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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934.
For the fiscal year ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934.
For the transition period from_________ to _________
Commission file number 0-28706
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FIRST ALLIANCE CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 33-0721183
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(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
17305 VON KARMAN AVENUE, IRVINE, CALIFORNIA 92614
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(Address of principal executive offices) (zip code)
Registrant's telephone number, including area code (949) 224-8500
Securities registered pursuant to Section 12(b) of the Act: None
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
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Class A Common Stock, par value $0.01 NASDAQ National Market System
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities and Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment of this
Form 10-K. [ ]
As of February 1, 1999, the aggregate market value of voting stock held by
nonaffiliates of registrant was approximately $18.8 million.
As of February 1, 1999, the issuer had outstanding, net of treasury shares,
18,139,488 shares of Class A Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE:
The information required by Part III, Items 10, 11, 12 and 13 is
incorporated by reference to First Alliance Corporation's proxy statement which
will be filed with the Commission not more than 120 days after December 31,
1998.
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<PAGE>
PART I
ITEM 1. BUSINESS
GENERAL
First Alliance Corporation ("FACO"), together with its subsidiaries (the
"Company"), is a financial services organization principally engaged in mortgage
loan origination, purchases, sales and servicing. Loans originated by the
Company through its retail branch offices primarily consist of fixed and
adjustable rate loans secured by first mortgages on single family residences.
The majority of the Company's loans are made to owners of single family
residences who use the loan proceeds for such purposes as debt consolidation and
financing of home improvements. Typically, the Company's borrowers are
individuals who do not qualify for conventional loans because of impaired or
unsubstantiated credit characteristics and/or unverifiable income, and whose
borrowing needs are not met by conventional lending institutions. Other
borrowers include individuals who may qualify for a conventional loan but find
the Company's loans attractive due to the Company's personalized service and
rapid funding capability. The Company either securitizes the loans in a trust or
sells them to wholesale purchasers. Loans sold to wholesale purchasers are sold
on a servicing released basis. The Company currently services 10,853 loans,
representing a balance of approximately $866 million. Of such balance, 43%
represent loans secured by California properties. A significant portion of the
mortgages are securitized with the Company retaining the right to service the
loans. The Company is currently licensed to engage in the mortgage finance
business in 18 states, the District of Columbia and the United Kingdom.
To identify potential customers, the Company utilizes a proprietary
marketing methodology. This methodology focuses on a distinct segment of the
home equity lending market. This segment represents homeowners believed by
management, based on historic customer profiles, to be pre-disposed to using the
Company's products and services, and who satisfy its underwriting guidelines.
Using information obtained from a variety of outside sources for new and
existing markets, the Company develops a list of homeowners ("Homeowners") with
characteristics that make them likely customers. The Company then focuses its
telemarketing and mailing efforts on these identified Homeowners.
Prior to 1994, all of the Company's operations were conducted from retail
branch offices located in California. Since 1994, the business strategy of the
Company has been to expand its retail branch office operations to states other
than California in order to maximize opportunities that exist in new markets.
Currently, the Company has 32 retail branch offices in the United States, and
has identified additional locations in the Company's current markets in which it
may open new retail branch offices in the future.
The Company is primarily a retail originator of loans, with 86% of its loan
volume in 1998 coming from its retail branch operations. Besides a strong
emphasis placed on its marketing and sales efforts, the Company provides a high
degree of personalized service and timely response to loan applications.
Historically, the Company's customers have been willing to pay the Company's
loan origination fees and interest rates which are typically higher than those
charged by conventional lending institutions.
The Company has maintained conservative underwriting guidelines when
originating and purchasing loans. The predominant portion of the Company's loans
originations carry relatively low loan-to-value ("LTV") ratios, which mitigates
the credit risk associated with such obligations. In conjunction with the
Company's disciplined collection and foreclosure practices, this approach has
allowed the Company to maintain low delinquency and loan losses relative to
others in the industry. In addition, the Company originates loans with higher
levels of credit risk to earn origination fees, however, it generally sells such
loans on a servicing released basis to companies with higher LTV risk tolerance.
RECENT DEVELOPMENTS
In April 1998, the Company discontinued its high LTV loan origination
program because adverse changes in the secondary market for these loans
significantly reduced the profitability of this program. Since the inception of
the program in July 1997, less than $4.0 million of high LTV loans were
originated by the Company.
1
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In June 1998, the Company discontinued its low LTV loan purchase program.
The Company's decision to discontinue this program is attributable to lower than
expected results in marketing, including lower than expected additional
borrowings by homeowners with low LTV loans. Purchases related to this program
totaled $24.5 million and $61.5 million in 1998 and 1997, respectively.
During the fourth quarter of 1998, the Company's $175 million, $125 million,
and (pound)50 million warehouse financing facilities expired and were not
renewed. In December 1998, the Company entered into a $150 million warehouse
financing facility and a secured term loan facility of approximately $66
million. As partial consideration for the $150 million warehouse financing
facility, the Company agreed to grant the warehouse lender stock warrants. These
stock warrants give the lender the option to purchase one percent (1%) of the
Company's then outstanding Common Stock on a diluted basis, and become effective
in February 1999. The $66 million secured term loan facility was entered into
with a Company owned by the majority stockholders of FACO, Brian and Sarah
Chisick. This facility matures as the underlying United Kingdom pledged
mortgages are liquidated.
In December 1998, the Company discontinued both loan originations in the
United Kingdom and also the marketing efforts with regard to its real estate
secured credit card program. The discontinuation of such programs was primarily
due to results that were lower than initially anticipated. The Company will
continue to service the existing United Kingdom loans of approximately (pound)38
million and credit card accounts of approximately $26 million. The Company
currently intends to hold the United Kingdom loans to maturity, and therefore
has reclassified such from loans held for sale to loans receivable held for
investment. The Company does not believe that the discontinuation of these
programs will have a material effect on the Company's financial condition,
result of operations or cash flows.
RETAIL BRANCH EXPANSION
As part of its continuing retail branch network expansion, the Company
opened 6 branch offices in 4 states during 1998. The Company opened seven branch
offices in both 1997 and 1996.
MARKETING AND SALES
MARKETING
The Company's marketing efforts are designed to identify individuals who,
based on the Company's historic customer profiles, display a statistical
likelihood for becoming a consumer of the Company's products and services and,
at the same time, satisfy the Company's underwriting guidelines. The Company
believes its focused marketing approach results in a lower overall marketing
cost per funded loan as compared to a broad indiscriminate marketing approach
aimed at a wide range of homeowners.
The Company utilizes a proprietary marketing methodology to subjectively
analyze the Company's historical customer base to identify characteristics
common to its customers. These common characteristics are integrated with
information obtained from a number of outside sources related to the homeowner
pool in new or existing markets. The characteristics of individual homeowners
and their properties in the homeowner pool are compared with characteristics
common to the Company's historical customer base to identify and locate
Homeowners with characteristics that make them likely to become customers for
the Company's products and services and to satisfy its underwriting guidelines.
MAILING CAMPAIGNS AND TELEMARKETING
The Company's mailing and telemarketing campaigns focus on Homeowners in the
communities surrounding its 32 retail branch offices. These campaigns focus on
the multiple benefits of the Company's services and loan products. The Company
distributes over 1.7 million pieces of mail monthly. All of the Company's
mailing campaigns originate from its mail processing center in Irvine,
California. The Company's mailing campaigns result in over 4,000 inbound loan
inquiry calls from Homeowners monthly. The Company continually monitors the
effectiveness of each of its mailing and telemarketing campaigns and continues,
modifies or discontinues a particular campaign based on the results of such
monitoring.
2
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The Company's telemarketing department handles both inbound and outbound
calls from and to Homeowners and existing customers. Substantially all of the
inbound calls are from Homeowners responding to the Company's mailing campaigns.
The Company monitors the effectiveness of each mailing campaign by tracking
which campaign is the source of each inbound call. The outbound telemarketing
department uses computerized predictive dialers to continually solicit the
Homeowners and the Company's current borrowers.
The telemarketing representative's responsibility is to describe the
benefits of the Company's products and services, obtain information about the
Homeowner, the subject property and the purpose of the loan and schedule an
appointment to have a Company appraiser visit and inspect the subject property
(an "Appraisal Appointment").
Individual telemarketing representatives are rated and compensated based on
the number of Appraisal Appointments set. The Company monitors the performance
of its telemarketing staff on a weekly and monthly basis.
APPRAISAL
The Company's valuation process occurs throughout the loan application
process. In many cases, the first stage valuation occurs immediately after a
telemarketing representative sets an Appraisal Appointment. Staff at the
Company's headquarters gather publicly available information with respect to
recent sales of comparable properties in the same area as the subject property.
The estimated value of the subject property is verified by the comparable sales
data. Only properties that satisfy this stage of the initial underwriting
process will be verified and forwarded to the respective retail branch offices
for Appraisal Appointments.
The property is appraised typically within two days of the initial
telemarketing contact. This appraisal, which provides a valuable marketing
opportunity, is the applicant's first face-to-face contact with the Company's
representatives. The appraiser's responsibilities are to perform a complete
technical appraisal of the subject property and schedule an appointment with a
loan officer (a "Sales Appointment").
Senior appraisers at the Company's headquarters perform a desk review of the
property appraisal on the following loan applications: (i) all properties with a
market value above $250,000 or less than $100,000, (ii) all loan applications
with a combined LTV equal to or greater than 68%, (iii) all loan applications
prepared by a new retail branch office for the first 90 days of its existence,
(iv) all income properties, and (v) approximately 10% of the loan applications
not otherwise reviewed.
Unlike many of its competitors in the United States, the Company does not
use independent fee-based appraisers. Instead, the company recruits, hires and
trains its own field and desk appraisers. In connection with each securitization
of the Company's loans, independent appraisers have conducted appraisals on a
randomly selected sample of the subject properties that are the collateral for
the securitized loans. The valuations of the sample properties determined by the
Company's appraisers have, on average, been 2.75% more conservative than the
valuations determined by such independent appraisers.
The Company hires certified or licensed appraisers in those states which
require such designations. Individual retail branch office appraisers are rated
and compensated based on the ongoing quality of appraisals performed and the
number of Sales Appointments set. The Company monitors the performance of its
appraisers on a weekly and monthly basis.
RETAIL BRANCH OPERATIONS
The retail branch offices are responsible for the next step in the sales
process that, if successful, converts the Sales Appointments set by the
appraisers into underwritten loan files to be submitted to the Company's quality
control department. Each Sales Appointment allows the sales personnel to clearly
determine the applicant's need for financing, tailor a loan program to fit the
applicant's financial needs, perform preliminary underwriting and provide to the
applicant a choice of loan products and a detailed explanation of the various
loan terms.
3
<PAGE>
The loan officer utilizes a loan origination software system developed by
the Company to preliminarily determine an applicant's qualification for the
various products offered by the Company. The loan origination software system
incorporates the Company's underwriting guidelines with respect to collateral,
credit quality, character, and capacity to repay. The retail branch loan officer
or branch manager will run a credit report for each applicant. The Company
utilizes a mortgage rating and/or credit score ("FICO Score") derived from a
credit scoring model developed by an independent third party. Based upon such
factors, an applicant is preliminarily designated as an "A," "B," "C" or "D"
risk. This designation is reviewed by the Company's centralized quality control
and underwriting department before final approval.
The typical retail branch office consists of a branch manager, one or two
loan officers, one or two appraisers and one or two loan processors. The Company
generally recruits and hires its loan officers in the location of the branch
office. The Company focuses on candidates with professional sales experience for
loan officer positions. Loan officer and branch manager candidates are required
to successfully complete four weeks of sales and technical underwriting training
to learn the Company's sales presentation and lending procedures prior to their
placement in a retail branch office. Retail branch office sales personnel are
required to attend quarterly regional sales and technical training meetings.
Loan officers and branch managers are rated and compensated based on loans
funded. The Company strives to develop its loan officers and to promote the most
qualified loan officers to branch managers. The Company monitors the performance
of its loan officers and branch managers on a weekly and monthly basis.
LOAN ORIGINATION AND ACQUISITION THROUGH THIRD PARTY ORIGINATORS
The Company has historically augmented its loan production by purchasing
loans from other affiliated and unaffiliated originators. The Company and these
originators have entered into mortgage loan purchase agreements which require
specified minimum levels of experience in origination of non-conforming mortgage
loans and provide representations, warranties and buy-back provisions which are
substantially similar to the representations and warranties required of the
Company for the securitization of its own loan originations.
UNDERWRITING
The main underwriting and quality control functions are centralized at the
Company's headquarters. The most significant of the Company's underwriting
functions are performed by senior management. The Company maintains quality
control and underwriting departments. The Company strives to process each loan
application received from its retail branch office network as quickly as
possible in accordance with the Company's loan application approval procedures.
Accordingly, most loan applications receive decisions within three days of
receipt and are funded within 18 days of approval.
After a full review by the quality control department, each initial loan
application file is forwarded to the loan committee for approval. Loans that
clearly conform to the Company's underwriting guidelines are approved at the
first level of review. Other loans that present more complicated underwriting
issues are reviewed by senior underwriting personnel.
The decision of the loan committee to approve, decline or modify a loan is
based upon a number of factors, including the appraised value of the property,
the applicant's credit quality and the Company's perception of the applicant's
ability to repay the loan. With respect to the value of the collateral, loans
secured by first mortgages are generally limited to a maximum 75% combined LTV;
however, the Company will originate loans with a combined LTV of up to 90% for
loans expected to be sold on a whole loan basis. Loans secured by second
mortgages are limited to a maximum 75% combined LTV. The Company has established
classifications with respect to the credit profiles of loans and subject
properties based on certain of the applicant's characteristics. Each loan
application is placed into one of the Company's four ratings ("A" through "D,"
with subratings within those categories), depending upon the following primary
factors: (i) an applicant's mortgage rating, (ii) an applicant's FICO Score, and
(iii) combined LTVs. Terms of loans made by the Company vary depending upon the
classification of the application, the debt to income ratio and other factors.
Applications with lower classifications generally are subject to higher interest
rates due to the increased risk inherent in the loan. The table below indicates
the minimum credit ratings and maximum LTV by credit risk:
4
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<TABLE>
<CAPTION>
"A/A-" "B/B-" "C/C-" "D"
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Minimum Mortgage Rating (1) 2 x 30 2 x 30 12 x 30 12 x 30
0 x 60 1 x 60 12 x 60 12 x 60
- - 12 x 90 12 x 90
- - 1 x 120 2 x 120
- - 1 x 150
Minimum FICO Score.............. 650 575 500 0
Maximum LTV..................... 80% 75% 70% 65%
</TABLE>
(1) The mortgage rating is comprised of two components. The first component
represents the number of times the borrower has been delinquent,
whereas the second component represents the number of days delinquent.
For example, 2 x 30 represents a borrower who has been 30 days
delinquent twice.
In addition to the above criteria, the Company requires higher interest
rates on loans with certain risk factors. These factors include, among others,
an unsubstantiated employment history, a recent foreclosure proceeding, a number
of recent delinquent payments on an existing mortgage, a recent bankruptcy
filing, non-owner occupied properties, rural properties or the presence of a
senior mortgage or zoning restrictions on the subject property.
The following table reflects the risk classifications of the Company's loan
originations and purchases in 1998:
<TABLE>
<CAPTION>
TOTAL WEIGHTED
(DOLLARS IN % OF AVERAGE INITIAL
LOAN CLASSIFICATION THOUSANDS) TOTAL INTEREST RATE
- ------------------------------------ ----------- ------- ---------------
<S> <C> <C> <C>
"A" Risk............................ 204,060 38.2 9.02
"B" Risk............................ 204,821 38.4 9.39
"C" Risk............................ 117,455 22.0 9.71
"D" Risk............................ 7,257 1.4 10.78
----------- ------- ---------------
Total............................ 533,593 100.0 9.34
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</TABLE>
5
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LOAN ORIGINATIONS AND PURCHASES
The following table presents selected information relating to the
origination and purchase of loans by the Company for the years ended December
31:
<TABLE>
<CAPTION>
1996 1997 1998
------ ------ ------
<S> <C> <C> <C>
Type of property securing loan:
Single-family........................... 95% 91% 89%
Multi-family and other.................. 5 9 11%
====== ====== ======
100% 100% 100%
====== ====== ======
Type of mortgage securing loan:
First lien.............................. 99% 99% 99%
Junior lien............................. 1 1 1%
====== ====== ======
Total....................................... 100% 100% 100%
====== ====== ======
Weighted average interest rate.............. 9.6% 9.5% 9.3%
Weighted average initial combined LTV (1) .. 62.2% 62.5% 65.3%
</TABLE>
(1) The LTV of a loan secured by a senior mortgage is determined by dividing
the amount of the loan by the appraised value of the mortgaged property
at origination. The combined LTV of a loan secured by any junior
mortgage is determined by taking the sum of the loan secured by such
mortgage and any senior mortgages and dividing by the appraised value of
the mortgaged property at origination.
LOAN SALES
SECURITIZATION
In a securitization, the Company exchanges loans for regular interest
certificates and residual interest certificates in a trust. The regular interest
certificates are immediately sold by the Company to the public for cash. As the
holder of the residual interest certificates, the Company is entitled to receive
certain excess cash flows. These excess cash flows are the difference between
(a) the principal and interest paid by borrowers and (b) the sum of (i)
scheduled principal and interest paid to holders of the regular interest
certificates, (ii) trustee fees and master servicer fees, (iii) third-party
credit enhancement fees, (iv) servicing fees and (v) loan losses. The Company
begins receiving these excess cash flows after certain overcollateralization
requirements, which are specific to each securitization and are used as a means
of credit enhancement, have been met.
The Company arranges for credit enhancement to achieve an improved credit
rating on the regular interest certificates issued. This credit enhancement
generally takes the form of an insurance policy, issued by a monoline insurance
company, ensuring the holders of the regular interest certificates of timely
payment of scheduled principal and ultimate payment of scheduled interest at the
pass-through rate. In addition, the securitization trust structure typically
includes overcollateralization as an additional means of credit enhancement. The
purpose of the overcollateralization is to provide a source of payment in the
event of higher than anticipated loan losses. Overcollateralization requirements
may include an initial deposit, the sale of loans at less than par or retention
in the securitization trust of collections from the pool until a specified
overcollateralization amount has been attained. This retention of excess cash
flow creates a faster amortization of the scheduled balance of the regular
interest certificates than the amortization of the principal balance of the
mortgage loans in the securitization pool. Losses resulting from defaults by
borrowers on a payment of principal or interest on the loans in the securitized
pool will reduce the overcollateralization to the extent that funds are
available and may result in a reduction in the value of the residual interest
certificates held by the Company. If payment defaults exceed the amount of
overcollateralization and excess cash flows, the insurance policy will pay any
further losses experienced by holders of the regular interest certificates in
the related securitization trust.
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Generally, the Company sells loans to a securitization trust at face value,
except when it sells loans at less than par for overcollateralization purposes.
Loans are sold without recourse except for certain representations and
warranties provided by the Company. Under the terms of the pooling and servicing
agreements entered into in connection with a securitization, the Company may be
required either to repurchase or to replace loans that do not conform to such
representations and warranties. To date, the Company has not been required to
substitute or repurchase any such loans.
The Company retains the right to service loans it securitizes. In addition
to management servicing fees, the Company also receives prepayment penalties and
other ancillary servicing fees on securitized loans.
Gains on servicing retained-sales of loans through securitization represent
the difference between the net proceeds to the Company in the securitization and
the allocated cost of loans securitized. In accordance with SFAS No. 125, the
allocated cost of the loans securitized is determined by allocating their
acquisition cost (for purchased loans) or net carrying value (for originated
loans) between the loans securitized, the residual interests, and the mortgage
servicing rights retained by the Company based upon their relative fair values.
At origination, the Company classifies the residual interests as trading
securities, which are recorded at fair value. The difference between fair value
of residual interest certificates and their allocated cost is recorded as gain
on securitization and is included in loan origination and sale revenue.
WHOLE LOAN SALES
Certain loans originated by the Company are not chosen for inclusion in a
securitization. These loans may include loans with higher combined LTVs and/or
loans that have higher credit risk. The Company will originate these loans to
earn the origination fees and will then sell such loans to wholesale purchasers
on a servicing released basis to avoid the credit risks related to such loans.
The Company anticipates that it will continue to sell certain loans on a whole
loan basis.
INTEREST RATE RISK MANAGEMENT
The Company's profitability is in part determined by the difference, or
"spread," between the effective rate of interest receivable on the loans
originated or purchased by the Company and the pass-through interest rates
payable to regular interest certificates issued in securitizations. Between the
time a loan commitment is made or a loan is purchased and the time such loan is
sold or securitized, the spread can be adversely affected by increases in the
interest rate demanded by purchasers or investors in the Company's
securitizations.
The Company has implemented a hedging program designed to provide a level of
protection against the impact of rapid changes in interest rates on the value of
domestic fixed rate loans from the time the Company commits to fund or purchase
such loans to the date of their securitization or sale. The Company does not
hedge the interest rate risk associated with holding adjustable rate mortgages
pending their securitization or sale due to the decreased significance of such
risk as the pass-through rates for regular interest certificates related to the
Company's adjustable rate mortgage pools are also adjustable.
The Company's hedging program, which was initiated in 1994, has been limited
to selling short or forward sales of United States Treasury securities and
prefunding loan originations in its securitizations. United States Treasury
securities are utilized by the Company due to the liquidity of the market for
such securities and the high degree of correlation between such securities and
the pass-through interest rates for regular interest certificates in the
Company's fixed rate mortgage pools. Prefunding allows the Company to fix the
relationship between the interest rates charged on the loans and the
pass-through rates for the regular interest certificates by permitting the
Company to deliver loans to a securitization trust after the date of its
closing.
The Company may utilize various financial instruments in its hedging
activities. The nature and quantity of hedging transactions are determined by
the Company's management based on various factors, including market conditions
and the expected volume of mortgage loan originations and purchases. To decrease
market risk, only highly liquid instruments are utilized in the Company's
hedging activities. By their nature, however, all such instruments involve
risks, and the maximum potential loss may exceed the value at which such
instruments are carried. As is customary for these types of instruments, the
Company does not require collateral or other security from counterparties to
these instruments. The Company manages its credit exposure to counterparties
through credit approvals, credit limits and other monitoring procedures.
7
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The Company's hedging program, which was initiated in 1994, has been limited
to selling short or forward sales of United States Treasury securities and
prefunding loan originations in its securitizations. United States Treasury
securities are utilized by the Company due to the liquidity of the market for
such securities and the high degree of correlation between such securities and
the pass-through interest rates for regular interest certificates in the
Company's fixed rate mortgage pools. Prefunding allows the Company to fix the
relationship between the interest rates charged on the loans and the
pass-through rates for the regular interest certificates by permitting the
Company to deliver loans to a securitization trust after the date of its
closing. See Statement of Financial Accounting Standard No. 133, "Accounting for
Derivative Instruments and Hedging Activities," under the effects of recent
accounting pronouncements section.
FOREIGN CURRENCY RISK
In December 1998, the Company entered into an approximately $66 million
secured term loan facility in order to provide long-term financing for its
United Kingdom subsidiary. The underlying collateral for the facility represents
United Kingdom mortgage loans. Consequently, the Company bears a foreign
currency risk between the assets held by the United Kingdom subsidiary and the
obligation of debt. The Company is currently in the process of evaluating the
possibilities of entering into a foreign currency hedge to protect itself from
foreign currency fluctuations.
SERVICING
The Company retains the right to service the loans on behalf of the
different trusts established at the time of securitization. Loan servicing
includes collecting payments from borrowers, remitting payments to investors who
have purchased the certificates issued by the trusts, advancing delinquent
payments, and other advances as needed to protect the certificate holders,
investor reporting, accounting for principal and interest, contacting delinquent
borrowers, conducting foreclosure proceedings and disposing of foreclosed
properties. The Company's servicing portfolio included 10,853 loans with an
outstanding balance of $866 million as of December 31, 1998. Approximately $64
million of the outstanding balance of $866 million represented United Kingdom
loans. The Company receives management servicing fees ranging from 0.5% to 2.0%
per annum for fixed rate loans and 0.5% to 1.0% per annum for adjustable rate
loans, based upon the outstanding principal balance of loans serviced. The
Company currently services only Company originated or purchased loans.
The Company has a computer-based loan servicing system that enables it to
provide effective and efficient processing of loans. The system, which is able
to service fixed and adjustable rate loans as well as loans denominated in
dollars or pounds sterling, provides the Company with, among other things,
payment-processing, cashiering, collection and reporting functions.
8
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The Company believes its disciplined collection practices contribute to the
relatively low delinquency and loss rates on its servicing portfolio. The
following table illustrates the timeline of the Company's collection practices,
assuming (i) the loan is originated in California, and (ii) a ten-day grace
period applies by contract or under applicable law:
TIME (1) EVENT
------------------------------ --------------------------------
1st day of the month.......... Borrower loan payment due.
11th day of the month......... Payment not received is late.
12th day of the month......... Notice of past due payment
mailed to borrower.
20th day of the month......... Notice of foreclosure mailed
to borrower.
26th day of the month......... Final notice mailed to borrower.
42 days after due date........ File forwarded to foreclosure
department which records notice
of default after 45th day of
delinquency.
After notice of default or
similar notice is recorded.... Borrower informed of status and
Company's reinstatement period
dates.
During the reinstatement
period........................ Pre-foreclosure property
inspection and valuation
performed.
End of the reinstatement
period........................ Notice of trustee's sale
recorded and trustee's sale date
scheduled. Property sold to
third party or acquired on
behalf of the Company or a
securitization trust.
(1) In other states and the United Kingdom, the Company's collection
procedures described above may occur sooner or later depending upon
applicable foreclosure regulations.
The borrower is contacted by telephone prior to recording the notice of
default to inform the borrower of the situation. If the borrower does not bring
the loan current within the reinstatement period, a notice of sale is published
and a trustee's sale date is scheduled. During this period of time, the Company
performs a pre-foreclosure inspection and valuation of the property to determine
whether changes in the value of the property have occurred since the date of
origination. If the loan is not reinstated, the property is either sold to a
third party at the trustee's sale or acquired on behalf of the Company. The
Company forecloses as quickly as state regulations allow. The Company contracts
on a nationwide basis with several independent foreclosure service companies to
facilitate the foreclosure process for properties located outside California.
For loans originated within California, the Company performs all foreclosure
procedures internally. Properties acquired by the Company are managed with the
objective of immediate disposal.
The Company's loan servicing software also allows the Company to track and
maintain impound accounts and hazard and flood insurance information. Periodic
expiration reports list all policies scheduled to expire within 30 days. When
policies lapse, a letter is issued advising the borrower of the lapse and that
the Company will obtain force placed insurance at the borrower's expense.
Additionally, the Company maintains a blanket insurance policy that provides
fire insurance coverage for the Company in the event that the Company fails to
obtain force placed insurance in a timely manner upon expiration of the
homeowner's policy.
Regulation and practices regarding the foreclosure of properties and the
rights of the borrower in default vary greatly from jurisdiction to
jurisdiction. Loans originated by the Company are secured by mortgages, deeds of
trust, trust deeds, security deeds or deeds to secure debt, depending upon the
prevailing practice in the state in which the property securing the loan is
located. Depending on local law, foreclosure is effected by judicial action
and/or non-judicial sale, and is subject to various notice and filing
requirements. If foreclosure if effected by judicial action, the foreclosure
proceedings may take several months.
In general, the borrower, or any person having a junior encumbrance on the
real estate, may cure a monetary default by paying the entire amount in arrears
plus other costs and expenses incurred in enforcing the obligation during a
statutorily prescribed reinstatement period.
9
<PAGE>
There are a number of restrictions that may limit the Company's ability to
foreclose on a property. A lender may not foreclose on the property securing a
junior mortgage loan unless it forecloses subject to each senior mortgage.
Moreover, if a borrower has filed for bankruptcy protection, a lender may be
stayed from exercising its foreclosure rights. Also, certain states provide a
homestead exemption that may restrict the ability of a lender to foreclose on
residential property. In such states, the Company requires the borrower to waive
his or her right of homestead as a requirement of the loan. Such waivers of
homestead rights may not be enforceable in certain states.
Although foreclosure sales are typically public sales, frequently no third
party purchaser bids in excess of the amount of the lender's lien. Such a lack
of bidding is due to several factors, including the possible deterioration of
the property during foreclosure proceedings and the requirement that the
purchaser pay for the property in cash or by cashier's check. Thus, the
foreclosing lender often purchases the property from the trustee and
subsequently re-markets the property. Depending upon market conditions, the
proceeds of the subsequent resale by the Company may not be adequate to cover
the investment in the loan.
CURRENT MARKETS AND EXPANSION PLANS
CURRENT MARKETS
The Company originates loans through 32 retail branch offices located
throughout the United States. The Company believes that originating loans
through an extensive retail branch office network not only results in the most
profitable loan origination strategy due to the significant level of loan
origination fees earned by the Company, but also results in low delinquencies
and losses due to the Company's conservative underwriting criteria.
Although the Company is licensed to originate loans in 18 states, the
District of Columbia and the United Kingdom, its business has historically been
concentrated in California. While this concentration has declined, California
remains a significant part of the Company's business and contributed 26% of the
Company's total loan originations and purchases for 1998. Expansion outside
California began in late 1994. The number of retail branch offices within
California has declined from a historical high of eleven in 1992 to eight as of
December 31, 1998.
The following table shows the geographic distribution of the Company's loan
originations and purchases for the years ended December 31:
1996 1997 1998
------ ------ ------
United States:
California.............. 38% 21% 26%
New York................ 3 13 10
Illinois................ 14 11 8
New Jersey.............. 3 9 12
Washington.............. 11 7 4
Oregon.................. 6 5 4
Florida................. 7 4 2
Colorado................ 4 4 3
Others states........... 13 20 23
United Kingdom.............. 1 6 8
====== ====== ======
Total................. 100% 100% 100%
====== ====== ======
NATIONAL GEOGRAPHIC EXPANSION
The Company intends to continue to expand its existing retail branch office
network. The Company's expansion strategy involves (i) identifying areas with
demographic statistics comparable to existing markets in which the Company has
been successful in originating loans, (ii) understanding each new market's
regulatory requirements and tailoring the Company's loan programs and practices
to comply with such requirements, and (iii) identifying and training branch
managers and loan officers for each new retail branch office.
10
<PAGE>
The Company believes that its products and services are best suited for
those housing markets with home values near the nation's averages. After
identifying a potential new market, the Company contracts with regional or
national companies to gather publicly available information with respect to that
market and to integrate such information with the Company's proprietary
marketing methodology. The Company produces a list of Homeowners whom the
Company believes, based on its historic customer profile, are likely to utilize
the Company's products and services and satisfy the Company's underwriting
guidelines. The Company then focuses its marketing efforts on these Homeowners
in each new market.
The Company has generally entered into short-term leases for its retail
branch offices. Additionally, the Company generally recruits and hires the
personnel required to staff its retail branch offices from the area near the new
market. Branch managers of new retail branch offices are generally branch
managers of existing retail offices or loan officers promoted from existing
retail branch offices.
The Company's retail branch office expansion strategy is dependent upon the
Company's ability to obtain new and renew state lending licenses.
COMPETITION
As a consumer finance company, the Company is subject to intense
competition. Traditional competitors in the financial services business include
other mortgage banking companies, mortgage brokers, commercial banks, credit
unions, thrift institutions, credit card issuers and finance companies. Many of
these competitors in the consumer finance business are substantially larger and
have considerably greater financial, technical and marketing resources than the
Company. Competition can take many forms including convenience in obtaining a
loan, customer service, marketing and distribution channels, amount of the loan,
loan origination fees and interest rates.
The Company believes that its 1998 record has proven that it is able to
compete on the basis of providing prompt and responsive service, consistent
underwriting and competitive loan programs to borrowers whose needs are not met
by conventional lending institutions.
REGULATION
The Company's business is subject to extensive regulation at both the
federal and state level. Regulated matters include loan origination, credit
activities, maximum interest rates and finance and other charges, disclosure to
customers, terms of secured transactions, the collection, repossession and
claims handling procedures utilized by the Company, multiple qualification and
licensing requirements for doing business in various jurisdictions and other
trade practices.
