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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _______ TO _______
COMMISSION FILE NUMBER 1-041077
T&W FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
WASHINGTON 91-1844249
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
6416 PACIFIC HIGHWAY EAST, TACOMA, WASHINGTON 98424
(253) 922-5164
(Address and telephone number of principal executive offices)
Securities registered pursuant to
Section 12(b) of the Act:
Common Stock, $.01 Par Value per share Nasdaq National Market
(Title of class) (Name of each exchange
on which registered)
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.
The aggregate market value of 2,921,041 shares of the Registrant's Common Stock
held by non-affiliates based upon the closing price of the Registrant's Common
Stock on the Nasdaq National Market on March 24, 1999 was approximately $23
million. For purposes of this computation, all officers, directors and 5 percent
beneficial owners of the Registrant are deemed to be affiliates. Such
determination should not be deemed an admission that such officers, directors
and beneficial owners are, in fact, affiliates of the Registrant.
There were 8,396,516 shares of Common Stock, $.01 par value outstanding as of
March 24, 1999.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's definitive Proxy Statement for the 1999 Annual
Meeting of Shareholders ("the Proxy Statement") are incorporated herein by
reference into Part III.
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T&W FINANCIAL CORPORATION
INDEX TO FORM 10-K
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Part I
Item 1. Business.............................................................. 3
Item 2. Properties............................................................ 12
Item 3. Legal Proceedings..................................................... 12
Item 4. Submission of Matters to a Vote of Security Holders................... 12
Part II.
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters. 12
Item 6. Selected Financial Data............................................... 12
Item 7. Management's Discussion and Analysis of Consolidated
Financial Condition and Results of Operations......................... 13
Item 8. Financial Statements.................................................. 15
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosures.................................. 22
Part III
Item 10. Directors and Executive Officers of the Registrant.................... 22
Item 11. Executive Compensation................................................ 22
Item 12. Security Ownership of Certain Beneficial Owners and Management........ 22
Item 13. Certain Relationships and Related Transactions........................ 22
Part IV
Item 14. Exhibits and Reports on Form 8-K...................................... 23
Signatures ...............................................................................24
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PART I
ITEM I. BUSINESS
OVERVIEW
T&W Financial Corporation ("T&W" or "the Company") is a specialized
commercial finance company that provides equipment financing, principally in the
form of leases, to small and medium-sized businesses. The Company originates
leases through direct relationships with equipment providers that generally
offer the Company's leasing services as a preferred method of financing
equipment sales. The Company also originates leases through referrals from
financial institutions and other lessors. The Company is primarily a "credit
lender" and, as such, its underwriting policies and procedures focus on the
creditworthiness of the lessee rather than the value of the equipment financed.
The Company concentrates on "prime credits," which it defines as lessees that
have been under the same ownership for at least 10 years and have a record of
meeting their financial obligations. T&W has been continuously engaged in the
leasing business since 1976, and as of December 31, 1998, the Company's
portfolio of leases serviced totaled $600.9 million and included over 13,800
leases.
The Company focuses on financing equipment with a purchase price of less
than $250,000 ("small ticket" equipment leases) in various industries, including
fast food franchises, independent grocery stores, funeral homes, hospitality,
liquid waste disposal and commercial auto rental. As of December 31, 1998, these
six industries accounted for approximately 36.7% of the Company's portfolio of
leases serviced. The Company finds these industries attractive because lessees
in these industries generally have credit characteristics favored by the Company
and the equipment financed is generally not subject to obsolescence within the
lease term. By utilizing dedicated marketing teams to service and expand its
penetration within a particular industry, the Company is able to develop
long-term relationships with equipment providers, which generates a continuing
source of new lease originations. The Company maintains a diversified portfolio
in order to minimize its credit exposure to any single industry or individual
lessee. As of December 31, 1998, no single industry accounted for more than
14.5% of the Company's portfolio of leases serviced and no single lessee
accounted for more than 2.2% of its portfolio of leases serviced. The average
annualized yield on the Company's portfolio of leases serviced for the year
ended December 31, 1998 was 11.8%. For leases originated in 1998, the average
contractual yield was 11.5%, the average term was 42 months, and the average
equipment cost was $85,000.
The Company attributes its strong financial performance to adherence to a
consistent operating strategy. The Company's operating strategy is to: (i)
provide on-going, high quality service and support to equipment providers and
lessees; (ii) maintain strong credit quality; (iii) access low-cost funding
through securitizations; and (iv) maintain efficient operations and relatively
low overhead costs. The Company believes that its operating strategy provides
multiple opportunities for continued growth. The Company's growth strategy is
to: (i) finance additional types of equipment in industries it currently serves;
(ii) develop strategic alliances with leading equipment providers to finance a
higher share of their equipment sales; (iii) continue expansion within its
existing industries throughout the United States and Canada; (iv) generate
additional equipment and non-equipment financing from its existing lessees and
from referral sources; (v) pursue selected acquisitions of other companies to
expand in existing and enter into new industries; and (vi) develop relationships
in new industries.
COMMERCIAL FINANCE INDUSTRY
The equipment financing industry in the United States has grown rapidly
during the last decade and includes a wide range of entities that provide
funding for the purchase of equipment. According to research by the Equipment
Leasing Association using United States Department of Commerce data, the
financing of capital equipment by businesses through leasing increased from
approximately $122 billion in 1992 to approximately $179.8 billion in 1997, and
represented approximately 31% of the $582.1 billion spent on productive assets
in 1997.
The Company believes that "small ticket" equipment leasing is one of the
most rapidly growing segments of the industry primarily due to: (i) the
increasing acceptance of leasing by small and medium-sized businesses as a means
of financing the acquisition of capital equipment; (ii) the consolidation of the
banking industry, which has led to diminished service to small and medium-sized
businesses; and (iii) the recognition by small and medium-sized businesses that
specialized lease financing companies, such as T&W, can provide faster and more
direct services than traditional financial institutions.
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OPERATING STRATEGY
The Company has operated its business based on adherence to a strategy that
stresses a high level of customer service, strong credit quality, low-cost
funding and efficient operations.
CUSTOMER SERVICE. The Company strives for excellence in service to
equipment providers and lessees. The Company encourages high-quality service by
providing its employees with monthly economic incentives tied to this goal. A
key aspect of the Company's customer service is its ability to process and
respond to credit applications rapidly. T&W's application process is designed to
be simple and easy to understand. The Company typically approves transactions
under $50,000 within 1 to 2 business days and approves transactions greater than
$50,000 within 3 to 5 business days.
The Company is also flexible and willing to work with potential lessees to
create customized financing packages. The Company's expertise within selected
industries allows the Company to customize its leases to fit the needs of
lessees and allows equipment providers to offer integrated sale and financing
transactions. For example, in industries that are seasonal in nature, a step
payment plan may be adopted which ties lease payments to the seasonal nature of
the industry. The term of the Company's leases are also variable, ranging
generally from 12 to 84 months.
STRONG CREDIT QUALITY. The Company concentrates on "prime credits," which
it defines as lessees that have been under the same ownership for at least 10
years and have a record of meeting their financial obligations. As a credit
lender, T&W believes it has differentiated itself from many commercial finance
companies which are asset-based lenders. T&W bases its credit decisions
primarily on the creditworthiness of the lessee and the lessee's owners rather
than the value of the equipment financed. The Company believes its focus on the
creditworthiness of its lessees, plus careful underwriting, have resulted in a
high return on its assets.
LOW COST FUNDING. Securitizations have provided the Company with a
relatively low cost of funds to purchase the equipment that it leases.
OPERATING EFFICIENCY. In addition to providing a high degree of customer
service, the Company believes that operating efficiency is a key factor in
achieving high profitability. Operating efficiency is enhanced by the Company's
focus on marketing through equipment providers in selected industries,
maintaining strong credit quality and centralizing its operations.
GROWTH STRATEGY
The Company's objective is to become one of the leading providers of
equipment lease financing to small and medium-sized businesses in specific niche
industries. The Company believes that it has significant opportunities to expand
its operations as spending on equipment rises and small and medium-sized
businesses increasingly use leasing to finance equipment purchases. The
Company's specific strategies for achieving growth are:
INCREASED EQUIPMENT FINANCING WITHIN INDUSTRIES. Within certain industries,
the Company has strong relationships with equipment providers but these
equipment providers may only provide a portion of the equipment utilized in the
particular industry. The Company believes its expertise in certain industries
provides opportunities to develop relationships with other equipment providers,
thereby expanding the types of equipment financed within a particular industry.
For example, in the horticulture industry the Company provides financing for
horticulture automation equipment, and has recently begun financing other types
of horticulture equipment, such as greenhouses.
Strategic Alliances with Equipment Providers. T&W uses strategic alliances
to expand its presence in existing markets and to develop new market
opportunities. T&W currently uses several types of strategic alliances,
including informal arrangements with equipment providers, T&W's Sales Maximizer
Program and joint ventures.
Informal Arrangements. Informal arrangements with equipment providers
permit T&W to offer its leasing services as the preferred method of financing
equipment sales. T&W has developed relationships with equipment providers in
selected industries pursuant to which T&W's leasing services are provided to
customers under T&W's name or the name of the equipment provider. These
relationships have enabled T&W to expand in particular industries such as
funeral homes and independent grocery stores and to establish relationships in
new industries such as commercial automobile rental companies and health
services.
Sales Maximizer Program. The Sales Maximizer Program is a formal agreement
pursuant to which T&W and selected equipment providers agree to share certain
tax benefits and to cooperate to increase sales. In the Sales Maximizer Program,
a new entity (owned by T&W and the equipment provider) purchases equipment from
the equipment provider and then leases the equipment to the lessee. The Sales
Maximizer Program benefits T&W and the equipment provider because it allows both
to realize certain tax benefits, enables the equipment provider to increase
sales and customer allegiance and allows T&W to enhance its relationship with
the
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equipment provider, increase its share of the equipment provider's sales and
initiate relationships with new lessees. In connection with the program, the
equipment provider assumes a portion of the residual and remarketing risks on
the financed equipment.
Joint Ventures. T&W has entered into a number of joint ventures which it
believes will permit it to increase operations in existing industries, enter new
industries and develop new geographic markets. Typically, T&W owns approximately
60% to 80% of such joint ventures and generally has veto power over any material
decisions. As of December 31, 1998, T&W had invested a total of approximately
$2.2 million in five joint ventures and anticipates additional investments in
joint ventures in the next two years. In most cases, T&W provides its employees,
financing expertise and capital to the joint venture, while the minority owners
provide access to new markets.
Generally, such joint ventures originate leases which will be included in
T&W's securitizations. Such leases are originated by the joint ventures using
the employees and credit underwriting procedures and policies of T&W and such
leases may be held by such joint ventures or T&W prior to securitization. See
"--Underwriting." Certain joint ventures such as Onset Capital Corporation
discussed below, however, may independently underwrite and securitize the
leases.
In February 1998, T&W formed Onset Capital Corporation, a Canadian joint
venture with five offices in Canada, to service the leasing needs of small to
medium-sized businesses throughout Canada. Onset Capital Corporation has 20
employees in Canada with significant experience in small ticket leasing. As of
December 31, 1998, the joint venture had originated, pursuant to its own credit
underwriting procedures and policies, approximately US$27 million of leases.
Onset Capital Corporation completed its first securitization at the end of
February 1999 pursuant to which approximately C$40,000,000 was raised.
