SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
SCHEDULE 14A
(Rule 14a-101)
INFORMATION REQUIRED IN PROXY STATEMENT
SCHEDULE 14A INFORMATION
Proxy Statement Pursuant to Section 14(a) of the
Securities Exchange Act of 1934 (Amendment No. )
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[_] Definitive Proxy Statement Commission Only (as permitted
[_] Definitive Additional Materials by Rule 14a-6(e)(2))
[_] Soliciting Material Pursuant to
Rule 14a-11(c) or Rule 14a-12
NOVASTAR FINANCIAL, INC.
- --------------------------------------------------------------------------------
(Name of Registrant as Specified In Its Charter)
- --------------------------------------------------------------------------------
(Name of Person(s) Filing Proxy Statement, if Other Than the Registrant)
Payment of Filing Fee (Check the appropriate box):
[_] No fee required.
[_] Fee computed on table below per Exchange Act Rules 14a-6(i)(1) and 0-11.
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(SC14A-07/98)
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NovaStar
NovaStar Financial, Inc.
1901 West 47th Place, Suite 105
Westwood, Kansas 66205
(913) 362-1090
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PROXY STATEMENT
ANNUAL MEETING OF STOCKHOLDERS
To Be Held June 9, 1999
To our stockholders:
The Board of Directors of NovaStar Financial, Inc., a Maryland corporation,
is furnishing this proxy statement in connection with its solicitation of
proxies for use at the annual meeting of stockholders to be held on June 9, 1999
at 10:00 a.m., Central Daylight Time, at the Sheraton Suites, 770 West 47th
Street, Kansas City, Missouri. This proxy statement, the accompanying proxy card
and the notice of annual meeting are being provided to stockholders beginning on
or about March 30, 1999.
GENERAL INFORMATION
Solicitation of Proxies
The costs of this solicitation by the Board of Directors will be borne by
NovaStar Financial. Proxy solicitations will be made by mail. They also may be
made by personal interview, telephone, facsimile transmission and telegram.
Banks, brokerage house nominees and other fiduciaries are requested to forward
the proxy soliciting material to the beneficial owners and to obtain
authorization for the execution of proxies. NovaStar Financial will, upon
request, reimburse those parties for their reasonable expenses in forwarding
proxy materials to the beneficial owners. NovaStar Financial does not expect to
engage an outside firm to solicit votes, but if such a firm is engaged
subsequent to the date of this proxy statement, the cost is estimated to be less
than $5,000.00, plus reasonable out-of-pocket expenses.
Voting Rights
Holders of shares of NovaStar Financial's common stock, par value $0.01 per
share, at the close of business on March 18, 1999, the record date, are entitled
to notice of, and to vote at, the annual meeting. On that date, 8,130,069 shares
of common stock were outstanding. Each share of common stock outstanding on the
record date is entitled to one vote on each matter presented at the annual
meeting. The presence, in person or by proxy, of stockholders representing 50%
or more of the issued and outstanding stock entitled to vote constitutes a
quorum for the transaction of business at the annual meeting. If a quorum is
present, (1) a plurality of the votes cast at the annual meeting is required for
election of a director, and (2) the affirmative vote of the majority of the
shares present, in person or by proxy, at the annual meeting and entitled to
vote is required for all other matters. Cumulative voting in the election of
directors is not permitted. Abstentions are considered shares present and
entitled to vote, and therefore have the same legal effect as a vote against all
matters presented at the annual meeting other than the election of directors.
Any shares held in street name for which the broker or nominee receives no
instructions from the beneficial owner, and as to which such broker or nominee
does not have discretionary voting authority under applicable New York Stock
Exchange rules, will be considered as shares not entitled to vote and will
therefore not be considered in the tabulation of the votes. Accordingly, a
broker non-vote will have no effect on items (1) and (2) above but will have the
same effect as a vote against a proposal, if any, which requires the approval of
the majority of outstanding shares, such as an amendment to NovaStar Financial's
charter.
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Voting of Proxies
Shares of the common stock represented by all properly executed proxies
received in time for the annual meeting will be voted in accordance with the
choices specified in the proxies. Unless contrary instructions are indicated on
the proxy, the shares will be voted FOR the election of the nominees named in
this proxy statement as directors, FOR the appointment of KPMG LLP as
independent public accountants for the fiscal year ending December 31, 1999, and
FOR the adoption of an amendment to the 1996 stock option plan.
The management and the Board of Directors know of no matters to be brought
before the annual meeting other than as set forth herein. To date, NovaStar
Financial has not received any stockholder proposals. If any other matter of
which the management and Board of Directors are not now aware is presented
properly to the stockholders for action, it is the intention of the proxy
holders to vote in their discretion on all matters on which the shares
represented by such proxy are entitled to vote.
Revocability of Proxy
The giving of the enclosed proxy does not preclude the right to vote in
person should the stockholder giving the proxy so desire. A proxy may be revoked
at any time prior to its exercise by delivering a written statement to the
corporate secretary that the proxy is revoked, by presenting a later-dated
proxy, or by attending the annual meeting and voting in person.
Annual Report
The 1998 annual report including financial statements for the year ended
December 31, 1998, which is being mailed to stockholders together with the proxy
statement, contains financial and other information about the activities of
NovaStar Financial, but is not incorporated into this proxy statement and is not
to be considered a part of these proxy soliciting materials.
ITEM 1 - ELECTION OF DIRECTORS
The Board of Directors is divided into three classes, designated Class I,
Class II and Class III, with one class standing for election at the annual
meeting of stockholders each year. Class III directors are to be elected at this
year's annual meeting. The nominees for Class III directors of the Board of
Directors are set forth below. The proxy holders intend to vote all proxies
received by them in the accompanying form for the nominee for director listed
below unless otherwise specified by the stockholder. In the event any nominee is
unable or declines to serve as a director at the time of the annual meeting, the
proxies will be voted for any nominee who shall be designated by the present
Board of Directors to fill the vacancy. In the event that additional persons are
nominated for election as directors, the proxy holders intend to vote all
proxies received by them for the nominees listed below and against any other
nominees. As of the date of this proxy statement, the Board of Directors is not
aware of any nominee who is unable or will decline to serve as director. The
nominees listed below already serve as directors of NovaStar Financial.
