UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark one)
[x ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File No. 1-12655
HomeSide International, 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)
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 __
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at August 13, 1999
Common stock $0.01 par value 1
Class C non-voting common stock $1.00 par value none
1
<PAGE>
FINANCIAL INFORMATION
ITEM 1. Financial Statements
<TABLE>
<CAPTION>
HOMESIDE INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands, Except Share Data)
(Unaudited)
June 30, 1999 September 30, 1998
------------------- -----------------------
ASSETS
<S> <C> <C>
Cash and cash equivalents $ 198,725 $ 35,008
Mortgage loans held for sale, net 1,604,120 2,048,989
Mortgage servicing rights, net 3,272,691 1,779,180
Early pool buyout advances 354,833 759,579
Accounts receivable, net 227,123 272,005
Premises and equipment, net 59,460 45,657
Goodwill, net 670,017 693,543
Other assets 89,019 117,596
------------------- -----------------------
Total Assets $ 6,475,988 $ 5,751,557
=================== =======================
LIABILITIES AND STOCKHOLDER'S EQUITY
Notes payable $ 3,084,500 $ 2,749,000
Accounts payable and accrued liabilities 600,666 241,302
Deferred income taxes 201,862 160,520
Long-term debt 1,333,142 1,337,783
------------------- -----------------------
Total Liabilities 5,220,170 4,488,605
------------------- -----------------------
Stockholder's Equity:
Common stock:
Common stock, $.01 par value, 100 shares authorized and 1 share issued and
outstanding - -
Class C non-voting common stock, $1.00 par value, 195,000 shares
authorized, and 0 shares issued and outstanding - -
Additional paid-in capital 1,231,302 1,227,846
Retained earnings 24,516 35,106
------------------- -----------------------
Total Stockholder's Equity 1,255,818 1,262,952
------------------- -----------------------
Total Liabilities and Stockholder's Equity $ 6,475,988 $ 5,751,557
=================== =======================
</TABLE>
The accompanying notes are an integral part of
these financial statements.
2
<PAGE>
<TABLE>
<CAPTION>
HOMESIDE INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
(Dollars in Thousands)
For the Three For the Three
Months Ended Months Ended
June 30, 1999 June 30, 1998
------------------ --------------------
<S> <C> <C>
REVENUES:
Mortgage servicing fees $163,461 $118,334
Amortization of mortgage servicing rights (118,759) (74,476)
------------------ --------------------
Net servicing revenue 44,702 43,858
Interest income 43,754 39,003
Interest expense (32,298) (29,793)
------------------ --------------------
Net interest revenue 11,456 9,210
Net mortgage origination revenue 45,685 34,341
Other income 2,067 8,783
------------------ --------------------
Total Revenues 103,910 96,192
EXPENSES:
Salaries and employee benefits 32,639 29,381
Occupancy and equipment 6,898 5,006
Servicing losses on investor-owned loans
and foreclosure-related expenses 10,822 8,387
Goodwill amortization 8,966 8,919
Other expenses 15,459 15,498
------------------ --------------------
Total Expenses 74,784 67,191
Income before income taxes 29,126 29,001
Income tax expense 14,354 14,789
------------------ --------------------
Net income $14,772 $14,212
================== ====================
</TABLE>
The accompanying notes are an integral part of
these financial statements.
3
<PAGE>
<TABLE>
<CAPTION>
HOMESIDE INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
(Dollars in Thousands)
Predecessor
For the Nine For the Period For the Period
Months Ended from February 11, from September 1,
June 30, 1999 1998 to 1997 to February
June 30, 1998 10, 1998
----------------- -------------------- --------------------
<S> <C> <C> <C>
REVENUES:
Mortgage servicing fees $442,088 $182,601 $194,690
Amortization of mortgage servicing rights (299,247) (111,842) (107,458)
----------------- -------------------- --------------------
Net servicing revenue 142,841 70,759 87,232
Interest income 140,352 57,293 51,166
Interest expense (99,830) (45,246) (51,074)
----------------- -------------------- --------------------
Net interest revenue 40,522 12,047 92
Net mortgage origination revenue 125,610 48,610 46,695
Other income 4,580 9,403 635
----------------- -------------------- --------------------
Total Revenues 313,553 140,819 134,654
EXPENSES:
Salaries and employee benefits 100,967 44,011 36,137
Occupancy and equipment 20,042 7,400 7,820
Servicing losses on investor-owned loans
and foreclosure-related expenses 29,465 10,210 11,465
Goodwill amortization 26,844 13,860 283
Other expenses 47,856 23,694 19,085
----------------- -------------------- --------------------
Total Expenses 225,174 99,175 74,790
Income before income taxes 88,379 41,644 59,864
Income tax expense 44,434 21,647 23,347
----------------- -------------------- --------------------
Net income $43,945 $19,997 $36,517
================= ==================== ====================
</TABLE>
The accompanying notes are an integral part of
these financial statements.
4
<PAGE>
<TABLE>
<CAPTION>
HOMESIDE INTERNATIONAL, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
(Dollars in Thousands)
For the Three For the Three
Months Ended Months Ended
June 30, 1999 June 30, 1998
------------------- ---------------------
<S> <C> <C>
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
Net income $ 14,772 $ 14,212
Adjustments to reconcile net income to net cash provided by operating
activities:
Amortization of mortgage servicing rights 118,759 74,476
Depreciation and amortization 10,077 10,340
Servicing losses on investor-owned loans 2,784 3,954
Change in deferred income tax liability 14,322 12,080
Origination, purchase and sale of loans held for sale, net of
repayments 245,672 273,004
Change in accounts receivable (2,107) 32,633
Change in other assets and accounts payable and accrued
liabilities 8,380 (41,177)
------------------- ---------------------
Net cash provided by operating activities 412,659 379,522
CASH FLOWS USED IN INVESTING ACTIVITIES:
Purchase of premises and equipment, net (6,913) (6,081)
Acquisition of mortgage servicing rights (319,536) (137,442)
Net (purchase of) proceeds from risk management contracts (69,249) 128,930
Early pool buyout reimbursements (advances) 98,494 (74,230)
Acquisition of Bank One Mortgage servicing assets - (201,000)
------------------- ---------------------
Net cash used in investing activities (297,204) (289,823)
CASH FLOWS PROVIDED BY (USED IN) FINANCING ACTIVITIES:
Net borrowings from (repayments to) banks 140,001 (433,347)
Repayments of commercial paper, net of repayments (88,698) -
Issuance of notes payable - 350,000
Payment of debt issue costs - (2,888)
Repayment of long-term debt (122) (122)
Dividends paid to the Parent (24,000) -
------------------- ---------------------
Net cash provided by (used in) financing activities 27,181 (86,357)
Net increase in cash and cash equivalents 142,636 3,342
Cash and cash equivalents at beginning of period 56,089 14,045
------------------- ---------------------
Cash and cash equivalents at end of period $ 198,725 $ 17,387
=================== =====================
Supplemental disclosure of cash flow information:
Interest paid $ 28,287 $ 35,002
Income taxes paid $ 32 2,657
</TABLE>
The accompanying notes are an integral part of
these financial statements.
5
<PAGE>
<TABLE>
<CAPTION>
HOMESIDE INTERNATIONAL, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
(Dollars in Thousands)
Predecessor
For the Nine For the Period from For the Period from
Months Ended February 11, 1998 September 1, 1997
June 30, 1999 to June 30, 1998 to February 10, 1998
------------------ --------------------- ---------------------
<S> <C> <C> <C>
CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES:
Net income
$ 43,945 $ 19,997 $ 36,517
Adjustments to reconcile net income to net cash provided by
(used in)operating activities:
Amortization of mortgage servicing rights 299,247 111,842 107,458
Depreciation and amortization 29,251 15,685 5,037
Servicing losses on investor-owned loans 9,419 5,147 5,781
Change in deferred income tax liability 41,342 18,939 20,758
Origination, purchase and sale of loans held for sale, net of
repayments 444,869 (85,891) (211,035)
Change in accounts receivable 35,232 (23,829) (48,484)
Change in other assets and accounts payable and accrued
liabilities 127,302 82,885 (73,723)
------------------ ---------------------------------------------
Net cash provided by (used in) operating activities 1,030,607 144,775 (157,691)
CASH FLOWS USED IN INVESTING ACTIVITIES:
Purchase of premises and equipment, net (19,225) (9,963) (12,037)
Acquisition of mortgage servicing rights (992,348) (299,701) (261,387)
Net (purchase of) proceeds from risk management contracts (543,710) 143,115 218,306
Early pool buyout reimbursements (advances) 404,746 (149,140) (5,692)
Acquisition of Bank One Mortgage servicing assets - (201,000) -
------------------ --------------------- ---------------------
Net cash used in investing activities (1,150,537) (516,689) (60,810)
CASH FLOWS PROVIDED BY FINANCING ACTIVITIES:
Net (repayments to) borrowings from banks (850,898) (49,556) 206,627
Issuance of commercial paper, net of repayments 1,189,502 - -
Issuance of notes payable - 410,000 45,000
Payment of debt issue costs - (3,096) (886)
Repayment of long-term debt (424) (160) (358)
Dividends paid to the Parent (54,533) - 200
------------------ --------------------- ---------------------
Net cash provided by financing activities 283,647 357,188 250,583
Net increase (decrease) in cash and cash equivalents 163,717 (14,726) 32,082
Cash and cash equivalents at beginning of period 35,008 32,113 31
------------------ --------------------- ---------------------
Cash and cash equivalents at end of period $ 198,725 $ 17,387 $ 32,113
================== ===================== =====================
Supplemental disclosure of cash flow information:
Interest paid $ 133,452 $ 48,605 $ 52,922
Income taxes paid $ 18,818 $ 2,657 $ 821
</TABLE>
The accompanying notes are an integral part of
these financial statements.
6
<PAGE>
HOMESIDE INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying consolidated financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q and Rule 10-01 of Regulation
S-X. Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements. In the opinion of management, all adjustments (consisting of normal
recurring adjustments) considered necessary for a fair presentation have been
included.