In March 1998, T&W formed Commercial Financial Services to engage in the
business of specialized commercial finance and equipment leasing of furniture,
fixtures, equipment and real estate for the retail and wholesale grocery
industry through programs arranged by the co-owner of the joint venture, who is
an experienced former grocery industry executive. T&W made a $100,000 initial
capital contribution for a 65% ownership interest and will furnish the
employees, programs and services for the joint venture. T&W believes that the
joint venture will enable it to expand its lease originations in the grocery
industry throughout the United States.
In July 1998, T&W formed Prime One Capital Company, L.L.C. to provide
automobile fleet leasing to car rental companies. T&W has a 51% interest based
on an initial capital contribution of $100,000 and will furnish the employees,
programs and services for the joint venture. The co-owners are experienced
leasing executives, franchised automobile dealers in the Eastern United States.
T&W believes that Prime One Capital will enable it to expand further into the
business of commercial vehicle leasing.
In July 1998, T&W formed Member Services Company L.L.C. to engage in the
business of specialized commercial finance and equipment leasing for community
banks and their commercial customers using T&W's programs and services. T&W owns
70% of Member Services Company and the co-owner has significant community bank
contacts throughout the Southeastern United States. T&W believes that the
existence of approximately 8,000 independent community banks in the United
States present an opportunity for T&W to obtain additional lease originations
through such bank's existing customers. It is anticipated that T&W will acquire
portfolios of leases from the community banks once the portfolios have been
seasoned.
Acquisition of Accel Financial. T&W Financial Corporation has agreed to
acquire Accel Financial Group ("Accel"), a specialty commercial finance company
based in Vancouver, British Columbia. T&W and Accel are currently joint venture
partners in Vancouver-based Onset Capital Corporation ("Onset"). Onset is a
leading provider of conventional equipment financing to the small-ticket segment
of the Canadian marketplace for Canadian businesses and U.S. vendors and
manufacturers doing business in Canada. Upon approval of the acquisition of
Accel, T&W Financial Corporation would own a majority of Onset with the
remaining minority interest owned by Onset management. A definitive agreement to
consummate the acquisition will be subject to the satisfactory completion of a
due diligence review, removal of all material conditions, all necessary stock
exchange and regulatory approvals, and approvals by Accel's shareholders and
directors.
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Marketing to Selected Industries
Approximately 52.6% of T&W's portfolio of leases serviced as of December
31, 1998 consisted of leases in eleven selected industries where T&W has focused
its marketing efforts:
PORTFOLIO OF LEASES SERVICED AS OF DECEMBER 31, 1998
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INDUSTRY PERCENTAGE OF PORTFOLIO (1)
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Selected Industries:
Automobile Rental ................. 14.5%
Independent Grocery Stores......... 8.2%
Funeral Homes...................... 7.8%
Trucking & Warehousing Companies... 6.8%
Fast Food Franchises............... 3.9%
Aviation Support................... 3.0%
Equipment Rental & Leasing
Companies........................ 2.1%
Health Services.................... 1.7%
Liquid Waste Disposal.............. 1.7%
Medical & Hospital Equipment
Wholesalers........................ 1.6%
Hospitality Companies.............. 1.4%
Other Industries...................... 47.4%
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100.00%
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(1) Percentages are approximate and are based upon Standard Industrial
Classification codes.
The Company focuses its marketing efforts in specific industries where it
develops direct relationships with equipment providers. Relationships with
equipment providers are either based on joint ventures or based on informal
arrangements whereby T&W generally does not pursue relationships with
competitors of the equipment provider and the equipment provider generally does
not promote competitive sources of equipment financing. T&W provides marketing
materials to equipment providers that include the specific equipment provider's
name promoting leasing from T&W as a cost-effective method of financing
equipment purchases. The marketing representatives of the equipment providers
then use such marketing materials as part of their overall sales presentation.
The Company believes that it has developed strong relationships with
equipment providers by providing lessees with excellent customer service,
including a rapid response to credit applications and flexible lease terms that
are tailored to the specific needs of lessees. Equipment providers benefit from
T&W's knowledge of and active participation in their businesses, including joint
marketing efforts and attendance at industry trade shows. As a result, many of
the equipment providers are continuing sources of a significant amount of leases
originated by T&W. The principal industries where T&W has relationships with
equipment providers include fast food franchises, independent grocery stores,
funeral homes, hospitality, liquid waste disposal, horticulture, aviation
support and dairy. Although T&W does not currently rely on brokers to originate
leases it may choose to do so in the future.
Funeral Homes. T&W originates leases for operators of funeral homes. Since
1987, T&W has financed audio and visual equipment used by the funeral home
industry. In December 1997, T&W acquired the Specialty Vehicle Division of
Transamerica which leases hearses and limousines to funeral homes. Other
relationships with equipment providers, such as manufacturers of crematory
equipment and floral refrigeration units are being actively pursued. T&W has
attempted to further increase its visibility in the industry through its
participation in industry trade shows. As of December 31, 1998, leases to
businesses in the funeral home industry represented 7.8% of T&W's portfolio of
leases serviced.
Independent Grocery Stores. T&W originates leases for the purchase of
equipment for use by independent grocery stores through its relationships with
cooperative associations of independent grocery stores and independent grocery
store wholesalers and through its joint venture, Commercial Financial Services.
Such equipment includes refrigeration units, point of sale equipment and
shelving as well as other essential equipment. According to the Progressive
Grocer Annual Report published in April 1997, based on data from the National
Grocers Association, there are currently over 22,000 independent grocery stores
in the United States and, as of December 31, 1997, 98 independent grocery stores
were lessees of T&W. As of December 31, 1998, leases to independent grocery
stores represented 8.2% of T&W's portfolio of leases serviced.
Cooperative associations of independent grocery stores and independent
grocery store wholesalers buy equipment directly from manufacturers at a
discount for resale to independent grocery stores, allowing the independent
grocer to purchase equipment at a price similar to that paid by supermarket
chains. T&W has developed strong but non-exclusive relationships with several
leading cooperatives and wholesalers, including Associated Foods and Super
Value. These cooperatives and wholesalers refer independent
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grocery stores to T&W, promoting it as one of their recommended financial
service providers. T&W's relationship with cooperatives and wholesalers began in
1972 when Michael A. Price, the founder of T&W, started working with equipment
manufacturers who provide equipment to cooperatives and wholesalers for resale
to independent grocery stores. T&W actively participates in the independent
grocery store industry through its membership in the National Grocers
Association, Ohio Grocers Association and Oregon Grocery Industry Association,
and its participation in industry trade shows.
T&W has expanded its financing opportunities by providing financing not
only for equipment purchases by independent grocery stores but also for facility
construction and expansion. T&W believes that such expansion complements its
existing leasing products and provides significant opportunities for additional
financings for its existing lessees.
Fast Food Franchises. Since 1992, T&W has originated equipment leases to
recognized fast food franchises, including Mrs. Fields and Subway. T&W is an
approved lender for these franchises. Typically, the franchisor provides not
only the equipment necessary for the franchisee's business, but also access to
potential financing sources for such equipment. Such equipment includes ovens,
fryers, refrigeration units and point of sale equipment. T&W believes that the
nature of the franchisor/franchisee relationship reduces the risk that T&W will
suffer losses on leases to fast food franchisees because the franchisor is
generally motivated to find a replacement if the franchisee does not perform. As
of December 31, 1998, leases to fast food franchises represented 3.9% of T&W's
portfolio of leases serviced.
Automobile Rental Companies. T&W originates leases primarily for the
commercial automobile rental market which consists of franchises, licensees,
regional independent car rental agencies and/or small corporate fleets. It also
includes independent rental car agencies that are regional in nature. T&W uses
its fundamental underwriting criteria and minimizes its exposure to equipment
redistribution and unrecovered residuals by entering into manufacturer
repurchase agreements with manufacturers, residual value guarantees by lessees,
other lessee guarantees and by generally limiting lease terms to between nine
and 36 months. As of December 31, 1998, leases to businesses in the commercial
automobile rental industry represented 14.5% of T&W's portfolio of leases
serviced. See "--Strategic Alliances--Joint Ventures."
Health Services. T&W originates leases primarily for the community pharmacy
market, including certain pharmaceutical equipment such as automated pill
dispensing machines and computer software designed to facilitate purchasing
inventory through buying cooperatives. A significant number of these pharmacies
have been in business over ten years and have a consistent track record in their
local communities. In addition, T&W is working with multiple manufacturers to
minimize its equipment redistribution risk through remarketing agreements and/or
repurchase agreements. As of December 31, 1998, leases to businesses in the
health services industry represented 1.7% of T&W's portfolio of leases serviced.
Hospitality. Since 1987, T&W has originated leases from hoteliers and hotel
franchisees for equipment acquisitions through its relationship with hotel
management companies such as West Coast Hotels and hotel franchises such as
Holiday Inns. Historically, T&W has financed telephone and reservation systems;
however, T&W has recently begun to finance equipment for "food courts" i.e.,
clusters of fast food franchises located in hotels. T&W actively participates in
the hospitality industry through participation in industry trade shows. As of
December 31, 1998, leases to businesses in the hospitality industry represented
1.4% of T&W's portfolio of leases serviced.
Liquid Waste Disposal. Since 1989, T&W has originated leases for the
purchase of liquid waste disposal equipment, including storage containers
ranging in size from portable toilets to portable holding tanks. T&W actively
participates in liquid waste disposal industry trade shows and is a member of
the Portable Sanitation Association International.
T&W has developed a strong relationship with a leading manufacturer of
portable toilets, which actively markets T&W to its customers. T&W anticipates
expanding its business with this manufacturer through its Sales Maximizer
Program discussed above.
T&W also originates leases for sewer and septic cleaning and maintenance
equipment for franchisees. T&W is a recommended financing service company for a
national sewer and septic cleaning and maintenance franchisor. As of December
31, 1998, leases to businesses in the liquid waste disposal industry represented
1.7% of T&W's portfolio of leases serviced.
Other Industries. Approximately 60.8% of T&W's portfolio of leases serviced
as of December 31, 1998 consisted of leases originated through direct contacts
with equipment providers and equipment users in a wide variety of other
industries, as well as through referrals. T&W believes that it has the
opportunity to develop significant new originations in these other industries.
Consequently, T&W's marketing personnel are constantly developing contacts in
new industries and expanding contacts within industries already serviced by T&W.
See "--Business Strategy--Strategic Alliances."
In addition to its focus on specific industries, T&W originates leases
based on referrals from existing lessees, regional and community banks, other
financial institutions and other lessors who are unwilling to provide financing
to certain lessees or may not
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have the underwriting, servicing or financial capability to do so. A number of
regional and community banks refer business to T&W rather than refer the
business to competing banks. T&W has developed strong relationships with a
number of the regional and community banks and other financial institutions in
the Northwest. T&W is a member of the Washington Bankers Association and
actively participates in its conferences and meetings. T&W pays a referral fee
to the referring bank or lessor.
In addition to its focus on specific industries, the Company originates
leases based on referrals from existing lessees, regional and community banks,
other financial institutions and other lessors, who are unwilling to provide
financing to the lessee or may not have the underwriting, servicing or financial
capability to do so. A number of regional and community banks refer business to
the Company rather than refer the business to competing banks. The Company has
developed strong relationships with a number of the regional and community banks
and other financial institutions in the Northwest. The Company is a member of
the Washington Bankers Association and actively participates in its conferences
and meetings. A referral fee is paid to the referring bank or lessor.
