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FORM 10-KSB
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED JUNE 30, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED] for the transition period from
____________ to ____________
Commission file number: 0-21591
GRANITE FINANCIAL, INC.
(Name of small business issuer in its charter)
DELAWARE 84-1349929
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
16100 TABLE MOUNTAIN PARKWAY, SUITE A
GOLDEN, COLORADO 80403
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (303) 216-3500
Securities registered pursuant to Section 12(b) of the Exchange Act:
Title of each class Name of each exchange on which registered
N/A NONE
Securities registered pursuant to section 12(g) of the Exchange Act:
COMMON STOCK, $.001 PAR VALUE PER SHARE
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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 [ ]
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure will be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB [ ]
The issuer's revenues for its most recent fiscal year were $83.5 million.
The aggregate market value of the 3,986,000 shares of Common Stock held by
non-affiliates was $45,340,750 as of September 15, 1997. For purposes of the
foregoing calculation only, each of the issuer's officers and directors is
deemed to be an affiliate. The market value of the shares was calculated based
on the average bid and asked price of such shares on the Nasdaq National Market
on such date.
As of September 15, 1997, 6,140,000 shares of the issuer's Common Stock were
outstanding.
DOCUMENTS INCORPORATED BY REFERENCE:
INCORPORATED IN PART III OF THIS FORM 10-KSB:
PROXY STATEMENT TO BE FURNISHED TO SECURITY HOLDERS FOR
FISCAL YEAR ENDED JUNE 30, 1997
Transitional Small Business Disclosure Format: Yes [ ] No [X]
<PAGE> 2
TABLE OF CONTENTS
<TABLE>
<S> <C>
PART I . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
ITEM 1: DESCRIPTION OF BUSINESS . . . . . . . . . . . . . . . . . . . . . 3
General . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
History . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
Industry Overview . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Sales and Marketing . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Risk Management; Lease Underwriting . . . . . . . . . . . . . . . . . . 6
Servicing and Collections . . . . . . . . . . . . . . . . . . . . . . . 8
Funding Sources . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
Competition . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Intellectual Property . . . . . . . . . . . . . . . . . . . . . . . . . 12
Regulation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
Employees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
Important Factors Related to Forward-Looking Statements
and Associated Risks . . . . . . . . . . . . . . . . . . . . . . . . 13
ITEM 2: DESCRIPTION OF PROPERTY . . . . . . . . . . . . . . . . . . . . . 14
ITEM 3: LEGAL PROCEEDINGS . . . . . . . . . . . . . . . . . . . . . . . . 14
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS . . . . . . . 14
PART II . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
ITEM 5: MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS . . . . 15
Market Price . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
Dividends . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
ITEM 6: MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION . . . . 15
Accounting Practices . . . . . . . . . . . . . . . . . . . . . . . . . 15
Results of Operations . . . . . . . . . . . . . . . . . . . . . . . . . 17
Liquidity and Capital Resources . . . . . . . . . . . . . . . . . . . . 19
Asset Quality and Static Pool Analysis . . . . . . . . . . . . . . . . 21
Recent Accounting Pronouncements . . . . . . . . . . . . . . . . . . . 23
ITEM 7: FINANCIAL STATEMENTS . . . . . . . . . . . . . . . . . . . . . . 23
ITEM 8: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE . . . . . . . . . . . . . . . 23
PART III . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
ITEM 9: DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT . . . 24
ITEM 10: EXECUTIVE COMPENSATION . . . . . . . . . . . . . . . . . . . . . 24
ITEM 11: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
ITEM 12: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS . . . . . . . . . 24
ITEM 13: EXHIBITS AND REPORTS ON FORM 8-K . . . . . . . . . . . . . . . . 24
</TABLE>
<PAGE> 3
PART I
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL
The Company (which term, unless the context indicates otherwise,
refers to Granite Financial, Inc., its limited liability company predecessor
and its subsidiaries) is a finance company specializing in originating,
funding, acquiring, selling, securitizing and servicing non-cancelable,
full-payout equipment leases for a broad range of businesses located throughout
the United States. The Company's operations are primarily in the small-ticket
segment of the equipment leasing market, which encompasses leases of equipment
with original purchase prices of $150,000 or less. The average purchase price
of equipment leased by the Company's lessees is approximately $30,000 per
lease. Leases are originated through a network of approximately 65 independent
lease originators selected by the Company. The Company is committed to
providing a high level of service to its lease originators and is investing in
advanced technology which will allow the Company to electronically link each
originator with the Company's systems and resources. The Company also develops
specialty lease finance programs in conjunction with its lease originators that
are designed to meet the particular financing requirements of the business
customer.
The Company is currently implementing a consolidation strategy in the
small-ticket segment of the equipment leasing market. The Company's
consolidation strategy encompasses the purchase of other companies active in
the small-ticket segment of the equipment leasing market as well as
independent lease originators that may or may not currently conduct business
with the Company. Consistent with this consolidation strategy, the Company
concluded the acquisitions of Global Finance & Leasing, Inc. ("Global Finance")
in March 1997 and SFR Funding, Inc. ("SFR Funding") in June 1997. Founded in
1989, Global Finance specializes in providing equipment lease financing for
point-of-sale equipment which costs $2,000 or less per lease. SFR Funding was
founded in 1988 and specializes in originating equipment leases, primarily for
businesses in the hospitality industry.
The Company's principal executive offices are located at 16100 Table
Mountain Parkway, Suite A, Golden, Colorado 80403, and its telephone number is
(303) 216-3500.
HISTORY
The Company's predecessor, Granite Financial, LLC, was organized in
February 1995. The period from February 21, 1995 (Granite Financial, LLC's
inception) through June 1995 was devoted to start-up of lease funding
operations. In June 1995, Granite Financial, LLC entered into a Lease Sale
Agreement with Heartland Bank and Heartland Bank committed to purchase an
ownership interest in Granite Financial, LLC, subject to the satisfaction of
certain conditions. In January 1996, Heartland Leasing Corporation of Missouri
("Heartland Leasing"), a wholly-owned subsidiary of Heartland Bank, fulfilled
Heartland Bank's commitment to purchase a 45.0% ownership interest in Granite
Financial, LLC. In April 1996, approximately $16.0 million in leases
previously sold to Heartland Bank were repurchased to facilitate the Company's
first securitization transaction under which a special purpose subsidiary, GF
Funding Corp. I, issued approximately $21.7 million of lease-backed notes to an
institutional investor. The notes were insured by a financial guaranty issued
by MBIA Insurance Corporation and were rated AAA by Standard & Poor's Ratings
Group and Aaa by Moody's Investors Service. In October 1996, Granite
Financial, Inc. completed its initial public offering (the "Initial Public
Offering") and simultaneously exchanged 2,000,000 shares of its Common Stock
for all of the outstanding membership interests of Granite Financial, LLC. At
that time, the Company succeeded to servicing and all other activities formerly
undertaken by Granite Financial, LLC. In November 1996 and in March 1997, the
Company completed additional securitization transactions pursuant to which two
special purpose subsidiaries, GF Funding Corp. II and GF Funding Corp. III,
respectively, issued lease-backed securities aggregating $92.5 million in
principal amount to third-party institutional investors. The securities issued
in these securitizations were also insured by a financial guaranty issued by
MBIA Insurance Corporation and were rated AAA by Standard & Poor's Ratings
Group and Aaa by Moody's Investors Service. The Company also initiated its
consolidation strategy through the closing of the acquisitions of Global
Finance in March 1997 and SFR Funding in June 1997. In July 1997, the Company
completed a follow-on public offering of Common Stock (the "July 1997
Offering").
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INDUSTRY OVERVIEW
According to the Equipment Leasing Association and the International
Trade Administration, business investment in equipment exceeded $563.1 billion
in 1996, an increase of approximately $267.0 billion from comparable 1986 data.
Equipment leasing accounted for approximately $168.9 billion of 1996 business
investment in equipment compared to $85.0 billion in 1986. Business investment
in equipment under lease is expected to account for over $176.2 billion of 1997
business investment in equipment, according to the same sources. Although the
Company is not aware of published industry statistics that specifically address
equipment leases with an original equipment cost of $150,000 or less, the
Company estimates that the market for equipment priced in this range
constitutes between approximately 25.0% and 30.0% of equipment acquisitions
under lease.
The small-ticket equipment leasing market served by the Company is a
highly diversified market, with demand for lease financing coming from a
variety of small and mid-size businesses across the United States. This market
has experienced growth in recent years because of several factors, including
(i) the decline in prices of computers and computer peripherals and
corresponding increases in demand for this equipment; (ii) the adoption of
accounting pronouncements concerning the consolidation of earnings of
manufacturers and captive finance company subsidiaries that caused a number of
manufacturers to eliminate their captive finance companies, resulting in an
increased demand for independent financing such as that provided by the
Company; (iii) the consolidation of the banking industry, which has reduced the
number of small community banks that traditionally provided equipment financing
for small to mid-size businesses; (iv) stricter lending requirements of
commercial banks; and (v) the reduction in cost of funds for independent
finance companies such as the Company which have been able to access the
asset-backed securities market and other sources of lower cost capital. The
small-ticket equipment leasing market is highly fragmented, with no company
believed to account for in excess of a 2.0% market share.
SALES AND MARKETING
The Company's marketing strategy is to increase its volume of lease
financing by diversifying and expanding its lease origination channels. The
Company intends to implement this strategy by (i) maintaining, selectively
expanding and supporting its high quality network of independent lease
originators, (ii) developing specialty programs in conjunction with its lease
originators for specific vendor or customer groups, including franchisees,
(iii) developing direct links with independent lease originators in order to
further automate transactions between the Company and its lease originators and
(iv) developing Internet capabilities that are expected to increase the flow of
potential lease transactions and permit e-commerce transactions among the
Company, equipment vendors and lessees.
The Company has four marketing employees who are responsible for
implementing marketing strategies, coordinating marketing activities with the
Company's independent lease originators and supervising customer service. To
establish and maintain the Company's profile in the equipment leasing industry,
the Company's marketing employees attend major equipment leasing conventions
and trade shows held each year and several officers of the Company are active
in the Equipment Leasing Association and the United Association of Equipment
Lessors, well-recognized trade associations.
Lease Originators. The Company maintains a network of approximately 65
select independent lease originators through which it markets lease
transactions. While the Company is familiar with a number of lease finance
companies that have established large groups of sales representatives or
brokers with varying experience levels, the Company has intentionally limited
its network of lease originators to a small, highly focused group of lease
originators with extensive industry experience. Each lease originator has had
a prior relationship with senior management of the Company within the equipment
leasing industry and has in management's opinion shown an ability to generate
significant volumes of leases with a credit quality that is consistent with the
Company's stringent credit policies.
The Company's lease originators range from relatively small businesses
which account for a limited number of the Company's monthly lease transactions
to relatively large businesses which originate leases financed by the Company
and other funding sources in an amount estimated by the Company to be in excess
of $50.0 million per year. Lease transactions generated by the Company's
largest single independent lease originator accounted for approximately 17.9%
and 13.9% of the gross dollar amount of leases funded by the Company during the
fiscal year ended June 30, 1996 (the "1996 fiscal year") and the fiscal year
ended June 30, 1997 (the "1997 fiscal year"), respectively. The next four
largest independent lease originators accounted for between 5.2% and 9.3% of
the gross dollar amount of leases funded by the Company during the 1997 fiscal
year. Two lease originators each accounted for between 5.0% and 10.0% of the
gross dollar amount of leases funded by the Company during the 1996 fiscal
year.
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The Company maintains agreements with each of its lease originators
that define each party's obligations, but which are terminable by either party
on 30 days' written notice. The lease originators are compensated by the
Company on a commission basis. Because each of the lease originators is an
independent contractor, the Company cannot require its lease originators to
direct lease funding opportunities to the Company. The Company believes that a
number of its lease originators conduct business with other lease finance
companies.
Specialty Lease Programs. In conjunction with certain of the Company's
lease originators, the Company has developed specialty lease finance programs
to address the needs of specific lessees or businesses, particularly
franchisees. As of June 30, 1997, the Company had 37 specialty programs in
place, each of which has unique attributes but all of which are based on the
Company's standard lease form. The principal difference between the Company's
typical lease transactions and its specialty leases is the period of time in
which the lessee must have been engaged in business. The Company's standard
underwriting criteria typically require that the lessee be engaged in its
business for two years, while specialty programs are available for start-up
businesses. In consideration for providing lease financing to a start-up
business, certain lease terms are adjusted to reflect the Company's increased
risk. Underwriting procedures are in other respects identical to those
employed in the Company's other lease transactions.
As an example, specialty programs have been developed to provide
financing for franchisees in national franchise organizations, which often have
significant equipment financing needs. Despite being a start-up business, the
new franchisee may represent a creditworthy lessee given the capital investment
required to establish the franchise, the franchisor's review of the franchisee
prior to granting a franchise, and operational and marketing support provided
to the franchisee by its franchisor. Each of the Company's specialty lease
programs is exclusive, and obligates the lease originator to source all of
their customer's lease financing requirements from the Company, and obligates
the Company to do business exclusively with the lease originator with respect
to his or her specialty program. The specialty program developed for
franchisees of Domino's Pizza illustrates the type of program offered by the
Company to its originators. This program provides the franchisee with a
specially tailored lease to finance the purchase of computer and cash register
systems that are standardized throughout the Domino's Pizza franchise system.
The Company anticipates that it will continue to develop specialty lease
finance programs to meet the needs of its lease originators and their
customers, which management believes will further strengthen the Company's
relationship with its lease originators.
The Company believes that, through its network of independent lease
originators, it can introduce new lease finance products which are
complementary to those now offered by the Company. In particular, the Company
believes that small-ticket leases to municipalities, leases for start-up and
early-stage businesses and leases designed for franchise systems and chain
businesses offer significant areas in which the Company can expand its
business. The Company believes that a number of its lease originators now
offer lease financing in these market segments and that, by virtue of the
Company's relationship with its lease originators, the Company can be
successful in expanding its volume of lease financings in these market
segments.
Vendor Direct Programs. The Company recently hired an in-house
marketing representative who will oversee the development of vendor direct
programs. The Company anticipates that the vendor direct programs will focus
on establishing formal and informal relationships with equipment vendors
whereby the Company will be the financing source recommended by the vendor to
its equipment purchasers. The Company may also design vendor direct programs,
as it designs its specialty lease programs, which would offer customized lease
finance arrangements to respond to the needs of a particular vendor and its
equipment purchasers. As of September 15, 1997, the Company has established
programs with three vendors to provide lease financing to their customers.
New Technologies. The Company is committed to implementing leading
edge technologies which can be used in the equipment leasing industry to
streamline and automate the lease application and approval process. The
Company is currently developing an interactive Web site and related systems and
protocols which will allow the Company to complete lease transactions through a
direct, on-line system with independent lease originators, vendors and
customers. The Company has developed and is currently testing an on-line
system to be established with its independent lease originators. The on-line
system will allow lease originators to electronically transmit lease
applications to the computer system located in the Company's headquarters. The
Company's computer system will then cause the application to be electronically
scored using a credit scoring program. With respect to applications approved
for funding, the Company's system would prepare and electronically transmit
lease documents which would be downloaded and printed by the originator and
available for execution. The Company anticipates that the on-line system will
be fully operational in calendar year 1998.
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In addition, the Company's interactive Web site and Internet marketing
program are currently under development. The Company's Internet presence will
be designed to create a new channel of potential lease financing transactions
and to accommodate e-commerce transactions. The Company anticipates that it
will establish an icon which will appear on the Web site of various equipment
manufacturers and vendors. Viewers of the manufacturers' and vendors' sites
will be able to click on the Company's icon and connect directly to the
Company's Web site. The Company's Web site will contain information concerning
equipment lease financing available through the Company and will allow
potential lessees to submit lease applications directly to the Company entirely
over the Internet. The Company has retained certain software development and
Internet consulting firms to develop the Company's proposed Internet system.
The Company does not expect that its Internet system will be fully operational
until at least calendar year 1998.
RISK MANAGEMENT; LEASE UNDERWRITING
The Company strives to maintain diversity in its business customer
base, geographic location of lessees and type of equipment under lease as part
of its risk management program and in order to meet or exceed standards
required for securitization transactions. The Company also seeks to maintain
consistently high asset quality through its reliance on a network of
independent lease originators that are carefully selected and extensively
supported by the Company, application of stringent underwriting criteria that
are consistently applied and maintenance of highly focused servicing and
collection functions. The Company believes that development of its operational
resources, management and marketing team, and lease processing and funding
capabilities have positioned the Company to increase its market share as it
executes its consolidation and internal growth strategies. The Company applies
strict underwriting criteria and procedures, a computerized credit scoring
system and independent credit investigations, all of which are designed to
target creditworthy lessees rather than "sub-prime" or "credit impaired"
lessees. The Company has also made significant investments in management
information systems and other technologies in order to automate and improve the
performance of the Company's servicing and collection functions.
Equipment and Industry Diversity. The following table sets forth
certain information with respect to the equipment types and industries which
have been served by the Company's equipment financing for the period from
February 21, 1995 (inception) through June 30, 1997:
TYPES OF EQUIPMENT FUNDED (1)
<TABLE>
<S> <C>
COMPUTERS/PERIPHERALS $21,699,263
FOOD SERVICE $11,750,721
MANUFACTURING/MACHINE WORKS $9,641,072
COIN-OPERATED $9,120,238
PERSONAL CARE $8,462,953
DRY CLEANING/WASHING $7,733,901
RADIO/TV/PHOTOGRAPHIC $7,717,665
HEAVY EQUIPMENT $6,614,087
GENERAL OFFICE $5,745,231
0% 5.1% 5.8% 6.8% 7.4% 8.0% 8.5% 10.3% 19.1%
</TABLE>
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(1) Excludes leases funded by Global Finance.
The remaining leases underwritten by the Company and not reflected in
the foregoing table are divided among exercise and sports, medical/dental,
printing/typesetting, engineering and scientific, refuse equipment, automotive
and other licensed equipment, and miscellaneous equipment. Leases underwritten
in these categories accounted for approximately $25.3 million in leases funded,
or 22.2% of the Company's lease fundings during the period from February 21,
1995 through June 30, 1997.
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Geographic Diversity. The following table sets forth certain
information with respect to the geographic distribution of leases funded by the
Company from February 21, 1995 (inception) through June 30, 1997:
<TABLE>
<CAPTION>
PERCENTAGE OF
STATE LEASES FUNDED(1) TOTAL LEASES FUNDED
----- ---------------- -------------------
(IN THOUSANDS)
<S> <C> <C>
California $ 25,211 22.2%
Texas 8,747 7.7
Florida 8,608 7.5
New York 8,454 7.4
Colorado 4,306 3.8
Illinois 4,242 3.7
Pennsylvania 4,170 3.7
New Jersey 4,089 3.6
Massachusetts 3,869 3.4
Georgia 3,421 3.0
Washington 3,380 3.0
Ohio 3,182 2.8
Arizona 2,711 2.4
All other states(2) 29,374 25.8
-------- -----
Total $ 113,764 100.0%
======== =====
</TABLE>
(1) Based on cost of leased equipment. Excludes leases funded by Global
Finance.
(2) None of the remaining 37 states in which the Company has conducted
business individually account for in excess of 1.9% of the total leases
funded since inception.
Lease Terms and Conditions. The Company uses a standard,
non-cancelable, full-payout lease, the terms and conditions of which may vary
slightly from transaction to transaction. The Company's leases are structured
so as to be profitable regardless of the disposition of the leased equipment or
the recovery of any residual equipment value upon the expiration of the lease
term. Approximately one-half of the leases underwritten by the Company provide
that the lessee may purchase the equipment for $1.00 at the expiration of the
lease, with the remainder of the leases calling for either a mandatory 10.0%
firm price buy-out or an optional fair market value buy-out. Excluding Global
Finance, the Company books a maximum residual value of 10.0% of the original
equipment cost of leases other than those leases with a $1.00 buy-out and does
not book any residual value on leases with a $1.00 buy-out. The leases
covering point-of-sale equipment funded by Global Finance generally provide for
a maximum residual value of 10.0% of the original lease receivable. In certain
cases, the residual value may be equivalent to 10.0% of the original equipment
cost. Leases funded by Global Finance generally have a term of 48 months and
provide that, at the conclusion of the lease, the lessee may continue to
utilize the leased equipment by paying a monthly rental substantially identical
to the monthly payment required under the lease. Leases funded by Global
Finance also carry somewhat higher implicit lease rates than those funded by
the Company.
