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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
--- SECURITIES AND EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2000
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
- ------------------------------- ---------------------------------------
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NUMBER)
INCORPORATION OR ORGANIZATION)
17305 VON KARMAN AVENUE, IRVINE, CALIFORNIA 92614
-----------------------------------------------------------
(Address of principal executive offices including ZIP Code)
(949) 224-8500
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(Registrant's telephone number
including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities 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
--- ---
As of March 31, 2000, the registrant had outstanding, net of treasury
shares, 17,864,788 shares of Class A Common Stock.
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<PAGE>
FIRST ALLIANCE CORPORATION
INDEX
<TABLE>
<CAPTION>
PAGE
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<S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Net Assets Available for Liquidation
(Unaudited) as of March 31, 2000 and December 31, 1999 ........................... 1
Consolidated Statements of Income (Unaudited) for the quarters
ended March 31, 2000 and 1999..................................................... 2
Consolidated Statements of Comprehensive Income (Unaudited)
for the quarters ended March 31, 2000 and 1999.................................... 3
Consolidated Statements of Cash Flows (Unaudited) for the quarters
ended March 31, 2000 and 1999..................................................... 4
Notes to Consolidated Financial Statements........................................ 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations ("MD&A").................................................... 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk........................ 19
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.................................................................. 20
Item 2. Changes in Securities.............................................................. 21
Item 3. Defaults Upon Senior Securities.................................................... 21
Item 4. Submission of Matters to a Vote of Security Holders................................ 21
Item 5. Other Information.................................................................. 21
Item 6. Exhibits and Reports on Form 8-K
a. Exhibits........................................................... 22
Reports on Form 8-K................................................ 23
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i
<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
<TABLE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF NET ASSETS AVAILABLE FOR LIQUIDATION
(DOLLARS IN THOUSANDS)
<CAPTION>
MARCH 31, DECEMBER 31,
2000 1999
-------------- --------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Cash and cash equivalents.................................................. $ 9,320 $ 14,496
Restricted cash............................................................ 3,309 3,238
Receivable from trusts..................................................... 3,635 3,607
Loans held for sale, net................................................... 80,917 19,782
Loans receivable held for investment....................................... 714 1,521
Residual interests in securities - at fair value........................... 44,763 48,222
Mortgage servicing rights.................................................. 7,562 8,673
Property, net.............................................................. 6,872 8,099
Goodwill................................................................... - 3,019
Income taxes receivable.................................................... 6,784 -
Prepaid expenses and other assets.......................................... 1,769 1,497
-------------- --------------
Total assets............................................................ $ 165,645 $ 112,154
-------------- --------------
LIABILITIES
Warehouse financing facilities............................................. $ 76,268 $ 14,122
Reserve for estimated costs during the period of liquidation............... 7,685 -
Accrued contingent liabilities............................................. 8,111 7,535
Accounts payable and accrued liabilities................................... 3,142 3,135
Income taxes payable....................................................... - 3,631
Notes payable.............................................................. 4,603 4,626
-------------- --------------
Total liabilities....................................................... $ 99,809 $ 33,049
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NET ASSETS AVAILABLE FOR LIQUIDATION $ 65,836 $ 79,105
============== ==============
See notes to consolidated financial statements.
1
</TABLE>
<PAGE>
<TABLE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
<CAPTION>
FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
(UNAUDITED)
<S> <C> <C>
REVENUE:
Loan origination and sale................................................ $ 1,312 $ 14,064
Interest................................................................. 3,169 4,442
Loan servicing and other................................................. 1,121 1,111
-------------- --------------
Total revenue.......................................................... 5,602 19,617
-------------- --------------
EXPENSE:
Compensation and benefits................................................ 5,877 5,201
Advertising.............................................................. 1,798 1,679
Professional services and other fees .................................... 650 799
Facilities and insurance................................................. 828 945
Supplies................................................................. 385 400
Depreciation and amortization............................................ 433 484
Interest................................................................. 1,840 3,555
Legal.................................................................... 2,762 2,267
Travel and training...................................................... 134 318
Other.................................................................... 202 570
Liquidation costs........................................................ 7,685 -
Adjustment to liquidation basis.......................................... 5,339 -
-------------- --------------
Total expense.......................................................... 27,933 16,218
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INCOME (LOSS) BEFORE INCOME TAX PROVISION..................................... (22,331) 3,399
INCOME TAX (BENEFITS) PROVISION............................................... (7,816) 1,360
-------------- --------------
NET (LOSS) INCOME............................................................. $ (14,515) $ 2,039
============== ==============
NET (LOSS) INCOME PER SHARE:
Basic ................................................................... $ (0.81) $ 0.11
============== ==============
Diluted ................................................................. $ (0.81) $ 0.11
============== ==============
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING:
Basic ................................................................... 17,904,223 18,139,488
Diluted ................................................................. 18,011,988 18,177,191
See notes to consolidated financial statements.
2
</TABLE>
<PAGE>
<TABLE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(DOLLARS IN THOUSANDS)
<CAPTION>
FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
(UNAUDITED)
<S> <C> <C>
NET (LOSS) INCOME............................................................. $ (14,515) $ 2,039
OTHER COMPREHENSIVE INCOME, NET OF TAX:
Foreign currency translation adjustment net of income taxes of
$582 for 1999........................................................... - (872)
-------------- --------------
COMPREHENSIVE (LOSS) INCOME................................................... $ (14,515) $ 1,167
============== ==============
See notes to consolidated financial statements.