On February 10, 1998, National Australia Bank, Ltd. (the "National")
acquired all outstanding shares of the common stock of HomeSide International,
Inc. ("HomeSide" or the "Company") and HomeSide adopted a fiscal year end of
September 30 to conform to the fiscal year of the National. Accordingly,
comparative financial statements for the same nine month period in the prior
year have not been presented. Instead, a comparison of the periods of the prior
year that most closely correspond to the present nine month period is presented.
HomeSide's operating results for the present nine month period are not directly
comparable to its historical operating results due, in part, to different
balance sheet valuations (estimated fair value as compared to historical cost).
In addition, because HomeSide's operating results are produced on a quarterly
basis, it is not practicable to furnish a period prior to February 11, 1998 that
corresponds to any period other than the period reported according to the
predecessor's prior fiscal year periods.
Operating results for the three and nine months ended June 30, 1999, the
three months ended June 30, 1998, the period from February 11, 1998 to June 30,
1998, and the predecessor period from September 1, 1997 to February 10, 1998 are
not necessarily indicative of the results that may be expected for the fiscal
period ending September 30, 1999. For further information, refer to the
consolidated financial statements and footnotes thereto included in the Form
10-K for the period from February 11, 1998 to September 30, 1998 of HomeSide
International, Inc.
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.
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. From May 31, 1996 until the 1997 public offering of common stock,
the Investors, BankBoston and Barnett each owned approximately one-third of
HomeSide . Following the public offering, the Investors, BankBoston and Barnett
owned in the aggregate approximately 79% of the outstanding common stock.
On January 9, 1998, NationsBank Corporation, now BankAmerica Corporation,
acquired all the outstanding common stock of Barnett Banks, Inc.
On February 10, 1998, the National acquired all outstanding shares of the
common stock of HomeSide. As consideration, the National paid $27.825 per share
for all of the outstanding common stock and $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 the Company's common stock and the Company has become
an indirect wholly-owned subsidiary of the National. HomeSide also adopted a
fiscal year end of September 30 to conform to the fiscal year of the National.
3. ACQUISITIONS
On November 23, 1998, HomeSide agreed to purchase or sub-service
approximately $5 billion in mortgage servicing from People's Bank, the largest
mortgage lender in Connecticut. People's Bank also became a Preferred Partner,
committing to sell a significant portion of the residential mortgage loans it
originates to HomeSide for five years.
On March 4, 1999, HomeSide agreed to purchase or sub-service the servicing
portfolio of First Chicago NBD Mortgage Company ("First Chicago"). This
transaction represents an expansion of HomeSide's strategic alliance with Banc
One Mortgage Corporation and an increase in HomeSide's servicing portfolio of
approximately $18 billion. In addition, First Chicago has committed to sell the
servicing rights associated with its residential mortgage production to HomeSide
on a flow basis.
On June 15, 1999, HomeSide announced that it had formed a strategic
alliance with Cendant Mortgage Corporation. Cendant Mortgage has agreed to sell
up to $7.0 billion in mortgage servicing assets annually to HomeSide over a 5
year period. Since December 31, 1998, HomeSide has purchased and will service
$7.0 billion of Cendant Mortgage's portfolio, representing approximately 60,000
loans. Cendant Mortgage is the sixth largest retail originator in the United
States.
4. CASH AND CASH EQUIVALENTS
Cash and cash equivalents include cash and due from banks, interest-bearing
deposits, and margin deposits with an original maturity of three months or less.
Margin deposits associated with the risk management program for mortgage
servicing rights are maintained with brokers in accordance with the requirements
of International Swap Dealer Agreements. At June 30, 1999, margin deposits
amounted to approximately $157.1 million.
5. MORTGAGE SERVICING RIGHTS
The change in the balance of mortgage servicing rights was as follows (in
thousands):
Balance, September 30, 1998 $1,779,180
Additions 992,348
Sales of servicing -
Deferred hedge loss 800,410
Amortization (299,247)
-----------------
Balance, June 30, 1999 $3,272,691
=================
6. NOTES PAYABLE
Notes payable consist of the following (in thousands):
<TABLE>
<CAPTION>
Weighted Average Interest Rate
Total Outstanding At Period End During the Period
---------------------- ------------- -----------------
<S> <C> <C> <C>
Commercial paper $ 1,189,500 4.96% 4.96%
National Australia Bank unsecured facility 1,895,000 4.96% 4.96%
======================
Total, June 30, 1999 $ 3,084,500
======================
Bank line of credit $ 995,000 5.88% 5.96%
National Australia Bank unsecured facility 1,754,000 5.66% 5.67%
======================
Total, September 30, 1998 $ 2,749,000
======================
</TABLE>
On October 21, 1998, HomeSide Lending, Inc. established a $1.5 billion
commercial paper program. The program is supported by the Company's bank line of
credit and outstanding commercial paper reduces available borrowings under the
bank line of credit. At June 30, 1999, a total of $1.2 billion of commercial
paper was outstanding. The weighted average interest rates on commercial paper
outstanding during the three and nine month periods ended June 30, 1999 were
4.96% and 5.10%, respectively.
On June 23, 1998, HomeSide entered into an agreement for an unsecured
revolving credit facility with the National. The agreement was amended on June
22, 1999. Under the credit facility, HomeSide can borrow up to $2.5 billion,
subject to limits imposed by regulatory authorities. As of June 30, 1999,
Australian financial regulations limited the National's ability to lend funds to
HomeSide, a non-bank affiliate, to approximately $2.1 billion. Borrowings under
the credit facility may be overnight or for periods of 7, 30, 60 or 90 days. For
overnight borrowings, the interest rate is determined by HomeSide and the
National at the time of the borrowing. For LIBOR - based borrowings, the
interest rate is charged at the corresponding LIBOR rate. At June 30, 1999, the
amount outstanding under this credit facility totaled $1.9 billion. The weighted
average interest rate on outstanding borrowings under this credit facility
during the three and nine month periods ended June 30, 1999 were 4.96% and
5.18%, respectively.
HomeSide borrows funds on a demand basis from an independent syndicate of
banks under a $2.0 billion credit facility which, at the request of HomeSide,
may be increased to $3.0 billion. 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 $760.0
million. 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 February 14, 2000, the
line of credit will terminate. The credit agreement contains covenants that
impose limitations and restrictions on HomeSide, including requirements to
maintain certain net worth and ratio requirements. Under certain circumstances
set forth in the credit agreement, borrowings under the agreement become
collateralized by HomeSide's assets. HomeSide is in compliance with all
requirements included in the credit agreement. At June 30, 1999, the primary use
of the credit facility was to provide liquidity back-up for HomeSide's $1.5
billion commercial paper program and there was no balance outstanding under the
credit line. At September 30, 1998, the amount outstanding under the credit
line, all of which was under the warehouse credit facility, was $1.0 billion.
7. LONG-TERM DEBT
11.25 % Notes
On May 14, 1996, HomeSide issued $200.0 million of 11.25% notes (the
"Parent Notes") maturing on May 15, 2003, and paying interest semiannually in
arrears on May 15 and November 15 of each year. The Parent Notes are redeemable
at the option of HomeSide, in whole or in part, at any time on or after May 15,
2001, at certain fixed redemption prices. The indenture contains covenants that
impose limitations and restrictions, including requirements to maintain certain
net worth and ratio requirements. In addition, the Parent Notes are secured by a
second priority pledge of the common stock of HomeSide Lending. HomeSide is in
compliance with all net worth and ratio requirements included in the indenture
relating to the Parent Notes. HomeSide used a portion of the proceeds from its
February 5, 1997 offering of common stock to pre-pay $70.0 million of the Parent
Notes at a premium of $7.9 million. The amount outstanding at June 30, 1999 was
$130.0 million. The balance of the Parent Notes at June 30, 1999, including the
fair value adjustment resulting from the merger with the National, was $148.1
million.
Medium-term notes
As of June 30, 1999, outstanding medium-term notes issued by HomeSide
Lending under a $1.6 billion shelf registration statement were as follows (in
thousands):
Issue Date Outstanding Balance Coupon Rate Maturity Date
May 20, 1997 $ 250,000 6.875% May 15, 2000
June 30, 1997 200,000 6.875% 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 6.750% August 1, 2004
September 15, 1997 45,000 6.770% September 17, 2001
March 19, 1998 60,000 5.6875% March 20, 2000
April 23, 1998 125,000 5.7875% April, 24, 2001
May 22, 1998 225,000 6.200% May 15, 2003
--------------------------
Total $1,160,000
==========================
As of June 30, 1999, $850.0 million of the outstanding, fixed rate
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 three and nine months ended June 30, 1999,
including the effect of the interest rate swap agreements, were 5.49% and 5.74%,
respectively. Net proceeds from the issuances were primarily used to reduce the
amounts outstanding under the bank credit agreement and to fund the acquisition
of the servicing rights associated with Bank One's $16.6 billion portfolio.
The balance of the medium-term notes at June 30, 1999, including the fair
value adjustment resulting from the merger with the National, was $1.2 billion,
made up of $0.9 billion classified as long-term debt and $0.3 billion classified
as current portion of long-term debt.
Mortgage note payable
In connection with the acquisition of BancBoston Mortgage Corporation,
HomeSide assumed a mortgage note payable that is due in 2017 and bears interest
at a stated rate of 9.5%. HomeSide's main office building is pledged as
collateral for the mortgage note payable. The balance of the mortgage payable at
June 30, 1999, including the fair value adjustments resulting from the merger
with the National, was $23.9 million.
8. EARLY POOL BUYOUT ADVANCES AND SALES
On November 30, 1998, HomeSide Lending formed a wholly-owned subsidiary,
HomeSide Funding, Inc. ("HomeSide Funding"), whose sole purpose is to acquire
delinquent loans from HomeSide Lending's servicing portfolio that are insured by
the Federal Housing Administration or guaranteed by the Department of Veterans
Affairs. The purchases are funded through sales to a trust. HomeSide Funding is
a non-consolidated, qualifying special purpose entity.
