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
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _________ to _________
1-12897
(Commission File Number)
PROVIDIAN FINANCIAL CORPORATION
------------------------------------------------------
(Exact Name of Registrant as Specified in Its Charter)
Delaware 94-2933952
- ------------------------------- -------------------
(State or other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
201 Mission Street, San Francisco, California 94105
---------------------------------------------------
(Address of principal executive offices) (Zip Code)
(415) 543-0404
---------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
Not Applicable
---------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since
last report)
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 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 October 29, 1999, there were 141,970,825 shares of the registrant's
Common Stock, par value $0.01 per share, outstanding.
<PAGE>
PROVIDIAN FINANCIAL CORPORATION
FORM 10-Q
INDEX
September 30, 1999
PART I. FINANCIAL INFORMATION Page
Item 1. Financial Statements (unaudited):
Condensed Consolidated Statements of Financial
Condition...............................................3
Condensed Consolidated Statements of Income.................4
Condensed Consolidated Statements of Changes in
Shareholders' Equity......................................5
Condensed Consolidated Statements of Cash Flows.............6
Notes to Condensed Consolidated Financial
Statements............................................... 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations......................12
PART II. OTHER INFORMATION
Item 1. Legal Proceedings..........................................29
Item 6. Exhibits and Reports on Form 8-K...........................29
Signatures....................................................................30
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
<TABLE>
Condensed Consolidated Statements of Financial Condition (Unaudited)
Providian Financial Corporation and Subsidiaries
<CAPTION>
September 30 December 31
(Dollars in thousands, except share data) 1999 1998
------------ -----------
<S> <C> <C>
Assets:
Cash and cash equivalents $ 253,732 $ 176,348
Federal funds sold 938,164 297,869
Investment securities:
Available-for-sale 251,838 114,858
Held-to-maturity 126,234 318,817
Loans receivable, less allowance for credit losses of $832,783 at
September 30, 1999 and $451,245 at December 31, 1998 8,657,300 5,282,014
Premises and equipment, net 127,916 82,858
Interest receivable 79,720 51,801
Due from securitizations 593,739 454,374
Deferred taxes 488,386 306,234
Other assets 217,079 146,042
----------- -----------
Total assets $11,734,108 $ 7,231,215
=========== ===========
Liabilities:
Deposits:
Non-interest bearing $ 35,087 $ 48,220
Interest bearing 7,318,474 4,624,078
----------- -----------
7,353,561 4,672,298
Short-term borrowings 959,438 472,500
Long-term borrowings 1,029,360 399,757
Deferred fee revenue 504,677 334,617
Accrued expenses and other liabilities 563,516 388,856
----------- -----------
Total liabilities 10,410,552 6,268,028
Company obligated mandatorily redeemable capital securities of subsidiary trust
holding solely junior subordinated deferrable
interest debentures of the Company (Capital Securities) 160,000 160,000
Shareholders' Equity:
Common stock, par value $.01 per share (authorized: 800,000,000
shares; issued and outstanding: September 30, 1999 - 141,902,782 shares;
December 31, 1998 - 141,732,008 shares) 954 954
Retained earnings 1,240,554 866,005
Cumulative other comprehensive income (680) (320)
Common stock held in treasury - at cost: (September 30, 1999 - 1,217,198
shares; December 31, 1998 - 1,405,972 shares) (77,272) (63,452)
----------- -----------
Total shareholders' equity 1,163,556 803,187
----------- -----------
Total liabilities and shareholders' equity $11,734,108 $ 7,231,215
=========== ===========
See notes to condensed consolidated financial statements.
</TABLE>
<PAGE>
<TABLE>
Condensed Consolidated Statements of Income (Unaudited)
Providian Financial Corporation and Subsidiaries
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
--------------------------- --------------------------------
(Dollars in thousands, except per share data) 1999 1998 1999 1998
--------- --------- ---------- ----------
<S> <C> <C> <C> <C>
Interest income:
Loans $ 424,597 $ 210,565 $1,062,171 $ 565,848
Investment securities 14,651 7,661 41,622 23,175
--------- ---------- ---------- ---------
Total interest income 439,248 218,226 1,103,793 589,023
Interest expense:
Deposits 89,073 51,153 227,302 146,276
Borrowings 28,546 9,997 71,088 31,161
--------- ---------- ---------- ---------
Total interest expense 117,619 61,150 298,390 177,437
Net interest income 321,629 157,076 805,403 411,586
Provision for credit losses 288,279 168,217 725,574 343,724
--------- ---------- ---------- ---------
Net interest income after provision
for credit losses 33,350 (11,141) 79,829 67,862
Non-interest income:
Servicing and securitizations 157,802 156,341 437,776 427,134
Credit product fee income 484,153 199,236 1,240,782 416,491
Other 9,163 1,723 21,274 2,387
--------- ---------- ---------- ---------
651,118 357,300 1,699,832 846,012
Non-interest expense:
Salaries and employee benefits 132,579 64,965 350,350 185,610
Solicitation 115,972 53,258 317,650 141,533
Occupancy, furniture and equipment 23,745 12,963 57,926 35,317
Data processing and communication 33,593 16,005 88,207 53,839
Other 127,299 63,315 314,001 165,185
--------- ---------- ---------- ---------
433,188 210,506 1,128,134 581,484
--------- ---------- ---------- ---------
Income before income taxes 251,280 135,653 651,527 332,390
Income tax expense 100,408 53,092 260,623 130,858
--------- ---------- ---------- ---------
Net Income $ 150,872 $ 82,561 $ 390,904 $ 201,532
========= ========== ========== =========
Earnings per share - basic $ 1.07 $ 0.58 $ 2.77 $ 1.42
========= ========== ========== =========
Earnings per share - assuming dilution $ 1.04 $ 0.57 $ 2.69 $ 1.39
========= ========== ========== =========
Cash dividends paid per share $ 0.05 $ 0.03 $ 0.15 $ 0.10
========= ========== ========== =========
Weighted average common shares outstanding - basic (000) 141,296 142,044 141,316 142,116
========= ========== ========== =========
Weighted average shares and assumed conversions (000) 145,070 145,500 145,553 145,189
========= ========== ========== =========
See notes to condensed consolidated financial statements.
</TABLE>
<PAGE>
<TABLE>
Condensed Consolidated Statements of Changes in Shareholders' Equity (Unaudited)
Providian Financial Corporation and Subsidiaries
<CAPTION>
Cumulative Common
Additional Other Stock
Common Paid-In Retained Comprehensive Held in
(Dollars in thousands, except per share data) Stock Capital Earnings Income Treasury Total
------ ---------- ----------- ------------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1997 $ 954 $ 4,217 $ 599,856 $ - $ (9,913) $ 595,114
Comprehensive income:
Net Income 201,532 201,532
Other comprehensive income, net of
income tax:
Unrealized loss on securities net of
income taxes of $30 (266) (266)
--------
Comprehensive income 201,266
Cash dividend:
Common - $0.10 per share (14,272) (14,272)
Cash Dividend Declared:
Common - $0.05 per share (7,101) (7,101)
Stock Dividend Declared:
Dividend rate of 50%. Par $0.01 473 (473) -
Purchase of 1,561,844 common
shares for treasury 4,251 (74,293) (70,042)
Exercise of stock options and other awards (12,334) (13,733) 31,580 5,513
Issuance of restricted and unrestricted
stock less forfeited shares 1,420 3,685 5,105
Deferred compensation related to
grant of restricted and unrestricted
stock less amortization of $2,890 (2,215) (2,215)
Put warrant premium 1,325 1,325
Net tax effect from exercise of stock options
and issuance of restricted stock 2,863 2,863
----- ------- ---------- --------- -------- ----------
Balance at September 30, 1998 $ 954 $ - $ 765,809 $ (266) $(48,941) $ 717,556
===== ======= ========== ========= ======== ==========
Balance at December 31, 1998 $ 954 $ - $ 866,005 $ (320) $(63,452) $ 803,187
Comprehensive income:
Net Income 390,904 390,904
Other comprehensive income, net of
income tax:
Unrealized loss on securities net of
income taxes of $205 (311) (311)
Foreign currency translation adjustments
net of income taxes of $33 (49) (49)
----------
Other comprehensive income (360)
----------
Comprehensive income 390,544
Cash dividend:
Common - $0.15 per share (21,272) (21,272)
Purchase of 938,619 common
shares for treasury 25,723 (97,572) (71,849)
Exercise of stock options and other awards (57,564) 4,917 74,919 22,272
Issuance of restricted and unrestricted
stock less forfeited shares (440) 8,833 8,393
Deferred compensation related to
grant of restricted and unrestricted
stock less amortization of $5,711 (2,682) (2,682)
Net tax effect from exercise of stock options
and issuance of restricted stock 34,963 34,963
----- ---------- ---------- --------- -------- ----------
Balance at September 30, 1999 $ 954 $ - $1,240,554 $ (680) $(77,272) $1,163,556
===== ========== ========== ========= ======== ==========
See notes to condensed consolidated financial statements.
</TABLE>
<PAGE>
<TABLE>
Condensed Consolidated Statements of Cash Flows (Unaudited)
Providian Financial Corporation and Subsidiaries
<CAPTION>
Nine Months Ended
September 30
---------- ----------
(Dollars in thousands) 1999 1998
---------- ----------
<S> <C> <C>
Operating Activities:
Net Income $ 390,904 $ 201,532
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for credit losses 725,574 343,724
Depreciation and amortization of premises and equipment 23,308 13,020
Amortization of net loan acquisition costs 41,182 34,750
Amortization of deferred compensation
related to restricted and unrestricted stock 5,711 2,890
Amortization of deferred fee revenue (411,667) (117,319)
Increase in deferred income tax benefit (181,917) (108,912)
Increase in deferred fee revenue 681,273 299,514
Increase in interest receivable (27,919) (18,651)
Net increase in other assets (112,195) (37,367)
Net increase in accrued expenses and other liabilities 110,077 106,697
---------- ----------
Net Cash Provided by Operating Activities 1,244,331 719,878
Investing Activities:
Net decrease (increase) in money market instrument investments 99,882 (17,825)
Net cash used for loan originations and principal
collections on loans receivable (5,083,567) (782,028)
Net increase in securitized loans 1,109,720 1,050,019
Portfolio acquisitions (127,119) (1,922,766)
(Increase) decrease in due from securitizations (139,365) 82,214
Purchases of investment securities (170,742) (98,860)
Proceeds from maturities of investment securities 125,950 15,075
Increase in federal funds sold (640,295) (101,079)
Net purchases of premises and equipment (68,366) (27,391)
---------- ----------
Net Cash Used by Investing Activities (4,893,902) (1,802,641)
Financing Activities:
Net increase in deposits 2,681,263 713,955
Proceeds from issuance of term federal funds 1,718,000 594,000
Repayment of term federal funds (1,712,000) (435,000)
Increase (decrease) in other short-term borrowings 480,938 (82,000)
Increase in long-term borrowings 629,603 399,737
Purchase of treasury stock (71,849) (70,042)
Put warrant premium - 1,325
Dividends paid (21,272) (14,272)
Proceeds from exercise of stock options 22,272 5,513
---------- ----------
Net Cash Provided by Financing Activities 3,726,955 1,113,216
---------- ----------
Net Increase in Cash and Cash Equivalents 77,384 30,453
Cash and cash equivalents at beginning of period 176,348 112,522
---------- ----------
Cash and cash equivalents at end of period $ 253,732 $ 142,975
========== ==========
See notes to condensed consolidated financial statements.