Substantially all of the Company's leases provide that lessees are
obligated to (i) remit all amounts due, regardless of the performance of the
equipment, (ii) operate the equipment in a careful and proper manner and in
compliance with applicable government rules and regulations, (iii) maintain and
service the equipment, (iv) insure the equipment against casualty losses,
public liability, bodily injury and property damage, and require that the
Company be named as an additional insured and as a loss payee under each
insurance policy, and (v) pay directly, or reimburse the Company for, any taxes
associated with the equipment, its use, possession or lease, except those
relating to net income derived by the Company under the lease. The Company's
equipment leases provide that in the event of a default by a lessee, the
Company may declare the entire unpaid balance of lease payments due and payable
immediately, and may repossess the equipment for subsequent sale, re-lease or
other disposition.
Credit and Administrative Procedures. Based upon management's
experience in the equipment leasing industry, the Company has developed credit
underwriting policies and procedures that have been effective in the selection
of creditworthy equipment lessees. The Company's credit underwriting
procedures are based upon the use of, among other things, standardized lease
application documents, a computerized credit scoring system, credit
investigations, and in certain transactions, tax returns, financial statements
and other relevant credit documentation concerning the lessee.
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Once a determination to fund a lease has been made, the Company
generates a standardized lease agreement and other documents. When the
equipment is shipped and installed, the vendor invoices the Company and the
Company verifies that the lessee has received and accepted the equipment before
paying the vendor's invoice. Because vendor relationships are an important
part of the Company's operations, the Company attempts to assure that vendors
receive timely payments once lessee acceptance of the equipment is received.
In general, the Company makes payments to vendors within 24 hours of receipt of
lessee acceptance. Upon the lessee authorizing payment to the vendor, the
executed lease is forwarded to the Company's funding and documentation
department for funding, transaction accounting, audit and billing procedures.
SERVICING AND COLLECTIONS
The Company services substantially all leases that have been
originated or purchased by the Company. The Company's servicing activities,
with respect to both leases retained by the Company or leases securitized or
sold to third parties, consist of collecting, accounting for and posting of all
payments received; responding to lessee inquiries; taking all necessary action
to maintain the security interest granted in the leased equipment;
investigating delinquencies and taking appropriate action; communicating with
the lessee to obtain timely payments; repossessing and reselling the collateral
when necessary; and generally monitoring each lease. The Company's existing
servicing agreements provide that the Company will bear all costs and expenses
incurred in connection with servicing activities in exchange for a fixed
monthly fee assessed on each lease. The servicing agreements require the
Company to deliver monthly reports to the securitization trustee or holder of
the lease reflecting all payment and collection activity with respect to the
leases and reconciliation of changes in the outstanding balance owed under the
leases. The Company's bank and other credit facilities do not place servicing
requirements upon the Company other than to require that the Company service
leases pledged as collateral to the respective bank or financial institution.
The Company believes that its ability to monitor performance and
collect payments owed by lessees is primarily a function of its collection and
support systems. Certain members of the Company's management team and support
staff have extensive experience in lease servicing and collections. The
Company seeks to identify payment difficulties as early as possible and the
Company's collection staff works closely with lessees to address these
difficulties.
Delinquencies. The Company estimates that as of June 30, 1997, of the
leases financed by the Company and either held as direct financing leases or
sold to third parties or securitized, excluding leases funded by Global Finance
(the "Gross Servicing Portfolio"), approximately 7.1% were financed on a
recourse basis to the Company and the remaining 92.9% had been sold or
securitized on a non-recourse or limited recourse basis. In management's
opinion, the low delinquency rates of the Company's Gross Servicing Portfolio
reflect the consistent application of strict underwriting criteria, the
diversity in the Company's Gross Servicing Portfolio and the limited time
period that the vast majority of the Company's leases have been outstanding.
As the size and age of the Company's lease portfolio increases, the Company
expects to experience higher delinquency rates in the normal course of
business. At June 30, 1997, the Company's portfolio of direct financing leases
had 16 delinquent leases over 31 days. The table below sets forth certain
information concerning direct financing leases held by the Company at June 30,
1997.
DIRECT FINANCING LEASE DELINQUENCIES (1)
<TABLE>
<CAPTION>
AT JUNE 30, 1997
----------------
LEASE STATUS DOLLARS PERCENT
------------ ------- -------
(IN THOUSANDS)
<S> <C> <C>
Current . . . . . . . . . . . . . . . . . . . . . . . $7,776 90.6%
1-30 days past due . . . . . . . . . . . . . . . . . . 137 1.6
31-60 days past due . . . . . . . . . . . . . . . . . 119 1.4
61-90 days past due . . . . . . . . . . . . . . . . . 89 1.0
Over 90 days past due . . . . . . . . . . . . . . . . 459 5.4
------ -----
Total . . . . . . . . . . . . . . . . . . . . $8,580 100.0%
====== =====
</TABLE>
- -------------
(1) Excludes data for Global Finance. Data is presented using aged lease
receivables at June 30, 1997.
8
<PAGE> 9
A majority of the leases funded by the Company have been sold to third
parties or securitized. The following table sets forth certain information
concerning such leases at June 30, 1997.
LEASE DELINQUENCIES FOR LEASES SOLD OR SECURITIZED (1)
<TABLE>
<CAPTION>
AT JUNE 30, 1997
----------------
LEASE STATUS DOLLARS PERCENT
------------ ------- -------
(IN THOUSANDS)
<S> <C> <C>
Current . . . . . . . . . . . . . . . . . . . . . . . $107,093 94.9%
1-30 days past due . . . . . . . . . . . . . . . . . . 4,042 3.6
31-60 days past due . . . . . . . . . . . . . . . . . 918 0.8
61-90 days past due . . . . . . . . . . . . . . . . . 361 .3
Over 90 days past due . . . . . . . . . . . . . . . . 492 .4
-------- -----
Total . . . . . . . . . . . . . . . . . . . . $112,906 100.0%
======== =====
</TABLE>
- --------------------
(1) Excludes data for Global Finance. Data is presented using aged lease
receivables at June 30, 1997.
As illustrated in the foregoing tables, the lease delinquency rates
for leases sold or securitized are less than the delinquency rates for direct
financing leases. This difference is primarily attributable to the Company's
exercise of its right to substitute performing leases for non-performing leases
previously securitized, at which time the non-performing lease is reflected in
the direct financing lease delinquency statistics. The Company exercises its
right of lease substitution from time to time in order to limit the risk of
acceleration of the repayment of principal under outstanding certificates or
notes. Each securitization facility permits such acceleration if delinquency
or net charge-off rates exceed specified amounts. Acceleration of principal
repayments would have a material adverse effect on the Company's financial
condition inasmuch as available cash flows from the securitization residual
interest would be diverted to the investor upon acceleration until such time as
all principal has been repaid.
Reserves for Credit Losses. The Company maintains a reserve for credit
losses in connection with payments due under leases held in the Company's
portfolio. The reserve is established by management in an amount deemed
sufficient to meet future asset write downs, based on an analysis of
delinquencies, problem accounts, overall risks and probable charge-offs
associated with outstanding leases, together with a review of the Company's
historical loss experience. The reserve relates to direct financing leases held
by the Company, which include any leases received as a result of lease
substitutions in a securitized pool. Additionally, the Company has provided for
a reserve for credit losses in its securitization residual interests. At June
30, 1997, the reserve for credit losses equaled approximately 3% of the
Company's lease receivables and securitization residual interests, excluding
Global Finance leases. Due to the higher risk associated with leases funded by
Global Finance, the Company has established significantly higher reserves for
credit losses as a percentage of lease receivables for Global Finance leases as
compared to leases funded by Granite Financial, Inc. The reserve is evaluated by
management and the Board of Directors on a quarterly basis. The Company does
not provide a reserve for credit losses for leases sold to non-recourse lenders
or for leases disposed of through securitizations, except with respect to
reserves included within the securitization residual interest. The price paid
by purchasers of leases and the terms of securitizations give effect to
estimated delinquency and net charge-off rates.
FUNDING SOURCES
The Company purchases or originates and funds leases with the
intention of either selling the lease to an institutional purchaser,
securitizing the lease through the sale of lease-backed securities or holding
the lease in the Company's own portfolio. The Company initially funds a lease
through its existing working capital or through borrowings under its warehouse
credit line with a bank syndicate led by CoreStates Bank, N.A. (the "Warehouse
Credit Line") or under other credit facilities which are available to the
Company. Upon completing a sale or securitization of a pool of leases, the
Company receives funds which are generally used to pay down borrowings under
the Company's credit facilities or to restore the Company's working capital.
Borrowings under the Company's credit facilities and, to a lesser extent, the
Company's cash and cash equivalents, will therefore fluctuate based upon the
timing and amount of lease sales and securitizations.
9
<PAGE> 10
Bank and Other Credit Facilities. The $36.0 million Warehouse Credit
Line with CoreStates Bank and its participating lenders serves as the Company's
principal warehouse credit line. Borrowings under the Warehouse Credit Line
are collateralized by security interests in the leases against which the
borrowing applies, as well as a security interest in the underlying equipment
and all cash and non-cash proceeds therefrom. During the 1997 fiscal year, the
Company maintained a $3.0 million term loan with FBS Business Finance
Corporation ("FBS") and a $3.0 million revolving credit line/term loan with
Norwest Equipment Finance, Inc. ("Norwest"). These credit facilities were
collateralized by the leases assigned to each lender in connection with each
advance and are similar in certain other respects to the Warehouse Credit Line.
Given the Company's access to other credit facilities, the Company elected not
to renew the credit facilities from FBS and Norwest in June and July 1997,
respectively. The Company established a $2.0 million unsecured revolving
credit line with Colorado National Bank in January 1997. The credit line
allows the Company to borrow up to $2.0 million for working capital purposes on
an unsecured basis. The Company also assumed three credit facilities as a
result of its acquisition of Global Finance in March 1997. The Global Finance
credit facilities consist of a $2.2 million term loan and an $800,000 line of
credit, each with LaSalle National Bank ("LaSalle"), and a $1.5 million term
loan with Sirrom Capital, L.P. ("Sirrom"). These credit facilities are
recourse to Global Finance, are secured by equipment leases and all other
assets of Global Finance and can only be used by Global Finance. In May 1997,
LaSalle committed to increase the borrowing limit under the Global Finance line
of credit to $5.0 million. In July 1997, the Company obtained a $250,000
unsecured term loan for working capital purposes from Colorado National Bank.
Upon receipt of the proceeds from the July 1997 Offering, the Company repaid
the outstanding balances of $2.0 million and $250,000 from the $2.0 million
unsecured revolving credit line and the $250,000 unsecured term loan with
Colorado National Bank, respectively, and $10.4 million on the $36.0 million
Warehouse Credit Line. Additionally, the Company repaid the entire $1.5
million balance outstanding under the Sirrom term loan and repaid $800,000 on
the line of credit with LaSalle National Bank. See "Management's Discussion
and Analysis or Plan of Operation."
Securitizations. The Company has completed three securitizations which
provide for aggregate funding in the amount of approximately $114.0 million
under which the Company had funded an aggregate amount of $73.0 million as of
June 30, 1997. In each securitization, the Company transfers a pool of leases
to a wholly-owned, bankruptcy remote special purpose subsidiary established for
the limited purpose of purchasing the Company's leases and selling lease-
backed certificates or notes through a grantor trust to institutional
investors. Proceeds from the sale of lease-backed certificates or notes are
used by the subsidiary to purchase leases from the Company. Such proceeds are
generally then applied by the Company to pay down its Warehouse Credit Line or
bank and other credit facilities. See "Management's Discussion and Analysis or
Plan of Operation."
The Company completed its first securitization in April 1996. The
securitization provided for the issuance of $21.7 million in 6.33% Class A
Lease-Backed Notes due November 20, 2001. At June 30, 1997, the outstanding
principal balance of such notes was approximately $14.8 million and are backed
by leases with aggregate remaining payments of $18.0 million.
In November 1996 the Company completed its second securitization
facility. The facility provides for the issuance of up to $65.0 million in
aggregate principal amount of Class A Lease-Backed Certificates due June 20,
2003. The certificates are issuable in two tranches, a floating rate tranche
and a fixed rate tranche. The floating rate tranche bears interest at an
annual rate equal to the LIBOR rate plus 0.50% and generally converts to the
fixed rate tranche on a quarterly basis. The fixed rate tranche bears interest
at an annual rate equal to the treasury rate, as adjusted, plus 0.70%. The
initial funding under the securitization facility was approximately $7.2
million. The Company is required to fund a minimum of $1.5 million from the
securitization facility per month and until June 1997 was subject to
limitations in the monthly amount eligible to be funded under this facility.
At June 30, 1997, certificates had been issued in the aggregate principal
amount of $23.8 million in this securitization and are backed by leases with
aggregate remaining payments of $33.7 million.
In March 1997 the Company established its third securitization
facility. This facility was established to securitize additional leases above
the monthly eligibility limit formerly imposed in the November 1996
securitization facility. The facility provides for the issuance of up to $27.5
million in the aggregate principal amount of 6.82% Class A Lease-Backed
Certificates due December 20, 2002. The initial funding under the
securitization facility was approximately $14.7 million. At June 30, 1997,
certificates had been issued in the aggregate principal amount of $27.5 million
in this securitization and are backed by leases with aggregate remaining
payments of $37.2 million.
Payments due under the lease-backed securities issued in each of the
Company's securitizations have been insured by a financial guaranty issued by
MBIA Insurance Corporation and have been rated AAA by Standard & Poor's Ratings
Group and Aaa by Moody's Investors Service. In each securitization, the
lease-backed securities were issued pursuant to
10
<PAGE> 11
an indenture (the "Indenture") by and among the respective funding subsidiary,
Norwest Minnesota, the trustee under the Indenture, and the Company.
Contemporaneously, the Company and Norwest Minnesota entered into a servicing
agreement pursuant to which the Company was named as the servicer for all
leases that collateralized the lease-backed securities. Norwest Minnesota
functions as back-up servicer, as the trustee under the Indenture, as custodian
of the lease contracts and as the paying agent for the leases.
Under the terms of its existing securitizations, the Company has
retained the securitization residual interest. At June 30, 1997, the net book
value of the securitization residual interest totalled approximately $10.1
million. In each securitization, the Company receives advances based on a
percentage which is less than the aggregate present value of cash flows from an
undifferentiated pool of leases, effectively overcollateralizing the
lease-backed notes or certificates. Over the life of the lease pool
securitized, the Company is eligible to receive the excess cash flow (the
"securitization residual interest") resulting from the difference between the
lease payments received, net of defaults, and the payment of (i) principal and
interest to investors in lease-backed notes or certificates and (ii) servicing,
backup servicing and trustee fees and other securitization expenses. The
Company's success in realizing the value of the securitization residual
interest will depend primarily on the performance and cash flow of the
securitized leases.
The Company estimates that the cost of capital available to the
Company through securitizations has been significantly below the cost of
capital to the Company under its bank and other credit facilities.
Accordingly, the Company may enter into securitization transactions in the
future in order to reduce and control its cost of capital.
Lease Sales. From June 1995 until completion of the Company's first
securitization in April 1996, sales of leases to Heartland Bank represented the
Company's primary source of funding. Lease sales to Heartland Bank have
declined significantly since the Company's first securitization, and totaled
approximately $23.2 million in the year ended June 30, 1997. The Company may
sell leases to Heartland Bank or other institutional investors from time to time
in the future, particularly those leases which are not eligible for
securitization. Lease sales made by the Company to Heartland Bank are generally
non-recourse, although Heartland Bank has recourse to the Company with respect
to (i) the aggregate residual equipment value of the leases where there is no
firm purchase obligation on the part of the lessee, (ii) the entirety of the
lease in the case of a first payment default and (iii) a restricted cash reserve
account at August 31, 1997 of $0.6 million with respect to the sale of Global
Finance leases. Heartland Bank has been an affiliate of the Company since
January 1996 and two directors of the Company are also officers and directors of
Heartland Bank and Heartland Leasing.
COMPETITION
Competition in the equipment lease finance market is intense.
Management believes that the small-ticket equipment leasing market is highly
fragmented, with no single competitor believed to have a market share in excess
of approximately 2.0%. The Company competes for lessees with a number of
national, regional and local finance companies, some of which are active in
financing small-ticket equipment. The Company also competes against captive
finance companies affiliated with major equipment manufacturers, banks, credit
unions that provide equipment leasing and conventional leasing companies.
There also exist a large number of financial service companies and financial
institutions which, should they choose to do so, may enter the equipment
leasing business in the future. Competition in the equipment lease finance
market is based primarily on price, service and market presence. A majority of
the Company's existing and potential competitors possess substantially greater
financial, marketing, personnel and other resources than the Company. In
general, many of the Company's competitors and potential competitors are
larger, more established companies that have a lower cost of capital than the
Company and which may be able to access capital markets and funding sources
that are unavailable to the Company. Although the Company expects that future
securitizations will have the effect of making capital available at a cost
which will allow the Company to continue to offer competitive lease rates,
there can be no assurance that the Company will be successful in completing
future securitizations or that such securitizations will be on terms and
conditions favorable to the Company. The Company has and will encounter
significant competition and there can be no assurance the Company will be
successful in competing in its chosen market segments. In addition, as the
Company enters new markets such as the municipal leasing market, the Company
will encounter substantial competition.
The Company believes it currently maintains a competitive advantage in
the small-ticket market segment based on the high level of service provided to
its independent lease originators and its emphasis on the use of computer
systems and software specially designed for the equipment leasing market. The
Company believes its use of specialized computer systems and related
technologies provides the Company with a competitive advantage over smaller
finance companies. The Company believes that the principal competitive factors
affecting the lease originator's decision to offer leases through a particular
financing source are the purchase price offered for the leases, the
reasonableness of underwriting guidelines and
11
<PAGE> 12
documentation requests, the predictability and timeliness of financing and the
financial stability of the funding source. Management has devoted considerable
time and effort to the development of comprehensive underwriting guidelines and
documentation and to the streamlining of the lease underwriting process to
provide its independent lease originators with efficient, prompt and
predictable outcomes.
INTELLECTUAL PROPERTY
The Company relies on a combination of common law trade secret and
trademark rights and nondisclosure agreements to protect its proprietary marks
and information. The Company has not registered any of its trademarks or
service marks, and does not believe that any such marks are necessary to the
successful operation of its business. The Company has developed certain
specialty lease programs for which the Company may register service marks in
the future. There can be no assurance the Company will receive service mark
registrations on any terms applicable to its specialty lease programs. The
Company's non-exclusive license agreements with Fair Isaac and DSI grant the
Company limited non-exclusive licenses to the respective trademark or
servicemark of the licensor for the duration of the agreement. In December
1996, the Company also entered into a non-exclusive license for software
developed by BrokerWare.
REGULATION
The Company's business is subject to numerous federal and state
regulations which, among other things, require the Company to obtain and
maintain certain licenses and qualifications. These regulations also address
collection practices, including the rights to repossess and sell equipment.
Under certain circumstances, the Company may also be required to comply with
the Equal Credit Opportunity Act ("ECOA"). Pursuant to the terms of the ECOA,
the Company is required to give all credit applicants notice of the right to
receive a written statement of reasons if their application for credit is
denied, unless the applicant had gross revenues exceeding $1.0 million during
its last fiscal year. The Company is also required by the ECOA to give oral or
written notice of a credit denial within 30 days after receipt of a completed
lease application, or within a reasonable time for applicants whose gross
revenues exceeded $1.0 million during its last fiscal year. Although the
Company believes that it is currently in compliance with applicable statutes
and regulations, there can be no assurance that the Company will be able to
maintain such compliance. The failure to comply with such statutes and
regulations could have a material adverse effect upon the Company.