3
</TABLE>
<PAGE>
<TABLE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<CAPTION>
FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
(UNAUDITED)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) income............................................................ $ (14,515) $ 2,039
Adjustments to reconcile net income to net cash (used in) provided by
operating activities:
Capitalized residual interests and mortgage servicing rights............ - (4,465)
Accretion of residual interest in securities............................ (1,492) (1,071)
Collection of residual interest in securities........................... 4,951 4,985
Amortization of mortgage servicing rights............................... 1,111 1,714
Amortization of debt issuance costs..................................... 574 679
Amortization of goodwill................................................ 79 -
Depreciation and amortization .......................................... 354 484
Recognition of deferred fees on loans receivable held for investment.... - (462)
Provision for loan losses............................................... 42 195
Loss on sales of real estate owned and property........................ - 6
Reserve for estimated costs during the period of liquidation............ 7,685 -
Adjustment to liquidation basis......................................... 5,339 -
Changes in assets and liabilities:
Receivable from trusts.................................................. (28) 319
Loans held for sale..................................................... (61,565) 10,391
Prepaid expenses and other assets....................................... 302 118
Accounts payable and accrued liabilities................................ (329) 1,234
Accrued contingent liabilities.......................................... (260) 707
Income taxes receivable/payable......................................... (10,415) 424
-------------- --------------
Net cash (used in) provided by operating activities................. (68,167) 17,297
CASH FLOWS FROM INVESTING ACTIVITIES:
Cash deposited for restricted cash........................................... (71) (195)
Capital expenditures......................................................... (32) (22)
Collections on loans receivable held for investment.......................... 305 6,286
Proceeds from sales of loans receivable...................................... 914 -
Proceeds from sale of property............................................... - 22
-------------- --------------
Net cash provided by investing activities........................... 1,116 6,091
CASH FLOWS FROM FINANCING ACTIVITIES:
Net (borrowings) repayments on warehouse financing facilities................ 62,146 (22,309)
Repayments to other borrowings............................................... - (6,545)
Purchase of treasury stock................................................... (248) -
Net (borrowings) repayments on notes payable................................. (23) 3,693
-------------- --------------
Net cash provided by (used in) financing activities................. 61,875 (25,161)
Net effect of exchange rate changes on cash.................................. - 143
-------------- --------------
NET DECREASE IN CASH AND CASH EQUIVALENTS.................................... (5,176) (1,630)
CASH AND CASH EQUIVALENTS, beginning of period............................... 14,496 18,052
-------------- --------------
CASH AND CASH EQUIVALENTS, end of period..................................... $ 9,320 $ 16,422
============== ==============
See notes to consolidated financial statements.
4
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<PAGE>
<TABLE>
FIRST ALLIANCE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(DOLLARS IN THOUSANDS)
<CAPTION>
FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
(UNAUDITED)
<S> <C> <C>
SUPPLEMENTAL INFORMATION:
Interest paid................................................................ $ 1,021 $ 2,110
============== ==============
Income taxes paid............................................................ $ 2,604 $ 935
============== ==============
SUPPLEMENTAL INFORMATION ON NON-CASH INVESTING
AND FINANCING ACTIVITIES:
Transfer of loans held for sale to loans receivable held for investment...... $ 430 $ 219
============== ==============
Transfer of loans held for investment to real estate owned................... $ - $ 55
============== ==============
Stock warrants issued as debt issuance costs................................. $ 1,494 $ 515
============== ==============
Components of Effect of Exchange Rate Changes on Cash:
Receivable from trusts.................................................. $ - $ 3
Loans receivable held for investment.................................... - 1,575
Prepaid expenses and other assets....................................... - 13
Accounts payable and accrued liabilities................................ - (30)
Deferred tax liabilities................................................ - (546)
Accumulated other comprehensive income.................................. - (872)
-------------- --------------
Net effect of exchange rate changes on cash......................... $ - $ 143
============== ==============
See notes to consolidated financial statements.
5
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<PAGE>
FIRST ALLIANCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTERS ENDED MARCH 31, 2000 AND 1999
NOTE 1. GENERAL
The accompanying unaudited consolidated financial statements, which
include the accounts of First Alliance Corporation (FACO) and its subsidiaries
(collectively the Company), have been prepared in accordance with the
instructions to Form 10-Q and include all information and footnotes required for
interim financial statement presentation. All adjustments (consisting only of
various normal accruals) necessary to present fairly the Company's consolidated
financial position, results of operations and cash flows have been made. All
significant intercompany transactions and balances have been eliminated and
certain reclassifications have been made to prior periods' consolidated
financial statements to conform to the current period presentation. The results
of operations for the three months ended March 31, 2000 are not necessarily
indicative of the results of operations to be expected for the year ending
December 31, 2000.
The financial information provided herein, including the information under
the heading Item 2 "Management's Discussion and Analysis of Financial Condition
and Results of Operations" (MD&A), is written with the presumption that the
users of these interim consolidated financial statements have read, or have
access to, the Company's most recent filings on Forms 8-K and Form 10-K which
contains the latest available audited consolidated financial statements and
notes thereto, as of and for the period ended December 31, 1999, together with
the MD&A for such period.
BANKRUPTCY
On March 23, 2000, the Company, along with several of its subsidiaries,
filed for voluntary petitions under Chapter 11 of the United States Bankruptcy
Code (the "Bankruptcy Filing") in the United States Bankruptcy Court for the
Central District of California. The Company's filing is expected to facilitate
the reorganization, marketing and sale and/or liquidation of the Company's
remaining business and assets. The Company closed all of its loan origination
operations, including its branches, and laid off over 350 employees throughout
the United States. The affected offices were located in California, New York,
New Jersey, Illinois, Arizona, Colorado, Maryland, Oregon, Utah and Washington.
The Company, however, will continue to sell and service non-conventional
mortgage loans until its disposition according to its pending approval of the
Company's reorganization/liquidation plan.
RESIGNATION OF ACCOUNTANTS
On April 5, 2000, Deloitte & Touche LLP resigned as the Company's
independent auditors. The audit report of Deloitte & Touche LLP on the financial
statements for the two years ended December 31, 1999 and 1998 contained no
adverse opinion or disclaimer of opinion and was not qualified or modified as to
audit scope or accounting principles. Also, for the two years ended December 31,
1999 and 1998 and the subsequent interim period preceding such resignation,
there were no disagreements with Deloitte & Touche LLP on any matter of
accounting principles or practices, financial statement disclosure, or auditing
scope or procedure or any reportable events.
DELISTING FROM NASDAQ
The NASDAQ-Amex Market Group, a NASD Company, delisted the Company's
common stock from the NASDAQ National Market as of the opening of business on
April 20, 2000 due to (i) the uncertainty regarding the timing of effectiveness
for a plan of bankruptcy reorganization; (ii) the uncertainty regarding the
specific terms of the planned bankruptcy reorganization; (iii) the Company's
failure to satisfy NASDAQ's continued listing requirements; (iv) concerns
regarding the residual equity interest of the existing listed securities
holders; and (v) the Company's March 23, 2000 filing under Chapter 11 of the
U.S. Bankruptcy Code and associated public interest concepts set forth under
Marketplace Rules 4450(f) and 4430(a)(3).