</TABLE>
<PAGE>
PROVIDIAN FINANCIAL CORPORATION
Notes to Condensed Consolidated Financial Statements
September 30, 1999 (Unaudited)
Note 1 - Basis of Presentation
The condensed consolidated financial statements include the accounts of
Providian Financial Corporation and its wholly owned subsidiaries (collectively
referred to as the "Company"). The Company's subsidiaries offer a range of
consumer lending products, deposit products and membership services. The
principal operating subsidiaries of the Company are Providian National Bank and
Providian Bank, which are financial institutions principally engaged in consumer
lending activities. Providian Financial Corporation also has a subsidiary,
Providian Bancorp Services, which provides administrative and customer services
to its consumer lending affiliates.
The accompanying unaudited condensed consolidated financial statements
of the Company have been prepared in accordance with generally accepted
accounting principles for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do
not include all of the information and footnotes required by generally accepted
accounting principles for complete consolidated financial statements. In the
opinion of management, all adjustments considered necessary to a fair statement
of the results for the interim period presented have been included. The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates. Operating results for the
three and nine month periods ended September 30, 1999 are not necessarily
indicative of the results for the year ended December 31, 1999. The notes to the
financial statements contained in the Company's Annual Report on Form 10-K for
the year ended December 31, 1998 should be read in conjunction with these
consolidated financial statements. All significant intercompany balances and
transactions have been eliminated. Certain prior period amounts have been
reclassified to conform to the 1999 presentation.
Note 2 - Earnings Per Share
The following table sets forth the computation of both the basic and
assumed conversion methods of earnings per share.
<TABLE>
<CAPTION>
Three Months Ended September 30 Nine Months Ended September 30
(In thousands, except per share data) 1999 1998 1999 1998
--------- ---------- ---------- ----------
<C> <C> <C> <C>
<S>
Income available to common stockholders $ 150,872 $ 82,561 $ 390,904 $ 201,532
========= ========== ========== ==========
Weighted average shares outstanding--basic 141,296 142,044 141,316 142,116
Effect of dilutive securities
Restricted stock issued--non vested 549 488 551 516
Employee stock options 3,088 2,968 3,686 2,556
Forward purchase contracts 137 - - -
--------- ----------- ---------- ----------
Dilutive potential common shares 3,774 3,456 4,237 3,072
Adjusted weighted average shares and assumed --------- ----------- ---------- ----------
conversions 145,070 145,500 145,553 145,189
========= =========== ========== ==========
Earnings per share--basic $ 1.07 $ 0.58 $ 2.77 $ 1.42
========= =========== ========== ==========
Earnings per share--assuming dilution $ 1.04 $ 0.57 $ 2.69 $ 1.39
========= =========== ========== ==========
</TABLE>
Note 3 - Loans Receivable and Allowance for Credit Losses
The following is a summary of the Company's loans receivable:
<TABLE>
<CAPTION>
(Dollars in thousands) September 30, 1999 December 31, 1998
------------------ -----------------
<S> <C> <C>
Credit card and line of credit loans $ 8,294,250 $ 5,129,835
Home loans 1,220,043 606,657
Other 6,442 4,614
------------- -------------
9,520,735 5,741,106
Allowance for credit losses (832,783) (451,245)
Net deferred origination fees (30,652) (7,847)
------------- -------------
$ 8,657,300 $ 5,282,014
============= =============
</TABLE>
The activity in the allowance for credit losses for the nine months ended
September 30, 1999 and 1998 was as follows:
<TABLE>
<CAPTION>
Nine Months Ended September 30
(Dollars in thousands) 1999 1998
----------- ----------
<S> <C> <C>
Balance at beginning of period $ 451,245 $ 145,312
Provision for credit losses 725,574 343,724
Reserve acquired 14,310 178,459
Credit Losses (414,783) (279,877)
Recoveries 56,437 21,459
----------- ----------
Net credit losses (358,346) (258,418)
----------- ----------
Balance at end of period $ 832,783 $ 409,077
=========== ==========
</TABLE>
Note 4 - Senior and Subordinated Bank Notes
During the first nine months of 1999, the Company, through one of its
banking subsidiaries, issued an additional $630 million of senior bank notes
through a program that was established in 1998. The total notes outstanding
under this program as of September 30, 1999 was $1 billion.
Note 5 - Shareholders' Equity
During the third quarter of 1999, the Company extended an existing
agreement and entered into a new agreement to purchase, on a forward basis,
shares of its common stock. At the Company's election, the agreements may be
settled on a physical basis or, subject to certain conditions, on a net basis in
shares of the Company's common stock or in cash. To the extent that the market
price of the Company's common stock on a settlement date is greater than the
forward purchase price, the Company will receive the net differential. To the
extent that the market price of the Company's common stock on a settlement date
is lower than the forward purchase price, the Company will settle the agreed
upon premium amount. As of September 30, 1999, the agreements covered 568,913
shares of the Company's common stock at a weighted forward price of $110.73 per
share. During the nine months ended September 30, 1999, settlements from the
forward purchase agreements resulted in the receipt of 248,319 shares of common
stock and the payment of $1.3 million in premium amounts recorded as adjustments
to additional paid in capital.
Note 6 - Comprehensive Income
The components of accumulated other comprehensive income, net of related
tax, at September 30, 1999 and December 31, 1998 are as follows:
<TABLE>
<CAPTION>
Unrealized Foreign Cumulative Other
Loss on Currency Comprehensive
(Dollars in thousands) Securities Translation Income
---------- ----------- -----------------
<S> <C> <C> <C>
Beginning balance, December 31, 1998 $ (320) $ - $ (320)
Current year other comprehensive income (311) (49) (360)
--------- -------- ---------
Ending balance, September 30, 1999 $ (631) $ (49) $ (680)
========= ======== =========
</TABLE>
Note 7 - Commitments and Contingencies
Since May 1999, following media coverage highlighting certain of the
Company's sales and collections practices, a number of lawsuits have been filed
against the Company and, in some cases, against certain of the Company's
subsidiaries by current and former customers of the Company's banking
subsidiaries. An action is also pending in which the plaintiffs allege, in
general, that the Company and certain of its officers made false and misleading
statements in violation of the federal securities laws. The lawsuits filed
against the Company are at a very early stage. An informed assessment of the
ultimate outcome or potential liability associated with these matters is not
feasible at this time. Due to the uncertainties of litigation, there can be no
assurance that the Company will prevail on all claims made against it. However,
management believes that the Company has substantive defenses and intends to
defend the actions vigorously.
Following the initial media coverage the San Francisco District Attorney's
Office began an investigation into the Company's sales and collections
practices, including the marketing of certain fee-based products and the posting
of customer payments. In addition, on November 5, 1999 the Company received an
inquiry from the Connecticut Attorney General's Office seeking information in
connection with a civil investigation into the Company's credit card issuance
and billing practices. The remedies available to the San Francisco District
Attorney's Office and the Connecticut Attorney General's Office include, but are
not limited to, damages, penalties, fines and/or injunctive relief. The Company
continues to cooperate with the San Francisco District Attorney's Office through
ongoing discussions but there can be no certainty as to the outcome of those
discussions. The Company also has met with and intends to cooperate with the
Connecticut Attorney General's Office.
In response to customer concerns, the Company introduced an enhanced
customer satisfaction program. In addition, the Company engaged an independent
consultant to examine payment crediting processes. After performing test
procedures at each of the six sites at which the Company processes credit card
payments, four of which are operated by outside vendors, the independent
consultant found no evidence that the Company or any of its vendors were
intentionally withholding payments from processing.
In the course of implementing the enhanced customer satisfaction program,
the Company discovered a programming error that had resulted, over a period of
months, in the billing of erroneous late fees related to specific weekend days.
These errors have been corrected, and refunds have been provided to affected
customers.
Note 8 - Stock Ownership Plan
In May 1999, the Company's Board of Directors approved grants of stock
options to certain non-officer employees under the Company's newly adopted 1999
Non-Officer Equity Incentive Plan. Under the Plan, the non-officer employees
received options exercisable for varying numbers of the Company's stock based on
their length of employment or other factors. Options covering a total of
1,031,650 shares of the Company's stock were granted in July 1999. Additional
grants will be made in January 2000 and July 2000 to certain other employees who
complete a minimum of one year of service and satisfy other conditions.
Note 9 - Segment Information
The operations of the Company consist of two primary segments: Credit Card
Loan and Home Loan. The Credit Card Loan segment represents consumer lending
products, including unsecured, secured and partially secured credit cards, and
includes non-credit card unsecured revolving lines of credit. Credit Card Loan
customer relationships are initiated primarily through direct marketing or
portfolio acquisitions from other financial institutions. The Home Loan segment
represents home equity loans, home equity lines of credit and other home loans
made to individuals targeted by the Company's home loan product marketing
programs. Membership services revenue, which is received from both Credit Card
Loan and Home Loan customers, is included in the respective segment summary
financial information.
The Company's securitized loans are not considered loans owned by the
Company and therefore are not shown on the statement of financial condition. It
is, however, the Company's practice to analyze its financial performance on a
managed loan portfolio basis. Segment information is presented below on the
Company's managed loan portfolios.
The following is a summary of the Company's segment activity on a managed
loan basis for the nine months ended September 30, 1999 and 1998:
<TABLE>
<CAPTION>
Credit Home
(Dollars in thousands) Card Loan Other Total
-------------- --------- -------- --------------
<S>
Three Months Ended September 30, 1999 <C> <C> <C> <C>
Revenue $ 1,055,841 42,584 10,221 $ 1,108,646
Profit or loss $ 270,900 (2,818) (11,024) $ 257,058
Assets $ 16,636,125 1,720,043 49,994 $ 18,406,162
Three Months Ended September 30, 1998
Revenue $ 612,636 23,047 -- $ 635,683
Profit or loss $ 138,777 (260) -- $ 138,517
Assets $ 10,748,482 1,029,704 -- $ 11,778,186
Nine Months Ended September 30, 1999
Revenue $ 2,796,685 105,702 20,357 $ 2,922,744
Profit or loss $ 735,727 (1,437) (41,053) $ 693,237
Assets $ 16,636,125 1,720,043 49,994 $ 18,406,162
Nine Months Ended September 30, 1998
Revenue $ 1,554,476 59,981 -- $ 1,614,457
Profit or loss $ 334,771 6,549 -- $ 341,320
Assets $ 10,748,482 1,029,704 -- $ 11,778,186
</TABLE>
The impact of securitizations on the Company's consolidated statements of
income is to reduce net interest income and the provision for credit losses, and
to increase non-interest income. The following is a reconciliation of the
Company's segment activity on a managed basis to the consolidated statements of
income of the Company for the periods ended September 30, 1999 and 1998:
<PAGE>
<TABLE>
<CAPTION>
Three months Ended September 30 Nine months Ended September 30
(Dollars in thousands) 1999 1998 1999 1998
----------------------------- ----------------------------------
<S> <C> <C> <C> <C>
Total segment profits $ 257,058 $ 138,517 $ 693,237 $ 341,320
Corporate and other (5,778) (2,864) (41,710) (8,930)
----------- ---------- ----------- -----------
Income before income taxes $ 251,280 $ 135,653 $ 651,527 $ 332,390
=========== ========== =========== ===========
</TABLE>
Note 10 - Business Combination
On February 18, 1999, the Company acquired the assets of GetSmart.com and
assumed certain related liabilities. GetSmart.com is an online referral service
for consumer borrowers which provides loan information and lender connections
through proprietary search and application technology. The purchase price was
$32.1 million, paid in cash, plus $1.5 million in transaction costs, and the
Company assumed liabilities of $4.4 million.