One of the Company's principal stockholders, Heartland Leasing, is a
wholly-owned subsidiary of Heartland Bank. Heartland Bank is a federally
chartered savings association and subject to the jurisdiction of the Office of
Thrift Supervision ("OTS"). Under authority granted by the Homeowners' Loan
Act, OTS regulates federally chartered savings associations and their
subsidiaries. At June 30, 1997, Heartland Leasing owned approximately 28% of
the outstanding Common Stock of the Company (which was reduced to approximately
17% on completion of the July 1997 Offering) and, by virtue of such ownership,
the Company may be considered a partly owned subsidiary of Heartland Bank by
OTS. To facilitate compliance by Heartland Bank with OTS regulations and the
Homeowners' Loan Act, the Company has agreed to engage solely in activities
that are permissible for federally chartered savings associations as determined
by applicable laws or OTS regulations. The Company does not believe its
leasing operations as currently conducted, or as proposed to be conducted, will
place the Company or Heartland Bank in violation of applicable laws or OTS
regulations. Heartland Bank's indirect affiliation with the Company may
subject the Company to examinations by the OTS and could subject the Company to
civil enforcement proceedings or other action by OTS if the Company engaged in
conduct impermissible for subsidiaries of federally chartered savings
associations.
EMPLOYEES
At June 30, 1997, the Company had 38 full-time employees. Of these,
six are principally engaged in management, four are engaged in sales and
marketing and the remainder are engaged in operations, accounting and
administration. None of the Company's employees are subject to collective
bargaining agreements. The Company believes its employee relations are
excellent.
12
<PAGE> 13
IMPORTANT FACTORS RELATED TO FORWARD-LOOKING STATEMENTS AND ASSOCIATED RISKS
Certain statements made in this Business section and elsewhere in this
Annual Report on Form 10-KSB are forward-looking statements as defined in the
Private Securities Litigation Reform Act of 1995 (the "Reform Act"). Those
forward-looking statements involve risks and uncertainties that are based on
certain assumptions that may not be realized. Those forward-looking statements
include or relate to the Company's plans or expectations to: (i) capitalize on
its operational capabilities and experienced management team, (ii) increase
productivity through utilization of advanced technologies and expansion of its
business using new interactive systems, (iii) leverage its access to lower cost
funds through securitizations and perhaps other sources to increase the gross
profit margins of acquired companies, (iv) increase its market share as it
executes its consolidation strategy, (v) successfully develop and implement a
direct electronic link with its independent lease originators, (vi)
successfully implement an interactive Web site and Internet marketing
strategies, (vii) implement additional marketing initiatives, (viii) complete
future securitization transactions and lease sales, (ix) maintain delinquency
and net charge-off rates within acceptable ranges, (x) identify, acquire and
assimilate complementary equipment leasing companies and independent lease
originators, (xi) develop additional specialty lease and vendor direct programs
in the future and (xii) commence e-commerce transactions among the Company,
equipment vendors and lessees.
The forward-looking statements included herein are based on current
expectations that involve a number of risks and uncertainties that are based on
assumptions that the Company will continue to be able to provide lease
financing at competitive rates, that the Company will be able to successfully
develop its interactive Web site and Internet marketing strategies, that the
Company will be able to locate and successfully negotiate acquisitions of
complementary equipment leasing companies and independent lease originators,
that the Company will continue to be able to provide a high level of service to
its independent lease originators, that the Company will continue to be able to
attract qualified and experienced management personnel, that the Company is
more advanced in the development of its technology-based systems than its
competitors and that it can successfully develop and implement those systems
before its competition, that competitive conditions within the industry will
not change materially or adversely, that demand for the Company's lease
financing will remain strong, that the Company will retain its existing
independent lease originators and key management personnel, that the Company's
forecasts will accurately anticipate market demand for equipment lease
financing in the small-ticket market, that the Company will continue to have
access to the asset-backed securities markets or other lower cost sources of
capital, and that there will be no material adverse change in the Company's
operations or business. Assumptions relating to the foregoing involve
judgments with respect to, among other things, future economic, competitive and
market conditions, and future business decisions, all of which are difficult or
impossible to predict accurately and many of which are beyond the control of
the Company and its management. Although the Company believes that the
assumptions underlying the forward-looking statements made in this Annual
Report on Form 10-KSB are reasonable, any of those assumptions could prove
inaccurate and, therefore, there can be no assurance that the results
contemplated in any of the forward-looking statements made herein will be
realized. In addition, the business and operations of the Company are subject
to substantial risks that increase the uncertainty inherent in such
forward-looking statements. Risk factors include (i) availability of capital
resources, including additional financing when and as need, and on terms
acceptable to the Company, the Company's maintenance of its existing credit
facilities or arrangements for new credit facilities with sufficient borrowing
capabilities to finance lease funding activities and the ability to pool and
sell leases in additional securitization transactions in a timely manner in
order to repay bank and other credit facilities and to generate cash for
funding of new leases; (ii) economic considerations, such as potential adverse
changes resulting from fluctuations in portfolio performance, general economic
downturns and interest rate and cost of funds increases, (iii) failure to
realize securitization residual interests, (iv) consolidation strategy risks,
such as availability of acquisitions on reasonable terms, the addition of debt
and amortization of costs related to goodwill and other intangible assets, and
successful integration and management of acquired operations and personnel; and
(v) the ability to manage rapid growth. Any of these factors could cause the
Company's revenues or net income, or the growth in revenues or net income, to
differ materially from prior results. Growth in absolute amounts of cost of
leases sold or charge-offs or the occurrence of extraordinary events could
cause actual results to vary materially from the results contemplated by the
forward-looking statements contained herein. Budgeting and other management
decisions are subjective in many respects and thus susceptible to
interpretations and periodic revisions based on actual experience and business
developments, the impact of which may cause the Company to alter its funding,
marketing, capital expenditure or other budgets, which may in turn materially
affect the Company's results of operations. In light of the significant
uncertainties inherent in the forward-looking statements included herein, the
inclusion of such information should not be regarded as a representation by the
Company or any other person or entity that the objectives or plans of the
Company can or will be achieved.
13
<PAGE> 14
ITEM 2. DESCRIPTION OF PROPERTY
Through August 8, 1997, the Company's office was located in
Westminster, Colorado and consisted of approximately 6,800 square feet. The
office was leased for an annual base rent of $37,000 through July 31, 1998,
subject to extension for an additional two years at market rental rates then
prevailing. The Company relocated its headquarters during August 1997 to a
larger facility in Golden, Colorado. The new facility has 13,100 square feet
of finished office space and 18,100 square feet of additional space which is
available for future expansion and is leased for an annual base rent ranging
from $135,000 to $148,000 through August 2002. As a result, the Company
expects to incur occupancy expenses during the 1998 fiscal year which are
approximately $98,000 in excess of fiscal 1997 occupancy expenses. The Company
was obligated to pay its pro rata share of taxes, assessments and maintenance
expenses attributable to the building in which its office was located and is
similarly obligated under the new lease. The lease for the Company's prior
premises was terminated in August 1997, at which time the Company paid a fee of
$12,000 for early termination.
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any litigation, and is not aware of any
threatened or pending legal proceeding, which would have a material adverse
effect on the Company's business, operations or financial condition.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of the fiscal year
covered by this Form 10-KSB to a vote of security holders through the
solicitation of proxies or otherwise.
14
<PAGE> 15
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET PRICE
Since the Initial Public Offering, the Company's Common Stock has been
quoted on the Nasdaq National Market under the trading symbol GFNL. Prior to
the Initial Public Offering, the Common Stock was not listed or quoted on any
organized market. The following table sets forth for the periods indicated the
high and low closing sales prices of the Common Stock as reported on the Nasdaq
National Market. Such quotations reflect inter-dealer prices, without retail
mark-up, markdown or commission, and may not necessarily represent actual
transactions.
<TABLE>
<CAPTION>
FISCAL 1997 HIGH LOW
----------- ---- ---
<S> <C> <C>
Second Quarter . . . . . . . . . . . . . $ 9.50 $ 8.00
Third Quarter . . . . . . . . . . . . . $12.75 $ 9.38
Fourth Quarter . . . . . . . . . . . . . $11.00 $ 8.38
</TABLE>
On September 15, 1997 the last reported sale price of the Common Stock
reported on the Nasdaq National Market was $11.375. As of September 15, 1997,
there were approximately 14 holders of record of the Company's Common Stock and
the Company estimates, based upon information provided by brokers, that it has
in excess of 550 beneficial owners of its Common Stock.
DIVIDENDS
Holders of Common Stock are entitled to receive such dividends as may
be declared by the Company's Board of Directors. The Company currently intends
to retain future earnings to finance its growth and development and therefore
does not anticipate paying any cash dividends in the foreseeable future. In
addition, the Company's revolving credit facilities restrict the payment of
cash dividends by the Company under certain circumstances. Payment of any
future dividends will depend upon the future earnings and capital requirements
of the Company and other factors which the Board of Directors considers
appropriate.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
The following discussion should be read in conjunction with the
Consolidated Financial Statements and notes thereto.
ACCOUNTING PRACTICES
Overview. The leases underwritten by the Company are non-cancelable,
full-payout leases. As such, the Company's leases cannot be canceled at the
lessee's discretion and all payments (which include interest implicit in the
lease) must be made at or before the dates due. The Company's leases meet the
accounting criteria for capitalization and are accounted for by the Company as
direct financing leases. Since its inception, the Company has initially funded
all of its direct financing leases with recourse debt under its existing bank
and other credit facilities or using its own working capital. The Company
typically retains these leases for a period of time. Thereafter, the Company
may sell or securitize leases on a non-recourse or limited recourse basis, at
which time the Company may relinquish any continuing economic interest in such
leases or may retain a contingent interest in the leases. The Company retains
servicing rights on substantially all leases it underwrites and is paid
servicing fees on a monthly basis. The Company's accounting practices with
respect to direct financing leases, securitizations and sales of leases are
summarized below.
The Company's leases are collateralized by the business equipment
leased as well as, in many cases, a personal guarantee provided by a principal
of the lessee. The Company also manages credit risk through diversifying its
business customer base, geographic location of lessees and the type of business
equipment leased. The Company believes that prepayment and charge-off risks
are mitigated by the non-cancelable, full payout structure of its leases which
cover
15
<PAGE> 16
equipment used in business operations. The Company has experienced nominal
prepayments to date. The Company also attempts to manage the risk of
charge-offs through strict adherence to the Company's underwriting criteria.
Direct Financing Leases. In accounting for direct financing leases,
the Company records the total lease payments, the estimated unguaranteed
residual equipment value and the initial direct costs (consisting of
commissions and fees paid to lease originators and other origination costs) as
the investment in the direct financing lease. The difference between the
investment in the direct financing lease and the cost to the Company of the
equipment being financed is recorded as unearned income. The unearned income
is recognized over the life of the lease using the interest method. On
securitization or sale of the lease, the Company's investment in the lease,
including initial direct costs, is eliminated and the resulting sales and cost
of sales are included in results of operations. Unless the residual value of
the leased equipment (the "residual equipment value") is sold in connection
with the securitization or sale of the lease, the estimated residual equipment
value remains on the Company's balance sheet and is recognized as income from
direct financing leases over the life of the lease using the interest method.
Any permanent reduction in the estimated residual equipment value is charged to
operations in the period it occurs. The Company books a maximum residual value
of 10.0% of the original equipment cost of leases (or, in the case of Global
Finance, 10.0% of the original lease receivable) other than those leases with a
$1.00 buy-out. No residual value is booked on leases with a $1.00 buy-out.
Securitizations. Through June 30, 1997, the Company completed three
securitizations which provide for aggregate funding in the amount of
approximately $114.2 million. The Company's securitizations consist of a $21.7
million lease-backed note transaction completed in April 1996, a $65.0 million
lease-backed certificate transaction completed in November 1996, and a $27.5
million lease-backed certificate transaction completed in March 1997. As of
June 30, 1997, the Company had funded an aggregate amount of $73.0 million
under a lease-backed note and certificates. In each securitization, the
Company transfers leases to a wholly-owned, bankruptcy remote special purpose
subsidiary which in turn simultaneously transfers its interest in the leases to
a grantor trust which issues beneficial interests in the leases in the form of
debt or equity securities.
In each securitization, the Company receives advances based on a
percentage which is less than the aggregate present value of cash flows from an
undifferentiated pool of leases, effectively overcollateralizing the
lease-backed notes or certificates. Over the life of the lease pool
securitized, the Company is eligible to receive the excess cash flow (the
"securitization residual interest") resulting from the difference between the
lease payments received, net of defaults, and the payment of (i) principal and
interest to investors in lease-backed notes or certificates and (ii) servicing,
backup servicing and trustee fees and other securitization expenses. The
securitization residual interest may be sold to investors or may be retained by
the Company. In each of its securitizations to date, the Company has retained
the securitization residual interest. The fair value of the securitization
residual interest is based on the Company's estimates using a risk adjusted
discounted cash flow approach.
As the holder of the securitization residual interest, the Company's
right to receive this excess cash flow is subject to certain conditions
specified in the related agreements designed to provide additional credit
enhancement to holders of the lease-backed securities issued in the
securitization. The Company estimates the expected levels of cash flows
available to the securitization residual interest after taking into
consideration estimated charge-offs, recoveries and other factors which may
affect the cash flows available to the securitization residual interest. The
Company estimates defaults on securitized lease portfolios and has included
estimated losses within the assumptions underlying the accounting for the
securitization residual interest. See Note 2 to the Consolidated Financial
Statements. The Company believes its reserves are adequate and monitors such
adequacy by examining current delinquencies, lease portfolio characteristics,
economic conditions and trends and management's expectations of future trends.
The cash flows ultimately available to the securitization residual interest are
largely dependent upon the actual charge-off rates experienced on the leases
sold to the grantor trust. The Company holds the securitization residual
interest and is typically entitled to receive from 15.0% to 20.0% of the cash
flows, net of charge-offs, of the trust. Losses incurred on leases held by the
trust are borne solely by the securitization residual interest. As a result,
relatively small fluctuations which are in excess of estimated charge-off rates
and other factors impacting cash flows of the leases could have a material
adverse effect on the Company's ability to realize its recorded basis in the
securitization residual interest. In such event, the Company would be required
to reduce the carrying amount of the securitization residual interest and
record a charge to earnings in the period in which the event occurred or became
known to management.
In each securitization transaction, the Company is entitled to
substitute performing leases for non-performing leases, subject to certain
limitations. The right of lease substitution is exercised from time to time by
the Company in order to prevent non-performing leases from exceeding specified
limitations in each securitization transaction. Should those
16
<PAGE> 17
limitations be exceeded, the trustee has the right to accelerate the repayment
of the principal outstanding under the lease-backed notes or certificates,
which would materially adversely affect the Company's receipt of cash flow from
the securitization residual interest. As a result of the Company's exercise of
the right of substitution in prior periods, direct financing leases with full
recourse to the Company have higher delinquency rates than delinquency rates
experienced by non-recourse or limited recourse leases that have been sold to
third parties or securitized.
Upon closing a securitization completed through the sale of
lease-backed equity securities, such as the Company's November 1996 and March
1997 securitizations, (i) the assigned leases are removed from the Company's
consolidated balance sheet, (ii) the investment in the assigned leases is
allocated between cost of leases sold and the securitization residual interest
on a relative fair value basis on the date of sale (iii) the resulting sales of
leases and cost of leases sold are reflected in the consolidated statement of
operations and (iv) the difference between the excess cash flows received from
the trust and the securitization residual interest is recognized as income over
the life of the securitized leases using the interest method. Prior to the
adoption of SFAS No. 125, "Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities" ("SFAS No. 125"), a securitization
completed through the sale of lease-backed debt securities, such as the
Company's April 1996 securitization, was accounted for as a collateralized
borrowing. As a result, upon closing the April 1996 securitization the Company
recorded direct financing leases assigned to lender of $24.8 million (which
represents the Company's investment in the assigned leases) and recorded limited
recourse Class A Notes payable of $21.7 million (which represents the principal
amount of the Class A Notes, as well as the gross securitization proceeds paid
to the Company). Gain or loss is not recognized upon the closing of such a
securitization. Rather, income is recognized over the term of the assigned
leases consistent with the accounting treatment which is applied to direct
financing leases. The Company adopted SFAS No. 125 on January 1, 1997. Pursuant
to SFAS No. 125, future securitizations completed through the issuance of
lease-backed debt securities will generally be accounted for as sales under the
method described above for equity securities.
Sales of Leases. In addition to disposing of leases through
securitization transactions, the Company has sold on a non-recourse and limited
recourse basis lease portfolios to institutional purchasers including an
affiliate. Sales to the affiliate are subject to the affiliate's recourse to
the Company with respect to the entirety of any leases under which a first
payment default occurs, any shortfall in the aggregate estimated residual
equipment value of the leases where there is no firm purchase obligation on the
part of the lessee, and with respect to sales of any Global Finance leases, a
restricted cash reserve account in the amount of $0.6 million at August 31,
1997. Sales of leases reflect proceeds received by the Company, net of related
selling expenses, and the cost of leases sold reflect the Company's net
investment in the related leases. At June 30, 1997, the Company's aggregate
residual equipment value guarantees were $827,000. See Note 3 to the
Consolidated Financial Statements.
RESULTS OF OPERATIONS
The Company was formed on February 21, 1995. The following discussion
compares operating results for the 1997 fiscal year with those of the 1996
fiscal year. There are no comparisons for the period from inception to June
30, 1995, during which time the Company had limited operations.
17
<PAGE> 18
Fiscal Year ended June 30, 1997 compared to Fiscal Year ended June 30,
1996.
Revenues. Sales of leases were $78.9 million representing 94.6% of
total revenues in the 1997 fiscal year, an increase of $58.3 million over sales
of leases of $20.6 million representing 94.4% of total revenues in the 1996
fiscal year. The increase in sales of leases is due to the consistent increase
in the volume of leases funded by the Company since its inception. The Company
funded a total of 3,035 leases during the 1997 fiscal year as compared to 1,381
leases during the 1996 fiscal year. Income from direct financing leases was
$4.5 million in the 1997 fiscal year, or an increase of $3.3 million from $1.2
million in the 1996 fiscal year. Income from direct financing leases primarily
consists of the accretion of income on leases retained by the Company and on
the Company's securitization residual interest. Income from direct financing
leases also includes servicing fees, which to date have been nominal. Income
from direct financing leases represented 5.4% of total revenues in the 1997
fiscal year as compared to 5.6% of total revenues in the 1996 fiscal year.
Expenses. Cost of leases sold were $73.4 million or 87.9% of total
revenues in the 1997 fiscal year, an increase of $54.1 million from cost of
leases sold of $19.3 million or 88.3% of total revenues in the 1996 fiscal
year. The increase in cost of leases sold is directly related to the increase
in leases funded. Cost of leases sold includes all direct costs of funding the
leases and commissions and fees paid to the Company's independent lease
originators.
Provision for credit losses for direct financing leases and direct
financing leases assigned to lenders was $665,000 in the 1997 fiscal year, an
increase of $570,000 from $95,000 in the prior fiscal year. Provision for
credit losses represented less than 1.0% of total revenues in each fiscal year.
The increase in the absolute amount of the provision reflects the significant
increase in the volume of leases held prior to sale. The Company maintains an
allowance for credit losses which is established through a charge to earnings
in the period in which it is probable a lease asset is impaired and the amount
can be reasonably estimated.
Interest expense was $2.0 million in the 1997 fiscal year, compared to
$551,000 in the 1996 fiscal year. Interest expense for the 1997 fiscal year
and the 1996 fiscal year was 2.5% of total revenues. The increase in interest
expense reflects increased borrowings under the Company's credit facilities and
under the $21.7 million limited recourse note issued in the April 1996
securitization. The increased borrowing levels were required to support growth
in the number of leases funded by the Company.
Salaries and benefits were $1.7 million in the 1997 fiscal year, an
increase of $1.1 million over salaries and benefits of $643,000 in the 1996
fiscal year. As a percentage of total revenues, salaries and benefits were
2.0% and 2.9% in the 1997 and 1996 fiscal years, respectively. The increase
reflects the addition of staff necessary to support growth in the Company's
business as well as certain salary increases for existing personnel. General
and administrative expenses were $1.6 million in the 1997 fiscal year, an
increase of $1.1 million from general and administrative expenses of $472,000
in the 1996 fiscal year. Those expenses were 2.0% and 2.2% of total revenues
in the 1997 and 1996 fiscal years, respectively. General and administrative
expenses include operational expenses such as office overhead, accounting,
legal and other expenses not directly attributable to personnel. The increase
is due to the overall growth in the Company's business. Depreciation and
amortization increased to $264,000 in the 1997 fiscal year, an increase of
$223,000 from $41,000 in the 1996 fiscal year. This increase was due to the
addition of office and computer equipment necessary to support continued growth
in the Company's business.