TRUTH IN LENDING
The Truth in Lending Act ("TILA") and Regulation Z promulgated thereunder
contain certain disclosure requirements designed to provide consumers with
uniform, understandable information with respect to the terms and conditions of
loans and credit transactions in order to give them the ability to compare
credit terms. TILA also guarantees consumers a three day right to cancel certain
credit transactions including loans of the type originated by the Company.
Management of the Company believes that it is in compliance with TILA in all
material respects. If the Company were found not to be in compliance with TILA,
aggrieved borrowers could have the right to rescind their loans and to demand,
among other things, the return of finance charges and fees paid to the Company.
In September 1994, the Riegle Act was enacted. Among other things, the
Riegle Act makes certain amendments to TILA (the "TILA Amendments"). The TILA
Amendments generally apply to mortgage loans (other than mortgage loans to
finance the acquisition or initial construction of a dwelling) with (i) total
loan origination fees and other fees upon origination in excess of the greater
of eight percent of the total loan amount or a certain dollar amount (currently
$435) or (ii) an annual percentage rate of more than ten percentage points
higher than comparably maturing U.S. Treasury securities ("Covered Loans"). The
Company estimates that substantially all of the loans currently originated and a
portion of the loans purchased by the Company are Covered Loans.
11
<PAGE>
The TILA Amendments impose additional disclosure requirements on lenders
originating Covered Loans and prohibits lenders from engaging in a pattern or
practice of originating Covered Loans that are underwritten solely on the basis
of the borrower's home equity without regard to the borrower's ability to repay
the loan. Consistent with its underwriting practices with respect to all loans,
the Company applies to all Covered Loans underwriting criteria that take into
consideration the borrower's ability to repay.
The TILA Amendments also prohibit lenders from including prepayment fee
clauses in Covered Loans to borrowers with a monthly debt-to-income ratio in
excess of 50% or Covered Loans used to refinance existing loans originated by
the same lender or an affiliate of such lender. The Company reported $4.3
million, $3.5 million and $4.0 million in prepayment fee revenue in fiscal year
1998, 1997 and 1996, respectively. The Company will continue to collect
prepayment fees on loans originated prior to the October 1995 effectiveness of
the TILA Amendments and on non-Covered Loans as well as on Covered Loans in
permitted circumstances. Compliance with the TILA Amendments may cause the level
of prepayment fee revenue to decline in future years. The TILA Amendments impose
other restrictions on Covered Loans, including restrictions on balloon payments
and negative amortization features, which the Company does not believe will have
a material impact on its operations.
OTHER LENDING LAWS
The Company is also required to comply with the Equal Credit Opportunity Act
of 1974, as amended ("ECOA"), which prohibits creditors from discriminating
against applicants on certain prohibited bases, including race, color, religion,
national origin, sex, age or marital status. Regulation B promulgated under ECOA
restricts creditors from obtaining certain types of information from loan
applicants. Among other things, it also requires certain disclosures by the
lender regarding consumer rights and requires lenders to advise applicants of
the reasons for any credit denial. In instances where the applicant is denied
credit or the rate or charge for loans increases as a result of information
obtained from a consumer credit agency, another statute, the Fair Credit
Reporting Act of 1970, as amended, requires lenders to supply the applicant with
the name and address of the reporting agency. In addition, the Company is
subject to the Fair Housing Act, which broadly prohibits certain discriminatory
practices in connection with the Company's business. The Company is also subject
to the Real Estate Settlement Procedures Act of 1974, as amended, and
regulations thereunder.
In addition, the Company is subject to various other federal and state laws,
rules and regulations governing among other things, the licensing of, and
procedures that must be followed by, mortgage lenders and servicers, and
disclosures that must be made to consumer borrowers. Failure to comply with such
laws, as well as with the laws described above, may result in civil and criminal
liability. As a mortgage lender, the Company has been, and expects to continue
to be, subject to regulatory enforcement actions and private causes of action
from time to time with respect to its compliance with applicable laws and
regulations. The Company's lending practices have in the past been and currently
are under regulatory review by various state authorities. Although the Company
utilizes systems and procedures to facilitate compliance with these legal
requirements and believes that it is in compliance in all material respects with
applicable laws, rules and regulations, there can be no assurance that more
restrictive laws, rules and regulations will not be adopted in the future, or
that existing laws and regulations will not be interpreted in a more restrictive
manner, which could make compliance more difficult or expensive.
INSURANCE REGULATORY LAWS
As a condition to funding its loans, the Company requires each borrower to
obtain and maintain a policy of insurance providing coverage, at an amount equal
to the greater of the replacement cost or loan amount, for improvements on any
real property securing the borrower's loan. If the borrower fails to provide
such coverage prior to closing of the borrower's loan or if the borrower's
coverage is subsequently canceled or not renewed at any time during the loan
period and the borrower fails to obtain new coverage, the Company will provide
coverage on the borrower's behalf under policies insuring the Company's interest
in the collateral. Such practice is commonly referred to as "forced placement"
of insurance. The Company receives a fee in connection with its placement of
such insurance in California, which activity is not required to be licensed.
12
<PAGE>
Insurance which is force placed is subject to regulation under TILA, the
National Flood Insurance Act, and state insurance regulatory and lender
statutes. Such laws and regulations generally impose disclosure and notice
requirements which must be satisfied prior to forced placement of coverage,
limitations on the amount of coverage that a lender may obtain to protect its
interest in the collateral, and restrictions on fees and charges that the
Company may assess in connection with such insurance.
Failure to comply with any of the foregoing federal and state laws and
regulations could result in the imposition of civil penalties on the Company,
class action lawsuits and administrative enforcement actions.
UNITED KINGDOM REGULATIONS
The Company's mortgage business in the United Kingdom is subject to
regulations promulgated under the United Kingdom Consumer Credit Act of 1974
(the "CCA") with respect to loans made to individuals or partnerships with
principal balances of (pound)15,000 or less. Loans with principal balances in
excess of (pound)15,000 are not currently regulated within the United Kingdom.
The CCA and regulations promulgated thereunder, among other things, impose
licensing obligations on the Company's United Kingdom subsidiaries, set down
certain requirements relating to the form, content, legibility, execution and
delivery of loan documents, restrict communication with the borrower prior to
completion of a transaction, require information and notice of enforcement to be
given to the borrower, require rebates to the borrower on early settlement and
create a cause of action for "extortionate credit bargains." A license is
required to service loans in the United Kingdom irrespective of the size of the
loan. Failure to comply with the requirements of these rules and regulations can
result in the revocation or suspension of the license to do business and render
the mortgage unenforceable in the absence of a court order. The Company's
operations in the United Kingdom involve loans with principal balances in excess
of (pound)15,000 and are therefore largely unregulated.
In July 1997 (revised in November 1997) the United Kingdom's Director
General of Fair Trading issued guidelines ("Guidelines") for lenders and brokers
engaged in "non-status" lending activity. These consist of both general
principles and specific guidelines relating to advertising, clarity of
disclosure of loan terms, contract documentation, dealings with borrowers,
selling methods, underwriting and various contract terms which should be
provided and those which are considered unfair. Lenders' attention is drawn to
their responsibility for brokers' and intermediaries' actions and for ensuring
that such parties comply with relevant statutory requirements and the Guidelines
and do not engage in unfair business practices. The Guidelines apply to lending
activity whether regulated under the CCA or not, and thus require dealings in
relation to unregulated lending to be more in line with those in respect of
regulated lending. Failure to comply with these Guidelines could lead to
regulatory action, including the revocation or refusal by the Office of Fair
Trading of CCA licenses, and/or impair the enforceability of certain mortgage
terms.
The Unfair Terms in Consumer Contracts Regulations 1994 (the "Regulations")
apply generally to contractual dealings with consumers. The Regulations make
unfair terms void and unenforceable against the consumer. Unfair terms are those
which have not been negotiated and which, contrary to good faith, cause a
significant imbalance in the parties' contractual rights and obligations to the
consumer's detriment.
ENVIRONMENTAL MATTERS
To date, the Company has not been required to perform any investigation or
clean up activities, nor has it been subject to any environmental claims. There
can be no assurance, however, that this will remain the case in the future.
In the course of its business, the Company, generally on behalf of the REMIC
trusts, has acquired and may acquire in the future properties securing loans
that are in default. Although the Company primarily lends to owners of
residential properties, there is a risk that the Company could be required to
investigate and clean up hazardous or toxic substances or chemical releases at
13
<PAGE>
such properties after acquisition by the Company, and may be held liable to a
governmental entity or to third parties for property damage, personal injury and
investigation and cleanup costs incurred by such parties in connection with the
contamination. In addition, the owner or former owners of a contaminated site
may be subject to common law claims by third parties based on damages and costs
resulting from environmental contamination emanating from such property.
EMPLOYEES
As of December 31, 1998 the Company had a total of 445 employees. The
Company has 148 employees working at its corporate headquarters. None of the
Company employees is covered by a collective bargaining agreement. The Company
considers its relations with its employees to be good.
ITEM 2. PROPERTIES
The Company's corporate headquarters are located at 17305 Von Karman Avenue,
Irvine, California 92614-6203, where the Company leases from a partnership
beneficially owned by Brian and Sarah Chisick approximately 40,000 square feet
of office space. The lease expires on January 31, 2003, and the Company has an
option to renew the lease for five years. The Company also leases office space
for its 32 retail branch offices. The average size of these retail branch
offices is approximately 2,400 square feet, with an annual average base rent of
approximately $40,000. In 1997 the Company purchased an office building in
Irvine, California, with approximately 40,000 square feet of office space, for
use as a telemarketing center and a mail processing center. The Company believes
its facilities are both suitable and adequate for the current business
activities conducted at its corporate headquarters and at its existing retail
branch offices.
ITEM 3. LEGAL PROCEEDINGS
In June 1998, Leon Rasachack and Philip A. Ettedgui filed a class action
suit on behalf of all purchasers of the Company's Class A Common Stock between
April 24, 1997 through May 15, 1998. The suit was filed in the Superior Court of
California in the County of Orange against the Company, Brian Chisick, Sarah
Chisick and Mark Mason. The complaint alleges that the Company conspired against
the purchasers of the stock during the class period by failing to disclose known
material adverse conditions in making certain public statements about the
Company's growth prospects for the future. The plaintiffs in this class action
suit are seeking an unspecified amount for damages. The Company is currently in
discovery.
In September 1998, the Company was informed by the United States Department
of Justice ("DOJ") that it and the Attorneys General of Arizona, Florida,
Illinois, Massachusetts, Minnesota, New York and Washington have initiated a
joint investigation into the lending practices of the Company. That
investigation and any negative findings that may result therefrom could have a
significant adverse effect on the Company's ability to obtain new and renew
state lending licenses, which, in turn, could have a significant adverse effect
on the Company's ability to maintain or expand its retail branch network of
offices and on the Company's results of operations and financial condition. The
DOJ has agreed to limit its initial inquiry to pricing disparities, and is
currently reviewing data provided by the Company.
In October 1998, the Attorney General of Massachusetts filed an action on
behalf of the Commonwealth against the Company in the Superior Court of
Massachusetts, in the County of Suffolk. The suit seeks to enjoin the Company
from charging rates, points and other terms which significantly deviate from
industry-wide standards or which are otherwise unconscionable or unlawful. The
Attorney General seeks injunctive relief and also seeks restitution for all
consumers, civil penalties, and the costs of investigating and prosecuting the
action, including attorneys' fees. A preliminary injunction was granted,
limiting the points the Company can charge to a total of five. In addition, the
Company must advise the Attorney General before any foreclosure actions are
filed in the Commonwealth.
In November 1998, the Attorney General of Minnesota filed an action on
behalf of the State against the Company in Ramsey County District Court. The
suit alleges violations of Minnesota Uniform Deceptive Trade Practices Act, the
Consumer Fraud Act, Truth in Lending Act and related federal regulations. The
Attorney General seeks injunctive relief, restitution, civil penalties,
attorneys' fees and costs. A decision on a preliminary injunction limiting the
Company's lending activities in the State is currently pending.
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<PAGE>
In December 1998, the Attorney General of the State of Illinois filed an
action on behalf of the State against the Company in the Cook County Circuit
Court. The suit alleges violations of the Illinois Consumer Fraud Act, Deceptive
Trade Practices Act and Illinois Interest Act. The Attorney General seeks
injunctive relief, restitution, civil penalties, rescission, revocation of
business licenses, attorneys' fees and costs. The Company has filed a motion to
dismiss, which should be heard sometime in April 1999.
In December 1998, the American Association of Retired Persons (AARP) filed
an action against the Company and against Brian and Sarah Chisick in the Santa
Clara County Superior Court. The suit alleges unfair, unlawful, fraudulent and
deceptive business practices and conspiracy. The AARP is seeking injunctive
relief, restitution, revocation of licenses, attorneys' fees and costs. A motion
to strike the allegation of the complaint has been filed.
The Company is also a party to various legal proceedings arising out of the
ordinary course of its business including 17 lawsuits alleging misleading
lending practices, some of which have been filed either as a class action or
under private attorney general statutes.
Given the preliminary state of the above legal proceedings, the Company is
currently unable to determine the probability or reasonably estimate any
potential loss, if any, related to the ultimate outcome of the cases.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the Company's security holders during
the quarter ended December 31, 1998.
15
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
In July 1996, the Company's Class A Common Stock began trading under the
symbol FACO on the NASDAQ National Market. The following table sets forth the
range of high and low closing sale prices of the Company's Class A Common Stock
for the periods indicated:
High Low
-------- --------
1996
Third Quarter (from July 31, 1996)....... 16 5/6 12 7/12
Fourth Quarter.......................... 20 1/3 14 2/3
1997
First Quarter............................ 20 1/6 15
Second Quarter........................... 19 1/2 12 1/6
Third Quarter............................ 21 11/12 18 1/6
Fourth Quarter.......................... 23 43/64 15 1/2
1998
First Quarter........................... 18 1/2 12 7/8
Second Quarter.......................... 17 3/8 7
Third Quarter........................... 10 3/8 6
Fourth Quarter.......................... 6 1/4 2 3/8
No cash dividends were declared during the period covered by the above
table. On October 31, 1997, the Company paid a stock dividend of 1 share for
every 2 shares of Class A and Class B Common Stock held by holders of record on
October 15, 1997. The above sales prices of Class A Common Stock have been
retroactively adjusted to reflect this stock dividend as a stock split. The
Company does not anticipate declaring cash dividends in the near future.
In July 1998, the Company announced that its majority stockholders, Brian
and Sarah Chisick, converted all of their Class B Common Stock, to which four
votes per share applies in matters requiring a stockholder vote, into Class A
Common Stock, which carries one vote per share.
On February 1, 1999, the Company had approximately 12 stockholders of record
of its Class A Common Stock. The Company believes its Class A Common Stock is
beneficially held by more than 1,900 stockholders.
16
<PAGE>
<TABLE>
<CAPTION>
ITEM 6. SELECTED FINANCIAL DATA
FIRST ALLIANCE CORPORATION
SELECTED CONSOLIDATED FINANCIAL DATA
1994 (1) 1995 1996 (2) 1997 1998
---------- ---------- ---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
STATEMENT OF INCOME DATA:
Gain (loss) on sale of loans............................... $ (1,547) $ 8,982 $ 10,965 $ 22,644 $ 10,699
Origination fees and other................................. 29,449 26,484 37,206 44,034 44,252
Servicing and other fees revenue........................... 9,106 8,614 8,854 7,544 3,930
Interest revenue........................................... 8,650 14,624 13,562 21,397 21,754
Total revenue.............................................. 45,802 58,880 70,871 95,649 83,808
Interest expense........................................... 3,744 4,167 2,655 3,164 8,382
Non-interest expense (3)................................... 26,824 23,693 29,977 39,840 52,473
Income before income tax provision......................... 15,234 31,020 38,239 52,645 22,953
Net income................................................. 14,871 30,542 32,139 32,772 14,216
Basic net income per share................................. 0.93 1.91 1.72 1.50 0.73
Diluted net income per share............................... 0.93 1.91 1.72 1.49 0.73
Pro forma net income (4)................................... 8,988 18,302 22,561
Pro forma diluted net income per share (4)..... ........... 0.41 0.83 1.02
Income before income tax provision as a % of revenue....... 33.3% 52.7% 54.0% 55.0% 27%
Dividends declared (5) .................................... $ 17,341 $ 12,205 $ 60,080
STATEMENT OF FINANCIAL CONDITION DATA:
Cash and cash equivalents ................................. $ 5,298 $ 4,019 $ 27,414 $ 14,032 $ 18,052
Loans held for sale ....................................... 18,676 24,744 11,023 54,872 24,421
Loans receivable held for investment (6)................... 2,521 2,261 2,432 2,082 57,667
Residual interests......................................... 11,645 19,705 29,253 50,238 48,720
Total assets............................................... 48,266 66,911 87,457 158,147 177,603
Total borrowings........................................... 14,839 19,356 131 57,767 88,818
Stockholders' equity ...................................... 23,984 42,321 77,978 91,277 74,587
OTHER DATA:
Loan originations and purchases:
Retail originations...................................... $ 221,839 $ 216,566 $ 291,807 $ 398,359 $ 458,788
Wholesale purchases...................................... 91,826 24,078 32,681 130,151 74,805
---------- ---------- ---------- ---------- ----------
Total ............................................... $ 313,665 $ 240,644 $ 324,488 $ 528,510 $ 533,593
========== =========== ========== ========== ==========
Average retail origination loan size....................... $ 66 $ 69 $ 83 $ 88 $ 94
Number of retail branches.................................. 13 17 23 33 32
Weighted average interest rate on loan originations 8.7% 10.3% 9.6% 9.5% 9.3%
and purchases.............................................
Weighted average initial combined loan-to-value ratio...... 56.2% 59.3% 62.2% 62.5% 65.3%
Loan sales:
Securitizations........................................... $ 350,331 $ 167,974 $ 267,661 $ 339,005 $ 430,003
Whole loan sales.......................................... 22,857 65,251 71,864 144,633 154,111
---------- ---------- ---------- ---------- ----------
Total ................................................ $ 373,188 $ 233,225 $ 339,525 $ 483,638 $ 584,114
========== =========== ========== ========== ==========
Servicing portfolio ....................................... $ 555,685 $ 613,791 $ 641,191 $ 799,085 $ 865,663
Total delinquencies as a % of the servicing portfolio..... 4.3% 5.8% 5.5% 4.1% 4.8%
Real estate owned as a % of the servicing portfolio....... 0.6% 1.3% 0.6% 0.2% 0.2%
Losses on real estate owned as a % of the average
servicing portfolio during the period.................... 0.01% 0.03% 0.35% 0.24% 0.12%
</TABLE>
(1) The Company typically securitizes or sells most of its loan originations
and purchases within each year. At the end of 1993, the Company had $74
million of loans held for sale resulting in increased assets and increased
borrowings on the warehouse financing facilities. These loans were sold in
1994 resulting in an increase in the ratio of loan sales to loan
originations and purchases in 1994 as compared to other years.
(2) During 1996, the Company completed the IPO whereby 6,037,500 shares of
Class A Common Stock were issued and the Company changed its tax status
from that of an S corporation to that of a C corporation. The Company
received $63 million of net proceeds from the IPO, of which $45 million was
used to pay the S distribution notes.
(3) During 1994, the Company incurred legal expenses and settlement costs of
$7 million related to litigation initiated in December 1989.
(4) Pro forma amounts reflect adjustments for federal and state income taxes as
if the Company had been taxed as a C corporation rather than an S
corporation. The Company ceased to be an S corporation concurrent with the
IPO in July 1996.
(5) Included in dividends in 1996 is $45 million of S distribution dividends
made in the form of the S distribution notes. Historical dividends include
dividends used by the stockholders to pay income taxes on the Company's S
corporation earnings and are not indicative of the Company's present
dividend policy.
(6) During 1998, the Company discontinued its United Kingdom loan originations.
Accordingly, the Company has reclassified approximately $57 million of such
loans from loans held for sale to loans receivable held for investment at
December 31, 1998.
17
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
GENERAL
The Company is a financial services organization principally engaged in
mortgage loan origination, purchases, sales and servicing. Loans originated by
the Company primarily consist of fixed and adjustable rate loans secured by
first mortgages on single family residences. The Company originates loans
through its retail branch network which is currently comprised of 32 offices in
the United States (eight of which are located in California, four of which are
located in New York, three of which are located in Ohio, two of which are
located in each of Illinois, Maryland, New Jersey and Pennsylvania, and one of
which is located in each of Arizona, Colorado, Florida, Georgia, Minnesota,
Oregon, Utah, Virginia and Washington). In addition, the Company purchases loans
from qualified mortgage originators. The Company either securitizes the loans in
a trust or sells the loans to wholesale purchasers. A significant portion of the
Company's loan production is securitized with the Company retaining the right to
service the loans.
In October 1997, the Board of Directors authorized a three-for-two split of
its common stock to be effected in the form of a stock dividend. The stock
dividend was distributed on October 31, 1997. All share and per share
information have been restated to reflect the stock dividend.
During the third quarter of 1996, FACO completed an initial public offering
(the "IPO") whereby 6,037,500 shares of its Class A Common Stock were sold to
the public. Concurrently, 16,125,000 shares of the Class B Common Stock of FACO
were issued in exchange for all of the issued and outstanding shares of FAMCO as
part of a reorganization whereby FAMCO became a wholly owned subsidiary of FACO.
By July 1998, all issued and outstanding Class B Common Stock of FACO was
converted on a one for one basis to Class A Common Stock. The consolidated
financial condition and results of operations of the Company for periods prior
to the date of the reorganization and IPO substantially consist of those of
FAMCO.
Prior to 1992, the Company sold its loans to private investors on a
servicing retained basis. Since that time, the Company has sold the majority of
its loans in the secondary market primarily through securitization and, to a
lesser extent, through whole loan sales in which the Company does not retain the
right to service the loans. The Company's underwriting guidelines require
threshold credit criteria and combined LTV limits for loans sold through
securitizations. Accordingly, the Company sells on a servicing released basis
those loans which do not meet its risk criteria for securitization. The Company
retains the right to service loans which it has securitized.
The Company's strategy of originating, as compared to purchasing, the
majority of its loan volume results in the generation of a significant amount of
loan origination fees. This income has allowed the Company to generate positive
operating cash flow. There can be no assurance, however, that the Company's
operating cash flow will continue to be positive in the future.
CERTAIN ACCOUNTING CONSIDERATIONS
As a fundamental part of its business and financing strategy, the Company
securitizes the majority of its loans in trusts whereby the loans are exchanged
for regular and residual interests in the trusts. A significant portion of the
Company's income is associated with securitization activity.
Gains on servicing released whole loan sales equal the difference between
the net proceeds to the Company from such sales and the loans' acquisition cost
(for purchased loans) or net carrying value (for originated loans). The net
carrying value of originated loans is equal to their principal balance less net
deferred origination fees.
18
<PAGE>
Gains on servicing retained sales of loans through securitization represent
the difference between the net proceeds to the Company in the securitization and
the allocated cost of loans securitized. In accordance with Statement of
Financial Accounting Standards ("SFAS") No. 125, the allocated cost of the loans
securitized is determined by allocating their acquisition cost (for purchased
loans) or net carrying value (for originated loans) between the loans
securitized, the residual interests and the mortgage servicing rights retained
by the Company based upon their relative fair values. At origination, the
Company classifies the residual interests as trading securities, which are
recorded at fair value. The difference between the fair value of residual
interest certificates and their allocated cost is recorded as gain on
securitization and is included in loan origination and sale revenue.
In a securitization, the Company exchanges loans for regular interest
certificates and a residual interest certificates in a trust. The regular
interest certificates are immediately sold by the Company to the public for
cash. As the holder of the residual interest certificates, the Company is
entitled to receive certain excess cash flows. These excess cash flows are the
difference between (a) principal and interest paid by borrowers and (b) the sum
of (i) scheduled principal and interest paid to holders of the regular interest
certificates, (ii) trustee fees, (iii) third-party credit enhancement fees, (iv)
servicing fees, and (v) loan losses. The Company begins receiving these excess
cash flows after certain overcollateralization requirements, which are specific
to each securitization and are used as a means of credit enhancement, have been
met.
The Company records residual interest certificates at fair value. As such,
the carrying value of these securities is impacted by changes in market interest
rates and prepayment and loss experiences of these and similar securities. The
Company determines the fair value of the residual interest certificates
utilizing prepayment, credit loss and other assumptions appropriate for each
particular securitization consistent with those an unrelated third party would
utilize to value such securities. To the Company's knowledge, there is no active
market for the sale of these residual interest certificates. The range of values
attributable to the factors used in determining fair value is broad.
Accordingly, the Company's estimate of fair value is inherently subjective.
Prepayments are expressed through a market convention known as an annual
constant prepayment rate ("CPR"). See Note 1 of the audited financial statements
for the residual interest assumptions utilized by the Company during 1998 and
1997.
As of December 31, 1998, the Company's investments in residual interests
totaled $48.7 million.
To determine the fair value of mortgage servicing rights, the Company
computes the present value of projected net cash flows expected to be received
over the life of the loans. Such projections incorporate assumptions, including
servicing costs, prepayment rates and discount rates, consistent with those an
unrelated third party would utilize to value such mortgage servicing rights.
These assumptions are similar to those used by the Company to value residual
interests. The Company periodically evaluates capitalized mortgage servicing
rights for impairment, which is measured as the excess of unamortized cost over
fair value. This review is performed on a disaggregated basis by loan type. The
Company has generally found that non-conforming borrowers are payment sensitive
rather than interest rate sensitive. Therefore, the Company does not consider
interest rates a predominant risk characteristic for purposes of evaluating
impairment. As of December 31, 1998, mortgage servicing rights totaled $10.0
million.
The three primary components of the Company's revenue are loan origination
and sale, loan servicing and other fees and interest and other income.
Loan origination and sale revenue consists of gain on sale of loans and the
recognition of net deferred origination fees. A significant portion of loan
origination and sale revenue is the recognition upon sale of net deferred
origination fees, which equaled $44.3 million, or 81% of loan origination and
sale revenue, during 1998.
Loan servicing and other fees represent management servicing fees and other
ancillary fees, including prepayment penalties, received from servicing loans.
Mortgage servicing rights are amortized against loan servicing and other fee
revenue over the period of estimated net future servicing fee income.
Interest and other income is primarily comprised of three components: (i)
interest on loans held for sale during the warehousing period and loans
receivable held for investment, (ii) interest on residual interests, and (iii)
income derived from the Company's credit card operations.
19
<PAGE>
<TABLE>
<CAPTION>
LOAN ORIGINATION AND PURCHASES
FOR THE YEARS ENDED DECEMBER 31,
--------------------------------------
1996 1997 1998
---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C>
Loan originations and purchases:
Retail originations........................................ $ 291,807 $ 398,359 $ 458,788
Wholesale purchases........................................ 32,681 130,151 74,805
---------- ---------- ----------
Total originations and purchases...................... $ 324,488 $ 528,510 $ 533,593
========== ========== ==========
Number of retail branches as of the end of the period:
United States:
California .............................................. 7 7 8
Other States............................................. 15 22 24
United Kingdom............................................. 1 4 0
---------- ---------- ----------
Total ................................................ 23 33 32
========== ========== ==========
Weighted average initial interest rate......................... 9.6% 9.5% 9.3%
Weighted average initial combined loan-to-value ratio.......... 62.2% 62.5% 65.3%
Weighted average loan origination and processing fees
as a percent of retail originations........................ 14.2% 14.8% 13.5%
Average retail origination loan size........................... $ 83 $ 88 $ 94
</TABLE>
Total originations and purchases increased 1% in 1998 and 63% in 1997.
Retail originations increased 15% in 1998 and 37% in 1997, primarily as a result
of new retail branch offices opened in 1998, 1997 and 1996. Wholesale purchases
decreased 43% in 1998 and increased 298% in 1997. The decrease in 1998 and
increase in 1997 was primarily related to the implementation of the Company's
low LTV purchase program in 1997, which was subsequently discontinued in 1998.
Purchases related to such program totaled $24 million and $61 million in 1998
and 1997, respectively.
LOAN SALES
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
--------------------------------------
1996 1997 1998
---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C>
Securitizations................................................ $ 267,661 $ 339,005 $ 430,003
Whole loan sales ............................................. 71,864 144,633 154,111
---------- ---------- ----------
Total ..................................................... $ 339,525 $ 483,638 $ 584,114
========== ========== ==========
</TABLE>
Loan sales, including securitizations, increased 21% in 1998 and 42% in
1997, primarily due to an increase in originations and purchases.
20
<PAGE>
COMPOSITION OF REVENUE AND EXPENSE
The following table summarizes certain components of the Company's
consolidated statements of income set forth as a percentage of total revenue for
the years ended December 31:
<TABLE>
<CAPTION>
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
REVENUE:
Loan origination and sale:
Gain (loss) on sale of loans............................ 15.5% 23.7% 12.8%
Net loan origination and other fees..................... 52.5 46.0 52.8
Loan servicing and other fees............................. 12.5 7.9 4.7
Interest and other........................................ 19.5 22.4 29.7
---------- ---------- ----------
Total revenue........................................... 100.0 100.0 100.0
---------- ---------- ----------
EXPENSE:
Compensation and benefits................................. 21.9 20.2 27.3
Advertising .............................................. 5.9 6.4 11.2
Professional services and other fees...................... 2.7 3.3 5.7
Facilities and insurance.................................. 3.5 3.5 5.2
Supplies.................................................. 2.2 2.5 3.0
Depreciation and amortization............................. 1.2 1.0 2.6
Interest.................................................. 3.7 3.3 10.0
Legal .................................................... 1.3 2.1 4.6
Travel and training....................................... 1.6 1.8 1.8
Other .................................................... 2.0 0.9 1.2
---------- ---------- ----------
Total expense........................................... 46.0 45.0 72.6
---------- ---------- ----------
Income before income tax provision............................. 54.0 55.0 27.4
Income tax provision (1)....................................... 8.7 20.7 10.4
========== ========== ==========
Net income .................................................... 45.3% 34.3% 17.0%
========== ========== ==========
</TABLE>
(1) During 1996, the Company completed the IPO and the Company changed its tax
status from that of an S corporation to that of a C corporation.
RESULTS OF OPERATIONS FOR THE THREE YEARS ENDED DECEMBER 31, 1998
REVENUE
The following table sets forth the components of the Company's revenue for
the years ended December 31:
<TABLE>
<CAPTION>
1996 1997 1998
---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C>
Loan origination and sale:
Gain on sale of loans (1)................................. $ 10,965 $ 22,644 $ 10,699
Net loan origination and other fees....................... 37,206 44,034 44,252
Loan servicing and other fees.................................. 8,854 7,544 3,930
Interest and other............................................. 13,846 21,427 24,927
---------- ---------- ----------
Total revenue............................................. $ 70,871 $ 95,649 $ 83,808
========== ========== ==========
</TABLE>
(1) Excluding net loan origination and other fees.
Total revenues decreased 12% or $11.8 million in 1998 and increased 35% or
$24.8 million in 1997. The decrease in 1998 was primarily due to lower loan
origination and sale revenue and loan servicing and other fees, which was offset
by increased interest and other income. The increase in 1997, however, was
primarily due to higher loan origination and sales revenue and interest income.
21
<PAGE>
Loan origination and sale revenue decreased 18% or $11.7 million in 1998 and
increased 38% or $18.5 million in 1997.
Gain on sale of loans decreased $11.9 million or 53% in 1998 as compared to
1997. This decrease is primarily attributable to a $5.0 million write down of
residual interest, and a reduction of gain on sale related to whole loan sales
and securitizations of approximately $3.8 million. Additionally, during 1997 the
Company recognized as gain approximately $3.1 million related to an increase in
the fair value of residual interest.
The write down during 1998 was the result of an increase in the Company's
prepayment rates primarily related to its adjustable rate loans. In addition,
gain on sale as a percent of loans sold decreased to 1.8% in 1998 from 4.7% in
1997. Gain on sale related to whole loan sales decreased by $3.1 million during
1998 as compared to 1997. Gain on sale as a percent of whole loan sales
decreased to 1.1% during 1998 from 3.3% in 1997 resulting from a reduction in
premiums available in the secondary market for the Company's loans. Gain on sale
related to securitizations decreased $0.7 million during 1998 as compared to
1997. Gain on sale as a percent of securitized loans decreased to 3.3% during
1998 from 4.3% during 1997. Such was primarily the result of increased
prepayment rates experienced by the Company during 1998. Consequently, the
Company increased the weighted average constant prepayment rate assumption for
its adjustable rate loans from 35% during 1997 to 40% during 1998.