In December 1998, HomeSide Lending entered into a Pooling and Servicing
Agreement with Bank One Trust Company, N.A., as Trustee, and HomeSide Funding,
as Transferor, pursuant to which approximately $184 million and $467 million of
delinquent mortgage loans were sold to HomeSide Funding during the three and
nine month periods ending June 30, 1999, respectively. Subsequently, these loans
were sold to the HomeSide Mortgage Loan Buyout Trust 1998-A. At June 30, 1999,
HomeSide held a residual interest in loans sold to HomeSide Funding in the
amount of $22.1 million, which approximated fair value.
9. NEW ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard No. 133, "Accounting for Derivative Instruments
and Hedging Activities" ("FAS 133"). This statement standardizes the accounting
for derivative instruments and hedging activities by requiring that an entity
recognize those items as assets or liabilities in the statement of financial
position and measure them at fair value. If certain conditions are met, a
derivative instrument may be specifically designated as (a) a hedge of the
exposure to changes in the fair value of a recognized asset or liability, or of
an unrecognized firm commitment, (b) a hedge of the exposure to variability in
the cash flows of a recognized asset, liability or forecasted transaction or (c)
a hedge of the foreign currency exposure of an unrecognized firm commitment, an
available-for-sale security, a forecasted transaction or a net investment in a
foreign operation. In June 1999, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 137, "Accounting for Derivative
Instruments and Hedging Activities - Deferral of the Effective Date of FASB
Statement No. 133 - an Amendment of FASB Statement No. 133." This statement
deferred the effective date of FAS 133 to fiscal quarters of fiscal years
beginning after June 15, 2000. Management has not yet determined the impact of
these statements on the financial statements of HomeSide.
In October 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 134, "Accounting for
Mortgage-Backed Securities Retained after Securitization of Mortgage Loans Held
for Sale by a Mortgage Banking Enterprise." This statement further amends
Statement No. 65 to require that after the securitization of mortgage loans held
for sale, an entity engaged in mortgage banking activities classify the
resulting mortgage-backed securities or other retained interests based on its
ability and intent to sell or hold those investments. This statement was
effective for the first fiscal quarter beginning after December 15, 1998.
Management has determined that the impact of this statement on the presentation
of the financial statements of HomeSide is immaterial.
10. DIVIDENDS
On April 1, 1999 and October 1, 1998 the Company paid dividends to the
Parent in the amounts of $24.0 million and $30.5 million, respectively.
11. SUBSEQUENT EVENTS
On July 30, 1999, HomeSide's primary operating subsidiary, HomeSide
Lending, Inc., filed a Registration Statement on Form S-3 (Registration Number
333-84179) (the "Shelf Registration Statement") with the Securities and Exchange
Commission registering $1 billion in senior unsecured debt securities. The
prospectus included in the Shelf Registration Statement is a combined prospectus
and also relates to the remaining unsold debt securities having an aggregate
offering price of $408,000,000 previously registered by HomeSide. The notes will
have stated maturities of nine months or more from the date issued. The notes
may bear interest at fixed or floating rates or may not bear any interest. When
effective, $1.4 billion will be available for future issuance under the Shelf
Registration Statement.
On August 11, 1999, HomeSide Lending, Inc. issued $230.0 million floating
rate notes due August 16, 2000 under Rule 144A of the Securities Act of 1933.
The Notes are unsecured obligations of HomeSide Lending, Inc. and rank equally
with all other unsecured and unsubordinated indebtedness of HomeSide. The Notes
will mature and the principal amount, together with interest accrued and unpaid
interest, will be payable on August 16, 2000. Interest on the Notes is payable
quarterly in arrears on November 16, 1999, February 16, 2000, May 16, 2000, and
August 16, 2000. The per annum rate of interest will equal three-month LIBOR,
reset quarterly, plus 20 basis points. HomeSide may, at its option, redeem the
Notes on any interest payment date, in whole but not in part, at 100 percent of
the principal amount plus accrued and unpaid interest.
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
HomeSide International, Inc. (the "Company"), through its wholly-owned
operating subsidiary HomeSide Lending, Inc. ("HomeSide Lending"), is one of the
largest full service residential mortgage banking companies in the United
States. HomeSide's strategy emphasizes variable cost mortgage origination, low
cost servicing, and effective risk management. Headquartered in Jacksonville,
Florida, HomeSide Lending ranks as the 8th largest originator and the 6th
largest servicer in the United States at June 30, 1999, 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, Bank One, and People's Bank relationships.
On February 10, 1998, National Australia Bank, Ltd. (the "National")
acquired all outstanding shares of the common stock of HomeSide International,
Inc. As consideration, the National paid $27.825 per share for all of the
outstanding common stock and $17.7 million cash to retire all outstanding stock
options. The total purchase price was approximately $1.2 billion. 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 owns 100% of the Company's common stock and the Company has become an
indirect wholly-owned subsidiary of the National.
As a result of the merger with the National, HomeSide adopted a fiscal
year end of September 30 to conform to the fiscal year of the National.
Accordingly, comparative financial statements for the same nine month period in
the prior year have not been presented. Instead, a comparison of the periods of
the prior year that most closely correspond to the present nine month period is
presented. HomeSide's operating results for the present nine month period are
not directly comparable to its historical operating results due, in part, to
different balance sheet valuations (estimated fair value as compared to
historical cost). In addition, because HomeSide's operating results are produced
on a quarterly basis, it is not practicable to furnish a period prior to
February 11, 1998 that corresponds to any period other than the periods reported
according to the predecessor's prior fiscal year periods. Therefore, the prior
period from February 11, 1998 to June 30, 1998 and the predecessor period from
September 1, 1997 to December 10, 1998 have been presented in accordance with
Regulation 15d-10(e)(4).
Operating results for the three and nine months ended June 30, 1999, the
period from February 11, 1998 to June 30, 1998, and the predecessor period from
September 1, 1997 to February 10, 1998 are not necessarily indicative of the
results that may be expected for the fiscal year ending September 30, 1999. For
further information, refer to the consolidated financial statements and
footnotes thereto included in the Form 10-K for the fiscal period from February
11, 1998 to September 30, 1998 of HomeSide International, Inc.
Forward-Looking Statements
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for certain forward-looking statements. This Quarterly Report on Form
10-Q 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 depends on its ability to
obtain additional financing in the future for originating loans, investment in
servicing rights, working capital, capital expenditure and general corporate
purposes, (2) economic downturns 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.
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. HomeSide also purchases servicing rights in bulk from time to
time. 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 origination overhead, HomeSide is
well 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 three and nine months ended June 30,
1999, the period from February 11, 1998 to June 30, 1998, and the predecessor
period from September 1, 1997 to February 10, 1998 (in millions):
<TABLE>
<CAPTION>
Predecessor
For the Three For the Three For the Nine For the Period For the Period
Months Ended Months Ended Months Ended From February 11, From September 1,
June 30, 1999 June 30, 1998 June 30, 1999 1998 to June 30, 1997 to February
1998 10, 1998
----------------- -------------------- ----------------- -------------------- --------------------
<S> <C> <C> <C> <C> <C>
Correspondent $ 4,156 $4,264 $ 14,750 $6,589 $ 6,280
Co-issue 1,956 1,139 3,871 2,627 2,907
Broker 967 709 3,217 1,081 609
----------------- -------------------- ----------------- -------------------- --------------------
Total wholesale 7,079 6,112 21,838 10,297 9,796
Direct 470 255 1,153 352 193
----------------- -------------------- ----------------- -------------------- --------------------
Total production 7,549 6,367 22,991 10,649 9,989
Bulk acquisitions 4,665 17,143 33,748 17,145 1,465
----------------- -------------------- ----------------- -------------------- --------------------
Total production and
Acquisitions $12,214 $23,510 $56,739 $27,794 $11,454
================= ==================== ================= ==================== ====================
</TABLE>
Total loan production, excluding bulk acquisitions, was $7.5 billion for
the three months ended June 30, 1999 compared to $6.4 billion for the three
months ended June 30, 1998, a 17% increase. Loan production was $23.0 billion
for the nine months ended June 30, 1999, compared to $10.0 billion for the
predecessor period from September 1, 1997 to February 10, 1998 combined with
$10.6 billion for the period from February 11, 1998 to June 30, 1998. On an
annualized basis, loan production increased 24% for the nine months ended June
30, 1999 from the predecessor period from September 1, 1997 to February 10, 1998
combined with the period from February 11, 1998 to June 30, 1998. The increases
for the three and nine month periods ended June 30, 1999 were primarily due to
increases in wholesale production. For the nine months ended June 30, 1999,
HomeSide's correspondent lending, broker, and co-issue channels were the primary
contributors to production volume. The correspondent lending channel volume
decreased 3% for the three months ended June 30, 1999 compared to the three
months ended June 30, 1998. Correspondent lending volume increased 27% on an
annualized basis for the nine months ended June 30, 1999 compared to the
predecessor period from September 1, 1997 to February 10, 1998 combined with the
period from February 11, 1998 to June 30, 1998. A major contributor to the
increase was the addition of Bank One and People's Bank as Preferred Partners on
June 5, 1998 and November 23, 1998, respectively. As Preferred Partners, Banc
One and People's Bank will sell a significant portion of the residential
mortgage loans they originate to HomeSide for five years. Another contributor to
correspondent lending volume was the strategic alliance formed on June 15, 1999
between HomeSide Lending and Cendant Mortgage, one of the largest retail
mortgage loan originators in the United States. Cendant Mortgage has agreed to
sell up to $7 billion of servicing assets annually to HomeSide Lending for a
five-year period.
On May 29, 1998, HomeSide also purchased the operations of
NationsBank's subsidiary Loan America, a national broker network. This purchase
is contributing to HomeSide's expansion of its broker network, a production
channel that is key to HomeSide's variable cost origination strategy. The broker
channel volume increased 36% for the three months ended June 30, 1999 compared
to the three months ended June 30, 1998. The broker channel increased 112% on an
annualized basis for the nine months ended June 30, 1999 compared to the
predecessor period from September 1, 1997 to February 10, 1998 combined with the
period from February 11, 1998 to June 30, 1998.