TERMS OF EQUIPMENT LEASES
Substantially all equipment leases acquired or originated by T&W are
non-cancelable by the lessee. During the term of the lease, T&W generally
receives scheduled payments sufficient, in the aggregate, to cover T&W's
borrowing costs and the costs of the underlying equipment and to provide T&W
with an acceptable profit margin. The term of the lease is less than or equal to
the equipment's estimated economic life and generally ranges from 6 to 84
months.
The standard terms and conditions of T&W's leases require lessees to: (i)
use the equipment in a careful manner and make all necessary repairs; (ii) bear
the entire risk of loss, theft, damage or destruction of the equipment; (iii)
insure the equipment against loss, theft, damage or destruction; (iv) pay all
charges and taxes associated with the equipment; and (v) make all scheduled
contract payments regardless of loss, theft, damage or destruction of the
equipment. T&W's standard forms of lease provide that in the event of a default
by the lessee, T&W may, at its election: (i) repossess and remove the equipment
for re-lease or subsequent sale; (ii) require the lessee, at its expense, to
return the equipment in good repair to such place as T&W may specify; (iii)
cancel or terminate the lease and retain any and all prior payments; (iv)
accelerate the future payments due under the lease; and (v) sue for and recover
from the lessee the sum of all unpaid rents and other payments due under the
lease then accrued. All additions, repairs or improvements made to the
equipment, regardless of the source of payment, are automatically incorporated
into and deemed a part of the equipment and belong to T&W.
Generally, T&W requires the lessee and its owners to guarantee that T&W
will receive a specific amount of proceeds upon sale of the underlying equipment
at the end of the lease term. The terms of the guarantee require the lessee to
pay T&W in cash any deficiency between the guaranteed amount of sale proceeds
and the actual amount of sale proceeds. See "Risk Factors--Residual Values of
Leased Equipment" and "--Vendor Bankruptcy and Vendor Concentration."
UNDERWRITING
The Company has developed credit underwriting procedures and policies that
it believes are effective in identifying creditworthy lessees and minimizing the
risk of delinquency and charge-offs. T&W reviews individual leases for
compliance with lease underwriting guidelines prepared by T&W's Credit
Committee, currently consisting of T&W's Chairman, President, Senior Vice
President of Operations and Chief Credit Officer, and Assistant Vice
President-Credit Operations. In addition, all of T&W's joint ventures, with the
exception of Onset Capital Corporation, use T&W's credit underwriting staff and
follows its procedures and policies when originating leases.
CREDIT PROCEDURES. The lessee approval process begins with the submission
by the lessee of a credit application, at which time the Company conducts its
own independent credit investigation through recognized commercial credit
reporting agencies such as Dun & Bradstreet, Equifax, Inc. and Experian. The
credit application is then reviewed by the Assistant Vice President-Credit
Operations. Credit applications involving more than $40,000 but less than
$100,000 must be reviewed by two members of the Company's Credit Committee.
In order to provide prompt service, the Company generally approves the
application within 1 to 2 business days of receipt if the transaction is for
less than $50,000 and within 3 to 5 business days if the transaction is for
$50,000 or more. The Company believes the response time for approval of a credit
application is usually important to the lessee, because the Company's leases
typically involve equipment important to the operation of the lessee's business.
After an application has been approved, the Company requires receipt of
signed documents on the Company's standard forms, or other pre-approved forms,
before funding. Once the equipment is shipped and installed, the equipment
provider invoices the Company, and thereafter the Company's funding and
documentation department verifies that the lessee has received and accepted the
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equipment. Upon the lessee's authorization of payment to the equipment provider,
the lease is forwarded for funding, accounting and billing.
CREDIT POLICIES. The Company's lease underwriting guidelines generally
require verification of the lessee's time in business (10 years is the preferred
minimum), corporate name, bank account information, a credit investigation of
the personal credit of the owners, partners or principals of the lessee, and at
least three trade references. Most credit applications are evaluated under a
credit grading model which serves as an indicator for further evaluation by the
Company's Credit Committee.
The Company's credit grading model is based on the following factors
relating to the lessee: (i) length of time in business; (ii) primary standard
industrial classification code number or industry classification; (iii) the
lessee's bank account generally over the last three months, the bank's rating of
the customer, bank loan payment history and length of relationship with the
bank; (iv) trade payment history; (v) length of relationship with trade
references; (vi) landlord payment history; (vii) the lessee's status with the
Secretary of State of its state of incorporation; (viii) personal credit history
of the lessee's owner(s) or principal(s); (ix) the lessee's Dun & Bradstreet
rating; and (x) the payment history with the Company, if any. Each factor is
allocated a score from one through five by the Company. After scoring each
factor, an average is taken of the scores for each of the factors. If the
average is three or greater the Company will generally approve the credit
application. If the average is less than three, the Company may still evaluate
the credit application based on a determination by the approving authority who
may approve or deny the credit. Usually an approval granted on a score under
three receives some type of credit enhancement such as automatic checking
deduction for monthly payments. However, the application must be further
evaluated by an additional member of the Company's Credit Committee, who may
approve or deny the credit application.
Transactions involving more than $50,000 also require the submission of two
years of financial statements and an interim financial statement. If year-end
financial statements are not audited or reviewed, corresponding tax returns are
required. Personal tax returns of the owners or principals of the lessees are
also required. Transactions involving $100,000 or more require an additional
year of financial statements. In addition, the Company evaluates certain
financial aspects of the lessee specific to the particular transaction,
including its debt to equity ratios, cash flow and equity coverage, assets,
sales, inventory, accounts receivable and accounts payable, based on industry
standards formulated by Robert Morris and Associates. The Company generally
requires personal guarantees by the principals or owners of the lessee.
The Company adheres to strict guidelines in order to preserve lessee and
industry diversity within its portfolio of leases serviced, thus minimizing the
risk associated with lessee location, lessee obligation and industry cycles.
Diversification standards are also imposed by the Company's securitization
programs. As of December 31, 1998, no single industry accounted for more than
14.5% of its portfolio of leases serviced and no single lessee accounted for
more than 2.2% of the Company's portfolio of leases serviced. In connection with
the Company's securitizations, reviews of the Company's underwriting standards
and procedures are conducted by insurers and rating agencies.
SERVICING AND ADMINISTRATION
The Company's strategy has been to retain the servicing rights for
substantially all of the leases it originates. The Company's lease servicing
activities generally include: billing; collecting and remitting lease payments;
contacting delinquent obligors; handling obligor defaults; recording security
interests; investor and securitization reporting; portfolio management
reporting; conducting foreclosure proceedings; disposing of foreclosed
properties and otherwise administering the leases. As of December 31, 1998, the
Company serviced over 13,800 leases.
The Company receives a monthly servicing fee for all leases, plus late
fees, if any, which are collected from monthly lease payments.
COLLECTION PROCEDURES AND POLICIES
The Company manages its risk of credit losses through adherence to its
underwriting guidelines and prompt and diligent collection procedures. All
collection activity is entered into a computerized collection system with
activity notes entered directly into the collection system in order to
facilitate routine collection activity. Collectors have available at their
computer terminals the latest status and collection history on each account.
The Company's practice with respect to collections is as follows: on the
day on which a lease becomes 10 days delinquent, T&W's credit and collection
review system generates a computerized late notice which is sent directly to the
lessee. Telephone contact is normally initiated when an account is 15 days past
due, but may be initiated more quickly. A late charge is assessed to the lessees
20 days after the payment due date. When an account becomes 30 days past due, a
default letter is sent to the lessee and to anyone providing personal guarantees
on the lease. An acceleration letter is sent to all lessees and guarantors when
a lease becomes 40 days
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<PAGE> 10
past due. Telephone contact is continued throughout the delinquency period.
Accounts which become over 90 days past due are subject to repossession of the
equipment and action by the Company's agencies and attorneys. The Company
utilizes two outside companies who specialize such collection proceeding and
have been working for the Company for the last 12 years. Prior to being
charged-off (which is generally prior to the lease being 180 days delinquent),
each lease is evaluated on the merits of its specific circumstances, with
consideration of the value of the equipment as well as the current financial
strength of the lessee and guarantors.
The following table sets forth certain information with respect to the
Company's delinquent leases:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------------------
1996 1997 1998
------- ------- -------
<S> <C> <C> <C>
Delinquencies as a percentage of the average
portfolio of leases serviced 31-60 days past
due.......................................... 2.89% 6.32% 1.73%
61-90 days past due ......................... 1.38% .53% .42%
91-120 days past due ........................ 0.32% .59% 1.46%
Over 120 days ............................... 1.04% 1.74% 1.87%
------- ------- -------
Total ....................................... 5.63% 9.18% 5.48%
======= ======= =======
</TABLE>
As a result of the Company's credit underwriting policies and collection
procedures, the Company's net charge-offs of delinquent leases as a percent of
the net investment in leases has been generally low. The following table sets
forth certain information with respect to the Company's net charge-offs:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------------
1996 1997 1998
------- ------- -------
<S> <C> <C> <C>
Gross charge-offs 1.53% 0.27% 0.70%
Recoveries ....... (0.89%) (0.03%) (0.11%)
------- ------- -------
Net charge-offs(1) 0.64% 0.24% 0.59%
======= ======= =======
</TABLE>
(1) Represents charge-offs (reduced by recoveries), divided by the
respective period's average minimum lease payments, including residuals,
under all leases serviced by the Company and either held as direct
financing leases or sold.
The allowance for credit losses is maintained by the Company at a level
that it believes is sufficient to absorb probable losses. The Company determines
the adequacy of the allowance based upon reviews of individual leases,
historical loss experience, current economic conditions, the known and inherent
risk characteristics of the various categories of leases and other pertinent
factors. Leases determined uncollectible are charged to the allowance.
Provisions for losses and recoveries on leases previously charged-off are added
to the allowance.
MANAGEMENT INFORMATION SYSTEM
The Company's servicing operations are currently operated on a local area
network. Management continually evaluates the need to update and expand its
current systems. Such program includes upgrading and enhancing the Company's
current software application programs. The Company is evaluating certain
document imaging technologies and direct Internet communications with equipment
providers and lessees. Such technology would allow equipment providers and
lessees to communicate directly with the Company, including submitting lease
applications, checking the status of applications and leases and printing
documents remotely. Management believes that such technologies will increase the
efficiency of the Company's underwriting and servicing operations. See
Management's Discussion and Analysis of Consolidated Financial Condition and
Results of Operations. Year 2000 for a discussion of management information
system upgrades and enhancements.
SERVICE MARK
"T&W" is a service mark of the Company and is registered for use in the
United States. The Company's name is regarded as a valuable asset.
COMPETITION
The "small ticket" equipment leasing market is highly competitive. The
Company competes with a number of national, regional and local finance
companies, equipment providers that provide financing for the sale or lease of
equipment themselves and traditional financial services companies, such as
commercial banks and savings and loan associations, many of whom possess
substantially greater financial, marketing and operational resources than the
Company. In addition, the Company's competitors and potential
Page 10
<PAGE> 11
competitors include many larger, more established companies which may have a
lower cost of funds than the Company and access to capital markets and to other
funding sources that may be unavailable to the Company.