The election to the Board of Directors of the nominees identified in the
proxy statement will require the affirmative vote of a plurality of the
outstanding shares of common stock present in person or represented by proxy at
the annual meeting.
The Board of Directors unanimously recommends that stockholders vote FOR
the nominees identified below.
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Nominees to Board of Directors
Name Position with NovaStar Financial
Scott F. Hartman Chairman of the Board of Directors and Chief
Executive Officer
Bart O. Johnson Director
Class III Nominees - Terms Expiring 2002
Scott F. Hartman, age 39, is a co-founder of NovaStar Financial, Chairman
of the Board and Chief Executive Officer and has been a member of the Board of
Directors since 1996. His primary responsibilities are to interact with the
capital markets and oversee the portfolio of investments and the securitization
of mortgage loan production. Mr. Hartman served from February 1995 to June 1996
as Executive Vice President of Dynex Capital, Inc. His responsibilities while at
Dynex included managing a $4 billion investment portfolio, overseeing the
securitization of mortgage loans originated through Dynex' mortgage operation
and the administration of the securities issued by Dynex. For the previous three
years he had served as a consultant to Dynex. Mr. Hartman also serves as a
director and Vice Chairman of NovaStar Mortgage.
Bart O. Johnson, age 50, has been a member of the Board since 1998 and is
the GE Capital nominee. He is currently President of GE Capital Residential
Connections, a division of GE Capital Mortgage Corporation, and is a 25-year
mortgage industry veteran. Immediately prior to joining GE in 1997, Johnson
served as Chief Financial Officer and National Residential Production Manager at
Mellon Bank's Mortgage Banking Group beginning in 1989.
Class I Director - Term Expiring 2000
Edward W. Mehrer, age 59, has been a member of the Board of Directors since
1996. He is presently the Chief Financial Officer of Cydex, a pharmaceutical
company based in Overland Park, Kansas. Mr. Mehrer was previously associated
with Hoechst Marion Roussel, formerly Marion Merrell Dow, Inc., an international
pharmaceutical company, for approximately ten years until his retirement in
December 1995. From December 1991, he served as Executive Vice President and
Chief Financial Officer and a director of Marion. Prior to that position, he
served in a number of financial and administrative positions. Prior to joining
Marion, Mr. Mehrer was a partner with the public accounting firm of Peat,
Marwick, Mitchell & Co., a predecessor firm to KPMG LLP, in Kansas City,
Missouri.
Class II Directors - Terms Expiring 2001
W. Lance Anderson, age 38, is a co-founder of NovaStar Financial, President
and Chief Operating Officer and has been a member of the Board of Directors
since 1996. His primary responsibility is to manage mortgage origination and
servicing operations. Prior to NovaStar, Mr. Anderson served as Executive Vice
President of Dynex Capital, Inc., formerly Resource Mortgage Capital, Inc., a
New York Stock Exchange listed real estate investment trust. In addition, Mr.
Anderson was President and Chief Executive Officer of Dynex' single-family
mortgage operation, Saxon Mortgage. He had been at Dynex since October 1989. Mr.
Anderson also serves as Chairman of the Board of Directors, President and Chief
Executive Officer of NovaStar Mortgage.
Gregory T. Barmore, age 57, was most recently Chairman of the Board of GE
Capital Mortgage Corporation (GECMC), a subsidiary of General Electric Capital
Corporation (GE Capital) headquartered in Raleigh, North Carolina. He has served
on the Board of Directors since 1996. He was responsible for overseeing the
strategic development of GECMC's residential real estate-affiliated financial
business, including mortgage insurance, mortgage services and mortgage funding.
Prior to joining GECMC in 1986, Mr. Barmore was Chief Financial Officer of
Employers Reinsurance Corporation (ERC), one of the nation's largest property
and casualty reinsurance companies and also a subsidiary of GE Capital. Mr.
Barmore was selected to serve on NovaStar Financial's Board as an independent
director without regard to the GE Capital investment in NovaStar Financial and
accordingly there are no arrangements with GE Capital or its affiliates
regarding his term of office or other aspects of his service on the Board.
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Committees of the Board
Audit Committee. The Audit Committee is composed of Mr. Mehrer and Mr.
Johnson. The Audit Committee makes recommendations concerning the engagement of
independent public accountants, reviews with the independent public accountants
the plans and results of any audits, reviews other professional services
provided by the independent public accountants, reviews the independence of the
independent public accountants, considers the range of audit and non-audit fees
and reviews the adequacy of internal accounting controls.
Compensation Committee. The Compensation Committee is composed of Mr.
Barmore and Mr. Mehrer. The Compensation Committee determines the compensation
of executive officers.
During 1998, there were 8 meetings of the Board of Directors, 1 meeting of
the Audit Committee and 2 meetings of the Compensation Committee. Each director
participated in at least 75% of the meetings of the Board and the committees on
which he or she served, except for Jenne Britell prior to the appointment of a
new GE Capital director.
Compensation of Directors
NovaStar Financial pays independent directors, who are not employed by
NovaStar Financial, $10,000 per year plus $500 for each meeting attended in
person. In addition, each independent director has been granted options to
purchase 5,000 shares of common stock at the fair market value of the common
stock upon becoming a director and options to purchase 2,500 shares at the fair
market value of the common stock on the day after each annual meeting of
stockholders. In addition, Mr. Barmore and Mr. Mehrer were granted options to
purchase 5,000 shares of common stock at $18 per share in connection with the
1997 initial public offering of common stock. However, as the GE Capital nominee
and pursuant to GE Capital's internal policy, Mr. Johnson does not receive any
compensation, whether fees or stock options, for his services on the Board of
Directors. All directors receive reimbursement of reasonable out-of-pocket
expenses incurred in connection with meetings of the Board of Directors. No
director who is an employee of NovaStar Financial will receive separate
compensation for services rendered as a director.