The interest rate environment has significantly affected the size of the
mortgage origination market. When interest rates decline, increasing numbers of
mortgagees refinance their loans. As a result, the mortgage origination market
grows. During this period of high refinances, HomeSide has strived to keep
production at a level which is sustainable should the market size return to 1997
and 1996 volumes. As an alternative, HomeSide has emphasized its acquisitions
strategy to maintain and increase the servicing portfolio size during this
period of relatively high portfolio runoff.
As part of this acquisition strategy, HomeSide completed bulk acquisitions
totaling $4.7 billion and $33.7 billion during the three and nine months ended
June 30, 1999, respectively. Bulk acquisitions for the three months ended June
30, 1998 were $17.1 billion, including the acquisition of Bank One's $16.6
billion mortgage portfolio. For the predecessor period from September 1, 1997 to
February 10, 1998 combined with the period from February 11, 1998 to June 30,
1998, bulk acquisitions were $18.6 billion. The increase in purchases is a
continuation of HomeSide's targeted approach to grow the servicing portfolio.
Included in these bulk acquisitions is the March 4, 1999 purchase of First
Chicago NBD Mortgage Company's ("First Chicago") servicing portfolio. This bulk
acquisition, which represents an expansion of HomeSide's strategic alliance with
Bank One, increased HomeSide's servicing portfolio by approximately $18 billion.
In addition, First Chicago has committed to sell the servicing rights associated
with its residential mortgage originations to HomeSide on a flow basis. Also
included in bulk acquisitions are $5 billion in mortgage loans purchased from
People's Bank on November 23, 1998 and approximately $2.2 billion and $6.9
billion in mortgage loans purchased from Cendant Mortgage for the three and nine
month periods ended June 30, 1999, respectively. Cendant Mortgage has agreed to
sell $7 billion of its mortgage production to HomeSide each year and People's
Bank, the largest mortgage lender in Connecticut, has also committed to sell its
residential mortgage originations to HomeSide for five years.
Servicing Portfolio
Management believes that HomeSide is one of the most efficient mortgage
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 $143 billion, HomeSide services the loans of approximately
1.7 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, 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 three and nine months ended June 30, 1999, the three months
ended June 30, 1998, the period from February 11, 1998 to June 30, 1998, and the
predecessor period from September 1, 1997 to February 10, 1998 (in millions):
<TABLE>
<CAPTION>
Predecessor
For the Three For the Three For the Nine For the Period For the Period
Months Ended Months Ended Months Ended From February 11, From September 1,
June 30, 1999 June 30, 1998 June 30, 1999 1998 to June 30, 1997 to February
1998 10, 1998
----------------- -------------------- ----------------- -------------------- --------------------
<S> <C> <C> <C> <C> <C>
Balance at beginning of
Period $ 139,653 $ 99,918 $115,800 $ 99,956 $96 554
Additions 12,214 23,510 56,739 27,794 11,454
Scheduled amortization 849 663 2,401 983 973
Prepayments 7,807 6,378 24,956 10,211 6,403
Foreclosures 395 385 988 514 370
Sales of servicing 195 201 1,573 241 306
----------------- -------------------- ----------------- -------------------- --------------------
Total reductions 9,246 7,627 29,918 11,949 8,052
----------------- -------------------- ----------------- -------------------- --------------------
Balance at end of period $142,621 $ 115,801 $ 142,621 $ 115,801 $99,956
================= ==================== ================= ==================== ====================
</TABLE>
The number of loans serviced at June 30, 1999 was 1,667,124 compared to
1,424,256 at June 30, 1998. 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 its proprietary servicing software. This system
allows HomeSide to double the number of loans typically serviced on a single
system. For the three and nine months ended June 30, 1999, substantially all of
the servicing portfolio is serviced on the proprietary system.
Results of Operations
For the three months ended June 30, 1999 compared to the three months ended June
30, 1998
Summary
HomeSide's net income, excluding goodwill amortization from the
acquisition of HomeSide by the National, increased 3% to $23.7 million for the
three months ended June 30, 1999 compared to $23.1 million for the three months
ended June 30, 1998. Total revenues for the three months ended June 30, 1999
were $103.9 million compared to $96.2 million for the three months ended June
30, 1998, an 8% increase. The increases in net income and revenues for the three
months ended June 30, 1999 compared to the three months ended June 30, 1998 were
primarily attributable to increases in net mortgage origination revenue and net
interest revenue. Net mortgage origination revenue increased primarily due to
increased margins on loan production activities, increased mortgage loan
production volumes, and gains on sales of reinstated early pool buyout loans.
Net interest revenue increased due to increases in the balances of average
interest-earning assets and as a result of reduced borrowing costs from improved
credit ratings. Net servicing revenue increased 2% for the three months ended
June 30, 1999 compared to the three months ended June 30, 1998, primarily due to
an increase in the servicing portfolio, partially offset by an increase in
amortization expense. The increased amortization expense resulted from an
increase in the average balance of mortgage servicing rights. Total expenses
increased as a result of expenses associated with the growing mortgage servicing
portfolio.
Net Servicing Revenue
Net servicing revenue was $44.7 million for the three months ended June
30, 1999 compared to $43.9 million for the three months ended June 30, 1998, a
2% increase. Net servicing revenue is comprised of mortgage servicing fees,
ancillary servicing revenue, and amortization of mortgage servicing rights.
Mortgage servicing fees increased 38% to $163.5 million for the three
months ended June 30, 1999 compared to $118.3 million for the three months ended
June 30, 1998, primarily as a result of portfolio growth. The servicing
portfolio increased $26.8 billion to $142.6 billion at June 30, 1999 compared to
$115.8 billion at June 30, 1998, a 23% increase. A significant portion of this
portfolio growth was due to the purchase of First Chicago NBD Mortgage Company's
$18 billion servicing portfolio on March 4, 1999. HomeSide's weighted average
interest rates of the mortgage loans in the servicing portfolio were 7.47% and
7.76% at June 30, 1999 and June 30, 1998, respectively. The weighted average
servicing fee, including ancillary income, for the servicing portfolio was
0.465% for the three months ended June 30, 1999 compared to 0.450% for the three
months ended June 30, 1998. The increase in the weighted average servicing fee
was due to guaranteed servicing fees resulting from the termination agreement
with NationsBank on their acquisition of Barnett.
Amortization expense was $118.8 million for the three months ended June 30,
1999 compared to $74.5 million for the three months ended June 30, 1998, a 59%
increase. Amortization expense increased mainly as a result of a higher average
balance of mortgage servicing rights and lower interest rates. 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 and the rates at which HomeSide is able to borrow. 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 result in higher average
balances of loans held for sale and consequently higher levels of interest
income from interest 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 totaled $11.5 million for the three months ended June
30, 1999 compared to $9.2 million for the three months ended June 30, 1998, a
25% increase. The increase in net interest revenue was primarily due to
increases in the average balances of loans held for sale and escrow deposits.
Lower funding rates obtained through improved credit ratings also contributed to
increases in net interest income. These increases were partially offset by an
increase in interest expense to fund the growth of mortgage servicing assets.
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 $45.7 million for the three months
ended June 30, 1999 compared to $34.3 million for the three months ended June
30, 1998, a 33% increase. This increase was primarily due to increased margins
on loan production activities, increased mortgage loan production volumes, and
gains on sales of reinstated early pool buyout loans.
Other Income
Other income for the three months ended June 30, 1999 was $2.1 million
compared to $8.8 million for the three months ended June 30, 1998, a 76%
decrease. The decrease was primarily due to the prior year recognition of income
in relation to payments received for termination of the Preferred Seller
arrangement with NationsBank that resulted from the NationsBank acquisition of
Barnett.
Salaries and Employee Benefits
Salaries and employee benefits expense was $32.6 million for the three
months ended June 30, 1999 compared to $29.4 million for the three months ended
June 30, 1998, an 11% increase. The average number of full-time equivalent
employees was 2,706 for the three months ended June 30, 1999 compared to 2,139
for the three months ended June 30, 1998. The increases in salaries and employee
benefits expense and average number of full-time equivalent employees are
primarily attributable to additional expenses and employees to service the
growing mortgage servicing portfolio, increased production volumes, and
increased prepayment activity.
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 three
months ended June 30, 1999 was $6.9 million compared to $5.0 million for the
three months ended June 30, 1998, a 38% increase. The increase in expense was
mainly due to the increased expenses incurred to enhance processing systems and
technology expenditures necessary to support targeted business growth.
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 the final disposition of loans,
non-recoverable foreclosure costs, accrued interest for which payment has been
curtailed and estimates for potential losses based on HomeSide's experience as a
servicer of government loans.
The servicing losses on investor-owned loans and foreclosure-related
expenses totaled $10.8 million for the three months ended June 30, 1999 compared
to $8.4 million for the three months ended June 30, 1998. The increase was
primarily due to the growth of the portfolio.
Included in the balance of accounts payable and accrued liabilities at
June 30, 1999 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 losses are generally greatest during the three to six year age of the
loan.
The following table sets forth HomeSide's delinquency and foreclosure
experience:
<TABLE>
<CAPTION>
Servicing Portfolio Delinquencies
(percent by loan count)
June 30, 1999 June 30, 1998
-------------------- -------------------
<S> <C> <C>
Servicing Portfolio Delinquencies, excluding bankruptcies (at end of period)
30 days 3.20% 3.38%
60 days 0.59% 0.69%
90+ days 0.47% 0.58%
-------------------- -------------------
Total past due 4.26% 4.65%
==================== ===================
Foreclosures pending 0.66% 0.75
==================== ===================
</TABLE>
As a result of a larger and more mature portfolio at June 30, 1999
compared to June 30, 1998, servicing losses on investor-owned loans and
foreclosure-related expenses increased while servicing portfolio delinquencies
decreased.
Other Expenses and Goodwill Amortization
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 were $15.5 million for the three months ended June 30,
1999, approximately equal to other expenses for the three months ended June 30,
1998. Goodwill amortization was $9.0 million and $8.9 million, respectively, for
the three months ended June 30, 1999 and the three months ended June 30, 1998.