EMPLOYEES
At December 31, 1998, the Company had 181 full-time employees, of which 69
were engaged primarily in marketing and product origination, 50 were engaged
primarily in servicing and the remaining were engaged in various other clerical
and administrative functions. Of the total number of employees at such date, 111
were located at the Company's headquarters in Tacoma, Washington, 30 were
located in Canada, 18 were located at facilities near Kansas City, Missouri, 4
were located in Marietta, Georgia and 11 were located in Coral Springs, Florida.
None of the Company's employees is subject to a collective bargaining agreement,
and the Company believes that its relations with its employees are good.
ITEM 2. PROPERTIES
Presently, the Company's corporate headquarters are located in leased
office space of approximately 7,800 square feet at 6416 Pacific Highway East,
Tacoma, Washington. The landlord is Michael A. Price. The lease terminates on
May 18, 2003, and requires monthly rental payments of $9,450, which will
continue until the current construction of additional office facilities adjacent
to the Company's existing corporate headquarters is completed. These new
facilities are expected to be completed by the end of March 1999 and will add
approximately 25,000 square feet of office space. Michael A. Price will also be
the landlord on the new premises, and the Company expects the lease will extend
through March 2003, and that the monthly rental payments will be approximately
$28,125. Additionally, the Company recently began leasing office space of
approximately 2,300 square feet from an unrelated third party for $2,200 per
month. The Company will continue to lease its existing space as well as the new
premises.
The Company also leases an aggregate of approximately 2,800 square feet of
space for two adjoining facilities near Kansas City, Missouri. The leases on
these facilities require aggregate monthly rental payments of $3,020 and expire
on October 31, 2001.
The Company believes that its current and new facilities will provide
adequate space for its future needs.
ITEM 3. LEGAL PROCEEDINGS
The Company initiated a lawsuit against several defendants on February 28,
1997 in the Superior Court of Pierce County in Tacoma, Washington seeking
approximately $940,000 plus interest and legal fees in connection with a
fraudulent scheme perpetrated by one of the defendants who subsequently pled
guilty to federal criminal charges and was sentenced to prison. The Company has
recovered approximately $550,000 to date.
In addition to the litigation noted above, the Company is, from time to
time party to various claims, lawsuits, and administrative proceedings arising
in the ordinary course of business. Although the ultimate dispositions of legal
proceedings cannot be predicted with certainty, to the best knowledge of the
Company, there is no litigation or claim threatened against the Company that is
likely to have a material adverse effect on its business, financial condition or
results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of the Company's security holders
during the fourth quarter ended December 31, 1998.
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<PAGE> 12
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's common stock is listed on the Nasdaq National Market under
the symbol "TWFC". The stock prices listed below for the fourth quarter of 1997
and the four quarters of 1998 are the high and low bid prices as quoted on the
Nasdaq National Market System.
<TABLE>
<CAPTION>
High Low
----- -----
<S> <C> <C>
Fourth Quarter ended December 31, 1997 $17.00 $15.50
First Quarter ended March 31, 1998 $28.75 $14.75
Second Quarter ended June 30, 1998 $29.00 $23.25
Third Quarter ended September 30, 1998 $37.25 $13.125
Fourth Quarter ended December 31, 1998 $14.50 $ 6.25
</TABLE>
On March 24, 1999, the closing price of the common stock on the Nasdaq
National Market System was $8.00 per share. As of March 23, 1999, there were
approximately 1,547 holders of record of the Company's common stock.
The Company has declared no cash dividends on its common stock. The Company
intends to retain earnings for use in its business and to support growth and
does not anticipate paying cash dividends on its common stock in the foreseeable
future. There were no sales of unregistered securities by the Company during the
year ended December 31, 1998.
ITEM 6. SELECTED FINANCIAL DATA
For selected financial data see information under the caption "Management
Discussion and Analysis of Financial Condition and Results of Operations" under
Part II, Item 7 of this Form 10-K on page 15.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
This annual report contains primarily statements regarding T&W's historical
performance, and such statements should not be interpreted to indicate how T&W
will perform in future periods. This annual report also contains forward-looking
statements regarding management's expectations and goals in future periods.
These statements are subject to certain risks and uncertainties that could cause
actual results to differ materially from those anticipated in the
forward-looking statements, including, but not necessarily limited to T&W's
ability to manage growth and credit risk, retain key personnel and effectively
change its securitization policy, Year 2000 compliance and general economic
conditions. Such risks and uncertainties could cause results for 1999 and for
subsequent periods to differ materially from those indicated in this annual
report. Readers should not place undue reliance on such forward-looking
statements, which reflect management's view only as of the date hereof. T&W
undertakes no obligation to publicly revise these forward-looking statements to
reflect subsequent events or circumstances. For a discussion of additional
factors which could affect T&W's performance, please see the risk factors
described in documents T&W files from time to time with the Securities and
Exchange Commission and T&W's press releases.
OVERVIEW
The leases that the Company originates are "direct financing" leases in
that they transfer substantially all of the benefits and risks of equipment
ownership to the lessee. A lease is classified as a direct financing lease for
accounting purposes if the collection of the minimum lease payments is
reasonably predictable, no significant uncertainties exist relating to
non-reimbursable costs yet to be incurred by the lessor under the lease and the
lease meets one of the following criteria: (i) ownership of the property is
transferred to the lessee at the end of the lease term; (ii) the lease contains
a bargain purchase option; (iii) the term of the lease is at least equal to 75%
of the estimated economic life of the leased equipment; or (iv) the present
value of the minimum lease payments is at least equal to 90% of the fair value
of the leased equipment at the inception of the lease. Since the Company's
leases are classified as direct financing leases, the Company records total
lease rentals, estimated residual values and initial direct costs as the gross
investment in the lease. The difference between the gross investment in the
lease and the cost of the leased equipment (including initial direct costs) is
recorded as "unearned income." Lease contract income is recognized over the term
of the lease by amortizing the unearned income using the interest method. For
income tax purposes, the Company treats its leases as "true" leases or operating
leases which, through depreciation deductions related to the leased equipment,
generate tax benefits in the early years of the lease term for the Company and
its subsidiaries.
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<PAGE> 13
The Company finances a majority of its lease originations utilizing
securitizations. The Company has utilized several structures in its
securitizations, each designed to reduce the Company's cost of capital or
improve upon existing financing terms. Prior to 1997, the Company's
securitizations, which did not transfer control of the leases, were recorded as
financings for financial reporting purposes. Beginning in 1997, the Company's
securitizations qualified as sales for financial reporting purposes in
accordance with the new accounting standard for the transfer of financial
assets, SFAS No. 125, as control of the leases was transferred. Accordingly,
gain on sale of leases was recognized beginning in 1997. The Company's current
lease securitization structure is a commercial paper based conduit facility in
which the Company contributes its leases (including related residuals) to a
special purpose limited liability entity. Such entity sells the leases to an
owner trust and the owner trust then sells certificates backed by the leases to
an unaffiliated special purpose corporate entity which administers a commercial
paper conduit.
Under financing treatment the Company recorded its net investment in leases
as assets and the funds raised from securitizations as non-recourse notes
payable on its balance sheet. Under sale treatment the only item to appear on
the balance sheet is an asset, the securitization receivable. Under financing
treatment the Company records lease contract revenue and interest expense on the
non-recourse debt. Initial direct costs associated with the origination of
leases are amortized as an expense over the life of the leases and provisions
for credit losses are recorded based upon loss experience. Under sale treatment
the Company records a gain on sale of leases. Initial direct costs associated
with the origination of the leases sold are expensed at the time of the sale and
reduce the reported gain on sale.
The Company sells each pool of leases for a price equal to the present
value of future cash flows, including guaranteed residuals. Upon sale, the
Company receives in cash a substantial portion of the present value of future
cash flows, with the remaining balance held as collateral by the owner trust.
Any such amount is included on the Company's balance sheet as the securitization
receivable. Recourse to the Company in such sales is limited to the extent of
the securitization receivable with respect to the leases sold. The Company
retains the servicing rights and responsibilities for each pool of leases sold
and receives as compensation contractual servicing fees over the life of such
leases.
The Company recognizes gain on the sale of leases at each sale date based
on a determination of the present value of the estimated future amounts to be
realized by the Company in connection with such sale. These estimates consider
all cash flows generated by the leases sold over their life less: (i) trustee
and other transaction related fees; (ii) contractual servicing fees, which are
retained by the Company in its capacity as servicer and are recognized over the
life of the transaction; and (iii) principal and interest payments to purchasers
under the certificates. The securitization receivable is reduced by an allowance
which is estimated by the Company to be adequate to cover future credit losses.
No allowance is made for estimated prepayments, which historically have been
insignificant due to the non-cancelable nature of the leases.
The Company evaluates the carrying value of the securitization receivable
for each sale transaction at the end of each reporting period in light of actual
credit loss experience of the underlying leases sold and would make adjustments
to charge or credit operating results accordingly. To date, the Company has not
recorded any such adjustments. The Company believes that there is currently no
active market for the sale of its securitization receivable.
During the quarter ended December 31, 1998, the Company changed its
securitization policy by retaining more assets on its balance sheet. T&W will
focus on becoming a balance-sheet lender rather than an off-balance sheet
lender, thereby eventually eliminating the use of gain-on-sale accounting.
During the fourth quarter of 1998, T&W sold 66 percent of the leases it
originated. The company's goals for 1999 and 2000 are to sell 65 percent and 35
percent of its originations, respectively, for accounting purposes and be
completely off gain-on-sale accounting in 2001.
Due to the recognition of earnings from the gain resulting from the sale of
the Company's leases, the Company's reported earnings during a particular period
will be impacted by the amount and timing of sales which the Company may
consummate in such future period. Variations in quarterly earnings will depend
on the amount and timing of the completion of such sales.
Page 13
<PAGE> 14
SUMMARY CONSOLIDATED FINANCIAL AND OPERATING DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------
1994 1995 1996 1997 1998
------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Revenues:
Lease contract revenue ......................... $ 7,132 $ 10,621 $ 16,834 $ 14,252 $ 21,520
Gain on sale of leases (1) ..................... -- -- -- 12,111 36,364
Fee income ..................................... 607 1,364 2,067 537 2,809
Servicing and other income ..................... 292 555 595 2,442 4,573
------- -------- -------- -------- --------
Total revenues ......................... 8,031 12,540 19,496 29,342 65,266
------- -------- -------- -------- --------
Expenses:
Interest expense ............................... 2,589 4,513 6,434 7,675 9,752
Compensation and related expenses .............. 1,484 1,796 2,859 3,270 6,332
Amortization of initial direct costs ........... 848 1,320 1,893 3,021 4,100
Provision for credit losses .................... 223 621 1,137 1,581 5,249
Other general and administrative expenses ...... 601 807 1,345 2,633 9,247
------- -------- -------- -------- --------
Total expenses ......................... 5,745 9,039 13,668 18,180 34,680
------- -------- -------- -------- --------
Income before minority interest and income taxes 2,286 3,501 5,828 $ 11,162 $ 30,586
Minority interest .............................. -- -- -- (585) (4,358)
------- -------- -------- -------- --------
Income before income taxes ..................... 2,286 3,501 5,828 10,577 26,228
Provision for income taxes ..................... -- -- -- (3,700) (9,442)
------- -------- -------- -------- --------
Net income ....................................... $ 2,286 $ 3,501 $ 5,828 $ 6,877 $ 16,786
======= ======== ======== ======== ========
Net income per share ............................. $ 0.42 $ 0.64 $ 1.06 $ 1.14 $ 2.00
======= ======== ======== ======== ========
Weighted average number of shares of Common Stock
and Common Stock equivalent shares
outstanding ................................... 5,504 5,504 5,504 6,010 8,393
======= ======== ======== ======== ========
</TABLE>
(1) Beginning in 1997, the Company's securitizations qualified as sales for
financial reporting purposes.
