SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 8-K/A
Amendment No. 3
CURRENT REPORT PURSUANT
TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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Date of Report (Date of Earliest Event Reported): May 18, 1998
National Auto Finance Company, Inc.
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(Exact Name of Registrant as Specified in its Charter)
Delaware
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(State or Other Jurisdiction of Incorporation)
0-22067 65-0688619
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(Commission File Number) (I.R.S. Employer
Identification No.)
621 N.W. 53rd Street, Suite 200
Boca Raton, Florida 33487
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(Address of Principal Executive Offices) (Zip Code)
(561) 997-2413
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(Registrant's Telephone Number, Including Area Code)
NOT APPLICABLE
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(Former Name or Former Address, if Changed Since Last Report)
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ITEM 4. CHANGES IN REGISTRANT'S CERTIFYING ACCOUNTANT.
On May 18, 1998, National Auto Finance Company, Inc. (the
"Company")dismissed KPMG Peat Marwick LLP ("KPMG") as the Company's auditor of
its financial statements. On that same day, the Company announced that it was in
the process of retaining BDO Seidman, LLP ("BDO") to audit the Company's
financial statements in fiscal 1998. KPMG's opinion with respect to the
Company's Annual Report on Form 10-K for the year ended December 31, 1997 was
qualified by raising substantial doubt as to the Company's ability to continue
as a going concern. The decision to dismiss KPMG as the Company's auditor was
recommended and approved by the Audit Committee of the Board of Directors of the
Company.
In connection with KPMG's review of the Company's financial statements for
the quarters ended March 31, 1997, June 30, 1997 and September 30, 1997, and
KPMG's audit of the Company's financial statements for the year ended December
31, 1997, certain disagreements arose between KPMG and the Company regarding:
(1) the periodic determination of the carrying value of the Company's retained
securitization assets, and more particularly, the assumptions and methodologies
to be employed, pursuant to Statement of Financial Accounting Standards No. 125
("SFAS No. 125"), in the computer model used to determine such carrying values,
including the determination of which components of the retained securitization
assets to be discounted to net present value and the rate at which such
components should be discounted, and the projected loan loss rate and related
collateral recovery rate to be utilized in such valuation model; and (2) the
accounting treatment of deferred income taxes recorded in connection with the
reorganization of the Company from a partnership to a corporation in connection
with the Company's initial public offering. With respect to the issues relating
to the periodic determination of the carrying value of the Company's retained
securitization assets, the Audit Committee and the Board of Directors discussed
such issues with KPMG. The Audit Committee and the Board of Directors did not
discuss the deferred income tax issue with KPMG, which was discussed between
KPMG and Company management.
While KPMG never expressed an unwillingness to be associated with any of
the financial statements prepared by management and filed with the Securities
and Exchange Commission, KPMG did indicate that it was unwilling to be
associated with the Company's initial earnings release for the quarter ended
September 30, 1997. As a result, the Company, in consultation with KPMG, revised
its earnings release for the quarter ended September 30, 1997.
With respect to the disagreements previously described, during the course
of KPMG's audit of the Company's financial statements for the year ended
December 31, 1997, KPMG indicated that its national office was developing a
"national position," for all of its clients that utilize gain-on-sale revenue
recognition accounting principles, on (1) the components of a company's retained
securitization assets that need to be discounted to net present value in
periodically determining their carrying values pursuant to SFAS No. 125, and (2)
the rate at which, and the period over which, such components are to be
discounted to net present value pursuant to SFAS No. 125. Prior to revealing to
the Company its national position on those issues, KPMG did indicate that its
initial inclination was that SFAS No. 125 required the Company to discount all
components of its retained securitization assets to net present value, including
cash spread accounts, in periodically determining their carrying values, and to
discount all such
<PAGE>
components at the rate of 14% without regard to any differentiation among those
components with respect to the level of risk inherent in the cash flows
projected to be derived from each of those components. The Company's view was
that each such component represents a different security, possessing different
risk characteristics with respect to the ultimate receipt of the cash flow
projected to be derived from each such component and, therefore, each such
component should be discounted to net present value using a market rate of
interest commensurate to such component's inherent risk in periodically
determining its carrying value pursuant to SFAS No. 125.