Gain on sale of loans increased $11.7 million in 1997 as compared to 1996
due to a 42% increase in the volume of loans sold, an increase in gain on sale
as a percent of loans sold and $3.1 million recognized in 1997 as an increase in
the fair value of residual interest certificates. Gain on sale as a percentage
of loans sold increased to 4.7% in 1997 from 3.2% in 1996. Gain on sale as a
percent of loans securitized increased to 4.3% in 1997 from 3.5% in 1996. This
increase is primarily due to an increase in the weighted average initial
interest rate spread and a decrease in the discount rate used in computing the
fair value of the residual interest certificates and mortgage servicing rights.
The weighted average initial interest rate spread (the difference between the
initial weighted average loan interest rates for the loans included in the
securitization and the initial weighted average pass-through rate paid to the
holders of the regular interest certificates in the securitization) in residual
interest certificates originated increased to 3.1% in 1997 from 2.9% in 1996. A
discount rate of 15% was used to value residual interest certificates and
mortgage servicing rights in 1997 as compared to a rate of 18% used in 1996. In
addition, the weighted average gain on whole loan sales increased to 3.3% of
loans sold in 1997 as compared to 2.0% in 1996, due primarily to increased
premiums available in the secondary market.
Despite a 14% increase in retail loan sales during 1998, net loan
origination and other fees remained consistent with the 1997 levels. Net loan
origination and other fees did not increase in the same proportion as the
increase in retail loan sales primarily due to a decrease in the average gross
fees recognized from 14.8% during 1997 to 13.5% during 1998. The 18% increase of
$6.8 million in net loan origination and other fees in 1997 as compared to 1996
is the direct result of a 21% increase in retail loan sales during 1997.
Loan servicing and other fees decreased $3.6 million or 48% in 1998 and $1.3
million or 15% in 1997. The decrease in both years was primarily attributable to
an increase in the amortization of mortgage servicing rights. Amortization of
mortgage servicing rights increased by $2.9 million and $1.0 million in 1998 and
1997, respectively. The increase during 1998 and 1997 was primarily due to an
increase in the average balance of mortgage servicing rights outstanding as
compared to the prior years. Additionally, during 1998, the Company accelerated
the amortization of mortgage servicing rights by approximately $1.3 million as a
result of higher than expected prepayments. Excluding amortization of mortgage
servicing rights, loan servicing and other fees during 1998 and 1997 remained
consistent with the prior year despite an increase in the average servicing
portfolio. This can primarily be attributed to the composition of the Company's
servicing portfolio when compared to the prior years. The Company earns higher
management servicing fees on loans serviced for private investors and for
securitizations consummated prior to 1996. As the proportion of loans serviced
for this group of loans decreases in relation to the portfolio balance, so does
the related servicing income.
Interest and other income increased $3.5 million or 16% in 1998 as compared
to 1997. This increase was primarily related to a $4.0 million increase in
interest derived from loans held for sale and loans receivable held for
investment and a $2.8 million increase in other income from the Company's credit
card operations, which commenced operation in the fourth quarter of 1997. Such
increases were offset by a $3.7 million decrease in interest income from
residual interest certificates . The increase in interest from loans held for
sale was a direct result of an increase in the average balance of loans held for
sale when compared to the prior year, primarily due to a growing United Kingdom
portfolio.
22
<PAGE>
Interest income increased $7.8 million, or 55%, in 1997 as compared to 1996.
The increase in interest income was due to a $3.6 million increase in interest
income from loans held for sale, a $2.6 million increase in interest income from
residual interest certificates, and a $1.4 million increase in interest income
from short-term investments. The increases in interest income from loans held
for sale and residual interest certificates were primarily due to increases in
the average balances of loans held for sale and residual interest certificates
during 1997 as compared to 1996. The increases in interest income from
short-term investments were primarily attributable in increases in the balance
of available cash as a result of the IPO and cash generated from operations.
EXPENSE
The following table sets forth the components of the Company's expenses for
the years ended December 31:
<TABLE>
<CAPTION>
1996 1997 1998
---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C>
Compensation and benefits...................................... $ 15,488 $ 19,341 $ 22,857
Advertising.................................................... 4,191 6,099 9,357
Professional services and other fees........................... 1,946 3,196 4,762
Facilities and insurance....................................... 2,511 3,362 4,332
Supplies....................................................... 1,575 2,416 2,498
Depreciation and amortization.................................. 838 924 2,157
Interest....................................................... 2,655 3,164 8,382
Legal.......................................................... 917 2,009 3,851
Travel and training............................................ 1,163 1,710 1,521
Other ......................................................... 1,348 783 1,138
---------- ---------- ----------
Total expense.............................................. $ 32,632 $ 43,004 $ 60,855
========== ========== ==========
</TABLE>
Total expenses increased 42% or $17.9 million and 32% or $10.4 million in
1998 and 1997, respectively, primarily due to increases in expenses related to
the Company's ongoing retail branch expansion and credit card operations (the
credit card operations was discontinued in December 1998).
The increase in compensation and benefits of 18% or $3.5 million and 25% or
$3.9 million in 1998 and 1997, respectively, was primarily due to increased
personnel to support the Company's retail branch expansion and in 1998, the
Company's credit card operations.
The increase in advertising of 53% or $3.3 million and 46% or $1.9 million
in 1998 and 1997, respectively, was primarily due to an increase in marketing
activity, including purchases of marketing databases associated with the
Company's retail branch expansion and in 1998, the Company's credit card
operations.
Professional services and other fees increased 49% or $1.6 million in 1998
as compared to 1997 primarily due to costs incurred under the Company's credit
card operations and costs associated with the discontinuance of the Company's
United Kingdom operations. Professional services and other fees increased 64% or
$1.2 million in 1997 as compared to 1996, primarily due to recruiting and other
costs associated with the Company's retail branch expansion.
Depreciation and amortization increased $1.2 million in 1998 as compared to
1997, primarily due to accelerated depreciation of property related to the
discontinuation of the United Kingdom operations, an increase in the average
balance of fixed assets due to the Company's continued retail branch expansion,
credit card operations, and the newly centralized telemarketing facility in
Irvine, California
Combined, facilities and insurance, supplies, and travel and training
increased 12% and 43% in 1998 and 1997, respectively, primarily due to the
Company's continuing retail branch expansion including costs related to the
Company's new centralized telemarketing facility in Irvine, California.
23
<PAGE>
Interest expense increased 165% or $5.2 million in 1998 as compared to 1997
primarily due to an increase in interest expense related to the Company's
warehouse financing facility. This increase was the result of a 131% increase in
the average balance of loans warehoused in 1998 as compared to 1997.
Additionally, the weighted average interest rate on the warehouse financing
facility increased in 1998. The increase in the weighted average interest rate
is due to an increase in the proportion of United Kingdom loans, which carry a
higher cost of funds, warehoused during 1998 as compared to 1997.
Interest expense increased $0.5 million in 1997 as compared to 1996 due
primarily to an increase in interest expense on the warehouse financing facility
of $1.2 million. The increase in interest expense on the warehouse financing
facility is the result of a 53% increase in the average balance outstanding on
the warehouse line when compared to the prior year. In addition, during 1996,
the Company paid interest on S distribution notes of $0.6 million. No such notes
were outstanding during 1997.
Legal expense increased 92% or $1.8 million in 1998 as compared to 1997 as a
result of increased litigation and costs related to the discontinuation of the
United Kingdom origination operations.
Legal expense increased $1.1 million in 1997 as compared to 1996 primarily
due to legal costs incurred in resolving outstanding corporate litigation
matters.
INCOME TAXES
From May 1, 1988 until the close of the IPO, the Company had elected to be
treated for Federal income and certain state tax purposes as an S corporation
under Subchapter S of the Internal Revenue Code and comparable state laws. As a
result, the Company's provisions for income taxes during that period reflected
modest corporate level state income taxes for those states in which the Company
operates. The taxable income of the Company during such periods has been
included in the individual taxable income of its stockholders for Federal and
state income tax purposes.
The Company's S corporation status was terminated in July 1996 and the
Company became subject to full corporate Federal income and certain state income
taxes. In conjunction with the termination of the Company's S corporation
status, the Company recorded $3.1 million of net deferred tax assets related to
temporary differences between financial reporting and tax basis of assets and
liabilities measured by applying enacted tax rates and law to taxable years in
which such temporary differences are expected to be recovered or settled. Since
the IPO, the Company's effective income tax rate has approximated the Federal
and composite state income tax rates (net of Federal benefit). If the Company
had been fully subject to Federal and state income taxes, net income on a pro
forma basis would have been $22.6 million in 1996.
The Company's actual tax rates for 1998 and 1997 were 38.06% and 37.75%,
respectively.
During the first two quarters of 1998, the Company began securitizing its
loans in the form of owners' trusts. By utilizing this securitization structure,
the Company's securitization of loans were treated as a borrowing for State and
Federal tax purposes rather than as a sale. In the third and fourth quarters of
1998, however, the Company decided to securitize its loans in the form of a real
estate mortgage investment conduit ("REMIC"), under which the securitization of
loans will be treated as a sale for State and Federal tax purposes.
24
<PAGE>
<TABLE>
<CAPTION>
SERVICING
The following tables provide data on loan delinquency, REO and net losses
for the Company's servicing portfolio:
UNITED STATES AS OF DECEMBER 31,
------------------------------------------------------------------------------------
1996 1997 1998
---------------------------- --------------------------- ---------------------------
% of % of % of
(Dollars in Servicing (Dollars in Servicing (Dollars in Servicing
Thousands) Portfolio Thousands) Portfolio Thousands) Portfolio
------------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Servicing portfolio..................... $ 637,903 $ 769,733 $ 802,034
============= ============= =============
30-59 days delinquent................... $ 9,360 1.5% $ 7,719 1.0% $ 9,144 1.1%
60-89 days delinquent................... 6,704 1.0% 7,520 1.0% 6,097 0.8%
90 days or more delinquent.............. 19,081 3.0% 16,935 2.2% 18,449 2.3%
============= ============= ============= ============= ============= =============
Total delinquencies.................. $ 35,145 5.5% $ 32,174 4.2% $ 33,690 4.2%
============= ============= ============= ============= ============= =============
REO (1) $ 3,951 0.6% $ 1,688 0.2% $ 2,063 0.2%
============= ============= ============= ============= ============= =============
UNITED KINGDOM AS OF DECEMBER 31,
------------------------------------------------------------------------------------
1996 1997 1998
---------------------------- --------------------------- ---------------------------
% of % of % of
(Dollars in Servicing (Dollars in Servicing (Dollars in Servicing
Thousands) Portfolio Thousands) Portfolio Thousands) Portfolio
------------- ------------- ------------- ------------- ------------- -------------
Servicing portfolio..................... $ 3,288 $ 29,352 $ 63,629
============= ============= =============
30-59 days delinquent................... - 0.0% $ 276 0.9% $ 2,421 3.8%
60-89 days delinquent................... - 0.0% 133 0.5% 1,697 2.7%
90 days or more delinquent.............. - 0.0% 443 1.5% 4,015 6.3%
------------- ------------- ------------- ------------- ------------- -------------
Total delinquencies.................. - 0.0% $ 852 2.9% $ 8,133 12.8%
============= ============= ============= ============= ============= =============
REO (1) - 0.0% - 0.0% - 0.0%
============= ============= ============= ============= ============= =============
COMBINED AS OF DECEMBER 31,
------------------------------------------------------------------------------------
1996 1997 1998
---------------------------- --------------------------- ---------------------------
% of % of % of
(Dollars in Servicing (Dollars in Servicing (Dollars in Servicing
Thousands) Portfolio Thousands) Portfolio Thousands) Portfolio
------------- ------------- ------------- ------------- ------------- -------------
Servicing portfolio..................... $ 641,191 $ 799,085 $ 865,663
============= ============= =============
30-59 days delinquent................... $ 9,360 1.5% $ 7,995 1.0% $ 11,565 1.3%
60-89 days delinquent................... 6,704 1.0% 7,653 0.9% 7,794 0.9%
90 days or more delinquent.............. 19,081 3.0% 17,378 2.2% 22,464 2.6%
------------- ------------- ------------- ------------- ------------- -------------
Total delinquencies.................. $ 35,145 5.5% $ 33,026 4.1% $ 41,823 4.8%
============= ============= ============= ============= ============= =============
REO (1) $ 3,951 0.6% $ 1,688 0.2% $ 2,063 0.2%
============= ============= ============= ============= ============= =============
</TABLE>
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
--------------------------------------
1996 1997 1998
---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C>
Average servicing portfolio (2) ............................... $ 615,393 $ 705,928 $ 845,607
Net losses (3)................................................. 2,160 1,705 983
Percentage of average servicing portfolio...................... 0.35% 0.24% 0.12%
</TABLE>
(1) Includes REO of the Company as well as REO of the securitization trusts
serviced by the Company; however, excludes private investor REO not
serviced by the Company.
(2) Average servicing portfolio balance equals the quarterly average of the
servicing portfolio computed as the average of the balance at the
beginning and end of each quarter.
(3) Net losses represent losses realized with respect to disposition of
REO.
25
<PAGE>
The increase in loan losses in 1996 was principally due to disposition of
properties acquired through foreclosures of wholesale loans purchased in 1993
and 1994 from certain originators from which the Company no longer purchases
loans.
LIQUIDITY AND CAPITAL RESOURCES
As a fundamental part of its business and financial strategy, the Company
securitizes the majority of its loans, whereby the Company deposits into a trust
certain loans originated or acquired by the Company in exchange for (i) debt
instruments backed by the loans in the trust, and (ii) a residual interest in
the trust. The Company then sells the debt instruments to the public. A
significant portion of the Company's revenues, income and cash flow is generated
through these securitizations. Conditions in the securitization market have
deteriorated in recent months as lenders in the sub-prime sector have suffered a
significant loss of liquidity. As a result, there can be no assurances that the
Company will be able to continue to access the securitization market on the same
terms as previously experienced. Any substantial reduction in the availability
of the securitization market for the Company's loans or any substantial
deterioration in the terms to the Company of any securitization, would be likely
to have a material adverse effect on the Company's results of operations and
financial conditions.
The Company's ability to continue to originate and purchase loans is
dependent upon adequate credit facilities and upon its ability to sell loans in
the secondary market in order to generate cash proceeds for new originations and
purchases. The value of and market for the Company's loans are dependent upon a
number of factors, including general economic conditions, interest rates and
governmental regulations. The current market environment described above has
adversely affected the Company's ability to maintain its current sources of
financing or to obtain new sources of financing at favorable terms. These
factors have also adversely affected the Company's ability to complete
securitizations on the same terms as previously experienced in recent periods.
The Company's inability to complete a securitization in a calendar quarter will
have a material adverse effect on the Company's results of operations for that
quarter. A prolonged duration of the current market environment is likely to
adversely affect the Company's ability to make or purchase loans and its ability
to sell loans in the secondary market, with a consequent adverse impact on the
Company's results of operations and financial condition.
During the fourth quarter of 1998, the Company's $175 million, $125 million
and (pound)50 million warehouse financing facilities expired, and were not
renewed. In December 1998, the Company entered into a $150 million warehouse
financing facility and a secured term loan facility of approximately $66
million. The $150 million warehouse financing facility is secured by loans
originated or purchased by the Company, expires in December 1999, and bears
interest at a rate ranging between 1.25% to 1.75% over one month United States
dollar denominated London Interbank Offered Rate (LIBOR). As partial
consideration for the $150 million warehouse financing facility, the Company
agreed to grant the warehouse lender stock warrants that may be exercised by the
lender to purchase one percent (1%) of the Company's Common Stock on a diluted
basis, with an effective date in February 1999. The $66 million secured term
loan facility, which was entered into with a company owned by the majority
stockholders of FACO, Brian and Sarah Chisick, and is secured by United Kingdom
mortgages held for investment, bears a fixed interest rate of 8.5%, and matures
as the underlying pledged mortgages are liquidated. These facilities contain
certain affirmative and negative covenants with which the Company was in
compliance at December 31, 1998.
Although management expects that the Company will be able to maintain these
warehouse financing facilities, there can be no assurance that the Company will
be able to do so. The Company is therefore continuing to pursue other warehouse
financing facility arrangements. To the extent that the Company is not
successful in maintaining or replacing the existing financing arrangements, the
Company may be forced to curtail its loan production activity, which may lead to
significantly reduced loan sales, thereby having a material adverse effect on
the Company's results of operations and financial condition.
Historically, the Company has generated positive cash flow. The Company's
sources of cash include loan sales, sales of regular interests, borrowings under
its warehouse financing facilities, distributions received from residual
interests, interest income and loan servicing income. The Company's usage of
cash includes the funding of loan originations and purchases, payments of
interest, repayment of its warehouse financing facilities, capital expenditures,
operating and administrative expenses and payment of income taxes.
26
<PAGE>
The loan origination and processing fees charged to the borrower are
included in the principal balance of the loan originated. The Company funds such
loans out of available cash or through its warehouse financing facilities. For
loans financed through available cash, the Company receives its loan origination
and processing fees in cash upon sale of the loan. For loans financed through
the warehouse financing facilities, the Company generally receives substantially
all of the loan origination and processing fees in cash at the time of the
warehouse financing facility borrowing.
During the third quarter of 1996, the Company completed the IPO whereby
6,037,500 shares of Class A Common Stock were sold resulting in gross proceeds
of $68.4 million. After deducting underwriting discounts and costs of the IPO,
the net proceeds of $63.1 million were used to pay $45.0 million of S
distribution notes, to pay down $12.9 million of the Company's warehouse
financing facilities and to fund current operations.
Prior to the IPO, the Company paid dividends, including amounts to be used
by the stockholders for the payment of personal income tax on the earnings of
the S corporation. In this regard, the Company paid dividends of $12.2 million
in 1996. In addition, in 1996, the Company distributed S distribution notes to
the stockholders of the Company totaling $45.0 million. Proceeds from the IPO
were used to pay the S distribution notes in 1996. Since the completion of the
IPO in July 1996 the Company has been taxed as a C corporation and no cash
dividends have been declared.
In February 1997, the Company entered into master repurchase agreements to
provide warehouse financing facilities to two mortgage banking companies
("Borrowers") that are controlled by related parties. During 1998, subsequent to
receiving full repayment on the outstanding warehouse financing facilities, the
Company terminated the arrangement with the Borrowers.
In April 1997, the Board of Directors approved a share repurchase program
under which the Company was authorized to purchase up to 1.5 million shares of
its Class A Common Stock. In January 1998 and July 1998, the Board of Directors
authorized the purchase of an additional 2.0 million shares and 4.0 million
shares of Class A Common Stock, respectively. Of the 7.5 million shares
authorized, the Company had repurchased approximately 4.0 million shares as of
December 31, 1998.
As of December 31, 1998, the Company had commitments to fund loans of $7.8
million. Historically, approximately 55% of such commitments have ultimately
been funded. Capital expenditures totaled $3.4 million, $6.7 million and $2.3
million in 1998, 1997 and 1996, respectively. In 1997, the Company purchased an
office building for $3.4 million to house the Company's telemarketing
operations.
The Company is currently negotiating to refinance its 40,000 square foot
office building in Irvine, California, and expects to receive proceeds of
approximately $3.7 million in the first quarter of 1999 in connection with this
refinancing. There can be no assurance, however, that this refinancing will be
achieved.
The Company believes that cash flows from operations, net proceeds from
securitizations and whole loan sales and the availability of funds under the
warehouse financing facilities will be sufficient to fund operating needs and
capital expenditures for the ensuing 12 months.
YEAR 2000 ISSUE
The Year 2000 issue is the result of computer programs written using two
digits rather than four digits to define the applicable year. Any of the
Company's internal use computer programs and hardware, as well as its software,
that are date sensitive may recognize a date using the two digits "00" as the
year 1900 rather than the year 2000. Failure to correct the Year 2000 problem
could result in miscalculation of data, causing a disruption of operations
including, among other things, an inability to process loan transactions,
service its loan portfolio or engage in other normal business activities. Such
failure could materially and adversely affect the Company's results of
operations and financial condition.
The Company has implemented a formal five-step plan in order to address the
Year 2000 issue: (1) Awareness, (2) Inventory, (3) Assessment, (4) Renovation,
and (5) Testing and Implementation. The plan addresses hardware and software
purchased or leased from outside vendors, in-house developed software,
telecommunication equipment and facilities. The first four steps of the plan
have been completed and, thus far, the Company has been required to replace or
renovate only a small amount of older computer equipment to comply with the Year
2000 issue. The Company expects to complete the last step of the plan by the
second quarter of 1999. Because the majority of the Company's computer software
and hardware has been purchased or developed recently and was designed to be
Year 2000 compliant, the Company does not expect its costs to be material in
addressing the Year 2000 issue.
27
<PAGE>
The Company has initiated formal communications with its significant outside
vendors to determine the extent to which the Company may be vulnerable in the
event that those parties fail to properly address their own Year 2000 issue.
While the Company is not presently aware of any significant exposure, there can
be no assurance that the systems of third parties on which the Company relies
will be converted in a timely manner. A contingency plan for outside vendors has
not yet been developed for dealing with the most reasonably likely worst case
scenario, and such scenario has not yet been clearly identified. The Company
expects to complete its analysis and contingency plan by June 30, 1999.
EFFECTS OF RECENT ACCOUNTING PRONOUNCEMENTS
In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 128 "Earnings Per
Shares," which is effective for annual and interim periods ending after December
15, 1997. It supersedes the presentation of primary earnings per share with a
presentation of basic earnings per share which does not consider the effect of
common stock equivalents. The computation of diluted earnings per share, which
gives effect to all dilutive potential common shares that were outstanding
during the period, is consistent with the computation of fully diluted earnings
per share per Accounting Principles Board opinion No. 15. The adoption of this
standard did not have a material effect on the Company's earnings per share.
Beginning with the first quarter of 1998, the Company adopted FASB SFAS No.
130 "Reporting Comprehensive Income." This statement requires that all items
that are required to be recognized under accounting standards as comprehensive
income be reported in a financial statement that is displayed with the same
prominence as other financial statements.
In June of 1997, the FASB issued SFAS No. 131 "Disclosures about Segments of
an Enterprise and Related Information" which is effective for annual periods
beginning after December 15, 1997. This statement established standards for the
method that public entities use to 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, geographical areas, and major customers. The
adoption of this standard had no significant impact on the Company's current
presentation of financial statements.
In February 1998, FASB issued SFAS No. 132 "Employers' Disclosure about
Pensions and Other Postretirement Benefits," which is effective for annual and
interim periods beginning after December 15, 1997. This statement standardizes
the disclosure requirements for pensions and other postretirement benefits to
the extent practicable, requires additional information on changes in the
benefit obligations and fair values of plan assets that will facilitate
financial analysis and eliminates certain disclosures that are no longer useful
as they were under previous statements. The adoption of this standard had no
impact on the Company's current presentation of financial statements.
In June 1998, FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which is effective for annual and interim
periods beginning after June 15, 1999. This statement establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. The Company
has not yet completed its analysis of the effect this standard will have on the
Company's financial condition, results of operations or cash flows.
In October 1998, the FASB issued SFAS 134, "Accounting for Mortgage-Backed
Securities Retained After the Securitization of Mortgage Loans Held for Sale by
a Mortgage Banking Enterprise," which will become effective for the first fiscal
quarter beginning after December 15, 1998. This statement requires that after
the securitization of mortgage loans held for sale, an entity engaged in
mortgage banking activities classify the resulting mortgage-backed securities
based on its ability and intent to sell or hold those investments. The Company
has reviewed this standard, and its adoption is not expected to have a material
effect on the Company's financial condition, results of operations, or cash
flows.
28
<PAGE>
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following table provides information regarding the Company's primary
categories of assets and liabilities which are sensitive to changes in interest
rates. The information presented reflects the expected cash flows of the primary
categories by year, including the related weighted average interest rate. The
cash flows for loans held for sale are based on the expectancy of liquidating or
securitizing them. The cash flows for residual interest in securities, loans
held for investment and mortgage servicing rights are based on maturity date and
are adjusted for expected prepayments which are based on historical information.
Cash flows for warehouse financing and other borrowings are based on the
expectancy of liquidating or securitizing the assets to repay the financing, and
are also based on the maturity date and adjusted for expected prepayments which
are based on historical information. For purposes of cash flow presentation,
premiums or discounts on purchased assets, mark-to-market adjustments and loans
on non-accrual are excluded from the amounts presented. See Item 1. Interest
Rate Risk Management and Foreign Currency Risk for a discussion of risk related
to hedging and foreign currency.
<TABLE>
<CAPTION>
YEAR 1 YEAR 2 YEAR 3 YEAR 4 YEAR 5 THEREAFTER
(DOLLARS IN THOUSANDS)
------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
SELECTED ASSETS:
Trading
Loans held for sale $ 26,116
Average interest rate 9.01%
Residual interests in securities $ 18,590 $ 12,712 $ 7,091 $ 3,780 $ 2,146 $ 4,401
Average interest rate 15.81% 15.81% 15.81% 15.81% 15.81% 15.81%
Non-trading
Loans receivable held for investment $ 13,064 $ 12,828 $12,828 $ 12,827 $ 12,827 $ 352
Average interest rate 10.61% 10.60% 10.60% 10.60% 10.60% 11.30%
Mortgage servicing rights $ 5,342 $ 2,416 $ 1,465 $ 744 $ 66
Average interest rate 15.96% 15.96% 15.96% 15.96% 15.96%
SELECTED LIABILITIES:
Warehouse financing facility $ 30,247 $ 12,709 $12,709 $ 12,708 $ 12,708 $ 1,178
Average interest rate 7.56% 8.50% 8.50% 8.50% 8.50% 8.50%
Other borrowings $ 6,545
Average interest rate 8.34%
</TABLE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See Consolidated Financial Statements beginning on Page F-1 of this Annual
Report on Form 10-K.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
27
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item is set forth under the caption
"Management" in the Company's definitive Proxy Statement (the "Proxy
Statement"), which will be filed with the Securities and Exchange Commission
pursuant to Regulation 14A under the Securities and Exchange Act of 1934 and is
incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is set forth under the caption
"Executive Compensation" in the Proxy Statement, which will be filed with the
Securities and Exchange Commission pursuant to Regulation 14A under the
Securities and Exchange Act of 1934 and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is set forth under the caption
"Security Ownership of Certain Beneficial Owners and Management" in the Proxy
Statement, which will be filed with the Securities and Exchange Commission
pursuant to Regulation 14A under the Securities and Exchange Act of 1934 and is
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item is set forth under the caption
"Certain Relationships and Related Transactions" in the Proxy Statement, which
will be filed with the Securities and Exchange Commission pursuant to Regulation
14A under the Securities and Exchange Act of 1934 and is incorporated herein by
reference.
30
<PAGE>
PART IV
ITEM 14. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES, REPORTS ON FORM 8-K
(a) 1. Financial Statements:
Consolidated Statements of Financial Condition:
December 31, 1998 and 1997 F-1
Consolidated Statements of Income:
For each of the three years in the period
Ended December 31, 1998 F-2
Consolidated Statements of Comprehensive Income:
For each of the three years In the period ended
December 31, 1998 F-3
Consolidated Statements of Stockholders' Equity:
For each of the three years in the period ended
December 31, 1998 F-4
Consolidated Statements of Cash Flows:
For each of the three years in the Period ended
December 31, 1998 F-5
Notes to Consolidated Financial Statements:
For each of the three years in the Period
ended December 31, 1998 F-6
Independent Auditors' Report F-24
2. Financial Statement Schedules:
None Required
3. Exhibits
EXHIBIT
NO. DESCRIPTION OF EXHIBIT
- --- ----------------------
3.1 Amended Certificate of Incorporation of the Company *
3.2 Bylaws of the Company (Incorporated by reference to Exhibit 3.2 to the
Company's Registration Statement on Form S-1, Commission File No.
333-3633)
4.1 1996 Stock Incentive Plan (Incorporated by reference to Exhibit 4.1 to
the Company's Registration Statement on Form S-1, Commission File No.
333-3633)
4.1.1 Form of Incentive Stock Option Agreement for use with 1996 Stock
Incentive Plan (Incorporated by reference to Exhibit 4.1.1 to the
Company's Annual Report on Form 10-K for the year ended December 31,
1996, Commission File No. 0-28706)
4.1.2 Form of Non-qualified Stock Option Agreement for use with 1996 Stock
Incentive Plan (Incorporated by reference to Exhibit 4.1.2 to the
Company's Annual Report on Form 10-K for the year ended December 31,
1996, Commission File No. 0-28706)
10.1 Warehouse Financing Facility dated October 29, 1993 (Incorporated by
reference to Exhibit 10.1 to the Company's Registration Statement on
Form S-1, Commission File No. 333-3633)
10.2 Form of Pooling and Servicing Agreement (Incorporated by reference
to Exhibit 10.2 to the Company's Registration Statement on Form S-1,
Commission File No. 333-3633)
10.3 Corporate Headquarters Lease (Incorporated by reference to Exhibit
10.3 to the Company's Registration Statement on Form S-1, Commission
File No. 333-3633)
10.4 S Distribution Notes (Incorporated by reference to Exhibit 10.4 to the
Company's Registration Statement on Form S-1, Commission File No.
333-3633)
10.5 Mason Employment Agreement (Incorporated by reference to Exhibit 10.5
to the Company's Registration Statement on Form S-1, Commission File
No. 333-3633)
10.5.1 Mason Loan (Incorporated by reference to Exhibit 10.5.1 of the Company's
Annual Report on Form 10-K for the year ended December 31, 1996,
Commission File No. 0-28706)
10.6 Form of Directors' and Officers' Indemnity Agreement (Incorporated by
reference to Exhibit 10.7 to the Company's Registration Statement on
Form S-1, Commission File No. 333-3633)
10.7 Master Repurchase Agreement dated as of October 31, 1997 between
Nationscapital Mortgage Corporation and the Company
<PAGE>
EXHIBIT
NO. DESCRIPTION OF EXHIBIT
- --- ----------------------
10.8 Master Repurchase Agreement dated as of October 31, 1997 between Coast
Security Mortgage Inc. and the Company
10.9 Chisick Employment Agreement (Incorporated by reference to Exhibit 10.10
to the Company's Registration Statement on Form S-1, Commission File No.
333-3633)
10.10 Reimbursement Agreement (Incorporated by reference to Exhibit 10.11 to
the Company's Registration Statement on Form S-1, Commission File No.
333-3633)
10.11 Warehouse Financing Facility dated September 5, 1996 (Incorporated by
reference to Exhibit 10.12 to the Company's Quarterly Report on Form
10-Q for the period ended September 30, 1996, Commission File No.