Income Tax Expense
HomeSide's income tax expense was $14.4 million for the three months ended
June 30, 1999 compared to $14.8 million for the three months ended June 30,
1998. The effective income tax rates for the three month periods ended June 30,
1999 and June 30, 1998 were 49% and 51%, respectively.
Results of Operations
For the nine months ended June 30, 1999 compared to the period from February 11,
1998 to June 30, 1998 and the predecessor period from September 1, 1997 to
February 10, 1998 combined
Summary
HomeSide's net income, excluding goodwill amortization from the
acquisition of HomeSide by the National, was $70.8 million for the nine months
ended June 30, 1999, an 11% annualized increase compared to $33.9 million for
the period from February 11, 1998 to June 30, 1998 combined with $36.8 million
for the predecessor period from September 1, 1997 to February 10, 1998. Net
income after the goodwill amortization from the acquisition of HomeSide by the
National for the nine months ended June 30, 1999 was $43.9 million. Total
revenues for the nine months ended June 30, 1999 were $313.6 million compared to
$140.8 million for the period from February 11, 1998 to June 30, 1998 and $134.7
million for the predecessor period from September 1, 1997 to February 10, 1998,
a 26% annualized increase. The increases in net income, excluding goodwill
amortization, and revenues for the nine months ended June 30, 1999 compared to
the period from February 11, 1998 to June 30, 1998 combined with the predecessor
period from September 1, 1997 to February 10, 1998 were primarily attributable
to increases in net mortgage origination revenue and net interest revenue. Net
mortgage origination revenue increased on an annualized basis primarily due to
increased production volumes and margins on loan production activities. Net
interest revenue increased on an annualized basis due to increases in the
balances of average interest-earning assets and as a result of reduced borrowing
costs from improved credit ratings. Net servicing revenue increased less than 1%
on an annualized basis primarily due to an increase in amortization expense,
offset by an increase in the servicing portfolio. Declining interest rates
during most of the period increased mortgage prepayments speeds and consequently
increased amortization expense. Amortization expense also increased as a result
of a higher average balance in mortgage servicing rights. Total expenses
increased on an annualized basis as a result of increases in production volume,
expenses associated with the growing mortgage servicing portfolio and high loan
prepayment activity.
Net Servicing Revenue
Net servicing revenue was $142.8 million for the nine months ended June
30, 1999 compared to $70.8 million for the period from February 11, 1998 to June
30, 1998 and $87.2 million for the predecessor period from September 1, 1997 to
February 10, 1998, aproximately equal on an annualized basis. Net servicing
revenue is comprised of mortgage servicing fees, ancillary servicing revenue,
and amortization of mortgage servicing rights.
Mortgage servicing fees increased 30% on an annualized basis to $442.1
million for the nine months ended June 30, 1999 compared to $182.6 million for
the period from February 11, 1998 to June 30, 1998 combined with $194.7 million
for the predecessor period from September 1, 1997 to February 10, 1998,
primarily as a result of portfolio growth. The servicing portfolio increased
$26.8 billion to $142.6 billion at June 30, 1999 compared to $115.8 billion at
June 30, 1998, a 23% increase. A significant portion of this portfolio growth
was due to the purchase of First Chicago NBD Mortgage Company's $18 billion
servicing portfolio on March 4, 1999. HomeSide's weighted average interest rate
of the mortgage loans in the servicing portfolio was 7.47% and 7.76% at June 30,
1999 and June 30, 1998, respectively. The weighted average servicing fee,
including ancillary income, for the servicing portfolio was 0.467% for the nine
months ended June 30, 1999 compared to 0.456% for the period from February 11,
1998 to June 30, 1998 and 0.451% for the predecessor period from September 1,
1997 to February 10, 1998. The increase in the weighted average servicing fee
was due to guaranteed servicing fees as a result of the termination agreement
with NationsBank on their acquisition of Barnett and a growth of ancillary
revenues, including late fees and other mortgage related products.
Amortization expense was $299.2 million for the nine months ended June 30,
1999 compared to $111.8 million for the period from February 11, 1998 to June
30, 1998 combined with $107.5 million for the predecessor period from September
1, 1997 to February 10, 1998, a 52% annualized increase. Amortization expense
increased mainly as a result of a higher average balance of mortgage servicing
rights and declining mortgage interest rates during most of the period.
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 and the rates at which HomeSide is able to borrow. 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 result in higher average
balances of loans held for sale and consequently higher levels of interest
income from interest 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 totaled $40.5 million for the nine months ended June
30, 1999 compared to $12.0 million for the period from February 11, 1998 to June
30, 1998 combined with $0.1 million for the predecessor period from September 1,
1997 to February 10, 1998. Increases in net interest revenue on an annualized
basis were primarily due to increases in net interest earned on mortgage loans
held for sale, escrow deposits, and early pool buyout advances. Lower funding
rates obtained through improved credit ratings and the issue of medium-term
notes and commercial paper also contributed to increases in net interest income.
These increases were partially offset by an increase in interest expense to fund
the growth of mortgage servicing assets.
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 $125.6 million for the nine months
ended June 30, 1999 compared to $48.6 million for the period from February 11,
1998 to June 30, 1998 combined with $46.7 million for the predecessor period
from September 1, 1997 to February 10, 1998, a 46% annualized increase. This
increase was due to increases in production volumes and margins due to a
declining interest rate environment during most of the period.
Other Income
Other income for the nine months ended June 30, 1999 was $4.6 million
compared to $9.4 million for the period from February 11, 1998 to June 30, 1998
combined with $0.6 million for the predecessor period from September 1, 1997 to
February 10, 1998, a 49% annualized decrease. The annualized decrease was
primarily due to volume decreases in real estate tax service fees.
Salaries and Employee Benefits
Salaries and employee benefits expense was $101.0 million for the nine
months ended June 30, 1999 compared to $44.0 million for the period from
February 11, 1998 to June 30, 1998 combined with $36.1 million for the
predecessor period from September 1, 1997 to February 10, 1998, a 40% annualized
increase. The average number of full-time equivalent employees was 2,616 for the
nine months ended June 30, 1999 compared to 2,070 for the period from February
11, 1998 to June 30, 1998 and 1,848 for the predecessor period from September 1,
1997 to February 10, 1998. The increases in salaries and employee benefits
expense and average number of full-time equivalent employees are primarily
attributable to additional expenses and employees to service the growing
mortgage servicing portfolio, increased prepayment activity and increased
production volume.
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 nine
months ended June 30, 1999 was $20.0 million compared to $7.4 million for the
period from February 11, 1998 to June 30, 1998 combined with $7.8 million for
the predecessor period from September 1, 1997 to February 10, 1998, a 46%
annualized increase. The increase in expense was mainly due to the increased
expenses incurred to enhance processing systems and technology expenditures
necessary to support targeted business growth.
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 the final disposition of loans,
non-recoverable foreclosure costs, accrued interest for which payment has been
curtailed and estimates for potential losses based on HomeSide's experience as a
servicer of government loans.
The servicing losses on investor-owned loans and foreclosure-related
expenses totaled $29.5 million for the nine months ended June 30, 1999 compared
to $10.2 million for the period from February 11, 1998 to June 30, 1998 combined
with $11.5 million for the predecessor period from September 1, 1997 to February
10, 1998. The increase was due to the growth of the portfolio and increased
foreclosure losses.
Included in the balance of accounts payable and accrued liabilities at
June 30, 1999 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 losses are generally greatest during the three to six year age of the
loan.
The following table sets forth HomeSide's delinquency and foreclosure
experience:
<TABLE>
<CAPTION>
Servicing Portfolio Delinquencies
(percent by loan count)
June 30, 1999 June 30, 1998
-------------------- -------------------
<S> <C> <C>
Servicing Portfolio Delinquencies, excluding bankruptcies (at end of period)
30 days 3.20% 3.38%
60 days 0.59% 0.69%
90+ days 0.47% 0.58%
-------------------- -------------------
Total past due 4.26% 4.65%
==================== ===================
Foreclosures pending 0.66% 0.75%
==================== ===================
</TABLE>
As a result of a larger and more mature portfolio at June 30, 1999
compared to June 30, 1998, servicing losses on investor-owned loans and
foreclosure-related expenses increased while servicing portfolio delinquencies
decreased.
Other Expenses and Goodwill Amortization
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, excluding goodwill amortization from the acquisition of
HomeSide by National Australia Bank, were $47.9 million for the nine months
ended June 30, 1999 compared to $23.7 million for the period from February 11,
1998 to June 30, 1998 combined with $19.1 million for the predecessor period
from September 1, 1997 to February 10, 1998, a 24% annualized increase. This
annualized increase was primarily due to increased production volumes. Goodwill
amortization totaled $26.8 million for the nine months ended June 30, 1999,
$13.9 million for the period from February 11, 1998 to June 30, 1998 and $0.3
million for the predecessor period from September 1, 1997 to February 10, 1998.
The increase was due to the purchase of HomeSide by National Australia Bank on
February 10, 1998.
Income Tax Expense
HomeSide's income tax expense was $44.4 million for the nine months ended
June 30, 1999 compared to $21.6 million for the period from February 11, 1998 to
June 30, 1998 and $23.3 million for the predecessor period from September 1,
1997 to February 10, 1998. The effective income tax rates for the nine months
ended June 30, 1999 and the period from February 11, 1998 to June 30, 1998 were
50% and 52%, respectively. The effective income tax rate for the predecessor
period from September 1, 1997 to February 10, 1998 was 39%. The increase from
the predecessor period was due to the tax effects of goodwill as a result of the
merger with the National.
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 nine months ended June 30, 1999, HomeSide utilized options on
U.S. Treasury bond and note futures, U.S. Treasury bond and note futures,
Eurodollar futures, and interest rate swaps, caps, and swaptions 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.
If management's ongoing assessment of correlation indicates that high
correlation is not being achieved, the Company will discontinue the application
of hedge accounting and recognize a gain or loss to the extent the hedge results
have not been offset by changes in value of the hedged asset during the hedge
period. 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.