SUMMARY CONSOLIDATED FINANCIAL AND OPERATING DATA
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------------------------------------------
1994 1995 1996 1997(1) 1998(6)
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents ... $ 4,145 $ 4,323 $ 8,064 $ 16,619 $ 11,394
Net investment in leases .... 56,060 90,359 135,087 148,954 167,516
Securitization Receivable ... -- -- -- 25,296 49,001
Total assets ................ 61,242 96,051 144,437 209,197 251,036
Notes payable -- recourse ... 11,481 8,833 32,272 76,065 103,758
Notes payable -- non-recourse 36,014 67,686 89,975 60,317 29,624
Deferred income taxes ....... -- -- -- 8,200 17,642
Total liabilities ........... 53,775 86,501 134,140 161,313 182,089
Minority interest ........... -- -- -- 7,183 11,271
Shareholders' equity ........ 7,467 9,550 10,297 40,701 57,676
</TABLE>
Page 14
<PAGE> 15
<TABLE>
<CAPTION>
AS OF OR FOR THE YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------------
1994 1995 1996 1997 1998(6)
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
OPERATING DATA:
Lease financing Receivables
Originated
Number of contracts ................. 1,488 1,370 3,630 4,473 6,900
Lease originations(2) ............... $ 34,290 $ 55,348 $ 80,638 $ 210,442 $ 361,223
Leases serviced
Number of contracts ................. 3,517 4,086 6,983 9,812 13,898
Portfolio of leases
serviced(3) ....................... $ 61,797 $ 97,772 $ 148,086 $ 323,581 $ 600,933
Average portfolio
yield(4) .......................... 16.1% 14.7% 15.2% 12.2% 11.8%
Credit quality statistics Delinquencies
as a percentage of portfolio of
leases serviced
31--60 days ....................... 2.52% 1.50% 2.89% 6.32% 1.73%
61--90 days ....................... 0.42% 0.86% 1.38% .53% .42%
91--120 days ...................... 0.15% 0.78% 0.32% .59% 1.46%
Over 120 days ..................... 0.90% -- 1.04% 1.74% 1.87%
----------- ----------- ----------- ----------- -----------
Total ........................ 3.99% 3.14% 5.63% 9.18% 5.48%
Net charge-offs(5) .................. 0.02% 0.39% 0.64% .24% .59%
</TABLE>
(1) Includes assets and liabilities of Commercial Capital and the Transamerica
Specialty Vehicle Finance Division.
(2) Represents the equipment cost (or the acquisition cost in the case of
Commercial Capital and Transamerica Specialty Vehicle Finance Division)
for leases originated during the period.
(3) Represents the aggregate of minimum lease payments, excluding residual
values, under all leases serviced by the Company held as direct financing
leases and leases sold to special purpose entitites ("SPEs").
(4) Represents the average yield recognized during the period for the portfolio
of leases serviced, excluding leases acquired from Transamerica valued at
fair market value using the Company's cost of funds rate at the date of
acquisition. The average portfolio yield of all leases serviced including
Transamerica leases is 11.0%. (Transamerica acquisition occurred in 1997.)
(5) Represents charge-offs (reduced by recoveries), divided by the respective
period's average net investment, including residuals, under all leases
serviced in the Company and either held as direct financing leases or
sold.
(6) Includes the operations of newly formed joint ventures from their
inception.
RESULTS OF OPERATIONS
The Company's revenues are comprised of lease contract revenue, gain on
sale of leases, fee income, and servicing and other income. Lease contract
revenue is the revenue recognized from the net investment in leases held. Gain
on sale of leases is the revenue recognized under sale treatment for leases
securitized. Fee income represents security deposits which are recognized as
income upon lease expirations and commitment fees received upon the origination
of leases. Servicing and other income includes contractual servicing fees, late
fees and interest income.
The Company's expenses are comprised of interest expense, compensation and
related expenses, amortization of initial direct costs, provisions for credit
losses and other general and administrative expenses. Interest expense includes
the expense related to notes payable and the amortization of related debt
issuance costs. Compensation and related expenses include salaries and bonuses
for employees and management fees to affiliates. Amortization of initial direct
costs relates to costs associated with originating leases, including
commissions, which are amortized over the period of the leases. Provisions for
credit losses are provided based on estimated future credit losses. Other
general and administrative expenses include trustee, legal and other
professional fees, and occupancy and other office-related expenses.
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997.
Leases originated increased from $210.4 million for the year ended December 31,
1997 to $361.2 million for the comparable period in 1998, representing an
increase of 71.7%. The number of leases originated increased from 4,473 for the
year ended December 31, 1997 to 6,900 for the comparable period in 1998.
Page 15
<PAGE> 16
This increase in dollar volume and the number of leases originated was due to an
increase in the average ticket size in 1998 over the 1997 period and expanded
business in the Company's niche markets. The average annualized yield of the
portfolio of leases serviced decreased from 12.2% for the year ended December
31, 1997 to 11.8% for the comparable period in 1998. This decrease in yield
resulted primarily from (i) the reduction in the average estimated residual
income inherent in lease contracts originated in 1998 and (ii) the impact of the
Company's continuing focus on relatively larger lease transactions involving
lessees with relatively stronger credit (and hence lower implicit interest
rates) including high volume equipment provider programs.
The portfolio of leases serviced increased from $323.6 million at December
31, 1997 to $600.9 million at December 31, 1998, representing an increase of
85.7%. This increase was due to an increase in lease originations.
Lease contract revenue increased from $14.3 million for the year ended
December 31, 1997 to $21.5 million for the comparable period in 1998,
representing an increase of 50.3%, due primarily to an increased average net
investment in leases owned during the 1998 period.
Gain on sale of leases increased from $12.1 for the year ended December 31,
1997 to $36.4 million for the comparable period in 1998, representing an
increase of 200.8%, due primarily to an increase in securitizations that
qualified for gain on sale treatment under SFAS 125.
Fee income increased from $537,000 for the year ended December 31, 1997 to
$2.8 million for the comparable period in 1998, representing an increase of
423.1%. This increase was due primarily to the Company's increased focus on
generating fees for services provided during 1998.
Servicing and other income increased from $2.4 for the year ended December
31, 1997 to $4.6 million for the comparable period in 1998, representing an
increase of 91.7%, due primarily to servicing income received from the SPEs.
Total revenues increased from $29.3 million for the year ended December 31,
1997 to $65.3 million for the comparable period in 1998, representing an
increase of 122.9%.
Interest expense increased from $7.7 million for the year ended December
31, 1997 to $9.8 million for the comparable period in 1998, representing an
increase of 27.3%. The increase was due to increased average borrowings
outstanding during the 1998 period as compared to the prior year.
Compensation and related expenses increased from $3.3 million for the year
ended December 31, 1997 to $6.3 million for the comparable period in 1998,
representing an increase of 90.9%. The increase was due primarily to the
increase in the number of employees as the Company continues to increase its
portfolio of leases serviced.
Amortization of initial direct costs increased from $3.0 million for the
year ended December 31, 1997 to $4.1 million for the comparable period in 1998,
representing an increase of 36.7%. The increase was due primarily to an
increased average net investment in leases during the 1998 period over the
comparative prior year period. Additionally, initial direct costs, relative to
the investment in leases, increased from December 31, 1996 to December 31, 1997,
which resulted in increased amortization charges during the 1998 period as
compared to the prior year.
The provision for credit losses increased from $1.6 million for the year
ended December 31, 1997 to $5.2 million for the comparative period in 1998,
representing an increase of 225.0%. This increase was due to increased lease
originations.
Other general and administrative expenses increased from $2.6 million for
the year ended December 31, 1997 to $9.2 million for the comparable period in
1998, representing an increase of 253.8%. This increase was due primarily to
increased depreciation related to an increase in the Company's assets, increased
amortization as a result of the Company's acquisitions in 1997 and costs
associated with supporting the Company's growth.
Total expenses increased from $18.2 million for the year ended December 31,
1997 to $34.7 million for the comparable period in 1998, representing an
increase of 90.7%.
As a result of the above factors, net income increased from $6.9 million
for the year ended December 31, 1997 to $16.8 million for the comparable period
in 1998, an increase of 143.5%.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996.
Leases originated increased from $80.6 million for the year ended December 31,
1996 to $159.5 million for the comparable period in 1997, representing an
increase of 97.9%. The number of leases originated decreased from 3,630 for the
year ended December 31, 1996 to 2,677 excluding the Transamerica purchase, for
the comparable period in 1997. This increase in dollar volume and the decrease
in the number of leases originated was due to an increase in the average ticket
size in 1997 over the 1996 period. During the year ended December 31, 1996, the
Company
Page 16
<PAGE> 17
originated a relatively high volume of leases having a small average ticket size
to businesses in the funeral home industry. The average annualized yield of the
portfolio of leases serviced decreased from 15.2% for the year ended December
31, 1996 to 12.2% for the comparable period in 1997. This decrease in yield
resulted primarily from (i) the reduction in the average estimated residual
income inherent in lease contracts originated in 1997 and (ii) the impact of the
Company's continuing focus on relatively larger lease transactions involving
lessees with relatively stronger credit (and hence lower implicit interest
rates) including high volume equipment provider programs.
The portfolio of leases serviced increased from $148.1 million at December
31, 1996 to $323.6 million at December 31, 1997, representing an increase of
118.5%. This increase was due to an increase in lease originations and the
acquisition of the Specialty Vehicle Finance Division of Transamerica.
Lease contract revenue decreased from $16.8 million for the year ended
December 31, 1996 to $14.3 million for the comparable period in 1997,
representing a decrease of 14.9%, due primarily to a decreased average net
investment in leases owned during the 1997 period.
As described above, in 1997, the Company's securitizations have
predominantly been structured as sales for financial reporting purposes, rather
than as financing transactions as was the case in prior years. During the year
ended December 31, 1997, the Company recognized a gain on sale of $12.1 million.
Fee income decreased from $2.1 million for the year ended December 31, 1996
to $537,000 for the comparable period in 1997, representing a decrease of 74.4%.
This decrease was due primarily to the decline of security deposits recognized
as income upon lease expiration. Commencing in late 1996, the Company began to
credit security deposits to customers at lease expiration rather than retaining
and recognizing such deposits as income.
Servicing and other income increased from $595,000 for the year ended
December 31, 1996 to $2.4 million for the comparable period in 1997,
representing an increase of 303.4%, due primarily to income received from the
owner trust principally related to interest rate collar agreements during 1997.
Total revenues increased from $19.5 million for the year ended December 31,
1996 to $29.3 million for the comparable period in 1997, representing an
increase of 50.3%.
Interest expense increased from $6.4 million for the year ended December
31, 1996 to $7.7 million for the comparable period in 1997, representing an
increase of 20.3%. The increase was due to increased average borrowings
outstanding during the 1997 period as compared to the prior year as well as
increased interest rates in 1997 due to the fixing of interest rates associated
with a substantial portion of the borrowings in 1997.