0-28706)
10.12 Interim Warehouse and Security Agreement dated as of February 15, 1997
between Nationscapital Mortgage Corporation and the Company
(Incorporated by reference to Exhibit 10.12 to the Company's Quarterly
Report on Form 10-Q for the period ended March 31, 1997, Commission File
No. 0-28706)
10.13 Interim Warehouse and Security Agreement dated as of February 15, 1997
between Coast Security Mortgage Inc. and the Company (Incorporated by
reference to Exhibit 10.13 to the Company's Quarterly Report on Form
10-Q for the period ended March 31, 1997, Commission File No. 0-28706)
10.14 Smith Loan (Incorporated by reference to Exhibit 10.14 to the Company's
Quarterly Report on Form 10-Q for the period ended March 31, 1997,
Commission File No. 0-28706)
10.15 Building Purchase and Sale Agreement between Amresco Residential
Mortgage Corporation and the Company (Incorporated by reference to
Exhibit 10.15 to the Company's Quarterly Report on Form 10-Q for the
period ended September 30, 1997, Commission File No. 0-28706)
10.16 (pound)25,000,000 Warehouse Credit Facility Agreement dated August 18,
1997 between Prudential Securities Credit Corporation and the Company
(Incorporated by reference to Exhibit 10.16 to the Company's Quarterly
Report on Form 10-Q for the period ended September 30, 1997, Commission
File No. 0-28706)
10.17 Master Repurchase Agreement dated as of October 27, 1997 between First
Union National Bank and the Company
10.18 Amendment to Warehouse Credit Facility Agreement dated August 18, 1997
between Prudential Securities Credit Corporation and the Company
(Incorporated by reference to Exhibit 10.18 to the Company's Quarterly
Report on Form 10-Q for the period ended March 30, 1998, Commission File
No. 0-28706)
10.19 Master Repurchase Agreement dated as of December 30, 1998 between Lehman
Commercial Paper Inc. and the Company *
21 Subsidiaries of the Registrant *
27 Financial Data Schedule *
- ----------------
* Filed herewith
(a) Reports on Form 8-K:
None
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Date: March 15, 1999
------------------------
FIRST ALLIANCE CORPORATION
By: /S/ BRIAN CHISICK
--------------------------------
Brian Chisick
President and
Chief Executive Officer
Pursuant to the requirements of the Securities and Exchange Act of
1934, this report has been signed below by the following persons on behalf of
the registrant and in the capacities and on date indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/S/ BRIAN CHISICK President and Chief Executive March 15, 1999
- ---------------------- Officer, Director
Brian Chisick PRINCIPAL EXECUTIVE OFFICER
/S/ FRANCISCO NEBOT Executive Vice President and March 15, 1999
- ---------------------- Chief Financial Officer,
Francisco Nebot Director, PRINCIPAL ACCOUNTING
OFFICER
/S/ JEFFREY W. SMITH Executive Vice President and March 15, 1999
- --------------------- Chief Operating Officer,
Jeffrey W. Smith Director
/S/ SARAH CHISICK Vice President, Director March 15, 1999
- ---------------------
Sarah Chisick
/S/ MERRILL BUTLER Director March 15, 1999
- ---------------------
Merrill Butler
/S/ ALBERT L. LORD Director March 15, 1999
- ---------------------
Albert L. Lord
<PAGE>
FIRST ALLIANCE CORPORATION
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Statements of Financial Condition
As of December 31, 1997 and 1998 F-1
Consolidated Statements of Income
For each of the three years in
the period ended December 31, 1998 F-2
Consolidated Statements of Comprehensive Income
For each of the three years in the period
ended December 31, 1998 F-3
Consolidated Statements of Stockholders' Equity
For each of the three years in the period
ended December 31, 1998 F-4
Consolidated Statements of Cash Flows
For each of the three years in the period
ended December 31, 1998 F-5
Notes to Consolidated Financial Statements
For each of the three years in the period
ended December 31, 1998 F-7
Independent Auditors' Report F-24
<PAGE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------
1997 1998
---------- ----------
ASSETS
<S> <C> <C>
Cash and cash equivalents.................................................................... $ 14,032 $ 18,052
Restricted cash.............................................................................. 1,281
Receivable from trusts....................................................................... 3,085 4,652
Loans held for sale.......................................................................... 54,872 24,421
Warehouse financing receivable............................................................... 12,324
Loans receivable held for investment......................................................... 2,082 57,667
Residual interests in securities - at fair value............................................. 50,238 48,720
Mortgage servicing rights.................................................................... 9,240 10,033
Property, net................................................................................ 8,587 9,733
Prepaid expenses and other assets............................................................ 3,687 3,044
---------- ----------
Total assets............................................................................. $ 158,147 $ 177,603
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Warehouse financing facilities............................................................... $ 57,742 $ 17,539
Secured term loan facility - related party................................................... 64,720
Other borrowings............................................................................. 6,545
Accounts payable and accrued liabilities..................................................... 4,769 5,757
Income taxes payable......................................................................... 3,664 1,142
Deferred tax liabilities..................................................................... 670 7,299
Notes payable................................................................................ 25 14
---------- ----------
Total liabilities........................................................................ 66,870 103,016
---------- ----------
Commitments and contingencies (Note 9)
Stockholders' equity:
Preferred Stock $.01 par value: 1,000,000 shares authorized; no shares outstanding..........
Class A Common Stock, $.01 par value; 50,000,000 shares authorized; shares issued and
outstanding: 22,186,288 at December 31, 1998, 11,265,375 at December 31,1997............ 112 223
Class B Common Stock, $.01 par value; 25,000,000 shares authorized; shares issued and
outstanding: 10,956,270 at December 31, 1997............................................ 110
Additional paid in capital................................................................... 65,321 65,298
Retained earnings............................................................................ 47,110 61,326
Treasury stock - at cost: 4,046,800 shares at December 31, 1998 and 1,169,300 at
December 31, 1997........................................................................ (20,544) (51,582)
Deferred stock compensation.................................................................. (765)
Accumulated other comprehensive income....................................................... (67) (678)
---------- ----------
Total stockholders' equity............................................................... 91,277 74,587
---------- ----------
Total liabilities and stockholders' equity............................................... $ 158,147 $ 177,603
========== ==========
</TABLE>
See notes to consolidated financial statements.
F-1
<PAGE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
REVENUE:
Loan origination and sale...................................... $ 48,171 $ 66,678 $ 54,951
Loan servicing and other fees.................................. 8,854 7,544 3,930
Interest and other............................................. 13,846 21,427 24,927
---------- ---------- ----------
Total revenue................................................ 70,871 95,649 83,808
---------- ---------- ----------
EXPENSE:
Compensation and benefits...................................... 15,488 19,341 22,857
Advertising.................................................... 4,191 6,099 9,357
Professional services and other fees........................... 1,946 3,196 4,762
Facilities and insurance....................................... 2,511 3,362 4,332
Supplies....................................................... 1,575 2,416 2,498
Depreciation and amortization.................................. 838 924 2,157
Interest....................................................... 2,655 3,164 8,382
Legal 917 2,009 3,851
Travel and training............................................ 1,163 1,710 1,521
Other ......................................................... 1,348 783 1,138
---------- ---------- ----------
Total expense................................................ 32,632 43,004 60,855
---------- ---------- ----------
INCOME BEFORE INCOME TAX PROVISION................................. 38,239 52,645 22,953
INCOME TAX PROVISION............................................... 6,100 19,873 8,737
---------- ---------- ----------
NET INCOME......................................................... $ 32,139 $ 32,772 $ 14,216
========== ========== ==========
NET INCOME PER SHARE:
Basic.......................................................... $ 1.72 $ 1.50 $ 0.73
========== ========== ==========
Diluted........................................................ $ 1.72 $ 1.49 $ 0.73
========== ========== ==========
Weighted average number of common shares outstanding:
Basic.......................................................... 18,638,423 21,851,732 19,380,119
Diluted........................................................ 18,672,872 22,030,438 19,431,219
</TABLE>
See notes to consolidated financial statements.
F-2
<PAGE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
NET INCOME......................................................... $ 32,139 $ 32,772 $ 14,216
OTHER COMPREHENSIVE INCOME
Foreign currency translation adjustment net of income taxes of
$375, $18 and $7 for 1998, 1997 and 1996, respectively......... (38) (29) (611)
---------- ---------- ----------
COMPREHENSIVE INCOME................................................ $ 32,101 $ 32,743 $ 13,605
========== ========== ==========
</TABLE>
See notes to consolidated financial statements
F-3
<PAGE>
<TABLE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(Dollars in thousands)
<CAPTION>
Class A Class B Additional
Common Stock Common Stock Paid in Retained
Shares Amount Shares Amount Capital Earnings
------------ ------ ------------ ------ --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1995............ 15,963,750 $ 42 $ 42,279
Dividends............................... (15,085)
Distribution of S distribution notes.... (44,995)
Net income.............................. 32,139
Issuance of restricted stock............ 161,250 119 $ 1,481
Initial public offering of stock........ 6,037,500 $ 60 63,089
Amortization of deferred stock
compensation........................
Foreign currency translation
adjustment..........................
------------ ------ ------------ ------ --------- ----------
Balance at December 31, 1996............ 6,037,500 $ 60 16,125,000 $ 161 $ 64,570 $ 14,338
Net income.............................. 32,772
Issuance of stock....................... 59,145 1 670
Tax benefit from exercise
of stock options.................... 81
Purchase of treasury stock..............
Conversion of Class B Stock
to Class A Stock................... 5,168,730 51 (5,168,730) (51)
Amortization of deferred
stock compensation.................
Foreign currency translation
adjustment.........................
------------ ------ ------------ ------ --------- ----------
Balance at December 31, 1997............ 11,265,375 $ 112 10,956,270 $ 110 $ 65,321 $ 47,110
Net income.............................. 14,216
Issuance of stock....................... 45,913 1 520
Tax benefit from exercise
of stock options.................... 263
Purchase of treasury stock..............
Conversion of Class B Stock
to Class A Stock.................... 10,875,000 110 (10,875,00) (110)
Forfeitures of Class B Stock............ (81,270) (806)
Amortization of deferred
stock compensation..................
Foreign currency translation
adjustment..........................
------------ ------ ------------ ------ --------- ----------
Balance at December 31, 1998............ 22,186,288 $ 223 --- $ --- $ 65,298 $ 61,326
============ ====== ============ ====== ========= ===========
</TABLE>
continued on next page..
See notes to consolidated financial statements.
F-4
<PAGE>
<TABLE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY - Continued
(Dollars in thousands)
<CAPTION>
Deferred Accumulated Total
Treasury Stock Stock Compensation Stockholders'
Shares Amount Compensation Income Equity
------------ ----------- ------------ ------------ -------------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1995............ $ 42,321
Dividends............................... (15,085)
Distribution of S distribution notes.... (44,995)
Net income.............................. 32,139
Issuance of restricted stock............ $ (1,600)
Initial public offering of stock........ 63,149
Amortization of deferred stock
compensation........................ 487 487
Foreign currency translation
adjustment.......................... $ (38) (38)
------------ ----------- ------------ ------------ -------------
Balance at December 31, 1996............ $ (1,113) $ (38) $ 77,978
Net income.............................. 32,772
Issuance of stock....................... 671
Tax benefit from exercise
of stock options.................... 81
Purchase of treasury stock.............. 1,169,300 $ (20,544) (20,544)
Conversion of Class B Stock
to Class A Stock...................
Amortization of deferred
stock compensation................. 348 348
Foreign currency translation
adjustment......................... (29) (29)
------------ ----------- ------------ ------------ -------------
Balance at December 31, 1997............ 1,169,300 $ (20,544) $ (765) $ (67) $ 91,277
Net income.............................. 14,216
Issuance of stock....................... 521
Tax benefit from exercise
of stock options.................... 263
Purchase of treasury stock.............. 2,877,500 (31,038) (31,038)
Conversion of Class B Stock
to Class A Stock.................... ---
Forfeitures of Class B Stock............ 806 ---
Amortization of deferred
stock compensation.................. (41) (41)
Foreign currency translation
adjustment.......................... (611) (611)
------------ ----------- ------------ ------------ -------------
Balance at December 31, 1998............ 4,046,800 $ (51,582) $ --- $ (678) $ 74,587
============ =========== ============ ============ =============
</TABLE>
See notes to consolidated financial statements.
F-4
<PAGE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................................................. $ 32,139 $ 32,772 $ 14,216
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
Capitalized residual interests and mortgage servicing rights........... (12,020) (26,120) (18,395)
Accretion of residual interest in securities........................... (9,913) (12,130) (8,260)
Collection of residual interest in securities.......................... 8,568 11,193 21,652
Deferred income taxes.................................................. (3,028) 3,774 6,886
Amortization of mortgage servicing rights.............................. 1,813 2,857 5,728
Depreciation and amortization.......................................... 838 923 2,157
Deferred stock compensation............................................ 487 348 (41)
Accretion of discounts on loan receivable.............................. (268) (143) 51
Recognition of deferred fees on loans receivable held for investment... (118)
Foreign currency transaction (gain) loss .............................. (188) 146 (155)
Loss on sales of property.............................................. 414 70 22
Changes in assets and liabilities:
Restricted cash........................................................ (1,281)
Receivable from trusts................................................. 1,993 (414) (1,567)
Loans held for sale.................................................... 12,112 (44,416) (26,450)
Prepaid expenses and other assets...................................... 1,681 (1,562) 645
Accounts payable and accrued liabilities............................... (1,282) 816 986
Income taxes payable................................................... 5,396 (1,651) (2,522)
---------- ---------- ----------
Net cash provided by (used in) operating activities................. 38,742 (33,537) (6,446)
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Repayments (advances) on warehouse financing receivable..................... (12,324) 12,324
Capital expenditures........................................................ (2,286) (6,653) (3,355)
Collections on loans receivable held for investment......................... 1,518 954 1,606
Proceeds from sales of property............................................. 1,748 645 98
---------- ---------- ----------
Net cash provided by (used in) investing activities.................. 980 (17,378) 10,673
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings (repayments) on warehouse financing facilities............... (18,233) 57,641 24,321
Proceeds from other borrowings.............................................. 6,545
Purchase of treasury stock.................................................. (20,544) (31,038)
Proceeds from issuance of stock (net of issuance costs)..................... 63,149
Proceeds from exercise of stock options..................................... 671 521
Payments on notes payable................................................... (1,163) (188) (11)
Payments on S distribution notes............................................ (44,995)
Cash dividends.............................................................. (15,085)
Proceeds from issuance of notes payable to stockholders..................... 1,000
Payments on notes payable to stockholders................................... (1,000)
---------- ---------- ----------
Net cash (used in) provided by financing activities.................. (16,327) 37,580 338
Effect of exchange rate changes on cash..................................... (47) (545)
---------- ---------- ----------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS........................ 23,395 (13,382) 4,020
CASH AND CASH EQUIVALENTS, beginning of period.............................. 4,019 27,414 14,032
========== ========== ==========
CASH AND CASH EQUIVALENTS, end of period ................................... $ 27,414 $ 14,032 $ 18,052
========== ========== ==========
</TABLE>
FIRST ALLIANCE CORPORATION
See notes to consolidated financial statements.
F-5
<PAGE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS - (continued)
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
SUPPLEMENTAL INFORMATION:
Interest paid...................................................... $ 2,735 $ 2,694 $ 8,395
========== ========== ==========
Income taxes paid.................................................. $ 3,686 $ 17,764 $ 3,831
========== ========== ==========
SUPPLEMENTAL INFORMATION ON NON-CASH INVESTING
AND FINANCING ACTIVITIES:
Transfer of loans held for sale to loans receivable
held for investment........................................... $ 1,421 $ 594 $ 57,050
========== ========== ==========
Distribution of S Distribution Notes............................... $ 44,995
==========
Grant of restricted stock.......................................... $ 1,600
==========
</TABLE>
See notes to consolidated financial statements.
F-6
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION - The consolidated financial statements include the
accounts of First Alliance Corporation ("FACO") and its subsidiaries
(collectively the "Company"). The Company is a financial services organization
principally engaged in mortgage loan origination, purchases, sales and
servicing. The majority of the Company's loans are made to owners of single
family residences who use the loan proceeds for such purposes as debt
consolidation and financing of home improvements. The Company securitizes the
loans in a trust or sells loans to wholesale purchasers. A significant portion
of the loans are securitized with the Company retaining the right to service the
loans. The Company is currently licensed as a consumer finance lender in
eighteen states, the District of Columbia and the United Kingdom. As of December
31, 1998, however, the Company discontinued its United Kingdom loan origination
operations. The Company does not believe that the discontinuation of this
program will have a material effect on the Company's financial condition,
results of operations or cash flows. The Company's business may be affected by
many factors including real estate and other asset values, the level of and
fluctuations in interest rates, changes in the securitization market and
competition.
The consolidated financial statements are prepared in accordance with
generally accepted accounting principles. All significant intercompany accounts
and transactions have been eliminated in consolidation.
In July and August 1996, FACO completed an initial public offering (the
"Offering") whereby 6,037,500 shares of its Class A Common Stock were sold to
the public resulting in gross proceeds of $68.4 million. Concurrently,
16,125,000 shares of the Class B Common Stock of FACO were issued in exchange
for all of the issued and outstanding shares of First Alliance Mortgage Company
("FAMCO") as part of a reorganization whereby FAMCO became a wholly owned
subsidiary of FACO. The acquisition of FAMCO has been accounted for similar to a
pooling of interests. The consolidated financial position and results of
operations of the Company for periods prior to the date of the reorganization
substantially consist of those of FAMCO. After deducting underwriting discounts
and offering costs of $5.3 million, net proceeds from the Offering were $63.1
million. By August 1998, all Class B Common Stock of FACO was converted to Class
A Common Stock.
CASH AND CASH EQUIVALENTS - The Company considers all highly liquid debt
instruments purchased with an original maturity of three months or less to be
cash equivalents.
RESTRICTED CASH - As part of the Company's credit card program, the Company
is required to maintain a cash balance restricted for the purpose of reserving
for credit losses. The Company had a cash balance of $1.3 million related to
this as of December 31, 1998.
ALLOWANCE FOR ESTIMATED LOSSES ON CREDIT CARD ACCOUNTS - The allowances for
estimated net losses on credit card accounts represent the Company's estimate of
net losses to be realized. This estimate is based on historical charge-off
ratios and recoveries. The Company's policy is to charge-off any credit card
accounts greater than 90 days delinquent. During 1998, the Company recorded a
provision of $1.5 million and recognized charge-offs of $0.7 million. As of
December 31, 1998, the Company had an allowance for estimated net losses of $0.8
million related to credit card accounts of approximately $26 million.
RECEIVABLE FROM TRUSTS - In the normal course of servicing loans previously
securitized, the Company advances payments and other costs to the securitization
trusts. In such cases, funds advanced are reflected in the consolidated
statements of financial condition as receivable from trusts. Advances are
recovered through subsequent collections from the trusts or borrowers.
LOANS - Loans held for sale are loans the Company plans to sell or
securitize which are carried at the lower of aggregate cost or market value.
F-7
<PAGE>
Loan origination and processing fees and related direct origination costs are
deferred until the related loan is sold. Loans receivable held for investment
are loans the Company has purchased or originated and has the intent and ability
to hold to maturity. Loan origination and processing fees and related direct
origination costs associated with loans receivable held for investment are
deferred and offset against the related loans, and the net fee or cost is
amortized into income over the contractual lives of the related loans. Loans
transferred from loans held for sale to loans receivable held for investment are
transferred at the lower of cost or market value. When a loan becomes over 90
days contractually delinquent, it is placed on non-accrual status and unpaid
interest income is reversed. While a loan is on non-accrual status, interest is
recognized only as cash is received.
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
ALLOWANCES FOR ESTIMATED LOSSES ON LOANS AND REAL ESTATE OWNED - The
allowances for estimated losses on loans and real estate owned ("REO") represent
the Company's estimate of identified and unidentified losses. These estimates,
while based upon historical loss experience and other relevant data, are
ultimately subjective and inherently uncertain. Estimated losses on loans are
collectively evaluated for impairment. When the estimated losses are determined
to be permanent, as in the case of an REO, the Company then establishes a
specific allowance for estimated losses.
RESIDUAL INTERESTS IN SECURITIES - The Company securitizes a majority of
loans held for sale in a trust. The trust is a multi-class security which
derives its cash flow from a pool of mortgages. The regular interests of the
securitization trusts are sold and the residual interests are retained by the
Company. The documents governing the Company's securitizations require the
Company to establish initial overcollateralization or build
overcollateralization levels through retention of distributions by the
securitization trust otherwise payable to the Company as the residual interest
holder. This overcollateralization causes the aggregate principal amount of the
loans in the related pool and/or cash reserves to exceed the aggregate principal
balance of the outstanding regular interests. Such excess amounts serve as
credit enhancement for the regular interests of the related securitization
trust. To the extent that borrowers default on the payment of principal or
interest on the loans, losses will reduce the overcollateralization to the
extent that funds are available. If payment defaults exceed the amount of
overcollateralization, as applicable, the insurance policy maintained by the
related securitization trust will pay any further losses experienced by holders
of the regular interests in the related securitization trust. The Company does
not have any recourse obligations for credit losses in the securitization trust.
The Company classifies residual interests as trading securities which are
carried at fair value with any unrealized gains or losses recorded in the
results of operations in the period of the change in fair value. Valuations at
origination and at each reporting period are based on discounted cash flow
analyses. The cash flows are estimated as the excess of the weighted average
coupon on each pool of underlying mortgages over the sum of the pass-through
interest rates on the regular interests of the related securitization trust,
servicing fees, trustee fees, insurance fees, and an estimate of annual future
loan losses. These cash flows are projected over the life of the loans using
prepayment, default, loss, and interest rate assumptions that market
participants would use for similar financial instruments and are discounted
using an interest rate that a purchaser unrelated to the seller of such a
financial instrument would demand. The valuation includes consideration of
characteristics of the loans including loan type and size, interest rate,
origination date, term and geographic location. The Company arrives at its
prepayment assumptions by using the actual six month prepayment average, which
is applied to the first 18 months of cash flows, and the actual life to date
prepayment average to the remaining months of cash flows. To the Company's
knowledge, there is no active market for the sale of these residual interests.
The range of possible values attributable to the factors used in determining
fair value is broad. Accordingly, the Company's estimate of fair value is
subjective. The Company capitalized $16.4 million, $17.1 million and $8.7
million in residual interest certificates in 1998, 1997 and 1996, respectively.
During the same periods, cash collections related to residual interest
certificates totaled $21.7 million, $11.2 million and $8.6 million,
respectively. During 1998, 1997 and 1996, the Company recorded aggregate
unrealized gains/(losses) in the value of its residual interests of ($3.3)
million, $5.4 million, and ($0.5) million, respectively. These unrealized
gains/(losses) are included in loan origination and sale revenue.
F-8
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
During 1998 and 1997, the Company utilized the following assumptions to
value its residual interest certificates at origination and at year-end
reevaluation:
<TABLE>
<CAPTION>
1997 1998
------------------------------------------ -------------------------------------
Fixed Rate Loans Adjustable Fixed Rate Adjustable
Rate Loans Loans Rate Loans
------------------- ------------------- ----------------- ----------------
<S> <C> <C> <C> <C>
AT ORIGINATION (1)
- ------------------
Weighted average CPR 25% 35% 26% 40%
Discount rate 15% 15% 15% - 18% 15% - 18%
Weighted average life (in years) 3.5 2.3 3.3 1.9
Gross anticipated credit losses 1.6% 1.1% 1.8% 0.9%
AT YEAR-END REEVALUATION (2)
- ----------------------------
Weighted average CPR 28% 44% 27% 49%
Discount rate 15% 15% 15% - 18% 15% - 18%
Weighted average life (in years) 3.1 1.9 3.2 1.6
Gross anticipated credit losses 1.4% 0.9% 1.8% 1.2%
</TABLE>
(1) Includes securitizations consummated during 1998 and 1997.
(2) Includes all outstanding securitizations consummated.
MORTGAGE SERVICING RIGHTS - Upon the sale or securitization of servicing
retained loans, the Company capitalizes the costs associated with the right to
service mortgage loans based on their relative fair values. The Company
determines the fair value of the servicing rights based on the present value of
estimated net future cash flows related to servicing income. Assumptions used to
value mortgage servicing rights are consistent with those used to value residual
interests. The value allocated to the mortgage servicing rights is amortized in
proportion to and over the period of estimated net future servicing fee income.
The Company capitalized $7.0 million, $6.1 million and $3.8 million of
mortgage servicing rights for the years ended December 31, 1998, 1997 and 1996,
respectively. During the same periods, related amortization of such mortgage
servicing rights was $5.7 million, $2.9 million and $1.8 million, respectively.
The Company periodically evaluates capitalized mortgage servicing rights for
impairment, which represents the excess of unamortized cost over fair value.
This review is performed on a disaggregated basis based on loan type. The
Company generally makes loans to credit impaired borrowers whose borrowing needs
may not be met by traditional financial institutions due to credit exceptions.
The Company has found that credit impaired borrowers are payment sensitive
rather than interest rate sensitive. Therefore, the Company does not consider
interest rates a predominant risk characteristic for purposes of evaluating
impairment. Impairment, if it occurs, is recognized in a valuation allowance for
each pool in the period of impairment. At December 31, 1998, the estimated fair
value of mortgage servicing rights was $10.0 million and no valuation allowance
existed.
PROPERTY - Property is stated at cost and depreciated over the estimated
useful lives of the assets using straight line or accelerated methods. Leasehold
improvements are amortized on the straight-line method over the lesser of the
useful lives of the assets or the terms of the related leases. Useful lives
generally range from three to seven years.
REAL ESTATE OWNED - Real estate acquired in settlement of loans generally
results when property collateralizing a loan is foreclosed upon or otherwise
acquired by the Company in satisfaction of the loan. Real estate acquired
through foreclosure is carried at fair value less costs to dispose. Fair value
is based on the net amount that the Company could reasonably expect to receive
for the asset in a current sale between a willing buyer and a willing seller,
that is, other than in a forced or liquidation sale.
F-9
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
Adjustments to the carrying value of REO are made through valuation
allowances and chargeoffs recognized through a charge to earnings.
REVENUE RECOGNITION - The Company derives its revenue principally from gains
on sales of loans, fees for the origination of loans, loan servicing fees and
interest income. The Company sells its loans through securitization and whole
loan sales. Origination fees from loans pooled and securitized or sold in the
secondary market is recognized when such loan pools are sold. The Company
retains the right to service all loans it securitizes. The Company receives a
management fee for servicing loans based on a fixed percentage of the declining
principal balance of securitized loan pools and other ancillary and prepayment
fees associated with the servicing of such loans. The Company has historically
retained a residual interest in the securitization trusts.
Gains on servicing retained sales of loans through securitization represent
the difference between the net proceeds to the Company in the securitization and
the allocated cost of loans securitized. The allocated cost of the loans
securitized is determined by allocating their acquisition cost (for purchased
loans) or net carrying value (for originated loans) between the loans
securitized and the residual interests and the mortgage servicing rights
retained by the Company based upon their relative fair values. The net carrying
value of originated loans is equal to their principal balance less net deferred
origination fees. At origination, the Company classifies the residual interests
as trading securities, which are carried at fair value. The difference between
the fair value of residual interests and their allocated cost is recorded as
gain on securitization and is included in loan origination and sale revenue.
Gains on servicing released whole loan sales equal the difference between the
net proceeds to the Company from such sales and the loans' acquisition costs or
net carrying values.
Loan servicing and other fees are recorded as earned.
Interest income is recorded as earned. Interest income represents the
interest earned on loans held for sale during the period prior to their
securitization or sale, loans receivable held for investment, residual interests
and cash equivalents.
INCOME TAXES - Deferred tax assets and liabilities are determined based on
temporary differences between financial reporting and tax basis of assets and
liabilities and are measured by applying enacted tax rates and laws to taxable
years in which such temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a change in tax
rates is recognized in income in the period that includes the enactment date.
STOCK SPLIT - In October 1997 the Board of Directors authorized a
three-for-two stock split to be effected in the form of a stock dividend. The
stock dividend was distributed on October 31, 1997, to holders of record on
October 15, 1997. All balances and transactions in common stock and additional
paid in capital and all share and per share data, including shares issued and
outstanding, shares repurchased and net income per share, have been restated to
reflect the stock dividend. All outstanding options under the Company's stock
incentive plan have been adjusted for the effect of the stock dividend.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS - 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 periods.
Actual results could differ from those estimates.
FOREIGN CURRENCY TRANSLATION - The financial statements of the Company's
United Kingdom subsidiary were prepared in pounds sterling, its functional
currency, and translated into dollars at the current exchange rate at the end of
the period for the statements of financial condition and at a weighted average
rate for the period for the statements of income. Translation adjustments are
reflected as foreign currency translation adjustments in stockholders' equity
and accordingly have no effect on income. The Company considers its receivables
from its United Kingdom subsidiary as a long-term investment. Therefore,
unrealized foreign currency gains and losses from this transaction are treated
like translation adjustments to stockholders' equity and therefore have no
effect on income. Foreign currency transaction gains and losses for the
Company's United Kingdom subsidiary are included in income.
F-10
<PAGE> 47
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
RECENT ACCOUNTING PRONOUNCEMENTS - In February 1997, the Financial
Accounting Standards Board ("FASB") issued Statement of Financial Accounting
Standards ("SFAS") No. 128 "Earnings Per Share" which is effective for annual
and interim periods ending after December 15, 1997, and requires retroactive
application to all periods presented. It supersedes the presentation of primary
earnings per share with a presentation of basic earnings per share which does
not consider the effect of common stock equivalents. The computation of diluted
earnings per share, which gives effect to all dilutive potential common shares
that were outstanding during the period, is consistent with the computation of
fully diluted earnings per share per Accounting Principles Board Opinion No. 15.
The adoption of this standard did not have a material effect on the Company's
net income per share in 1998, 1997 and 1996.
Beginning with the first quarter of 1998, the Company adopted SFAS No. 130,
"Reporting Comprehensive Income". This statement requires that all items that
are required to be recognized under accounting standards as comprehensive income
be reported in a financial statement that is displayed with the same prominence
as other financial statements.
In June of 1997, the FASB issued SFAS No. 131 "Disclosures about Segments of
an Enterprise and Related Information" which is effective for annual periods
beginning after December 15, 1997. This statement established standards for the
method that public entities use to 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, geographical areas, and major customers.
In February 1998, FASB issued SFAS No. 132 "Employers' Disclosure about
Pensions and Other Postretirement Benefits," which is effective for annual and
interim periods beginning after December 15, 1997. This statement standardizes
the disclosure requirements for pensions and other postretirement benefits to
the extent practicable, requires additional information on changes in the
benefit obligations and fair values of plan assets that will facilitate
financial analysis and eliminates certain disclosures that are no longer useful
as they were under previous statements. The adoption of this standard had no
impact on the Company's current presentation of financial statements.
In June 1998, FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which is effective for annual and interim
periods beginning after June 15, 1999. This statement establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. The Company
has not yet completed its analysis of the effect this standard will have on the
Company's financial condition, results of operations or cash flows.
In October 1998, the FASB issued SFAS 134, "Accounting for Mortgage-Backed
Securities Retained After the Securitization of Mortgage Loans Held for Sale by
a Mortgage Banking Enterprise," which will become effective for the first fiscal
quarter beginning after December 15, 1998. This statement requires that after
the securitization of mortgage loans held for sale, an entity engaged in
mortgage banking activities classify the resulting mortgage-backed securities
based on its ability and intent to sell or hold those investments. The Company
has reviewed this standard, and its adoption is not expected to have a material
effect on the Company's financial condition, results of operations or cash
flows.
RECLASSIFICATIONS - Certain reclassifications have been made to conform the
1997 and 1996 consolidated financial statements to the 1998 presentation.
F-11
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
NOTE 2. LOANS RECEIVABLE HELD FOR INVESTMENT
Loans receivable held for investment are collateralized principally by
single family residences. The loans bear interest at fixed and variable rates
ranging up to 15.95% per annum and are due in monthly installments of principal
and interest through December 2029. The majority of loans receivable held for
investment relate to the United Kingdom portfolio of approximately $64 million,
which carry an average interest rate of approximately 10.6%.
<TABLE>
NOTE 3. PROPERTY
<CAPTION>
Property consists of the following at December 31: 1997 1998
--------- ---------
(Dollars in thousands)
<S> <C> <C>
Office equipment.................................................... $ 6,835 $ 8,251
Land................................................................ 2,100 2,100
Building............................................................ 1,425 1,391
Building Improvements............................................... 1,431
Computer software................................................... 841 923
Vehicles............................................................ 314 292
Leasehold improvements.............................................. 287 282
--------- ---------
Property............................................................ 11,802 14,670
Less accumulated depreciation and amortization..................... (3,215) (4,937)
--------- ---------
Property, net....................................................... $ 8,587 $ 9,733
========= =========
</TABLE>
NOTE 4. SERVICING PORTFOLIO
Trust and other custodial funds, relating to loans serviced for others,
totaled $41 million and $25 million at December 31, 1998 and 1997, respectively.
Such funds, which are maintained in separate bank accounts, are excluded from
the Company's assets and liabilities.
Total loans serviced amounted to $866 million and $799 million at December
31, 1998 and 1997, respectively.
Approximately 88% of the servicing portfolio relates to loans serviced on
behalf of the trust, with the remaining 12% relating to loans serviced on behalf
of private lenders or loans held for sale. At December 31, 1998, loans serviced
related to property located in California comprised of approximately 43% of the
total serviced loan portfolio, while no other state comprised more than 10%.