As of June 30, 1999, deferred losses on risk management contracts resulted
in net deferred hedge losses of $413.5 million which are included in the
carrying value of mortgage servicing rights. Activity in the deferred hedge
account during the nine months ended June 30, 1999 is as follows (in thousands):
Net deferred hedge balance at September 30, 1998 $ 389,572
Net deferred hedge loss (800,410)
Amortization ( 2,643)
====================
Net deferred hedge balance at June 30, 1999 (413,481)
====================
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 June 30, 1999 was $(199.3) million. This amount is
comprised of interest rate swaps, caps and swaptions with a fair value of
$(233.1) million, partially offset by options on U.S. Treasury bonds and
Eurodollars with a fair market value of $33.8 million. The premiums paid on
options along with amounts due to or from counterparties related to risk
management contracts are included in Other Assets and Other Liabilities in the
accompanying consolidated balance sheet. 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 and Notes 13 and 14 of Notes
to Consolidated Financial Statements for additional fair value disclosures with
respect to HomeSide's risk management contracts included in HomeSide's Form 10-K
for the period from February 11, 1998 to September 30, 1998.
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 its commercial paper
program, a credit facility with the National, medium-term notes, an independent
syndicate of banks, repurchase agreements, and cash flow from operations.
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 provided by operations for the three and nine months ended June
30, 1999 were $412.7 million and $1,030.6 million, respectively. Net cash
provided by operations for the three months ended June 30, 1998 and the period
from February 11, 1998 to June 30, 1998 were $379.5 million and $144.8 million,
respectively. Net cash used in operations for the predecessor period from
September 1, 1997 to February 10, 1998 was $157.7 million. Cash provided from
servicing fee income, loan sales and principal repayments was partially offset
by cash used for the origination and purchase of mortgage loans held for sale
and to pay corporate expenses. 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 for the three and nine months ended
June 30, 1999 were $297.2 million and $1,150.5 million, respectively. Net cash
used in investing activities for the three months ended June 30, 1998 and the
period from February 11, 1998 to June 30, 1998 were $289.8 million and $516.7
million, respectively. Net cash used in investing activities for the predecessor
period from September 1, 1997 to February 10, 1998 was $60.8 million. Cash used
in investing activities was primarily for the purchase of mortgage servicing
rights and risk management contracts. Cash was provided by proceeds from risk
management contracts and early pool buyout reimbursements. Other assets
decreased $28.6 million to $89.0 million at June 30, 1999 from $117.6 million at
September 30, 1998 primarily as a result of a decreases in hedge assets.
Accounts payable and accrued liabilities increased $359.4 million to $600.7
million at June 30, 1999 from $241.3 million at September 30, 1998, primarily as
a result of an increase in hedge liabilities. Early pool buyout advances totaled
$354.8 million at June 30, 1999 compared to $759.6 million at September 30, 1998
as a result of re-instatements and sales of advances to HomeSide Funding, Inc.
Future uses of cash for investing activities will be dependent on the mortgage
origination market and HomeSide's hedging needs. 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.
Financing
Net cash provided by financing activities for the three and nine months
ended June 30, 1999 were $27.2 million and $283.6 million, respectively. Net
cash used in financing activities for the three months ended June 30, 1998 was
$86.4 million. Net cash provided by financing activities for the period from
February 11, 1998 to June 30, 1998 was $357.2 million. Net cash provided by
financing activities for the predecessor period from September 1, 1997 to
February 10, 1998 was $250.6 million. Cash was provided by the issuance of
commercial paper and medium-term notes, borrowings from the National, and
borrowings on HomeSide's line of credit during the periods. Cash was used to
repay borrowings from the National, commercial paper, borrowings on the line of
credit and to pay dividends to the Parent.
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
General. In common with many business users of computers around the world, the
Company has investigated to what extent the date change from 1999 to 2000 may
affect its business. The Company has established a program designed to minimize
the impact of the change to 2000 on the Company and its customers. The Board of
Directors has made the work associated with the change to 2000 a key priority
for management.
The Company 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 the Company, software and
systems purchased from outside vendors and software and systems used by the
Company's third party providers. The Company recognizes that the Year 2000 issue
is one of the most complex data processing problems faced by businesses
worldwide. As the Company approaches the century change, its primary objective
is to maintain "business as usual."
The Company began its information technology Year 2000 assessment and
remediation efforts in the third quarter of calendar year 1996 under the
sponsorship of its executive management. A formal, enterprise-wide program
commenced in January 1998. The Year 2000 issue has been identified as a top
priority. The Company's executive management and Board of Directors are provided
with frequent detailed updates. The Company has dedicated resources to assess,
repair and test programs, applications, equipment and facilities. The Company
has established a Year 2000 Program Office that is coordinating the preparations
for the change to 2000 with each business unit throughout the Company.
The Company's program involves an extensive review of its own operations and
scoping the work that needs to be completed to minimize any potential impact.
This includes reviewing the possible effects on the Company arising out of how
third parties manage their transition to 2000. The work demonstrates that there
are two possible key impacts:
Internal - the change to 2000 could cause interruptions, errors in
calculations or delays to the Company's critical business processes via
unexpected system or application malfunctioning.
External - the impact on the Company's own operations from third
parties, including customers, vendors, suppliers, regulators and
electronic distribution channels which may be impacted by the change to
2000. This includes any secondary or systemic impact that may arise
from the change to 2000 and the risk of disruption in the capital and
secondary mortgage markets on which the Company is dependent.
The Company's strategy for addressing Year 2000 focuses on four teams, which
together address all aspects of the Company's business. The Information
Technology team addresses all of the Mainframe, LAN and client server
applications. The End User Computing (or Business) team addresses the business
risks within each of the operating departments, including facilities' risk. This
area of the strategy involves the greatest concentration of embedded chips. The
Enterprise team addresses the corporate-wide risks posed by the Year 2000,
including business continuity planning to be implemented by individual business
units. Finally, the Year 2000 Program Office coordinates the Company's Year 2000
readiness efforts and is responsible for communications, vendor management,
project documentation and reporting. The Company's Year 2000 Program Office and
overall Year 2000 Program are managed by a Year 2000 Program Director whose
full-time resources and responsibilities are dedicated to this effort under the
sponsorship of the President and Chief Operating Officer and the Chief
Information Officer.
Throughout all phases of the Year 2000 Program the goal of the Year 2000 teams
is to complete all required work while minimizing disruption to the current
service delivery levels of the Company. Central management of the project is
executed using fully dedicated staff with high levels of subject matter
knowledge. In order to speed the assessment and remediation aspects of the
mainframe and client server IT projects, a factory philosophy was adopted using
Paragon Computer Professionals, Inc. as the primary outsourcer. Contractors were
used internally where subject matter expertise was not required.
State of Readiness. The Company's approach to preparing for the change to 2000
includes a standard set of methods and tools, customized as applicable to each
team, to coordinate and drive the project to completion. The approach consists
of six phases:
1. Assessment - Defining each system and process to determine if there are
date dependencies and how to resolve them. For business continuity
purposes, assessment includes identifying event and dependency risk.
2. Remediation - Implementing the steps identified in the assessment phase,
including code remediation and development of contingency plans.
3. Testing - Developing and implementing test plans to determine if remediated
code is correct and assurance testing of business continuity plans.
4. Implementation - Moving all approved changes from testing into production
and execution of contingency plans as may be required.
5. Check-Off - Formally acknowledging that each process has been implemented
and is functioning correctly.
6. Clean Management - Employing procedures and practices to prevent the
reintroduction of non-compliant applications, products and processes into
the operating environment, once Check-Off has been completed.
The Company's Information Technology and Business Teams' assessment of the
Company's systems and business processes for Year 2000 vulnerability included
substantially all hardware and software systems, embedded systems, buildings and
equipment, and business processes. The assessment also included a review of the
Company's dependencies on third parties, including vendors, suppliers and
customers.
The Company established in its Year 2000 Program certain key milestones and an
internal timetable for the change to 2000 in line with or ahead of its
regulator's suggested completion dates for core systems. These were:
o Assessment of substantially all systems and processes by July 31, 1998 -
Completed;
o Remediation and internal testing of all mission critical applications by
December 31, 1998 - Completed;
o End-to-end testing of all mission critical systems with material third
parties by March 31, 1999 - Substantially completed by July 31, 1999;
o Remediation and testing of all non-mission critical systems by June 30,
1999 - Substantially completed; and
o clean management of all systems through 1999 - implemented throughout the
Company.
End-to-End testing with material external parties is ongoing. As of March 31,
1999, HomeSide successfully completed the mandatory components of the MBA Year
2000 Readiness Test, including Fannie Mae, Freddie Mac and Ginnie Mae. Optional
components of the MBA Year 2000 Readiness Test were substantially completed by
June 30, 1999. As of June 30, 1999, End-to-End testing with material third
parties was 91% complete. As of July 31, 1999, the most recent date for which
information is available prior to this filing, End-to-End testing with material
third parties was 97% complete.
The Company had initially established an internal milestone of March 31, 1999
for completion of End-to-End testing with material external parties. In
addition, the Company's regulator established June 30, 1999 as its target date
for completion of external testing with material third parties. The Company
worked extensively with material external parties, including key vendors,
suppliers and counter-parties, throughout the fourth quarter of 1998 and the
first quarter of 1999 to produce test plans and prepare for End-to-End testing.
Although substantially all test plans were produced and delivered to material
external parties by March 31, 1999, delays in responses from them prevented the
Company from achieving its March 31, 1999 milestone. Many of the Company's
material external parties are vendors and suppliers. The Company recognized that
many of our key vendors have regulatory requirements and material third party
dependencies of their own, and that those requirements and dependencies had to
be prioritized above testing with the Company. The Company values its
relationships with its key vendors and has worked with them to accommodate their
competing priorities even those that necessitated extending the Company's own
date for this milestone. Although the Company failed to meet its original target
of completing End-to-End testing with material third parties by March 31, 1999,
the Company had substantially completed such testing by the June 30, 1999
regulatory deadline. The incomplete End-to-End testing items are not mission
critical.