The acquisition has been accounted for as a purchase and, accordingly, the
results of operations of GetSmart.com have been included in the Company's
consolidated financial statements from the date of acquisition.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Introduction
Providian Financial Corporation (the "Company") is a leading provider of
consumer lending products, including credit cards, home loans, secured credit
cards, and membership services. In addition, the Company offers various deposit
products. The Company offers its products primarily through its banking
subsidiaries, Providian National Bank, a national bank, and Providian Bank, a
Utah industrial loan corporation. The Company's products are offered to a broad
spectrum of consumers. Credit card products range from gold and platinum cards
with high credit lines to lower line classic and secured cards designed for
consumers underserved by traditional financial institutions. The primary factors
affecting the profitability of the Company's consumer lending business are
growth in the number of customer accounts and outstanding loan balances, net
interest spread on loans, fee revenue, credit usage, credit quality
(delinquencies and credit losses), level of solicitation and marketing expenses,
and account servicing efficiency.
Forward-Looking Information
Certain statements contained herein include forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended, and are subject
to the "safe harbor" created by those sections. Forward-looking statements
include expressions of "belief," "anticipation," or "expectations" of
management, statements as to industry trends or future results of operations of
the Company, and other statements which are not historical fact. Forward-looking
statements are based on certain assumptions by management and are subject to
risks and uncertainties that could cause actual results to differ materially
from those in the forward-looking statements. These risks and uncertainties
include, but are not limited to, competition, delinquencies, credit losses,
vendor relationships, funding costs and availability, general economic
conditions, government policy and regulations, risks related to growth, product
development, acquisitions and operations, litigation and Year 2000 readiness.
These and other risks and uncertainties are described in detail in the Company's
1998 Annual Report on Form 10-K under the heading "Cautionary Statements," and
in other filings made by the Company with the Securities and Exchange
Commission. Readers are cautioned not to place undue reliance on forward-looking
statements, which speak only as of the date hereof. The Company undertakes no
obligation to update any forward-looking statements.
Earnings Summary
Net income for the three months ended September 30, 1999 was $150.9
million, an increase of 83% over net income of $82.6 million for the three
months ended September 30, 1998. Net income for the nine months ended September
30, 1999 was $390.9 million, an increase of 94% over net income of $201.5
million for the nine months ended September 30, 1998. This increase was
primarily attributable to continued growth in customer accounts and loans
outstanding and strong growth in fee revenue.
In May 1999, following extensive media coverage highlighting certain of the
Company's sales and collections practices, the Company introduced an enhanced
customer satisfaction program. In addition, the Company engaged an independent
consultant to examine payment-crediting processes. After performing test
procedures at each of the six sites at which the Company processes credit card
payments, four of which are operated by outside vendors, the independent
consultant found no evidence that the Company or any of its vendors were
intentionally withholding payments from processing.
In the course of implementing the enhanced customer satisfaction program,
the Company discovered a programming error that had resulted, over a period of
months, in the billing of erroneous late fees related to specific weekend days.
These errors have been corrected, and refunds have been provided to affected
customers. In June 1999 the Company recorded a one-time charge of $20 million to
cover the estimated cost of such refunds.
The Company continued to strengthen net interest margins while relying less
on low introductory rates to attract customers. As of September 30, 1999,
managed loans, which include on-balance sheet and securitized loans, increased
by $6.6 billion, or 56%, over September 30, 1998. This growth was achieved
through increases in the Company's loan originations (particularly loans made
under lower line credit card products) combined with strategic acquisitions of
credit card portfolios and activation of existing customer accounts. The Company
continues to evaluate acquisitions on an opportunistic basis as the credit card
market continues its consolidation. While the acquisitions environment may
provide many opportunities, the focus of the Company's acquisition strategy will
continue to be guided by its return driven approach.
The Company's managed net interest margin on loans increased to 12.40% in
the third quarter of 1999 from 12.01% for the same period in 1998, reflecting
growth in higher yield portfolios and the impact of repricing programs. The
managed net credit loss rate for the third quarter of 1999 decreased to 6.40%
from 7.77% for the same period in 1998, reflecting improved credit loss rates on
our core and acquired portfolios. The 30+ day managed delinquency rate for the
third quarter of 1999 increased to 5.20% from 4.70% for the second quarter and
reflects the seasoning of the Company's lower line asset classes. This seasoning
is expected to result in a reversal of the favorable loan loss trend the Company
has enjoyed during the first three quarters of 1999, with the managed net credit
loss rate expected to rise back to the 7% range during the fourth quarter of
1999. The dollar contribution to managed revenue from non-interest income in the
third quarter increased more than 110% over the same period in 1998 to $560.6
million, due to increased revenue from activity and loan performance fees and
membership services revenue. The Company reinvested a portion of the increased
managed revenue to strengthen loan loss reserves, increase marketing investment
and build infrastructure, through the expansion of the employee base and product
support systems. Year over year, non-interest expense increased $223 million
during the third quarter of 1999 to $433.2 million, reflecting expenses
associated with servicing a greater number of customers and increased marketing
activity.
The Company's return on average assets continued to improve, increasing to
5.62% for the third quarter of 1999. The Company's market focus is to seek out
profitable consumer segments and apply its risk adjusted, return driven approach
to targeting and pricing. The Company believes this strategy has been
responsible for its continued overall superior financial performance. The
Company continued to strengthen its balance sheet during the third quarter of
1999 with improved profitability, combined with a high level of capital
retention, and was able to increase its return on equity to 54.89% for the third
quarter of 1999 from 45.74% for the same period in 1998.
Managed Consumer Loan Portfolio and the Impact of Securitization
The Company securitizes unsecured credit cards, home equity lines of credit
and secured and partially secured credit card receivables. For additional
discussion of the Company's securitization activities, see "--Funding and
Liquidity." Securitized assets sold to external investors are not considered
assets of the Company and therefore are not shown on the statement of financial
condition. It is, however, the Company's practice to analyze its financial
performance on a managed loan portfolio basis. In order to do so, the Company's
income statement and statement of financial condition are adjusted to add back
the effect of securitizations. The following table summarizes the Company's
managed loan portfolio:
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
----------------------------------- -------------------------------
(Dollars in thousands) 1999 1998 1999 1998
<S> <C> <C> <C> <C>
Period-End Balances:
On-balance sheet consumer loans $ 9,520,735 $ 4,987,023
Securitized consumer loans 8,835,433 6,791,163
----------- -----------
Total managed consumer loan portfolio $18,356,168 $11,778,186
=========== ===========
Average Balances:
On-balance sheet consumer loans $ 8,994,243 $ 4,793,697 $ 7,697,174 $ 4,393,731
Securitized consumer loans 8,268,226 6,791,077 7,773,717 6,737,492
------------ ----------- ----------- -----------
Total average managed consumer loan portfolio $17,262,469 $11,584,774 $15,470,891 $11,131,223
============ =========== =========== ===========
Operating Data and Ratios:
Reported:
Average earning assets $10,094,134 $ 5,317,068 $ 8,758,022 $ 4,930,255
Return on average assets 5.62% 5.74% 5.57% 4.89%
Net interest margin (1) 12.75% 11.82% 12.26% 11.13%
Managed:
Average earning assets $18,362,360 $12,108,145 $16,531,739 $11,667,747
Return on average assets 3.20% 2.63% 3.06% 2.13%
Net interest margin (1) 12.15% 11.82% 12.01% 11.07%
(1) Net interest margin is equal to net interest income divided by average
earning assets.
</TABLE>
Financial Statement Impact
Securitizations are treated as sales under GAAP. As a result, securitized
loans are removed from the balance sheet in exchange for cash proceeds and other
consideration. In certain cases, the Company has retained a subordinated
interest in the pool of assets included in a securitization, with a right to
receive its allocated share of collections after payment to third party
investors. Such retained interests are recorded at fair value and are included
in "Due from securitization" on the Company s statement of financial condition.
The Company, at the time it enters into a securitization, recognizes an
"interest-only strip receivable" asset, available for sale, equal to the present
value of the projected excess servicing income related to the securitized loans.
During the revolving period of a securitization, an additional interest-only
strip receivable is recognized each month, as additional receivables are
transferred to investors in respect of their share of principal collections and
losses on previously securitized loans.
The Company services the accounts underlying the securitized loans and
earns a monthly servicing fee, which is generally offset by the servicing costs
incurred by the Company. Accordingly, servicing assets have not been recognized
in connection with the Company's securitizations. The finance charge and fee
revenue generated by the securitized loans in excess of interest paid to
investors, related credit losses, servicing fees, credit enhancement costs and
other transaction expenses is referred to as "excess servicing income." Revenue
resulting from excess servicing income is recognized each month first as a
reduction of the interest-only strip receivable and then, to the extent the
amount received exceeds the related component of the interest only strip
receivable (which was recorded at present value), as servicing and
securitizations income.
The effect of this accounting treatment is to reduce net interest income
and the provision for credit losses, and to increase non-interest income, on the
Company's statement of income. For the three months ended September 30, 1999 and
1998 this accounting treatment had the effect of: reducing net interest income
by $236.2 million and $200.9 million; reducing the provision for credit losses
by $145.7 million and $110.6 million; and increasing non-interest income by
$90.5 million and $90.3 million. For the nine months ended September 30, 1999
and 1998, this accounting treatment had the effect of: reducing net interest
income by $683.5 million and $557.0 million; reducing the provision for credit
losses by $455.2 million and $357.8 million; and increasing non-interest income
by $228.3 million and $199.2 million. Because credit losses on the securitized
loans are reflected as a reduction in servicing and securitizations income
rather than a reduction of reserves for credit losses, the Compan s provision
for credit losses is lower than would be the case had such loans not been
securitized.
When loans are securitized, the Company retains a "seller's interest"
generally equal to the total amount of the pool of assets included in the
securitization less the investors' portion of those assets. As the amount of the
loans in the securitized pool fluctuates due to customer payments, purchases,
cash advances and credit losses, the amount of the seller's interest will vary.
The seller's interest is classified on the Company's statement of financial
condition as loans receivable at par less the associated allowance for credit
losses. Periodically, the Company may elect to transfer new loan receivables
into a securitized pool in order to maintain the seller's interest above an
agreed-upon minimum balance.
Risk Adjusted Revenue and Return
One measure of product profitability that incorporates revenue and the most
significant costs inherent in consumer loan risk analysis is risk adjusted
revenue, which is net interest income plus fee income less net credit losses.