6
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MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
As of the March 23, 2000 Bankruptcy Filing, trading in the Company's
common stock was suspended until April 20, 2000, when the NASDAQ-Amex Market
Group officially delisted the Company, as mentioned above. The Company has
applied to reinstate trading of its stock on the over-the-counter market. The
Company expects the application to be completed shortly, but no assurance is
given that this process will be successful or will be completed within the
expected time. At the time of the Bankruptcy Filing, the Company's outstanding
shares of common stock totaled 17,864,788 shares.
SECURITIZATION
As a result of the foregoing events, the Company was unable to execute its
scheduled $85 million securitization, which consequently prevented the Company
from recording a gain on sale and recognizing net deferred origination fees
associated with the earmarked loans. The Company's balance of unrecognized net
deferred origination fees as of March 31, 2000 was approximately $6.9 million.
DEFAULTS
Several of the Company's agreements, including the Company's pooling and
servicing agreement, and warehouse financing facility agreement are arguably in
default, though the Company contends that they are not, pursuant to, among other
things, 11 USC ss.365(b)(2) (see "Risk Factors" below for further discussion).
STOCK REPURCHASE PROGRAM
In April 1997 the Board of Directors approved a share repurchase program
under which the Company is authorized to purchase up to 7.5 million shares of
its Class A Common Stock. The Company repurchased approximately 85,000 shares
during the current quarter, which increased total treasury shares to
approximately 4.3 million shares as of March 31, 2000.
HEDGING ACTIVITIES
Between the time of loan funding and loan sale or securitization, the
Company has exposure to interest rate risk relating to its fixed rate loans.
This is a result of the loans having an interest rate which is fixed based on
the prevailing rates at the time of funding, whereas a fluctuation in rates may
occur between that time and the time of loan sale or securitization. If market
interest rates were to rise between the funding and loan sale or securitization,
the fixed rate loans would, in turn, decrease in value. The Company mitigates
the risk associated with fixed rate mortgage commitments by selling short or
selling forward United States Treasury Securities. For accounting purposes,
short sales of United States Treasury Securities are not considered to be a
hedge. Therefore, when selling short United States Treasury Securities, the
Company recognizes 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 and commitments to fund loans to be held for sale. The gains and losses
derived from these transactions are recognized in earnings. A loss of $25,000
was recognized on hedging activities for the quarter ended March 31, 2000, as
compared to a gain of $630,000 for the corresponding period in 1999. The
notional amount of forward sales of United States Treasury Securities was $24
million at March 31, 2000.
FINANCIAL STATEMENT PRESENTATION
As a result of the Bankruptcy Filing and management's intention to market
and sell the assets of the Company, the financial statement presentation has
been revised to the liquidation basis of accounting. Accordingly, the
"Consolidated Statement of Financial Condition" has been replaced with the
"Consolidated Statement of Net Assets." Liquidation basis accounting also
requires the Company to provide for all liabilities related to expenses,
including general and administrative, to be incurred during the liquidation
7
<PAGE>
period. The Company recorded an estimate of liquidation expenses to be incurred
of approximately $7.7 million using certain assumptions, including assumptions
as to the timing of asset disposition. In addition, liquidation basis accounting
also requires assets to be valued at their estimated net realizable value and
liabilities to be estimated as amounts to be paid in settlement of the entity's
obligation. Estimated net realizable value represents management's best estimate
as to fair market value of the assets, net of selling expenses, and without
consideration to the unknown impact that the Bankruptcy Filing or the outcome of
any litigation may have on the value of the assets. Therefore, the Company
recorded a negative valuation adjustment of approximately $5.3 million to the
cost basis of certain assets and liabilities.
The Company has submitted a request to the Securities and Exchange
Commission to modify the Company's reporting requirements under the Securities
and Exchange Act of 1934, as amended, and the rules and regulations promulgated
thereunder. If the request is granted, the Company will file a Form 8-K on a
monthly basis and attach the monthly operating reports as required by the United
States Bankruptcy Court instead of Forms 10-Q and 10-K.
NET (LOSS) INCOME PER SHARE
A reconciliation of the numerators and denominators used in basic and
diluted net (loss) income per share are as follows for the quarters ended March
31:
<TABLE>
<CAPTION>
2000 1999
-------------- --------------
<S> <C> <C>
Net (loss) income: Basic and diluted (dollars in thousands).................. $ (14,515) $ 2,039
============== ==============
Weighted average number of common shares
Basic...................................................................... 17,904,223 18,139,488
Effect of dilutive securities - stock options.............................. 107,765 37,703
-------------- --------------
Diluted.................................................................... 18,011,988 18,177,191
============== ==============
Net (loss) income per share
Basic...................................................................... $ (0.81) $ 0.11
Effect of dilutive securities - stock options.............................. - -
-------------- --------------
Diluted.................................................................... $ (0.81) $ 0.11
============== ==============
</TABLE>
RISK FACTORS
On March 23, 2000, the Company and several of its subsidiaries filed
voluntary petitions under Chapter 11 of the United States Bankruptcy Code in the
United States Bankruptcy Court for the Central District of California.
The Company's filing is expected to facilitate the liquidation of a
portion of the Company's assets and allow for the possible sale of the Company's
remaining business and assets and operation of those assets pending any such
sale. As of the date of the Company's voluntary bankruptcy petition, the United
States Bankruptcy Court for the Central District of California assumed
jurisdiction over the assets of the Company. As a debtor in possession, the
Company remains in control of its assets and is authorized to operate its
business, subject to the supervision of the Bankruptcy Court.
No assurance can be given that the Company will remain a
debtor-in-possession and that a trustee will not be appointed to operate the
Company's business. In addition, although the Company has begun the process of
formulating a plan of reorganization/liquidation to be submitted eventually to
the Bankruptcy Court, no assurance can be given that the Bankruptcy Court will
confirm the Company's plan of reorganization/liquidation or that the Company
will remain in control of its assets throughout the pendency of the Company's
bankruptcy case.