The Company's two most critical business applications are its primary mortgage
servicing software systems: MSP (licensed from and supported by Alltel
Information Services, Inc.) and ALSS (a proprietary software system supported by
the Company). As to these two systems, as of June 30, 1999, external testing was
96% complete. As to these two systems, as of July 31, 1999, the most recent date
for which information is available prior to this filing, external testing was
100% complete. As of June 30, 1999, external testing was 82% complete as to all
other systems and applications. As of July 31, 1999, the most recent date for
which information is available prior to this filing, external testing was 91%
complete as to all other systems and applications.
The Company's Year 2000 Program also addresses end-user computing issues
presented by the Year 2000 change. As to end-user computing issues (systems and
business processes other than information technology systems), as of December
31, 1998, assessment was 100% complete, and as of June 30, 1999, remediation was
100% complete, testing and implementation were each 95% complete and check-off
was 90% complete. As of July 31, 1999, the most recent date for which
information is available prior to this filing, testing, implementation and
check-off were each 97% complete. The Company had originally set a target date
of June 30, 1999 for completion of testing, implementation and check-off for its
end-user computing issues. However, testing and implementation of certain ad hoc
decision support applications was adversely impacted by a change in processing
environment. The incomplete end user computing items are not mission critical.
For the remainder of 1999, the emphasis of the Company's Year 2000 Program will
be continued assurance testing, finalization and refinement of business
continuity plans and transition plans, clean management of systems and
processes, and monitoring of Year 2000 readiness efforts by the Company's
customers, vendors and other third parties with whom the Company has
relationships. Clean management of systems involves developing and implementing
procedures and practices to prevent the reintroduction of non-compliant
applications, products and processes into the operating environment once
Check-Off has been completed. The Company has developed and implemented a Clean
Management Strategy on a Company-wide basis.
The Company has relationships with vendors, customers and other third parties
that rely on software and systems that may not be ready for the change to 2000.
However, it is not possible in all cases to obtain complete, accurate and timely
information regarding the Year 2000 programs of third parties. Further, the
Company's ability to direct such third parties efforts or change relations with
such third parties is often limited. There can be no assurance that third
parties on which the Company relies will complete their Year 2000 programs on
time or that Year 2000 failures by such third parties will not have a material
adverse effect on the Company's results of operations.
The Company is conducting ongoing reviews of the Year 2000 efforts of its
mission critical vendors, customers and service providers. The Company has
identified a number of mission critical third parties whose Year 2000 failure
may reasonably be expected to have a material adverse impact on the Company's
results of operations. Examples of such third parties include: the Company's
primary software licensor, Alltel Information Services, Inc.; the Company's sole
provider of insurance processing services; the Company's sole provider of tax
payment services; and the Company's sole provider of foreclosure services.
Catastrophic failure by any of these parties would have a material adverse
effect on the Company. The Company is targeting these mission critical third
parties for particular scrutiny regarding their preparations for the change to
2000. That process is ongoing.
The Company has been successful in negotiating Year 2000 amendments to its
contracts with several mission critical vendors. These amendments contain
representations and warranties by the vendors as to their state of readiness to
meet the Year 2000 challenge and indemnification and other remedies in favor of
the Company in the event the Company suffers a loss because the vendor does not
successfully manage the change to 2000.
Cost of Year 2000 Efforts. The Company acknowledges that work needs to be
carried out in virtually all aspects of its business to ensure that the Company
successfully manages the change to 2000. As previously disclosed, the Company
presently estimates these costs to total approximately $13.5 million.
Year 2000 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. The
Company does not separately track the indirect costs incurred in its Year 2000
program.
Through June 30, 1999, the Company had expended approximately $9.2 million of
its total Year 2000 budget. Through July 31, 1999, the most recent date for
which information is available prior to this filing, the Company had expended
approximately $9.7 million of its total Year 2000 budget.
The Company anticipates significant expenditures associated with employee
retention efforts, continued testing, clean management of systems, business
continuity and transition planning and maintenance of its Year 2000 Program
Office through March 31, 2000. In addition, the Company anticipates significant
expenditures in the fourth calendar quarter of 1999 associated with proactive
communications to its customers. The Company has allocated $1.7 million of its
total Year 2000 budget to transition management during the period of 1 June,
1999 through January 31, 2000. Additional expenses will be incurred through
March 31, 2000.
The Company expensed its remediation costs as they were incurred, with the
exception of new hardware and software purchases, which were capitalized. The
source of funds for Year 2000 remediation is operating income of the Company.
The percentage of the Company's information technology budget devoted to Year
2000 efforts in the quarter ended June 30, 1999, was approximately 14%. The
Company is unable to readily determine the cost of replacement of non-compliant
systems that are being replaced in the ordinary course of business. No
significant information technology projects have been deferred due to Year 2000
efforts.
The Company's Year 2000 Program is complex and reliant upon coordination with
numerous third parties. Accordingly, the effort and costs in any given period
will depend upon progress. The Company's current Year 2000 budget of $13.5
million is based on the current status of the Year 2000 Program and is subject
to change. The budget of $13.5 million does not take into account any potential
losses the Company may suffer as a result of Year 2000 failures, or any claims
for loss or damage that may be asserted against the Company by third parties,
which may result if the Company or third parties do not successfully manage the
effect of the Year 2000 date change.
Risks. The Company's risk management office is actively involved in the
Company's Year 2000 Program. The most reasonably likely worst case Year 2000
scenario, disregarding the Company's remediation efforts and contingency
planning, is: (i) a failure in its loan servicing software and/or systems, or
(ii) a failure by one of the Company's key third party providers. Either such
failure would result in material disruption in the Company's operations possibly
preventing it from discharging its contractual obligations to service mortgage
loans in an accurate and timely fashion. The consequences of such disruption
could include, among other things, revocation of the Company's status as an
FHA/VA approved lender/servicer or Ginnie Mae/Fannie Mae/Freddie Mac approved
seller/servicer, incorrect processing and/or reporting of payments to consumers
and investors, a material loss of revenue, and litigation with third parties
alleging losses related to servicing failure.
While working to ensure that the Company's primary objective of business as
usual before, during and through 2000 is achieved, there can be no guarantee
that its Year 2000 program will be successful in all respects or that the date
change for 1999 to 2000 will not materially affect the Company's business in
some form.
Contingency Planning. The Company's Year 2000 Program is based on the assumption
that 100% impact coverage is neither feasible nor practical. It is possible that
the Company or third parties on which the Company depends may have unplanned
system difficulties during the transition through 2000, or that third parties
may not successfully manage the change to 2000; therefore, an integral part of
the Company's Year 2000 Program is the development of contingency plans in
anticipation of systems or third party failure.
These contingency plans have been developed for individual applications, systems
and business processes. Individual departments within the Company, including
information technology, acting under the supervision and direction of the Year
2000 Program Enterprise team, have (a) identified applicable Year 2000 events
and threats, (b) considered the likelihood of occurrence, (c) determined the
severity of impact of such events and threats, and (d) created preventive and
continuity plans to address such events and threats. Although the contingency
plans vary by application, system and business process, each of the Company's
contingency plans include: identification of the Company's systems and third
party risks that the plan addresses; an analysis of strategies and available
resources to restore and continue operations; and a recovery and continuity
program that identifies participants, processes, and significant resources
required. Contingency plans include: identifying alternate providers and locking
them in contractually as applicable; securing redundant telecommunications
resources; stockpiling of critical supplies; developing manual procedures to
replace automated procedures; altering delivery schedules for certain reports
and services to avoid the rollover period. Alternate providers are not available
for those key third parties identified above as the Company's sole providers of
certain services. As to those providers, the Company has in each case reviewed
and approved the Year 2000 contingency plans adopted by those third parties. In
the event of a failure in those third parties' contingency plans, the Company is
prepared, as an additional contingency, to terminate its contract with any
non-compliant provider and take over the performance of those services in-house.
In that regard, it should be noted that the Company retains control of the data
essential to the provision of these services.
The Company's contingency plans have been reviewed and approved by the Company's
Program Office and executive management and, where possible, are being tested.
Testing of the Company's continuity plans is scheduled for completion by August
31, 1999. Given the potential scope of Year 2000 events, it is possible that
despite considerable planning, the Company's business continuity plans for the
date change to 2000 may only assist in the reduction of the degree of disruption
rather than its avoidance.
Transition Planning. Transition planning is concerned with identifying and
preparing for specific issues and risks associated with the period of October 1,
1999 through March 31, 2000. The Company has developed a corporate-wide
Transition Strategy. The objective of the Company in transition planning is to
ensure a Company-wide capability to manage internal and externally generated
events as and when they might arise. Transition plans for the century rollover
and beyond are targeted for completion by September 30, 1999. The Company is
planning a "dress rehearsal" to test its Transition capabilities for early
fourth quarter 1999.
As part of the Company's Transition planning and overall Year 2000 Program, the
Company has established a moratorium period using a scaled implementation plan
to restrict the introduction of minor, significant and major changes to systems
or business processes. The moratorium period will not impair the Company's
ability to conduct its core businesses and meet the needs of its customers. The
Company's Year 2000 Program will continue until the end of March 2000.
Activities planned for the first quarter of 2000 include:
o Monitoring and verification activities surrounding business information
systems;
o Implementation of maintenance programs associated with the system changes
made to manage the date change to 2000;
o Working with customers and suppliers regarding any impacts they may have
sustained as a result of the date change to 2000; and
o Completing a formal post-implementation review of the Year 2000 Program to
assess achievements and lessons learned.
The foregoing disclosure, including the description of a worst case Year 2000
scenario, is furnished in response to and in compliance with the Statement of
the Commission Regarding Disclosure of Year 2000 Issues and Consequences by
Public Companies, Investment Advisers, Investment Companies, and Municipal
Securities Issuers, Securities Act Rel. No. 33-7448 (July 30, 1998).
Quantitative and Qualitative Market Risk
There have been no material changes in the Company's market risk from
September 30, 1998. For information regarding the Company's market risk, refer
to Form 10-K for the fiscal year ended September 30, 1998 of HomeSide
International, Inc.