The Company uses risk adjusted revenue as a measure of loan portfolio
profitability, consistent with its goal of matching the revenue base of customer
accounts with the risk undertaken. Risk adjusted revenue may also be expressed
as a percentage of average consumer loans, in which case it is referred to as
risk adjusted return.
Managed risk adjusted revenue and return for the three months ended
September 30, 1999 were $819 million and 18.99%, compared to $390 million and
13.46% for the three months ended September 30, 1998. For the nine months ended
September 30, 1999 risk adjusted revenue and return were $2,090.6 million and
18.02%, compared to $993.6 million and 11.90% for the nine months ended
September 30, 1998. The increase during the third quarter of 1999 is a result of
increased yields on portfolios priced according to customer risk, declining use
of introductory rates on new accounts and strong growth in fee revenue per
customer.
The components of risk adjusted revenue are discussed in more detail in
subsequent sections of this Management's Discussion and Analysis of Financial
Condition and Results of Operations.
Net Interest Income and Margin
Net interest income is interest earned from loan and investment portfolios
less interest expense on deposits and borrowings. Managed net interest income
includes interest earned from on-balance sheet and securitized portfolios less
interest expense on deposits and borrowings and the coupon interest paid to
securitization investors.
Managed net interest income for the three months ended September 30, 1999
was $557.8 million, compared to $357.9 million for the same period in 1998, an
increase of $199.9 million or 56%. Managed net interest margin on average
managed loans increased to 12.40% for the three months ended September 30, 1999,
from 12.01% for the same period in 1998. For the nine months ended September 30,
1999, managed net interest income was $1,488.9 million, compared to $968.6
million for the same period in 1998, an increase of $520.3 million or 54%.
Managed net interest margin on average managed loans increased to 12.35% for the
nine months ended September 30, 1999, from 11.54% for the same period in 1998.
The increase in managed net interest income and margin reflects an increase in
average managed loans, which increased approximately $5.7 billion for the three
months ended September 30 1999, combined with higher finance charge yields
related to an increase in the number of accounts for lower line credit card
products, which generate higher overall finance charge rates and fee income,
consistent with the Company's risk adjusted approach to pricing.
Statement of Average Balances, Income and Expense, Yields and Rates
The following table provides an analysis of interest income, interest
expense, net interest spread, and average balances for the three and nine months
ended September 30, 1999 and 1998. Interest income and interest expense margins
are presented as a percentage of average earning assets, which include
interest-earning consumer loan portfolios and investments held for liquidity
purposes.
<TABLE>
<CAPTION>
Three Months Ended September 30
-------------------------------------------------------------------------------------
1999 1998
-------------------------------------------------------------------------------------
Average Income/ Yield/ Average Income/ Yield/
(Dollars in thousands) Balance Expense Rate Balance Expense Rate
----------- --------- ------- ----------- --------- -------
<S> <C> <C> <C> <C> <C> <C>
ASSETS:
Interest-Earning assets
Consumer loans $ 8,994,243 $424,597 18.88% $4,793,697 $210,565 17.57%
Interest-earning cash 118,129 1,447 4.90% 46,718 572 4.90%
Federal funds sold 567,164 7,154 5.05% 181,538 2,573 5.67%
Investment securities 414,598 6,050 5.84% 295,115 4,516 6.12%
----------- -------- ------ ---------- -------- ------
Total interest-earning assets 10,094,134 $439,248 17.41% 5,317,068 $218,226 16.42%
Allowance for loan losses (738,282) (376,307)
Other assets 1,373,961 814,641
---------- ----------
Total assets $10,729,813 $5,755,402
=========== ==========
<PAGE>
LIABILITIES AND EQUITY:
Interest-bearing liabilities
Deposits $ 6,473,313 $ 89,073 5.50% $3,683,045 $ 51,153 5.56%
Borrowings 1,920,960 28,546 5.94% 646,355 9,997 6.19%
----------- -------- ------ ---------- -------- -----
Total interest-bearing liabilities 8,394,273 $117,619 5.60% 4,329,400 $ 61,150 5.65%
Other liabilities 1,076,182 544,063
----------- ----------
Total liabilities 9,470,455 4,873,463
Capital securities 160,000 160,000
Equity 1,099,358 721,939
----------- ----------
Total liabilities and equity $10,729,813 $5,755,402
=========== ==========
NET INTEREST SPREAD: 11.81% 10.77%
====== ======
Interest income to
average interest-earning assets 17.41% 16.42%
Interest expense to
average interest-earning assets 4.66% 4.60%
------ ------
Net interest margin 12.75% 11.82%
====== ======
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30
------------------------------------------------------------------------------------------
1999 1998
------------------------------------------------------------------------------------------ -
Average Income/ Yield/ Average Income/ Yield/
(Dollars in thousands) Balance Expense Rate Balance Expense Rate
---------- ---------- ------ ---------- -------- ------
<S> <C> <C> <C> <C> <C> <C>
ASSETS:
Interest-Earning assets
Consumer loans $7,697,174 $1,062,171 18.40% $4,393,731 $565,848 17.17%
Interest-earning cash 124,272 4,421 4.74% 38,463 1,514 5.25%
Federal funds sold 540,251 19,777 4.88% 204,344 8,536 5.57%
Investment securities 396,325 17,424 5.86% 293,717 13,125 5.96%
---------- ---------- ------ ---------- -------- ------
Total interest-earning assets 8,758,022 $1,103,793 16.80% 4,930,255 $589,023 15.93%
Allowance for loan losses (622,901) (301,279)
Other assets 1,229,452 870,359
---------- ----------
Total assets $9,364,573 $5,499,335
========== ==========
LIABILITIES AND EQUITY:
Interest-bearing liabilities
Deposits $5,666,742 $ 227,302 5.35% $3,566,480 $146,276 5.47%
Borrowings 1,611,164 71,088 5.88% 686,961 31,161 6.05%
---------- ---------- ----- ---------- -------- -----
Total interest-bearing liabilities 7,277,906 $ 298,390 5.47% 4,253,441 $177,437 5.56%
Other liabilities 944,750 416,807
---------- ----------
Total liabilities 8,222,656 4,670,248
Capital securities 160,000 160,000
Equity 981,917 669,087
---------- ----------
Total liabilities and equity $9,364,573 $5,499,335
========== ==========
NET INTEREST SPREAD: 11.33% 10.37%
====== ======
Interest income to
average interest-earning assets 16.80% 15.93%
Interest expense to
average interest-earning assets 4.54% 4.80%
------ ------
Net interest margin 12.26% 11.13%
====== ======
</TABLE>
Interest Volume and Rate Variance Analysis
Net interest income is affected by changes in the average interest rate
earned on interest-earning assets and the average interest rate paid on
interest-bearing liabilities. Net interest income is also affected by changes in
the volume of interest-earning assets and interest-bearing liabilities. The
following table sets forth the dollar amount of the increase (decrease) in
interest income and interest expense resulting from changes in the volume and
rates:
<TABLE>
<CAPTION>
Three Months Ended September 30 Nine Months Ended September 30
1999 vs. 1998 1999 vs. 1998
----------------------------------------------------------------------------------------------
Change due to (1) Change due to (1)
Increase ----------------------- Increase --------------------------
(Dollars in thousands) (Decrease) Volume Rate (Decrease) Volume Rate
---------- --------- -------- ---------- --------- --------
<S> <C> <C> <C> <C> <C> <C>
Interest Income:
Consumer loans $214,032 $197,249 $16,783 $496,323 $453,147 $43,176
Federal funds sold 4,581 4,892 (311) 11,241 12,420 (1,179)
Other securities 2,409 2,625 (216) 7,206 7,590 (384)
-------- -------- ------- -------- -------- -------
Total interest income 221,022 204,766 16,256 514,770 473,157 41,613
Interest Expense:
Deposits 37,920 38,476 (556) 81,026 84,305 (3,279)
Borrowings 18,549 18,968 (419) 39,927 40,826 (899)
-------- -------- ------ -------- -------- -------
Total interest expense 56,469 57,444 (975) 120,953 125,131 (4,178)
-------- -------- ------- -------- -------- -------
Net interest income $164,553 $147,322 $17,231 $393,817 $348,026 $45,791
======== ======== ======= ======== ======== =======
(1) The changes due to both volume and rates have been allocated in proportion
to the relationship of the absolute dollar amounts of the change in each. The
changes in interest income and expense are calculated independently for each
line in the schedule.
</TABLE>
Non-Interest Income
Non-interest income consists primarily of servicing and securitization
income and credit product fee income. Total non-interest income increased 82.2%,
or $293.8 million, to $651.1 million for the third quarter of 1999 over the same
period in 1998. This increase is attributable to increased credit product fee
income realized from membership services revenue and to increased late,
overlimit, annual membership and processing fees resulting from an increased
customer base.
Servicing and Securitization Income
As of September 30, 1999, securitizations outstanding provided $8.6 billion
in funding, representing 45% of total managed funding, compared with $6.8
billion, or 55%, as of September 30, 1998. The decrease in securitizations
outstanding as a percentage of total managed funding as of September 30, 1999
was due to the Company's efforts to diversify its funding sources and increase
deposit funding. A more detailed discussion of the Company's securitization
activities is set forth under "--Funding and Liquidity."
Because excess servicing income on securitized loans essentially represents
a recharacterization of net interest income and credit product fee income less
the provision for loan losses and servicing expense, excess servicing income
will vary based upon the same factors. Thus, changes in net credit losses (see
"--Asset Quality, Net Credit Losses") and changes in interest rates (to the
extent that the receivables and interest payable to investors are based upon
floating rates) will cause excess servicing income to vary (see
"--Asset/Liability Risk Management").
Servicing and securitization income totaled $157.8 million for the quarter
ended September 30, 1999 as compared to $156.3 million for the quarter ended
September 30, 1998. For the nine months ended September 30, 1999, servicing and
securitization income was $437.8 million compared to $427.1 million for the same
period in 1998. Excess servicing yields on securitized loans remained stable
with increasing finance charge revenue and fees being offset by increases in
credit losses related to the securitization of acquired portfolios. The increase
in excess servicing revenue was offset by a reduction in interest earning
securitization principal funding accounts maintained in the prior year to fund
the repayment of securitizations that matured in September 1998.
Credit Product Fee Income
For the three months ended September 30, 1999 and 1998, credit product fee
income increased to $484.2 million from $199.2 million, reflecting account
growth, loan receivable growth and increased sales of membership services. Fee
revenue realized from securitized loans is not included in credit product fee
income but is instead recorded as part of servicing and securitization income.
While the Company anticipates continued significant growth in credit product fee
income during 1999, there can be no assurance that the historic rate of growth
reflected in the Company's third quarter 1999 and in previous periods will
continue.
