(40,738)
Effect of:
State income taxes, net of
federal tax benefits 3,774 743
Other 294 (2,538)
Actual tax provision (benefit) before
cumulative effect of change in
accounting principle $37,934 $(42,533)
11. LEASE COMMITMENTS
BBMC leases office facilities and equipment under noncancelable leases
that include renewal options and escalation clauses which extend into 1999.
Rental expense for leases of office facilities and equipment was $3.9
million for the year ended December 31, 1995 and $1.8 million for the
period January 1, 1996 to March 15, 1996. BBMC's minimum future lease
commitments are as follows:
December 31, March 15,
(In Thousands) 1995 1996
1996 $1,996 $1,837
1997 622 1,910
1998 280 1,764
1999 52 1,079
2000 - 107
Thereafter - 21
Total $2,950 $6,718
12. OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
BBMC purchases financial instruments and enters into financial agreements
with off-balance sheet risk in the normal course of business through the
origination and selling of mortgage loans and the management of the risk of
fluctuations in interest rates. These instruments involve, to varying
degrees, elements of credit and interest rate risk. Credit risk is the
possibility that a loss may occur if a counterparty to atransaction fails
to perform according to the terms of the contract. Interest rate risk is
the possibility that a change in interest rates will cause the value of a
financial instrument to decrease or become more costly to settle. Financial
instruments primarily used by BBMC include commitments to extend credit,
mandatory and optional forward commitments, commitments to purchase
mortgage servicing rights, and other instruments to minimize the interest
rate risk of capitalized servicing assets, primarily options on treasury
bond futures.
Options and forward contracts
BBMC purchases options and forward contracts to protect the value of
mortgage servicing assets from exposure to increases in prepayment activity
and to reduce the impact of interest rate fluctuations on its lending
commitments. The notional amount of the options and forward contracts is
the amount upon which interest and other payments under the contract are
based and is generally not exchanged. Therefore, the notional amounts
should not be taken as the measure of credit risk or a reflection of future
cash requirements. The risk associated with options and forwards is the
exposure to current and expected market movements in the interest rates and
the ability of the counterparties to meet the terms of the contracts. The
cash requirements associated with these options and forward contracts,
aside from the initial purchase price, are minimal. These contracts
generally require future performance on the part of the counterparty upon
exercise of the option or execution of the forward contract by BBMC.
BBMC is exposed to credit loss in the event of nonperformance by the
counterparties to the various instruments. BBMC controls credit and market
risk associated with interest rate products by establishing and monitoring
limits as to the types and degree of risks that may be undertaken. BBMC's
exposure to credit risk in the event of default by the counterparties for
the options is $20.2 million which was due at March 15, 1996.
BBMC's exposure to credit risk in the event of default by the counterparty
for mandatory forward commitments to sell mortgage loans is the difference
between the contract price and the current market price, offset by any
available margins retained by BBMC or an independent clearing agent. The
amount of credit risk as of March 15, 1996, if all counterparties failed
completely and if the margins, if any, retained by BBMC or an independent
clearing agent were to become unavailable, was approximately $16.1 million
for mandatory forward commitments of mortgage-backed securities.
The following is a summary of BBMC's notional amounts and fair values of
interest rate products as of December 31, 1995, and March 15, 1996:
December 31, 1995 March 15, 1996
Notional Estimated Notional Estimated
(In Thousands) Amount Fair Value(1) Amount Fair Value(1)
Purchased commitments to sell
mortgage loans:
Mandatory forward contracts $1,169,559 $ (9,798) $941,087 $16,099
Options on mortgage-backed
securities 315,000 - 653,000 7,607
Risk management contracts:
Purchased 3,107,500 118,753 781,000 17,990
Sold 295,000 (33,833) - -
(1) Fair value represents the amount at which a given instrument could be
exchanged in an arms length transaction with a third party as of the
balance sheet date.
(2) See Note 14 for additional disclosures on fair value of financial
instruments.