Management of NovaStar Financial
The executive officers of NovaStar Financial and their positions are as
follows:
<TABLE>
<CAPTION>
Name Position With NovaStar Financial Age
---- -------------------------------- ---
<S> <C> <C> <C>
Scott F. Hartman Chairman of the Board, Secretary and Chief Executive 39
Officer
W. Lance Anderson Director, President and Chief Operating Officer 38
Mark J. Kohlrus Senior Vice President, Treasurer and Chief Financial 39
Officer
Michael L. Bamburg Senior Vice President and Chief Investment Officer 36
</TABLE>
The executive officers serve at the discretion of the Board of Directors.
Biographical information regarding Mr. Hartman and Mr. Anderson is provided
above. Biographical information regarding Mr. Kohlrus and Mr. Bamburg is set
forth below.
Mark J. Kohlrus, age 39, is Senior Vice President, Treasurer and Chief
Financial Officer of NovaStar Financial and NovaStar Mortgage. In that role, Mr.
Kohlrus is responsible for all accounting and finance functions, including
external reporting and compliance with REIT regulations. Prior to his joining
NovaStar Financial in December 1996, Mr. Kohlrus was employed by the public
accounting firm of KPMG Peat Marwick LLP in Kansas City, Missouri, for nearly 15
years. During his tenure with KPMG, Mr. Kohlrus worked extensively in the firm's
financial services practice and was involved in several public stock and debt
offerings.
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<PAGE>
Michael L. Bamburg, age 36, is Senior Vice President and Chief Investment
Officer of NovaStar Financial and NovaStar Mortgage. Mr. Bamburg is responsible
for managing the portfolio of investments, interacting with the capital markets,
overseeing the securitization of the mortgage loan production, and developing
new business lines. Mr. Bamburg most recently served as a Principal of Smith
Breeden Associates, a financial institution consulting and money management firm
specializing in the evaluation and hedging of mortgage backed securities. Mr.
Bamburg spent over 11 years with Smith Breeden where he analyzed and traded
mortgage backed securities extensively and consulted with various financial
institutions regarding investments and asset/liability management issues. During
the last 3 years with Smith Breeden, Mr. Bamburg spent most of his time
marketing Smith Breeden's money management products.
Beneficial Ownership of Common Stock by Large Securityholders
The following table sets forth certain information known to NovaStar Financial
with respect to beneficial ownership of the common stock as of December 31, 1998
by each person other than members of management known to NovaStar Financial to
beneficially own more than 5% of the common stock. Unless otherwise indicated in
the footnotes to the table, the beneficial owners named have, to the knowledge
of NovaStar Financial, sole voting and investment power with respect to the
shares beneficially owned, subject to community property laws where applicable.
Beneficial Ownership
of Common Stock(1)
---------------------
Name and Address of Beneficial Owner Shares Percent
------------------------------------ ------ -------
Wallace R. Weitz & Company(2)................... 2,799,933 29.68%
1125 South 103rd Street, Suite 600
Omaha, NE 68124-6008
General Electric Capital Corporation(3)......... 1,333,332 15.16%
260 Long Ridge Road
Stamford, CT 06927
Lindner Dividend Fund(4)........................ 1,216,567 13.83%
7711 Carondolet Avenue, Suite 700
St. Louis, MO 63104
Residential Funding Corporation(5).............. 812,731 9.09%
8400 Normandale Lake Boulevard
Bloomington, MN 55437
First Financial Fund............................ 450,700 5.54%
c/o Wellington management Company
75 State Street
Boston, MA 02109
- ----------
(1) Assuming no exercise of warrants (except by the securityholder named,
separately).
(2) Consists of 1,305,000 shares of common stock issuable upon the exercise of
warrants.
(3) Includes 666,666 shares of common stock issuable upon the exercise of
warrants.
(4) Includes 666,667 shares of common stock issuable upon the exercise of
warrants.
(5) Consists of shares of common stock issuable upon the exercise of warrants.
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Beneficial Ownership of Common Stock by Directors and Management
The following table sets forth certain information known to NovaStar
Financial with respect to beneficial ownership of the common stock as of
December 31, 1998 by (i) each director, (ii) the executive officers, and (iii)
all directors and executive officers as a group. Unless otherwise indicated in
the footnotes to the table, the beneficial owners named have, to the knowledge
of NovaStar Financial, sole voting and investment power with respect to the
shares beneficially owned, subject to community property laws where applicable.
<TABLE>
<CAPTION>
Beneficial Ownership of
Name of Beneficial Owner Common Stock(1)
------------------------ -----------------------
Number Percent
------ -------
<S> <C> <C> <C>
Scott F. Hartman(2)..................................................... 529,065 6.40%
W. Lance Anderson(3).................................................... 539,465 6.52%
Edward W. Mehrer (4))................................................... 39,750 *
Gregory T. Barmore (5).................................................. 1,250 *
Bart O. Johnson......................................................... -- --
Michael L. Bamburg(6)................................................... 76,988 *
Mark J. Kohlrus (7)..................................................... 16,305 *
All directors and executive officers as a group (6 persons)............. 1,205,459 14.57%
</TABLE>
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* Less than 1%.
(1) Assuming no exercise of the warrants and exercisable options (except by the
listed securityholder named, separately).
(2) Consists of 390,732 shares of common stock and 128,333 warrants, including
224,066 of common stock and 20,000 of warrants owned jointly with his wife,
and 10,000 shares of common stock issuable upon the exercise of options.
(3) Consists of 395,932 shares of common stock and 133,533 warrants, including
287,599 of common stock and 25,200 of warrants owned jointly with his wife,
and 10,000 shares of common stock issuable upon the exercise of options.
(4) Consists of 24,000 of common stock and 12,000 of warrants, including 2,000
of each owned by his wife, and 3,750 shares of common stock issuable upon
the exercise of options.
(5) Consists of 1,250 shares of common stock issuable upon the exercise of
options.
(6) Consists of 46,188 shares of common stock and 23,300 warrants, including
1,228 shares of common stock owned by his wife, 300 warrants owned by his
wife, 20,110 warrants owned jointly with his wife, and 7,500 shares of
common stock issuable upon the exercise of options.
(7) Includes 9,805 shares of common stock and 1,500 warrants, all of which are
owned jointly with his wife, except for 550 shares of common stock which
are controlled by Mr. Kohlrus as custodian for his children, and 5,000
shares of common stock issuable upon the exercise of options.