Credit product fee income includes activity fees, loan performance fees and
membership services revenue. Strong growth in new customers, membership services
revenue and activity fees contributed to an increase in credit product fee
income over the second quarter of 1999. Activity fees, which include interchange
income and cash advance, annual membership and processing fees, totaled $217.0
million and $87.7 million for the three months ended September 30, 1999 and
1998. For the nine months ended September 30, 1999 and 1998 activity fees
totaled $569.0 million and $228.3 million. Activity fees have increased as
account growth resulted in increased annual membership, cash advance and
purchase activity fees. Loan performance fees include late, returned check and
overlimit charges. For the three months ended September 30, 1999 and 1998 loan
performance fees totaled $101.9 million and $65.4 million, reflecting account
growth. For the nine months ended September 30, 1999 and 1998 loan performance
fees totaled $284.7 million and $109.8 million, reflecting account growth and
increases in late fee rates. Membership services revenue results from the sale
of Credit Protection, Home Protection, Providian Health Advantage, Destination
Unlimited (formerly DrivePro), Providian BuySmart (formerly PricePro) and
Providian Personal Registry (1) products. The Company recognizes membership
services revenue ratably over the term of the product, net of an allowance for
estimated refunds, beginning after the end of the free or money-back guarantee
period, if any. For the three months ended September 30, 1999 and 1998,
membership services revenue totaled $165.2 million and $46.1 million, reflecting
increased penetration rates for sales of membership products and increases in
the customer base of the Company's lower line credit card product offerings,
which generate higher levels of membership services revenue. For the nine months
ended September 30, 1999 and 1998 membership services revenue totaled $387.1
million and $78.4 million.
Non-Interest Expense
Non-interest expense includes loan solicitation costs, such as printing,
postage, telemarketing, list processing and credit bureau costs paid to third
parties in connection with direct marketing account solicitation efforts. In
accordance with GAAP, the Company has capitalized only the direct costs
associated with successful account acquisition efforts, after offsetting
up-front processing fees. Capitalized loan origination costs are amortized over
the privilege period (currently one year) for credit card loans or the estimated
life of the loans for home equity lines of credit loans, unless the loans are
securitized, in which case the costs are taken as an expense prior to the
securitization. The majority of loan origination costs are expensed as incurred.
For the three months ended September 30, 1999 and 1998, loan origination costs
were $116.0 million and $53.3 million, reflecting increased direct mail volumes
and other marketing initiatives. In the three months ended September 30, 1999
and 1998, the Company amortized loan origination costs of $14.6 million and
$15.0 million. For the nine months ended September 30, 1999 and 1998, overall
loan origination costs were $317.7 million and $141.5 million while amortized
loan origination costs were $41.2 million and $34.8 million.
Non-interest expense also includes salary and benefit expenses, such as
staffing costs associated with marketing, customer service, collections, and
administration. Other non-interest expense includes third-party data processing
and communication costs, occupancy expenses, and other operational expenses,
such as collection costs, fraud losses, and bankcard association assessments.
The following table presents non-interest expense for the three and nine months
ended September 30, 1999 and 1998:
<TABLE>
<CAPTION>
Three months Ended September 30 Nine months Ended September 30
(Dollars in thousands) 1999 1998 1999 1998
------------ --------- ----------- ------------
<S> <C> <C> <C> <C>
Non-interest expense:
Salaries and employee benefits $ 132,579 $ 64,965 $ 350,350 $ 185,610
Solicitation 115,972 53,258 317,650 141,533
Occupancy, furniture and equipment 23,745 12,963 57,926 35,317
Data processing and communication 33,593 16,005 88,207 53,839
Other 127,299 63,315 314,001 165,185
------------ --------- ----------- ------------
Total $ 433,188 $ 210,506 $ 1,128,134 $ 581,484
============ ========= =========== ============
</TABLE>
(1) Home Protection, Providian Health Advantage, DrivePro and PricePro are
registered service marks of Providian Financial. Destination Unlimited,
Providian BuySmart and Providian Personal Registry are service marks of
Providian Financial for which federal registration is pending.
<PAGE>
Impact of Year 2000
Many computer programs use two digits, rather than four, to refer to a
year. Unless these programs are corrected, they will be unable to interpret
dates beyond the year 1999, which could cause a system failure or other computer
errors. The Company, like all financial services institutions, is heavily
dependent on computer systems for its operations. The Company processes data
through its own information technology systems and the systems of third party
vendors and providers. In addition, various non-information technology systems
are affected by the Year 2000 issue, including elevators, security systems and
life safety systems.
To address this problem, and in accordance with Year 2000 readiness
guidelines established by the Office of the Comptroller of the Currency and the
Federal Deposit Insurance Corporation, which regulate the Company's banking
subsidiaries, the Company initiated a Year 2000 project in November 1996. The
Company's Year 2000 project consists of five phases: (1) planning, in which the
Year 2000 project team defined the approach to addressing the Year 2000 issue;
(2) inventory, in which the Company's vendors, hardware, internally developed
systems and third party-provided software were inventoried and critical systems
and critical vendors identified; (3) assessment, in which Year 2000 readiness of
the Company's systems was assessed; (4) modification, in which affected systems
were replaced, repaired, upgraded, or retired; and (5) testing for Year 2000
compliance.
The Company is currently in conformity with its banking regulators' Year
2000 requirements. All five phases of the Company's Year 2000 project have been
completed, including remediation of internally developed systems, repair and
replacement of third party-provided hardware and software, and infrastructure
upgrades. Testing of internally developed critical systems was substantially
completed in December 1998, while testing by the Company of third party-provided
critical systems was substantially completed in March 1999. The Company's
testing of all systems was completed in July 1999, with testing of internally
developed critical systems and third party-provided critical systems continuing
as enhancements are made to the compliant code. During the remaining months of
1999, the Company's Year 2000 project will focus on reviewing controls in place
to ensure that systems that are currently Year 2000 ready remain so and on
liquidity and cash management planning, as well as validating contingency plans
and business resumption and disaster recovery plans. Such monitoring and
validation are expected to continue through the end of 1999 into the first few
months of 2000.
The Company depends on technology and other services provided by third
parties, including technology vendors, credit providers, and processing
providers and on financial systems (such as payment and clearing systems) and
the utility infrastructure (such as power, transportation, and
telecommunications). The Company relies on these third parties to assess the
impact of the Year 2000 issue on the technology and services they provide and to
take any necessary corrective action. Substantially all of the Company's
critical vendors have represented to the Company that their systems and products
are Year 2000 compliant.
Year 2000 issues could result in significant disruption to the Company's
operations (including loan origination and servicing), its ability to obtain and
provide funds, and its financial and accounting systems. Such disruptions could
result in revenue loss and increased costs that could have a material adverse
effect on the Company's financial condition, liquidity and results of
operations. There can be no assurance that remediation efforts of the Company or
of third party vendors and suppliers have addressed all risks of such
disruption. Disruptions that could result from the Company's failure to correct
its critical systems or the failure of third parties on which the Company relies
to correct their systems have been addressed in the Company's Year 2000
contingency plans and business resumption and disaster recovery plans. There can
be no assurance, however, that such contingency plans will fully mitigate Year
2000 failures or problems.
The Company's total Year 2000 project costs are expected to be
approximately $13.5 million, and the Company has incurred $11.6 million in Year
2000 project expenses through September 30, 1999. The Company expects to fund
all Year 2000-related costs through operating cash flows. Year 2000 costs will
be expensed as incurred, and the Company believes that such costs will not have
a material impact on the Company's future financial results or condition.
The foregoing Year 2000 discussion contains "forward-looking statements"
within the meaning of the Private Securities Litigation Reform Act of 1995. Such
statements, including statements regarding the expected costs of the Company's
Year 2000 project, are based on estimates, and actual results may differ
materially from those anticipated. Specific factors that might cause results to
differ from those anticipated include, but are not limited to, the availability
of qualified personnel, success in identifying and modifying all relevant
computer systems, the sufficiency and outcome of Year 2000 testing, adequate
resolution of Year 2000 issues by governmental agencies, businesses and other
third party providers to the Company, and unanticipated costs. Such
"forward-looking statements" speak only as of the date on which such statements
are made, and the Company undertakes no obligation to update any forward-looking
statement.
Income Taxes
The Company recognized income tax expense of $100.4 million and $53.1
million for the three months ended September 30, 1999 and 1998. The Company's
effective tax rate increased to 39.96% for the three months ended September 30,
1999 from 39.14% for the same period in 1998.
Asset Quality
The Company's delinquencies and net credit losses reflect, among other
factors, the quality of loans, the average age of the Company's loan receivables
(generally referred to as "seasoning"), the success of the Company's collection
efforts, and general economic conditions. The quality of loans is subject to the
targeting and underwriting criteria used, account management, seasoning, and
demographic and other factors.
The level of credit losses directly affects earnings when reserves are
established through recognition of provisions for credit losses, which are
generally dependent on historical levels of credit losses and current trends. As
new portfolios of consumer loans are originated or acquired, management uses
historical credit loss and delinquency analyses of similar, more seasoned loan
portfolios and other qualitative factors to establish reserves for future credit
losses (see "--Allowance and Provision for Credit Losses"). As net credit losses
are experienced, the previously established reserve is used to absorb the credit
losses.
The Company's policy is to recognize principal credit losses on all
unsecured loans (including the unsecured portion of any partially secured credit
card loans) which become delinquent no more than 180 days after the delinquency
occurs, unless the accountholder cures the default by making a partial payment
that qualifies under the Company's standards. Accounts of bankrupt credit card
customers are charged off upon notification of bankruptcy. Accounts of deceased
credit card customers are charged off upon determination of uncollectibility.
Home loans are reviewed when a loss of all or part of the principal balance of
the loan is anticipated, and an allowance for credit losses is established in
the amount by which the book value of the loan exceeds the estimated net
realizable value of the underlying collateral. Anticipated losses on home loans
are charged off no later than 180 days after payments on such loans become
delinquent. At the time a loan is charged off, accrued but unpaid finance charge
and fee income is reversed against current earnings but is maintained on the
customer's record in the event of a future recovery. Once a loan is charged off,
the Company's policy is to continue to pursue collection of principal, interest,
and accrued fee income, to the extent legally permissible. Any subsequent
collections on previously charged-off loans will be recognized as recoveries.
Delinquencies
The following table presents the delinquency trends of the Company's
on-balance sheet and managed consumer loan portfolio as of September 30, 1999
and 1998. An account is contractually delinquent if the minimum payment is not
received by the next billing date. Total delinquencies on managed loans were
5.2% as of September 30, 1999, compared to 5.3% as of September 30, 1998 and
4.7% as of June 30, 1999. The decrease in delinquencies over the third quarter
of 1998 reflects improving trends in the Company's gold, platinum and acquired
portfolios offset by seasoning in its low line product portfolio. The increase
in delinquencies from the second quarter of 1999 reflects the seasoning of the
Company's lower line asset classes.