Net Income. During the 1997 fiscal year, pro forma net income was
$2.1 million, compared to pro forma net income of $481,000 in the 1996 fiscal
year. As Granite Financial, LLC was not subject to federal and state income
taxes, net income represents the difference between gross profit and other
expenses. To allow comparisons with C Corporations, pro forma federal and
state income taxes have been assumed at statutory rates. Additionally, in
October 1996, the Company recorded a one-time charge against earnings of
approximately $100,000 for income taxes associated with the Company's
restructuring. Based on the foregoing assumptions, the Company would have
incurred income taxes of $1.4 million in the 1997 fiscal year and $282,000 in
the 1996 fiscal year.
18
<PAGE> 19
LIQUIDITY AND CAPITAL RESOURCES
The Company requires capital to fund increases in its lease portfolio,
fund acquisitions of complementary small-ticket equipment finance companies and
independent lease originators, support securitizations through retention of
securitization residual interests, provide for normal operating expenses and
for general working capital purposes. The capital sources available to the
Company include cash from operating activities, borrowings under bank and other
credit facilities, cash from lease sales, advances in connection with lease
securitizations and capital provided by sales of equity securities.
Net cash used in operating activities was $5.9 million during the 1997
fiscal year compared to $7.0 million during the 1996 fiscal year. For the 1997
fiscal year, this was primarily the result of a $10.1 million increase in
securitization residual interests and a $1.4 million net reduction in direct
financing leases available for sale. Net cash provided by investing activities
was $3.1 million during the 1997 fiscal year compared to net cash used in
investing activities of $23.0 million in the previous fiscal year. The net
cash invested in the 1996 fiscal year reflects $24.8 million of leases assigned
to lender which was partially offset by $2.2 million of payments received on
said leases. The net cash provided by investing activities of $3.1 million
during the 1997 fiscal year was largely the result of payments received on
leases assigned to lender of $7.1 million and $2.6 million paid for the
acquisition of two companies. Net cash provided by financing activities during
the 1997 fiscal year was $3.5 million compared to $29.5 million in the 1996
fiscal year. Proceeds from bank and other credit facilities provided cash of
approximately $1.0 million in the 1997 fiscal year, a decrease of $3.3 million
from the 1996 fiscal year. This decrease is due to the Company's success in
obtaining other sources of financing, including proceeds from the initial
issuance of common stock, in the 1997 fiscal year, whereas the Company was
primarily reliant on bank financing, the Class A note issued in the April 1996
securitization and lease sales in the 1996 fiscal year. Principal payments on
notes payable used cash of $4.5 million during the 1997 fiscal year and
$208,000 in the 1996 fiscal year. Principal payments in the 1997 fiscal year
included $6.0 million paid on the Class A note issued in the April 1996
securitization and $4.5 million paid on other notes payable.
Subsequent to June 30, 1997, the Company's liquidity improved
substantially when it completed a secondary public offering of 2,100,000 shares
of common stock at $8.25 per share. Additionally, the Company granted to the
underwriters a 30-day option to purchase up to an additional 315,000 shares of
common stock to cover over-allotments. The option was exercised by the
underwriters within the 30-day option period. The proceeds of the offering
were approximately $18,148,000, net of offering costs of $1,776,000.
Additionally, the Company issued warrants to the underwriters to purchase
150,000 shares of common stock exercisable at $10.31 per share.
Bank and Other Credit Facilities. The Company obtains, renews or
replaces its bank credit facilities consistent with its objectives of obtaining
the lowest possible cost of funds and maintaining diverse funding sources. At
June 30, 1997, the Company maintained seven credit facilities which permitted
borrowings in the aggregate amount of approximately $48.5 million. Subsequent
to June 30, 1997, two credit facilities were not renewed by the Company and the
current outstanding balance of four other facilities were repaid in full. At
June 30, 1997, the Company's borrowings under its then existing credit
facilities were approximately $11.3 million. The following table presents
certain information regarding the Company's credit facilities at June 30, 1997.
19
<PAGE> 20
<TABLE>
<CAPTION>
AMOUNT OUTSTANDING
LENDER TYPE OF FACILITY AMOUNT INTEREST RATE AT JUNE 30, 1997 EXPIRATION
------- ---------------- ------ ------------- ---------------- ---------------
(IN MILLIONS) (IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
CoreStates Bank, N.A. and
participating lenders(1)(7) . Revolving line $36.0 Bank reference $ 4,561 February 1998
rate plus 0.63%
Colorado National Bank,
N.A.(2)(7) . . . . . . . . . Revolving line $2.0 Bank reference $ 2,000 January 1998
rate plus 0.75%
FBS Business Finance
Corporation(3) . . . . . . . Term loan $3.0 Treasury bill - June 1997
rate plus 3.0%
Norwest Equipment Finance
Corporation(4) . . . . . . . Revolving line/ $3.0 Treasury bill $ 772 July 1997
term loan rate plus 3.85%
LaSalle National Bank(5) . . . Term loan $2.2 8.72% $ 1,722 May 1999
LaSalle National Bank(5)(6)(7). Revolving line $0.8 Bank reference $ 771 May 1997
rate plus 1.0%
Sirrom Capital, L.P.(5)(7) . . Term loan $1.5 13.0% $ 1,471 January 2000
</TABLE>
- ------------------
(1) Established in February 1997 as the Company's principal warehouse
credit facility. The Company may borrow an amount equal to the lesser
of 95.0% (90.0% for Global Finance leases) of the present value of
lease payments discounted at CoreStates' reference rate plus 0.63% per
annum or 75.0% (70.0% for Global Finance leases) of the remaining lease
receivables under the leases which form the borrowing base, up to a
maximum of $36.0 million. Of the maximum amount of $36.0 million,
Global Finance leases may account for an amount up to $5.0 million.
Borrowings are collateralized by security interests in the leases
against which the borrowing applies and the underlying equipment and
all cash and non-cash proceeds therefrom. The lender has recourse
against the Company and the Company must make all payments regardless
of the performance of the pledged leases or availability of other
collateral. The Company retains ownership of the equipment during the
term of the leases, subject to the lenders' security interest.
(2) Established in January 1997 to enable the Company to borrow up to a
maximum of $2.0 million for working capital purposes on an unsecured
basis. Borrowings may not exceed a borrowing base equal to the
present value of total payments due under all unencumbered leases
owned by the Company, discounted at the lender's reference rate plus
.75% per annum.
(3) The Company elected not to renew this facility upon the expiration
date for funding in June 1997. No amounts were outstanding under this
facility and no leases were held by this lender at the expiration
date.
(4) The Company elected not to renew this facility upon the expiration
date for funding in July 1997; however, the lender will continue to
hold leases in its portfolio through expiration or termination dates
for the leases financed. The lender has full recourse against the
Company should the collateral prove to be insufficient.
(5) Assumed by the Company on closing of the acquisition of Global
Finance.
(6) In May 1997, the lender committed to increase this revolving line to
$5.0 million and to extend the term of the facility to November 1,
1998. The commitment provided that the Company may at its election
convert amounts outstanding under the revolving line to fully
amortizing four-year term loans. The Company is currently negotiating
the terms of a new agreement under this facility.
(7) The Company used a portion of the proceeds of its July 1997 Offering
to repay the current outstanding balance of such credit facility.
Securitizations. The Company has completed three securitizations
which provide for aggregate funding in the amount of approximately $114.2
million. As of June 30, 1997, the Company had funded an aggregate amount of
$73.0 million under a lease-backed note and certificates.
20
<PAGE> 21
The table below documents the Company's history of lease
securitizations by fundings through the end of the 1997 fiscal year.
STRUCTURED LEASE SECURITIZATIONS
<TABLE>
<CAPTION>
NOTE OR CERTIFICATE
PERIOD FUNDED DOLLAR AMOUNT RATINGS RATING AGENCY POOL NAME
- ------------- ------------- ------- ------------- ---------
(IN MILLIONS)
<S> <C> <C> <C> <C>
April 1996 $ 21.7 Aaa/AAA Moody's/S&P GF Funding Corp. I
November 1996 7.2 Aaa/AAA Moody's/S&P GF Funding Corp. II
December 1996 1.9 Aaa/AAA Moody's/S&P GF Funding Corp. II
January 1997 2.1 Aaa/AAA Moody's/S&P GF Funding Corp. II
February 1997 2.8 Aaa/AAA Moody's/S&P GF Funding Corp. II
March 1997 1.5 Aaa/AAA Moody's/S&P GF Funding Corp. II
March 1997 15.2 Aaa/AAA Moody's/S&P GF Funding Corp. III
April 1997 2.1 Aaa/AAA Moody's/S&P GF Funding Corp. II
April 1997 4.2 Aaa/AAA Moody's/S&P GF Funding Corp. III
May 1997 1.7 Aaa/AAA Moody's/S&P GF Funding Corp. II
June 1997 4.5 Aaa/AAA Moody's/S&P GF Funding Corp. II
June 1997 8.1 Aaa/AAA Moody's/S&P GF Funding Corp. III
</TABLE>
The Company intends in the future to undertake additional
securitization transactions because securitizations generally offer a lower
cost of capital than is available through other sources. The Company's ability
to complete additional securitizations will depend upon a number of factors,
including general conditions in the credit markets, the performance of already
outstanding asset-backed securities issued by the Company and other factors,
some of which may be beyond the Company's control. Additional asset-backed
securitizations will likely be subject to the Company's ability to obtain
favorable ratings from rating agencies, to provide credit enhancements such as
insurance policies or "overcollateralization" through the securitization
residual interest, or to deposit cash or other collateral which may have the
effect of increasing the Company's effective cost of capital.
ASSET QUALITY AND STATIC POOL ANALYSIS
The Company's underwriting criteria are intended to result in a
diverse customer base which does not exhibit dependence on a particular
geographic market or industry segment. Because the Company commenced
operations in February 1995, there is limited performance data available with
respect to the Gross Servicing Portfolio and, consequently, historical
delinquency and charge-off statistics are not necessarily indicative of future
performance.
The Company estimates defaults on direct financing leases and
securitized leases and establishes reserves for expected losses on leases the
Company either owns or has sold on a recourse or limited recourse basis. The
Company regularly reviews its reserves and defaults are continuously monitored
on a portfolio and individual pool basis. The Company examines factors such as
current delinquencies, lease portfolio characteristics, economic conditions and
trends, historical default experience and management's expectations of future
trends in establishing reserves. The Company's reserve for credit losses on
its lease portfolio approximated $3.4 million as of June 30, 1997 ($0.5 million
of which was a reserve for credit losses for Global Finance). Included within
this reserve was approximately $1.2 million in estimated losses which were
established in the assumptions underlying the accounting for the securitization
residual interest for the securitizations conducted in November 1996 and March
1997. The Company believes its current reserves for credit losses are adequate
to provide for expected losses in the existing lease portfolio. See Note 2 to
Consolidated Financial Statements.
Since its inception, the Company has monitored its underwriting and
collection performance using "static pool" analysis. Static pool analysis is a
statistical monitoring methodology by which each month's lease originations are
treated as a unique pool and the performance of this pool is tracked
separately. The measure of performance is based on several factors which
include delinquencies 31 or more days past due and net charge-offs.
21
<PAGE> 22
The following table documents lease delinquencies 31 or more days past
due as of June 30, 1997. The table presents the delinquent leases for the
quarters presented as a percentage of the remaining lease receivable balance
for that pool.
STATIC POOL REPORTING(1)
31+ DAYS DELINQUENT
<TABLE>
<CAPTION>
ORIGINAL PERCENTAGE OF REMAINING LEASE RECEIVABLE
LEASE ----------------------------------------
CALENDAR PERIOD RECEIVABLE QTR 1 QTR 2 QTR 3 QTR 4 QTR 5 QTR 6 QTR 7 QTR 8 QTR 9 QTR 10
- --------------- ---------- ------ ------ ----- ------ ----- ----- ----- ----- ----- ------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
1995:
- ----
1st Quarter $ 31 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
2nd Quarter 1,748 0.0 0.0 0.0 0.4 0.4 0.3 0.9 2.1 4.6
3rd Quarter 6,082 0.0 2.5 2.1 3.5 3.9 5.6 3.0 2.6
4th Quarter 10,444 0.0 0.9 2.4 3.0 5.3 3.1 4.8
1996:
- ----
1st Quarter 15,906 0.0 0.8 2.0 3.3 3.4 2.8
2nd Quarter 16,849 0.0 1.2 2.6 3.8 5.4
3rd Quarter 15,467 0.0 0.8 2.0 2.2
4th Quarter 22,220 0.0 0.4 2.2
1997:
- ----
1st Quarter 32,361 0.0 0.6
2nd Quarter 38,478 0.0
</TABLE>
- --------------
(1) Excludes data for Global Finance. Lease delinquencies are calculated on a
monthly basis. Monthly calculations are then averaged to create an average
delinquency rate for the period.
The following table documents net charge-offs for each quarter
presented as a percentage of original net investment in leases for that
quarter. Negative net charge-off amounts indicate that recoveries exceeded
charge-offs during the quarter.
STATIC POOL REPORTING(1)
NET INVESTMENT CHARGE-OFF
<TABLE>
<CAPTION>
ORIGINAL PERCENTAGE OF ORIGINAL INVESTMENT VALUE
INVESTMENT ---------------------------------------
CALENDAR PERIOD VALUE QTR 1 QTR 2 QTR 3 QTR 4 QTR 5 QTR 6 QTR 7 QTR 8 QTR 9 QTR 10
- --------------- ----- ----- ----- ------ ----- ----- ----- ----- ----- ------ ------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
1995:
- ----
1st Quarter $ 23 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%
2nd Quarter 1,337 0.0 0.0 0.0 0.0 1.0 0.0 (0.4) 0.8 1.0
3rd Quarter 4,755 0.0 0.0 0.0 0.0 0.0 0.5 0.6 0.9
4th Quarter 8,107 0.0 0.0 0.2 0.2 2.4 0.8 (0.1)
1996:
- ----
1st Quarter 12,377 0.0 0.0 0.1 1.0 1.6 1.3
2nd Quarter 13,174 0.0 0.0 1.1 (0.1) 1.3
3rd Quarter 12,077 (0.1) 0.0 0.6 0.5
4th Quarter 17,338 0.0 0.0 0.4
1997:
- ----
1st Quarter 25,309 0.0 0.0
2nd Quarter 30,231 0.0
</TABLE>
- --------------
(1) Excludes data for Global Finance and data related to leases sold to
Heartland Bank.
22
<PAGE> 23
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities." SFAS
No. 125 is effective for transfers and servicing of financial assets and
extinguishments of liabilities occurring after December 31, 1996 and is to be
applied prospectively. This Statement provides accounting and reporting
standards for transfers and servicing of financial assets and extinguishment of
liabilities based on consistent application of a financial-components approach
that focuses on control. SFAS No. 125 distinguishes transfers of financial
assets that are sales from transfers that are secured borrowings. The Company
adopted SFAS No. 125 effective January 1, 1997.
ITEM 7. FINANCIAL STATEMENTS
The financial statements begin on page F-1.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
23
<PAGE> 24
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
ITEM 10. EXECUTIVE COMPENSATION
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The Company will file a definitive Proxy Statement pursuant to
Regulation 14A for its annual meeting of shareholders. The information called
for by the above Items will be included in such definitive Proxy Statement
under "Election of Directors," "Management and Directors," "Executive
Compensation and Other Remuneration," "Security Ownership of Certain Beneficial
Owners and Management" and "Certain Relationships and Related Transactions,"
which is incorporated herein by reference. If such definitive Proxy Statement
is not filed with the Commission within 120 days after the end of the fiscal
year covered by this report, then the information described above will be filed
as an amendment to this report before the end of such 120-day period.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
The following documents are filed herewith or have been included as
exhibits to previous filings with the Securities and Exchange Commission and
are incorporated herein by this reference:
EXHIBIT NO.
- -----------
+ 2.1 Exchange Memorandum, dated October 7, 1996 regarding the
reorganization of the Registrant from a Colorado limited liability
company to a Delaware corporation (the "Exchange Memorandum").
+ 3.1 Certificate of Incorporation of the Company as filed on June 20,
1996 with the Secretary of State of the State of Delaware.
+ 3.2 By-laws of the Company.
+ 4.1.1 Form of specimen certificate for Common Stock of the Company.
+ 4.1.2 Form of Representative's Warrant issued by the Company to
Cruttenden Roth Incorporated in connection with the Company's
initial public offering.
* 4.1.3 Underwriters' Warrant issued by the Company to Piper Jaffray Inc.
and Cruttenden Roth Incorporated.
* 10.1.1 Form of Employment Agreement, dated April 1, 1997, by and between
William W. Wehner and the Company.
* 10.1.2 Employment Agreement, dated April 28, 1997, by and between Larry K.
White and the Company.
+ 10.2 Form of Indemnification Agreement entered into between the Company
and each officer and director of the Company.
24
<PAGE> 25
+ 10.3 1996 Omnibus Stock Option Plan, as amended effective April 24,
1997, authorizing 900,000 shares of Common Stock for issuance
pursuant to the Plan.
+ 10.4.1 Membership Units Purchase Agreement, dated January 31, 1996, by and
among Heartland Leasing Corporation of Missouri, Granite Financial,
LLC, James E. Lewis, William W. Wehner, Andrew S. Love, Jr.,
Laurence A. Schiffer and Heartland Bank.
+ 10.4.2 Members' Agreement of Granite Financial, LLC, dated January 31,
1996, by and among Granite Financial, LLC, James E. Lewis, William
W. Wehner and Heartland Leasing Corporation of Missouri.
+ 10.4.3 Lease Purchase Agreement, dated June 14, 1995, by and between
Granite Financial, LLC and Heartland Bank.
+ 10.4.4 Lease Sale Agreement, dated April 1, 1996, by and between Heartland
Bank and Granite Financial, LLC.
+ 10.4.5 Lease Service Agreement, dated June 14, 1995, by and between
Heartland Bank and Granite Financial, LLC.
x 10.4.6 Lease Purchase Agreement, dated June 30, 1997, by and between
Heartland Bank and Granite Financial Acquisition Corp. I.
o 10.5.1 Loan and Security Agreement, dated February 4, 1997, by and between
CoreStates Bank, N.A. and Granite Financial, Inc.
o 10.5.2 Unsecured Revolving Credit Agreement, dated January 30, 1997, by and
between Colorado National Bank, and Granite Financial, Inc.
+ 10.6 Lease of Space, dated June 26, 1995, by and between Arbor Lake
Limited Partnership, a Colorado limited partnership, and Granite
Financial, LLC.
+ 10.7 Form of Broker/Lessor Partnership Agreement, dated various dates,
by and between Lease Originators and Granite Financial, LLC.
+ 10.8.1 Servicing Agreement, dated April 1, 1996, by and among GF Funding
Corp. I, Norwest Bank Minnesota, National Association and Granite
Financial, LLC.
+ 10.8.2 Indenture, dated April 1, 1996, by and among GF Funding Corp. I,
Norwest Bank Minnesota, National Association and Granite Financial,
LLC.
+ 10.8.3 Lease Acquisition Agreement, dated April 10, 1996, by and between
Granite Financial, LLC and GF Funding Corp. I.
++10.9.1 Trust and Security Agreement, dated November 1, 1996, among G.F.
Funding Corp. II, the Company, Norwest Bank Minnesota, National
Association.
++10.9.2 Lease Acquisition Agreement, dated November 1, 1996, between the
Company and G.F. Funding Corp. II.
++10.9.3 Servicing Agreement, dated November 1, 1996, among G.F. Funding
Corp. II, the Company, Norwest Bank Minnesota, National
Association.
o 10.10.1 Trust and Security Agreement, dated March 1, 1997, by and among GF
Funding Corp. III, the Company and Norwest Bank Minnesota, National
Association.
o 10.10.2 Lease Acquisition Agreement, dated March 1, 1997, by and between the
Company and GF Funding Corp. III.
o 10.10.3 Servicing Agreement, dated March 1, 1997, by and among the Company,
GF Funding Corp. III and Norwest Bank Minnesota, National
Association.
25
<PAGE> 26
+ 10.11.1 CreditDesk(R) License Agreement, dated September 22, 1995, by and
between Fair, Isaac and Company, Inc. and Granite Financial, LLC.