Compliance with Section 16(a) of the Securities Exchange Act of 1934
Section 16(a) of the Securities Exchange Act of 1934 requires the directors
and executive officers, and holders of more than 10% of NovaStar Financial's
common stock, to file with the SEC initial reports of ownership and reports of
changes in ownership of common stock and other equity securities. Such officers,
directors and 10% stockholders are required by SEC regulation to furnish
NovaStar Financial with copies of all Section 16(a) forms they file. Based
solely on its review of such forms that it received, or written representations
from reporting persons that no Form 5s were required for such persons, NovaStar
Financial believes that, during fiscal 1998, all Section 16(a) filing
requirements were satisfied on a timely basis.
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Compensation Committee Interlocks
No interlocking relationship exists between the Board of Directors or
officers responsible for compensation decisions and the board of directors or
compensation committee of any other company, nor has any such interlocking
relationship existed in the past.
Executive Compensation
<TABLE>
<CAPTION>
Executive Officer Summary Compensation Table
Long-Term
Compensation
------------
Other Securities
Annual Underlying DER's All Other
Name and Position Year Salary Bonus Compensation Options(#) $ (5) Compensation
- -----------------
<S> <C> <C> <C> <C> <C> <C> <C>
Scott F. Hartman(1)............. 1998 $185,000 -- -- -- -- --
Chairman of the Board, 1997 $130,833 -- $549,635(4) 40,000 -- --
Secretary and Chief 1996 $70,000 -- -- 144,666 -- --
Executive Officer
W. Lance Anderson(1)............ 1998 $185,000 -- -- -- -- --
President and Chief 1997 $130,833 -- $549,635(4) 40,000 -- --
Operating Officer 1996 $70,000 -- -- 144,666 -- --
Mark J. Kohlrus(2).............. 1998 $120,000 $86,500 -- 10,000 --
Senior Vice President, 1997 $100,000 $90,000 -- 20,000 $3,300 --
Treasurer and Chief 1996 $ 4,000 -- -- 10,000 700 --
Financial Officer --
Michael L. Bamburg(3)........... 1998 $128,333 $105,000 -- 50,000 -- --
Senior Vice President and 1997 -- -- -- -- -- --
Chief Investment Officer 1996 -- -- -- -- -- --
</TABLE>
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(1) Mr. Hartman and Mr. Anderson were reimbursed for services provided by them
that were necessary and prudent in connection with the formation of
NovaStar Financial and its private placement in 1996, including payments in
lieu of salary and for expenses directly attributable to the formation of
NovaStar Financial. Mr. Hartman and Mr. Anderson are each presently
employed at a base salary of $185,000 per year.
(2) Mr. Kohlrus' employment with NovaStar Financial began on December 16, 1996.
His annual base salary was $120,000 per year beginning November 1, 1997
through December 31, 1998. Mr. Kohlrus is eligible to receive an annual
bonus of up to 75% of his annual salary.
(3) Mr. Bamburg's employment with NovaStar Financial began in February 1998 and
provided for an annual salary of $140,000 through December 31, 1998. Mr.
Bamburg is eligible to receive an annual bonus of up to 75% of his annual
salary.
(4) Represents forgiveness of one tranche of founders' forgivable debt.
(5) 1996 options granted to Mr. Hartman and Mr. Anderson which vested on the
closing of the initial public offering were granted without dividend
equivalent rights or DERs. Options granted to Mr. Kohlrus which began to
vest in December 1997 were granted with DERs. None of the 1997 and 1998
options listed were granted with DERs.
Bonus Incentive Compensation Plan. A bonus incentive compensation plan has
been established for certain executive and key officers of NovaStar Financial
and its affiliates, effective commencing with the fiscal year beginning January
1, 1998. The annual bonus pursuant to the bonus incentive compensation plan will
be paid one-half in cash and one-half in shares of common stock, annually,
following receipt of the audit for the related fiscal
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<PAGE>
year. This program will award bonuses annually to those officers out of a total
pool determined by stockholder return on equity ("ROE") as follows:
Bonus as percent of Average
ROE(1) in Excess of Base Rate(2) By: Net Worth(3) Outstanding
------------------------------------ ------------------------
zero or less 0%
greater than 0% but less than 6% 10% x (actual ROE - Base Rate)
Greater than 6% (10% x 6%) + 15% x (Actual
ROE - (Base Rate + 6%))
Of the amount so determined, one-half will be deemed contributed to the total
pool in cash and the other half deemed contributed to the total pool in the form
of shares of common stock, with the number of shares to be calculated based on
the average price per share during the preceding year. The total pool may not
exceed $1 million for fiscal years ending December 31, 1998, and December 31,
1999. For 1998, NovaStar did not contribute to this pool and no bonuses were
awarded.
- ----------
(1) "ROE" is determined for the fiscal year by averaging the monthly ratios
calculated each month by dividing the monthly net income (adjusted to an
annual rate) by its average net worth for such month. For such
calculations, the "net income" means the net income or net loss of
determined according to GAAP, but after deducting any dividends paid or
payable on preferred stock that may be issued before giving effect to the
bonus incentive compensation or any valuation allowance adjustment to
stockholders' equity. The definition "ROE" is used only for purposes of
calculating the bonus incentive compensation payable pursuant to the bonus
incentive compensation plan and is not related to the actual distributions
received by stockholders. The bonus payments will be an operating expense
of NovaStar Financial.
(2) "Base rate" is the average for each month of the ten-year U.S. Treasury
rate, plus 4%.
(3) "Average net worth" for any month means the arithmetic average of the sum
of (1) the net proceeds from all offerings of equity securities since
formation including exercise of warrants and stock options and pursuant to
the proposed DRP (but excluding any offerings of preferred stock in the
future), after deducting any underwriting discounts and commissions and
other expenses and costs relating to the offerings, plus (2) the retained
earnings (without taking into account any losses incurred in prior fiscal
years, after deducting any amounts reflecting taxable income to be
distributed as dividends and without giving effect to any valuation
allowance adjustment to stockholders' equity) computed by taking the daily
average of such values during such period.