Commitments to originate mortgage loans
BBMC regularly enters into commitments to originate mortgage loans at a
future date subject to compliance with stated conditions. Commitments to
originate mortgage loans have off-balance sheet risk to the extent BBMC
does not have matching commitments to sell loans, which exposes BBMC to
lower of cost or market valuation adjustments in a rising interest rate
environment. Additionally, the extension of a commitment, which is subject
to BBMC's credit review and approval policies, gives rise to credit
exposure when certain borrowing conditions are met and the loan is made.
Until such time, it represents only potential exposure. The obligation to
lend may be voided if the customer's financial condition deteriorates or if
the customer fails to meet certain conditions. Commitments to originate
mortgage loans do not necessarily reflect future cash requirements since
some of the commitments are expected to expire without being drawn upon.
Commitments to originate mortgage loans totaled $885.6 million at December
31, 1995 and $956.4 million at March 15, 1996.
Mortgage loans sold with recourse
BBMC sells mortgage loans with recourse to various investors and retains
the servicing rights on these loans. The total outstanding balance of
loans sold with recourse does not necessarily represent future cash
outflows. The total outstanding principal balance of loans sold with
recourse was $6.8 million at December 31, 1995 and $7.0 million at March
15, 1996.
Servicing commitments to investors
BBMC is required to submit to certain investors, primarily GNMA, guaranteed
principal and interest payments from the underlying mortgage loans
regardless of actual collections.
Purchase mortgage servicing rights commitments
BBMC routinely enters into commitments to purchase mortgage servicing
rights associated with mortgages originated by third parties, subject to
compliance with stated conditions. These commitments to purchase mortgage
servicing rights, correspond to mortgage loans having an aggregate loan
principal balance of approximately $2.7 billion at December 31, 1995 and
$0.9 billion at March 15, 1996.
Geographical concentration of credit risk
BBMC is engaged in business nationwide and has no material concentration of
credit risk in any geographic region.
13. OTHER RELATED PARTY TRANSACTIONS
BBMC services mortgage loans for Bank of Boston and its affiliates. The
balances of those portfolios totaled $2.0 billion and $2.0 billion at
December 31, 1995 and March 15, 1996, respectively. Related servicing fees
are included in mortgage servicing fees and were $7.6 million and $1.2
million for the year ended December 31, 1995 and for the period January 1,
1996 to March 15, 1996, respectively.
BBMC reimburses Bank of Boston and its affiliates for certain occupancy and
supplies costs. Total costs reimbursed were $0.7 million for the year ended
December 31, 1995 and $0.2 million for the period January 1, 1996 to March
15, 1996.
BBMC services real estate acquired by the Bank of Boston and its
affiliates. Related expenses are reimbursed and were $1.7 million for the
year ended December 31, 1995 and $1.7 million for the period January 1,
1996 to March 15, 1996.
An affiliate of Bank of Boston purchases a 99.25% participation in
mortgages in the process of being sold to permanent investors. The
principal balances sold under this agreement aggregated approximately $6.5
billion for the year ended December 31, 1995, and $0.7 billion for the
period January 1, 1996 to March 15, 1996.
BBMC purchased mortgage servicing rights from Bank of Boston during 1995
and capitalized $4.8 million in mortgage servicing rights associated with
this transaction.
BBMC sold mortgage loans to Bank of Boston and its affiliates in its normal
course of business. These sales totaled $0.5 billion for the year ended
December 31, 1995, and $0.6 billion for the period January 1, 1996 to March
15, 1996. Included in mortgage loans held for sale are loans which will be
sold to Bank of Boston and its affiliates totaling $18.1 million at
December 31, 1995, and $64.1 million at March 15, 1996.
Miscellaneous administrative services are provided by related companies.
These services did not have a material impact on the consolidated financial
statements.
14.DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments,"
requires disclosure of fair value information about financial instruments
whether or not recognized in the balance sheet, for which it is practicable
to estimate fair value.