<TABLE>
<CAPTION>
September 30
-------------------------------------------------------------------------
1999 1998
-------------------------------------------------------------------------
% of % of
Total Total
(Dollars in thousands) Loans Loans Loans Loans
------------ ------- --------- -------
<S> <C> <C> <C> <C>
Reported:
Loans outstanding $ 9,520,735 100.00% $ 4,987,023 100.00%
Loans delinquent:
30 - 59 days $ 186,547 1.96% $ 96,409 1.93%
60 - 89 days 133,714 1.40% 62,062 1.24%
90 or more days 257,821 2.71% 126,523 2.54%
----------- ------- ---------- -------
Total $ 578,082 6.07% $ 284,994 5.71%
=========== ======= =========== =======
Managed:
Loans outstanding $18,356,168 100.00% $11,778,186 100.00%
Loans delinquent:
30 - 59 days $ 319,267 1.74% $ 219,754 1.87%
60 - 89 days 219,201 1.19% 139,127 1.18%
90 or more days 415,887 2.27% 260,889 2.21%
----------- ------- ----------- -------
Total $ 954,355 5.20% $ 619,770 5.26%
=========== ======= =========== =======
</TABLE>
Net Credit Losses
Net credit losses for consumer loans include the principal amount of losses
from customers unwilling or unable to pay their existing loan balances
(including charged-off bankrupt and deceased customer accounts), less current
period recoveries. Principal amounts include cash advances, purchases, and
certain financed membership services revenue and exclude accrued finance charge
and other fee income, which is charged against the related income at the time of
credit loss recognition. Losses for cardholder accounts related to fraudulent
activity are included in other non-interest expense.
The annualized managed net credit loss rate decreased to 6.40% for the
third quarter of 1999, compared to 7.77% for the same period in 1998, reflecting
an improved credit loss rate on acquired portfolios. The managed net credit loss
rates for the first nine months of 1999 and 1998 were 7.01% and 7.38%. The
seasoning of the Company's lower line asset classes noted previously is expected
to result in a reversal of the favorable loan loss trend the Company has enjoyed
during the first three quarters of 1999, with the managed net credit loss rate
expected to rise back to the 7% range during the fourth quarter of 1999. The
Company's pricing for finance charge and fee income incorporates an expected
higher credit loss rate when appropriate, consistent with the Company's efforts
to generate income using a risk adjusted return approach.
The following table presents the Company's net credit losses and credit
loss rates for consumer loans for the periods indicated and is presented both on
a financial statement reporting basis and a managed portfolio basis:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
------------------------------------------------------------------------------
(Dollars in thousands) 1999 1998 1999 1998
----------------- ----------- ------------ ------------
<S> <C> <C> <C>
Reported:
Average loans outstanding $ 8,994,243 $ 4,793,697 $ 7,697,174 $ 4,393,731
Net credit losses $ 130,720 $ 114,429 $ 358,346 $ 258,418
Net credit losses as a percentage
of average loans outstanding 5.81% 9.55% 6.21% 7.84%
Managed:
Average loans outstanding $17,262,469 $11,584,774 $15,470,891 $11,131,223
Net credit losses $ 276,398 $ 225,089 $ 813,593 $ 616,303
Net credit losses as a percentage
of average loans outstanding 6.40% 7.77% 7.01% 7.38%
</TABLE>
Allowance and Provision for Credit Losses
The Company maintains the allowance for credit losses at a level believed
to be adequate to absorb future credit losses, net of recoveries, inherent in
the existing on-balance sheet portfolio. The allowance for credit losses is
maintained for on-balance sheet loans only (see "--Managed Consumer Loan
Portfolio and the Impact of Securitization"). The entire allowance is allocated
to designated portfolios or pools of the Company's on-balance sheet loans.
The following table sets forth the activity in the allowance for credit
losses for the periods indicated.
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
----------------------------------------------------------------------
(Dollars in thousands) 1999 1998 1999 1998
------------- ---------- ------------ -----------
<S> <C> <C> <C> <C>
Balance at beginning of period $ 675,224 $ 355,789 $ 451,245 $ 145,312
Provision for credit losses 288,279 168,217 725,574 343,724
Reserve acquired - (500) 14,310 178,459
Credit Losses (148,995) (123,962) (414,783) (279,877)
Recoveries 18,275 9,533 56,437 21,459
----------- --------- ---------- ----------
Net credit losses (130,720) (114,429) (358,346) (258,418)
----------- --------- ---------- ----------
Balance at end of period $ 832,783 $ 409,077 $ 832,783 $ 409,077
=========== ========= =========== ==========
Allowance for credit losses to loans at period-end 8.75% 8.20%
</TABLE>
The allowance for credit losses increased to $832.8 million, or 8.75% of
on-balance sheet loans, as of September 30, 1999, from $451.2 million, or 7.86%
of on-balance sheet loans, as of December 31, 1998. The increase in the
allowance for credit losses as a percentage of on-balance sheet loans reflects
an increase in loans under lower line credit card products, which are generally
expected to experience higher credit loss rates (see " -Risk Adjusted Return and
Revenue").
Funding and Liquidity
The Company funds its assets through a diversified mix of funding products
designed to appeal to a broad range of investors. It is the goal of the Company
to generate funding at the lowest cost possible consistent with ensuring prudent
liquidity and interest rate risk management.
The primary goal of liquidity management at the Company is to ensure that
funding will be available to support Company operations in varying business
environments. The Company employs multiple strategies to maintain a strong
liquidity position: diversification of funding sources; dispersion of
maturities; maintenance of committed credit facilities; and maintenance of a
prudent investment portfolio and cash balances.
The Company's approach to funding its assets is to seek diversified
distribution channels for a variety of products. Products offered include retail
and institutional deposits, money market accounts, term federal funds, public
and private asset securitizations and bank notes. Distribution channels include
direct phone and mail, brokerage and investment banking relationships and the
Internet.
The Company offers a wide range of maturity terms for its funding products
(from one week to thirty years). Actual maturity distributions depend on several
factors, including expected asset duration, investor demand, relative costs,
shape of the yield curve, and anticipated issuance in the securitization and
capital markets. Maturities are managed by the types of funding sources employed
and by the rates offered on different products. The Company strives to maintain
a balanced distribution of maturities, avoiding undue concentration in any one
period. The Company monitors existing funding maturities and loan growth
projections to ensure that prudent amounts of backup liquidity are available to
support the maturities, if necessary.
The following table summarizes the contractual maturity of deposits at the
Company as of September 30, 1999 and 1998.
<TABLE>
<CAPTION>
September 30, 1999 September 30, 1998
----------------------------------------------------------------------------------------
Direct Other Total Direct Other Total
(Dollars in thousands) Deposits Deposits Deposits Deposits Deposits Deposits
---------- ---------- ---------- --------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Three months or less $ 516,926 $ 253,515 $ 770,441 $ 301,995 $ 186,922 $ 488,917
Over three months through 12 months 1,719,604 747,968 2,467,572 849,989 315,254 1,165,243
Over one year through five years 1,228,503 1,714,056 2,942,559 678,503 610,865 1,289,368
Over five years - 130,000 130,000 - - -
Deposits without contractual maturity 989,342 53,647 1,042,989 912,176 71,017 983,193
---------- ---------- ---------- ---------- ---------- ----------
Total Deposits $4,454,375 $2,899,186 $7,353,561 $2,742,663 $1,184,058 $3,926,721
========== ========== ========== ========== ========== ==========
</TABLE>
Deposits increased to $7.4 billion as of September 30, 1999 from $4.7
billion as of December 31, 1998. This increase is attributable to the Company's
continuing strategy to maintain a large deposit funding base and strong demand
for FDIC-insured deposits.
During the first nine months of 1999, the Company, through one of its
banking subsidiaries, issued $630 million senior bank notes, increasing
long-term borrowings to a total of approximately $1.0 billion as of September
30, 1999 from $400 million as of December 31, 1998. The following table shows
the Company's unsecured funding availability and outstandings as of September
30, 1999.
<TABLE>
<CAPTION>
September 30, 1999
-------------------------------------------------------------
Effective/ Outstanding, Final
(Dollars or dollar equivalents in thousands) Issue Date Availability (1) Net Maturity
---------- --------------- ------------- --------
<S> <C> <C> <C> <C>
Senior and subordinated Bank Note program (2)(4) 2/98 $ 4,000,000 $ 1,029,360 2/13
Short-term credit facilities (four 364 day facilities)(3) Various 290,300 16,200 Various
Long-term credit facility 1/99 1,000,000 -- 1/03
Providian Financial shelf registration 6/98 2,000,000 -- --
Capital Securities 2/97 160,000 160,000 2/27
</TABLE>
(1) Short-term Bank Notes issued under the Bank Note program and Short-term and
Long-term credit facilities are revolving funding sources. Funding
availability is subject to market conditions.
(2) Includes availability to issue up to $500 million of subordinated bank
notes, none outstanding as of September 30, 1999.
(3) Includes sterling facility, using exchange rate as of September 30, 1999.
(4) Bank Notes currently outstanding under the Bank Note program
are Medium-term senior Bank Notes.
On April 26, 1999, the Company entered into a revolving credit facility to
finance the Company's expansion into the United Kingdom. The UK revolving credit
facility, in the amount of(pound)25 million ($40.3 million equivalent based on
the exchange rate at closing) has an expiration date of April 25, 2000. On April
27, 1999, the Company borrowed(pound)10 million ($16.2 million) under this
facility.
The Company's securitizations are diversified across the public and private
securitization markets and across maturity terms. The primary objectives of
securitization are to diversify funding sources and to obtain efficient all-in
cost of funds, including the cost of capital. The securitized loans are pooled
to provide cash flow for securities sold to investors using legal structures
that generally provide for an interest only (revolving) period and a principal
repayment (amortization or accumulation) period. Under the terms of the
securitizations, once the amortization or accumulation period commences,
payments on the securitized loans are distributed or accumulated for payment to
the securitization investors and the Company's on-balance sheet portion of the
securitized pool of assets will increase.
For diversification and flexibility, in addition to publicly issued term
securities, the Company uses commercial paper-based conduit facilities and other
variable funding programs to securitize loan receivables. The conduit facilities
and variable funding programs are generally renewable annually. Balances
securitized under conduit and variable funding facilities totaled $2.9 billion
as of September 30, 1999.
During the first nine months of 1999, the Company completed two term
securitizations totaling approximately $1.1 billion and one variable funding
program in the amount of $1.0 billion.
The Company's term securitizations are expected to amortize over the
periods indicated below, based on currently outstanding securitized loans as of
September 30, 1999:
Amount
Amortizing
Year (Dollars in millions)
- ---- --------------------
1999 $ 214
2000 951
2001 1,133
2002 1,384
2003 1,360
2004 549
The Company believes that it can attract deposits, borrow funds from other
sources, and issue additional asset-backed securities to replace securitization
funding based on the amortization schedule summarized above, although no
assurances can be given to that effect.