Compensation and related expenses increased from $2.9 million for the year
ended December 31, 1996 to $3.3 million for the comparable period in 1997,
representing an increase of 13.8%. The increase was due primarily to the
increase in the number of employees as the Company continues to increase its
portfolio of leases serviced and an increase in management fees paid to PLM
from $2.6 million for the year ended December 31, 1997 to $3.4 million for the
comparable period in 1998.
Amortization of initial direct costs increased from $1.9 million for the
year ended December 31, 1996 to $3.0 million for the comparable period in 1997,
representing an increase of 57.9%. The increase was due primarily to an
increased average net investment in leases during the 1997 period over the
comparative prior year period. Additionally, initial direct costs, relative to
the investment in leases, increased from December 31, 1995 to December 31, 1996,
which resulted in increased amortization charges during the 1997 period as
compared to the prior year.
The provision for credit losses increased from $1.1 million for the year
ended December 31, 1996 to $1.6 million for the comparative period in 1997,
representing an increase of 45.5%. This increase was due to increased lease
originations offset by a decrease in the provision rate (as a percentage of
originations) due to improved actual loss experience.
Other general and administrative expenses increased from $1.3 million for
the year ended December 31, 1996 to $2.6 million for the comparable period in
1997, representing an increase of 100%. The increase was due primarily to
increased trustee and legal fees incurred during the 1997 period, a significant
portion of which relates to the most recent securitization structure, and to
increased occupancy and related costs associated with supporting the Company's
growth.
Total expenses increased from $13.7 million for the year ended December 31,
1996 to $18.2 million for the comparable period in 1997, representing an
increase of 32.8%.
Page 17
<PAGE> 18
As a result of the above factors, net income before minority interest and
income taxes increased from $5.8 million for the year ended December 31, 1996 to
$11.2 million for the comparable period in 1997, an increase of 93.1%. Net
income increased from $5.8 million for the year ended December 31, 1996 to $6.9
million for the year ended December 31, 1997 or 19.0% as minority interest and
taxes were deducted for the first time in 1997 after the Company's
restructuring.
LIQUIDITY AND CAPITAL RESOURCES
The Company requires a substantial amount of cash to implement its business
strategy, including, without limitation, cash to: (i) finance the purchase of
equipment that it leases; (ii) pay the fees and expenses incurred in the
securitization of leases; (iii) pay the fees and interest expense under its bank
lines of credit; (iv) pay operating expenses; and (v) satisfy working capital
requirements. These cash requirements, which have been satisfied through
securitizations, bank borrowings and the initial public offering of the
Company's stock, will increase as the Company's lease originations increase. No
assurance can be given that the Company will have access to the capital markets
in the future for equity or debt issuances or for securitizations or that
financing through bank lines of credit or other means will be available on
acceptable terms to satisfy the Company's cash requirements.
The following table sets forth the major components of the increase in cash
and cash equivalents:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------------
1996 1997 1998
-------- -------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
Net cash provided (used) by operating activities ... $(37,778) $ 24,466 $ 997
Net cash used by investing activities .............. -- (60,225) (2,435)
Net cash provided (used) by financing activities ... 41,519 44,314 (3,787)
======== ======== ========
Net increase (decrease) in cash and cash equivalents $ 3,741 $ 8,555 $ (5,225)
======== ======== ========
</TABLE>
The Company must maintain an adequate level of liquidity to ensure the
availability of sufficient funds to support lease originations and satisfy line
of credit repayment requirements. The Company generally maintains sufficient
cash and short-term investments to meet short-term liquidity needs. At December
31, 1998, cash and cash equivalents totaled $11.4 million (of which $5.3 million
was restricted as to its use by the SPEs) or 4.5% of total assets. At December
31, 1998, the Company maintained various lines of credit which provided for
immediately available advances of up to $180.1 million, and advances under these
lines of credit totaled $95.1 million.
Cash provided by operating activities totaled $1 million for the year ended
December 31, 1998 compared to cash provided by (used for) operating activities
of $24.5 million and $(37.8) million for the years ended December 31, 1997 and
1996, respectively. This source of cash for operating activities in 1998 is
attributed principally to the Company's net income before minority interest,
depreciation, credit loss provision, amortization and deferred taxes, the
non-cash gain on sale of leases of $36.4 million and increases in payables of
$10.9 million. Cash used for equipment purchased for leases originated in these
same periods totaled $361.2 million, $155.8 million and $82.1 million,
respectively. Lease payments received and proceeds from leases sold during the
year ended December 31, 1998 totaled $352.6 million as compared to $196.2
million and $36.6 million in the years ended December 31, 1997 and 1996,
respectively.
Cash used by investing activities totaled $2.4 million for the year ended
December 31, 1998, compared to cash used in investing activities of $60.2
million and $0.0 million for the years ended December 31, 1997 and 1996,
respectively. Cash paid for purchase of equipment totaled $1.5 million for the
year ended December 31, 1998 compared to $0.2 and $0.0 million for the years
ended December 31, 1997 and 1996. Additionally, cash paid for acquisitions
amounted to $60.0 million during the year ended December 31, 1997.
Cash used by financing activities was $3.8 million for the year ended
December 31, 1998, compared to cash provided of $44.3 million and $41.5 million
during the years ended December 31, 1997 and 1996, respectively. Consisting
principally of the $3.0 million used by the Company to reduce its borrowings
under line of credit arrangements to fund lease originations ($312.6 million of
borrowings offset by paydowns of $312.6 million) for the year ended December 31,
1998. This compares to 7.7 million increase ($117.2 million of borrowings offset
by paydowns of $109.5 million)for the year ended December 31, 1997 and a $45.7
million increase ($76.1 million of borrowings offset by paydowns of $30.4
million) for the year ended December 31, 1996. In addition during the year ended
December 31, 1997 proceeds from sale of common stock, net of costs and proceeds
from exercising of stock options provided cash of $37.6 million and $1.2
million, respectively.
Page 18
<PAGE> 19
SECURITIZATIONS. Securitizations involve the pooling of lease receivables
for sale in the secondary market. The primary advantages of securitizations
include: (i) quick access to significant amounts of capital to fund growth in
lease originations; (ii) relatively lower cost of funds than commercial bank
financing; and (iii) greater flexibility with respect to sources of funding.
From 1992 through December 31, 1998 the Company has completed the following
securitizations:
<TABLE>
<CAPTION>
COMMENCEMENT AMOUNT RATING AGENCY SUBORDINATION
DATE LEVEL
- ----------------------- ------------------ ------------------------ ----------------------- -------------------
<S> <C> <C> <C> <C>
April 1992............ $ 12.1 million AA+ Duff & Phelps 20%
May 1993.............. 10.6 million AAA/Aaa S&P/Moody's 13%
June 1994............. 30.0 million A-1/P-1 S&P/Moody's 13%
July 1995............. 90.0 million AAA/Aaa S&P/Moody's 8%
February 1997......... 61.6 million AAA/Aaa S&P/Moody's 8%
October 1997.......... 74.3 million AAA/Aaa Duff & Phelps 2%
March 1998............ 86.0 million AAA/BBB Duff & Phelps/Fitch 2.5%
June 1998............. 117.5 million A-1/P-1 S&P/Moody's 0.0%
September 1998........ 77.4 million AAA/A Duff & Phelps/Fitch 3.0%
December 1998......... 67.5 million A-1/P-1 S&P/Moody's 0.0%
-----------------
TOTAL............ $ 627.0 million
=================
</TABLE>
The Company believes that it was one of the first independent leasing
companies to enter into the asset backed securitization market. During the year
the Company entered into its eighth securitization, which is a $185.0 million
three-year revolving commercial paper based conduit facility with a financial
institution. Under this facility, the Company contributes its leases (including
related residuals) to a special purpose limited liability entity. Such entity
sells the leases to an owner trust and the owner trust then sells certificates
backed by the leases to an unaffiliated special purpose corporate entity which
administers a commercial paper conduit. The transfer and sale of lease
receivables under the commercial paper facility qualified as a sale for
financial reporting purposes under SFAS No. 125 which became effective in 1997.
The Company continually seeks to improve the efficiency of its
securitizations by reducing the Company's cost of capital or improving upon
existing financing terms. In the Company's latest securitization the
subordination level was 0% and the spread was 55 basis points over comparable
United States Treasury securities. The effect of these reduced subordination
levels and spreads has been to decrease the effective cost of the
securitizations to the Company.
The Company has been able to fund substantially all of its lease
originations without impairing its working capital. Cash used for principal
payments on notes payable is principally generated from the monthly lease
payments which are pledged as collateral for the notes.
During the quarter ended December 31, 1998, the company changed its
securitization policy by retaining more assets on its balance sheet. T&W will
focus on becoming a balance-sheet lender rather than an off-balance sheet
lender, thereby eventually eliminating the use of gain-on-sale accounting.
During the fourth quarter of 1998, T&W sold 66 percent of the leases it
originated. The company's goals for 1999 and 2000 are to sell 65 percent and 35
percent of its originations, respectively, for accounting purposes and be
completely off gain-on-sale accounting in 2001.
BANK LINES OF CREDIT. The Company uses bank lines of credit to fund leases
pending inclusion in the Company's securitizations and to fund leases for
retention in the Company's retained portfolio. Borrowings under the lines of
credit are repaid with the proceeds received by the Company from securitizations
and revenue received by the Company from retained leases. The Company will seek
to obtain replacement or additional sources of financing as its current lines of
credit expire or become fully utilized.
The Company currently maintains an aggregate of $180.1 million in secured
lines of credit to finance equipment purchases subject to on balance sheet
direct financing leases. At December 31, 1998, the Company had an aggregate of
$85.0 million available under such lines of credit. These lines of credit
include: (i) a $75.0 million line of credit with First Union Bank, NA under
which interest is payable monthly at the bank's prime rate (this line expires
during November 1999); (ii) a $75.0 million line of credit with Lehman
Commercial Paper, Inc. under which interest is payable monthly at LIBOR plus
0.8% (this line expires in July 1999); (iii) $3.0 million line of credit with
First Community Bank under which interest is payable monthly at the
bank's prime rate plus 1.0% (this line expires in August 1999); (iv) a $7.5
million credit facility with First Union Bank, N.A. under which interest is
payable monthly at LIBOR plus 2.0% (this line is due upon demand); (v) a
Cdn$30.0 million line of credit (US$19.6 million) with CIBC Wood Gundy,
temporarily increased to Cdn$40 million at December 31, 1998 (US$26.1 million)
under which interest is payable at the bank's prime rate plus 0.75% (this line
expires in September 1999). These lines of credit are secured by the on balance
sheet leases and guarantees from PLM and certain members of the Company's
senior management,
Page 19
<PAGE> 20
and limit the amount of funds which may be advanced to the Company to a
percentage of the discounted value of such leases. See Note 5 to T&W Financial
Corporation and Subsidiaries Financial Statements. The Company also maintains an
additional aggregate of $5.5 million in an unsecured line of credit from a bank
and a credit arrangement with PLM to finance internal operations and the
purchase of leases prior to their securitization or placement on "lease-line"
secured credit facilities. At December 31, 1998, the Company had no advances
under these lines.
The Company believes, based on its historical cash requirements and
anticipated uses of cash, that the cash currently available and the cash to be
derived from the Company's operating, investing and financing activities will be
sufficient to meet its cash requirements and implement its business plan through
the end of 2000.