+ 10.11.2 InfoLease License Agreement, dated October 5, 1995, by and between
Decision Systems, Inc. and Granite Financial, LLC.
o 10.12 Asset Purchase Agreement, dated March 31, 1997, by and among
Granite Financial Acquisition Corp. I, Global Finance & Leasing,
Inc. and Thomas Mannes.
* 10.13 Agreement, dated December 13, 1996, by and between BrokerWare,
Inc. and the Company.
* 10.14 Standard Form Industrial Lease, dated June 6, 1997, by and between
General American Life Insurance Company and the Company.
x 11.1 Computation of Earnings Per Share.
13. Not applicable.
16. Not applicable.
18. Not applicable.
* 21. List of Subsidiaries.
22. Not applicable.
23. Not applicable.
24. Not applicable.
x 27. Financial Data Schedule.
+ Incorporated by reference from the Company's Registration Statement on
Form SB-2 (S.E.C. File No. 333-5264-D).
* Incorporated by reference from the Company's Registration Statement on
Form SB-2 (S.E.C. File No. 333-29303).
++ Incorporated by reference from the Company's Form 10-QSB filed February
14, 1997 (S.E.C. File No. 0-21591).
o Incorporated by reference from the Company's Form 10-QSB filed May 15,
1997 (S.E.C. File No. 0-21591).
x Filed herewith.
(b) REPORTS ON FORM 8-K
The Company did not file any reports on Form 8-K during the last
quarter of the fiscal year ended June 30, 1997.
26
<PAGE> 27
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
GRANITE FINANCIAL, INC.
Date: September 26, 1997 By: /s/ WILLIAM W. WEHNER
------------------ ---------------------------
William W. Wehner,
Chairman of the Board and
Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the registrant and in the capacities and
on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- --------- ----- ----
<S> <C> <C>
/s/ WILLIAM W. WEHNER Chairman of the Board and Chief September 29, 1997
- --------------------------- Executive Officer (Principal
William W. Wehner Executive Officer)
/s/ WILLIAM S. COBB Senior Vice President of Corporate September 29, 1997
- --------------------------- Development and Chief Financial
William S. Cobb Officer
/s/ MARK A. MIYASAKI Vice President and Chief September 29, 1997
- --------------------------- Accounting Officer
Mark A. Miyasaki
/s/ JAMES E. LEWIS Director September 29, 1997
- ---------------------------
James E. Lewis
/s/ LAURENCE A. SCHIFFER Director September 29, 1997
- ---------------------------
Laurence A. Schiffer
/s/ ANDREW S. LOVE, JR. Director September 29, 1997
- ---------------------------
Andrew S. Love, Jr.
/s/ SAMUEL R. FREEMAN Director September 29, 1997
- ---------------------------
Samuel R. Freeman
</TABLE>
27
<PAGE> 28
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
<S> <C>
Independent Auditors' Report....................................................... F-2
Consolidated Financial Statements
Consolidated Balance Sheets................................................ F-3
Consolidated Statements of Operations...................................... F-4
Consolidated Statement of Changes in Members'/Stockholders' Equity......... F-5
Consolidated Statements of Cash Flows...................................... F-6
Notes to Consolidated Financial Statements......................................... F-8
</TABLE>
F-1
<PAGE> 29
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders
Granite Financial, Inc. and Subsidiaries
Golden, Colorado
We have audited the accompanying consolidated balance sheet of Granite
Financial, Inc. and Subsidiaries as of June 30, 1997, and the related
consolidated statements of operations, changes in members'/stockholders' equity
and cash flows for years ended June 30, 1996 and 1997. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Granite Financial,
Inc. and Subsidiaries as of June 30, 1997 and the results of their operations
and their cash flows for the years ended June 30, 1996 and 1997 in conformity
with generally accepted accounting principles.
As described in Note 1 to the consolidated financial statements, the Company
adopted Statement of Financial Accounting Standards No. 125, Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities.
Ehrhardt Keefe Steiner & Hottman P C
August 20, 1997
Denver, Colorado
F-2
<PAGE> 30
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
June 30,
1997 Pro Forma
----------- -----------
(Note 13)
ASSETS
<S> <C> <C>
Cash and cash equivalents $ 680,529 $ 9,996,596
Restricted cash 1,715,964 1,715,964
Direct financing leases (Notes 2 and 3) 9,906,746 9,906,746
Direct financing leases assigned to lender (Note 2) 15,510,859 15,510,859
Securitization residual interest (Note 2) 10,138,341 10,138,341
Other receivables 1,193,609 1,193,609
Prepaid and other assets 1,441,319 1,441,319
Deferred offering costs 253,281 253,281
Furniture and equipment, net of accumulated depreciation of $293,332 964,710 964,710
Goodwill, net of accumulated amortization of $36,207 3,941,219 3,941,219
----------- -----------
Total assets $45,746,577 $55,062,644
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Line-of-credit (Note 4) $ 7,331,983 $ --
Accounts payable and accrued expenses 1,856,035 1,856,035
Security deposit 692,196 692,196
Due to trustee 350,525 350,525
Deferred income taxes payable (Note 7) 1,066,324 1,066,324
Limited recourse Class A note payable (Note 2) 14,770,561 14,770,561
Notes payable (Note 4) 3,964,513 2,464,513
Related party note payable (Note 9) 250,000 250,000
----------- -----------
30,282,137 21,450,154
----------- -----------
Commitments and contingency (Notes 3 and 5)
Stockholders' equity (Note 6)
Preferred stock, $.01 par value, 2,000,000 shares authorized; none
issued or outstanding -- --
Common stock, $.001 par value; 20,000,000 shares authorized; 3,725,000
(6,140,000 pro forma) shares issued and outstanding 3,725 6,140
Additional paid-in capital 13,757,059 31,902,694
Retained earnings 1,703,656 1,703,656
----------- -----------
Total stockholders' equity (Note 6) 15,464,440 33,612,490
----------- -----------
Total liabilities and stockholders' equity $45,746,577 $55,062,644
=========== ===========
</TABLE>
See notes to consolidated financial statements.
F-3
<PAGE> 31
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year Ended
June 30,
-------------------------
1996 1997
----------- -----------
<S> <C> <C>
Revenues
Sales of leases (Notes 2 and 3) $20,638,040 $78,947,771
Income from direct financing leases 1,223,798 4,509,325
----------- -----------
Total revenues 21,861,838 83,457,096
----------- -----------
Costs
Cost of leases sold (Notes 2 and 3) 19,296,885 73,364,404
Provision for credit losses 95,107 665,165
Interest expense 550,776 2,041,830
Amortization -- 299,043
----------- -----------
Total costs 19,942,768 76,370,442
----------- -----------
Gross profit 1,919,070 7,086,654
Other expenses
Salaries and benefits 642,556 1,683,870
General and administrative 472,144 1,640,981
Depreciation and amortization 40,963 263,801
----------- -----------
Total other expenses 1,155,663 3,588,652
----------- -----------
Net income (1996) - Income before income taxes (1997) 763,407 3,498,002
Pro forma adjustment (1996) - provision for income
taxes (1997) (Note 7) 282,000 1,430,827
----------- -----------
Pro forma net income (1996) - Net income (1997) $ 481,407 $ 2,067,175
=========== ===========
Pro forma net income per share $ .24 $ .63
=========== ===========
Weighted average number of pro forma shares
outstanding (Notes 1 and 6) 2,000,000 3,264,973
=========== ===========
</TABLE>
See notes to consolidated financial statements.
F-4
<PAGE> 32
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN MEMBERS'/STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Total
Additional Members'/
Members' Common Stock Paid-in Retained Stockholders'
Equity Shares Amount Capital Earnings Equity
------------ ------------ --------- ------------ ---------- ------------
<S> <C> <C> <C> <C> <C> <C>
Balance June 30, 1995 $ 767,450 -- $ -- $ -- $ -- $ 767,450
Equity contribution, net of costs of $76,482 1,228,518 -- -- -- -- 1,228,518
Net income for the year 763,407 -- -- -- -- 763,407
------------ ------------ --------- ------------ ---------- ------------
Balance June 30, 1996 2,759,375 -- -- -- -- 2,759,375
Net income for the period July 1, 1996 to
October 25, 1996 363,519 -- -- -- -- 363,519
Distribution to members (111,000) -- -- -- -- (111,000)
Restructuring of Granite Financial, LLC into
Granite Financial, Inc. (3,011,894) 2,000,000 2,000 3,009,894 -- --
Issuance of common stock pursuant to initial
public offering (net of offering costs of
$2,188,608) -- 1,725,000 1,725 10,747,165 -- 10,748,890
Net income for the period October 26, 1996 to
June 30, 1997 -- -- -- -- 1,703,656 1,703,656
------------ ------------ --------- ------------ ---------- ------------
Balance June 30, 1997 $ -- 3,725,000 $ 3,725 $ 13,757,059 $1,703,656 $ 15,464,440
============ ============ ========= ============ ========== ============
</TABLE>
See notes to consolidated financial statements.
F-5
<PAGE> 33
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Year Ended
June 30,
----------------------------
1996 1997
------------ ------------
<S> <C> <C>
Cash flows from operating activities
Net income $ 763,407 $ 2,067,175
------------ ------------
Adjustments to reconcile net income to net cash used in operating
activities
Provision for losses 95,107 1,338,992
Loan fees amortized 54,984 822,073
Depreciation and amortization 40,963 263,801
Changes in operating assets and liabilities
Restricted cash -- (1,715,964)
Direct financing leases (8,453,921) 1,410,622
Securitization residual interest -- (10,138,341)
Other receivables -- (1,182,262)
Prepaids and other assets (20,224) (539,948)
Securitization loan fees -- (1,078,173)
Accounts payable and accrued expenses 553,537 777,879
Due to trustee -- 350,525
Current and deferred income taxes -- 1,045,327
Security deposits -- 692,196
------------ ------------
(7,729,554) (7,953,273)
------------ ------------
Net cash used in operating activities (6,966,147) (5,886,098)
------------ ------------
Cash flows from investing activities
Leases assigned to lender (24,793,127) --
Payments received on leases assigned to lender 2,217,300 7,064,968
Acquisition of companies, net of cash acquired -- (2,594,725)
Expenditures for organization costs (6,826) --
Expenditures for goodwill -- (750,425)
Purchase of furniture and equipment (382,742) (626,701)
------------ ------------
Net cash provided by (used in) investing activities (22,965,395) 3,093,117
------------ ------------
Cash flows from financing activities
Checks written in excess of bank balance 288,848 (288,848)
Proceeds from notes payable 4,298,418 1,002,875
Principal payments on notes payable (207,600) (4,528,866)
Net proceeds from line-of-credit 3,690,618 2,870,515
Proceeds from Class A note payable 21,688,993 --
Principal payments on Class A note payable (927,208) (5,991,224)
Expenditures for loan origination fees (505,326) (73,316)
Members' equity contribution net of related costs 1,228,518 --
Net proceeds of common stock issuance -- 10,846,655
Distribution to members -- (111,000)
Deferred offering costs paid (67,376) (253,281)
------------ ------------
Net cash provided by financing activities 29,487,885 3,473,510
------------ ------------
Net increase (decrease) in cash (443,657) 680,529
Cash and cash equivalents - beginning of period 443,657 --
------------ ------------
Cash and cash equivalents - end of period $ -- $ 680,529
============ ============
Supplemental disclosure of cash flow information:
Cash paid for interest $ 471,130 $ 1,970,304
============ ============
Cash paid for income taxes $ -- $ 385,500
============ ============
</TABLE>
Continued on the following page.
See notes to consolidated financial statements.
F-6
<PAGE> 34
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Continued from previous page.
Noncash investing and financing activities:
Deferred offering costs of $30,389 are included in accrued expenses at
June 30, 1996.
Concurrently with the consummation of the initial public offering and the
related restructuring from an LLC to a regular corporation, members' equity of
$3,011,894 was reclassified to common stock of $2,000 and additional paid-in
capital of $3,009,894. In addition, deferred offering costs of $97,765 were
reclassified to additional paid-in capital upon consummation of the initial
public offering.
For additional disclosures on acquisitions during the year, see Note 11.
See notes to consolidated financial statement.
F-7
<PAGE> 35
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Granite Financial, LLC. ("LLC") was organized in Colorado on February 21, 1995.
The LLC was principally engaged in the business of originating and selling
lease contracts. The lease contracts provide financing primarily for the
acquisition of computer, office products, medical equipment and other business
equipment. All equipment leased is acquired from unrelated parties.
In June 1996, Granite Financial, Inc. (the "Company") was incorporated.
Concurrently with the consummation of the public offering (Note 6), the Company
exchanged 2,000,000 shares of its common stock for all of the outstanding
membership interests of the LLC, as a result of which the Company was the sole
member of the LLC. Contemporaneously, the Company caused the LLC to be
liquidated and the assets of the LLC were distributed to the Company as the
sole member.
Principles of Consolidation
The Company's consolidated financial statements include the accounts of Granite
Financial, Inc. and its wholly-owned subsidiaries, GF Funding Corp. I ("GF
Funding I"), GF Funding Corp. II ("GF Funding II"), GF Funding Corp. III ("GF
Funding III") and Granite Financial Acquisition Corp. I ("Granite
Acquisitions"). All intercompany accounts and transactions have been eliminated
in consolidation. The assets of GF Funding I, GF Funding II, and GF Funding III
are not available to satisfy creditors of the Company.
Restricted Cash
The Company sold a pool of leases which required all lease payments received to
be deposited in restricted accounts and the distribution of funds to be
controlled by the trustee.
The Company also sold pools of leases which required a portion of the proceeds
from the sales to be held in a separate restricted account to cover any
defaults of the leases sold.
Direct Financing Leases
The Company has entered into various lease agreements which, in accordance with
Statement No. 13 of the Financial Accounting Standards Board, meet the criteria
of capitalization and are accounted for as direct financing leases. Under this
method, the amount by which gross lease rentals exceed the cost of the related
assets, less the estimated recoverable residual value at the expiration of the
lease, is recognized as income from direct financing leases over the life of
the lease using the interest method. Any permanent reduction in the estimated
residual equipment value of leased property is charged to operations in the
period it occurs.
F-8
<PAGE> 36
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(CONTINUED)
Sales of Leases
The Company generally sells the leases it acquires or originates through
securitization transactions or on a portfolio basis to Heartland Bank on a
non-recourse basis. The Company may also sell leases to other financial
institutions either on a recourse or nonrecourse basis. In a securitization
transaction, the Company sells and transfers a pool of leases to a
wholly-owned, bankruptcy remote, special purpose subsidiary. This subsidiary in
turn simultaneously sells and transfers its interest in the leases to a trust
which issues beneficial interests in the leases in the form of senior and
subordinated securities. The Company generally retains the right to receive any
excess cash flows of the trust (the Securitization Residual Interest).
Proceeds from the sale of leases sold through securitization transactions are
reflected as sales of leases. The cost basis of the leases is allocated between
the portion sold and the securitization residual interest in the cash flows
based on a relative fair value basis on the date of sale. The fair value of the
portion sold is based on the price at which the related securities are sold
through private placement transactions, while the fair value of the
securitization residual interest is based on the Company's estimate of its fair
value using a risk adjusted discounted cash flow approach.
On January 1, 1997, the Company adopted SFAS No. 125, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities" ("SFAS
125"). SFAS 125 provides consistent standards for distinguishing transfers of
financial assets that are sales from transfers that are secured borrowings.
Under SFAS 125, after a transfer of financial assets, an entity recognizes the
financial and servicing assets it controls and the liabilities it has incurred,
derecognizes financial assets when control has been surrendered, and
derecognizes liabilities when extinguished. SFAS 125 prohibits early
application and, accordingly, the Company adopted this standard for
transactions which occurred after December 31, 1996. Under SFAS 125, a transfer
of lease assets in which the transferor surrenders control of the lease assets
is accounted for as a sale and the transferred lease assets are removed from
the balance sheet with the resulting gain or loss on sale reflected in the
statement of operations.
Direct Financing Leases Assigned to Lender
As SFAS 125 prohibits early application, prior to January 1, 1997, direct
financing leases sold prior to that date as part of a securitization to a
special-purpose entity that issued debt securities were accounted for as
collateralized borrowings. The securitized leases, recorded as Direct Financing
Leases Assigned to Lender, and the related debt are reflected in the
consolidated balance sheet.
F-9
<PAGE> 37
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Securitization Residual Interest
Securitization residual interest represents the excess cash flow resulting from
the difference between lease payments received in the Trust, net of defaults,
and the payment of principal and interest to investors in lease backed notes or
certificates and servicing, backup servicing, trustee fees and other
securitization expenses. Income from the securitization residual interest is
recognized over the life of the securitized leases using the interest method.
Furniture and Equipment
Furniture and equipment are recorded at cost and are depreciated on a
straight-line basis over the estimated useful lives of the equipment ranging
from five to seven years.
Organization Costs
Organization costs are recorded at cost and will be amortized on a
straight-line basis over five years.
Goodwill
Goodwill is recorded as the difference between net assets acquired and the
related purchase price and will be amortized over an estimated life of twenty
years.
Loan Origination Fees
Fees incurred to originate loans are deferred and amortized to interest expense
on the interest method over the terms of the loans.
Lease Acquisition Costs and Broker Commissions
Lease acquisition costs consist of broker bonuses and commissions paid upon the
origination of the lease contracts. These costs are included in direct
financing leases held for sale and are amortized to expense over the life of
the related lease contracts on the interest method.
Income Taxes
Granite Financial, LLC was taxable as a partnership under federal and state
income tax laws. As such, it was not subject to income taxes as a separate
entity and its income or loss was required to be included in the income tax
returns of its members. Upon consummation of the public offering (Note 6),
Granite Financial, LLC was liquidated and the successor corporation, Granite
Financial, Inc., is taxed as a regular corporation. The statements of
operations reflect pro-forma information for the year ended June 30, 1996,
which present proforma income taxes as if computed at the statutory rate.
F-10
<PAGE> 38
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(CONTINUED)
Income Taxes (continued)
Upon liquidation of the LLC, the successor Company applied FAS 109, "Accounting
for Income Taxes". Under FAS 109, the Company recognizes deferred tax
liabilities and assets for the expected future tax consequences of events that
have been included in the financial statements or tax returns. Deferred tax
liabilities and assets are determined based on the difference between the
financial statement and tax basis of assets and liabilities using enacted tax
rates in effect. The measurement of deferred tax assets is reduced, if
necessary, by the amount of any tax benefits, that based on available evidence,
are not expected to be realized.
Allowance for Credit Losses
An allowance for credit losses is maintained at a level which is estimated by
the Company to be necessary and adequate to provide for expected losses in the
existing portfolio of leases the Company either owns or has sold on a recourse
basis. The leases are collateralized by the equipment under lease and lessees
generally are required to personally guarantee lease payments. The Company's
risk of loss is partially mitigated by recovering collateral and enforcing
guarantees. However, the resale value of leased equipment generally declines at
a rate greater than the principal of the lease, so full recovery on defaulted
leases is not usually possible.
Net Income Per Common Share
The computation of net income per common and common equivalent share is based
upon the Treasury Stock Method using the weighted average number of common
shares outstanding during the period plus (in periods in which they have a
dilutive effect) the effect of common shares contingently issuable, primarily
from stock options and warrants.
Stock Option Plan
Prior to January 1, 1996, the Company accounted for its stock option plan in
accordance with the provisions of Accounting Principal Board ("APB") Opinion
No. 25, accounting for stock issued to employees, and related interpretations.
As such, compensation expense would be recorded on the date of grant only if
the current market price of the underlying stock exceeded the exercise price.
On January 1, 1996, the Company adopted SFAS No. 123, Accounting for
Stock-Based Compensation, which permits entities to recognize as expense over
the vesting period the fair value of all stock-based awards on the date of
grant. Alternatively, SFAS No. 123 also allows entities to continue to apply
the provisions of APB Opinion No. 25 and provide pro forma net income and pro
forma earnings per share disclosures for employee stock option grants made in
1995 and future years as if the fair-value based methods defined in SFAS No.
123 had been applied. The Company has elected to continue to apply the
provisions of APB Opinion No. 25 and to provide the pro forma disclosure
provisions of SFAS No. 123.