Total delinquencies greater than 30 days as a percentage of the total servicing
portfolio were 4.8%, 4.1% and 5.5% at December 31, 1998, 1997 and 1996,
respectively. Delinquencies greater than 30 days related to the United States
portfolio were 4.2%, 4.2% and 5.6% at December 31, 1998, 1997 and 1996,
respectively. Delinquencies greater than 30 days as a percentage of the total
United Kingdom portfolio were 12.8% and 2.9% at December 31, 1998 and 1997,
respectively.
F-12
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
NOTE 5. FINANCING FACILITIES AND WAREHOUSE FINANCING RECEIVABLE
The Company has two separate financing facilities. The first facility is a
$150 million warehouse financing facility. The second is a secured term loan
facility of approximately $66 million, which was entered into with a company
owned by the majority stockholders of FACO. The $150 million warehouse financing
facility is secured by loans originated or purchased by the Company, bears
interest at a rate ranging between 1.25% to 1.75% over one month United States
dollar denominated London Interbank Offered Rate ("LIBOR"), and expires in
December 1999. As partial consideration for the $150 million warehouse financing
facility, the Company agreed to grant the warehouse lender stock warrants
equaling one percent (1%) of the diluted shares outstanding, with an effective
date of February 1999. The Company will account for these warrants by recording
the fair value of the warrants to debt issuance costs and additional paid in
capital. Debt issuance costs will be amortized over 12 months. This transaction
is not expected to have a material effect on the Company's financial condition,
results of operations or cash flows. The $66 million, secured term loan facility
is secured by mortgages held for investment, bears a fixed interest rate of
8.5%, and matures as the underlying pledged mortgages are liquidated. These
facilities contain certain affirmative and negative covenants with which the
Company was in compliance at December 31, 1998.
The following table presents data on the lines of credit for the years ended
December 31:
<TABLE>
<CAPTION>
1996 1997 1998
---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C>
Weighted average interest rate for the period...................... 6.30% 6.67% 6.82%
Weighted average interest rate at the end of the period............ 6.30% 7.20% 8.15%
Average amount outstanding for the period.......................... $ 30,507 $ 46,596 $ 107,362
Maximum amount outstanding at any month-end........................ $ 65,262 $ 124,702 $ 150,252
</TABLE>
In 1997, the Company entered into agreements to provide warehouse financing
facilities to two mortgage banking companies ("Borrowers") that are controlled
by related parties. During 1998, subsequent to receiving full repayment on the
outstanding warehouse financing facilities, the Company terminated the
arrangement with the Borrowers.
NOTE 6. OTHER BORROWINGS
At December 31, 1998, the Company had a borrowing of $6.5 million with an
interest rate of 8.3%. This borrowing was collateralized by certain real estate
loans with an aggregate principal balance of $6.5 million. The borrowing was
repaid in January of 1999.
NOTE 7. EMPLOYEE BENEFIT PLAN
The Company has a 401(k) defined contribution plan, which was established in
1994, available to all employees who have been with the Company for six months
and have reached the age of 21. Employees may generally contribute up to 15% of
their salary each year and the Company, at its discretion, may match up to 25%
of the first 7% contributed by the employee. The Company's contribution expense
was $248,000, $175,000 and $120,000 for the years ended December 31, 1998, 1997
and 1996, respectively.
F-13
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
NOTE 8. INCOME TAXES
Through the date of the Offering in 1996 and in 1995 the Company elected to
be treated for Federal income and certain state tax purposes as an S corporation
whereby its taxable income was included in the individual returns of the
stockholders. As an S corporation, the Company was subject to certain state
taxes, primarily in California. Upon consummation of the Offering, the Company
became a C corporation subject to Federal and state income taxes. The income tax
provision for 1996 represents S corporation taxes prior to the Offering, C
corporation taxes subsequent to the Offering and net deferred tax assets
recognized upon the conversion from an S corporation to a C corporation. The
reconciliation of income tax computed at the Federal statutory tax rate to the
Company's effective income tax rate is as follows for the years ended December
31:
<TABLE>
<CAPTION>
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
Tax at Federal statutory rate...................................... 35.0% 35.0% 35.0%
State income taxes, net of Federal benefit......................... 3.9 4.0 5.1
Benefit for S corporation period taxation.......................... (14.5)
Effect of conversation to C corporation............................ (8.4)
Other.............................................................. (1.2) (2.0)
---------- ---------- ----------
Effective rate...................................................... 16.0% 37.8% 38.1%
=========== =========== ==========
</TABLE>
<TABLE>
<CAPTION>
The components of the provision for income taxes are as follows for the
years ended December 31:
1996 1997 1998
---------- ---------- ----------
(Dollars in thousands)
Current:
<S> <C> <C> <C>
Federal......................................................... $ 7,204 $ 14,299 $ 2,605
State........................................................... 1,924 1,805 473
---------- ---------- ----------
Total current....................................................... 9,128 16,104 3,078
---------- ---------- ----------
Deferred:
Federal........................................................ (3,289) 3,778 6,028
State........................................................... 261 703 1,178
Foreign......................................................... (712) (1,547)
---------- ---------- ----------
Total deferred ..................................................... (3,028) 3,769 5,659
---------- ---------- ----------
Total................................................................. $ 6,100 $ 19,873 $ 8,737
=========== =========== ==========
</TABLE>
F-14
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
Deferred tax assets and liabilities reflect the temporary differences
between financial reporting and tax basis of assets and liabilities and are
measured by applying enacted tax rates and laws to taxable years in which such
temporary differences are expected to be recovered or settled. The following are
the significant components of the Company's deferred tax assets and liabilities
as of December 31:
1997 1998
---------- ----------
(Dollars in thousands)
Deferred tax assets:
Residual interests......................... $ 1,084 $ --
Foreign loss carry forward................. 963 2,451
State taxes................................ 786 797
Mark-to-market on loans held for sale...... 368 634
Legal expenses............................. 78 469
Reserve for bad debts...................... 333
Other...................................... 224 440
---------- ----------
Total......................................... $ 3,503 $ 5,124
========== ==========
Deferred tax liabilities:
Residual interest.......................... $ 7,402
Mortgage servicing rights.................. $ 3,465 4,452
Other ..................................... 708 569
---------- ----------
Total......................................... $ 4,173 $ 12,423
========== ==========
NOTE 9. COMMITMENTS, CONTINGENCIES AND CONCENTRATIONS OF RISK
The Company's operations are conducted from leased facilities located in
various areas of the United States and the United Kingdom. These leases have
clauses which provide for increases in rent based on increases in the cost of
living index and options for renewal. The future minimum lease payments are as
follows:
YEARS ENDING DECEMBER 31: (Dollars in thousands)
1999............................................ $ 2,333
2000............................................ 2,217
2001............................................ 2,051
2002............................................ 1,675
2003............................................ 468
In the ordinary course of business, the Company has liability under
representations and warranties made to purchasers and insurers of mortgage
loans. Under certain circumstances, the Company may become liable for the unpaid
principal and interest on defaulted loans or other loans if there has been a
breach of representation or warranties.
In December 1998, the Company entered into a secured term loan facility of
approximately $66 million in order to provide long-term financing for its United
Kingdom subsidiary. The underlying collateral for the facility represents United
Kingdom mortgage loans. The Company is obligated to repay this facility in
amounts equal to the value of United States dollars at the exchange rate in
effect on the date of the agreement. Consequently, the Company bears a foreign
currency risk between the assets held by the United Kingdom subsidiary and the
obligation of debt. The Company is currently in the process of evaluating the
possibilities of entering into a foreign currency hedge to protect itself from
foreign currency fluctuations.
F-15
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
The Company has negotiated employment agreements with certain officers.
These agreements provide for the payment of base salaries, the issuance of
common stock via incentive stock option program subject to certain restrictions
and the payment of severance benefits upon termination.
In September 1998, the Company was informed by the United States Department
of Justice ("DOJ") that it and the Attorneys General of Arizona, Florida,
Illinois, Massachusetts, Minnesota, New York and Washington have initiated a
joint investigation into the lending practices of the Company. That
investigation and any negative findings that may result therefrom could have a
significant adverse effect on the Company's ability to obtain new and renew
state lending licenses, which, in turn, could have a significant adverse effect
on the Company's ability to maintain or expand its retail branch network of
offices and on the Company's results of operations and financial condition.
The Company is involved in certain litigation arising in the normal course
of business. Currently the Company believes that any liability with respect to
such legal actions, individually or in the aggregate, is not likely to be
material to the Company's consolidated financial position or consolidated
results of operations.
At December 31, 1998, loans related to property located in the state of
California comprised approximately 43% of the total serviced loan portfolio
while no other state comprised more than 10%.
The Company funds substantially all of the loans it originates or purchases
through borrowings under its warehouse financing facilities and internally
generated funds. These borrowings are in turn repaid with the proceeds received
by the Company from selling such loans through loan sales or securitizations.
Any failure to renew or obtain adequate funding under those warehouse financing
facilities, or other borrowings, or any substantial reduction in the size of or
pricing in the markets for the Company's loans, could have a material adverse
effect on the Company's operations. To the extent that the Company is not
successful in maintaining or replacing existing financing, it would have to
curtail its loan production activities or sell loans earlier than is optimal,
thereby having a material adverse effect on the Company's consolidated financial
condition and consolidated results of operations.
The value of and market for the Company's loans are dependent upon a number
of factors, including general economic conditions, interest rates and
governmental regulations. Adverse changes in such factors may affect the
Company's ability to sell loans for acceptable prices within a reasonable period
of time. A prolonged, substantial reduction in the size of the secondary market
for loans of the type originated or purchased by the Company may adversely
affect the Company's ability to sell loans in the secondary market with a
consequent adverse impact on the Company's results of operations, financial
condition and ability to fund future originations and purchases.
Since 1992, the Company has pooled and sold through securitizations an
increasing percentage of the loans which it originates. The Company derives a
significant portion of its income by recognizing gains upon the sale of loans
through securitizations. These gains are due in part to the value recorded at
the time of sale of residual interests and retained mortgage servicing rights.
Adverse changes in the securitization market could impair the Company's ability
to purchase and sell loans through securitizations on a favorable or timely
basis. Any such impairment could have a material adverse effect upon the
Company's consolidated financial condition and consolidated results of
operations.
The Company has relied on credit enhancement to achieve a "AAA/aaa" rating
for the regular interests of the trusts in its securitizations. The credit
enhancement has generally been in the form of an insurance policy issued by an
insurance company insuring the timely repayment of the regular interests in each
of the securitization trusts. There can be no assurance that the Company will be
able to obtain credit enhancement in any form from the current insurer or any
other provider of credit enhancement on acceptable terms or that future
securitizations will be similarly rated. A downgrading of the insurer's credit
rating or its withdrawal of credit enhancement could have a material adverse
effect on the Company's consolidated financial condition and consolidated
results of operations.
F-16
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
NOTE 10. STOCKHOLDERS' EQUITY
The Company's shares of Class A and Class B Common Stock are identical,
except with respect to voting rights and the right to convert Class B Common
Stock to Class A Common Stock. Holders of Class A Common Stock are entitled to
one vote for each share held of record, and holders of Class B Common Stock are
entitled to four votes for each share held of record. Each share of Class B
Common Stock is freely convertible into one share of Class A Common Stock at the
option of the Class B stockholder. In July of 1998, the majority stockholders of
FACO converted all of their Class B Common Stock into Class A Common Stock.
During 1996, FAMCO distributed S distribution notes of $45.0 million to its
stockholders. Such amount has been recorded as a dividend to Class B common
stockholders. In 1996, payments on the S distribution notes of $45.0 million
were made by the Company using proceeds from the Offering.
On May 11, 1996, the Company's Board of Directors approved a stock split of
its common stock whereby approximately 710 shares of common stock were issued
for each outstanding share of common stock. All share and per share amounts
included in the accompanying consolidated financial statements and footnotes
have been restated to reflect the stock split.
In June 1996, FAMCO granted 161,250 shares of restricted common stock to an
officer of the Company. These shares, which were exchanged for 161,250 shares of
FACO Class B Common Stock in conjunction with the Offering, vest over a period
of five years or earlier upon the occurrence of certain events. A value of $1.6
million was ascribed to such shares by the Company. This amount has been
recorded in the accompanying financial statements as increases to Class B Common
Stock and paid in capital with an offsetting amount included in deferred stock
compensation. In 1997 and 1996, 36,053 and 43,927 shares of such restricted
Class B Common Stock, respectively, had vested. During 1997 and 1996, $0.3
million and $0.5 million of compensation expense, respectively, was recognized.
In 1998, however, the remaining 81,270 shares of restricted stock were forfeited
due to the officers' termination.
In July 1996, the shareholders approved a stock incentive plan for
directors, officers and other key employees of the Company, under which
2,125,000 shares of Class A Common Stock were available for grant. Under the
plan, options vest 25% six months from the date of grant and 25% each year
thereafter until fully vested and expire on the earlier of ten years from the
date of grant or 90 days after an optionee's termination of service. The
following is a summary of changes in the stock incentive plan during the years
ended December 31:
<TABLE>
<CAPTION>
1996 1997 1998
---------------------------- ------------------------------- ------------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
NUMBER EXERCISE NUMBER EXERCISE NUMBER EXERCISE
OF SHARES PRICE OF SHARES PRICE OF SHARES PRICE
------------ ------------ ------------ --------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Beginning of period...... - 793,625 $ 11.33 816,750 $ 12.16
Grants................... 793,625 $ 11.33 117,779 17.04 471,125 9.95
Exercises................ - (59,145) 11.33 (45,913) 11.47
Cancellations............ - (35,509) 11.33 (243,368) 12.47
------------ ------------ -------------
End of period............ 793,625 $ 11.33 816,750 $ 12.16 998,594 $ 11.06
============ ============ =============
</TABLE>
F-17
<PAGE>
Summary information related to stock options outstanding as of December 31,
1998 is as follows:
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
<TABLE>
<CAPTION>
---------------------------------- -------------------------------
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------- -- --------------- -------------- --- ------------
REMAINING WEIGHTED
OPTIONS CONTRACTUAL NUMBER AVERAGE
EXERCISE OUTSTANDING LIFE EXERCISABLE EXERCISE
PRICE AT 12-31-98 (IN YEARS) AT 12-31-98 PRICE
----------------- --------------- --------------- -------------- ------------
<S> <C> <C> <C> <C> <C>
$ 4.25 - $ 9.25 216,219 9.8 675 $ 9.25
$11.33 - $21.92 782,375 8.0 319,714 12.14
--------------- --------------
Total............................. - 998,594 - 320,389 -
=============== ==============
Combined weighted average......... 8.3 $ 12.14
=============== ============
</TABLE>
The Company accounts for its stock incentive plan based on the intrinsic
value of a grant as of the date of the grant in accordance with Accounting
Principles Board Opinion No. 25. Accordingly, no compensation expense has been
recognized in 1998, 1997 or 1996 for options granted under the Company's stock
incentive plan. Had compensation cost been recognized in accordance with the
fair value provisions of SFAS No. 123, pro forma net income would have been
$13.1 million, $31.6 million and $31.3 million in 1998, 1997 and 1996,
respectively, and net income per diluted share would have been $0.67, $1.44 and
$1.68 in 1998, 1997 and 1996, respectively. The fair value of each option grant,
a weighted average of $4.99, $9.84 and $8.55 for options granted in 1998, 1997
and 1996, respectively, was estimated as of the date of grant using the
Black-Scholes option pricing model. The Company's calculations are based on a
single option valuation approach and forfeitures are recognized as they occur.
The weighted average assumptions used for grants in 1998 were: no dividend
yield; expected volatility of 55%; risk-free interest rate of 5.11%; and
expected lives of 5 years. The weighted average assumptions used for grants in
1997 were: no dividend yield; expected volatility of 33%; risk-free interest
rate of 6.12%; and expected lives of 10 years. The weighted average assumptions
used for grants in 1996 were: no dividend yield; expected volatility of 59%,
risk free interest rate of 6.65% and expected lives of 10 years.
In April 1997 the Board of Directors approved a share repurchase program
under which the Company was authorized to purchase up to 1.5 million shares of
its Class A Common Stock. In January 1998 and July 1998, the Board of Directors
authorized the purchase of an additional 2.0 million shares and 4.0 million
shares of Class A Common Stock, respectively. Of the 7.5 million shares
authorized, the Company had repurchased approximately 4.0 million shares as of
December 31, 1998.
F-18
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
NOTE 11. NET INCOME PER SHARE
A reconciliation of the numerators and denominators used in basic and
diluted net income per share are as follows for the years ended December 31:
<TABLE>
<CAPTION>
1996 1997 1998
------------ ------------ ------------
(Dollars in thousands)
<S> <C> <C> <C>
Net income: Basic and diluted............................. $ 32,139 $ 32,772 $ 14,216
============ ============ ============
Weighted average number of common shares
Basic 18,638,423 21,851,732 19,380,119
Effect of dilutive securities - stock options.......... 34,449 178,706 51,100
------------ ------------ ------------
Diluted................................................ 18,672,872 22,030,438 19,431,219
============ ============ ============
Net income per share
Basic.................................................. $ 1.72 $ 1.50 $ 0.73
Effect of dilutive securities - stock options.......... - 0.01 -
------------ ------------ ------------
Diluted................................................ $ 1.72 $ 1.49 $ 0.73
============ ============ ============
</TABLE>
NOTE 12. RELATED PARTY TRANSACTIONS
For the three years ended December 31, 1998, the Company entered into
transactions with the following related parties: the majority stockholder of the
Company, entities in which the majority stockholder of the Company has a
controlling interest and companies owned by family members of the majority
stockholder of the Company. The following amounts represent related party
transactions for the years ended December 31:
<TABLE>
<CAPTION>
1996 1997 1998
------------ ------------ ------------
(Dollars in thousands)
<S> <C> <C> <C>
Loans sold to related parties.............................. $ 515
Loans purchased from related parties:
Loans purchased........................................ 31,033 $ 68,668 $ 50,353
Premiums paid ......................................... 1,208 2,658 1,534
Other fees received from related parties................... 186
Payments to related parties:
Rent payments.......................................... 464 521 581
Interest paid to principal stockholders on notes payable to
stockholder and S distribution notes................... 612
Interest received from related parties..................... 688 590
</TABLE>
F-19
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
The following amounts represent related party balances as of December 31:
<TABLE>
<CAPTION>
1997 1998
---------- ----------
(Dollars in thousands)
<S> <C> <C>
Loans serviced for related parties................................. $ 3,882 $ 3,298
Receivables from officers and directors of the Company............. 194 22
Balance outstanding on warehouse lines to related parties.......... 12,324
Balance outstanding on loan facility due to majority stockholder... 64,720
</TABLE>
NOTE 13. FINANCIAL INSTRUMENTS
The Company regularly securitizes and sells fixed and variable rate mortgage
loans. As part of its interest rate risk management strategy, the Company hedges
its interest rate risk related to its loans held for sale and origination
commitments by selling short or selling forward United States Treasury
Securities. For accounting purposes, selling short United States Treasury
Securities is not considered to be a hedge. Therefore, when selling short United
States Treasury Securities, the Company has recognized realized and unrealized
gains and losses on hedging activities in the period in which they occur. The
Company classifies forward sales of United States Treasury Securities as hedges
of specific loans held for sale or commitments to fund loans held for sale. The
gains and losses derived from these transactions are deferred and included in
the carrying amounts of loans held for sale and are recognized in earnings upon
the sale of loans hedged. Net gains and (losses) recognized on hedging
activities were ($1,743,000), ($161,000) and $434,000 for the years ended
December 31, 1998, 1997 and 1996, respectively. The notional amount of forward
sales of United States Treasury Securities at December 31, 1998 was $9.0 million
with deferred gains of $29,000.
The following disclosures of the estimated fair value of financial
instruments as of December 31, 1998 and 1997 are made in accordance with the
requirements of SFAS No. 107, "Disclosure About Fair Value of Financial
Instruments." The estimated fair value amounts have been determined by the
Company using available market information and appropriate valuation
methodologies. However, considerable judgment is necessarily required to
interpret market data to develop the estimates of fair value. Accordingly, the
estimates presented herein are not necessarily indicative of the amounts the
Company could realize in a current market exchange. The use of different market
assumptions and/or estimation methodologies may have a material effect on the
estimated fair value amounts.
F-20
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
<TABLE>
<CAPTION>
1997 1998
------------------------- --------------------------
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
----------- ------------ ----------- ------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Assets:
Cash and cash equivalents................................... $ 14,032 $ 14,032 $ 18,052 $ 18,052
Loans held for sale......................................... 54,872 60,224 24,421 26,116
Loans receivable held for investment........................ 2,082 2,317 57,667 64,726
Warehouse financing receivables............................. 12,324 12,324 --- ---
Residual interests.......................................... 50,238 50,238 48,720 48,720
Liabilities:
Warehouse financing facilities.............................. 57,742 57,742 17,539 17,539
Secured term loan facility - related party.................. 64,720 64,720
Other borrowings............................................ 6,545 6,545
Notes payable .............................................. 25 25 14 14
</TABLE>
The fair value of loans is estimated based upon prices received by the
Company for loans it sells.
The fair value of warehouse financing receivables is based on rates and
terms currently available to companies of similar size as those to which the
Company has provided these facilities.
The fair value of residual interests is estimated based upon discounted cash
flows.
Rates currently available to the Company for debt with similar terms and
remaining maturities, were used to estimate the fair value of warehouse
financing facilities, other borrowings and the notes payable.
The fair value estimates presented herein are based on pertinent information
available to management as of December 31, 1998 and 1997. Although management is
not aware of any factors that would significantly affect the estimated fair
value amounts, such amounts have not been comprehensively revalued for purposes
of these consolidated financial statements since that date and, therefore,
current estimates of fair value may differ significantly from the amounts
presented herein.
The Company is exposed to on-balance sheet credit risk related to its loans
held for sale, residual interests and loans receivable held for investment. The
Company is exposed to off-balance sheet credit risk related to loans which the
Company has committed to originate. The Company is party to financial
instruments with off-balance sheet credit risk in the normal course of business.
These financial instruments include commitments to extend credit to borrowers.
At December 31, 1998 and 1997, the Company had outstanding commitments to extend
credit in the amounts of $7.8 million and $20.4 million, respectively.
F-21
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
NOTE 14. DOMESTIC AND FOREIGN OPERATIONS
Operating segments are defined as components of an enterprise about which
separate financial information is available that is evaluated regularly by the
chief operating decision maker, or decision making group, in deciding how to
allocate resources in assessing performance. The Company has two reporting
segments: United States operations and United Kingdom operations.
GEOGRAPHIC AREA - During 1998 and 1997, the Company operated in two
geographical areas consisting of the United States and the United Kingdom. There
were no significant transfers between geographical areas during such periods.
The following table represents revenue and income before income tax
provisions for the years ended December 31:
1997 1998
---------- ----------
(Dollars in thousands)
Revenue:
United States............................ $ 93,772 $ 78,383
United Kingdom........................... 1,877 5,425
---------- ----------
Total............................... $ 95,649 $ 83,808
========== ==========
Income (loss) before income tax provision:
United States............................ $ 54,680 $ 26,314
United Kingdom........................... (2,035) (3,361)
---------- ----------
Total................................ $ 52,645 $ 22,953
========== ==========
The following table represents identifiable assets of the Company as of
December 31:
1997 1998
---------- ----------
(Dollars in thousands)
Identifiable assets:
United States............................ $ 128,104 $ 119,202
United Kingdom........................... 30,043 58,401
---------- ----------
Total................................ $ 158,147 $ 177,603
========== ==========
F-22
<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998
NOTE 15. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
(Dollars in thousands except per share amounts) QUARTER QUARTER QUARTER QUARTER
------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
1996
Total revenue......................................... $ 14,810 $ 17,024 $ 18,922 $ 20,115
Income before income tax provision.................... 7,860 9,306 9,891 11,182
Net income............................................ 7,742 9,167 8,633 6,597
Comprehensive income.................................. 7,742 9,167 8,633 6,559
Basic net income per share............................ 0.48 0.57 0.42 0.30
Diluted net income per share.......................... 0.48 0.57 0.42 0.30
1997
Total revenue......................................... $ 21,437 $ 23,244 $ 23,395 $ 27,573
Income before income tax provision.................... 12,860 13,168 12,106 14,511
Net income............................................ 7,684 7,866 8,188 9,034
Comprehensive income.................................. 7,722 7,863 8,092 9,066
Basic net income per share............................ 0.35 0.36 0.38 0.42
Diluted net income per share.......................... 0.34 0.36 0.37 0.42
1998
Total revenue......................................... $ 25,370 $ 15,810 $ 22,560 $ 20,068
Income before income tax provision.................... 11,667 1,256 6,212 3,818
Net income............................................ 7,262 781 3,833 2,340
Comprehensive income.................................. 7,315 773 3,851 1,666
Basic net income per share............................ 0.35 0.04 0.21 0.13
Diluted net income per share.......................... 0.35 0.04 0.21 0.13
</TABLE>
F-23
<PAGE>
INDEPENDENT AUDITORS' REPORT
----------------------------
To the Board of Directors and Stockholders of
First Alliance Corporation
We have audited the accompanying consolidated statements of financial condition
of First Alliance Corporation and subsidiaries (the Company) as of December 31,
1998 and 1997, and the related consolidated statements of income, comprehensive
income, stockholders' equity and cash flows for each of the three years in the
period ended December 31, 1998. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion of these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of First Alliance Corporation and
subsidiaries as of December 31, 1998 and 1997, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1998, in conformity with generally accepted accounting principles.
Costa Mesa, California
January 25, 1999
F-24
<PAGE>
CERTIFICATE OF AMENDMENT
OF
CERTIFICATE OF INCORPORATION
FIRST ALLIANCE CORPORATION
The undersigned, for the purpose of amending the Certificate of
Incorporation of First Alliance Corporation, a Delaware corporation (the
"Corporation"), does hereby certify that:
1. The date of filing of the Corporation's original Certificate of
Incorporation with the Secretary of State of the State of Delaware was June 28,
1996.
2. This amendment to the Certificate of Incorporation has been duly
adopted by the Board of Directors and stockholders of the Corporation in
accordance with the provisions of Section 242 of the Delaware General
Corporation Law.
3. Article IV, Sections 1 and 2 of the Certificate of Incorporation of
the Corporation are hereby repealed in their entirety and replaced with the
following:
"SECTION 1. NUMBER OF AUTHORIZED SHARES. The total number of shares of
all classes of stock that the Corporation shall have authority to issue is
seventy-six million (76,000,000) shares, consisting of seventy-five million
(75,000,000) shares of common stock, $.01 par value per share (the "Common
Stock"), and one million (1,000,000) shares of preferred stock, $.01 par value
per share (the "Preferred Stock").
SECTION 2. COMMON STOCK. The Common Stock shall consist solely of two
classes designated "Class A Common Stock" and "Class B Common Stock." The
authorized number of shares of Class A Common Stock shall be fifty million
(50,000,000) and the authorized number of shares of Class B Common Stock shall
be twenty-five million (25,000,000). The Board of Directors of the Corporation
may authorize the issuance of shares of Class A Common Stock and shares of Class
B Common Stock from time to time subject to the foregoing. Shares of Common
Stock that are redeemed, purchased or otherwise acquired by the Corporation may
be reissued except as otherwise provided by law. The Board of Directors shall
have no power to alter the rights with respect to Class A Common Stock or Class
B Common Stock."
IN WITNESS WHEREOF, the undersigned has executed this Certificate of
Amendment on behalf of the Corporation and does hereby verify and affirm, under
penalty of perjury, that this amendment to the Certificate of Incorporation is
the act and deed of the Corporation and that the facts stated herein are true as
of January 31, 1999.
First Alliance Corporation
By: /s/ Brian Chisisk
-----------------------------------
Name: Brian Chisick
Title: President and Chief Executive Officer
<PAGE>
MASTER REPURCHASE AGREEMENT GOVERNING
PURCHASES AND SALES OF MORTGAGE LOANS
Dated as of December 30, 1998
Between
LEHMAN COMMERCIAL PAPER INC.,
as Buyer
FIRST ALLIANCE CORPORATION,
as Guarantor
and
FIRST ALLIANCE MORTGAGE COMPANY,
as Seller
1. APPLICABILITY
>From time to time for a period of 364 days from the date hereof, the parties
hereto shall, subject to the terms and conditions hereof, enter into
transactions in which First Alliance Mortgage Company ("SELLER") agrees to
transfer to Lehman Commercial Paper Inc. ("BUYER") Mortgage Loans against the
transfer of funds by Buyer, with a simultaneous agreement by Buyer to transfer
to Seller such Mortgage Loans at a date certain not later than 30 days after the
date of transfer or on demand, as specified in the Confirmation, against the
transfer of funds by Seller. Each such transaction shall be referred to herein
as a "TRANSACTION" and shall be governed by this Agreement and the related
Confirmation, unless otherwise agreed in writing. Each Transaction hereunder
with respect to which the Repurchase Date has not yet occurred shall be
considered an outstanding Transaction.
2. DEFINITIONS
"ACT OF INSOLVENCY" means, with respect to the Seller and its Affiliates, (i)
the filing of a petition, commencing, or authorizing the commencement of any
case or proceeding under any bankruptcy, insolvency, reorganization,
liquidation, dissolution or similar law relating to the protection of creditors,
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or suffering any such petition or proceeding to be commenced by another which is
consented to, not timely contested or results in entry of an order for relief;
(ii) seeking the appointment of a receiver, trustee, custodian or similar
official for such party or an Affiliate or any substantial part of the property
of either, (iii) the appointment of a receiver, conservator, or manager for such
party or an Affiliate by any governmental agency or authority having the
jurisdiction to do so; (iv) the making or offering by such party or an Affiliate
of a composition with its creditors or a general assignment for the benefit of
creditors, (v) the admission by such party or an Affiliate of such party of its
inability to pay its debts or discharge its obligations as they become due or
mature; or (vi) any governmental authority or agency or any person, agency or
entity acting or purporting to act under governmental authority shall have taken
any action to condemn, seize or appropriate, or to assume custody or control of,
all or any substantial part of the property of such party or of any of its
Affiliates, or shall have taken any action to displace the management of such
party or of any of its Affiliates or to curtail its authority in the conduct of
the business of such party or of any of its Affiliates.
"ADDITIONAL LOANS" means Mortgage Loans or cash provided by Seller to Buyer or
its designee pursuant to Section 4(a).
"ADJUSTED INTEREST COVERAGE RATIO" shall mean EBITDA minus non-cash gains
relating to the sale of financial assets divided by total interest expense.
"ADJUSTED TANGIBLE NET WORTH" shall mean shareholders' equity minus intangible
assets minus 50% of the reported value of any residual interests, excess
servicing rights, interest only securities, subordinated securities or like
instrument.
"AFFILIATE" means an affiliate of a party as such term is defined in the United
States Bankruptcy Code in effect from time to time.
"AGENCY" means FNMA or FHLMC.
"AGREEMENT" means this Master Repurchase Agreement Governing Purchases and Sales
of Mortgage Loans between Buyer and Seller, as amended from time to time.
"BALLOON MORTGAGE LOAN" means any Mortgage Loan that provided on the date of
origination for scheduled payments by the Mortgagor based upon an amortization
schedule extending beyond its maturity date.
"BUSINESS DAY" means a day other than (i) a Saturday or Sunday, or (ii) a day on
which the New York Stock Exchange is authorized or obligated by law or executive
order to be closed.
"BUYER" has the meaning specified in Section 1.
"COLLATERAL" has the meaning specified in Section 6.
"COLLATERAL AMOUNT" means, with respect to any Transaction, the amount obtained
by application of the Collateral Amount Percentage to the Repurchase Price for
such Transaction.
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"COLLATERAL AMOUNT PERCENTAGE" shall be 105% with respect to the calculation of
Market Value or 105% with respect to the calculation of Securitization Value.
"COLLATERAL DEFICIT" has the meaning specified in Section 4(a).
"COLLATERAL EXCESS" has the meaning specified in Section 4(b).