Because KPMG still had not announced its national position on those issues
by late in the audit process and the Company wanted to be prepared to discuss
with KPMG its position once announced without delaying the completion of the
audit, the Company surveyed numerous industry experts on the accounting
treatment other similarly-situated companies were utilizing with respect to the
valuation of retained securitization assets under SFAS No. 125. To that end, the
Company spoke with two accounting firms, including BDO, two investment banks
specializing in asset-backed securitizations, a commercial bank that regularly
securitizes certain of its own assets, and the leading securitization bond
insurer in the non-prime automobile finance industry, to ascertain their views
and observations on how other similarly-situated companies were interpreting
SFAS No. 125's effect on the valuation of retained securitization assets. Each
of those institutions, including BDO, observed that: (1) generally all finance
companies were discounting to net present value each component of retained
securitization assets, with the exception of cash spread accounts, in
periodically determining their respective carrying values; (2) some finance
companies were also discounting cash spread accounts to net present value; and
(3) each finance company was discounting the components being discounted at
different market rates commensurate with the level of risk inherent in the cash
flow projected to be derived from each such component. Further, the institutions
surveyed also indicated that the finance companies that were discounting cash
spread accounts to net present value generally were applying a discount rate
significantly lower than the rates they were applying to the other components of
retained securitization assets because they considered the cash flows projected
to be derived from such cash spread accounts to have a significantly lower
inherent risk than the other components. Additionally, BDO and the other
accounting firm indicated that while they had not considered or reviewed the
Company's particular circumstances and were specifically not opining on the
proper application of SFAS No. 125 to the Company's retained securitization
assets, they had interpreted SFAS No. 125 for other clients in a manner
consistent with the general industry consensus--namely, that SFAS No. 125
requires that each component of retained securitization assets be discounted
separately and at different market rates of interest to reflect that each such
component is a separate security possessing its own inherent level of risk. The
Company did share with KPMG the observations of all of the institutions surveyed
concerning the proper application of SFAS No. 125 to retained securitization
assets.
With respect to the disagreement relating to the accounting treatment for
deferred income taxes, the Company's view was that the taxes to be recorded in
connection with the reorganization of the Company from a partnership to a
corporation should have been an adjustment to paid in capital, and not an
adjustment to the Company's net income for 1997. The Company consulted with its
outside tax accountant, Coopers & Lybrand LLP ("C&L"), which orally confirmed
the Company's view. The Company did share with KPMG the views of C&L with
respect to the deferred income tax issue.
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Nevertheless, KPMG continued to maintain its position that such deferred
incometaxes should be recorded as an adjustment to the Company's net income for
1997.
The Company has authorized KPMG to fully and completely respond to BDO
regarding its inquiries, if any, concerning the subject matter of each of the
disagreements previously described. Each of those disagreements was resolved by
the Company acceding to the position of KPMG prior to the filing of the
Company's quarterly reports on Form 10-Q and its Annual Report on Form 10-K for
fiscal 1997.
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On June 15, 1998, the Company received KPMG's response ("KPMG's Response")
to the Company's disclosure in this Form 8-K regarding certain disagreements
between KPMG and the Company. KPMG's Response is attached hereto as an exhibit.
In its Response, KPMG states, inter alia, that it "disagreed with [the Company
regarding] the capitalization of approximately $900,000 of . . . capitalized
costs, which related to administrative employee compensation, travel, consulting
studies, and other non-capitalizable expenditures" incurred by the Company in
connection with the construction and start-up of its Jacksonville service
center. While KPMG identifies the expensing of these initially-capitalized costs
as a "disagreement," the Company believes that the issue is more properly
characterized as an "initial [difference] of opinion based on incomplete facts
or preliminary information that [was] later resolved to [KPMG's] satisfaction by
. . . obtaining additional relevant facts or information." Consistent with
Instruction 4 of Section 229.304 of Regulation S-K promulgated under the
Securities Exchange Act of 1934, the Company believes that such a discussion
does not amount to a "disagreement" under the regulation.
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On July 22, 1998, the Company received KPMG's response ("KPMG's Second
Response") to the Company's disclosure in Amendment No. 2 to the Form 8-K
regarding capitalized costs. KPMG's Second Response is attached hereto as an
exhibit.