The fact that the Company filed a voluntary bankruptcy petition may affect
the Company's ability to maintain certain present business arrangements and may
also affect the Company's ability to successfully negotiate future business
arrangements. Among the relationships that may be materially affected by the
Company's commencement of a bankruptcy case is the Company's relationship with
8
<PAGE>
its warehouse financing facility lender and the Company's relationships with
other suppliers of goods and services vital to the Company's financing and
business operations. Finally, the termination of new loan originations will
adversely affect business operations and the financial condition and results of
operations of the Company.
It is management's intention to market for sale all of the assets of the
Company, including the Company's approximately $900 million loan servicing
portfolio. There can be no assurance, however, that the Company will be
successful in selling the assets at the net realizable value which has been
recorded in the Statement of Net Assets. Obtaining proceeds of less than the
value stated on the Company's Statement of Net Assets may have a material
adverse effect on the Company's results of operations and financial condition.
This Bankruptcy Filing has arguably triggered an event of default under
various agreements entered into by the Company, though the Company contends that
they are not, pursuant to, among other things, 11 USC ss.365(b)(2). Such
agreements include the Company's pooling and servicing agreements. An event of
default under the pooling and servicing agreements could result in the
certificate insurer removing the Company as the loan servicing agent for the
trust. Although the certificate insurer has not exercised its rights available
under the agreements, there is no assurance that such insurer will continue to
allow the Company to act as the servicing agent or that the insurer can be made
to adhere to the present arrangement through the bankruptcy process. The
Company's removal as the servicing agent would have a material adverse effect on
the Company's results of operations and financial condition.
The Bankruptcy Filing has also arguably created an event of default under
the Company's warehouse financing facility, though the Company contends that
they are not, pursuant to, among other things, 11 USC ss.365(b)(2).
Notwithstanding the pendency of the bankruptcy case, the warehouse lender may be
able to exercise its remedies under the agreement and require the Company to
repay the entire warehouse financing facility. This may force the Company to
accelerate the sale of its loans which secure the facility at a price less
favorable than otherwise obtained, thereby having a material adverse effect on
the Company's results of operations and financial condition.
In February 1997, the Company entered into an affinity real estate secured
credit card agreement with Fidelity Federal Bank, a Federal Savings Bank
("Fidelity"). Under the terms of this agreement, Fidelity funded the affinity
credit card balance and paid the Company for its solicitation services, customer
services and collection efforts. The agreement also stipulates that following
termination of the program by Fidelity, the Company is obligated to purchase the
outstanding balance on the credit cards. In June 1999, Fidelity notified the
Company of its intent to terminate the program by February 24, 2000. The Company
is currently disputing the terms of the obligation to purchase the outstanding
balance of the credit cards, and the parties have sought arbitration of the
dispute. The parties are currently finalizing a settlement of this dispute. The
Company's restricted cash balance, which it is required to maintain for the
purpose of reserving for credit card losses, totaled approximately $2.7 million
at March 31, 2000.
In addition to being a party to various legal proceedings arising out of
the ordinary course of business, the Company has also been involved with several
lawsuits which have targeted its lending practices (see Part II., Item 1. Legal
Proceedings). Any substantial judgment against the Company in connection
therewith may have a material adverse effect on the Company's results of
operations and financial condition.
RECENT ACCOUNTING PRONOUNCEMENTS
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, 2000. 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 adoption
of this standard did not have a material effect on the Company's financial
reporting.
9
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
GENERAL
OVERVIEW
The Company was a financial services organization principally engaged in
mortgage loan origination, purchases, sales and servicing. Loans originated by
the Company primarily consisted of fixed and adjustable rate loans secured by
first mortgages on single family residences. The Company originated loans from
its retail branch network, Loan by Mail division and Cost Security Mortgage, a
company which it purchased during 1999. The Company also purchased loans from
qualified mortgage originators. The Company would then sell such loans to
wholesale purchasers or securitize them in a trust. A significant portion of the
Company's loan production was securitized with the Company retaining the right
to service the loans.
On March 23, 2000, the Company, along with several of its subsidiaries,
filed for voluntary petitions under Chapter 11 of the United States Bankruptcy
Code. The Company's filing is expected to facilitate the liquidation of the
Company's remaining business and assets, and operation of those assets pending
any such sale. The Company closed all of its loan origination operations,
including its branches, and laid off over 350 employees throughout the United
States. The affected offices were located in California, New York, New Jersey,
Illinois, Arizona, Colorado, Maryland, Oregon, Utah and Washington. The Company,
however, will continue to sell and service non-conventional mortgage loans until
its disposition according to the liquidation plan.
As a result of the Bankruptcy Filing and management's intention to
liquidate the assets of the Company, the financial statement presentation has
been revised to the liquidation basis of accounting. Accordingly, the
"Consolidated Statement of Financial Condition" has been replaced with the
"Consolidated Statement of Net Assets." Liquidation basis accounting also
requires the Company to provide for all liabilities related to expenses,
including general and administrative, to be incurred during the liquidation
period. The Company recorded an estimate of liquidation expenses to be incurred
of approximately $7.7 million using certain assumptions, including assumptions
as to the timing of asset disposition. In addition, liquidation basis accounting
also requires assets to be valued at their estimated net realizable value and
liabilities to be estimated as amounts to be paid in settlement of the entity's
obligation. Estimated net realizable value represents management's best estimate
as to fair market value of the assets, net of selling expenses, and without
consideration to the unknown impact that the Bankruptcy Filing or the outcome of
any litigation may have on the value of the assets. Therefore, the Company
recorded a negative valuation adjustment of approximately $5.3 million to the
cost basis of certain assets and liabilities.
REVENUE
The three primary components of the Company's revenues are loan
origination and sale, loan servicing and other fees and interest income.
Loan origination and sale revenue consists of gain on sale of loans and
the recognition of net origination fees. 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. Revenue from loan
origination fees has historically allowed the Company to generate positive
operating cash flow.