OUTLOOK - ISSUES AND UNCERTAINTIES
IMPACTS OF INFLATION AND CHANGING PRICES -- The consolidated financial
statements and related financial data presented herein have been prepared in
accordance with generally accepted accounting principles, which require the
measurement of financial position and operating results in terms of historical
dollars without considering the change in the relative purchasing power of money
over time due to inflation. The primary impact of inflation is reflected in the
increased cost of the Company's operations. As a result, interest rates
generally have a more significant impact on the Company's performance than do
general levels of inflation. Interest rates do not necessarily move in the same
direction or the same extent as the prices of goods and services.
The Company's profitability is largely determined by the difference or
spread between the effective interest charged by the Company under its leases
and the interest paid by the Company under its lines of credit and
securitizations. The leases underwritten by the Company typically require
payments to be made by the lessee over a one to seven-year term at a fixed rate
of interest that is determined by rates prevailing in the market at the time of
lease approval. The Company finances the purchase of equipment that it leases
primarily through lines of credit and the securitization of pooled leases. All
of such lines of credit and certain of such securitizations require payments by
the Company at variable rates of interest that are subject to frequent
adjustment to reflect rates prevailing in the market for short-term borrowings.
Accordingly, an increase in interest rates due to inflation or other causes
could have a material adverse effect on the Company's financial condition,
results of operations and prospects by reducing or eliminating the spread
between the interest charged by the Company under its leases and the interest
paid by the Company under its credit facilities and variable rate
securitizations. Moreover, an increase in interest rates may cause the Company
to raise the rate of interest that it charges to lessees, thereby reducing the
demand for the Company's lease products. In addition, until the Company
securitizes its leases, it may fund the purchase of equipment and other costs of
such leases from lines of credit and working capital. An increase in interest
rates could have a material adverse effect on the Company's financial condition,
results of operations and prospects by reducing the gain on sale recognized by
the Company in future securitizations.
The Company discounts the estimated future cash flows related to the
securitization receivable at a discount rate that it believes is consistent with
the required risk-adjusted rate of return to an independent third-party
purchaser of the securitization receivable. If prevailing interest rates rise,
the required discount rate might also rise, thus potentially reducing the
securitization receivable and gain on sale in future securitizations.
EFFECT OF RECENTLY ISSUED ACCOUNTING STANDARDS -- In June 1998 the FASB
issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities". SFAS No. 133 requires companies to recognize all derivative
contracts as either assets or liabilities in the balance sheet and to measure
them at fair value. If certain conditions are met, a derivative may be
specifically designated as a hedge, the objective of which is to match the
timing of gain or loss recognition on the hedging derivative with the
recognition of (i) the changes in the fair value of the hedged asset or
liability that are attributable to the hedged risk or (ii) the earnings effect
of the hedged forecasted transaction. For a derivative not designated as a
hedging instrument, the gain or loss is recognized as income in the period of
change. SFAS No. 133 is effective for all quarters of fiscal years beginning
after June 15, 1999. Based on its current and future activities relative to
derivative instruments, the Company believes the adoption of SFAS No. 133 on
January 1, 2000 will not have a significant effect on its financial statements.
In October 1998, the FASB issued SFAS No. 134, "Accounting for
Mortgage-Backed Securities Retained After the Securitization of Mortgage Loans
Held for Sale by a Mortgage Banking Enterprise", which effectively changes the
way mortgage banking firms account for certain securities and other interests
they retain after securitizing mortgage loans that were held for sale. The
adoption of SFAS No. 134 is not expected to have a material impact on the
Company's financial statements.
In February 1999, the FASB issued SFAS No. 135, Rescission of FASB No. 75
and Technical Corrections. SFAS No. 135 rescinds SFAS 75 and amends FASB No. 35.
SFAS 135 also amends other existing authoritative literature to make various
technical corrections, clarify meanings, or describe applicability under changed
conditions. SFAS 135 is effective for financial statements
Page 20
<PAGE> 21
issued for fiscal years ending after February 15, 1999. The Company believes
that the adoption of SFAS 135 will not have a significant effect on its
financial statements.
During the fourth quarter of 1998 and continuing in 1999 and 2000, the
Company has decided to evolve off gain-on-sale accounting; by the year 2001 the
Company should be completely off gain-on-sale accounting. During this process,
annual earnings will be reduced significantly as compared to earnings when
gain-on-sale accounting was utilized.
YEAR 2000
STATE OF READINESS - A significant known operating risk is the year 2000
issue. The year 2000 issue is the result of computer programs that may recognize
the date using "00" as the year 1900 rather than the year 2000. The Company
completed in 1998 and continuously updates the review of its computer systems to
identify systems that could be affected by the year 2000 issue. Based on such
review the Company believes that the majority of all critical business systems
appear to be year 2000 compliant. When the Company changes to a new accounting
software package in third quarter of 1999, all critical business systems should
be year 2000 compliant. The Company has no critical internally developed
software programs that require remediation to become year 2000 compliant. The
Company has no significant embedded technology such as microcontrollers. There
can be no assurance that the Company systems or the system of other companies
will be timely converted or that any such failure to convert by another company
would not have a material adverse effect on the Company's business.
The Company has full executive management support in our effort to (i)
analyze the Year 2000 compliance issues, (ii) create a team to develop and
implement a strategic plan addressing those issues and (iii) provide financial,
technical and staffing resources necessary to ensure all adjustments are made
well before reaching the Year 2000 milestone.
COSTS - The Company has already upgraded its personal computers and other
equipment to maintain year 2000 compliance. Direct costs of year 2000 efforts
are limited to consulting services specifically related to the year 2000 effort,
estimated at less than $50,000 over the next year. Indirect costs may be
incurred through renewal of contracts with third party providers of computer
systems at rates that pass on their costs of year 2000 efforts. While management
believes these cost estimates are achievable, additional substantial costs could
be incurred to resolve unanticipated problems.
RISKS - As a financial intermediary, the Company is reliant on the swift
transfer of funds to and from a wide network of customers, including but not
limited to other financial institutions worldwide. Failure of the payment system
in whole or part would delay the transfer of funds, largely affecting the
ability of the Company to operate effectively. The Company is currently in
process of performing a review of all large credit customers' year 2000
compliance. The Company would experience credit losses resulting from material
adverse effects of the year 2000 issue on its customers.
The Company purchases products and services from over 5,000 vendors. While
there is risk of failure by a vendor to deliver or bill for services provided
due to noncompliance with year 2000 issues, the Company has no one vendor, other
than the third party providers of computer systems discussed above, on which
undue reliance is placed. The Company primarily leases its space and is reliant
on the management of each leased location to ensure year 2000 compliance at its
facilities.
The Company's core lines of business may face different year 2000 risks.
Awareness and remediation of the year 2000 issue in other countries varies
considerably. Lack of preparedness could adversely affect such suppliers, which
could adversely affect the Company. The legal ramifications of year 2000 issues
are difficult to enumerate or value, but potentially the Company could be named
as a party to lawsuits against vendors as a result of year 2000 difficulties.
CONTINGENCY PLANS - The Company and year 2000 staff are in the process of
developing contingency plans in the event of breaks in service for year 2000
difficulties. While there can be no assurance that the Company's systems or
systems of third-party providers will not be adversely affected by year 2000
difficulties, our contingency plans are intended to reduce the impact of such
failures on our customers.
Page 21
<PAGE> 22
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements required by the item are included or incorporated
by reference herein as described at Item 14.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
The Company had no disagreements on accounting or financial disclosure
matters with its independent accountants to report under this Item 9.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information contained under the caption "Election of Directors"
"Information about the Nominees" in the Proxy Statement is incorporated herein
by reference in response to this Item 10.
ITEM 11. EXECUTIVE COMPENSATION
Information contained under the caption "Executive Compensation" in the
Proxy Statement is incorporated herein by reference in response to this Item 11.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information contained under the caption "Beneficial Ownership of Common
Stock" in the Proxy Statement is incorporated herein by reference in response to
this Item 12.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information contained under the caption "Certain Transactions" in the Proxy
Statement is incorporated herein by reference in response to this Item 13.
Page 22
<PAGE> 23
PART IV
ITEM 14. EXHIBITS, AND REPORTS ON FORM 8-K
(a)(1) FINANCIAL STATEMENTS AND SCHEDULES
T&W FINANCIAL CORPORATION AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Certified Public Accountants....................................... F-1
Consolidated Balance Sheets as of December 31, 1997 and 1998............................. F-2
Consolidated Statements of Income for the years ended December 31, 1996, 1997 and 1998... F-3
Consolidated Statement of Shareholders' Equity for the years ended
December 31, 1996, 1997 and 1998....................................................... F-4
Consolidated Statements of Cash Flows for the years ended December 31, 1996,
1997 and 1998.......................................................................... F-5
Notes to Consolidated Financial Statements............................................... F-6
</TABLE>
(a) (2) Financial Statement Schedules
All schedules are omitted because they are not applicable or not
required or because the information is included in the financial
statements or notes thereto or is not material.
(a) (3) Exhibits
See Exhibit Index under the caption "Exhibit Index" on page
41 of this Form 10-K.
(b) REPORTS ON FORM 8-K
During the quarter ended December 31, 1998, the Company filed a
Current Report on Form 8-K dated November 15, 1997 relating to
the acquisition of the Transamerica Specialty Vehicle Finance
Division. An amended Form 8-KA was filed on February 13, 1998
with audited financial statements of the acquired division. No
reports on Form 8-K were filed during the last quarter of fiscal
1998.
(c) EXHIBIT LISTING
<TABLE>
<CAPTION>
Exhibit Description
<S> <C>
10. Employment and Noncompetition Agreement of
Steve R. Warren dated as of January 1, 1998
21. Subsidiaries of Registrant
24. Power of Attorney (included on signature page)
27. Financial Data Schedule
</TABLE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
T&W FINANCIAL CORPORATION
Page 23
<PAGE> 24
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders
T&W Financial Corporation and Subsidiaries
We have audited the accompanying consolidated balance sheets of T&W
Financial Corporation and Subsidiaries (the "Company") as of December 31, 1997
and 1998, and the related consolidated statements of income, shareholders'
equity, and cash flows for each of the three years in the period ended December
31, 1998. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used, and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of T&W
Financial Corporation and Subsidiaries at December 31, 1997 and 1998, and the
results of their operations and their cash flows for each of the three years in
the period ended December 31, 1998 in conformity with generally accepted
accounting principles.