Units Acquired with Forgivable Debt. Messrs. Hartman and Anderson each
acquired 108,333 units, each unit consisting of one share of preferred stock
which converted to common stock at the closing of the initial public offering
and one warrant, which were acquired at the price of $15 per unit on December 9,
1996. Payment for such units was made by delivering to NovaStar Financial
promissory notes, each in the amount of $1,624,995, bearing interest at 8% per
annum compounded annually and secured by the units being acquired. Interest
began accruing during the first year and is added to principal due under the
note. Thereafter, interest became payable quarterly and upon forgiveness or at
maturity of the notes, which is at the end of the fifth fiscal period.
The principal amount of the notes is divided into three equal tranches.
Payment of principal on each tranche will be forgiven, if the following
incentive performance tests are achieved:
o During the first five fiscal periods after issuance of the notes:
-- One tranche will be forgiven for each fiscal period as to which
NovaStar Financial generates a total return to investors in units
equal to or greater than 15%. The debt on the first tranche was
forgiven and NovaStar Financial recognized a non-cash charge
against earnings of $1,083,330 for the fiscal period ending
December 31, 1997.
-- At the end of each of the five fiscal periods, all remaining
tranches will be forgiven if NovaStar Financial has generated a
total cumulative return to investors in units (from date of
initial issuance of the notes) equal to or greater than 100%.
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<PAGE>
o For purposes of calculating the returns to such investors:
-- The term "fiscal period" will refer to each of five periods. The
first period commenced with the closing of the private placement
on December 9, 1996, and ended on December 31, 1997, and,
thereafter, each succeeding fiscal period extends for twelve
months and ends on each December 31.
o The term "return" for each fiscal period will mean the sum of (on a
per unit basis) (a) all cash dividends paid during (or declared with
respect to) such fiscal period per share of preferred stock (or per
share of common stock following conversion of the preferred stock upon
completion of the initial public offering), (b) any increase or
decrease in the price per share of preferred stock (or resulting
common stock) during such fiscal period, measured by using the price
per unit to investors in the private placement as the starting price
($15.00), and using the average public trading price during the last
90 days of each succeeding fiscal period for such succeeding periods
(except such shorter period as the common stock was traded in 1997),
and (c) any increase or decrease in the price per warrant during such
fiscal period, determined in the same manner as in (b). For purposes
of the fiscal period 15% return test, the total return for a given
period will be equal to the sum of (a), (b) and (c) during the period,
and for purposes of the cumulative 100% return test, the amounts in
(a), (b) and (c) will all be measured from the beginning of the first
fiscal period. The amount of that "return" will then be measured as a
percentage of the investor's investment in the units (on a per unit
basis) without regard to timing of receipt of dividends or timing of
increases in per share or per warrant prices.
o If one of the incentive tests is met, the amount of loan forgiveness
for each tranche will be the principal amount of such tranche of the
note. In addition, a loan will be made by NovaStar Financial to
Messrs. Hartman and Anderson in the amount of (1) personal tax
liability resulting from the forgiveness of debt, and (2) interest
accrued during the first year of the forgiven tranches. The note will
bear interest at a floating market rate, will be secured by that
proportionate number of shares that had secured the forgiven tranche
of the note and will mature upon the earlier of the sale of those
shares or the termination of the officer's employment. Messrs. Hartman
and Anderson have issued notes payable to NovaStar Financial for the
repayment of the tax liability and interest accrued on forgivable
notes through December 31, 1997. Unpaid principal on the notes was
$843,000 and $763,000 as of December 31, 1998 and 1997, respectively.
Interest accrues monthly at one-month LIBOR plus 1%, which was 6.54%
as of December 31, 1998, and is payable quarterly. During 1998,
NovaStar Financial accrued interest on these amounts totaling $47,000
and the founders paid interest totaling $18,000.
Stock Option Plan. NovaStar Financial's 1996 stock option plan provides for
the grant of qualified incentive stock options or ISOs, non-qualified stock
options or NQSOs, deferred stock, restricted stock, performance shares, stock
appreciation and limited stock awards, and dividend equivalent rights or DERs.
ISOs may be granted to the officers and employees. NQSOs and awards may be
granted to the directors, officers, employees, agents and consultants. Under the
terms of the plan the number of shares available for issuance is equal to 10% of
the outstanding common stock with a current cap on ISO grants at 339,332. Unless
previously terminated by the Board of Directors, the plan will terminate on
September 1, 2006.
All options have been granted at exercise prices greater than or equal to
the estimated fair value of the underlying stock. Outstanding options vest over
four years and expire ten years after the date of grant.
9
<PAGE>
The following table sets forth information concerning stock options granted
during 1998 for each of the directors and executive officers.
<TABLE>
<CAPTION>
Individual Grants
----------------------------------------------------
Potential Realizable
Percent of Value at Assumed
Total Annual Rates of
Options Stock Price
Granted to Exercise Appreciation for
Employees Price or Option Term
No. During the Base Price Expiration --------------------------
Name Granted(1) Year ($/Share) Date 5% 10%
<S> <C> <C> <C> <C> <C> <C>
Michael L. Bamburg 30,000 20% $17.01 1/28/08 $831,225 $1,323,587
Michael L. Bamburg 20,000 13% 6.38 12/30/08 207,847 330,962
Gregory T. Barmore 2,500 2% 20.81 5/14/08 84,753 134,956
Edward W. Mehrer 2,500 2% 20.81 5/14/08 84,753 134,956
Mark J. Kohlrus 10,000 7% 6.38 12/30/08 103,923 165,481
------- ---
Total to Directors and 65,000 44%
======= ===
Executive Officers
Total shares granted 148,000
=======
</TABLE>
- ----------
(1) 25% of the options granted will vest in 1999 and 25% in each year after.
The following table sets forth certain information with respect to the
value of the options as of December 31, 1998 held by the named directors and
executive officers.