Loan servicing and other fee income represent management servicing fees
and other ancillary fees, including prepayment penalties received from
servicing loans and income generated from the Company's credit card operations,
which was discontinued in late 1998. Mortgage servicing rights are amortized
against loan servicing and other fee income 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)
interest from investments.
10
<PAGE>
As a fundamental part of its business and financing strategy, the Company
securitized the majority of its loans. In a typical securitization, the Company
sells loans to a special purpose entity, established for the limited purpose of
buying the assets from the Company and transferring the assets to a trust. The
trust issues interest-bearing securities, referred to as regular interest, which
are collateralized by the underlying mortgages. The proceeds from the sale of
the securities are used to purchase the assets from the Company. In addition to
the cash proceeds received in connection with the securitization, the Company
also retains a residual interest in the trust.
RESIDUAL INTEREST
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 and 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 carried at fair value.
As the holder of the residual interest, the Company is entitled to receive
certain excess cash flows. These excess cash flows ("spread") 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 interests, (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. In
order to arrive at the fair value of the residual interest, the Company
estimates the excess future cash flows by taking into consideration, among other
factors, certain assumptions regarding prepayment speeds and credit losses.
Furthermore, such cash flows are discounted at a rate which the Company believes
is an appropriate risk-adjusted market rate of return. To the Company's
knowledge, there is no active market for the sale of the residual interest. As
of March 31, 2000, the Company's investment in residual interest totaled $44.8
million.
MORTGAGE SERVICING RIGHTS
Upon securitization or sale of servicing retained loans, the Company
capitalizes the cost associated with the right to service mortgage loans based
on a fair value analysis of the mortgage servicing rights. The Company
determines the fair value of mortgage servicing rights based on the present
value of estimated net future cash flows related to servicing income. Such cash
flow 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. As of March 31, 2000,
mortgage servicing rights totaled $7.6 million.
Gains on servicing released whole loan sales equal the difference between
the net proceeds to the Company from the sale 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 the principal balance less net
deferred origination fees.
11
<PAGE>
RECENT DEVELOPMENTS
On March 23, 2000, the Company, along with several of its subsidiaries,
filed for voluntary petitions under Chapter 11 of the United States Bankruptcy
Code (the "Bankruptcy Filing") in the United States Bankruptcy Court for the
Central District of California. The Company's filing is expected to facilitate
the marketing and sale of the Company's remaining business and assets and the
operation and reorganization of such assets pending any such sale. The Company
closed all of its loan origination operations, including its branches, and laid
off over 350 employees throughout the United States. The affected offices were
located in California, New York, New Jersey, Illinois, Arizona, Colorado,
Maryland, Oregon, Utah and Washington. The Company, however, will continue to
sell and service non-conventional mortgage loans until its disposition according
to its pending approval of the Company's reorganization/liquidation plan.
On April 5, 2000, Deloitte & Touche LLP resigned as the Company's
independent auditors. The audit report of Deloitte & Touche LLP on the financial
statements for the two years ended December 31, 1999 and 1998 contained no
adverse opinion or disclaimer of opinion and was not qualified or modified as to
audit scope or accounting principles. Also, for the two years ended December 31,
1999 and 1998 and the subsequent interim period preceding such resignation,
there were no disagreements with Deloitte & Touche LLP on any matter of
accounting principles or practices, financial statement disclosure, or auditing
scope or procedure or any reportable events.
The NASDAQ-Amex Market Group, a NASD Company, delisted the Company's
common stock from the NASDAQ National Market as of the opening of business on
April 20, 2000 due to (i) the uncertainty regarding the timing of effectiveness
for a plan of bankruptcy reorganization; (ii) the uncertainty regarding the
specific terms of the planned bankruptcy reorganization; (iii) the Company's
failure to satisfy NASDAQ's continued listing requirements; (iv) concerns
regarding the residual equity interest of the existing listed securities
holders; and (v) the Company's March 23, 2000 filing under Chapter 11 of the
U.S. Bankruptcy Code and associated public interest concepts set forth under
Marketplace Rules 4450(f) and 4430(a)(3).
As of the March 23, 2000 Bankruptcy Filing, trading in the Company's
common stock was suspended until April 20, 2000, when the NASDAQ-Amex Market
Group officially delisted the Company, as mentioned above. The Company has
applied to reinstate trading of its stock on the over-the-counter market. The
Company expects the application to be completed shortly, but no assurance is
given that this process will be successful or will be completed within the
expected time. At the time of the Bankruptcy Filing, the Company's outstanding
shares of common stock totaled 17,864,788 shares.
12
<PAGE>
LOAN ORIGINATIONS AND PURCHASES
The following table summarizes loan origination and purchase activity for
the periods indicated:
<TABLE>
<CAPTION>
AT OR FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
(Dollars in thousands)
<S> <C> <C>
Loan originations and purchases:
Retail originations....................................................... $ 69,510 $ 87,328
Coast Security Mortgage................................................... 16,548 -
Loan by Mail.............................................................. 5,257 -
Wholesale purchases....................................................... 563 3,667
-------------- --------------
Total................................................................ $ 91,878 $ 90,995
============== ==============
Number of retail branches as of the end of the period:
United States:
California........................................................... - 8
Other states......................................................... - 24
United Kingdom............................................................ - -
-------------- --------------
Total................................................................ - 32
============== ==============
Weighted average initial interest rate.......................................... 9.8% 9.2%
Weighted average initial combined loan-to-value ratio........................... 69.8% 64.6%
Average retail origination loan size............................................ $ 121 $ 94
</TABLE>
Loan originations and purchases increased $0.9 million or one percent for
the quarter, as compared to the corresponding prior year period. This increase
is primarily attributable to volume generated from Coast Security Mortgage, a
subsidiary purchased by the Company during the third quarter of 1999 and through
the Company's Loan by Mail division, offset by a decrease in retail
originations.
LOAN SALES
<TABLE>
<CAPTION>
FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
(Dollars in thousands)
<S> <C> <C>
Securitizations................................................................ $ - $ 115,001
Whole loan sales............................................................... 24,544 12,579
-------------- --------------
Total.................................................................... $ 24,544 $ 127,580
============== ==============
</TABLE>
Loan sales decreased $103 million or 81% during the quarter as compared to
the corresponding prior year period primarily due to the Company's failure to
execute a scheduled securitization of approximately $85 million.