"COLLATERAL INFORMATION" means the following information with respect to each
Mortgage Loan: (i) the Seller's loan number, (ii) the Mortgagor's name, (iii)
the address of the Mortgaged Property, (iv) the current interest rate, (v) the
original balance, (vi) the current balance as of the 15th day of the immediately
preceding month, (vii) the paid to date that corresponds to the current balance,
(viii) the original appraisal value of the Mortgaged Property and date of such
appraisal, (ix) whether interest rate is fixed or adjustable (and if adjustable,
the related ARM terms, including the index, spread, adjustment frequency, caps
and floors), (x) the lien position of the Mortgage Loan on the Mortgaged
Property, (xi) the occupancy status of the Mortgaged Property (including whether
owner occupied), (xii) whether the Mortgage Loan is a Balloon Mortgage Loan,
(xiii) the first payment date, (xiv) the maturity date, (xv) the current
principal and interest payment due, (xvi) the amortization term, (xvii) the
Mortgage Note date, (xviii) the property type of the Mortgaged Property, (xix)
whether the Mortgage Loan is convertible from ARM to fixed (xx) the loan grade
including FICO score, (xxi) the delinquency status, and (xxii) the outstanding
balance of the first lien, if a second lien, and such other information as Buyer
may reasonably request.
"CONFIRMATION" has the meaning specified in Section 3(a).
"CUSTODIAL AGREEMENT" means that custodial agreement, dated as of December 30,
1998, by and among Buyer, Seller and the Custodian.
"CUSTODIAL DELIVERY" means the form executed by the Seller in order to deliver
the Mortgage Loan Schedule and/or the Mortgage File to Buyer or its designee
(including the Custodian) pursuant to Section 7, a form of which is attached
hereto as Exhibit II.
"CUSTODIAN" means the custodian under the Custodial Agreement. The initial
custodian is Norwest Bank Minnesota, N.A.
"DELINQUENT" means, with respect to any Mortgage Loan, the period of time from
the date on which a Mortgagor fails to pay an obligation then due under the
terms of such Mortgage Loan to the date on which such payment is made.
"EBITDA" means reported earnings before interest, taxes, depreciation and
amortization.
"EVENT OF DEFAULT" has the meaning specified in Section 13.
"FHA" means the Federal Housing Administration, an agency within HUD.
"FHLMC" means the Federal Home Loan Mortgage Corporation.
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"FHLMC GUIDE" means the FHLMC Sellers/Servicers Guide, as amended from time to
time.
"FNMA" means the Federal National Mortgage Association.
"FNMA GUIDE" means the FNMA Selling, Servicing and MBS Guides, as amended from
time to time.
"FIRST MORTGAGE" means the Mortgage that is the first lien on the Mortgaged
Property.
"GUARANTOR" shall mean First Alliance Corporation.
"GUARANTY" shall mean that certain continuing guaranty made by the Guarantor in
favor of the Buyer as of the date hereof.
"HEDGE" means a hedging instrument or derivative purchased by Seller with
respect to protecting the value of the Purchased Mortgage Loans.
"HUD" means the United States Department of Housing and Urban Development.
"INCOME" means, with respect to any Mortgage Loan at any time, any principal
thereof then payable and all interest, dividends or other distributions payable
thereon less any related servicing fee(s) charged by the Servicer.
"LIBOR" means the London Interbank Offered Rate for one-month, three-month or
six-month United States dollar deposits as set forth on page 3750 of Telerate as
of 11:00 a.m., London time, on the date of determination, as selected by Seller;
provided, however, that Seller may not select the London Interbank Offered Rate
for three-month or six-month dollar deposits if the related Repurchase Date is
shorter than three or six months, respectively.
"LOAN-TO-VALUE RATIO" means with respect to any Mortgage Loan as of any date,
the fraction, expressed as a percentage, the numerator of which is the principal
balance of such Mortgage Loan at the date of determination and the denominator
of which is the value of the related Mortgaged Property as set forth in the
appraisal of such Mortgaged Property obtained in connection with the origination
of such Mortgage Loan.
"MARKET VALUE" means as of any date with respect to any Mortgage Loan, the price
at which such Mortgage Loan could readily be sold as determined by Buyer in its
sole discretion; provided, however, that Buyer shall not take into account, for
purposes of calculating Market Value, any Mortgage Loan (i) which has been
subject to Transactions for more than 90 days, (ii) which, together with the
other Mortgage Loans subject to then outstanding Transactions, would cause the
30+ Delinquency Percentage to exceed 3%, (iii) which are more than 59 days
delinquent or (iv) with respect to which there is a breach of a representation,
warranty or covenant made by Seller in this Agreement that materially adversely
affects Buyer's interest in such Mortgage Loan and which breach has not been
cured (v) to the extent Mortgage Files with respect to Wet Ink Mortgage Loans
are not delivered to the Custodian as provided in Section 3 below; provided
further, however that the Market Value of any Mortgage Loan shall not in any
event exceed the outstanding principal amount thereof.
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"MORTGAGE" means a mortgage, deed of trust, deed to secure debt or other
instrument, creating a valid and enforceable first or second lien on or a first
or second priority ownership interest in an estate in fee simple in residential
real property and the improvements thereon, securing a mortgage note or similar
evidence of indebtedness.
"MORTGAGE FILE" means the documents specified as the "Mortgage File" in Section
7(d), together with any additional documents and information required to be
delivered to Buyer or its designee (including the Custodian) pursuant to this
Agreement.
"MORTGAGE LOAN" means (i) a non-securitized whole loan, namely a conventional
mortgage loan secured by a first or second lien on a one to four family
residential property or mixed-use property for which a complete Mortgage File
has been delivered to the Custodian (unless such Mortgage loan is a Wet Ink
Mortgage Loan) or (ii) other type of non-securitized whole loan as may be agreed
upon in writing by the parties hereto from time to time.
"MORTGAGE LOAN SCHEDULE" means a schedule of Mortgage Loans attached to each
Trust Receipt, Confirmation and Custodial Delivery.
"MORTGAGE NOTE" means a note or other evidence of indebtedness of a Mortgagor
secured by a Mortgage.
"MORTGAGED PROPERTY" means the residential real property securing repayment of
the debt evidenced by a Mortgage Note.
"MORTGAGEE" means the record holder of a Mortgage Note secured by a Mortgage.
"MORTGAGOR" means the obligor on a Mortgage Note and the grantor of the related
Mortgage.
"NON-USAGE FEE" means, as of each Non-Usage Payment Date, a fee paid by Seller
to Buyer equal to the product of (a) .25% per annum and (b) the positive amount
by which (X) $150,000,000 exceeds (Y) the outstanding Repurchase Price for the
immediately preceding month (calculated on a weighted average daily Repurchase
Price).
"NON-USAGE PAYMENT DATE" has the meaning specified in Section 3(g).
"PERIODIC PAYMENT" has the meaning specified in Section 5(b).
"PERSON" means an individual, partnership, corporation, joint stock company,
trust or unincorporated organization or a governmental agency or political
subdivision thereof.
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"PRICE DIFFERENTIAL" means, with respect to any Transaction hereunder as of any
date, the aggregate amount obtained by daily application of the Pricing Rate for
such Transaction to the Purchase Price for such Transaction on a 360 day per
year basis for the actual number of days during the period commencing on (and
including) the Purchase Date for such Transaction and ending on (but excluding)
the Repurchase Date (reduced by any amount of such Price Differential previously
paid by Seller to Buyer with respect to such Transaction).
"PRICING RATE" means the per annum percentage rate specified in the Confirmation
for determination of the Price Differential which shall not exceed LIBOR plus
the applicable Pricing Spread.
"PRICING SPREAD" means 1.25%, provided that relating to Wet Ink Mortgage Loans
1.75%.
"PRIME RATE" means the rate of interest published by THE WALL STREET JOURNAL,
northeast edition, as the "prime rate".
"PURCHASE DATE" means the date on which Purchased Mortgage Loans are transferred
by Seller to Buyer or its designee (including the Custodian) as specified in the
Confirmation.
"PURCHASE PRICE" means on each Purchase Date, the price at which Purchased
Mortgage Loans are transferred by Seller to Buyer or its designee (including the
Custodian), provided that such price shall not exceed 95% of the lesser of the
(a) par amount, (b) Market Value or (c) Securitization Value of such Purchased
Mortgage Loans.
"PURCHASED MORTGAGE LOANS" means the Mortgage Loans (including any Additional
Assets) sold by Seller to Buyer in a Transaction, any Additional Loans and any
Substituted Mortgage Loans.
"REPLACEMENT LOANS" has the meaning specified in Section 14(b).
"REPURCHASE DATE" means the date on which Seller is to repurchase the Purchased
Mortgage Loans from Buyer, including any date determined by application of the
provisions of Sections 3 or 13, as specified in the Confirmation; provided that
in no event shall such date be more than 30 days after the Purchase Date.
"REPURCHASE PRICE" means the price at which Purchased Mortgage Loans are to be
transferred from Buyer or its designee (including the Custodian) to Seller upon
termination of a Transaction, which will be determined in each case (including
Transactions terminable upon demand) as the sum of the Purchase Price and the
Price Differential as of the date of such determination decreased by all cash,
Income and Periodic Payments actually received by Buyer pursuant to Sections
4(a), 5(a) and 5(b), respectively.
"SECURITIZATION" mean the public or private offering of any securities of the
Seller or its subsidiaries collateralized by, or representing interests in, the
Purchased Mortgage Loans.
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"SECURITIZATION VALUE" means as of any date with respect to any Mortgage Loan,
the price at which such Mortgage Loan could readily be securitized as determined
by Buyer in its sole discretion; provided, however, that Buyer shall not take
into account, for purposes of calculating Market Value, any Mortgage Loan (i)
which has a related Repurchase Date of more than 90 days, (ii) which, together
with the other Mortgage Loans subject to then outstanding Transactions, would
cause the 30+ Delinquency Percentage to exceed 3%, (iii) which are more than 59
days delinquent (iv) with respect to which there is a breach of a
representation, warranty or covenant made by Seller in this Agreement that
materially adversely affects Buyer's interest in such Mortgage Loan and which
breach has not been cured, (v) to the extent Mortgage Files with respect to Wet
Ink Mortgage Loans are not delivered to the Custodian as provided in Section 3
below; provided further, however that the Market Value of any Mortgage Loan
shall not in any event exceed the outstanding principal amount thereof.
"SELLER" has the meaning specified in Section 1.
"SERVICER" has the meaning specified in Section 25.
"SERVICING AGREEMENT" has the meaning specified in Section 25.
"SERVICING RECORDS" has the meaning specified in Section 25.
"SPECIFIED LEVERAGE RATIO" shall mean total debt minus warehouse financing
facilities divided by Adjusted Tangible Net Worth.
"SUBSTITUTED MORTGAGE LOANS" means any Mortgage Loans substituted for Purchased
Mortgage Loans in accordance with Section 9 hereof.
"30+ DELINQUENCY PERCENTAGE" means the fraction, expressed as a percentage, the
numerator of which is the aggregate Purchase Price of Purchased Mortgage Loans
subject to then outstanding Transactions which are more than 30 days Delinquent
and the denominator of which is the aggregate Purchase Price of all Purchased
Mortgage Loans subject to then outstanding Transactions.
"TOTAL LEVERAGE RATIO" shall mean total liabilities divided by Adjusted Tangible
Net Worth.
"TRANSACTION" has the meaning specified in Section 1.
"TRUST RECEIPT" means a trust receipt issued by Custodian to Buyer confirming
the Custodian's possession of certain Mortgage Loan Files which are the property
of and held by Custodian for the benefit of the Buyer or the registered holder
of such trust receipt.
"WET INK MORTGAGE LOAN" means a Mortgage Loan the related underlying documents
comprising the Mortgage File for which have not been physically delivered to the
Custodian.
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3. INITIATION; CONFIRMATION; TERMINATION;
MAXIMUM TRANSACTION AMOUNTS
(a) An agreement to enter into a Transaction may be entered into orally or in
writing at the initiation of either Buyer or Seller. At the initiation of the
Seller, for the term of this Agreement, the Buyer shall be obligated to purchase
eligible Mortgage Loans hereunder, subject to the Seller's compliance with the
terms and conditions hereunder. In any event, Buyer shall confirm the terms of
each Transaction by issuing a written confirmation to Seller promptly after the
parties enter into such Transaction in the form of Exhibit I attached hereto (a
"CONFIRMATION"). Such Confirmation shall describe the Purchased Mortgage Loans,
identify Buyer and Seller and set forth (i) the Purchase Date, (ii) the Purchase
Price, (iii) the Repurchase Date, unless the Transaction is to be terminable on
demand, (iv) the Pricing Rate applicable to the Transaction, and (v) additional
terms or conditions not inconsistent with this Agreement. After receipt of the
Confirmation, Seller shall, subject to the provisions of subsection (c) below,
sign the Confirmation and promptly return it to Buyer. The Purchase Price for
any Transaction shall exceed $500,000.
(b) Any Confirmation by Buyer shall be deemed to have been received by Seller on
the date actually received by Seller.
(c) Each Confirmation, together with this Agreement, shall be conclusive
evidence of the terms of the Transaction(s) covered thereby unless objected to
in writing by Seller no more than two (2) Business Days after the date the
Confirmation was received by Seller or unless a corrected Confirmation is sent
by Buyer. An objection sent by Seller must state specifically such objection in
writing, must specify the provision(s) being objected to by Seller, must set
forth such provision(s) in the manner that the Seller believes they should be
stated, and must be received by Buyer no more than two (2) Business Days after
the Confirmation was received by Seller.
(d) In the case of Transactions terminable upon demand, such demand shall be
made by Buyer or Seller by telephone or otherwise, no later than 1:00 p.m. (New
York Time) on the Business Day prior to the day on which such termination will
be effective.
(e) On the Repurchase Date, termination of the Transaction will be effected by
transfer to Seller or its designee of the Purchased Mortgage Loans (and any
Income in respect thereof received by Buyer not previously credited or
transferred to, or applied to the obligations of, Seller pursuant to Section 5)
against the simultaneous transfer of the Repurchase Price to an account of
Buyer. Seller is obligated to obtain the Mortgage Files from Buyer or its
designee at Seller's expense on the Repurchase Date. With respect to any
transfers of Purchased Mortgage Loans on a Repurchase Date in accordance with
the foregoing, Buyer shall cause such Purchased Mortgage Loans to be free of any
liens granted by the Buyer thereon.
(f) With respect to all Transactions hereunder, the aggregate Purchase Price for
all Purchased Mortgage Loans at any one time subject to then outstanding
Transactions shall not exceed $150,000,000.
(g) On the last day of each month following the initial Purchase Date hereunder
(each a "NON-USAGE PAYMENT DATE"), Seller shall pay to Buyer in federal funds by
wire transfer the Non-Usage Fee then due, if any.
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(h) Notwithstanding anything in this Agreement to the contrary, Buyer shall have
no obligation to enter into any Transaction hereunder if Buyer, in its good
faith judgment, believes that there has been a material adverse change in the
business, operations, corporate structure or financial condition of Seller or
that Seller will not meet any of its obligations under any Transaction pursuant
to this Agreement, this Agreement or any other agreement between the parties.
Buyer shall promptly notify Seller of any determination by Buyer that any of the
foregoing has occurred.
(i) Seller covenants to deliver all related Mortgage Files with respect to Wet
Ink Mortgage Loans to the Custodian within 5 Business Days of such Mortgage
Loan's related Purchase Date.
(j) Seller shall deliver to Buyer in an acceptable electronic format, Collateral
Information with respect to any Mortgage Loans to be purchased hereunder by 4:00
p.m. (New York time) on the Business Day prior to the related Purchase Date. On
the 5th Business Day of each month for the term of this Agreement, Seller shall
deliver to Buyer the Collateral Information with respect to the Purchased
Mortgage Loans subject to outstanding Transactions hereunder.
4. COLLATERAL AMOUNT MAINTENANCE
(a) If at any time the aggregate Market Value or Securitization Value of all
Purchased Mortgage Loans subject to all outstanding Transactions is less than
the aggregate Collateral Amount for all such Transactions (a "COLLATERAL
DEFICIT"), then Buyer may by notice to Seller require Seller to transfer to
Buyer or its designee (including the Custodian) Mortgage Loans ("ADDITIONAL
LOANS") or cash, so that the cash and aggregate Market Value of the Purchased
Mortgage Loans, including any such Additional Loans, will thereupon equal or
exceed the aggregate Collateral Amount.
(b) Notice required pursuant to subsections (a) above may be given by any means
of telecopier or telegraphic transmission. A notice for the payment or delivery
in respect of a Collateral Deficit received before 10:00 a.m. on a Business Day,
local time of the party receiving the notice, must be met not later than 5:00
p.m. on the Business Day on which the notice was given, local time of the party
receiving the notice. Any notice given on a Business Day after 10:00 a.m., local
time of the party receiving the notice, shall be met not later than 2:00 p.m.
(New York time) on the following Business Day. The failure of Buyer or Seller,
on any one or more occasions, to exercise its rights under subsections (a) of
this Section, respectively, shall not change or alter the terms and conditions
to which this Agreement is subject or limit the right of the Buyer or Seller to
do so at a later date. Buyer and Seller agree that a failure or delay to
exercise its rights under subsections (a) of this Section shall not limit either
party's rights under this Agreement or otherwise existing by law or in any way
create additional rights for the other party.
(c) In the event that Seller fails to comply with the provisions of this Section
4, Buyer shall not enter into any additional Transactions hereunder after the
date of such failure.
5. INCOME PAYMENTS
(a) All Income from the Purchased Mortgage Loans shall be deposited in a
segregated account ("Lockbox Account") established at the Custodian in the name
of Buyer. Where a particular Transaction's term extends over an Income payment
date on the Purchased Mortgage Loans subject to that Transaction such Income
shall be the property of Buyer. Notwithstanding the foregoing, until Buyer
provides Seller with notice in writing, Seller shall be entitled to all Income
with respect to Purchased Mortgage Loans subject to Transactions. Upon such
written notice from Buyer, Seller shall no longer be entitled to all such Income
and all Income with respect to Purchased Mortgage Loans subject to Transactions
that is on deposit in the Lockbox Account shall be distributed under the
Custodial Agreement.
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(b) Notwithstanding that Buyer and Seller intend that the Transactions hereunder
be sales to Buyer of the Purchased Mortgage Loans, Seller shall pay by wire
transfer to Buyer the accreted value of the Price Differential (less any amount
of such Price Differential previously paid by Seller to Buyer)(each such
payment, a "PERIODIC PAYMENT") on the first Business Day of each month. The
Price Differential shall accrue, be calculated and be compounded on a daily
basis for each Purchased Mortgage Loan.
(c) Buyer shall offset against the Repurchase Price of each such Transaction all
Income and Periodic Payments actually received by Buyer pursuant to Sections
5(a) and (b), respectively.
6. SECURITY INTEREST
(a) Buyer and the Seller intend that the Transactions hereunder be sales to
Buyer of the Purchased Mortgage Loans and not loans from Buyer to Seller secured
by the Purchased Mortgage Loans. However, in order to preserve Buyer's rights
under this Agreement in the event that a court or other forum recharacterizes
the Transactions hereunder as loans and as security for the performance by
Seller of all of Seller's obligations to Buyer under this Agreement and the
Transactions entered into pursuant to this Agreement, Seller grants Buyer a
first priority security interest in the Purchased Mortgage Loans, Servicing
Records, insurance relating to the Purchased Mortgage Loans, Income, any and all
custodial accounts and escrow accounts relating to the Purchased Mortgage Loans,
any Hedges and any other contract rights, general intangibles and other assets
including all proceeds relating to the Purchased Mortgage Loans or any interest
in the Purchased Mortgage Loans and the servicing of the Purchased Mortgage
Loans (collectively, the "COLLATERAL").
(b) Seller shall pay all fees and expenses associated with perfecting Buyer's
security interest in the Collateral, including, without limitation, the cost of
filing financing statements under the Uniform Commercial Code and recording
assignments of Mortgage, as and when reasonably required by Buyer.
7. PAYMENT, TRANSFER AND CUSTODY
(a) Unless otherwise mutually agreed in writing, all transfers of funds
hereunder shall be in immediately available funds.
(b) On or before each Purchase Date, Seller shall deliver or cause to be
delivered to Buyer or its designee the Custodial Delivery in the form attached
hereto as Exhibit II.
(c) On the Purchase Date for each Transaction, ownership of the Purchased
Mortgage Loans shall be transferred to the Buyer or its designee (including the
Custodian) against the simultaneous transfer of the Purchase Price to an account
of Seller specified in the Confirmation. Seller, simultaneously with the
delivery to Buyer or its designee (including the Custodian) of the Purchased
Mortgage Loans relating to each Transaction hereby sells, transfers, conveys and
assigns to Buyer or its designee (including the Custodian) without recourse, but
subject to the terms of this Agreement, all the right, title and interest of
Seller in and to the Purchased Mortgage Loans together with all right, title and
interest in and to the proceeds of any related insurance policies.
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(d) In connection with such sale, transfer, conveyance and assignment, on or
prior to each Purchase Date with respect to each Mortgage Loan (or with respect
to item (vii) below within five Business Days after the Purchase Date), the
Seller shall deliver or cause to be delivered and released to the Custodian
(other than with respect to Wet Ink Mortgage Loans) the following original
documents (collectively the "MORTGAGE FILE"), pertaining to each of the
Purchased Mortgage Loans identified in the Custodial Delivery delivered
therewith:
(i) the original Mortgage Note bearing all intervening endorsements,
endorsed "Pay to the order of ________, without recourse" and signed in
the name of the last endorsee (the "LAST ENDORSEE") by an authorized
officer (in the event that the Mortgage Loan was acquired by the Last
Endorsee in a merger, the signature must be in the following form:
"[the Last Endorsee], successor by merger to [name of predecessor]"; in
the event that the Mortgage Loan was acquired or originated while doing
business under another name, the signature must be in the following
form: "[the Last Endorsee], formerly known as [previous name]");
(ii) the original of any guarantee executed in connection with the
Mortgage Note (if any);
(iii) the original Mortgage with evidence of recording thereon or
copies certified by Seller to have been sent for recording;
(iv) the originals of all assumption, modification, consolidation or
extension agreements, with evidence of recording thereon or copies
certified by Seller to have been sent for recording;
(v) the original assignment of Mortgage in blank for each Mortgage
Loan, in form and substance acceptable for recording and signed in the
name of the Last Endorsee (in the event that the Mortgage Loan was
acquired by the Last Endorsee in a merger, the signature must be in the
following form: "[the Last Endorsee], successor by merger to [name of
predecessor]"; in the event that the Mortgage Loan was acquired or
originated while doing business under another name, the signature must
be in the following form: "[the Last Endorsee], formerly known as
[previous name]");
(vi) the originals of all intervening assignments of mortgage with
evidence of recording thereon or copies certified by Seller to have
been sent for recording;
(vii) the original policy of title insurance or a true copy thereof or,
if such policy has not yet been delivered by the insurer, the
commitment or binder to issue the same; and
(viii) the original of any security agreement, chattel mortgage or
equivalent document executed in connection with the Mortgage (if any).
(e) With respect to each Mortgage Loan delivered by Seller to Buyer or its
designee (including the Custodian), Seller shall execute an omnibus power of
attorney substantially in the form of Exhibit III attached hereto irrevocably
appointing Buyer its attorney-in-fact with full power to complete and record the
assignment of Mortgage, complete the endorsement of the Mortgage Note and take
such other steps as may be necessary or desirable to enforce Buyer's rights
against such Mortgage Loans, the related Mortgage Files and the Servicing
Records. Buyer shall notify Seller upon its use of such power of attorney.
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(f) Buyer shall deposit the Mortgage Files representing the Purchased Mortgage
Loans, or direct that the Mortgage Files be deposited directly, with the
Custodian. The Mortgage Files shall be maintained in accordance with the
Custodial Agreement.
(g) Any Mortgage Files not delivered to Buyer or its designee (including the
Custodian) are and shall be held in trust by Seller or its designee for the
benefit of Buyer as the owner thereof. Seller or its designee shall maintain a
copy of the Mortgage File and the originals of the Mortgage File not delivered
to Buyer or its designee. The possession of the Mortgage File by Seller or its
designee is at the will of the Buyer for the sole purpose of servicing the
related Purchased Mortgage Loan, and such retention and possession by the Seller
or its designee is in a custodial capacity only. The books and records
(including, without limitation, any computer records or tapes) of Seller or its
designee shall be marked appropriately to reflect clearly the inclusion of the
related Purchased Mortgage Loan in a Transaction. Seller or its designee
(including the Custodian) shall release its custody of the Mortgage File only in
accordance with written instructions from Buyer, unless such release is required
as incidental to the servicing of the Purchased Mortgage Loans or is in
connection with a repurchase of any Purchased Mortgage Loan by Seller.
8. REHYPOTHECATION OR PLEDGE OF PURCHASED MORTGAGE LOANS
Title to all Purchased Mortgage Loans shall pass to Buyer and Buyer shall have
free and unrestricted use of all Purchased Mortgage Loans. Nothing in this
Agreement shall preclude Buyer from engaging in repurchase transactions with the
Purchased Mortgage Loans or otherwise pledging, repledging, hypothecating, or
rehypothecating the Purchased Mortgage Loans, but no such transaction shall
relieve Buyer of its obligations to transfer Purchased Mortgage Loans to Seller
pursuant to Section 3. Nothing contained in this Agreement shall obligate Buyer
to segregate any Purchased Mortgage Loans delivered to Buyer by Seller. Seller
shall cooperate with Buyer's reasonable requests that are necessary to complete
any such assignments, syndications, participations rehypothecations or pledge.
In the event that there is a material adverse change or other material
development in the repurchase market with traditional repurchase counterparties
of Buyer, Buyer may accelerate the Repurchase Date with respect to any
outstanding Transactions.
9. SUBSTITUTION
(a) Subject to Section 9(b), Seller may, upon one (1) Business Days written
notice to Buyer, with a copy to Custodian, substitute other Mortgage Loans for
any Purchased Mortgage Loans. Such substitution shall be made by transfer to
Buyer or its designee (including the Custodian) of the Mortgage File of such
other Mortgage Loans together with a Custodial Delivery and transfer to Seller
or its designee of the Purchased Mortgage Loans requested for release. After
substitution, the substituted Mortgage Loans, shall be deemed to be Purchased
Mortgage Loans subject to the same Transaction as the released Mortgage Loans.
(b) Notwithstanding anything to the contrary in this Agreement, Seller may not
substitute other Mortgage Loans for any Purchased Mortgage Loans (i) if after
taking into account such substitution, a Collateral Deficit would occur or (ii)
such substitution would cause a breach of any provision of this Agreement.
10. REPRESENTATIONS AND WARRANTIES
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(a) Each of Buyer and Seller represents and warrants to the other that (i) it is
duly authorized to execute and deliver this Agreement, to enter into the
Transactions contemplated hereunder and to perform its obligations hereunder and
has taken all necessary action to authorize such execution, delivery and
performance; (ii) it will engage in such Transactions as principal; (iii) the
person signing this Agreement on its behalf is duly authorized to do so on its
behalf; (iv) no approval, consent or authorization of the Transactions
contemplated by this Agreement from any federal, state, or local regulatory
authority having jurisdiction over it is required or, if required, such
approval, consent or authorization has been or will, prior to the Purchase Date,
be obtained; (v) the execution, delivery, and performance of this Agreement and
the Transactions hereunder will not violate any law, regulation, order,
judgment, decree, ordinance, charter, by-law, or rule applicable to it or its
property or constitute a default (or an event which, with notice or lapse of
time, or both would constitute a default) under or result in a breach of any
agreement or other instrument by which it is bound or by which any of its assets
are affected; (vi) it has received approval and authorization to enter into this
Agreement and each and every Transaction actually entered into hereunder
pursuant to its internal policies and procedures; and (vii) neither this
Agreement nor any Transaction pursuant hereto are entered into in contemplation
of insolvency or with intent to hinder, delay or defraud any creditor.
(b) Seller and Guarantor represent and warrant to Buyer that as of the Purchase
Date for the purchase of any Purchased Mortgage Loans by Buyer from Seller and
as of the date of this Agreement and any Transaction hereunder and at all times
while this Agreement and any Transaction hereunder is in full force and effect:
(i) ORGANIZATION. Each of Guarantor and Seller is duly organized, validly
existing and in good standing under the laws and regulations of the
state of California and is duly licensed, qualified, and in good
standing in every state where each of Guarantor and Seller,
respectively, transacts business and in any state where any Mortgaged
Property is located if the laws of such state require licensing or
qualification in order to conduct business of the type conducted by
Guarantor or Seller, respectively, therein.
(ii) NO LITIGATION. Except as provided on schedule 1 hereto, there is no
action, suit, proceeding or arbitration to which Seller or Guarantor is
a party or investigation, pending or, to the knowledge of Seller or
Guarantor, threatened against Seller, the adverse determination of
which is reasonably likely, either in any one instance or in the
aggregate, to result in a material adverse change in any of the
business, operations, financial condition, properties or assets of
Seller or Guarantor, taken as a whole, or in a material impairment of
the right or ability of Seller or Guarantor to carry on their
respective business substantially as now conducted, or in a material
liability on the part of Seller or Guarantor, or would affect the
validity of this Agreement or any of the Purchased Mortgage Loans or of
any action taken or to be taken in connection with the obligations of
Seller or Guarantor contemplated herein, or would be likely to impair
materially the ability of Seller to perform under the terms of this
Agreement or the Guarantor under the Guaranty;
(iii) NO BROKER. Seller has not dealt with any broker, investment banker,
agent, or other person, except for Buyer, who may be entitled to any
commission or compensation in connection with the sale of Purchased
Mortgage Loans pursuant to this Agreement;
(iv) GOOD TITLE TO COLLATERAL. Purchased Mortgage Loans subject to
outstanding Transactions, shall be free and clear of any lien,
encumbrance or impediment to transfer, and Seller has good, valid and
marketable title and the right to sell and transfer such Purchased
Mortgage Loans to Buyer;
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(v) DELIVERY OF MORTGAGE FILE. The Mortgage Note, the Mortgage, the
assignment of Mortgage and any other documents required to be delivered
under this Agreement and the Custodial Agreement for the Mortgage Loans
have been delivered to the Custodian (other than Wet Ink Mortgage
Loans). Seller or its designee is in possession of a complete, true and
accurate Mortgage File with respect to the Mortgage Loans, except for
such documents the originals of which have been delivered to the
Custodian.
(vi) SELECTION PROCESS. The Purchased Mortgage Loans subject to outstanding
Transactions, were selected from among the outstanding mortgage loans
in Seller's portfolio as to which the representations and warranties
set forth in this Agreement could be made and such selection was not
made in a manner so as to affect adversely the interests of Buyer.
(vii) REUNDERWRITING OF MORTGAGE LOANS. The Purchased Mortgage Loans subject
to outstanding Transactions, that were not originated by the Seller
have been reunderwritten by the Seller using its own underwriting
standards.
(viii)NO UNTRUE STATEMENTS. Neither this Agreement nor any written statement
made, or any report or other document issued or delivered or to be
issued or delivered by Seller pursuant to this Agreement or in
connection with the transactions contemplated hereby contains any
untrue statement of material fact or omits to state a material fact
necessary to make the statements contained herein or therein not
misleading;
(ix) ORIGINATION AND PURCHASE PRACTICES. The origination and purchase
practices used by Seller with respect to each Mortgage Loan have been
and are in all respects legal and proper in the mortgage origination
business;
(x) PERFORMANCE OF AGREEMENT. Seller does not believe, nor does it have any
reason or cause to believe, that it cannot perform each and every
covenant contained in this Agreement on its part to be performed;
(xi) SELLER NOT INSOLVENT. Seller is not, and with the passage of time does
not expect to become, insolvent; and
(xii) NO EVENT OF DEFAULT. No Event of Default has occurred and is continuing
hereunder.
(c) Seller represents and warrants to the Buyer that each Purchased Mortgage
Loan sold hereunder and each pool of Purchased Mortgage Loans sold in a
Transaction hereunder, as of the related Purchase Date conform to the
representations and warranties set forth in Exhibit V attached hereto and that
each Mortgage Loan delivered hereunder as Additional Loans or Substituted
Mortgage Loans, as of the date of such delivery, conforms to the representations
and warranties set forth in Exhibit V hereto. Seller further represents and
warrants to the Buyer that, as of the first Business Day of each month, the
Collateral Information with respect to each Purchased Mortgage Loan is complete,
true and correct. It is understood and agreed that the representations and
warranties set forth in Exhibit V hereto, if any, shall survive delivery of the
respective Mortgage File to Buyer or its designee (including the Custodian).