Fiscal Year End Option Value
<TABLE>
<CAPTION>
Number of Securities Value of Unexercised
Shares Underlying Unexercised In-the-Money
Acquired on Value Realized Options as of Options as of
Exercise (1) December 31, 1998 December 31, 1998(2)(3)
----------- -------------- ----------------------------- ----------------------------
Name Exercisable Unexercisable Exercisable Unexercisable
<S> <C> <C> <C> <C>
Scott F. Hartman(4) 144,666 $759,497 10,000 30,000 -- --
W. Lance Anderson(4) 144,666 759,497 10,000 30,000 -- --
Gregory T. Barmore 2,500 39,350 1,250 8,750 -- $ 15,450
Edward W. Mehrer -- -- 3,750 8,750 $ 15,450 15,450
Michael L. Bamburg -- -- -- 50,000 -- --
Mark J. Kohlrus 2,500 9,075 5,000 30,000 -- 18,450
</TABLE>
- ----------
(1) The "value realized" represents the difference between the exercise price
of the option shares and the market price of the option shares on the date
the option was exercised. The value realized was determined without
considering any taxes which may have been owed.
(2) "In-the-money" options whose exercise was less than the market price of
common stock at December 31, 1998.
(3) Assuming a stock price of $6.19 per share, which was the closing price of a
share of common stock reported for the New York Stock Exchange on December
31, 199.
(4) During 1998, the founders exercised options to acquire 289,332 shares of
common stock at $15.00 per share. In payment for the acquired common stock,
the founders issued notes payable to NovaStar Financial. Unpaid principal
on the notes was $4,340,000 as of December 31, 199. During 1998, NovaStar
Financial accrued interest of $220,000 and the founders paid $78,000 in
interest.
10
<PAGE>
Employment Agreements. NovaStar Financial has entered into employment
agreements with the founders, Mr. Hartman and Mr. Anderson. Each employment
agreement provides for a term through December 31, 2001, and will be
automatically extended for an additional year at the end of each year of the
agreement, unless either party provides a prescribed prior written notice to the
contrary. Each employment agreement provides for the annual base salary
described above and for participation by the subject officer in the bonus
incentive compensation plan. Each employment agreement provides for the subject
officer to receive his annual base salary and bonus compensation to the date of
the termination of employment by reason of death, disability or resignation and
to receive base compensation to the date of the termination of employment by
reason of a termination of employment for cause as defined in the agreement.
Each employment agreement also provides for the subject officer to receive, if
the subject officer resigns for "good reason" or is terminated without cause
after a "change in control" as those terms are defined in the agreement, an
amount, 50% payable immediately and 50% payable in monthly installments over the
succeeding twelve months, equal to three times such officer's combined maximum
base salary and actual bonus compensation for the preceding year, subject in
each case to a maximum amount of 1% of the book equity value (exclusive of
valuation adjustments) and a minimum of $360,000. In that instance, the subject
officer is prohibited from competing with NovaStar Financial for a period of one
year. In addition, all outstanding options granted to the subject officer under
the 1996 stock option plan shall immediately vest. Section 280G of the Code may
limit the deductibility of the payments to such officer for federal income tax
purposes. "Change of control" for purposes of the agreements would include a
merger or consolidation of NovaStar Financial, a sale of all or substantially
all of the assets of NovaStar Financial, changes in the identity of a majority
of the members of the Board of Directors of NovaStar Financial (other than due
to the death, disability or age of a director) or acquisitions of more than 25%
of the combined voting power of NovaStar Financial's capital stock, subject to
certain limitations. Absent a "change in control," if NovaStar Financial
terminates the officer's employment without cause, or if the officer resigns for
"good reason," the officer receives an amount, payable immediately, equal to
such officer's combined maximum base salary and actual bonus compensation for
the preceding year, subject in each case to a maximum amount of 1% of book value
(exclusive of valuation adjustments) and a minimum of $120,000. If the officer
resigns for any other reason, there is no severance payment and the officer is
prohibited from competing with NovaStar Financial for a period of one year
following the resignation.
Certain Transactions
Transactions with Management. In May 1996, Messrs. Hartman and Anderson
formed NovaStar Mortgage, Inc. for the purpose of engaging in the subprime
lending business. Following NovaStar Financial's private placement, NovaStar
Mortgage began obtaining required licenses and permits, developing guidelines
for the origination of mortgage loans through its wholesale lending channel and
hiring critical senior personnel to put in place the infrastructure for its
mortgage lending and servicing operations.
Following the close of the private placement in December 1996, NovaStar
Financial moved to implement the portion of its business strategy to be
conducted through taxable affiliates. In February 1997, NFI Holding Corporation
was formed to serve as a holding company for such taxable affiliates. In March
1997, Messrs. Hartman and Anderson acquired all of the outstanding voting common
stock of NFI Holding for a total price of $20,000 and NovaStar Financial
acquired all of the outstanding non-voting preferred stock of NFI Holding for a
total price of $1,980,000. NFI Holding was additionally capitalized in 1998 with
NovaStar Financial and Messrs. Hartman and Anderson contributing $990,000 and
$10,000, respectively. The voting common stock is entitled to 1% of the dividend
distributions of NFI Holding and the preferred stock is entitled to 99% of such
distributions. At the time of acquisition of the common stock, Messrs. Hartman
and Anderson entered into an agreement of shareholders, to which NovaStar
Financial is a party, which contains certain management and control provisions
and restrictions on transfer of the common stock. The obligations of Messrs.
Hartman and Anderson under the agreement of shareholders are secured by the
pledge of their common stock in NFI Holding.
In February 1997, NFI Holding acquired all of the outstanding common stock
of NovaStar Mortgage from Messrs. Hartman and Anderson. NovaStar Mortgage
thereby became a wholly-owned subsidiary of Holding. Through NFI Holding,
NovaStar Financial thus owns a beneficial interest in 99% of the future dividend
distributions attributable to NovaStar Mortgage.
NovaStar Financial have entered into a loan purchase agreement with
NovaStar Mortgage pursuant to which NovaStar Financial agrees to buy from time
to time and NovaStar Mortgage agrees to sell mortgage loans originated or
acquired by NovaStar Mortgage. The loan purchase agreement is non-exclusive as
to both parties and provides for a
11
<PAGE>
fair market value transfer of mortgage loans, generally on a servicing-released
basis which means ownership of the loan servicing is transferred with the
mortgage loan. Also, under the terms of this agreement, if NovaStar Mortgage
chooses to sell its loan originations to other parties, it pays a fee to
NovaStar Financial for not delivering production under the purchase commitment.