13
<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 periods indicated:
<TABLE>
<CAPTION>
FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
<S> <C> <C>
REVENUE:
Loan origination and sale:
Gain on sale of loans.................................................... 0.1 % 20.1 %
Net loan origination and other fees...................................... 23.3 51.6
Interest.................................................................... 56.6 22.6
Loan servicing and other ................................................... 20.0 5.7
-------------- --------------
Total revenue............................................................ 100.0 100.0
-------------- --------------
EXPENSE:
Compensation and benefits................................................... 104.9 26.5
Advertising................................................................. 32.1 8.6
Professional services and other fees ....................................... 11.6 4.1
Facilities and insurance.................................................... 14.8 4.8
Supplies.................................................................... 6.9 2.0
Depreciation and amortization............................................... 7.7 2.5
Interest.................................................................... 32.8 18.1
Legal....................................................................... 49.3 11.6
Travel and training......................................................... 2.4 1.6
Other....................................................................... 3.6 2.9
Liquidation costs........................................................... 137.2 -
Adjustment to liquidation basis............................................. 95.3 -
-------------- --------------
Total expense............................................................ 498.6 82.7
-------------- --------------
Income before income tax provision.......................................... (398.6) 17.3
Income tax provision............................................................ (139.5) 6.9
-------------- --------------
Net income...................................................................... (259.1)% 10.4 %
============== ==============
</TABLE>
RESULTS OF OPERATIONS
REVENUE
The following table sets forth the components of the Company's revenue for
the periods indicated:
<TABLE>
<CAPTION>
FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
(Dollars in thousands)
<S> <C> <C>
Loan origination and sale:
Gain on sale of loans (1)............................................... $ 5 $ 3,947
Net loan origination and other fees..................................... 1,307 10,117
Interest................................................................... 3,169 4,442
Loan servicing and other................................................... 1,121 1,111
-------------- --------------
Total revenue........................................................... $ 5,602 $ 19,617
============== ==============
</TABLE>
(1) Excluding net loan origination and other fees.
14
<PAGE>
Total revenues decreased 71% or $14.0 million for the quarter ended March
31, 2000 as compared to the corresponding prior year period. This decrease is
primarily due to lower loan origination and sale revenue combined with lower
interest revenue.
Loan origination and sale revenue decreased 91% or $12.8 million during the
quarter ended March 31, 2000 when compared to the prior year quarter. This
decrease is related to the Company's failure to execute a scheduled $85 million
securitization during the current quarter, which consequently resulted in an
absence of a gain on sale and prevented the Company from recognizing net
deferred origination fees from the loans. The Company's balance of unrecognized
net deferred origination fees totaled approximately $6.9 million at March 31,
2000.
Interest revenue decreased 29% or $1.3 million during the current year
quarter. This decrease is primarily attributable to a $1.4 million decrease in
interest from the Company's United Kingdom portfolio, which was sold in July
1999 and a $0.3 million decrease in interest derived from investments, partially
offset by a $0.4 million increase in interest from residual certificates. The
increase in interest from residual certificates is a result of lower prepayments
experienced during the current quarter when compared to the prior year quarter.
Although prepayment penalty income related to loan servicing and revenue
generated from the Company's credit card program decreased during the current
quarter, loan servicing and other revenues remained consistent with that of the
prior year quarter. The decrease in prepayment penalty income of $0.6 million
and credit card revenue of $0.2 million was offset by a $0.6 million decrease in
amortization of mortgage servicing rights and a $0.3 million decrease in
reserves for servicing advances. Both the decrease in prepayment penalties and
amortization of mortgage servicing rights resulted from a reduction in loans
paid off during the current quarter, when compared to the prior year quarter.
The decrease in revenue generated from the Company's credit card program was due
to its discontinuation in December 1998 and lower average credit card balances
during the current quarter.
EXPENSE
The following table sets forth the components of the Company's expense for
the periods indicated:
<TABLE>
<CAPTION>
FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
(Dollars in thousands)
<S> <C> <C>
EXPENSE
Compensation and benefits.................................................. $ 5,877 $ 5,201
Advertising................................................................ 1,798 1,679
Professional services and other fees ...................................... 650 799
Facilities and insurance................................................... 828 945
Supplies................................................................... 385 400
Depreciation and amortization.............................................. 433 484
Interest................................................................... 1,840 3,555
Legal...................................................................... 2,762 2,267
Travel and training........................................................ 134 318
Other...................................................................... 202 570
Liquidation costs.......................................................... 7,685 -
Adjustment to liquidation basis............................................ 5,339 -
-------------- --------------
Total expense........................................................... $ 27,933 $ 16,218
============== ==============
</TABLE>
Total expenses increased 72% or $11.7 million during the three months
ended March 31, 2000 when compared to the prior year quarter. This increase is
primarily due to two non-recurring charges, totaling $13.0 million, as a
consequence of the Company's Bankruptcy Filing: (i) liquidation costs, and (ii)
adjustment to liquidation basis. Additionally, compensation and benefits
increased by $0.7 million, while legal expenses increased by $0.5 million. Such
increases were partially offset by a $1.7 million decrease in interest expense
and a general overall decrease of $0.8 million related to professional services
and other fees, facilities and insurance, travel and training, and other
expenses.
15
<PAGE>
As a result of management's intention to market for sale and eventually
liquidate the assets of the Company through the Company's Chapter 11 bankruptcy
case, the Company is required to provide for all liabilities related to
expenses, including general and administrative, to be incurred during the
liquidation period. Therefore, the Company recorded an estimate for "liquidation
costs" to be incurred of approximately $7.7 million using certain assumptions,
including assumptions as to the timing of asset disposition. Additionally, the
Company is required to value its assets at their estimated net realizable
amounts and liabilities to be estimated as amounts to be paid in settlement of
the entity's obligation. Estimated net realizable value represents management's
best estimate as to fair market value of the assets, net of selling expenses,
and without consideration to the unknown impact that the Bankruptcy Filing or
the outcome of any litigation may have on the value of the assets. Therefore,
the Company recorded a negative valuation adjustment to the cost basis of
certain assets and liabilities of approximately $5.3 million as "adjustment to
liquidation basis." Such adjustment represents (i) an approximately $2.9 million
write-off of goodwill, (ii) a $1.2 million adjustment to the Company's other
assets, including furniture, fixtures, and equipment, to reflect their net
realizable value, and (iii) an increase of approximately $1.2 million related to
estimated amounts to be paid related to the Company's liabilities.