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(d) On the Purchase Date for any Transaction, Buyer and Seller shall each be
deemed to have made all the foregoing representations with respect to itself as
of such Purchase Date.
11. NEGATIVE COVENANTS OF THE SELLER
On and as of the date of this Agreement and each Purchase Date and until this
Agreement is no longer in force with respect to any Transaction, each of Seller
(except to the extent Guarantor is specified below) and Guarantor covenants
that:
(a) it shall not take any action which would directly or indirectly impair or
adversely affect Buyer's title to or the value of the Purchased Mortgage Loans;
(b) it shall not pledge, assign, convey, grant, bargain, sell, set over, deliver
or otherwise transfer any interest in the Collateral to any person not a party
to this Agreement nor will the Seller create, incur or permit to exist any lien,
encumbrance or security interest in or on the Collateral except as described in
Sections 6 or 25(b) of this Agreement;
(c) it shall not make any adverse changes to Seller's underwriting guidelines
without the prior written consent of Buyer;
(d) the Guarantor shall not fail to maintain shareholders' equity of
$65,600,000, plus 90% of all additional shareholders' equity raised, determined
in accordance with GAAP, since the date of the Agreement plus 75% of all
cumulative reported net income determined in accordance with GAAP, since the
date of the Agreement;
(e) the Guarantor shall not fail to maintain an Adjusted Tangible Net Worth of
$32,500,000;
(f) the Guarantor shall not fail to report a profit of at least $1.00 for two
consecutive fiscal quarters;
(g) the Guarantor shall not exceed a Total Leverage Ratio of 5.00;
(h) the Guarantor shall not exceed a Specified Leverage Ratio of 2.00; or
(i) the Guarantor shall fail to maintain an Adjusted Interest Coverage Ratio of
2.00.
12. AFFIRMATIVE COVENANTS OF THE SELLER
For so long as this Agreement is in effect:
(a) Each of Guarantor and Seller covenants that it will promptly notify Buyer of
any material adverse change in its business operations and/or financial
condition.
(b) Each of Guarantor and Seller shall provide Buyer with copies of such
documentation as Buyer may reasonably request evidencing the truthfulness of the
representations set forth in Section 10, including but not limited to
resolutions evidencing the approval of this Agreement by Seller's and
Guarantor's respective board of directors or loan committee, copies of the
minutes of the meetings of Seller's and Guarantor's respective board of
directors or loan committee at which this Agreement and the Transactions
contemplated by this Agreement were approved.
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(c) Seller shall, at Buyer's request, take all action necessary to ensure that
Buyer will have a first priority security interest in the Purchased Mortgage
Loans, including, among other things, filing such Uniform Commercial Code
financing statements as Buyer may reasonably request.
(d) Each of Guarantor and Seller shall notify Buyer no later than one (1)
Business Day after an executive officer of the Guarantor or Seller has actual
knowledge thereof, if any event has occurred that constitutes an Event of
Default with respect to the Guarantor or Seller or any event that with the
giving of notice or lapse of time, or both, would become an Event of Default
with respect to the Guarantor or Seller.
(e) [Reserved].
(f) Seller covenants, upon request of Buyer after the occurrence of a Collateral
Deficit, to enter into Hedges with respect to fixed rate Purchased Mortgage
Loans in order to protect adequately, in the reasonable judgment of Buyer
against interest rate risks. Seller shall assign its rights under the Hedge to
Buyer upon Buyer's request and if such assignment occurs, Buyer shall include in
any determination of Market Value the related value of such Hedge.
(g) [Reserved].
(h) Seller covenants to provide Buyer with a copy of any changes to its
underwriting guidelines, prior to the effectiveness of such changes.
(i) Seller covenants to provide Buyer on the first Business Day of each month,
either by direct modem electronic transmission or via a computer diskette, the
Collateral Information, updated as appropriate, in computer readable format with
respect to all Purchased Mortgage Loans then subject to Transactions.
(j) Guarantor covenants to provide Buyer with the following financial and
reporting information:
(i) Within 95 days after the last day of its fiscal year, Guarantor's
audited consolidated statements of income and statements of cash flow
for such year and balance sheets as of the end of such year in each
case presented fairly in accordance with GAAP, and accompanied, in all
cases, by an unqualified report of one of the "Big Six" independent
certified public accounting firms.
(ii) Within 60 days after the last day of the first three fiscal
quarters in any fiscal year, Guarantor's consolidated statements of
income and statements of cash flow for such quarter and balance sheets
as of the end of such quarter presented fairly in accordance with GAAP.
(iii) Within 30 days after the last day of each calendar quarter an
officer's certificate in the form of Exhibit VI from Guarantor's chief
financial officer or treasurer, addressed to Buyer certifying that, as
of the date of such certificate, (i) each of guarantor and Seller is in
compliance with all of the terms, conditions and requirements of this
Agreement, and (ii) such officer has no actual knowledge, except as
specifically stated therein, of an Event of Default hereunder.
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(iv) As soon as available, copies of all proxy statements, financial
statements, and reports which Guarantor sends to its stockholders, and
copies of all regular, periodic and special reports, and all
registration statements under the Securities Act of 1933, as amended,
which it files with the Securities and Exchange Commission or any
government authority which may be substituted therefor, or with any
national securities exchange.
13. EVENTS OF DEFAULT
(a) If any of the following events (each an "EVENT OF DEFAULT") occur,
Buyer shall have the rights set forth in Section 14, as applicable:
(i) Seller fails to satisfy or perform any material obligation or
covenant under this Agreement; PROVIDED, HOWEVER, that if such
material obligation or covenant relates to a non-monetary obligation
or covenant, such failure shall not constitute an Event of Default
hereunder unless such failure continues for a period of 30 days after
delivery of written notice to the defaulting party;
(ii) an Act of Insolvency occurs with respect to Seller or Guarantor;
(iii) any representation made by Seller or Guarantor shall have been
incorrect or untrue in any material respect when made or repeated or
deemed to have been made or repeated and that has a material adverse
effect on Buyer or Buyer's interest in the Purchased Mortgage Loans;
(iv) Seller shall admit its inability to, or its intention not to, perform
any of its obligations hereunder;
(v) any governmental, regulatory, or self-regulatory authority takes any
action to remove, limit, restrict, suspend or terminate the rights,
privileges, or operations of the Seller or any of its Affiliates,
including suspension as an issuer, lender or seller/servicer of
mortgage loans, which suspension has a material adverse effect on the
ordinary business operations of Seller, as a whole, and which
continues for more than 24 hours;
(vi) Seller dissolves, merges or consolidates with another entity (unless
(A) it is the surviving party or (B) the entity into which it mergers
has equity and a market value of at least that of the Seller
immediately prior to such merger and such entity expressly assumes
the obligations of the Seller at the time of such merger), or sells,
transfers, or otherwise disposes of a material portion of its
business or assets;
(vii) Buyer, in its good faith judgment, believes that there has been a
material adverse change in the business, operations, corporate
structure, prospects or financial condition of Seller or that Seller
will not meet any of its obligations under any Transaction pursuant
to this Agreement, this Agreement or any other agreement between the
parties;
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(viii)Seller or Guarantor is in default under any other indenture or
agreement concerning the borrowing of money to which it is a party
(including, without limitation, the Subordination Agreement),
PROVIDED, HOWEVER, such a default shall not constitute an Event of
Default if the exercise of such remedies as are available to Seller's
(or Guarantor's (as applicable)) counterparty with respect to such
default would not result in a material adverse change in the business
operations or financial condition of the Seller;
(ix) A judgment by any competent court in the United States of America for
the payment of money in an amount of at least $2,000,000 is rendered
against the Seller, and the same remains undischarged and unpaid for
a period of sixty (60) days during which execution of such judgment
is not effectively stayed or a judgment by any competent court of the
United States or a determination by an appropriate regulatory body
that in the sole judgment of Buyer materially adversely effects the
reputation of Buyer;
(x) This Agreement shall for any reason cease to create a valid, first
priority security interest in any of the Purchased Mortgage Loans
purported to be covered hereby;
(xi) A Collateral Deficit occurs with respect to Seller and is not
eliminated within the time period specified in Section 4(b); or
(xii) Guarantor fails to satisfy or perform any material obligation or
covenant under the Guaranty.
14. REMEDIES
(a) If an Event of Default occurs with respect to Seller, the following rights
and remedies are available to Buyer:
(i) At the option of Buyer, exercised by written notice to Seller (which
option shall be deemed to have been exercised, even if no notice is
given, immediately upon the occurrence of an Act of Insolvency), the
Repurchase Date for each Transaction hereunder shall be deemed
immediately to occur.
(ii) If Buyer exercises or is deemed to have exercised the option referred
to in subsection (a)(i) of this Section,
(A) Seller's obligations hereunder to repurchase all Purchased
Mortgage Loans in such Transactions shall thereupon become immediately
due and payable,
(B) to the extent permitted by applicable law, the Pricing Rate with
respect to each such Transaction shall be increased to the aggregate
amount obtained by daily application of, on a 360 day per year basis
for the actual number of days during the period from and including the
date of the exercise or deemed exercise of such option to but
excluding the date of payment of the Repurchase Price as so increased
the greater of the Prime Rate or the Pricing Rate for each such
Transaction, and
(C) all Income actually received by the Buyer or its designee
(including the Custodian) pursuant to Section 5 shall be applied to
the aggregate unpaid Repurchase Price owed by Seller.
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(iii) After one Business Day's notice to Seller (which notice need not be
given if an Act of Insolvency shall have occurred, and which may be
the notice given under subsection (a)(i) of this Section), Buyer may
(A) immediately sell, without notice or demand of any kind, at a
public or private sale and at such price or prices Buyer may
reasonably deem satisfactory any or all Purchased Mortgage Loans
subject to a Transaction hereunder or (B) in its sole discretion
elect, in lieu of selling all or a portion of such Purchased Mortgage
Loans, to give Seller credit for such Purchased Mortgage Loans in an
amount equal to the Market Value of the Purchased Mortgage Loans
against the aggregate unpaid Repurchase Price and any other amounts
owing by Seller hereunder. The proceeds of any disposition of
Purchased Mortgage Loans shall be applied first to the costs and
expenses incurred by Buyer in connection with Seller's default;
second to consequential damages, including reasonable legal expenses,
the costs of cover and/or related reasonable hedging transactions;
third to the Repurchase Price; fourth to any other outstanding
obligation of Seller to Buyer or its Affiliates; and fifth, if any
amounts remain, to the Seller.
(iv) The parties recognize that it may not be possible to purchase or sell
all of the Purchased Mortgage Loans on a particular Business Day, or
in a transaction with the same purchaser, or in the same manner
because the market for such Purchased Mortgage Loans may not be
liquid. In view of the nature of the Purchased Mortgage Loans, the
parties agree that liquidation of a Transaction or the underlying
Purchased Mortgage Loans does not require a public purchase or sale
and that a good faith private purchase or sale shall be deemed to
have been made in a commercially reasonable manner. Accordingly,
Buyer may elect, in its sole discretion, the time and manner of
liquidating any Purchased Mortgage Loan and nothing contained herein
shall (A) obligate Buyer to liquidate any Purchased Mortgage Loan on
the occurrence of an Event of Default or to liquidate all Purchased
Mortgage Loans in the same manner or on the same Business Day or (B)
constitute a waiver of any right or remedy of Buyer. However, in
recognition of the parties' agreement that the Transactions hereunder
have been entered into in consideration of and in reliance upon the
fact that all Transactions hereunder constitute a single business and
contractual relationship and that each Transaction has been entered
into in consideration of the other Transactions, the parties further
agree that Buyer shall use its best efforts to liquidate all
Transactions hereunder upon the occurrence of an Event of Default as
quickly as is prudently possible in the reasonable judgment of Buyer.
(v) Buyer shall, without regard to the adequacy of the security for the
Seller's obligations under this Agreement, be entitled to the
appointment of a receiver by any court having jurisdiction, without
notice, to take possession of and protect, collect, manage,
liquidate, and sell the Collateral or any portion thereof, and
collect the payments due with respect to the Collateral or any
portion thereof. Seller shall pay all costs and expenses incurred by
Buyer in connection with the appointment and activities of such
receiver.
(vi) Seller agrees that Buyer may obtain an injunction or an order of
specific performance to compel Seller to fulfill its obligations as
set forth in Section 25, if Seller fails or refuses to perform its
obligations as set forth therein.
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(vii) Seller shall be liable to Buyer for the amount of all expenses,
reasonably incurred by Buyer in connection with or as a consequence
of an Event of Default, including, without limitation, reasonable
legal fees and expenses and reasonable costs incurred in connection
with reasonable hedging or covering transactions.
(viii)Buyer shall have all the rights and remedies provided herein,
provided by applicable federal, state, foreign, and local laws
(including, without limitation, the rights and remedies of a secured
party under the Uniform Commercial Code of the State of New York, to
the extent that the Uniform Commercial Code is applicable, and the
right to offset any mutual debt and claim), in equity, and under any
other agreement between Buyer and Seller.
(ix) Buyer may exercise one or more of the remedies available to Buyer
immediately upon the occurrence of an Event of Default and, except to
the extent provided in subsections (a)(i) and (iii) of this Section,
at any time thereafter without notice to Seller. All rights and
remedies arising under this Agreement as amended from time-to-time
hereunder are cumulative and not exclusive of any other rights or
remedies which Buyer may have.
(x) In addition to its rights hereunder, Buyer shall have the right to
proceed against any assets of Seller which may be in the possession
of Buyer or its designee (including the Custodian) including the
right to liquidate such assets and to set off the proceeds against
monies owed by Seller to Buyer pursuant to this Agreement. Buyer may
set off cash, the proceeds of the liquidation of the Purchased
Mortgage Loans, any Collateral or its proceeds, and all other sums or
obligations owed by Seller to Buyer against all of Seller's
obligations to Buyer, whether under this Agreement, under a
Transaction, or under any other agreement between the parties, or
otherwise, whether or not such obligations are then due, without
prejudice to Buyer's right to recover any deficiency. Any cash,
proceeds, or property in excess of any amounts due, or which Buyer
reasonably believes may become due, to it from Seller shall be
returned to Seller after satisfaction of all obligations of Seller to
Buyer.
(xi) Buyer may enforce its rights and remedies hereunder without prior
judicial process or hearing, and Seller hereby expressly waives any
defenses Seller might otherwise have to require Buyer to enforce its
rights by judicial process. Seller also waives any defense Seller
might otherwise have arising from the use of nonjudicial process,
enforcement and sale of all or any portion of the Collateral, or from
any other election of remedies. Seller recognizes that nonjudicial
remedies are consistent with the usages of the trade, are responsive
to commercial necessity and are the result of a bargain at arm's
length.
(xii) Buyer and Seller hereby agree that sales of the Purchased Mortgage
Loans shall be deemed to include and permit the sales of Purchased
Mortgaged Loans pursuant to a securities offering.
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(xiii)Notwithstanding the foregoing remedies, if the Event of Default
(other than an Event of Default under Section 13(a)(xi)) arises from a
breach of any representation or warranty set forth in Sections
10(b)(iii), (v) or (ix), 10(c) or in Exhibit V attached hereto with
respect to a Purchased Mortgage Loan, then Seller may elect, subject
to Buyer's written consent (which consent shall not be unreasonably
withheld or delayed), to cure such default by repurchasing such
Mortgage Loan or substituting for such Mortgage Loan within ten (10)
Business Days of such Event of Default, PROVIDED, HOWEVER, that Seller
shall not have the right to make the foregoing election if such breach
causes a default with respect to Mortgage Loans that in the aggregate
represent ten percent (10%) or more of the aggregate Purchase Price of
all Purchased Mortgage Loans subject to then outstanding Transactions.
The repurchase price for any such repurchase shall be the outstanding
Repurchase Price of such Mortgage Loan, as the case may be. Any such
substitution shall be performed in accordance with Section 9 of this
Agreement.
Notwithstanding the foregoing, if an Event of Default shall occur hereunder
as a result of a default under an indenture or instrument described in
subsection (viii) of Section 13 (a) hereof, and such default under such
indenture or instrument is subsequently remedied or cured by Seller, then
the Event of Default hereunder shall by reason thereof, after notice of such
cure or remedy is given to Buyer by Seller, be deemed likewise to have been
thereupon remedied or cured without further action upon the part of Seller
or Buyer; PROVIDED, HOWEVER, that Buyer shall not be responsible for the
effects upon Seller of, nor otherwise liable to Seller for, any actions
taken by Buyer in connection with its exercise of remedies under this
Section 14 prior to its receipt of said notice of such cure or remedy,
including, without limitation, the sale of the Purchased Mortgage Loans by
Buyer to a third party.
15. ADDITIONAL CONDITIONS
Seller shall, on the date of the initial Transaction hereunder and, upon the
request of Buyer, on the date of any subsequent Transaction, cause to be
delivered to Buyer, with reliance thereon (other than the opinion of Gibson Dunn
& Crutcher) permitted as to any Person that purchases the Purchased Mortgage
Loans from Buyer in a repurchase transaction, a favorable opinion or opinions of
counsel no more often than quarterly with respect to the matters set forth in
Exhibit IV attached hereto. In addition Seller shall execute a letter agreement
(the "Letter Agreement") with respect to certain fees to be paid hereunder, and
the Guaranty shall be fully executed and delivered by the Guarantor. Within 30
days of the date hereof, Seller shall deliver to Buyer (a) the Master Servicing
Agreement (fully and validly authorized, executed and delivered by all the
parties thereto), (b) the Lockbox Agreement between Norwest Bank Minnesota,
N.A., Buyer and Seller and (c) certain opinions of counsel to Guarantor. Failure
to deliver any of the requirements of the preceding sentence without a written
waiver from Buyer will result in a termination of this Agreement as well as any
commitment or obligation (express or implied) to purchase Mortgage Loans
hereunder by Buyer, without regard to all fees owed to Buyer pursuant to the
above referenced letter agreement. Furthermore, to the extent that within 45
days of the date hereof, Buyer (a) fails to complete a satisfactory due
diligence investigation of the Seller and the Guarantor or (b) fails to obtain
any necessary internal committee approvals relating to proposed Transactions
hereunder or transactions under the Letter Agreement, then the Agreement shall
be terminable at the option of the Buyer with 90 days prior written notice (such
notice to be delivered within the 45 days). To the extent Buyer exercises its
rights under the preceding sentence, Buyer shall deliver to the Guarantor in
immediately available funds pro rata fees actually paid to Buyer by Guarantor
and shall terminate any obligations of the Guarantor to pay additional fees
under the Letter Agreement.
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16. SINGLE AGREEMENT
Buyer and Seller acknowledge that, and have entered hereinto and will enter into
each Transaction hereunder in consideration of and in reliance upon the fact
that, all Transactions hereunder constitute a single business and contractual
relationship and that each has been entered into in consideration of the other
Transactions. Accordingly, each of Buyer and Seller agrees (i) to perform all of
its obligations in respect of each Transaction hereunder, and that a default in
the performance of any such obligations shall constitute a default by it in
respect of all Transactions hereunder, (ii) that each of them shall be entitled
to set off claims and apply property held by them in respect of any Transaction
against obligations owing to them in respect of any other Transactions hereunder
and (iii) that payments, deliveries, and other transfers made by either of them
in respect of any Transaction shall be deemed to have been made in consideration
of payments, deliveries, and other transfers in respect of any other
Transactions hereunder, and the obligations to make any such payments,
deliveries, and other transfers may be applied against each other and netted.
17. NOTICES AND OTHER COMMUNICATIONS
Unless another address is specified in writing by the respective party to whom
any written notice or other communication is to be given hereunder, all such
notices or communications shall be in writing or confirmed in writing and
delivered at the respective addresses set forth in the Confirmation. Notices
hereunder may be given by facsimile transmission.
18. ENTIRE AGREEMENT; SEVERABILITY
This Agreement together with the applicable Confirmation and the Custodial
Agreement constitutes the entire understanding between Buyer and Seller with
respect to the subject matter it covers and shall supersede any existing
agreements between the parties containing general terms and conditions for
repurchase transactions involving Purchased Mortgage Loans. By acceptance of
this Agreement, Buyer and Seller acknowledge that they have not made, and are
not relying upon, any statements, representations, promises or undertakings not
contained in this Agreement. Each provision and agreement herein shall be
treated as separate and independent from any other provision or agreement herein
and shall be enforceable notwithstanding the unenforceability of any such other
provision or agreement.
19. NON-ASSIGNABILITY
The rights and obligations of the parties under this Agreement and under any
Transaction shall not be assigned by Seller without the prior written consent of
Buyer. Subject to the foregoing, this Agreement and any Transactions shall be
binding upon and shall inure to the benefit of the parties and their respective
successors and assigns. Nothing in this Agreement express or implied, shall give
to any person, other than the parties to this Agreement and their successors
hereunder, any benefit or any legal or equitable right, power, remedy or claim
under this Agreement.
20. TERMINABILITY
This Agreement shall terminate upon the earlier of (i) written notice from
Seller to Buyer to such effect and (ii) 364 days from the date of this
Agreement, except that, in either case, this Agreement shall, notwithstanding
clauses (i) or (ii) above, remain applicable to any Transaction then
outstanding. Notwithstanding any such termination or the occurrence of an Event
of Default, all of the representations and warranties hereunder (including those
made in Exhibit V) shall continue and survive.
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21. GOVERNING LAW
THIS AGREEMENT SHALL BE GOVERNED BY THE INTERNAL LAWS OF THE STATE OF NEW YORK
WITHOUT GIVING EFFECT TO THE CONFLICT OF LAW PRINCIPLES THEREOF.
22. CONSENT TO JURISDICTION AND ARBITRATION
The parties irrevocably agree to submit to the personal jurisdiction of the
United States District Court for the Southern District of New York, the parties
irrevocably waiving any objection thereto. If, for any reason, federal
jurisdiction is not available, and only if federal jurisdiction is not
available, the parties irrevocably agree to submit to the personal jurisdiction
of the Supreme Court of the State of New York, the parties irrevocably waiving
any objection thereto. Notwithstanding the foregoing two sentences, at either
party's sole option exercisable at any time not later than thirty (30) days
after an action or proceeding has been commenced, the parties agree that the
matter may be submitted to binding arbitration in accordance with the commercial
rules of the American Arbitration Association then in effect in the State of New
York and judgment upon any award rendered by the arbitrator may be entered in
any court having jurisdiction thereof within the City, County and State of New
York; PROVIDED, HOWEVER, that the arbitrator shall not amend, supplement, or
reform in any regard this Agreement or the terms of any Confirmation, the rights
or obligations of any party hereunder or thereunder, or the enforceability of
any of the terms hereof or thereof. Any arbitration shall be conducted before a
single arbitrator who shall be reasonably familiar with repurchase transactions
and the secondary mortgage market in the City, County, and State of New York.
23. NO WAIVERS, ETC.
No express or implied waiver of any Event of Default by either party shall
constitute a waiver of any other Event of Default and no exercise of any remedy
hereunder by any party shall constitute a waiver of its right to exercise any
other remedy hereunder. No modification or waiver of any provision of this
Agreement and no consent by any party to a departure herefrom shall be effective
unless and until such shall be in writing and duly executed by both of the
parties hereto. Any such waiver or modification shall be effective only in the
specific instance and for the specific purpose for which it was given.
24. INTENT
The parties understand and intend that this Agreement and each Transaction
hereunder constitute a "repurchase agreement" and a "securities contract" as
those terms are defined under the relevant provisions of Title 11 of the United
States Code, as amended.
25. SERVICING
(a) Notwithstanding the purchase and sale of the Purchased Mortgage Loans
hereby, Seller shall continue to service or cause the servicing of the Purchased
Mortgage Loans for the benefit of Buyer and, if Buyer shall exercise its rights
to pledge or hypothecate the Purchased Mortgage Loan prior to the related
Repurchase Date pursuant to Section 8, Buyer's assigns; provided, however, that
the obligations of Seller to service the Purchased Mortgage Loans shall cease
upon the payment by Seller to Buyer of the Repurchase Price therefor. Seller
shall service the Purchased Mortgage Loans in accordance with the servicing
standards maintained by other prudent mortgage lenders with respect to mortgage
loans similar to the Mortgage Loans. At all times while Transactions remain
outstanding hereunder, the Seller shall employ a master servicer (the "Master
Servicer") with respect to the Purchased Mortgage Loans pursuant to a master
servicing agreement (the Master Servicing Agreement). The Seller hereby assigns
its rights in the Master Servicing Agreement to Buyer for the term of this
Agreement.
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(b) Seller agrees that Buyer is the owner of all servicing records, including
but not limited to any and all servicing agreements, files, documents, records,
data bases, computer tapes, copies of computer tapes, proof of insurance
coverage, insurance policies, appraisals, other closing documentation, payment
history records, and any other records relating to or evidencing the servicing
of Purchased Mortgage Loans subject to outstanding Transactions (the "SERVICING
RECORDS"). Seller grants Buyer a security interest in all servicing fees and
rights relating to the Purchased Mortgage Loans and all Servicing Records to
secure the obligation of the Seller or its designee to service in conformity
with this Section and any other obligation of Seller to Buyer. Seller covenants
to safeguard such Servicing Records and to deliver them promptly to Buyer or its
designee (including the Custodian) at Buyer's request.
(c) Upon the occurrence and continuance of an Event of Default, Buyer may, in
its sole discretion, (i) sell its right to the Purchased Mortgage Loans on a
servicing released basis (ii) terminate the Seller as servicer of the Purchased
Mortgage Loans with or without cause, in each case without payment of any
termination fee or (iii) instruct the Master Servicer to transfer and assume the
servicing relating to the Purchased Mortgage Loans pursuant to the Master
Servicing Agreement.
(d) Seller shall not employ sub-servicers to service the Purchased Mortgage
Loans without the prior written approval of Buyer.
(e) Seller shall cause any sub-servicer hereunder to execute a letter agreement
with Buyer acknowledging Buyer's security interest and agreeing that, upon
notice from Buyer (or the Custodian on its behalf) that an Event of Default has
occurred and in continuing hereunder, it shall deposit all Income with respect
to the Purchased Mortgage Loans in the amount specified in the third sentence of
Section 5(a). Seller shall cause the servicer or any sub-servicer hereunder to
segregate and hold for the benefit of Buyer as bailee the credit files relating
to the Purchased Mortgage Loans and upon notice from Buyer cause the servicer or
applicable sub-servicer to deliver such files to the Custodian.
26. DISCLOSURE RELATING TO CERTAIN FEDERAL PROTECTIONS
The parties acknowledge that they have been advised that in the case of
Transactions in which one of the parties is an "insured depository institution"
as that term is defined in Section 1831(a) of Title 12 of the United States
Code, as amended, funds held by the financial institution pursuant to a
Transaction hereunder are not a deposit and therefore are not insured by the
Federal Deposit Insurance Corporation, the Savings Association Insurance Fund or
the Bank Insurance Fund, as applicable.
27. NETTING
If Buyer and Seller are "financial institutions" as now or hereinafter defined
in Section 4402 of Title 12 of the United States Code ("SECTION 4402") and any
rules or regulations promulgated thereunder:
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(a) All amounts to be paid or advanced by one party to or on behalf of the other
under this Agreement or any Transaction hereunder shall be deemed to be "payment
obligations" and all amounts to be received by or on behalf of one party from
the other under this Agreement or any Transaction hereunder shall be deemed to
be "payment entitlements" within the meaning of Section 4402, and this Agreement
shall be deemed to be a "netting contract" as defined in Section 4402.
(b) The payment obligations and the payment entitlements of the parties hereto
pursuant to this Agreement and any Transaction hereunder shall be netted as
follows. In the event that either party (the "DEFAULTING PARTY") shall fail to
honor any payment obligation under this Agreement or any Transaction hereunder,
the other party (the "NONDEFAULTING PARTY") shall be entitled to reduce the
amount of any payment to be made by the Nondefaulting Party to the Defaulting
Party by the amount of the payment obligation that the Defaulting Party failed
to honor.
28. MISCELLANEOUS
(a) Time is of the essence under this agreement and all Transactions and all
references to a time shall mean New York time in effect on the date of the
action unless otherwise expressly stated in this Agreement.
(b) Buyer shall be authorized to accept orders and take any other action
affecting any accounts of the Seller in response to instructions given in
writing or orally by telephone or otherwise by any person with apparent
authority to act on behalf of the Seller, and the Seller shall indemnify Buyer,
defend, and hold Buyer harmless from and against any and all liabilities,
losses, damages, costs, and expenses of any nature arising out of or in
connection with any action taken by Buyer in response to such instructions
received or reasonably believed to have been received from the Seller.
(c) If there is any conflict between the terms of this Agreement or any
Transaction entered into hereunder and the Custodial Agreement, this Agreement
shall prevail.
(d) If there is any conflict between the terms of a Confirmation or a corrected
Confirmation issued by the Buyer and signed or initialed by the Seller and this
Agreement, the Confirmation shall prevail.
(e) This Agreement may be executed in counterparts, each of which so executed
shall be deemed to be an original, but all of such counterparts shall together
constitute but one and the same instrument.
(f) Seller agrees to reimburse Buyer for all reasonable costs and expenses of
Buyer in connection with this Agreement including, without limitation, the fees,
expenses and disbursement of counsel to Buyer, which fees, expenses and
disbursements shall not exceed $10,000.
(g) The headings in this Agreement are for convenience of reference only and
shall not affect the interpretation or construction of this Agreement.
[Signature page follows.]
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IN WITNESS WHEREOF, the parties have entered into this Agreement as of
the date set forth above.
LEHMAN COMMERCIAL PAPER INC.,
Buyer
By: /s/ Francis X. Gilhool
-------------------------------
Title: Francis X. Gilhool
----------------------------
AUTHORIZED SIGNATORY
Date:______________________________
FIRST ALLIANCE MORTGAGE COMPANY,
Seller
By: /s/ F. Nebot
-------------------------------
Title: CFO/EVP
----------------------------
Date: 12/30/98
-----------------------------
FIRST ALLIANCE CORPORATION,
Guarantor
By: /s/ Brian Chisick
-------------------------------
Title: CEO
----------------------------
Date: 12/30/98
------------------------------
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EXHIBITS
--------
EXHIBIT I Confirmation
EXHIBIT II Form of Custodial Delivery
EXHIBIT III Form of Power of Attorney
EXHIBIT IV Opinion of Counsel to Seller
EXHIBIT V Representations and Warranties
Regarding Mortgage Loans
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SCHEDULE I-OUTSTANDING LITIGATION
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EXHIBIT I
Form of Confirmation Letter
(date)
First Alliance Mortgage Company
17305 Von Karman Avenue
Irvine, California 92714-6203
Attention: ______________
Confirmation No.:_____________________
Ladies/Gentlemen:
This letter confirms our oral agreement to purchase from you the Mortgage Loans
listed in Appendix I hereto, pursuant to the Master Repurchase Agreement
Governing the Purchases and Sales of Mortgage Loans between us, dated as of
December 30, 1998 (the "Agreement"), as follows:
Purchase Date:
Mortgage Loans to be Purchased: See Appendix I hereto.
[Appendix I to Confirmation Letter will list Mortgage Loans]
Aggregate Principal Amount of Purchased Mortgage Loans:
Purchase Price:
Pricing Rate:
Repurchase Date:
Repurchase Price:
Account to which Purchase Price will be deposited (ABA, A/C#,
institution):
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Names and addresses for communications:
Buyer:
Lehman Commercial Paper Inc.
200 Vesey Street
9th Floor
New York, New York 10285-0900
Attention: Central Funding Department
Seller:
First Alliance Mortgage Company
17305 Von Karman Avenue
Irvine, California 92714-6203
Attention: ______________
LEHMAN COMMERCIAL PAPER INC.