PART II - OTHER INFORMATION
ITEM 1. 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 6. Exhibits and Reports on Form 8-K
(a) The following document is filed as a part of this Report:
Number Description
10.1 First Amendment dated June 22, 1999 to Unsecured Revolving Credit Agreement
dated June 23, 1998 between HomeSide Lending, Inc. and National Australia
Bank Limited
10.2 Amended and Restated Renewal Promissory Note dated June 22, 1999 between
HomeSide Lending, Inc. and National Australia Bank Limited
27 Financial Data Schedule
(b) Reports on form 8-K
HomeSide filed a report on Form 8-K, Item 5, dated April 22, 1999.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HomeSide International, Inc.
(Registrant)
Date: August 13, 1999 By: /s/_________________________
Joe K. Pickett
Chairman of the Board, Chief Executive Officer
and Director (Principal Executive Officer)
Date: August 13, 1999 By: /s/__________________________
W. Blake Wilson
Vice President, Chief Financial Officer
(Principal Financial and Accounting Officer)
FIRST AMENDMENT TO
UNSECURED REVOLVING CREDIT AGREEMENT
This First Amendment to Unsecured Revolving Credit Agreement,
ed as of June 22, 1999 (this "Amendment"), is entered into by and between
ESIDE LENDING, INC., a Florida corporation (the "Borrower"), and NATIONAL
TRALIA BANK LIMITED A.C.N.004044937, an Australian corporation (the "Lender")
amends that certain Unsecured Revolving Credit Agreement between Borrower
Lender dated as of June 23, 1998 (the "Agreement").
RECITALS
Borrower has requested that Lender renew the loans as described in the
eement and amend certain terms of the Agreement, and the Lender has agreed to
h request, upon the terms and subject to the conditions set forth herein.
Therefore, in consideration of the premises and mutual agreements
tained herein, and for other good and valuable consideration, the receipt and
ficiency of which is hereby acknowledged, the parties hereto hereby agree as
lows:
Definitions. All terms defined in the Agreement shall have such defined
meanings when used herein unless otherwise defined herein.
Extension of Maturity Date. The definition of "Maturity Date" is hereby
deleted and replaced in its entirety by the following new definition
thereof:
"Maturity Date" means June 21, 2000 or such earlier date as the Loans
may be due and payable pursuant to Section 4.
Increase in Amount of Loans. The maximum amount of revolving credit loans
that Lender agrees to make, subject to the Regulatory Limitation, is
increased from $2,100,000,000 to $2,500,000,000. The first sentence of
Section 2 of the Agreement is hereby deleted and replaced in its entirety
by the following:
Subject to the Regulatory Limitation, and the terms and conditions
hereof and so long as no Event of Default (as defined herein) has
occurred and is continuing, the Lender agrees to make revolving credit
loans (the "Loans") to the Borrower from time to time during the
period from the date on which all of the conditions set forth in
Section 6 hereof have been satisfied through but not including the
Maturity Date (as defined in the Note) in an aggregate principal
amount not to exceed $2,500,000,000 outstanding at any time.
No Further Amendment. Except as expressly amended herein, the Agreement
shall continue to be, and shall remain, in full force and effect. This
Amendment shall not be deemed to be a waiver of, or consent to, or a
modification or amendment of, any other term or condition of the Agreement
or to prejudice any other right or rights which the Lender may now have or
may have in the future under or in connection with the Agreement, as the
same may be amended from time to time.
Counterparts. This Amendment may be executed by one or more of the parties
hereto in any number of separate counterparts and all of said counterparts
taken together shall be deemed to constitute one and the same instrument.
Governing Law. This Amendment shall be governed by, and construed and
interpreted in accordance with, the laws of the State of New York.
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be
cuted and delivered by their respective duly authorized officers as of the
e first above written.
HOMESIDE LENDING, INC.
By: /s/John P. Deptula
Title: Senior Vice President
NATIONAL AUSTRALIA BANK LIMITED A.C.N.004044937
By: /s/Michael G. McHugh
Title: Vice President
AMENDED AND RESTATED RENEWAL PROMISSORY NOTE
$2,500,000,000 June 22, 1999
San Antonio, Texas
This Amended and Restated Renewal Promissory Note renews that certain
Promissory Note dated as of June 23, 1998 in the original principal amount of
$2,100,000,000 by HomeSide Lending, Inc., as maker, in favor of National
Australia Bank Limited, as payee, the original of which is affixed hereto.
FOR VALUE RECEIVED, HOMESIDE LENDING, INC., a Florida corporation (the
"Borrower"), hereby unconditionally promises to pay to the order NATIONAL
AUSTRALIA BANK LIMITED A.C.N.004044937 (the "Lender") on June 21, 2000 (the
"Maturity Date") at the office of the Lender at 200 Park Avenue, 34th Floor, New
York, New York 10166 in lawful money of the United States of America and in
immediately available funds, the lesser of (a) TWO BILLION FIVE HUNDRED MILLION
DOLLARS ($2,500,000,000) or (b) the aggregate unpaid principal amount of the
Loans made by the Lender pursuant to that certain Unsecured Revolving Credit
Agreement, dated as of June 23, 1998, as amended by that certain First Amendment
to Unsecured Revolving Credit Agreement, dated as of June 22, 1999 (as amended,
the "Credit Agreement"), among the Borrower and the Lender. All capitalized
terms used herein and not otherwise defined herein shall have the meanings
assigned thereto in the Credit Agreement.
The Borrower promises to pay interest to the Lender on the unpaid
principal amount hereof (whether at the stated maturity, by acceleration or
otherwise, and including, without limitation, after the filing of any petition
in bankruptcy or the commencement of any insolvency, reorganization or like
proceedings, relating to the Borrower whether or not a claim for post-filing or
post-petition interest is allowed in such proceeding) on the last Business Day
of each Interest Period (as defined below) and on the Maturity Date.
Interest shall accrue on the outstanding principal balance of this Note
from the date of each advance hereunder at such rate as may be elected by
Borrower in accordance with the terms hereof.
For Libor-based borrowings, the Borrower may elect to pay interest on
all or a portion of the outstanding principal hereunder for periods of 7, 30, 60
or 90 days (each an "Interest Period") at the Libor Rate (as defined below). The
Borrower may make such election by delivering written notice thereof to the
Lender at least two business days before the commencement of the Interest Period
for each Libor-based borrowing. The notice shall state: (i) the date upon which
the Interest Period shall commence (which must be a Business Day); (ii) whether
such Interest Period shall be for 7, 30, 60 or 90 days; (iii) whether the
Borrower wishes for interest to accrue at the Libor Rate during the term of the
Interest Period; and (iv) the aggregate principal amount which shall bear
interest at the Libor Rate (which amount is referred to herein as the "Libor
Amount"). If the Borrower duly elects for interest to accrue hereunder at the
Libor Rate, then interest shall accrue at the Libor Rate on the applicable Libor
Amount during the applicable Interest Period. Any election hereunder shall be
irrevocable during the term of the Interest Period, and no Interest Period
elected hereunder shall extend beyond the Maturity Date.
As used herein, the Libor Rate applicable to any Interest Period shall
be the offered rate for deposits in United States dollars in the London
Interbank market for a period of 7, 30, 60, or 90 days (as applicable) which
appears on the Reuters Screen LIBO Page as of 11:00 a.m. (Eastern time) on the
first Business Day of the applicable Interest Period. If at least two such
offered rates appear on the Reuters Screen LIBO Page, the rate will be the
arithmetic mean of such offered rates.
In addition, the Borrower may borrow hereunder on an overnight basis
(each such advance, an "Overnight Borrowing") by delivering notice thereof to
the Lender before 3:00 p.m. on any Business Day (the "Overnight Borrowing
Notice"). The Overnight Borrowing Notice shall be by telephone to the Lender's
New York money desk, with written confirmation by facsimile by the end of the
same Business Day. Overnight Borrowings shall bear interest at a rate (the
"Overnight Rate") as determined by Lender and Borrower at the time of the
Overnight Borrowing Notice. The written confirmation of the Overnight Borrowing
Notice shall state: (i) the date of the Overnight Borrowing (which must be a
Business Day); (ii) the Overnight Rate; and (iii) the aggregate principal amount
of the Overnight Borrowing.
Any principal, interest or any other amount hereunder which is not paid
when due (whether as stated, by acceleration or otherwise) shall, to the extent
permitted by law, thereafter bear interest at the rate per annum 2% above the
rate described above, payable on demand. Interest shall be calculated on the
basis of a year of 360 days for actual days elapsed. All payments to be made
hereunder shall be made free and clear of any deduction for any present or
future taxes or similar charges imposed by any jurisdiction in connection with
this Note.
The holder of this Note is authorized to endorse the date and principal
amount of each Loan made by the Lender pursuant to the Credit Agreement, the
date and amount of each payment or prepayment hereof, on Schedule A annexed
hereto and made a part hereof, or on a continuation thereof which shall be
attached hereto and made a part hereof, which endorsement shall constitute prima
facie evidence of the accuracy of the information endorsed, provided, that the
failure to make any such endorsement shall not affect the obligations of the
Borrower under this Note.
This Note is the Note referred to in the Credit Agreement and is
entitled to the benefits thereof. Upon the occurrence of any one or more of the
Events of Default specified in the Credit Agreement, all amounts then remaining
unpaid on this Note shall become, or may be declared to be immediately due and
payable, all as provided therein. All parties now and hereafter liable with
respect to this Note, whether as market, principal, surety, guarantor, endorser
or otherwise, hereby waive presentment, demand, protest and all other notices of
any kind.
This Note shall be governed by, and construed and interpreted in
accordance with, the law of the State of New York.
HOMESIDE LENDING, INC.
By: /s/John P. Deptula
As Its: Senior Vice President
Schedule A to Note
LOANS AND PAYMENTS OF PRINCIPAL
Principal Amount of Unpaid Principal Notations made
Date Amount of Loans Principal Paid Balance by
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<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-START> APR-01-1999
<PERIOD-END> JUN-30-1999
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0
0
<COMMON> 0
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<TOTAL-LIABILITY-AND-EQUITY> 6,475,988
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<TOTAL-REVENUES> 103,910
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<DISCONTINUED> 0
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<CHANGES> 0
<NET-INCOME> 14,772
<EPS-BASIC> 0
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