Item 7. FINANCIAL STATEMENTS, PRO FORMA FINANCIAL INFORMATION AND EXHIBITS.
(a) Exhibits.
(16.1) KPMG's Response, dated June 11, 1998.
(16.2) KPMG's Response, dated July 21, 1998.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereto duly authorized.
Date: July 23, 1998.
NATIONAL AUTO FINANCE COMPANY, INC.
By: /s/ Keith B. Stein
Name: Keith B. Stein
Title: Vice Chairman, Chief Executive
Officer, Chief Financial Officer
and Treasurer
EXHIBIT (16.1)
[KPMG Peat Marwick LLP Logo]
June 11, 1998
Securities and Exchange Commission
Washington, DC 20549
Ladies and Gentlemen:
We were previously principal accountants for National Auto Finance Company, Inc.
and subsidiaries ("NAFI" or the "Company") and, under the date of April 15,
1998, we reported on the consolidated financial statements of NAFI as of
December 31, 1997 and 1996 and for each of the years in the three-year period
ended December 31, 1997. On May 18, 1998, our appointment as principal
accountants was terminated. We have read NAFI's statements included under Item 4
of its Form 8-K dated June 3, 1998. We agree with such statements except to the
extent discussed below:
1. We are not in a position to agree or disagree with NAFI's statement that the
change of the Company's auditor was recommended and approved by the audit
committee of the board of directors.
2. With respect to our association with financial statements filed with the
Securities and Exchange Commission, we disagree with NAFI's statement in the
third paragraph of Item 4 that "KPMG never expressed an unwillingness to be
associated with any of the financial statements prepared by management and filed
with the Securities and Exchange Commission." To the contrary, we informed
management and the audit committee of the Board of Directors of NAFI that
because the Company had not developed a model in accordance with Statement of
Financial Accounting Standards No. 125 ("SFAS 125") for valuation of its
retained interests in securitizations, we were unable to complete the procedures
for a review of interim financial information as contemplated by SAS 71 for the
financial statements filed on Form 10-Q for the periods ended March 31, 1997 and
June 30, 1997. The need for such a model had been discussed in our February 28,
1997 Management Letter issued to the Company.
With respect to the quarter ended September 30, 1997, we indicated to management
and the audit committee that we would not be associated with the Company's
initial earnings release because we disagreed with certain assumptions used in
their valuation model for the Company's retained interests in securitizations.
We recommended that the Company not release earnings until the assumptions and
the valuation model could be further evaluated. Management elected to release
earnings against our recommendation. Moreover, at the time, NAFI was preparing a
registration
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Securities and Exchange Commission
June 11, 1998
Page 2
statement for the public sale of additional shares of common stock. We informed
management that we would not consent to the inclusion of our reports in the
filing document because of management's release of information with which we
disagreed. Management indicated to us that they planned to abort the proposed
public offering of common stock.
NAFI subsequently revised its weighted average cumulative net loss estimate to
12% and certain other estimates related to the valuation of its retained
interests in securitizations at September 30, 1997. We concurred with the use of
this revised loss rate. However, we did not test the mechanics of NAFI's
valuation model, its consistency with the legal priority of distributions
associated with NAFI's various securitizations, or certain other less
significant assumptions used for the quarter. We did, however, tell management
that the model needed to be revised to account for cash, which was being trapped
in the spread accounts as a result of various securitization performance
thresholds not being met. With respect to the September 30, 1997 quarter, we did
not complete a review of interim financial information as contemplated by SAS 71
for the financial statements filed on Form 10-Q. Management did not provide us
with a representation letter for the quarter.
3. We disagreed with NAFI with respect to estimates of weighted average
cumulative net losses used in its valuation model related to retained interests
in securitizations. NAFI believed that its historical gross default experience
would improve in the future as a result of the Company assuming responsibility
for servicing its loans from a third-party servicer. Additionally, NAFI asserted
that the Company's recovery rate on repossessed vehicles would improve for
similar reasons, and that these factors, when combined, would reduce weighted
average cumulative net losses in the future. They further stated that the
recovery rate for repossessed vehicles should flatten out at a certain point in
the life of the related loan, inasmuch as the vehicles would retain some minimal
level of value as basic transportation.