F-11
<PAGE> 39
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(CONTINUED)
Accounting Standards Not Yet Adopted
In February, 1997, the Financial Accounting Standards Board issued Statement
No. 128 "Earnings per Share" which established new standards for computing and
presenting earnings per share (EPS). The statement simplifies the standards for
computing earnings per share previously found in APB No. 15 and makes them
comparable to international EPS standards. It replaces the presentation of
primary EPS with a presentation of basic EPS. It also requires dual
presentation of basic and diluted EPS on the face of the income statement for
all entities with complex capital structures and requires a reconciliation of
the numerator and denominator of the basic EPS computation to the numerator and
denominator of the diluted EPS computation. The standard is effective for
financial statements issued for periods ending after December 15, 1997,
including interim periods.
In June 1997, the Financial Accounting Standards Board issued Statement No. 130
"Reporting Comprehensive Income" which establishes standards for reporting and
display of comprehensive income and its components (revenues, expenses, gains,
and losses) in a full set of general purpose financial statements. This
Statement requires that all items that are required to be recognized under
accounting standards as components of comprehensive income be reported in a
financial statement that is displayed with the same prominence as other
financial statements. This Statement requires that an enterprise (a) classify
items of other comprehensive income by their nature in a financial statement
and (b) display the accumulated balance of other comprehensive income
separately from retained earnings and additional paid-in-capital in the equity
section of a statement of financial position. This Statement is effective for
fiscal years beginning after December 15, 1997.
In June 1997, the Financial Accounting Standards Board issued Statement No. 131
"Disclosures about Segments of an Enterprise and Related Information". This
statement establishes standards for the way that public business enterprises
report information about operating segments in annual financial statements and
requires that those enterprises report selected information about operating
segments in interim financial reports issued to shareholders. It also
establishes standards for related disclosures about products and services,
geographic areas, and major customers. This statement is effective for
financial statements for periods beginning after December 15, 1997.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
F-12
<PAGE> 40
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2 - DIRECT FINANCING LEASES
The Company's direct financing leases at June 30, 1997 consist of the
following:
<TABLE>
<CAPTION>
Direct
Financing
Direct Leases
Financing Assigned to
Leases Lender
------------ ------------
<S> <C> <C>
Minimum lease payments receivable $ 11,636,228 $ 18,005,874
Estimated residual values of leased property 2,562,926 790,929
Lease acquisition costs and broker commissions 1,186,523 337,810
Unearned income (3,239,737) (3,298,666)
Reserve for credit losses (2,003,096) (181,024)
Security deposits (236,098) (144,064)
------------ ------------
Net direct financing leases $ 9,906,746 $ 15,510,859
============ ============
</TABLE>
Scheduled collections of minimum lease payments receivable are as follows:
<TABLE>
<CAPTION>
Direct
Financing
Direct Leases
Financing Assigned to
Year Ending June 30, Leases Lender
-------------------- ------------ ------------
<S> <C> <C>
1998 $ 3,553,744 $ 7,596,984
1999 3,158,940 5,506,430
2000 2,586,619 3,656,563
2001 1,564,347 1,187,863
2002 772,578 58,034
------------ ------------
$ 11,636,228 $ 18,005,874
============ ============
</TABLE>
The Company is required to estimate the amount of leases expected to result in
default and to estimate the amount of loss that will be incurred under each
default. The Company currently provides allowances for these losses based on
the historical performance of the leases. These losses relate both to leases
that are held by the Company to maturity along with losses that could result on
leases sold to third parties. The actual losses incurred could differ
materially from the amounts that the Company has estimated in preparing the
historical financial statements.
F-13
<PAGE> 41
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2 - DIRECT FINANCING LEASES (CONTINUED)
Securitization residual interest consists of the following at June 30, 1997:
<TABLE>
<S> <C>
Future remaining cash flows $ 15,368,441
Estimated losses (1,173,386)
---------------
Future remaining cash flows, net of estimated losses 14,195,055
Unearned income (4,056,714)
---------------
Securitization residual interest $ 10,138,341
===============
</TABLE>
Asset Securitization
The Company funds leases with the intention of selling the leases to investors
or securitizing the leases through lease-backed securities. The Company has
completed three securitizations which provide for aggregate funding in the
amount of approximately $114,000,000. In each securitization, the Company
transfers leases to a wholly-owned, bankruptcy remote special purpose
subsidiary established for the limited purpose of purchasing the Company's
leases. The subsidiary then sells the leases to a grantor trust, which in turn
sells lease-backed notes or certificates to institutional investors. Proceeds
from the sale of lease-backed notes or certificates are used by the trust to
purchase leases from the subsidiary, which uses such proceeds to purchase the
leases from the Company. The securitization may also be completed by the
subsidiary without the use of a trust, in which case the subsidiary issues the
lease-backed security directly to the investor. The lease-backed securities are
promissory notes or equity certificates which are generally collateralized by
or represent an undivided interest in the leases, the leased equipment and
certain collateral accounts. Payments due under the lease-backed securities
issued in each of the Company's securitizations have been insured by a
financial guaranty policy which provides an unconditional guarantee of Class A
note payments in the case of defaults or prepayments on the lease assets.
In April 1996, the Company's wholly-owned subsidiary, GF Funding I, issued
$21,688,993 of 6.33% Class A Lease-Backed Term Note due November 20, 2001 (the
Note) in a private placement. The Note is collateralized by (i) payments to
be made under leases contributed by Granite Financial, LLC to GF Funding I,
(ii) all of GF Funding I's rights and interest in the leased equipment, (iii) a
cash collateral account (which generally does not increase the overall level of
credit enhancement, but rather accommodates changes that may occur from time to
time in the form of credit enhancement from excess implicit principal balance
of lease receivables to cash) and (iv) a financial guaranty insurance policy.
Under the terms of the insurance policy, the monthly payments of interest and
final payment of principal and maturity are unconditionally guaranteed. As this
securitization was completed through the issuance of a debt security prior to
the adoption of SFAS 125, the transaction is accounted for as a collateralized
borrowing. Accordingly, the underlying lease assets, recorded as direct
financing leases assigned to lender, and the related limited recourse note
payable are reflected in the accompanying consolidated balance sheets. The
underlying assets are comprised of the Company's net investment in the leases
of $15,510,859 as of June 30, 1997. The related limited recourse note payable
was $14,770,561 as of June 30, 1997.
F-14
<PAGE> 42
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2 - DIRECT FINANCING LEASES (CONTINUED)
Asset Securitization (continued)
In November 1996, GF Funding II was formed to establish the Company's second
securitization facility. The facility provides for the issuance of up to $65
million in aggregate principal amount of Class A Lease-Backed Certificates due
June 20, 2003 (the 1996 Certificates) in a private placement. For purposes of
computing interest, the 1996 Certificates are issued in two tranches,
consisting of the Floating Rate Tranche and the Fixed Rate Tranche. The
principal amount of the Floating Rate Tranche will generally convert to the
Fixed Rate Tranche on a quarterly basis. The Floating Rate Tranche bears
interest at an annual rate equal to the LIBOR Rate, as adjusted from time to
time, plus .50%. The Fixed Rate Tranche bears interest at an annual rate equal
to the Treasury Rate, as adjusted form time to time, plus .70%. The annual
interest rate on each tranche is subject to a maximum annual rate of 10%. The
1996 Certificates represent an undivided interest in a trust estate created by
GF Funding II comprised of (i) payments to be made under leases contributed to
GF Funding II, (ii) all of GF Funding II's right and interest in the leased
equipment, (iii) a cash collateral account and (iv) a financial guaranty
insurance policy. The initial funding under the securitization facility was
approximately $7,200,000. The Company is required to sell a minimum of
$1,500,000 in leases to the securitization facility per month. As this
securitization was completed through the issuance of equity certificates and
the Company and GF Funding II have surrendered control over the future cash
flows from these lease assets for the benefit of the holders of the
Certificates, the transfer of the lease assets is accounted for as a sale.
Accordingly, the portion of the underlying lease assets sold were removed from
the consolidated balance sheet and the resulting sales of leases and cost of
leases sold are reflected in the consolidated statement of operations. The
sales of leases represent the gross proceeds from the certificate holders and
the cost of leases sold represent the Company's net investment in the portion
of the lease assets sold. The Company has recorded sales of leases and a cost
of leases sold with respect to this securitization of $26,664,807 and
$24,298,140, respectively, during the year ended June 30, 1997. Included in the
consolidated balance sheet is the allocated portion of the Company's net
investment in the lease assets which represents the securitization residual
interest retained in the lease assets. The allocation between the cost of
leases sold and the securitization residual interest retained is based on their
relative fair values on the date of sale. The securitization residual interest
for this securitization was $5,200,368 at June 30, 1997.
F-15
<PAGE> 43
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2 - DIRECT FINANCING LEASES (CONTINUED)
Asset Securitization (continued)
In March 1997, GF Funding III was formed to establish the Company's third
securitization facility. The facility provides for the issuance of up to
$27,500,000 in the aggregate principal amount of 6.82% Class A Lease-Backed
Certificates due December 20, 2002 (the 1997 Certificates) in a private
placement. The 1997 Certificates represent an undivided interest in a trust
estate created by GF Funding III comprised of (i) payments to be made under
leases contributed to GF Funding III, (ii) all of GF Funding III's right and
interest in the leased equipment, (iii) a cash collateral account, a capitalized
interest account, a prefunding account and a collection account and (iv) a
financial guaranty insurance policy. The Company and GF Funding III have
surrendered control over all future cash flows of the underlying lease assets
and, under SFAS 125, the securitization is accounted for as a sale. The Company
has recorded sales of leases and cost of leases sold with respect to this
transfer of $28,080,295 and $26,427,723, respectively, during the year ended
June 30, 1997. Included in the consolidated balance sheet is the allocated
portion of the Company's net investment in the lease assets which represents the
securitization residual interest retained in the lease assets. The allocation
between the cost of leases sold and the securitization residual interest
retained is based on their relative fair values on the date of sale. The
securitization residual interest for this securitization was $4,937,973 at June
30, 1997.
The source of repayment for the Note and Certificates is the stream of payments
to be made on the equipment leases included in the corresponding pool of
transferred leases. The value of the securitization residual interest of the
collateral enhancement leases in the pool will be realized by the Company on a
monthly basis once all principal and interest due under the Note or
Certificates and associated expenses are paid. The collateral enhancement
leases are not a separate and distinct pool of individual leases, but rather
are part of the undifferentiated pool of leases.
NOTE 3 - SALE OF LEASES
The Company entered into agreements with certain financial institutions to sell,
on an ongoing basis, certain leases either on a recourse or non-recourse basis.
The purchase price of the leases is determined on a transaction by transaction
basis. Revenue is recognized on the date of sale based upon the present value of
the payments to be received under the lease. The Company retains servicing of
substantially all leases under the agreements. During the year ended June 30,
1996 and 1997, the Company sold leases of $19,296,885 and $73,364,404,
respectively. The related sales proceeds were $20,638,040 and $78,947,771 during
the year ended June 30, 1996 and 1997, respectively.
F-16
<PAGE> 44
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - SALE OF LEASES (CONTINUED)
Sales and cost of leases sold to Heartland Bank during the year ended June 30,
1996 and 1997 are $19,259,557 and $18,044,325 and $23,250,014 and $21,735,167,
respectively. Heartland Bank purchased an equity interest in the Company in
January 1996. The costs and related sales amounts are included in the
accompanying consolidated statements of operations. With respect to the leases
sold to Heartland Bank, there is recourse to the Company for the amount of the
equipment residual guarantees of approximately $827,000 and a reserve account
balance of approximately $477,000 (included in restricted cash) at June 30,
1997.
NOTE 4 - CREDIT FACILITIES
Lines-of-Credit
<TABLE>
<CAPTION>
June 30,
1997
-----------
<S> <C>
$36,000,000 line-of-credit to a consortium of lenders, due
February 1998. Interest at the lead lender's prime rate
plus 5/8 of one percent (9.125% at June 30, 1997) payable
monthly. The line is collateralized by a first security
interest in specific leases pledged and the underlying
equipment. The balance outstanding at June 30, 1997
consists of actual net borrowings of $1,696,948 plus
advance borrowings on the line-of-credit of $2,864,185. $ 4,561,133
$2,000,000 unsecured line-of-credit to a bank due January
1998. Interest is at the bank's reference rate plus .75%
(9.25% at June 30, 1997) payable monthly. 2,000,000
$800,000 line-of-credit to a bank, due May 1997. Interest
at the prime rate plus 1% (9.5% at June 30, 1997) payable
monthly. The line is collateralized by all tangible and
intangible property of a subsidiary. The balance was paid
in full in August 1997 using proceeds from the secondary
offering (Note 6). 770,850
-----------
$ 7,331,983
===========
</TABLE>
F-17
<PAGE> 45
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - CREDIT FACILITIES (CONTINUED)
<TABLE>
<CAPTION>
June 30,
Notes Payable 1997
------------
<S> <C>
Note payable to bank, payable in monthly installments of
$28,303, including interest of 9.80% through January 2000.
The note is collateralized by certain leases including a
security interest in the underlying equipment. The Company
has a total of a $3,000,000 line-of-credit with the bank to
be funded in increments of $500,000 or more. $ 772,373
Note payable to a limited partnership, monthly interest
only payments at 13%. All unpaid principal and interest due
at maturity in January 2000. The note is collateralized by
all equipment, inventory, lease receivables and intangibles
of a subsidiary. The note was paid in full in July 1997
using proceeds from the secondary offering (Note 6). 1,470,615
Note payable to a bank, payable in monthly installments of
$83,000, including interest at 8.72% through May 1999. The
note is collateralized by all tangible and intangible
property of a subsidiary. 1,721,525
------------
$ 3,964,513
============
</TABLE>
Maturities due on the notes payable as of June 30, 1997 are as follows:
<TABLE>
<CAPTION>
Year Ending June 30,
--------------------
<S> <C>
1998 $ 1,154,900
1999 1,147,193
2000 1,662,420
------------
$ 3,964,513
============
</TABLE>
Each of the Company's available credit facilities contain certain financial and
reporting covenants. As of June 30, 1997, the Company was not in violation of
any reporting covenants.
F-18
<PAGE> 46
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5 - COMMITMENTS
Leases
The company has entered into various operating lease agreements for office
space and equipment and has an annual commitment for a software license.
The minimum scheduled lease payments are as follows:
<TABLE>
<CAPTION>
Year Ending June 30,
--------------------
<S> <C>
1998 $ 183,471
1999 191,646
2000 186,704
2001 182,898
2002 170,425
Thereafter 12,361
------------
$ 927,505
============
</TABLE>
Rental expense included in general and administrative costs was $60,717 and
$90,774 for the year ended June 30, 1996 and 1997, respectively.
Employment Contract
The Company has entered into various employment agreements with officers of the
Company. These agreements require a specified salary to be paid to the officer,
and in some cases include incentive compensation arrangements. The agreements
contain non-compete provisions. The terms of the agreements range from two to
three years and normally contain extension provisions.
Other
The Company approved contingent fundings of approximately $34.2 million in
leases at June 30, 1997.
F-19
<PAGE> 47
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6 - STOCKHOLDERS' EQUITY
Initial Public Offering
In October 1996, the Company completed a public offering of 1,725,000 shares of
common stock at $7.50 per share. The proceeds of the offering were
approximately $10,747,000, net of offering costs of $2,189,000. Additionally,
the Company issued warrants to the underwriter to purchase 150,000 shares at
$10.50.
Secondary Public Offering - Subsequent Event
In July 1997, the Company completed a second public offering of 2,100,000
shares of common stock at $8.25 per share. Additionally, the Company granted to
the Underwriters a 30-day option to purchase up to an additional 315,000 shares
of common stock to cover over-allotments. The option was exercised by the
Underwriters within the 30-day option period. The proceeds of the offering were
approximately $18,148,000, net of offering costs of $1,776,000. The Company
also issued warrants to the Underwriters to purchase 150,000 shares of common
stock exercisable at $10.31 per share.
Stock Option Plans
In June 1996, the Company adopted a Stock Option Plan (the Plan) allowing for
the issuance of qualified and non-qualified stock options to purchase an
aggregate of 450,000 shares of common stock to directors, officers, employees,
agents and consultants of the Company. The Plan is administered by the Board of
Directors. The Plan provides that qualified stock options be granted at an
exercise price equal to fair market value of the common shares of the Company
on the date of the grant, and must be at least 110% of fair market value when
granted to a 10% or more shareholder. The term of all qualified stock options
granted under the Plan may not exceed ten years, except the term of qualified
stock options granted to a 10% or more shareholder which may not exceed five
years.
The Plan provides that non-qualified stock options be granted at an exercise
price not less than 85% of the fair market value of the common shares of the
Company on the date of grant. The term of all non-qualified stock options
granted under the Plan may not exceed ten years, except the term of
non-qualified stock options granted to a 10% or more shareholder which may not
exceed five years.
F-20
<PAGE> 48
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6 - STOCKHOLDERS' EQUITY (CONTINUED)
Stock Option Plans (continued)
In April 1997, the Plan was amended and restated in order to make certain
technical modifications thereto and was further amended in June 1997 to
increase the shares of common stock reserved for issuance to 900,000 of which
492,500 shares are available to be granted.
In connection with the initial public offering, the Company issued, to an
underwriter, warrants to purchase up to 150,000 shares of common stock
commencing one year from the date of the initial public offering (October 25,
1997) until October 25, 2001 at an exercise price of $7.50 per share. No
warrants were exercised at June 30, 1997.
The following is a summary of options and warrants:
<TABLE>
<CAPTION>
Exercise Weighted
Options Warrants Price Average
---------- ----------- --------------- -----------
<S> <C> <C> <C> <C>
Outstanding, June 30, 1996 250,000 -- $ 5.95 to 6.55 $ 6.35
Granted
Price equals fair value 120,000 150,000 $ 8.38 to 10.45 9.02
Price greater than fair value 50,000 -- $ 10.45 10.45
Canceled (12,500) -- $ 5.95 to 9.50 8.79
---------- ----------- --------------- -----------
Outstanding, June 30, 1997 407,500 150,000 $ 5.95 to 10.45 $ 7.56
========== =========== =============== ===========
</TABLE>
The total options exercisable at June 30, 1996 and 1997 was 185,000 and
302,500, respectively, which had a weighted average exercise price of $6.49 and
$7.64, respectively.
The Company has adopted the disclosure-only provisions of Statement of
Financing Accounting Standards No. 123, "Accounting for Stock-Based
Compensation." Accordingly, no compensation cost has been recognized for the
stock option plan. Had compensation cost for the Company's stock option plan
been determined based on the fair value at the grant date consistent with the
provisions of SFAS No. 123, the Company's net earnings and earnings per share
would have been reduced to the pro forma amounts indicated below:
<TABLE>
<CAPTION>
Year Ended
June 30,
1996 1997
------------- -------------
<S> <C> <C>
Net income applicable to common stockholders - as reported $ 481,407 $ 2,067,175
============= =============
Net income (loss) applicable to common stockholders - pro forma (366,234) 1,618,128
============= =============
Earnings per share - as reported .24 .63
============= =============
Earnings (loss) per share - pro forma $ (.18) .50
============= =============
</TABLE>
F-21
<PAGE> 49
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6 - STOCKHOLDERS' EQUITY (CONTINUED)
Stock Option Plans (continued)
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants: dividend yield of 0%; expected volatility of
37.8%; discount rate of 9.0%; and expected lives up to 10 years.
NOTE 7 - INCOME TAXES
The Company's status as an LLC was terminated upon the completion of the
initial public offering. At that time, any deferred tax assets and liabilities
were recorded, and a charge to earnings of approximately $100,000 was included
in continuing operations during the period of the change in tax status. The
Company distributed $111,000 to certain members of the LLC to provide the
members with sufficient funds to pay tax liabilities arising as a result of
income received prior to the date of the public offering.
The components of the provision for income taxes are as follows:
<TABLE>
<CAPTION>
June 30,
1997
-----------
<S> <C>
Current tax provision
Federal $ 285,000
State 45,000
Deferred tax provision
Federal 994,310
State 106,517
-----------
$ 1,430,827
===========
</TABLE>
Deferred taxes result from sales treatment of securitized leases for financial
reporting purposes and debt treatment for tax purposes, reserve for bad debts
and depreciation for tax purposes in excess of depreciation for financial
reporting purposes. The income tax effects of items comprising deferred income
tax assets and liabilities are as follows:
<TABLE>
<CAPTION>
June 30,
1997
-----------
<S> <C>
Net operating loss $ (736,158)
Lease accounting 1,501,927
Bad debts 75,140
Depreciation and other 225,415
-----------
$ 1,066,324
===========
</TABLE>
The Company had a net deferred tax liability of $0 and $1,066,324 as of June
30, 1996 and 1997, respectively.