The fee is 1% of the principal of the loans originated but not sold to us.
NovaStar Financial and NovaStar Mortgage also entered into a loan
subservicing agreement under which NovaStar Mortgage agrees to service mortgage
loans for NovaStar Financial initially for a fixed dollar fee per loan based on
the fee in comparable subservicing arrangements. The subservicing agreement
became effective with the commencement of NovaStar Mortgage's servicing
operation in July 1997. Separate agreements have been executed for each pool of
loans serving as collateral for NovaStar Financial's collateralized mortgage
obligations.
NovaStar Financial and NovaStar Mortgage further entered into an
administrative services outsourcing agreement, dated June 30, 1997, pursuant to
which NovaStar Mortgage will provide to NovaStar Financial on a fee basis
certain administrative services, including consulting with respect to the
development of mortgage loan products, loan underwriting, loan funding and
quality control.
Following is a summary of the fees, in thousands, which NovaStar Financial
paid to and received from NovaStar Mortgage:
Year Ended
December 31,
--------------------
1998 1997
Amounts paid to NovaStar Mortgage
Administrative fees ................ $ 7,800 $ 3,650
Loan servicing fees ................ 3,803 505
Amounts received from NovaStar Mortgage:
Purchase commitment fees ........... (5,117) --
------- -------
Net fees paid ............. $ 6,486 $ 4,155
======= =======
Indebtedness of Management. Messrs. Hartman and Anderson are indebted to
NovaStar Financial pursuant to forgivable promissory notes, notes covering the
related tax liability and notes issued to cover the exercise of options, each as
described under "Executive Compensation." The aggregate amount due on these
notes as of December 31, 1998 was $7,521,000 which is included as forgivable
notes receivable from founders and amounts due from founders in the consolidated
financial statements.
Certain Business Relationships. In connection with a commitment from
General Electric Capital Corporation to purchase units in the private placement
of units in 1996, NovaStar Financial agreed that so long as GE Capital owns at
least 10% of the outstanding common stock, assuming full exercise of all
warrants, GE Capital will have the right to appoint one director (of up to six
authorized directors) or, alternatively, to have board observation rights so
long as it maintains more than 20% of its initial investment in NovaStar
Financial. The current director serving pursuant to these provisions is Bart
Johnson, who replaced Jenne K. Britell in 1998. He is being nominated to serve
as an independent director with a term running until the 2002 annual meeting of
stockholders.
NovaStar Financial also agreed, unless GE Capital waives its compliance,
(1) to give GE Capital's insurance affiliate FGIC three years' right of first
offer to issue credit enhancements on securitizations, (2) to permit GE
Capital's mortgage company affiliate GE Capital Mortgage Corporation to sell
subprime mortgage loans, conforming to underwriting guidelines, to NovaStar
Financial on an arm's-length basis, and (3) to pay, subject to the subsequent
closing of the private placement, GE Capital's reasonable legal and consulting
fees up to $40,000 incurred in the private placement. To ensure that any
purchases of subprime mortgage loans from GE Capital Mortgage Corporation are
executed at arms-length, NovaStar Financial will obtain two independent prices
related to any such transaction.
On October 13, 1998, NovaStar Financial executed a 90-day financing
agreement with Residential Funding Corporation, secured by certain mortgage
assets. Under the terms of the agreement, NovaStar Financial borrowed $15
million to support immediate cash needs. In addition, NovaStar Financial agreed
to pay a $3 million commitment fee at maturity of the note. The resulting $18
million obligation bears interest at one-month LIBOR
12
<PAGE>
plus 5%. Additionally, subject to completion of a warrant agreement, RFC
acquired 812,731 warrants for the purchase of common stock at a price of
$4.5625, the closing price of the common stock on October 12, 1998.
On February 12, 1999, NovaStar Financial entered into several committed
lending arrangements with First Union National Bank for one year. The warehouse
line of credit and master repurchase agreements with First Union allow NovaStar
Financial to borrow up to $75 million and $300 million, respectively, and are
secured by mortgage loans. At the same time, two additional lending arrangements
were executed with First Union whereby NovaStar Financial and NovaStar Mortgage
can borrow up to $20 million secured by the residual interests of asset-backed
bonds. NovaStar Financial will issue First Union 350,000 warrants to purchase
common stock at $6.9375 per share, the closing price on February 11, 1999, in
exchange for 186,667 existing warrants at $15.00 per share.
Notwithstanding anything to the contrary set forth in any of NovaStar
Financial's previous or future filings under the Securities Act of 1933, as
amended, or the Securities Exchange Act of 1934, as amended, that might
incorporate future filings, including this proxy statement, in whole or in part,
the following report and the performance graph shall not be incorporated by
reference into any such filings.
COMPENSATION COMMITTEE REPORT
The Compensation Committee of the Board of Directors, which is comprised
exclusively of independent outside directors, administers NovaStar Financial's
executive compensation program.
NovaStar Financial's compensation programs are designed to help attract and
retain qualified and motivated individuals that will provide the leadership
required to achieve our strategic goals, which includes sustaining long-term
value based growth for stockholders. Our philosophy is to link management's
compensation to NovaStar Financial's profitability (return on stockholder
equity, or ROE) and stock price. Our philosophy is also intended to encourage
stock ownership by not only management, but all levels of employees. We believe
a significant percentage of total executive compensation should be provided
through incentive equity compensation that aligns management's interests with
those of stockholders. Our goal is to make our executives' personal net worth
heavily dependent on appreciation in the value of NovaStar Financial stock over
the long-term and their income dependent on NovaStar Financial's dividends.
NovaStar Financial strives to integrate (1) reasonable levels of base
salary, (2) annual incentive equity bonus awards tied to operating performance,
and (3) stock option awards, to ensure management has a continuing stake in the
long-term success of NovaStar Financial.