Our disagreement was based on our review of NAFI's static pool loss information,
ultimately published in "Management's Discussion and Analysis" in NAFI's
December 31, 1997 annual report on Form 10-K. This information indicated that at
similar points in time, more recent pools of loans that were serviced almost
exclusively by NAFI had generally experienced greater losses than those loans
purchased in earlier periods. Moreover, NAFI's reported recovery information in
"Management's Discussion and Analysis" of the December 31, 1997 Form 10-K also
indicates:
o A decrease in recovery percentages from 1995 through 1997, and
o A decrease in recoveries over time on a static pool basis, whereby,
the more time that has passed since the original purchase of the loan,
the lower the recovery percentage on repossessed asset liquidation.
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Securities and Exchange Commission
June 11, 1998
Page 3
In light of the foregoing, we disagreed with NAFI's assertion in December 1997
in certain private placement prospectuses (copies of which we were not provided
until after closing and with which we were not involved) that weighted average
cumulative net losses on securitized loans would be approximately 9.87% and with
its assertions to us that weighted average cumulative net losses would average
between 10% and 11%. Our analysis indicated that weighted average cumulative net
losses approximated 12.88% at December 31, 1997. NAFI disagreed with this rate,
but used it in the preparation of its December 31, 1997 financial statements.
4. NAFI indicates in the second paragraph of Item 4 that "certain disagreements
arose between KPMG and the Company regarding the periodic determination of the
carrying value of the Company's retained securitization assets." NAFI later
asserts that the various components of its valuation model should be discounted
individually and different discount rates applied based upon the different risk
characteristics of each component. In this regard, NAFI's retained interests in
securitizations represent a single stream of cash flows from each
securitization, the components of which are not legally separated. The Company
maintained, nevertheless, that the cash flow should be separated into various
components and discounted at various stages of the cash flow, in some cases
prior to its release from the spread accounts to the Company.
We discussed with NAFI's internal and outside counsel whether different
securitization trust cash flows within each securitization were legally
separate. We concluded that the securitization structure represented a single
security and that a single discount rate should be applied to the stream of cash
flows out of the trust to the Company. We also believe that such discounting of
the single stream of cash flows out of each securitization trust (commonly
referred to as the "cash out" method) is consistent with SFAS 125, paragraph 43,
which refers to the calculation as the "present value of estimated expected
future cash flows using a discount rate commensurate with the risks involved."
With respect to the discount rate applied to such cash flows, NAFI had applied a
discount rate of 11% to expected future cash flows prior to December 31, 1997.
The Company maintained that such rate (or, in certain circumstances, a lower
rate) was appropriate. We disagreed in that:
a. Companies in the industry with similar retained interests in
securitizations were discounting such interests at 11% to 15%, with NAFI at
the low end of the range of discount rates.
b. The uncertainty associated with NAFI's retained interest asset appeared to
have increased significantly in 1997, particularly in the fourth quarter.
This was evidenced by an increase in observed and predicted future
cumulative net losses on securitized loans as well as by the necessity for
NAFI, in September 1997, to enter into an agreement with its bond insurer
<PAGE>
Securities and Exchange Commission
June 11, 1998
Page 4
related to various securitization performance thresholds for losses,
charge-offs and delinquency in order to provide cash flow to the Company.
c. In December 1997, NAFI experienced an increase compared to prior years in
the effective borrowing rate at which it financed its operations. This, in
our view, provided third-party evidence of an increase in the underlying
risk associated with its operations.
Based on these points, we recommended the application of a discount rate of 14%
to the estimated expected future cash flows from the securitizations to NAFI.
The Company could not provide adequate support for the lower discount rates it
wished to apply given the limited, and in some cases, non-existent market for
these components. The Company did convey a small number of anecdotal situations
that were attributed to accountants from other Big Six accounting firms and
certain "industry experts". In addition, the Company provided us with a
spreadsheet containing summarized, inconclusive information about five other
companies which NAFI believed were comparable. We did not feel that the Company
had provided adequate support for us to change our position. NAFI disagreed, but
used the 14% rate applied to a single stream of cash flows in the preparation of
its December 31, 1997 financial statements.