Capital Adequacy
Each of the Company's banking subsidiaries is subject to capital adequacy
guidelines as defined by its primary federal regulator. Core capital (Tier 1)
consists principally of shareholder's equity less goodwill. Total risk-based
capital (Tier 1 + Tier 2) includes a portion of the reserve for credit losses
and other capital components. Based on these classifications of capital, the
capital adequacy regulations establish three capital adequacy ratios that are
used to measure whether a financial institution is "well capitalized" or
"adequately capitalized":
<TABLE>
<CAPTION>
Well Adequately
Capitalized Capitalized
Capital Ratio Calculation Ratios Ratios
- ---------------- ----------------------------------------- ----------- -----------
<S> <C> <C> <C>
Total Risk-Based (Tier 1 + Tier 2)/Total Risk-Based Assets => 10% => 8% < 10%
Tier 1 Tier 1/Total Risk-Based Assets => 6% => 4% < 6%
Leverage Tier 1/Adjusted average assets => 5% => 4% < 5%
</TABLE>
At September 30, 1999, each of the Company's banking subsidiaries was
"well capitalized" in all regulatory capital ratio categories, as set forth
below:
<TABLE>
<CAPTION>
Providian
National Providian
Capital Ratio Bank Bank
- ----------------- ---------- --------
<S> <C> <C>
Total Risk-Based 10.07% 19.47%
Tier 1 8.73% 18.16%
Leverage 10.81% 15.95%
</TABLE>
In accordance with the banking regulators' risk-based capital standards,
the amount of risk-based capital that must be maintained for assets transferred
with recourse will not exceed the maximum amount of recourse for which a
regulated entity is contractually liable under the recourse agreement. This
rule, known as the low level recourse rule, applies to transactions accounted
for as sales under generally accepted accounting principles in which a bank
contractually limits its risk of loss or recourse exposure to less than the full
effective minimum risk-based capital requirement for the assets transferred. Low
level recourse transactions arise when a bank securitizes assets and uses
contractual cash flows (such as interest-only strip receivables and spread
accounts), retained subordinated interests, or other assets as credit
enhancements. The Company's banking subsidiaries are required to hold risk-based
capital equivalent to the maximum recourse exposure on the assets transferred,
on a net of-tax basis, not to exceed the amount of risk-based capital that would
be required if the low level recourse rule did not apply.
Asset/Liability Risk Management
The business of the Company and the composition of its balance sheet
consist primarily of investments in interest-earning assets (loans receivable
and investment securities) which are primarily funded by interest-bearing
liabilities (deposits and borrowings). As a result, the Company's earnings are
subject to risk resulting from interest rate fluctuations to the extent that
there is a difference between the amount of interest-earning assets and the
amount of interest-bearing liabilities that mature, reprice, or prepay/withdraw
in a specific period.
The Company's receivables generally yield either a variable Annual
Percentage Rate ("APR"), indexed to the prime rate, or a fixed APR. The
Company's fixed APR credit card receivables have no stated maturity or repricing
period. However, the Company's credit card receivables may be repriced by the
Company upon providing the required prior notice to the customer, which is
generally no more than 30 days. The interest rates on the Company's liabilities
are generally indexed to LIBOR and bear a fixed rate until maturity. These
characteristics of the Company's receivables and liabilities expose the Company
to two types of interest rate risk: (a) repricing risk, which results from
differences between the timing of rate changes and the timing of cash flows,
which could impact net interest income if liabilities reprice more often than
assets, and (b) basis risk, which arises from changing rate relationships
between yield curves and markets, which could impact net interest income derived
from variable APR receivables if the spread between the prime rate and LIBOR
compresses or expands.
The principal objective of the Company's asset/liability risk management
activities is to monitor and control the Company's exposure to adverse effects
resulting from movements of interest rates over time. The Company measures and
manages interest rate risk individually for each banking subsidiary and on a
consolidated basis, including both on- and off-balance sheet assets and
liabilities in its measurement and management. To measure exposure to interest
rate fluctuation, the Company uses net interest income ("NII") simulation
analysis and the market value of portfolio equity ("MVPE") method as its primary
quantitative tools.
The following table presents the estimated effects of positive and negative
parallel shifts in interest rates as calculated at September 30, 1999 and takes
into consideration the Company's current hedging activity:
<TABLE>
<CAPTION>
September 30, 1999(1)
-------------------------
Change in Interest Rates Percentage Change In
(In Basis Points) -------------------------
NII (2) MVPE (3)
------- --------
<S> <C> <C>
+200 (1.6)% (8.6)%
Flat 0% 0%
- -200 2.1% 10.5%
</TABLE>
(1) The information shown is presented on a consolidated, managed
asset/liability basis, giving effect to securitizations and related
funding.
(2) The percentage change in this column represents NII for 12 months in a
stable interest rate environment versus the NII in the specified rate
scenarios.
(3) The percentage change in this column represents the MVPE in a stable
interest rate environment versus the MVPE in the specified rate scenarios.
MVPE is defined as the present value of expected net cash flows from
existing assets, minus the present value of expected net cash flows from
existing liabilities, plus the present value of expected net cash flows
from existing off-balance sheet transactions.
As part of its interest rate risk measurement process, the Company must
make reasonable estimates about how its customers and competitors will respond
to changes in market interest rates. In addition, the repricing of certain
categories of assets and liabilities is subject to competitive and other
pressures beyond the Company's control. As a result, certain assets and
liabilities assumed to mature or otherwise reprice within a certain period may
in fact mature or reprice at different times and at different volumes.
Therefore, the table above should be viewed as the Company's best estimate as to
the general effect of broad and sustained interest rate movements on the
Company's net income.
The Company seeks to mitigate earnings volatility associated with interest
rate movements by generally matching the repricing characteristics of on- and
off-balance sheet assets and liabilities. Fixed rate liabilities generally fund
fixed APR assets, while variable rate liabilities generally fund variable APR
assets. Given the Company-directed repricing characteristics of its credit card
assets and historically favorable funding rates for variable liabilities, the
Company uses variable rate liabilities to fund a portion of its fixed rate
credit card assets.
The Company uses derivative financial instruments, including interest rate
swap and cap agreements, with indices that correlate to managed assets or
liabilities, to modify its indicated net interest sensitivity to levels deemed
appropriate based on the Company's risk tolerance. The objective in using these
hedges is to reduce interest rate risk by more closely aligning the repricing
characteristics of the Company's assets and liabilities.
All hedging transactions are over-the-counter interest rate swap and cap
transactions executed with highly rated United States and international banks
which hedge identified interest rate risks both for accounting and tax purposes.
The Company does not trade in derivatives or use derivatives to speculate on
interest rates or as an investment vehicle. The following table presents the
notional amounts of interest rate swap and cap agreements purchased for the
periods indicated:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
------------------------------------------------------------------------
(Dollars in thousands) 1999 1998 1999 1998
------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Interest rate swap agreements:
Beginning Balance $ 635,500 $ 135,500 $ 635,500 $ 955,500
Additions 115,000 500,000 130,000 666,667
Maturities 10,000 - 25,000 986,667
--------- --------- --------- ---------
Ending Balance $ 740,500 $ 635,500 $ 740,500 $ 635,500
======== ========= ========= =========
Interest rate caps and floors:
Beginning Balance $ 647,709 $ 691,970 $ 670,960 $ 922,220
Additions 96,750 172,481 159,000 504,981
Maturities 98,161 191,720 183,662 754,470
--------- --------- --------- ---------
Ending Balance $ 646,298 $ 672,731 $ 646,298 $ 672,731
========= ========= ========= =========
</TABLE>
Notional amounts of interest rate swaps outstanding have increased to
better match the changing mix of the Company's assets and liabilities. As market
conditions or the Company's asset/liability mix change, the Company may increase
or decrease the notional amount of swaps and caps outstanding in order to manage
the Company's interest rate risk profile.
The Company manages credit risk arising from derivative transactions
through an ongoing credit review, approval, and monitoring process. "Credit
risk" for these derivative transactions is defined as the risk that a loss will
occur as the result of a derivative counterparty defaulting on a contract when
the contract is in a favorable economic position to the Company. The Company may
enter into master netting, market settlement, or collateralization agreements
with swap counterparties to reduce the exposure to credit risk with the
individual counterparty. The Company establishes credit risk limits for each
counterparty based on total net credit exposure to such counterparty. The
Company monitors exposure to counterparty credit risk through sensitivity
testing. Probable worst-case scenarios are considered to determine the maximum
credit risk exposure for derivatives associated with a particular counterparty.
If counterparty credit risk is determined to exceed the pre-established limit,
then action is taken to limit the Company's exposure with that counterparty.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
Beginning in May 1999, the Company was the subject of media coverage
concerning complaints made by some customers of the Company's banking
subsidiaries regarding certain sales and collections practices. Following the
initial media coverage, the San Francisco District Attorney's Office began an
investigation into the Company's sales and collections practices, including the
marketing of certain fee-based products and the posting of customer payments. On
November 5, 1999 the Company received an inquiry from the Connecticut Attorney
General's Office seeking information in connection with a civil investigation
into the Company's credit card issuance and billing practices. The remedies
available to the San Francisco District Attorney's Office and the Connecticut
Attorney General's Office include, but are not limited to, damages, penalties,
fines and/or injunctive relief.
Since May 1999, a number of lawsuits have been filed against the Company
and, in some cases, against certain of the Company's subsidiaries by current and
former customers of the Company's banking subsidiaries. A consolidated putative
class action lawsuit (In re Providian Credit Card Litigation) (the "Consolidated
Action") was filed on August 3, 1999 in California state court in San Francisco
against the Company, Providian National Bank and certain other subsidiaries, and
seeks unspecified damages, including actual and punitive damages, attorney's
fees and injunctive relief. The complaint alleges unfair and deceptive business
practices, including failure to credit payments in a timely fashion that
resulted in the imposition of fees, adding products and charging fees without
customer authorization, changing rates and terms without proper notice or
authorization, and misleading or deceptive sales practices. A few similar
actions filed in other California counties have been transferred to San
Francisco County and coordinated with the Consolidated Action.
As of November 12, 1999, four similar putative class actions were pending
in state courts and seven were pending in federal courts. One state case was
recently filed in San Francisco Superior Court, and will likely be coordinated
with the Consolidated Action. Another state case was filed in San Mateo County,
California; this case was not coordinated with the Consolidated Action, and will
proceed separately. In addition, one putative class action was filed in Cook
County, Illinois. The Company's motion to dismiss this action was granted,
although the plaintiff has until November 15, 1999 to amend the complaint.
Another action was filed in Bullock County, Alabama. The remaining putative
class actions were filed in various federal district courts, and have been
transferred by the Federal Judicial Panel on Multidistrict Litigation to the
Eastern District of Pennsylvania.
These other state and federal actions contain substantially the same
allegations as those alleged in the Consolidated Action; certain of the actions
also allege one or more of the following: that the account agreement with
customers contained unconscionable or improper terms and fees, that statements
sent to customers failed to include Credit Protection and other add-on fees in
the calculation of the annual percentage rate disclosed in such agreements,
refusal to honor cancellation requests, improper obtaining of credit reports,
breached promises to raise credit limits, breached promises of high credit
limits, and unlawful tying of Credit Protection to credit card and other
products.
A putative class action (In re Providian Securities Litigation), which is a
consolidation of complaints filed in the United States District Court for the
Eastern District of New York in June 1999, alleges, in general, that the Company
and certain of its officers made false and misleading statements concerning the
Company's future prospects and financial results in violation of the federal
securities laws. The putative class, which is alleged to have acquired the
Company's stock between January 15, 1999 and May 26, 1999, seeks damages in an
unspecified amount, in addition to pre-judgment and post-judgment interest,
costs and attorneys fees. As of November 12, 1999, the consolidated complaint
had not been filed.