Financial instruments include such items as mortgage loans held for sale,
mortgage loans held for investment, interest rate contracts, notes payable,
and other instruments.
Fair value estimates are made as of a specific point in time based on the
characteristics of the financial instruments and the relevant market
information. Where available, quoted market prices are used. In other
cases, fair values are based on estimates using other valuation techniques,
such as discounting estimated future cash flows using a rate commensurate
with the risks involved or other acceptable methods. These techniques
involve uncertainties and are significantly affected by the assumptions
used and the judgments made regarding risk characteristics of various
financial instruments, prepayments, discount rates, estimates of future
cash flows, future expected loss experience, and other factors. Changes in
assumptions could significantly affect these estimates. Derived fair value
estimates cannot be substantiated by comparison to independent markets and,
in many cases, could not be realized in an immediate sale of the
instrument. Also, because of differences in methodologies and assumptions
used to estimate fair value, BBMC's fair values should not be compared to
those of other companies.
Under the Statement, fair value estimates are based on existing financial
instruments without attempting to estimate the value of anticipated future
business and the value of assets and liabilities that are not considered
financial instruments. Accordingly, the aggregate fair value amounts
presented do not represent the underlying value of BBMC. For certain assets
and liabilities, the information required under the Statement is
supplemented with additional information relevant to an understanding of
the fair value.
The methods and assumptions used to estimate the fair values of each class
of financial instruments are as follows:
Cash
The carrying amount reported in the balance sheet approximates fair value.
Mortgages held for sale
Fair values are based on the estimated value at which the loans could be
sold in the secondary market. These loans are priced to be sold with
servicing rights retained, as is BBMC's normal business practice.
Mortgages held for investment
Fair value is estimated using market quotes for securities backed by
similar loans or by discounting contractual cash flows, adjusted for credit
risk and prepayment estimates. These loans are priced with servicing rights
retained. Discount rates are obtained from secondary market sources.
Accounts receivable, pool loan purchases, and mortgage claims receivable, net
Carrying amounts are considered to approximate fair value. All amounts that
are assumed to be uncollectible within a reasonable time are written off.
Excess mortgage servicing receivable
Fair value is based on the present value of expected future net cash flows
and the current estimated servicing life.
Risk management contracts
Fair values are estimated based on actual market quotes or option models.
Note payable to Bank of Boston
The carrying amount of the note payable to Bank of Boston reported in the
balance sheet approximates its fair value.
Long-term debt
Fair value of long-term debt is estimated by discounting estimated future
cash flows using a rate commensurate with the risks involved.
Commitments to originate mortgage loans
Fair value is estimated using quoted market prices for securities backed by
similar loans adjusted for differences in loan characteristics.
Forward contracts to sell mortgages
Forward contracts to sell mortgages, which represent legally binding
agreements to sell loans to permanent investors at a specified price or
yield, are valued using market prices for securities backed by similar
loans and are reflected in the fair values of the mortgages held for sale,
to the extent that these commitments relate to mortgage loans already
originated, or of the related commitments to extend credit.
Options on mortgage-backed securities
The fair values of options are estimated based on actual market quotes. In
some instances, quoted prices for the underlying loans or option models are
used.
The estimated fair values of BBMC's financial instruments are as follows:
December 31, 1995 March 15, 1996
Carrying Fair Carrying Fair
(In Thousands) Amount Value Amount Value
Assets
Cash $ 830 $ 830 $ 23,216 $ 23,216
Mortgages held for sale 388,436 395,984 628,504 633,993
Mortgages held for investment 33,183 35,003 65,068 65,068
Accounts receivable 82,816 82,816 65,599 65,599
Pool loan purchases 65,272 65,272 56,261 56,261
Mortgage claims receivable 45,422 45,422 17,563 17,563
Excess mortgage servicing
receivable 17,447 19,117 20,393 23,100
Risk management contracts,
classified as PMSR, and other
assets(2) 84,520 84,920 20,169 20,169
Liabilities
Note payable to Bank of Boston 966,000 966,000 1,256,000 1,256,000
Long-term debt 13,816 16,211 13,790 21,695
Off-Balance Sheet(1)
Commitments to originate
mortgage loans - 1,094 - 27,250
Mandatory forward contracts
to sell mortgages(2) - (9,798) - 16,099
Options on mortgage-backed
securities(2) - - - 7,607
Risk management contracts - - - -
(1) Parentheses denote a liability.