F-22
<PAGE> 50
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - INCOME TAXES (CONTINUED)
The difference between the Company's effective income tax rate and the United
States Statutory rate is as follows:
<TABLE>
<CAPTION>
June 30,
1997
--------
<S> <C>
United States statutory rate 34.0%
State income tax, net of federal income tax benefit 3.3
Change in tax status 2.9
Other .7
--------
40.9%
========
</TABLE>
NOTE 8 - FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair value of the line-of-credit and bank notes payable at June 30, 1997
approximated the carrying value because of the short-term nature of these
instruments. The fair value of the Class A lease-backed term note is
determined based upon current market rates.
<TABLE>
<CAPTION>
June 30, 1997
------------------------------
Carrying Fair
Amount Value
------------ ------------
<S> <C> <C>
Cash and cash equivalents $ 680,529 $ 680,529
Line-of-credit (7,331,983) (7,331,983)
Notes payable (3,964,513) (3,964,513)
Limited recourse Class A note payable (14,770,561) (15,150,991)
</TABLE>
The preceding methods and assumptions were used to estimate the fair value to
each class of financial instruments for which it is practicable to estimate
that value. Fair value estimates are made at a specific point in time for the
Company's financial instruments; they are subjective in nature and involve
uncertainties, matters of significant judgment and, therefore, cannot be
determined with precision. Fair value estimates do not reflect the total value
of the Company as a going concern.
F-23
<PAGE> 51
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9 - RELATED PARTY TRANSACTIONS
An officer and director of the Company devoted approximately 50% of his time to
the operations of Granite Financial, LLC, but did not receive any compensation
from the Company. The officer's salary has been paid in full since February
1995 by a related company. The Company has agreed to reimburse the related
company $76,000 paid to the officer through June 30, 1996 on the Company's
behalf.
In September 1996, the members of Granite Financial, LLC advanced an aggregate
of $300,000 to Granite Financial LLC. The promissory notes were unsecured,
accrued interest at the rate of 11% per annum and were repaid out of the
proceeds of the initial public offering.
In June 1997, the Company acquired certain assets and liabilities of SFR
Funding, Inc. for an aggregate purchase price of $550,000 of which $300,000 was
paid for in cash and the remaining $250,000 is recorded as a note payable to
SFR Funding, Inc. The note is payable with interest at 9% per annum, in ten
quarterly installments beginning October 1, 1997 until paid in full. Required
principal payments are $75,000 in 1998, $100,000 in 1999 and $75,000 in 2000.
NOTE 10 - MAJOR SUPPLIER
The Company's leases are originated through a network of approximately 65
independent lease originators located throughout the United States.
Transactions generated by a single independent lease originator accounted for
approximately 17.9% and 13.9% of the Company's leases funded during the year
ended June 30, 1996 and 1997, respectively. Transactions generated by the
Company's ten largest independent lease originators accounted for approximately
58.3% and 60.8% of leases funded during the year ended June 30, 1996 and 1997.
NOTE 11 - ACQUISITIONS
On March 31, 1997, the Company acquired the assets and recorded liabilities of
Global Finance & Leasing, Inc. (Global), a micro ticket equipment leasing
company, for an aggregate cash purchase price of $2,334,000. The acquisition
has been accounted for using the purchase method of accounting. Under the
purchase method of accounting, the results of Global will be included in the
Company's results from the acquisition date (March 31, 1997). The allocation of
the purchase price to the fair market value of the net assets is based on
preliminary estimates of fair market value and may be revised as additional
information is obtained.
The acquisition agreement provides for additional contingent consideration of
$916,000 based on the collection of certain receivables. The Company believes
the collection of the certain receivables is remote; therefore, no liability is
recorded at this time.
F-24
<PAGE> 52
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11 - ACQUISITIONS (CONTINUED)
The following table reflects, on an unaudited pro forma basis, the combined
operations of the Company and Global for the periods shown as if the
acquisitions had taken place at the beginning of periods shown. Appropriate
adjustments have been made to reflect the cost basis used in recording these
acquisitions. These pro forma results have been prepared for comparative
purposes only and do not purport to be indicative of the results of operations
that would have resulted had the combinations been in effect on the dates
referred to above, that have resulted since the dates of the acquisitions or
that may result in the future (in thousands, except per share amounts):
<TABLE>
<CAPTION>
Year Ended
June 30,
-------------------
1996 1997
-------- --------
<S> <C> <C>
Revenues 24,427 85,468
Net income allocated to common stockholders 734 3,203
Income per common and common equivalent share .37 .98
</TABLE>
On June 20, 1997, the Company acquired certain assets and liabilities of SFR
Funding, Inc. a small ticket equipment leasing company, for cash of $300,000
and a note payable of $250,000. The acquisition has been accounted for under
the purchase method of accounting. From the date of acquisition through June 30,
1997, the results of operations were not significant to the operations of
Granite Financial, Inc.
NOTE 12 - SUBSEQUENT EVENT
In addition to a subsequent event disclosed in Note 6, in July 1997, the Company
received a $250,000 term loan with a bank, with an interest rate at the bank's
reference rate plus 0.75%. This note was repaid in August 1997 with the
proceeds from the secondary offering.
NOTE 13 - PRO FORMA BALANCE SHEET
The Company completed its secondary offering subsequent to year end which
provided net proceeds of $18,523,050 which are net of underwriting fees of
$1,400,750. The accompanying consolidated pro forma balance sheet as of June 30,
1997 was prepared assuming the secondary offering had been completed in June
1997.
F-25
<PAGE> 53
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - PRO FORMA BALANCE SHEET (CONTINUED)
The summarized effect of the pro forma adjustments are as follows:
<TABLE>
<CAPTION>
Pro Forma
June 30, Pro Forma June 30,
1997 Adjustments 1997
------------ ------------ ------------
<S> <C> <C> <C>
Assets $ 45,746,577 $ 9,316,067 $ 55,062,644
Liabilities $ 30,282,137 $ (8,831,983) $ 21,450,154
Equity $ 15,464,440 $ 18,148,050 $ 33,612,490
</TABLE>
F-26
<PAGE> 54
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
<S> <C>
+ 2.1 Exchange Memorandum, dated October 7, 1996 regarding the
reorganization of the Registrant from a Colorado limited liability
company to a Delaware corporation (the "Exchange Memorandum").
+ 3.1 Certificate of Incorporation of the Company as filed on June 20,
1996 with the Secretary of State of the State of Delaware.
+ 3.2 By-laws of the Company.
+ 4.1.1 Form of specimen certificate for Common Stock of the Company.
+ 4.1.2 Form of Representative's Warrant issued by the Company to
Cruttenden Roth Incorporated in connection with the Company's
initial public offering.
* 4.1.3 Underwriters' Warrant issued by the Company to Piper Jaffray Inc.
and Cruttenden Roth Incorporated.
* 10.1.1 Form of Employment Agreement, dated April 1, 1997, by and between
William W. Wehner and the Company.
* 10.1.2 Employment Agreement, dated April 28, 1997, by and between Larry K.
White and the Company.
+ 10.2 Form of Indemnification Agreement entered into between the Company
and each officer and director of the Company.
</TABLE>
<PAGE> 55
<TABLE>
<S> <C>
+ 10.3 1996 Omnibus Stock Option Plan, as amended effective April 24,
1997, authorizing 900,000 shares of Common Stock for issuance
pursuant to the Plan.
+ 10.4.1 Membership Units Purchase Agreement, dated January 31, 1996, by and
among Heartland Leasing Corporation of Missouri, Granite Financial,
LLC, James E. Lewis, William W. Wehner, Andrew S. Love, Jr.,
Laurence A. Schiffer and Heartland Bank.
+ 10.4.2 Members' Agreement of Granite Financial, LLC, dated January 31,
1996, by and among Granite Financial, LLC, James E. Lewis, William
W. Wehner and Heartland Leasing Corporation of Missouri.
+ 10.4.3 Lease Purchase Agreement, dated June 14, 1995, by and between
Granite Financial, LLC and Heartland Bank.
+ 10.4.4 Lease Sale Agreement, dated April 1, 1996, by and between Heartland
Bank and Granite Financial, LLC.
+ 10.4.5 Lease Service Agreement, dated June 14, 1995, by and between
Heartland Bank and Granite Financial, LLC.
x 10.4.6 Lease Purchase Agreement, dated June 30, 1997, by and between
Heartland Bank and Granite Financial Acquisition Corp. I.
o 10.5.1 Loan and Security Agreement, dated February 4, 1997, by and between
CoreStates Bank, N.A. and Granite Financial, Inc.
o 10.5.2 Unsecured Revolving Credit Agreement, dated January 30, 1997, by and
between Colorado National Bank, and Granite Financial, Inc.
+ 10.6 Lease of Space, dated June 26, 1995, by and between Arbor Lake
Limited Partnership, a Colorado limited partnership, and Granite
Financial, LLC.
+ 10.7 Form of Broker/Lessor Partnership Agreement, dated various dates,
by and between Lease Originators and Granite Financial, LLC.
+ 10.8.1 Servicing Agreement, dated April 1, 1996, by and among GF Funding
Corp. I, Norwest Bank Minnesota, National Association and Granite
Financial, LLC.
+ 10.8.2 Indenture, dated April 1, 1996, by and among GF Funding Corp. I,
Norwest Bank Minnesota, National Association and Granite Financial,
LLC.
+ 10.8.3 Lease Acquisition Agreement, dated April 10, 1996, by and between
Granite Financial, LLC and GF Funding Corp. I.
++10.9.1 Trust and Security Agreement, dated November 1, 1996, among G.F.
Funding Corp. II, the Company, Norwest Bank Minnesota, National
Association.
++10.9.2 Lease Acquisition Agreement, dated November 1, 1996, between the
Company and G.F. Funding Corp. II.
++10.9.3 Servicing Agreement, dated November 1, 1996, among G.F. Funding
Corp. II, the Company, Norwest Bank Minnesota, National
Association.
o 10.10.1 Trust and Security Agreement, dated March 1, 1997, by and among GF
Funding Corp. III, the Company and Norwest Bank Minnesota, National
Association.
o 10.10.2 Lease Acquisition Agreement, dated March 1, 1997, by and between the
Company and GF Funding Corp. III.
o 10.10.3 Servicing Agreement, dated March 1, 1997, by and among the Company,
GF Funding Corp. III and Norwest Bank Minnesota, National
Association.
</TABLE>
<PAGE> 56
<TABLE>
<S> <C>
+ 10.11.1 CreditDesk(R) License Agreement, dated September 22, 1995, by and
between Fair, Isaac and Company, Inc. and Granite Financial, LLC.
+ 10.11.2 InfoLease License Agreement, dated October 5, 1995, by and between
Decision Systems, Inc. and Granite Financial, LLC.
o 10.12 Asset Purchase Agreement, dated March 31, 1997, by and among
Granite Financial Acquisition Corp. I, Global Finance & Leasing,
Inc. and Thomas Mannes.
* 10.13 Agreement, dated December 13, 1996, by and between BrokerWare,
Inc. and the Company.
* 10.14 Standard Form Industrial Lease, dated June 6, 1997, by and between
General American Life Insurance Company and the Company.
x 11.1 Computation of Earnings Per Share.
13. Not applicable.
16. Not applicable.
18. Not applicable.
* 21. List of Subsidiaries.
22. Not applicable.
23. Not applicable.
24. Not applicable.
x 27. Financial Data Schedule.
</TABLE>
+ Incorporated by reference from the Company's Registration Statement on
Form SB-2 (S.E.C. File No. 333-5264-D).
* Incorporated by reference from the Company's Registration Statement on
Form SB-2 (S.E.C. File No. 333-29303).
++ Incorporated by reference from the Company's Form 10-QSB filed February
14, 1997 (S.E.C. File No. 0-21591).
o Incorporated by reference from the Company's Form 10-QSB filed May 15,
1997 (S.E.C. File No. 0-21591).
x Filed herewith.
<PAGE> 1
(a) Exhibits
10.4.6 Lease Purchase Agreement, dated June 30, 1997, by and between
Heartland Bank and Granite Financial Acquisition Corp. I.
EXHIBIT 10.4.6
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
LEASE PURCHASE AGREEMENT
This Lease Purchase Agreement (the "Agreement") is entered into as of
this 30th day of June, 1997, by and between Granite Financial Acquisition Corp.
I, a Delaware corporation ("Seller"), and Heartland Bank, a federal savings
bank ("Purchaser").
RECITALS
A. Seller is a wholly owned subsidiary of Granite Financial, Inc., a
Delaware corporation.
B. Effective as of March 31, 1997, Seller acquired all of the assets
and business of Global Finance & Leasing, Inc., a Michigan corporation
("Global"), including equipment lease agreements entered into by Global, as
lessor, with various third party lessees.
C. Subsequent to the acquisition of Global's assets and business,
Seller has continued to originate and fund equipment lease agreements of the
type previously originated by Global.
D. Purchaser is a federal savings bank which in the ordinary course
of business may purchase equipment lease agreements of the type originated by
Global and/or Seller.
E. From time to time, Seller desires to sell and Purchaser desires to
purchase equipment lease agreements originated by Global and/or Seller.
D. Seller and Purchaser desire to enter into this Agreement to
provide the terms and conditions which will govern the sale of such equipment
lease agreements from Seller to Purchaser.
NOW, THEREFORE, in consideration of the foregoing recitals and the
mutual promises and agreements contained herein, the parties hereby agree as
follows:
1. Definitions.
In addition to other defined terms set forth in this Agreement, the
following terms shall have the meaning indicated.
"Assignment" shall mean the document by which the sale of Paper (as
hereinafter defined) is effectuated and evidenced and shall be in the form
attached hereto as Exhibit "A."
Page 1 of 13
<PAGE> 2
"Closing Date" for the sale of each respective package of Paper (as
hereinafter defined) shall mean the latter of (1) the date of delivery to and
acceptance by, Purchaser of the Assignment related to such Paper, and (2) the
date of receipt of payment by Seller of the purchase price for such Paper.
"Equipment" shall mean machines, equipment and other personal
property subject to the Paper (as hereinafter defined).
"Obligor" shall mean the party obligated to make payments pursuant to
the terms and conditions of the Paper (as hereinafter defined).
"Paper" shall mean the equipment lease agreements originated by
Global or Seller and owned by Seller.
"Transaction" shall mean any transaction evidenced by the Paper
submitted to Purchaser by Seller to be purchased by and assigned to Purchaser.
2. Offering of Paper.
A. Seller may offer, from time to time, to sell Paper to Purchaser
and Purchaser may, in its sole discretion, purchase such Paper as may be
acceptable to it. Unless and until execution of an Assignment for particular
Paper, Seller shall be under no obligation to offer Paper for sale to Purchaser
and Purchaser shall be under no obligation to purchase the offered Paper.
B. All Paper shall be evidenced by lease or financing forms
acceptable to Purchaser in its reasonable discretion or such other forms,
including revisions thereof, as may be specifically approved by Purchaser.
3. Conveyance of Paper and Seller's Collateral Interest; Purchase Price.
A. Subject to the terms and conditions hereof and upon Purchaser's
payment of the purchase price to Seller, Seller hereby sells, assigns,
transfers, and conveys to Purchaser, and its successors and assigns, and
Purchaser hereby accepts and assumes good, marketable and lien-free title in
and to the Paper offered and sold to Purchaser hereunder with respect to the
following rights and benefits thereunder: (i) all payments and other
obligations to be made or performed by the Obligor under the Paper from the
effective date such Paper is assigned to Purchaser hereunder through the stated
expiration of the term of such Paper, but excluding payments to be made by the
Obligor to purchase the Equipment at the expiration of the term as set forth
under (y) below (referred to herein as the "Stated Term Obligations") and (ii)
any and all guarantees issued and additional collateral assigned in connection
therewith. Seller is retaining for its own account and is not selling,
assigning, transferring or conveying to Purchaser the following rights and
benefits under such Paper (x) advance or down payments not included in the sale
(as specified in the related Assignment), (y) payments to be made by the
Obligor to purchase the Equipment subject to the Paper upon expiration of the
stated term of the Paper, whether mandatory or at the option of the Obligor and
(z) payments to be made by the Obligor under the Paper after the complete
performance and payment of all obligations and amounts due under the Paper
during its stated term, including, without limitation, payments made upon any
extension,
Page 2 of 13
<PAGE> 3
renewal or holding over by the Obligor beyond the stated term of
such Paper.
B. As security for the performance of the obligations of each
respective Obligor(s) under the related Paper and of the Seller's and
Purchaser's obligations hereunder and thereunder, Seller hereby grants to
Purchaser a continuing, valid, perfected and enforceable first priority
security interest and lien in and to the Paper, the Reserve Account, all
amounts held in the Reserve Account, the Equipment and proceeds thereof
including, without limitation, insurance proceeds.
C. Concurrent with the execution of this Agreement, Seller and
Purchaser are also entering into a Lease Service Agreement (the "Lease Service
Agreement"). Pursuant to the Lease Service Agreement, Seller will service and
collect, on behalf of Purchaser, all Paper sold by Seller to Purchaser
hereunder.
D. Purchaser shall pay a total purchase price (the "Purchase Price")
to Seller for each Paper sold to Purchaser hereunder equal to the present value
of the remaining payments due from the Obligors during the stated term of such
Paper that is being purchased by Purchaser hereunder, discounted at 12% per
annum. The calculation and exact amount of the Purchase Price for each
transaction hereunder shall be agreed upon by Purchaser and Seller and shall be
set forth in the Assignment related thereto. Any and all advance or down
payments assigned to Purchaser shall be paid to Purchaser or credited against
its purchase obligation at the time of assignment or sale of the Paper to
Purchaser. The Purchase Price shall be paid to Seller as follows: (i) upon
closing of each sale of Paper, an amount equal to 85% of the Purchase Price for
such sale paid directly to Seller; and (ii) the remaining 15% of such Purchase
Price shall be paid into a reserve account to be established and maintained as
provided under Section 5 hereof.
E. All Paper shall, as of the respective dates of its purchase by or
assignment to Purchaser, be duly endorsed in favor of Purchaser and all title
retention or lien instruments including but not limited to UCC financing
statements and assignments, leases, or guarantees thereof shall be duly and
validly assigned to Purchaser. Seller hereby appoints Purchaser as its attorney
in fact with a durable power coupled with an interest to execute all such
endorsements or assignments on behalf of Seller in the event that Seller fails
to do so. This power of attorney is intended to be a durable power coupled with
an interest which shall terminate only following expiration or termination of
this Agreement plus any further period during which the relevant Paper is
continuing in effect.
4. Notification to Obligor(s). Since Seller will service all Paper
purchased by Purchaser hereunder, Seller and Purchaser agree that the
Obligor(s) shall not be notified of the sale of the Paper to Purchaser, except
as hereafter provided.
A. Upon request by Purchaser, Seller shall, within 30 days following
receipt of such request, supply Purchaser with undated notices to the Obligors
notifying such Obligors of Seller's assignment of such Paper to Purchaser (the
"Assignment Notice").
B. Purchaser agrees not to forward any Assignment Notice (and,
thereby, notify such Obligor of the assignment to Purchaser) to any Obligor(s)
except in the situation where Seller is in default under Paragraph 5(C) or
fails to perform any of its other covenants and obligations
Page 3 of 13
<PAGE> 4
under this Agreement or the Lease Service Agreement and Seller fails to cure
such failure within thirty (30) days after written notice describing such
failure is given by Purchaser to Seller.
5. Limited Recourse; First Payment Default; Reserve Account.
A. Purchaser acknowledges that Seller makes no representations or
warranty with respect to the financial ability of any Obligor to make payments
required under the respective Paper and shall not be liable to Purchaser for
any failure of an Obligor to make such payments except (i) as a result of a
breach of any representation, warranty or covenant made by Seller hereunder, or
(ii) as expressly provided in this Section 5.