The Company continues to cooperate and have discussions with the San
Francisco District Attorney's Office but there can be no certainty as to the
outcome of those discussions. The Company also has met with and intends to
cooperate with the Connecticut Attorney General's Office. The lawsuits described
above are at a very early stage. No specific measure of damages has been
demanded and, in most cases, a response is not yet due. An informed assessment
of the ultimate outcome or potential liability associated with these matters is
not feasible at this time. Due to the uncertainties of litigation, there can be
no assurance that the Company will prevail on all the claims made against it.
However, management believes that the Company has substantive defenses and
intends to defend the actions vigorously.
In addition, the Company is commonly subject to various other pending and
threatened legal actions arising from the conduct of its normal business
activities. In the opinion of the Company, any liability that is likely to arise
with respect to these additional actions will not have a material adverse effect
on the consolidated financial condition or results of operations of the Company.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits Required by Item 601 of Regulation S-K.
Exhibit 10.1 Series 1999-1 Supplement, dated as of June 1, 1999,
to the Pooling and Servicing Agreement, dated as of
June 1, 1993, as amended, between Providian National Bank,
as Seller and Servicer, and Bankers Trust Company,
as Trustee (incorporated by reference to Exhibit 4.1
to the Providian Master Trust's report on Form 8-K
filed on November 3, 1999).
Exhibit 10.2 Series 1999-2 Supplement, dated as of October 1, 1999.
to the Pooling and Servicing Agreement, dated as of
June 1, 1993, as amended, between Providian National Bank,
as Seller and Servicer, and Bankers Trust Company, as
Trustee (incorporated by reference to Exhibit 4.1 to the
Providian Master Trust's report on Form 8-K filed on
November 3, 1999).
Exhibit 12.1 Computation of Earnings to Fixed Charges and Ratio of
Earnings to Combined Fixed Charges and Preferred Stock
Dividend Requirements.
Exhibit 27.1 Financial Data Schedule
(b) Reports on Form 8-K.
The Company filed a report on Form 8-K on November 1, 1999 with
respect to its Medium Term Note Program.
(e) Ratio of Earnings to Fixed Charges and Ratio of Earnings to
Combined Fixed Charges and Preferred Stock Dividend Requirements.
<TABLE>
<CAPTION>
Nine Months
Ended
September 30, Year Ended December 31
(Dollars in thousands) 1999 1998 1997 1996 1995 1994
---- ---- ---- ---- ---- ----
<S>
EARNINGS TO FIXED CHARGES: <C> <C> <C> <C> <C> <C>
Excluding interest on deposits 9.26 10.88 14.20 5.93 4.90 5.17
Including interest on deposits 3.13 2.93 2.66 2.34 2.34 2.69
EARNINGS TO COMBINED FIXED CHARGES
AND PREFERRED STOCK: (1)
Excluding interest on deposits 9.26 10.88 13.28 5.19 4.32 4.40
Including interest on deposits 3.13 2.93 2.63 2.25 2.24 2.51
(1) Preferred stock dividend requirements are adjusted to represent a pretax
earnings equivalent.
</TABLE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Providian Financial Corporation
-------------------------------
(Registrant)
Date: November 15, 1999 /s/ David J. Petrini
--------------------------
David J. Petrini
Executive Vice President and
Chief Financial Officer
(Principal Financial Officer
and Duly Authorized Signatory)
Date: November 15, 1999 /s/ Daniel Sanford
---------------------------
Daniel Sanford
Senior Vice President and
Controller (Chief Accounting
Officer and Duly Authorized
Signatory)
<PAGE>
EXHIBIT INDEX
Exhibit No.
Exhibit 10.1 Series 1999-1 Supplement, dated as of June 1, 1999,
to the Pooling and Servicing Agreement, dated as of June 1,
1993, as amended, between Providian National Bank, as Seller
and Servicer, and Bankers Trust Company, as Trustee
(incorporated by reference to Exhibit 4.1 to the Providian
Master Trust's report on Form 8-K filed on November 3, 1999).
Exhibit 10.2 Series 1999-2 Supplement, dated as of October 1, 1999, to the
Pooling and Servicing Agreement, dated as of June 1, 1993, as
amended, between Providian National Bank, as Seller and
Servicer, and Bankers Trust Company, as Trustee (incorporated
by reference to Exhibit 4.1 to the Providian Master Trust's
report on Form 8-K filed on November 3, 1999).
Exhibit 12.1 Computation of Earnings to Fixed Charges and Ratio of Earnings
to Combined Fixed Charges and Preferred Stock Dividend
Requirements.
Exhibit 27.1 Financial Data Schedule
<TABLE>
PROVIDIAN FINANCIAL CORPORATION
Select Financial Data
<CAPTION>
Nine Months
Ended
September 30 Year Ended December 31
------------ -------------------------------------------------------
(Dollars in thousands) 1999 1998 1997 1996 1995 1994
--------- ------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
a. Ratio of Earnings to Fixed Charges
INCLUDING INTEREST ON DEPOSITS:
EARNINGS:
Income before income taxes $651,527 $490,563 $311,300 $257,251 $214,863 $175,203
Fixed charges 306,185 254,006 187,843 192,536 160,183 103,926
-------- ------- -------- -------- -------- --------
Earnings, for computation purposes $957,712 $744,569 $499,143 $449,787 $375,046 $279,129
======== ======== ======== ======== ======== ========
FIXED CHARGES:
Interest on borrowings $ 71,088 $ 42,931 $ 18,858 $ 49,208 $ 52,732 $ 39,739
Interest on deposits 227,302 204,335 164,252 140,361 105,151 61,920
Portion of rents representative of the
interest factor 7,795 6,740 4,733 2,967 2,300 2,267
-------- -------- -------- -------- -------- --------
Fixed charges, including interest on deposits,
for computation purposes $306,185 $254,006 $187,843 $192,536 $160,183 $103,926
======== ======== ======== ======== ======== ========
Ratio of earnings to fixed charges, including
interest on deposits 3.13 2.93 2.66 2.34 2.34 2.69
EXCLUDING INTEREST ON DEPOSITS:
EARNINGS:
Income before income taxes $651,527 $490,563 $311,300 $257,251 $214,863 $175,203
Fixed charges 78,883 49,671 23,591 52,175 55,032 42,006
-------- --------- -------- -------- -------- --------
Earnings, for computation purposes $730,410 $540,234 $334,891 $309,426 $269,895 $217,209
======== ========= ======== ======== ======== ========
FIXED CHARGES:
Interest on borrowings $ 71,088 $ 42,931 $ 18,858 $ 49,208 $ 52,732 $ 39,739
Portion of rents representative of the
interest factor 7,795 6,740 4,733 2,967 2,300 2,267
-------- --------- -------- -------- -------- --------
Fixed charges, excluding interest on deposits,
for computation purposes $ 78,883 $ 49,671 $ 23,591 $ 52,175 $ 55,032 $ 42,006
======== ========= ======== ======== ======== ========
Ratio of earnings to fixed charges, excluding
interest on deposits 9.26 10.88 14.20 5.93 4.90 5.17
b. Ratio of Earnings to Combined Fixed Charges and Preferred Stock Dividend Requirements
INCLUDING INTEREST ON DEPOSITS:
EARNINGS:
Income before income taxes $651,527 $490,563 $311,300 $257,251 $214,863 $175,203
Fixed charges 306,185 254,006 187,843 192,536 160,183 103,926
-------- -------- -------- -------- -------- --------
Earnings, for computation purposes $957,712 $744,569 $499,143 $449,787 $375,046 $279,129
======== ========= ======== ======== ======== ========
FIXED CHARGES AND PREFERRED STOCK:
DIVIDEND REQUIREMENTS
Interest on borrowings $ 71,088 $ 42,931 $ 18,858 $ 49,208 $ 52,732 $ 39,739
Interest on deposits 227,302 204,335 164,252 140,361 105,151 61,920
Portion of rents representative of the
interest factor 7,795 6,740 4,733 2,967 2,300 2,267
-------- --------- -------- -------- -------- --------
Fixed charges, including interest on deposits,
for computation purposes $306,185 $254,006 $187,843 $192,536 $160,183 $103,926
Preferred stock dividend requirements - - 1,636 7,397 7,397 7,397
-------- --------- -------- -------- -------- -------
Fixed charges and preferred stock dividend
requirements, including interest on deposits,
for computation purposes $306,185 $254,006 $189,479 $199,932 $167,580 $111,322
======== ========= ======== ======== ======== ========
Ratio of earnings to fixed charges and
preferred stock dividend requirements,
including interest on deposits 3.13 2.93 2.63 2.25 2.24 2.51
EXCLUDING INTEREST ON DEPOSITS:
EARNINGS:
Income before income taxes $651,527 $490,563 $311,300 $257,251 $214,863 $175,203
Fixed charges 78,883 49,671 23,591 52,175 55,032 42,006
-------- -------- -------- -------- -------- --------
Earnings, for computation purposes $730,410 $540,234 $334,891 $309,426 $269,895 $217,209
======== ========= ======== ======== ======== ========
FIXED CHARGES AND PREFERRED STOCK:
DIVIDEND REQUIREMENTS
Interest on borrowings $ 71,088 $ 42,931 $ 18,858 $ 49,208 $ 52,732 $ 39,739
Portion of rents representative of the
interest factor 7,795 6,740 4,733 2,967 2,300 2,267
-------- --------- -------- -------- -------- --------
Fixed charges, excluding interest on deposits,
for computation purposes $ 78,883 $ 49,671 $ 23,591 $ 52,175 $ 55,032 $ 42,006
Preferred stock dividend requirements - - 1,636 7,397 7,397 7,397
-------- --------- -------- -------- -------- --------
Fixed charges and preferred stock dividend
requirements, excluding interest on deposits,
for computation purposes $ 78,883 $ 49,671 $ 25,227 $ 59,571 $ 62,429 $ 49,402
======== ========= ======== ======== ======== ========
Ratio of earnings to fixed charges and
preferred stock dividend requirements,
excluding interest on deposits 9.26 10.88 13.28 5.19 4.32 4.40
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS FINANCIAL INFORMATION EXTRACTED FROM THE CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS OF PROVIDIAN FINANCIAL CORPORATION AND
SUBSIDIARIES FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND IS QUALIFIED IN ITS
ENTIREY BY REFERENCE TO SUCH CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 253,732
<SECURITIES> 378,072
<RECEIVABLES> 9,490,083
<ALLOWANCES> 832,783
<INVENTORY> 0
<CURRENT-ASSETS> 0 <F1>
<PP&E> 127,916
<DEPRECIATION> 0 <F2>
<TOTAL-ASSETS> 11,734,108
<CURRENT-LIABILITIES> 0 <F1>
<BONDS> 0
0
0
<COMMON> 954
<OTHER-SE> 1,162,602
<TOTAL-LIABILITY-AND-EQUITY> 11,734,108
<SALES> 0
<TOTAL-REVENUES> 2,803,625
<CGS> 0
<TOTAL-COSTS> 1,128,134
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 725,574
<INTEREST-EXPENSE> 298,390
<INCOME-PRETAX> 651,527
<INCOME-TAX> 260,623
<INCOME-CONTINUING> 390,904
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 390,904
<EPS-BASIC> 2.77
<EPS-DILUTED> 2.69
<FN>
<F1> Non-classified balance sheet
<F2> PP&E shown net
</FN>
</TABLE>