(2) See Note 12 for additional disclosures on notional amounts.
Fair value estimates are made as of a specific point in time, based on
relevant market data and information about the financial instrument. These
estimates do not reflect any premium or discount that could result from
offering for sale BBMC's entire holding of a particular financial
instrument. Because no active market exists for some portion of BBMC's
financial instruments, fair value estimates are based on judgments
regarding future expected loss experience, current economic conditions,
current interest rates and repayment trends, risk characteristics of
various financial instruments, and other factors.
These estimates are subjective in nature and involve uncertainties and
matters of significant judgment and, therefore, cannot be determined with
precision. Changes in any of these assumptions used in calculating fair
value would also significantly affect the estimates. Further, the fair
value estimates were calculated as of December 31, 1995 and March 15, 1996.
Changes in market interest rates and prepayment assumption could
significantly change the fair value.
15. CONTINGENCIES
BBMC is a defendant in a number of legal proceedings arising in the normal
course of business. BBMC, in management's estimation, has recorded adequate
reserves in the financial statements for pending litigation. Management,
after reviewing all actions and proceedings pending against or involving
BBMC, considers that the aggregate liability or loss, if any, resulting
from the final outcome of these proceedings will not have a material effect
on the financial position or results of operations of BBMC.
16. ACQUISITION OF BELL MORTGAGE
On June 1, 1995, BBMC purchased the assets and liabilities of Bell
Mortgage Company ("Bell Mortgage"), a privately-held mortgage origination
company located in Minneapolis, Minnesota, for $0.9 million in cash. The
acquisition of Bell Mortgage was accounted for as a purchase. Accordingly,
the purchase price was allocated to net assets acquired based upon their
estimated fair market value. As of a result of the acquisition, goodwill
of $0.4 million was recorded and is being amortized over a 7-year period
using the straight-line method.
Also, under the terms of the agreement, the shareholders of Bell Mortgage
will receive additional contingent cash payments based on Bell Mortgage
reaching specific performance goals over the next 3 years. These additional
cash payments will be recorded as additions to goodwill and will be
amortized over the remainder of the original 7-year period using the
straight-line method.
Results of operations after the acquisition date are included in the
consolidated financial statements. Pro forma financial results would not
have been materially different as a result of this acquisition.
MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDERS MATTERS
HomeSide's common stock was listed on the New York Stock Exchange ("NYSE")
under the symbol HSL. As of February 10, 1998 and February 28, 1997, there
were 99 and 86 shareholders of record of the Company's common stock,
respectively. Class C common stock has no voting rights and is not publicly
traded. There was 1 shareholder of record of Class C common stock as of
February 10, 1998 and February 28, 1997.
Common stock of HomeSide, Inc. was initially sold to the public on January
30, 1997, and the transaction closed on February 5, 1997. High and low
sales prices as reported by the NYSE for the Company's stock are as follows:
High Low
For the period from January 31,
1997 to February 28, 1997 19 16 1/8
For the three months ended May 31, 1997 18 7/8 13 1/2
For the three months ended August 31, 1997 23 5/8 17 3/4
For the three months ended November 30, 1997 27 7/16 13 1/2
For the three months ended February 10, 1998 27 7/8 27 5/16
For the period from March 1, 1997 to February 10, 1998 27 7/8 13 1/2
During the fiscal years ended February 10, 1998 and February 28, 1997, no
dividends were declared or paid on HomeSide's common stock.
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