The $0.7 million increase in compensation and benefits during the current
quarter is due to severance pay-outs in connection with employee terminations,
while the $0.5 million increase in legal is attributable to the Company's
ongoing legal matters (See Part II, Item 1. Legal Proceedings for a discussion
of the legal matters).
The $1.7 million decrease in interest expense is primarily due to a $1.5
million decrease in interest from the Company's secured term loan facility
related to its United Kingdom loan portfolio, which was repaid in full in
conjunction with the loan sale in July 1999. In addition, interest expense
related to the Company's credit card operation and debt issuance costs
associated with the Company's warehouse financing facility, together decreased
by $0.2 million during the quarter.
The decrease of $0.8 million related to professional services and other
fees, facilities and insurance, travel and training, and other expenses is
primarily a result of the Company's overall cost reduction strategy.
INCOME TAXES
The Company's estimated tax rate for the quarters ended March 31, 2000 and
1999 was 35.0% and 40.0%, respectively.
16
<PAGE>
SERVICING
The following tables provide data on loan delinquency, real estate owned
(REO) and net losses for the Company's servicing portfolio:
<TABLE>
<CAPTION>
UNITED STATES AS OF
-----------------------------------------------------------------------------------
MARCH 31, 2000 DECEMBER 31, 1999 MARCH 31, 1999
--------------------------- --------------------------- ---------------------------
% 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..................... $ 901,999 $ 892,327 $ 810,242
============= ============= =============
30-59 days delinquent................... $ 7,921 0.9% $ 5,889 0.7% $ 6,481 0.8%
60-89 days delinquent................... 7,328 0.8 3,320 0.4 6,044 0.7
90 days or more delinquent.............. 22,245 2.5 21,699 2.4 19,824 2.5
------------- ------------- ------------- ------------- ------------- -------------
Total delinquencies................ $ 37,494 4.2% $ 30,908 3.5% $ 32,349 4.0%
============= ============= ============= ============= ============= =============
REO (1)................................. $ 1,568 0.2% $ 1,141 0.1% $ 1,458 0.2%
============= ============= ============= ============= ============= =============
UNITED KINGDOM AS OF
-----------------------------------------------------------------------------------
MARCH 31, 2000 DECEMBER 31, 1999 MARCH 31, 1999
--------------------------- --------------------------- ---------------------------
% OF % OF % OF
(Dollars in SERVICING (Dollars in SERVICING (Dollars in SERVICING
Thousands) PORTFOLIO Thousands) PORTFOLIO thousands) PORTFOLIO
------------- ------------- ------------- ------------- ------------- -------------
Servicing Portfolio..................... $ - $ - $ 55,636
============= ============= =============
30-59 days delinquent................... - % - % $ 2,886 5.2%
60-89 days delinquent................... - - 2,634 4.7
90 days or more delinquent.............. - - 5,256 9.5
------------- ------------- ------------- ------------- ------------- -------------
Total delinquencies................ $ - % $ - % $ 10,776 19.4%
============= ============= ============= ============= ============= =============
REO (1)................................. $ - % $ - % $ - 0.0%
============= ============= ============= ============= ============= =============
COMBINED AS OF
-----------------------------------------------------------------------------------
MARCH 31, 2000 DECEMBER 31, 1999 MARCH 31, 1999
--------------------------- --------------------------- ---------------------------
% OF % OF % OF
(Dollars in SERVICING (Dollars in SERVICING (Dollars in SERVICING
thousands) PORTFOLIO thousands) PORTFOLIO thousands) PORTFOLIO
------------- ------------- ------------- ------------- ------------- -------------
Servicing Portfolio..................... $ 901,999 $ 892,327 $ 865,878
============= ============= =============
30-59 days delinquent................... $ 7,921 0.9% $ 5,889 0.7% $ 9,367 1.1%
60-89 days delinquent................... 7,328 0.8 3,320 0.4 8,678 1.0
90 days or more delinquent.............. 22,245 2.5 21,699 2.4 25,080 2.9
------------- ------------- ------------- ------------- ------------- -------------
Total delinquencies................ $ 37,494 4.2% $ 30,908 3.5% $ 43,125 5.0%
============= ============= ============= ============= ============= =============
REO (1)................................. $ 1,568 0.2% $ 1,141 0.1% $ 1,458 0.2%
============= ============= ============= ============= ============= =============
</TABLE>
17
<PAGE>
<TABLE>
<CAPTION>
FOR THE QUARTERS
ENDED MARCH 31,
------------------------------
2000 1999
-------------- --------------
(Dollars in thousands)
<S> <C> <C>
Average servicing portfolio (2)................................................. $ 897,163 $ 865,771
Net losses (3).................................................................. $ 128 $ 373
Percentage of average servicing portfolio - annualized.......................... 0.06% 0.17%
</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 balances at the
beginning and end of each quarter.
(3) Net losses means actual net losses realized with respect to the disposition
of REO.
LIQUIDITY AND CAPITAL RESOURCES
The Company's sources of cash include proceeds from liquidation of assets,
distributions received from residual interests, interest income and loan
servicing income. As a result of the Bankruptcy Filing and the closure of the
Company's loan origination operations, the Company has lost a significant source
of cash flow which it generated through its loan origination fees. The Company's
uses of cash include payments to creditors, payments of interest, repayment of
its warehouse financing facilities, administrative expenses, and payment of
income taxes.
In connection with the Bankruptcy Filing, it is management's intention to
market for sale and operate pending such sale all of the Company's assets,
including the Company's approximately $900 million loan servicing portfolio.
Proceeds from the sale of assets that are security for the Company's obligations
to its secured creditors will first be used to repay such secured creditors,
which include the Company's warehouse financing facility and a note payable
related to the financing of the Company's telemarketing facility in Irvine,
California. Any proceeds available after the satisfaction of the secured
obligations from the sale of such creditors' collateral, and proceeds from the
sale of the Company's free and clear assets will be utilized to repay the
unsecured creditors with the remaining proceeds available for the shareholders.