By:_________________________________
Name:_______________________________
Title:______________________________
Agreed and Acknowledged:
First Alliance Mortgage Company
Seller
By:_________________________________________
Name:_______________________________________
Title:______________________________________
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EXHIBIT II
Form of Custodial Delivery
On this ___ day of ____, 199_, First Alliance Mortgage Company ("Seller"), as
the Seller under that certain Master Repurchase Agreement Governing Purchases
and Sales of Mortgage Loans, dated as of December 30, 1998 (the "Repurchase
Agreement") between the Seller and Lehman Commercial Paper Inc. ("Buyer"), does
hereby deliver to Norwest Bank Minnesota, N.A. ("Custodian"), as custodian under
that certain Custodial Agreement, dated as of December 30, 1998, among Buyer,
Seller and Custodian the Mortgage Files with respect to the Mortgage Loans to be
purchased by Buyer pursuant to the Repurchase Agreement, which Mortgage Loans
are listed on the Mortgage Loan Schedule attached hereto and which Mortgage
Loans shall be subject to the terms of the Custodial Agreement on the date
hereof.
With respect to the Mortgage Files delivered hereby, for the purposes of issuing
the Trust Receipt, the Custodian shall review the Mortgage Files to ascertain
delivery of the documents listed in Annex A attached to the Custodial Agreement.
[The Mortgage Loans delivered hereby constitute Additional Loans [delivered
pursuant to Section 7 of the Custodial Agreement].][The Mortgage Loans delivered
hereby constitute Substituted Collateral [pursuant to Section 6 of the Custodial
Agreement] and are intended to be substituted for the Purchased Mortgage Loans
listed on the [schedule attached hereto][Request for Release of Documents and
receipt delivered herewith]. The Purchased Mortgage Loans to be released shall
be delivered to _______________.]
Capitalized terms used herein and not otherwise defined shall have the meanings
set forth in the Custodial Agreement.
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IN WITNESS WHEREOF, the Seller has caused its name to be signed hereto by its
officer thereunto duly authorized as of the day and year first above written.
FIRST ALLIANCE MORTGAGE COMPANY
Seller
By:__________________________________
Title:_______________________________
Name:________________________________
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EXHIBIT III
Form of Power of Attorney
"Notice: The powers granted by this document are broad and sweeping. They are
defined in New York General Obligations Law, Article 5, Title 15, sections
5-1502A through 5-1503, which expressly permits the use of any other different
form of power of attorney desired by the parties concerned.
"Know All Men by These Presents, which are intended to constitute a GENERAL
POWER OF ATTORNEY pursuant to Article 5, Title 15 of the New York General
Obligations Law: That First Alliance Mortgage Company ("Seller"), does hereby
appoint Lehman Commercial Paper Inc. ("Buyer"), its attorney-in-fact to act in
Seller's name, place and stead in any way which Seller could do with respect to
recording the Mortgages purchased by Buyer pursuant to a Master Repurchase
Agreement Governing Purchases and Sales of Mortgage Loans dated as of December
30, 1998 between Seller and Buyer and to take such other steps as may be
necessary or desirable to enforce Buyer's rights against such Mortgage Loans,
the related Mortgage Files and the Servicing Records to the extent that Seller
is permitted by law to act through an agent.
TO INDUCE ANY THIRD PARTY TO ACT HEREUNDER, SELLER HEREBY AGREES THAT ANY THIRD
PARTY RECEIVING A DULY EXECUTED COPY OR FACSIMILE OF THIS INSTRUMENT MAY ACT
HEREUNDER, AND THAT REVOCATION OR TERMINATION HEREOF SHALL BE INEFFECTIVE AS TO
SUCH THIRD PARTY UNLESS AND UNTIL ACTUAL NOTICE OR KNOWLEDGE OF SUCH REVOCATION
OR TERMINATION SHALL HAVE BEEN RECEIVED BY SUCH THIRD PARTY, AND SELLER ON ITS
OWN BEHALF AND ON BEHALF OF SELLER'S LEGAL REPRESENTATIVES AND ASSIGNS, HEREBY
AGREES TO INDEMNIFY AND HOLD HARMLESS ANY SUCH THIRD PARTY FROM AND AGAINST ANY
AND ALL CLAIMS THAT MAY ARISE AGAINST SUCH THIRD PARTY BY REASON OF SUCH THIRD
PARTY HAVING RELIED ON THE PROVISIONS OF THIS INSTRUMENT.
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IN WITNESS WHEREOF Seller has caused this Power of Attorney to be executed and
the Seller's seal to be affixed this 30th day of December, 1998.
FIRST ALLIANCE MORTGAGE COMPANY
(Seal)
By:_________________________________________
Name:_______________________________________
Title:______________________________________
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EXHIBIT IV
OPINION OF SELLER'S COUNSEL
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EXHIBIT V
Representations and Warranties
Regarding Purchased Mortgage Loans.
The Seller represents and warrants to the Buyer that, with respect to
each Purchased Mortgage Loan sold in a Transaction hereunder, as of the related
Purchase Date:
(a) PURCHASED MORTGAGE LOANS AS DESCRIBED. The information set forth in the
Mortgage Loan Schedule is complete, true and correct;
(b) NO OUTSTANDING CHARGES. There are no defaults in complying with the
terms of the Mortgage relating to such Purchased Mortgage Loan, and all
taxes, governmental assessments, insurance premiums, water, sewer and
municipal charges, leasehold payments or ground rents which previously
became due and owing have been paid, or, if any escrows have been
established, an escrow of funds has been established in an amount
sufficient to pay for every such item which remains unpaid and which
has been assessed but is not yet due and payable. Seller has not
advanced funds, or induced, solicited or knowingly received any advance
of funds by a party other than the Mortgagor, directly or indirectly,
for the payment of any amount required under the Purchased Mortgage
Loan, except for interest accruing from the date of the Mortgage Note
or date of disbursement of the Purchased Mortgage Loan proceeds,
whichever is greater, to the day which precedes by one month the due
date of the first installment of principal and interest;
(c) ORIGINAL TERMS UNMODIFIED. The terms of the Mortgage Note and Mortgage
relating to the Purchased Mortgage Loan have not been impaired, waived,
altered or modified in any respect, except by a written instrument
which has been recorded, if necessary to protect the interests of Buyer
and which has been delivered to Buyer or its designee (including the
Custodian). The substance of any such waiver, alteration or
modification has been approved by the issuer, if any, of any related
primary mortgage insurance policy issued by a generally accepted
insurance carrier ( a "PMI Policy") and the title insurer, to the
extent required by the policy, and its terms are reflected on the
Mortgage Loan Schedule. No Mortgagor has been released, in whole or in
part, except in connection with an assumption agreement approved by the
issuer, if any, of any related PMI Policy and the title insurer, to the
extent required by the policy, and which assumption agreement is
included in the Mortgage File delivered to Buyer or its designee
(including the Custodian) and the terms of which are reflected in the
Mortgage Loan Schedule;
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(d) NO DEFENSES. The Purchased Mortgage Loan is not subject to any right of
rescission, set-off, counterclaim or defense, including without
limitation the defense of usury, nor will the operation of any of the
terms of the Mortgage Note or the Mortgage, or the exercise of any
right thereunder, render either the Mortgage Note or the Mortgage
unenforceable, in whole or in part, or subject to any right of
rescission, set-off, counterclaim or defense, including without
limitation the defense of usury, and no such right of rescission,
set-off, counterclaim or defense has been asserted with respect
thereto;
(e) INSURANCE POLICIES IN EFFECT. The fire and casualty insurance policy
covering the Mortgaged Property (1) affords (and will afford)
sufficient insurance against fire and such other risks as are usually
insured against in the broad form of extended coverage insurance from
time to time available, as well as insurance against flood hazards if
the Mortgaged Property is an area identified by the Federal Emergency
Management Agency as having special flood hazards; (2) is a standard
policy of insurance for the locale where the Mortgaged Property is
located, is in full force and effect, and the amount of the insurance
is in the amount of the full insurable value of the Mortgaged Property
on a replacement cost basis or the unpaid balance of the Purchased
Mortgage Loans, whichever is less; (3) names (and will name) the
present owner of the Mortgaged Property as the insured; and (4)
contains a standard mortgagee loss payable clause in favor of Seller.
All individual insurance policies with respect to the Purchased
Mortgage Loan are the valid and binding obligation of the insurer and
contain a standard mortgage clause naming Seller, its successors and
assigns, as Mortgagee. All premiums thereon have been paid. The
Mortgage obligates the Mortgagor thereunder to maintain all such
insurance policies at the Mortgagor's cost and expense, and upon the
Mortgagor's failure to do so, authorizes the holder of the Mortgage to
obtain and maintain such insurance at the Mortgagor's cost and expense
and to seek reimbursement therefor from the Mortgagor;
(f) COMPLIANCE WITH APPLICABLE LAWS. Any and all requirements of any
federal, state or local law including, without limitation, usury,
truth-in-lending, real estate settlement procedures, consumer credit
protection, equal credit opportunity or disclosure laws applicable to
the origination and servicing of the Purchased Mortgage Loan have been
complied with, and Seller shall maintain in its possession, available
for Buyer's inspection, and shall deliver to Buyer upon demand,
evidence of compliance with all such requirements;
(g) NO SATISFACTION OF MORTGAGE. The Mortgage has not been satisfied,
canceled, subordinated or rescinded, in whole or in part, and the
Mortgaged Property has not been released from the lien of the Mortgage,
in whole or in part, nor has any instrument been executed that would
effect any such release, cancellation, subordination or rescission;
(h) LOCATION AND TYPE OF MORTGAGED PROPERTY. The Mortgaged Property is
located in the state identified in the Mortgage Loan Schedule and
consists of a parcel of real property with a detached single family
residence (including rowhouses and twin homes) erected thereon, or a
two- to four-family dwelling, or an individual condominium unit in a
condominium project, or an individual unit in a planned unit
development and no residence or dwelling is a mobile home or a
manufactured dwelling. No portion of the Mortgaged Property is used for
commercial purposes;
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(i) VALID FIRST OR SECOND LIEN. The Mortgage relating to the Purchased
Mortgage Loan is a valid, subsisting and enforceable first or second
lien (provided that no more than 10% of all Purchased Mortgage Loans on
an aggregate Purchase Price basis shall relate to second liens) on the
Mortgaged Property, including all buildings on the Mortgaged Property
and all installations and mechanical, electrical, plumbing, heating and
air conditioning systems located in or annexed to such buildings, and
all additions, alterations and replacements made at any time with
respect to the foregoing. The lien of such Mortgage is subject only to:
(1) the lien of current real property taxes and
special assessments not yet due and payable;
(2) covenants, conditions and restrictions, rights of
way, easements and other matters of the public record
as of the date of recording acceptable to mortgage
lending institutions generally and specifically
referred to in the lender's title insurance policy
delivered to the originator of the Mortgage Loan and
(i) referred to or to otherwise considered in the
appraisal made for the originator of the Purchased
Mortgage Loan or (ii) which do not materially
adversely affect the appraised value of the Mortgaged
Property set forth in such appraisal;
(3) in the case of a Mortgaged Property that is a
condominium or an individual unit in a planned unit
development, liens for common charges permitted by
statute;
(4) in the case where the Purchased Mortgage Loan is
secured by a second mortgage lien on the Mortgaged
Property (and represented on the Mortgage Loan
Schedule as such), the lien of the First Mortgage;
and
(5) other matters to which like properties are
commonly subject which do not materially interfere
with the benefits of the security intended to be
provided by the mortgage or the use, enjoyment, value
or marketability of the related Mortgaged Property.
Any security agreement, chattel mortgage or equivalent document related
to and delivered in connection with the Purchased Mortgage Loan
establishes and creates a valid, subsisting and enforceable first or
second lien and first or second priority security interest on the
property described therein and Seller has full right to pledge and
assign the same to Buyer or its designee (including the Custodian).
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(j) VALIDITY OF MORTGAGE DOCUMENTS. The Mortgage Note and the Mortgage
relating to the Purchased Mortgage Loan are genuine, and each is the
legal, valid and binding obligation of the maker thereof enforceable in
accordance with its terms, except as such enforcement may be limited by
bankruptcy, insolvency, reorganization, receivership, moratorium or
other similar laws relating to or affecting the rights of creditor's
generally, and by general equity principles (regardless of whether such
enforcement is considered in a proceeding in equity or at law.) All
parties to the Mortgage Note and the Mortgage had legal capacity to
enter into the Purchased Mortgage Loan and to execute and deliver such
Mortgage Note and Mortgage, and such Mortgage Note and Mortgage have
been duly and properly executed by such parties. Either (i) the
Mortgagor is a natural person who is a party to such Mortgage Note and
Mortgage in an individual capacity, and not in the capacity of a
trustee or otherwise or (ii) the Mortgagor is a trust, and such trust
and the related Mortgage conform to the requirements of the FNMA Guide.
(k) FULL DISBURSEMENT OF PROCEEDS. The proceeds of the Purchased Mortgage
Loan have been disbursed in accordance with Seller's underwriting
guidelines and there is no requirement for future advances thereunder,
and any and all requirements as to completion of any on-site or
off-site improvement and as to disbursements of any escrow funds
therefor have been complied with. All costs, fees and expenses incurred
in making or closing the Purchased Mortgage Loan and the recording of
the related Mortgage were paid, and the related Mortgagor is not
entitled to any refund of any amounts paid or due under the related
Mortgage Note or Mortgage;
(l) OWNERSHIP. Seller is the sole owner of record and holder of the
Purchased Mortgage Loan. The Purchased Mortgage Loan is not assigned or
pledged except as provided in this Agreement, and Seller has good,
indefeasible and marketable title thereto, and has full right to pledge
and assign the Purchased Mortgage Loan to Buyer or its designee
(including the Custodian) free and clear of any encumbrance, equity,
participation interest, lien, pledge, charge, claim or security
interest, and has full right and authority subject to no interest or
participation of, or agreement with, any other party, to sell and
assign each Purchased Mortgage Loan pursuant to this Agreement;
(m) DOING BUSINESS. All parties which have had any interest in the
Purchased Mortgage Loan, whether as mortgagee, assignee, pledgee or
otherwise, are (or, during the period in which they held and disposed
of such interest, were) (1) in compliance with any and all applicable
licensing requirements of the laws of the state wherein the Mortgaged
Property is located, and (2) organized under the laws of such state, or
(3) qualified to do business in such state, or (4) federal savings and
loan associations or national banks having principal offices in such
state, or (5) not doing business in such state;
(n) LTV. No Purchased Mortgage Loan has a Loan-to-Value Ratio of more than
90%. The Purchased Mortgage Loans (measured by aggregate principal
amount subject to outstanding Transactions) shall not have a weighted
average cumulative Loan-to-Value Ratio in excess of 75%.
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(o) TITLE INSURANCE. The Purchased Mortgage Loan is covered by either (i)
an attorney's opinion of title and abstract of title or (ii) an ALTA
mortgage title insurance policy or such other policy in form acceptable
to FNMA or FHLMC, issued by and constituting the valid and binding
obligation of a title insurer generally acceptable to prudent mortgage
lenders that regularly originate or purchase mortgage loans comparable
to the Purchased Mortgage Loans for sale to prudent investors in the
secondary market that invest in mortgage loans such as the Purchased
Mortgage Loans and qualified to do business in the jurisdiction where
the related Mortgaged Property is located, insuring Seller, its
successors and assigns, as to the first priority lien of the related
Mortgage in the case of a First Mortgage Loan secured by a First
Mortgage and the second priority lien of the Mortgage in the case of a
Purchased Mortgage Loan secured by a second lien on the related
Mortgaged Property, in the original principal amount of the Purchased
Mortgage Loan. Seller is the sole named insured of such mortgage title
insurance policy, the assignment to Buyer or the Custodian as assignee
of Buyer of Seller's interest in such mortgage title insurance policy
does not require the consent of or notification to the insurer or the
same has been obtained, and such mortgage title insurance policy is in
full force and effect and will be in full force and effect and inure to
the benefit of Buyer upon the consummation of the transactions
contemplated by this Agreement. No claims have been made under such
mortgage title insurance policy and no prior holder of the related
Mortgage, including Seller, has done, by act or omission, anything that
would impair the coverage of such mortgage title insurance policy;
(p) NO DEFAULTS. There is no default, breach, violation or event of
acceleration existing under the Mortgage or the Mortgage Note relating
to the Purchased Mortgage Loan and no event which, with the passage of
time or with notice and the expiration of any grace or cure period,
other than the failure to make, prior to expiration of the applicable
grace period, the monthly payment due immediately prior to the related
Purchase Date if such Purchase Date occurs prior to the expiration of
such grace period, would constitute a default, breach, violation or
event of acceleration, and neither Seller nor its predecessors have
waived any default, breach, violation or event of acceleration;
(q) NO MECHANICS' LIENS. To the best of Seller's knowledge, there are no
mechanics' or similar liens or claims which have been filed for work,
labor or material (and no rights are outstanding that under the law
could give rise to such liens) affecting the Mortgaged Property which
are or may be liens prior to, or equal or coordinate with, the lien of
the Mortgage except those that are stated in the related title policy
and for which related losses are affirmatively insured against by such
title policy;
(r) LOCATION OF IMPROVEMENTS; NO ENCROACHMENTS. All improvements which were
considered in determining the appraised value of the Mortgaged Property
lay wholly within the boundaries and building restriction lines of the
Mortgaged Property and no improvements on adjoining properties encroach
upon the Mortgaged Property except those that are stated in the title
policy and for which related losses are affirmatively insured against
by such title policy. No improvement located on or being part of the
mortgaged property is in violation of any applicable zoning law or
regulation;
(s) ORIGINATION. The Purchased Mortgage Loan was originated or purchased by
Seller. The documents, instruments and agreements submitted for loan
underwriting were not falsified and contain no untrue statement of
material fact or omit to state a material fact required to be stated
therein or necessary to make the information and statements therein not
misleading. No fraud was committed in connection with the origination
of the Purchased Mortgage Loan.
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(t) CUSTOMARY PROVISIONS. The Mortgage relating to the Purchased Mortgage
Loan contains customary and enforceable provisions such as to render
the rights and remedies of the holder thereof adequate for the
realization against the related Mortgaged Property of the benefits of
the security provided thereby, including, (i) in the case of a Mortgage
designated as a deed of trust, by trustee's sale, and (ii) otherwise by
judicial foreclosure. There is no homestead or other exemption
available to the related Mortgagor which would interfere with the right
to sell the Mortgaged Property at a trustee's sale or the right to
foreclose the Mortgage;
(u) OCCUPANCY OF THE MORTGAGED PROPERTY. As of the related Purchase Date
the Mortgaged Property relating to the Purchased Mortgage Loan is
capable of being lawfully occupied under applicable law. All
inspections, licenses and certificates required by law or regulation to
be made or issued with respect to all occupied portions of the
Mortgaged Property and, with respect to the use and occupancy of the
same, including but not limited to certificates of occupancy and fire
underwriting certificates, have been made or obtained from the
appropriate authorities. Either the Mortgagor represented at the time
of origination of the Purchased Mortgage Loan that the Mortgagor would
occupy the Mortgaged Property as the Mortgagor's primary residence or
second home or the Mortgaged Property is capable of being occupied
pursuant to terms that approximate current standard market rental terms
and rates;
(v) NO ADDITIONAL COLLATERAL. The Mortgage Note relating to the Purchased
Mortgage Loan is not and has not been secured by any collateral except
the lien of the corresponding Mortgage and the security interest of any
applicable security agreement or chattel mortgage referred to in (i)
above;
(w) DEEDS OF TRUST. In the event the Mortgage relating to the Purchased
Mortgage Loan constitutes a deed of trust, a trustee, duly qualified
under applicable law to serve as such, has been properly designated and
currently so serves and is named in the Mortgage, and no fees or
expenses are or will become payable by Buyer to the trustee under the
deed of trust, except in connection with a trustee's sale after default
by the Mortgagor;
(x) ACCEPTABLE INVESTMENT. Seller has no knowledge of any circumstances or
conditions with respect to the Mortgage, the Mortgaged Property, the
Mortgagor or the Mortgagor's credit standing that can reasonably be
expected to cause private institutional investors to regard the
Purchased Mortgage Loan as an unacceptable investment, cause the
Purchased Mortgage Loan to become Delinquent, or adversely affect the
value or marketability of the Purchased Mortgage Loan;
(y) PURCHASE OF MORTGAGE DOCUMENTS. The Mortgage File and any other
documents required by Buyer to be delivered for the Purchased Mortgage
Loan by Seller under this Agreement have been delivered to the
Custodian (other than Wet Ink Mortgage Loans). Seller is in possession
of a complete, true and accurate Mortgage File except for such
documents the originals of which have been delivered to the Buyer or
its designee (including the Custodian). Each of the documents and
instruments included in the Mortgage File is duly executed and in due
and proper form and each such document or instrument is in a form
generally acceptable to prudent institutional mortgage lenders that
regularly originate and purchase mortgage loans;
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(z) NON-CONFORMING MORTGAGES. NO MORE THAN 15% OF THE PURCHASED MORTGAGE
LOANS ON AN AGGREGATE PURCHASE PRICE BASIS SHALL RELATE TO OBLIGOR
[STATED INCOME] MORTGAGE LOANS.
(aa) TRANSFER OF PURCHASED MORTGAGE LOANS. The assignment of Mortgage
relating to the Purchased Mortgage Loan is in recordable form and is
acceptable for recording under the laws of the jurisdiction in which
the related Mortgaged Property is located;
(bb) DUE ON SALE. The Mortgage relating to the Purchased Mortgage Loan
contains an enforceable provision for the acceleration of the payment
of the unpaid principal balance of the Purchased Mortgage Loan in the
event that the related Mortgaged Property is sold or transferred
without the prior written consent of the Mortgagee thereunder;
(cc) NO BUYDOWN PROVISIONS; NO GRADUATED PAYMENTS OR CONTINGENT INTERESTS.
The Purchased Mortgage Loan does not contain provisions pursuant to
which monthly payments are paid or partially paid with funds deposited
in any separate account established by Seller, the Mortgagor or anyone
on behalf of the mortgagor, or paid by any source other than the
Mortgagor nor does it contain any other similar provisions currently in
effect which may constitute a "buydown" provision. The Purchased
Mortgage Loan is not a graduated payment mortgage loan and the
Purchased Mortgage Loan does not have a shared appreciation or other
contingent interest feature;
(dd) CONSOLIDATION OF FUTURE ADVANCES. Any future advances made prior to the
Purchase Date have been consolidated with the outstanding principal
amount secured by the Mortgage relating to the Purchased Mortgage Loan,
and the secured principal amount, as consolidated, bears a single
interest rate and single repayment term. The lien of such Mortgage
securing the consolidated principal amount is expressly insured as
having first or second lien priority by a title insurance policy or an
endorsement to the policy insuring the mortgagee's consolidated
interest or by other title evidence in form acceptable to FNMA or
FHLMC. The consolidated principal amount does not exceed the original
principal amount of the Purchased Mortgage Loan;
(ee) MORTGAGED PROPERTY UNDAMAGED. There is no proceeding pending or
threatened for the total or partial condemnation of the Mortgaged
Property relating to the Purchased Mortgage Loan. Such Mortgaged
Property is undamaged by waste, fire, earthquake or earth movement,
windstorm, flood, tornado or other casualty so as to affect adversely
the value of the Mortgaged Property as security for the Purchased
Mortgage Loan or the use for which the premises were intended;
(ff) COLLECTION PRACTICES; ESCROW DEPOSITS; INTEREST RATE ADJUSTMENTS. The
origination and collection practices used with respect to the Purchased
Mortgage Loan have been in all respects in accordance with industry
custom and practice, and have been in all respects legal and proper.
With respect to any escrow deposits and escrow payments that have been
established, all such payments are in the possession of Seller and
there exist no deficiencies in connection therewith for which customary
arrangements for repayment thereof have not been made. All escrow
payments have been collected in full compliance with state and federal
law. If an escrow of funds has been established, it is not prohibited
by applicable law and has been established in an amount sufficient to
42
<PAGE>
pay for every item that remains unpaid and has been assessed but is not
yet due and payable. No escrow deposits or escrow payments or other
charges or payments due Seller have been capitalized under the Mortgage
or the Mortgage Note relating to the Purchased Mortgage Loan. All
mortgage interest rate adjustments have been made in strict compliance
with state and federal law and the terms of the related Mortgage Note.
Any interest required to be paid pursuant to state and local law has
been properly paid and credited;
(gg) CONVERSION TO FIXED INTEREST RATE. With respect to the aggregate
outstanding principal balance of the Purchased Mortgage Loans on the
related Purchase Date, no more than 10% of the Mortgage Notes contain a
provision allowing the Mortgagor to convert the Mortgage Note from an
adjustable interest rate Mortgage Note to a fixed interest rate
Mortgage Note for the remaining term thereof all in accordance with the
terms of a rider to the related Mortgage Note;
(hh) APPRAISAL. The Mortgage File contains an appraisal of the related
Mortgaged Property signed prior to the approval of the Purchased
Mortgage Loan application by a qualified appraiser, duly appointed by
the originator of the Purchased Mortgage Loan, who had no interest,
direct or indirect in the mortgaged property or in any loan made on the
security thereof, other than as an employee of the lender, and whose
compensation is not affected by the approval or disapproval of the
Purchased Mortgage Loan. Notwithstanding the preceding sentence, the
compensation of the appraiser referred to therein may include
commissions for referrals to Seller so long as such commissions are not
directly related to the approval or disapproval of such Purchased
Mortgage Loans;
(ii) SOLDIERS' AND SAILORS' RELIEF ACT. The Mortgagor relating to the
Purchased Mortgage Loan has not notified Seller, and Seller has no
knowledge of any relief requested or allowed to the Mortgagor under the
Soldiers' and Sailors' Civil Relief Act of 1940;
(jj) ENVIRONMENTAL MATTERS. To the best of Seller's knowledge based on
customary residential mortgage industry practices, the Mortgaged
Property is free from any and all toxic or hazardous substances other
than those in quantity and type associated with normal household uses
and there exists no violation of any local, state or federal
environmental law, rule or regulation with respect thereto;
(kk) DELINQUENCIES. The Purchased Mortgage Loan (i) together with the other
Purchased Mortgage Loans subject to Transactions, would not cause the
30+ Delinquency Percentage to exceed 3%, (ii) and is not more than 59
days Delinquent;
(ll) BALLOON MORTGAGE LOANS. Except with respect to any Balloon Mortgage
Loan, each Mortgage Loan is payable in monthly installments of
principal and interest which would be sufficient, in the absence of
late payments, to fully amortize such loan within the term thereof,
beginning no later than 60 days after disbursement of the proceeds of
the Mortgage Loan and bears a fixed or adjustable interest rate for the
term of the Mortgage Loan. Each Balloon Mortgage Loan has an original
term of not less than fifteen (15) years and which provides for monthly
payments based on a thirty (30) year amortization schedule and a final
Monthly Payment substantially greater than the preceding Monthly
Payments;
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(mm) NO CONSTRUCTION LOANS. No Purchased Mortgage Loan is a construction
loan;
(nn) SELECTION BY SELLER. No Purchased Mortgage Loan was selected for
inclusion under this Agreement on any basis which was intended to have
a material adverse effect on Buyer;
(oo) SECOND MORTGAGES. With respect to each Purchased Mortgage Loan secured
by a second lien on the related Mortgaged Property:
(1) if the Loan-to-Value Ratio is higher than 70%, either the
related first lien does not provide for a balloon payment or
the maturity date of each Purchased Mortgage Loan, with
respect to which a first lien on the related Mortgaged
Property provides for a balloon payment, is prior to the
maturity date of the mortgage loan relating to such first
lien;
(2) the related first lien on any Mortgaged Property with respect
to which the related Purchased Mortgage Loan secured by a
second lien does not provide for negative amortization;
(3) either no consent for the Purchased Mortgage Loan secured by a
second lien on the related Mortgaged Property is required by
the holder of the related first lien or such consent has been
obtained and is contained in the Mortgage File; and
(4) the related first lien is not held by an individual;
(pp) CERCLA. To the actual knowledge of an executive officer of the Seller,
no Mortgaged Property was, as of the Purchase Date or, with respect to
Additional Loans or Substitute Mortgage Loans, as of the related date
of addition or substitution, located within a one-mile radius of any
site listed in the National Priorities List as defined under the
Comprehensive Environmental Response, Compensation and Liability Act of
1980, as amended, or on any similar state list of hazardous waste sites
which are known to contain any hazardous substance or hazardous waste;
(qq) NO BANKRUPTCY OF MORTGAGOR. None of the Purchased Mortgage Loans are
subject to a bankruptcy plan;
(rr) QUALIFIED MORTGAGE. Each Mortgage Loan constitutes a "qualified
mortgage" within the meaning of Section 860G(a)(3) of the Code;
(ss) BALLOON LOAN CONCENTRATION. If the Purchased Mortgage Loan is a Balloon
Loan, it, together with the other Purchased Mortgage Loans which are
Balloon Loans subject to Transactions, constitutes less than 3.0% of
the aggregate outstanding Repurchase Price of all Purchased Mortgage
Loans subject to Transactions;
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(tt) NO SHORT MATURITY BALLOON LOANS . The Purchased Mortgage Loan is not a
Balloon Loan with a maturity date occurring within five years from its
related Purchase Date;
(uu) OWNER OCCUPIED. In the event the Purchased Mortgage Loan relates to a
Mortgaged Property which is non-owner occupied, it, together with the
other Purchased Mortgage Loans subject to Transactions relating to
Mortgaged Properties which are non-owner occupied, does not exceed 10%
of the aggregate outstanding Repurchase Price of all Purchased Mortgage
Loans subject to Transactions; and
(vv) PAYMENT TERMS. With respect to adjustable rate Mortgage Loans, the
mortgage interest rate is adjusted annually or semi-annually on each
interest rate adjustment date to equal the index plus the gross margin,
rounded up or down to the nearest 1/8%, subject to the mortgage
interest rate cap. With respect to fixed rate Mortgage Loans, the
mortgage note is payable each month in equal monthly installments of
principal and interest. With respect to adjustable rate Mortgage Loans,
installments of interest are subject to change due to the adjustments
to the mortgage interest rate on each interest rate adjustment date,
with interest calculated and payable in arrears, sufficient to amortize
the Mortgage Loan fully by the stated maturity date, over an original
term of not more than thirty years from commencement of amortization.
(ww) SECURITIZATION. Such Mortgage Loan conforms to the then current
standards of securitization, as determined by Buyer in its sole
discretion.
(xx) WET INK MORTGAGE LOANS. No more than 10% of all Purchased Mortgage
Loans subject to outstanding Transactions on an aggregate Purchase
Price basis shall be Wet Ink Mortgage Loans.
(yy) C- MORTGAGE LOANS. No more than 10% of all Purchased Mortgage Loans on
an aggregate Purchase Price basis shall be Mortgage Loans whose credit
score upon origination was C- or lower.
It is understood and agreed that the representations and
warranties set forth in this Schedule V shall survive delivery of the respective
Mortgage Files to the Custodian on behalf Buyer.
45
<PAGE>
EXHIBIT 21. SUBSIDIARIES OF THE REGISTRANT
FIRST ALLIANCE CORPORATION
SUBSIDIARIES OF THE REGISTRANT
First Alliance Mortgage Company
Incorporated in California
Names under which the subsidiary also does business:
First Alliance Credit Corporation and Pacific Reconveyance.
First Alliance Mortgage Company
Incorporated in Minnesota
First Alliance Services
Incorporated in California
First Alliance Residual Holding Company
Incorporated in Delaware
First Alliance Acceptance Corporation
Incorporated in Delaware
First Alliance Portfolio Services Inc.
Incorporated in Nevada
First Alliance Mortgage Company, Limited
Incorporated in the United Kingdom
First Alliance Company, Limited
Incorporated in the United Kingdom
First Alliance Sterling PLC No. 1
Incorporated in the United Kingdom
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 18,052
<SECURITIES> 0
<RECEIVABLES> 4,652
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 50,169
<PP&E> 9,733
<DEPRECIATION> 0
<TOTAL-ASSETS> 177,603
<CURRENT-LIABILITIES> 30,983
<BONDS> 0
0
0
<COMMON> 223
<OTHER-SE> 74,364
<TOTAL-LIABILITY-AND-EQUITY> 177,603
<SALES> 54,951
<TOTAL-REVENUES> 83,808
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 52,473
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 8,382
<INCOME-PRETAX> 22,953
<INCOME-TAX> 8,737
<INCOME-CONTINUING> 14,216
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 14,216
<EPS-PRIMARY> 0.73
<EPS-DILUTED> 0.73
</TABLE>