The Committee believes that senior management's base salaries are
relatively low as compared to other comparable companies with whom NovaStar
Financial competes for management personnel. However, these executives have
significant compensation potential if there are substantial returns generated to
stockholders. Executive officers are eligible to receive equity-based
compensation through the incentive bonus plan. The bonus is paid annually
one-half in cash and one-half in common stock. The program awards bonuses to
executive officers out of a total pool determined by stockholder return on
equity. The bonus pool is determined as follows:
<TABLE>
<CAPTION>
ROE in excess of Base Rate Bonus as a percent of Average Equity
- -------------------------- ------------------------------------
<S> <C>
Greater than 0% but less than 6% 10% x (Actual ROE - Base Rate)
Greater than 6% (10% x 6%) + 15% x (Actual ROE - (Base Rate + 6%)
</TABLE>
Base Rate is the average Ten Year U.S. Treasury Rate plus 4%
Under the 1996 stock option plan, annual grants of stock options are
awarded to officers and other key employees to retain and motivate such persons
to sustain and improve long-term stock performance. Stock options are granted at
the prevailing market value and have value to the holders only if NovaStar
Financial's stock price increases. Typically, grants become exercisable in four
equal annual increments.
Compensation Committee
Gregory T. Barmore
Edward W. Mehrer
13
<PAGE>
PERFORMANCE GRAPH
The following graph presents a total return comparison of NovaStar
Financial's common stock, since the initial public offering on October 30, 1997
through December 31, 1998, to the S&P Composite-500 Stock Index and the
Bloomberg Mortgage REIT Index. The total returns reflects stock price
appreciation and the value of dividends. The information has been obtained from
sources believed to be reliable but neither its accuracy nor its completeness is
guaranteed. The total return performance shown on the graph is not necessarily
indicative of future total return performance.
Total Return Comparison Since the Initial Public Offering
Through December 31, 1998
[THE FOLLOWING TABLE WAS REPRESENTED BY A LINE CHART IN THE PRINTED MATERIAL.]
$100 invested on October 31, 1997 in stock or index, including investment of
dividend.
- ----------------------------------- -------------- --------------- -------------
10/30/97 12/31/97 12/31/98
- ----------------------------------- -------------- --------------- -------------
NovaStar Financial, Inc. $100.00 $ 87.95 $ 35.41
- ----------------------------------- -------------- --------------- -------------
S&P Composite-500 Index $100.00 $107.39 $136.02
- ----------------------------------- -------------- --------------- -------------
Bloomberg Mortgage REIT Index $100.00 $ 83.22 $ 62.82
- ----------------------------------- -------------- --------------- -------------
ITEM 2 - RATIFICATION OF INDEPENDENT PUBLIC ACCOUNTANTS
The Board of Directors has selected the accounting firm of KPMG LLP to
audit NovaStar Financial's financial statements for, and otherwise act as the
independent certified public accountants with respect to the year ending
December 31, 1999. The Board of Director's selection of KPMG LLP for the current
fiscal year is being presented to stockholders for ratification at the annual
meeting. To NovaStar Financial's knowledge, neither KPMG LLP nor any of its
partners has any direct financial interest or any material indirect financial
interest in NovaStar Financial, or has had any connection since the inception of
NovaStar Financial in the capacity of promoter, underwriter, voting trustee,
director, officer or employee. A representative of KPMG LLP will be present at
the annual meeting.
The Board of Directors recommends that the shareholders vote "FOR" the proposal
to select KPMG LLP as independent certified public accountants.
14
<PAGE>
ITEM 3 - PROPOSAL TO APPROVE AN AMENDMENT TO THE
1996 EXECUTIVE AND NON-EMPLOYEE DIRECTOR STOCK OPTION PLAN
At its meeting of December 30, 1998, at the recommendation of the
Compensation Committee, the Board of Directors approved an amendment to the 1996
Executive and Non-Employee Director Stock Option Plan increasing the fixed
number of shares available for issuance to employees as "incentive stock
options" within the meaning of Section 422 of the Internal Revenue Code of 1986,
as amended. The Board of Directors recommends that the shareholders approve the
amendment.
The 1996 stock option plan provides that the total number of shares of
stock reserved and available for issuance under the plan shall equal 10% of the
number of then outstanding shares of stock. At December 30, 1998, 10% of the
outstanding shares equaled 813,006 shares. The 1996 plan also fixed the number
of those reserved shares available for employee "incentive stock options" at
339,332 shares. The proposed amendment would fix the number of reserved shares
available for employee "incentive stock options" at 813,006 shares.
On December 30, 1998, the Compensation Committee awarded options to
purchase 108,000 shares to nineteen employees of NovaStar Financial. The options
were granted as "incentive stock options" subject to the approval of
stockholders of the proposed amendment increasing the fixed number of reserved
shares available for issuance as "incentive stock options." Absent such
shareholder approval, the options granted on December 30, 1998 will be treated
as non-qualified stock options.
For further information, we refer you to the description of the stock
option plan in the discussion on "Executive Compensation" and to the
"Compensation Committee Report," each set forth elsewhere in this proxy
statement.
The Board of Directors recommends that the shareholders vote "FOR" the
proposal to amend the 1996 stock option plan.
OTHER BUSINESS
The Board of Directors knows of no other matters which may be presented for
stockholder action at the meeting. However, if other matters do properly come
before the meeting, it is intended that the persons named in the proxies will
vote upon them in accordance with their best judgments.
LEGAL PROCEEDINGS
NovaStar Financial occasionally becomes involved in litigation arising in
the normal course of business. Management believes that any liability with
respect to such legal actions, individually or in the aggregate, will not have a
material adverse effect on NovaStar Financial's financial position or results of
operations.
STOCKHOLDER PROPOSALS -2000 ANNUAL MEETING
Stockholders are entitled to present proposals for action at a forthcoming
stockholder's meeting if they comply with the requirements of the proxy rules.
Any proposals intended to be presented at the 2000 annual meeting of
stockholders must be received at NovaStar Financial's offices on or before
December 1, 1999 in order to be considered for inclusion in the proxy statement
and form proxy relating to such meeting.
BY ORDER OF THE BOARD OF DIRECTORS
/s/ Scott F. Hartman
Chairman of the Board and Secretary
Westwood, Kansas
March 25, 1999