B. Notwithstanding anything to the contrary contained herein, in the
event that the first payment due under Paper assigned by Seller to Purchaser
becomes 30 days or more past due, Purchaser may tender the related Paper to
Seller for repurchase by Seller (a "Reassignment"). Such Reassignment shall
effect a reassignment to Seller, without warranty (and conditioned on payment
by Seller (as provided below), of the Reassignment Price). Within five (5)
business days of receipt of such Reassignment, Seller shall repurchase the
applicable Paper for an amount equal to the total Purchase Price for such
Paper, less any payments paid to and collected by Purchaser with respect to
such Paper (the "Reassignment Price"). Such Reassignment Price shall be paid as
follows: (i) by Purchaser transferring from the Reserve Account to its own
account an amount equal to the amount originally deposited into the Reserve
Account for such Paper, and (ii) by Seller paying to Purchaser such remaining
amount of the Reassignment Price, after deducting the amount transferred under
(i) above. Upon receipt by Purchaser of such Reassignment Price, Seller shall
assume all rights and obligations under the Paper. Purchaser shall forthwith
return to Seller all Paper with respect to the reassigned transactions. If the
Reassignment Price is not received by Purchaser within five (5) business days
of receipt of such Reassignment, Seller acknowledges and agrees that Purchaser
may deduct the entire Reassignment Price from the Reserve Account or any
proceeds of sale of any subsequent Closing Date.
C. As provided under Section 3 D, an amount equal to 15% of the total
Purchase Price for Paper sold hereunder shall be deposited by Purchaser into an
interest bearing money market deposit account of Seller to be established and
opened at Heartland Bank (the "Reserve Account"). Such Reserve Account shall be
restricted and Purchaser shall be the only party entitled to make withdrawals
or transfers of amounts held therein. Seller shall keep the Reserve Account and
all amounts deposited therein free and clear of all liens and encumbrances,
except in favor of Purchaser. If any payment due from an Obligor under Paper
purchased hereunder becomes 90 days or more past due (the "Defaulted Paper"),
Purchaser shall have the right to withdrawal an amount from the Reserve Account
equal to the sum of (i) the past due payments plus 12% per annum on such past
due payments for the period of time past due and (ii) the present value of the
remaining payments due under such Paper during its stated term, discounted at
12% per annum (the "Defaulted Price"). Purchaser shall promptly notify Seller
of any withdrawals made from the Reserve Account for Defaulted Paper, which
notice shall include identification of the Defaulted Paper and supporting
calculations for the Defaulted Price. Upon withdrawal of an amount equal to the
Defaulted Price from the Reserve Account, Purchaser shall assign, transfer and
convey to Seller all of Purchaser's remaining right, title and interest in and
to
Page 4 of 13
<PAGE> 5
such Defaulted Paper. If the Reserve Account or any amounts deposited therein
become subject to any lien, attachment, garnishment or levy or if such amounts
are seized to satisfy a judgement, Seller shall be in immediate default
hereunder. All amounts remaining in the Reserve Account following the
expiration of the stated term of all Paper purchased hereunder and performance
of all Stated Term Obligations of the Obligors thereunder, shall be transferred
by Purchaser to Seller.
6. Representations and Warranties of Seller.
A. Seller represents and warrants that as of each respective Closing
Date of the Paper to Purchaser:
(1) Seller is a corporation duly organized, validly existing and
in good standing under the laws of Delaware;
(2) There are no pending or threatened actions or proceedings
before any court or administrative agency that could have a
material adverse effect on Seller or its ability to transfer a
first priority security interest in and to the Paper and the
Equipment;
(3) The execution, delivery and performance of this Agreement and
all other instruments and documents to be delivered by Seller
hereunder, as such instruments pertain to each respective sale
of Paper hereunder, have been duly authorized by all necessary
corporate action and do not contravene any provision of law or
any agreement or indenture by which Seller is bound or by
which its properties may be affected, or its articles of
organization or operating agreement;
(4) All Seller furnished documentation in connection with each
respective sale of Paper hereunder, shall be in conformity
with all applicable laws and regulations, including but not
limited to applicable laws related to usury;
(5) Seller has made no misrepresentations to any Obligor with
respect to such Paper or the Equipment subject thereto;
(6) Seller has fully informed Purchaser of all material
information known to Seller concerning such Paper, the Obligor
and the Equipment subject thereto;
(7) This Agreement constitutes Seller's legal, valid and binding
obligation enforceable against Seller in accordance with its
terms.
B. Seller makes the following representations, warranties and
covenants as of each respective Closing Date with respect to each Transaction
and the related Paper subject thereto:
(1) All such Paper (i) is and shall be genuine and enforceable,
subject to
Page 5 of 13
<PAGE> 6
bankruptcy, insolvency, and similar laws affecting creditors'
rights in general and to the availability of equitable
remedies, (ii) has been validly executed by the Obligor named
therein, any guarantors thereof and by the Seller, and (iii)
is the only instrument(s) concerning the Transaction, the
Paper, the lease or financing of the Equipment and payments or
performance by the Obligor with respect thereto which have
been executed by the Obligor and the Seller;
(2) The terms of the Paper are true and correct as to the terms
recited therein and accurately reflect the terms and
conditions of the Transaction between Seller and the
Obligor(s);
(3) The information set forth on the Schedule A to the Assignment
with respect to each Transaction is correct and complete in
all respects;
(4) The Paper is and shall continue to be free from all set-offs,
defenses, counterclaims, and abatements;
(5) The lease or financing of the Equipment by Seller and the sale
of the Paper by Seller to Purchaser have all been duly
authorized pursuant to all necessary corporate and legal
authority;
(6) All payments due under the Paper are due and payable on the
dates and in the amounts set forth therein and no such amounts
shall have been prepaid to Seller or to any other party
(except as disclosed in writing by Seller to Purchaser in the
Assignment or in Schedule A thereto);
(7) All payment histories with respect to the Paper provided to
Purchaser by Seller are true and accurate as of the date of
their delivery to Purchaser and as of the date of the
assignment of the related Paper to Purchaser;
(8) The Equipment subject to each Transaction shall have been
delivered to, installed and accepted unconditionally by the
Obligor under the Paper related thereto;
(9) Unless otherwise indicated in the applicable Assignment, the
Equipment subject to each Transaction was new when delivered
to the Obligor under the Paper subject thereto and is
correctly described in such Paper;
(10) The Obligor under the Paper subject to each Transaction has
represented and warranted to Seller that each item of
Equipment subject thereto will be used solely for business
purposes;
(11) To the best of Seller's knowledge, and except for payments
current within 30 days of the due date of each such payment,
there is no default by either the Obligor or Seller under the
Paper subject to each Transaction or no event which with the
passage of time or giving of notice (or both) would
Page 6 of 13
<PAGE> 7
constitute a default under such Paper;
(12) The Transactions evidenced or contemplated by the Paper
conform to all applicable laws and regulations and the
contents of any forms evidencing the Paper used by Seller and
Obligor (and any guarantor thereof) (other than Purchaser's
own forms) are legally sufficient and enforceable in every
jurisdiction where the Equipment, the Obligor and any
guarantor is located;
(13) Seller has fulfilled and will continue to duly and promptly
fulfill all its duties and obligations, if any, hereunder,
under the Paper and with respect to the Equipment, including
but not limited to, any warranties or representations made by
Seller in connection with its ownership, lease, sale or
financing of the Equipment;
(14) Seller has done and shall do nothing that might impair the
value of the Paper or the Equipment or the rights of Purchaser
therein and thereto;
(15) Each Assignment is and will be a valid conveyance by Seller
of the grant of a first priority lien upon the Equipment and
the Paper, and Seller's security interest in the Equipment
shall have been duly filed and perfected by Seller against all
persons (except Purchaser) in all appropriate jurisdictions;
and
(16) Seller has not sold, assigned, conveyed or transferred any of
its right, title or interest in the Paper, the Transaction or
the equipment to any other party or entity.
(17) Each lease of Equipment evidencing a Transaction is a "net,
full payout lease" as defined in 12 C.F.R. Section 545.53 of
the OTS Regulations and such lease satisfies all requirements
set forth in such regulation applicable to a lease, the
lessor's interest in which is assigned to a savings
association;
(18) The estimated residual value of all Equipment leased in
connection with each Transaction as measured at the expiration
of the initial term of the corresponding lease shall not
exceed 70% of the acquisition cost of such Equipment to the
lessor under the lease.
7. Taxes. Seller hereby warrants that Seller or the Obligor(s) (rather
than Purchaser) shall be responsible for the payment of any sales, use or
personal property taxes imposed by applicable taxing authorities upon Seller's
lease or financing to the Obligor(s) or the Obligors' use of the Equipment and
agrees to hold Purchaser harmless therefrom.
8. Remedies.
A. Upon the occurrence of a default under Paragraph 5 (C), or if
Seller shall breach
Page 7 of 13
<PAGE> 8
any other representation, warranty or covenant in this Agreement, and such
breach remains uncured for thirty (30) days after Purchaser has served Seller
with written notice thereof as provided in paragraph 11(B) herein, Seller
agrees, within thirty-five (35) days after such default or after Seller's
receipt of such notice, as applicable, to repurchase the affected Paper
pursuant to the terms and conditions described in Paragraph 8(B) hereof (a
"Repurchase").
B. The repurchase price in each case shall be Purchaser's book value
for such Paper calculated in accordance with generally accepted accounting
principles, determined as of the date ("Notice Date") that Purchaser serves
Seller with such notice, less any payments paid to and collected by Purchaser
with respect to such Paper after the Notice Date (the "Repurchase Price").
9. Covenant of Purchaser. Upon (i) payment in full of all of an
Obligor's Stated Term Obligations under any Paper sold hereunder, (ii) payment
to Purchaser by Seller in full of the Repurchase Price or Reassignment Price
for any Paper repurchased by Seller hereunder or (iii) withdrawal of the
Defaulted Price from the Reserve account for Defaulted Paper, such Paper shall
be promptly reassigned by Purchaser to Seller without recourse to Purchaser and
without any warranties, express or implied, and shall be delivered to Seller,
and Purchaser shall promptly execute and deliver in recordable form such
agreements, instruments, UCC termination and other documents as Seller shall
reasonably request to evidence such reassignment and termination and
Purchaser's security interest in the related Equipment shall then automatically
be deemed terminated.
10. Term of Agreement; Survival. This Agreement shall inure to and bind
the respective successors and assigns of Seller and Purchaser. This Agreement
shall continue in effect until terminated by either party upon at least sixty
(60) days' prior written notice to the other and shall survive as to all
provisions which by their nature mature after termination of this Agreement
including, but not limited to, provisions related to indemnification,
Repurchase and Reassignment. This Agreement and all surviving provisions
hereof, shall remain applicable to all Paper purchased hereunder by Purchaser
prior to the effective date of termination. Waiver of any single default
hereunder shall not constitute a waiver of any other default.
11. Miscellaneous.
A. Assignment. Seller shall not assign or otherwise transfer any of
its rights in, or delegate any of its obligations under, this Agreement without
Purchaser's prior written consent (which consent Purchaser may withhold in its
reasonable discretion). Purchaser may assign any or all of its rights and
obligations with respect to any Paper entered into pursuant to this agreement,
or its rights hereunder, without Seller's consent.
B. Notices. Any notice required by this Agreement shall be in writing
and mailed by certified mail, return receipt requested, sent by telecopier or
delivered by any reliable overnight carrier to other party, at its address
listed below or such other address as the other party may designate in writing
served upon the other party as provided herein. Any notice given hereunder
shall be deemed given upon the earlier of (a) the date of actual receipt or (b)
the date a return receipt (or refusal) is dated by the U.S. Postal Service or
such other overnight carrier.
Page 8 of 13
<PAGE> 9
If to Seller:
Granite Financial Acquisition Corp. I
6424 W. 91st Avenue
Westminster, CO 80030-2913
Telephone: 303-650-4059
Telecopier: 303-650-4061
If to Purchaser:
Heartland Bank
212 South Central
St. Louis, MO 63105-3506
Telecopier: 314-512-8501
C. Amendments. This Agreement shall not be modified, amended or
terminated except by a writing duly signed by both parties.
D. Captions. The captions used herein are inserted for reference
purposes only and shall not affect the meaning, interpretation or construction
of this Agreement.
E. Governing Law. This Agreement shall be construed in accordance
with and shall be governed by the laws of the State of Colorado, without giving
effect to principles of conflicts of law.
Page 9 of 13
<PAGE> 10
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to
be executed and delivered as of the date first set above by their respective,
duly authorized corporate officers holding the office and title below their
signatures.
SELLER:
Granite Financial Acquisition Corp. I
By:
------------------------------
Name:
----------------------------
Title:
---------------------------
PURCHASER:
Heartland Bank
By:
------------------------------
Name:
----------------------------
Title:
---------------------------
Page 10 of 13
<PAGE> 11
EXHIBIT A
ASSIGNMENT
ASSIGNMENT dated as of the ____ day of ______________, 1997, by and
between Granite Financial Acquisition Corp. I, a Delaware corporation
("Assignor") and Heartland Bank, a federal savings bank ("Assignee").
A. Assignor owns the equipment lease agreements evidencing a deferred
payment obligation listed and described in the Schedule(s) attached hereto
(collectively referred to herein as the "Paper") and the equipment related
thereto (herein the "Equipment").
B. Assignor and Assignee have previously entered into a Lease
Purchase Agreement dated as of June __, 1997 (the "Purchase Agreement") to
facilitate the sale and assignment, from time to time, of certain Paper and
other collateral interests related thereto by the Assignor to Assignee.
C. Pursuant to the terms and conditions set forth in the Purchase
Agreement, Assignor desires to sell and assign certain Paper to Assignee and
Assignee desires to purchase lien-free title to such Paper.
NOW, THEREFORE, in consideration of the mutual covenants contained in
the Purchase Agreement and herein, the parties hereto agree as follows:
1. Subject to the terms and conditions of the Purchase Agreement,
Assignor hereby sells, assigns, transfers, and conveys to Assignee, and its
successors and assigns, and Assignee hereby accepts and assumes good,
marketable and lien-free title in and to the Paper with respect to the
following rights and benefits thereunder: (i) all payments and other
obligations to be made or performed by the Obligor under the Paper from the
effective date such Paper is assigned to Assignee hereunder through the stated
expiration of the term of such Paper, but excluding payments to be made by the
Obligor to purchase the Equipment at the expiration of the term as set forth
under (y) below and (ii) any and all guarantees issued and additional
collateral assigned in connection therewith. Assignor is retaining for its own
account and is not selling, assigning, transferring or conveying to Assignee
the following rights and benefits under such Paper (x) advance or down payments
not included in the sale (as specified in the related Assignment), (y) payments
to be made by the Obligor to purchase the Equipment subject to the Paper upon
expiration of the stated term of the Paper, whether mandatory or at the option
of the Obligor and (z) payments to be made by the Obligor under the Paper after
the complete performance and payment of all obligations and amounts due under
the Paper during its stated term, including, without limitation, payments made
upon any extension, renewal or holding over by the Obligor beyond the stated
term of such Paper.
2. Assignor hereby represents and warrants the following to Assignee
with respect to each respective Paper: (a) the Paper accurately indicates the
name and current address of the lessee, mortgagor, obligor or debtor
(collectively referred to herein as the "Obligor"); (b) the Paper contains all
contractual terms and agreements relating to the use of the Equipment; (c)
Schedule A hereto accurately contains a true and correct listing of all
Equipment on lease to, and/or
Page 11 of 13
<PAGE> 12
currently in use by, each respective Obligor at the location(s) specified in
such Paper and the date, original term and remaining term of such Paper; and
(d) the aggregate unpaid payments between all of the Obligor(s) and the
Assignor during the stated term of such Paper (excluding any payments required
to be made by the Obligors to purchase the Equipment upon expiration of the
Paper) are in the amount of $_____________. The purchase price for all such
Paper and the proceeds thereof is $_____________.
3. Assignor represents and warrants the following to Assignee as of the
date hereof: (a) Assignor has not entered into any understandings or agreement
with respect to the Equipment other than those evidenced by the Paper, (b) all
of the representations and warranties made in the Purchase Agreement are true
and accurate as of the date hereof, (c) the obligations of all parties to the
Paper are in full force and effect, and (d) to the best of Assignor's
knowledge, and except for payments current within thirty (30) days of the due
date of each such payment, no defaults (or events which would constitute
defaults with the passage of time, giving of notice, or both) on the part of
the Assignor or any Obligor, have occurred in the performance of each such
party's obligations under the Paper.
4. All of the terms and conditions of the Purchase Agreement shall
remain in full force and effect and are enforceable in accordance with their
respective terms, and the terms and conditions of the Purchase Agreement are
hereby incorporated by reference herein.
5. This Assignment has been delivered in Denver, Colorado and shall be
governed by the laws of the State of Colorado.
Page 12 of 13
<PAGE> 13
IN WITNESS WHEREOF, Assignor and Assignee have caused this instrument
to be duly executed this ____ day of _______________, 1997.
Assignor:
Granite Financial Acquisition Corp. I
By:
-----------------------------
Name:
---------------------------
Its:
----------------------------
Assignee:
Heartland Bank
By:
-----------------------------
Name:
---------------------------
Its:
----------------------------
Page 13 of 13
<PAGE> 1
11.1 Computation of Earnings Per Share
EXHIBIT 11.1
GRANITE FINANCIAL, INC. AND SUBSIDIARIES
COMPUTATION OF EARNINGS PER SHARE
<TABLE>
<CAPTION>
YEAR ENDED
JUNE 30,
1996 1997
----------- ------------
<S> <C> <C>
Earnings Per Share - Primary
Earnings
Income from continuing operations ( a ) $ 481,407 $2,067,175
---------- ----------
Net Income $ 481,407 $2,067,175
========== ==========
Shares
Weighted average shares outstanding 2,000,000 3,172,055
Shares issuable from assumed exercise of stock options ( b ) - 92,918
---------- ----------
Common stock and common stock equivalents 2,000,000 3,264,973
========== ==========
Earnings per share - primary
Income from continuing operations $ 0.24 $ 0.63
---------- ----------
Earnings per share - primary $ 0.24 $ 0.63
========== ==========
Earnings Per Share - Assuming Full Dilution
Earnings
Income from continuing operations $ 481,407 $2,067,175
---------- ----------
Net Income $ 481,407 $2,067,175
========== ==========
Shares
Common stock and primary common stock equivalents 2,000,000 3,172,055
Additional dilutive effect of assumed exercise of stock options (b) - 92,918
---------- ----------
Common stock and common stock equivalents 2,000,000 3,264,973
========== ==========
Earnings per share - assuming full dilution ( c )
Income from continuing operations $ 0.24 $ 0.63
---------- ----------
Earnings per share - fully diluted $ 0.24 $ 0.63
========== ==========
</TABLE>
(a) Income from continuing operations for the 1997 period includes a one-time
charge to earnings of $100,000 as part of the reorganization from a
limited liability Company to a C Corporation. The 1996 period reflects
pro forma taxes at 37% as if the entity was taxed as a C Corporation.
(b) Common stock equivalents are calculated using the treasury stock method.
(c) This calculation is submitted in accordance with Securities Exchange Act
of 1934 Release No. 9083, although not required by Footnote 2 to
paragraph 14 APB Opinion No.15 because it results in dilution of less
than 3%.
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUN-30-1997
<PERIOD-END> JUN-30-1997
<CASH> 2,396,493
<SECURITIES> 0
<RECEIVABLES> 40,974,052
<ALLOWANCES> 2,184,120
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 1,258,042
<DEPRECIATION> 293,332
<TOTAL-ASSETS> 45,746,577
<CURRENT-LIABILITIES> 0
<BONDS> 26,317,057
0
0
<COMMON> 3,725
<OTHER-SE> 15,460,715
<TOTAL-LIABILITY-AND-EQUITY> 45,746,577
<SALES> 78,947,771
<TOTAL-REVENUES> 83,457,096
<CGS> 73,364,404
<TOTAL-COSTS> 73,364,404
<OTHER-EXPENSES> 3,588,652
<LOSS-PROVISION> 665,165
<INTEREST-EXPENSE> 2,041,830
<INCOME-PRETAX> 3,498,002
<INCOME-TAX> 1,430,827
<INCOME-CONTINUING> 2,067,175
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,067,175
<EPS-PRIMARY> 0.63
<EPS-DILUTED> 0.63
</TABLE>