5. We are not in a position to agree or disagree with NAFI's statements
regarding the substance of their discussions with "two accounting firms,
including BDO, two investment banks specializing in asset-backed
securitizations, a commercial bank that regularly securitizes its own assets,
and the leading securitization bond insurer in the non-prime automobile finance
industry" related to accounting for retained interests in securitizations under
SFAS 125. As previously stated, the information provided to us by NAFI was
largely anecdotal, and consisted principally of a single page summary of certain
assumptions believed by the Company to be used by certain other finance
companies in valuing securitization assets. Such summary was neither
comprehensive nor conclusive in our view.
6. With respect to KPMG's "national position", local engagement teams regularly
consult with the national office of KPMG on matters of accounting and auditing.
In this case, we concluded that a "cash out" methodology to measure the fair
value of retained interests in securitizations by discounting a single stream of
the expected future cash flows out of the securitization, was consistent with
SFAS 125, as opposed to the discounting of multiple components within the
securitization, as NAFI asserted.
7. With respect to the December 31, 1997 valuation of NAFI's retained interests
in securitizations, in NAFI's annual report on Form 10-K, the Company states
that such valuation "will also require a restatement of the results of
operations of each of the first, second and third quarters of 1997 to allocate
the effects of the adjustment derived therefrom appropriately throughout such
quarters". We advised NAFI that we had not completed our review of such
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Securities and Exchange Commission
June 11, 1998
Page 5
restatement as of Friday, May 15, 1998 when NAFI filed its quarterly report on
Form 10-Q. We were unable to complete our review of the planned restatement
because the Company dismissed us on Monday, May 18, 1998. We did not complete a
review of the March 31, 1998 interim financial information as contemplated by
SAS 71 for the financial statements filed on Form 10-Q. Management did not
provide us with a representation letter for the quarter.
8. During 1997, the Company capitalized approximately $1.3 million of costs
related to construction of its loan service center in Jacksonville, Florida and
also to development and modification of software to be used by the service
center. We disagreed with the capitalization of approximately $900,000 of such
capitalized costs, which related to administrative employee compensation,
travel, consulting studies, and other non-capitalizable expenditures. The
Company expensed the amounts with which we disagreed at December 31, 1997.
9. NAFI states in the sixth paragraph of Item 4 that "the taxes to be recorded
in connection with the reorganization of the Company from a partnership to a
corporation should have been an adjustment to paid in capital, and not an
adjustment to the Company's net income for 1997." We are not in a position to
agree or disagree with NAFI's statement that Coopers and Lybrand agreed with the
Company's statement. We disagreed with the Company, because paragraph 28 of SFAS
109 requires that such taxes be reported in the income statement.
* * * * * * * * *
The Company filed the above referenced Form 8-K on June 3, 1998 prior to our
obtaining a copy of such Form 8-K for review. The aforementioned comments are in
response to such 8-K filing.
Very truly yours,
/s/ KPMG Peat Marwick LLP
EXHIBIT (16.2)
[KPMG Peat Marwick LLP Logo]
July 21, 1998
Mr. Joel Ronkin
Vice President & General Counsel
National Auto Finance Company
One Park Place, Suite 200
621 NW 53 Street
Boca Raton, FL 33487
Re: National Auto Finance Company, Inc.'s Form 8-K/A filed June 17, 1998
File No. 0-22067
Dear Mr. Ronkin:
We have read the revised disclosures regarding capitalization of costs set forth
in the Company's Form 8-K/A, Amendment No. 2, filed June 17, 1998.
With respect to the Company's statement that the issue is more precisely
characterized as an "initial [difference] of opinion based on incomplete facts .
. .," we disagree with such statement. To the contrary, the issue of the
capitalization of costs related to construction of the Company's loan service
center was raised repeatedly with Company personnel. The Company maintained
throughout a period of several weeks that costs such as administrative employee
compensation, travel, consulting studies, and other non-capitalizable
expenditures should be capitalized. Although the Company did not provide
justification for its position, it continued to maintain such costs on its
balance sheet and to state that it should be permitted to do so. The Company
ultimately expensed such costs at December 31, 1997.
Very truly yours,
KPMG Peat Marwick LLP
/s/ William H. Kline
William Kline, Partner
cc: Louise M. Dorsey