There can be no assurance, however, that the Company will be successful in
selling the assets at a value which will allow the Company to fulfill all of its
debt obligations.
This Bankruptcy Filing has also arguably triggered an event of default
under various agreements entered into by the Company, including the Company's
pooling and servicing agreements, though the Company contends that they are not,
pursuant to, among other things, 11 USC ss.365(b)(2). An event of default under
the pooling and servicing agreements can result in the certificate insurer
removing the Company as the loan servicing agent for the trust. If this right is
exercised by the certificate insurer, the Company would lose a significant
amount of revenue which it currently generates from its loan servicing
operations, thereby having a material adverse effect on the Company's results of
operations and financial condition. In addition, the Company would also suffer a
significant reduction of value related to its mortgage servicing rights, which
carry a stated value of $7.6 million as of March 31, 2000. Although the
certificate insurer has not exercised its rights available under the agreement,
there is no assurance that it will continue to allow the Company to act as the
servicing agent or that the insurer can be made to adhere to the present
arrangement through the bankruptcy process. The Company's removal as the
servicing agent would have a material adverse effect on the Company's results of
operations and financial condition.
The Bankruptcy Filing has also arguably created an event of default under
the Company's warehouse financing facility, though the Company contends that
they are not, pursuant to, among other things, 11 USC ss.365(b)(2).
Notwithstanding the pendency of the bankruptcy case, the warehouse lender may be
able to exercise its remedies under the agreement and require the Company to
repay the entire warehouse financing facility. This may force the Company to
accelerate the sale of its loans, which secure the facility, at a price less
favorable than might otherwise be obtained, thereby having a material adverse
effect on the Company's results of operations and financial condition.
18
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Management expects to completely liquidate the assets of the Company
within twelve months. No assurance, however, can be given that the Company will
be able to completely liquidate its assets within the time expected.
19
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In May 2000, Jacqueline Bowser and Irene Huston filed a class action
lawsuit against the Company. The complaint seeks rescission based upon fraud and
violation of the Truth-in-Lending Act and Home Ownership and Equity Protection
Act. The complaint was filed as an adversary proceeding in the Company's
consolidated bankruptcy case. The Company has not yet been served with this
action.
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's motion to dismiss
the complaint was granted as to three of the four claims. The Company and the
State were discussing settlement prior to the Bankruptcy Filing.
In December 1998, the American Association of Retired Persons ("AARP")
filed an action against the Company and against Brian and Sarah Chisick in the
Superior Court of California, in the County of Santa Clara. 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. The case was in the discovery stage, and the parties
were discussing settlement prior to the Bankruptcy Filing.
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, seeking an injunction against the
Company from charging rates, points and other terms which significantly deviate
from industry-wide standards or which are otherwise unconscionable or unlawful.
The remedies sought by the Attorney General include injunctive relief;
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. The Company filed a motion to vacate the
injunction, which was denied without prejudice. The case was in the discovery
stage prior to the Company's Bankruptcy Filing.
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. The
joint 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, which is cooperating with the
investigation.
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
those who purchased the stock during the stated class period by failing to
disclose known material adverse conditions in making certain public statements
about the Company's growth prospects. The state action was in the discovery
stage prior to the Company's Bankruptcy Filing.
In February 1997, the Company entered into an affinity real estate secured
credit card agreement with Fidelity Federal Bank, a Federal Savings Bank
("Fidelity"). Under the terms of this agreement, Fidelity would fund the
affinity credit card balance and would pay the Company for its solicitation
services, customer services and collection efforts. The agreement also
stipulates that following termination of the program by Fidelity, the Company is
obligated to purchase the outstanding balance on the credit cards. In June 1999,
Fidelity notified the Company of its intent to terminate the program by February
24, 2000. The Company disputed the terms of the obligation to purchase the
outstanding balance of the credit cards, and the parties have sought arbitration
of the dispute. The parties were discussing a settlement of this dispute prior
to the Company's Bankruptcy Filing.
20
<PAGE>
The Company is also a party to various legal proceedings arising out of
the ordinary course of its business including a number of lawsuits alleging
misleading lending practices, some of which were filed either as class actions
or under private attorney general statutes.
As a result of the Chapter 11 filing, most of these actions against the
Company have been stayed pursuant to 11 U.S.C. ss.362(a).
ITEM 2. CHANGES IN SECURITIES
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
Not applicable.
21
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) 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
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)
22
<PAGE>
EXHIBIT
NO. DESCRIPTION OF EXHIBIT
--- ----------------------
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
10.20 Deed of Trust Note dated as of February 19, 1999 between the Ohio
National Life Insurance Company and the Company (incorporated by
reference to Exhibit 10.20 to the Company's quarterly report on Form
10-Q for the period ended March 31, 1999, Commission File No. 0-28706)
27 Financial Data Schedule*
- ----------------
* Filed herewith.
(b) Reports on Form 8-K:
(1) A current report on Form 8-K was filed on March 28, 2000 by
First Alliance Corporation. Under Item 3. "Bankruptcy or
Receivership," First Alliance reported that it had filed a
voluntary petition under Chapter 11 of the United States
Bankruptcy Code.
(2) A current report on Form 8-K was filed on April 11, 2000 by
First Alliance Corporation. Under Item 4. "Change in
Registrant's Certifying Accountants," First Alliance reported
that Deloitte & Touche LLP had resigned as the Company's
independent auditors.
(3) A current report on Form 8-K was filed on April 17, 2000 by
First Alliance Corporation. Under Item 5. "Other Events,"
First Alliance reported that its common stock had been
delisted from the NASDAQ National Market System.
23
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
FIRST ALLIANCE CORPORATION
REGISTRANT
Date: May 15, 2000 /s/ BRIAN CHISICK
------------------ ---------------------------------------
Brian Chisick
Chairman and Chief Executive Officer
Date: May 15, 2000 /s/ FRANCISCO NEBOT
------------------ ---------------------------------------
Francisco Nebot
President and Chief Financial Officer
Principal Financial Officer
24
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