BDO SEIDMAN, LLP
Seattle, Washington
March 24, 1999
F-1
<PAGE> 25
T&W FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
December 31,
-------------------------
1997 1998
-------- --------
<S> <C> <C>
Assets
Cash and cash equivalents $ 16,619 $ 11,394
Dealer floor plans and trade receivables 6,797 9,522
Net investment in leases 148,954 167,516
Securitization receivables 25,296 49,001
Intangible assets, net 3,665 5,260
Other assets 7,866 8,343
-------- --------
Total Assets $209,197 $251,036
======== ========
Liabilities
Trade payables $ 4,313 $ 13,272
Other payables and accrued liabilities 2,794 4,728
Notes payable - recourse 76,065 103,758
Notes payable - nonrecourse 60,317 29,624
Security deposits 9,624 13,065
Deferred income taxes 8,200 17,642
-------- --------
Total Liabilities 161,313 182,089
-------- --------
Minority Interest 7,183 11,271
-------- --------
Commitments and Contingencies
Shareholders' Equity
Preferred Stock -- --
Common Stock and paid-in capital (8,384 and 8,397
Shares issued and outstanding) 28,117 28,306
Retained Earnings 12,584 29,370
-------- --------
Total Shareholders' Equity 40,701 57,676
======== ========
Total Liabilities and Shareholders' Equity $209,197 $251,036
======== ========
</TABLE>
See accompanying notes to consolidated financial statements
F-2
<PAGE> 26
T&W FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------------
1996 1997 1998
-------- -------- --------
<S> <C> <C> <C>
Revenues:
Lease contract revenue $ 16,834 $ 14,252 $ 21,520
Gain on sale of leases -- 12,111 36,364
Fee income 2,067 537 2,809
Servicing and other income 595 2,442 4,573
-------- -------- --------
Total Revenues 19,496 29,342 65,266
-------- -------- --------
Expenses:
Interest expense 6,434 7,675 9,752
Compensation and related expenses 2,859 3,270 6,332
Amortization of initial direct cost 1,893 3,021 4,100
Provision for credit losses 1,137 1,581 5,249
Other general and administrative
expenses 1,345 2,633 9,247
-------- -------- --------
13,668 18,180 34,680
-------- -------- --------
Income before minority interest and
income taxes 5,828 11,162 30,586
Minority Interest -- (585) (4,358)
-------- -------- --------
Income before income taxes 5,828 10,577 26,228
Income Taxes -- (3,700) (9,442)
-------- -------- --------
Net Income $ 5,828 $ 6,877 $ 16,786
======== ======== ========
Earnings Per Share: Basic and Diluted $ 1.06 $ 1.14 $ 2.00
======== ======== ========
Weighted Average Number of shares of
Common Stock and Common Stock
Equivalents Outstanding 5,504 6,010 8,393
======== ======== ========
</TABLE>
See accompanying notes to consolidated financial statements
F-3
<PAGE> 27
T&W FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(IN THOUSANDS)
<TABLE>
<CAPTION>
Common
Stock and
Paid in Retained
Shares Capital Earnings Total
-------- --------- -------- --------
<S> <C> <C> <C> <C>
Balance at January 1, 1996 5,504 $ 3,438 $ 6,112 $ 9,550
Distributions to shareholders -- -- (5,081) (5,081)
Net Income -- -- 5,828 5,828
-------- -------- -------- --------
Balance at December 31, 1996 5,504 3,438 6,859 10,297
Stock options exercised 296 1,162 -- 1,162
Distributions to shareholders -- -- (1,152) (1,152)
Net proceeds from inital --
public offering 2,584 37,615 -- 37,615
Allocation of future tax liability to
minority interest -- (7,500) -- (7,500)
Minority interest created upon
restructuring -- (6,598) -- (6,598)
Net Income -- 6,877 6,877
-------- -------- -------- --------
Balance at December 31, 1997 8,384 28,117 12,584 40,701
Issuance of common stock 13 189 189
Net Income -- 16,786 16,786
-------- -------- -------- --------
Balance at December 31, 1998 8,397 $ 28,306 $ 29,370 $ 57,676
======== ======== ======== ========
</TABLE>
See accompanying notes to consolidated financial statements
F-4
<PAGE> 28
T&W FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------
1996 1997 1998
--------- --------- ---------
<S> <C> <C> <C>
Net Income $ 5,828 $ 6,877 $ 16,786
Adjustments to reconcile net income to net cash
provided (used) by operating activities
Amortization and depreciation 2,108 3,070 5,439
Provision for credit losses 1,137 1,581 5,249
Gain on sale of leases -- (12,111) (36,364)
Minority interest -- 585 4,088
Deferred taxes -- 3,700 9,442
New leases originated (82,066) (155,825) (361,223)
Lease payments received 36,575 59,129 96,378
Initial direct costs incurred (4,324) (7,259) (6,673)
Proceeds from sale of lease portfolio -- 125,158 259,266
Net cash (advances) payments on floor plans -- (585) (2,725)
Net increase in security deposits 1,333 3,521 3,441
Changes in assets and liabilities exclusive of the
effects of business acquisitions:
Increase (decrease) in accounts payable and
other accrued liabilities 1,631 (3,510) 10,893
Other -- 135 (3,000)
--------- --------- ---------
Net Cash Provided (Used) by Operating Activities (37,778) 24,466 997
--------- --------- ---------
Cash Flows From Investing Activities
Purchase of equipment -- (215) (1,456)
Cash received in acquisition net of cash paid -- 28 --
Cash paid in business acquisition -- (60,038) --
Increase in other assets and intangibles -- -- (979)
--------- --------- ---------
Net Cash Used by Investing Activities -- (60,225) (2,435)
--------- --------- ---------
Cash Flows From Financing Activities
Proceeds from recourse and nonrecourse borrowings 76,098 117,187 312,564
Payments on recourse and nonrecourse borrowings (30,368) (109,482) (315,564)
Proceeds from sale of common stock, net of costs -- 37,615 189
Debt issue costs paid (90) (900) (976)
Proceeds from exercising stock options -- 1,162 --
Increase in advance to related party -- (116) --
Distributions to shareholders (4,121) (1,152) --
--------- --------- ---------
Net Cash Provided (Used) by Financing Activities 41,519 44,314 (3,787)
--------- --------- ---------
Net Increase (Decrease) in Cash and Cash Equivalents 3,741 8,555 (5,225)
Cash and Cash Equivalents, beginning of year 4,323 8,064 16,619
--------- --------- ---------
Cash and Cash Equivalents, end of year $ 8,064 $ 16,619 $ 11,394
========= ========= =========
Income Taxes Paid $ -- $ -- $ --
========= ========= =========
Interest Paid $ 6,200 $ 6,600 $ 9,200
========= ========= =========
</TABLE>
See accompanying notes to consolidated financial statements
F-5
<PAGE> 29
T&W FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
T&W Financial Corporation ("T&W" or the "Company") is a specialized
commercial finance company that was formed in November 1997 to provide capital
equipment financing, principally in the form of leases, to commercial entities.
Previously, the Company's operations were part of a group of pass-through
entities, each having primarily the same two individual owners. The assets,
liabilities and operations of these pass-through entities were transferred to
T&W Financial Services Company, L.L.C. ("TWFSC") a newly formed limited
liability company owned 85% by T&W and 15% by T&W Funding Company VI, L.L.C., an
entity owned by T&W's senior management. The Company's operations extend
throughout the United States and Canada, with no significant concentration in
any region except the Pacific Northwest. The Company's headquarters are located
in Tacoma, Washington.
Principles of Consolidation -- These consolidated financial statements
include the accounts and transactions of the Company's subsidiaries and joint
ventures. These consolidated financial statements give retroactive effect to
include the pass-through entities as if they had always been consolidated in a
manner similar to a pooling of interests. A minority interest exists for that
portion of the Company's ownership held directly by T&W Funding Company VI,
L.L.C. and the portion of the Company's subsidiaries and joint ventures owned by
minority shareholders or partners. Significant intercompany transactions and
accounts have been eliminated in consolidation. The operating results of the
former pass-through entities are included in the consolidated financial
statements for 1996 and 1997.
Lease Accounting -- All of the Company's leases are accounted for as direct
financing leases. Under this accounting method, the net present value of future
minimum lease rentals and the estimated residual value of equipment at lease end
are recorded as assets. Lease contract revenue is recognized over the lease term
at a constant rate of return on the Company's net investment in the lease.
Initial direct costs of acquiring a lease are capitalized and amortized over the
lease term in order to produce a constant net rate of return on the net
investment in the lease. Residual values are estimated at the inception of the
lease and evaluated periodically for impairment.
Dealer Floor Plans -- The Company enters into inventory security agreements
with select dealers of limousines, funeral and rental cars. These agreements are
secured primarily by dealer inventory, accounts receivable, equipment and
proceeds from equipment sales. Financed inventory is covered by manufacturer's
repurchase agreements.
Allowance for Credit Losses -- The allowance for credit losses is maintained
at a level the Company believes is sufficient for estimated future losses
related to uncollectible lease receivables. Management estimates the allowance
based upon reviews of individual leases, the level of recourse provided,
historical loss experience, current economic conditions, the known and inherent
risk characteristics of the various categories of leases and other pertinent
factors. Leases determined uncollectible are charged to the allowance.
Provisions for credit losses and recoveries on leases previously charged off are
added to the allowance. Allowances relating to leases sold are removed from the
allowance for credit losses. The Company's allowance for credit losses is based
on estimates and qualitative evaluations. Ultimate losses will vary from current
estimates. These estimates are reviewed periodically and as adjustments, either
positive or negative, become necessary they are reported in earnings in the
period in which they become known.
Cash and Cash Equivalents -- The Company considers all short-term
investments with an initial maturity of three months or less when purchased to
be cash equivalents. Cash received from Special Purpose Entity (the "SPE") lease
receivables is deposited in separate bank accounts. These funds are required to
be utilized to pay SPE debt service and other associated costs, with the balance
being remitted monthly to the Company. Included in cash at December 31, 1997 and
1998 is $8.4 million and $5.3 million of cash which is restricted as to its use
by the SPE's.
Taxes on Income -- Certain of the Company's subsidiaries were pass-through
entities for income tax purposes as defined by applicable provisions of the
Internal Revenue Code and certain statutes and, accordingly, were not subject to
income taxes. The pass-through status of these entities terminated on November
7, 1997 as a result of their acquisition by the Company and concurrent initial
public offering of the Company's common stock.
F-6
<PAGE> 30
The Company and its subsidiaries account for income taxes in accordance with
the provisions of Statement of Financial Accounting Standards ("SFAS") No. 109,
"Accounting for Income Taxes". SFAS No. 109 requires the recognition of deferred
tax assets and liabilities for the expected future income tax consequences of
events that have been recognized in a company's financial statements or tax
return. Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts for income tax purposes using enacted tax
rates in effect in the years in which the temporary differences are expected to
reverse.
Estimates -- The presentation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Fair Value of Financial Instruments -- The carrying amounts of assets and
liabilities, excluding the Company's net investment in leases for which fair
value disclosures are not required, are considered to be reasonable estimates of
fair value because of the short maturity of these items. The carrying amounts of
notes payable are considered to approximate fair value because they bear
interest at relatively recently established market rates or at variable interest
rates which are repriced frequently.
Foreign Currency Translation -- The accounts of the Company's foreign
subsidiary are measured using the local currency as the functional currency.
Assets and liabilities are translated into United States dollars at period-end
exchange rates, and income and expense accounts are translated at average
monthly exchange rates. Net exchange gains or losses resulting from such
translation are, if material, excluded from income and included as a separate
component of shareholders' equity. For the year ended December 31, 1998, an
immaterial translation loss ($6,000) is included in Other general and
administrative expenses in the Consolidated Statements of Income.
Furniture and Fixtures -- Furniture and fixtures (included in other assets)
are stated at cost less accumulated depreciation and depreciated using the
declining balance method over their estimated lives (generally five years).
Concentration of Credit and Financial Instrument Risk -- At December 31,
1998, approximately 52.6% of the Company's lease portfolio consisted of leases
in select industries where the Company has focused its marketing efforts. Of
this percentage approximately 14.5%, 8.2%, 7.8%, 6.8% and 3.9% were in the
commercial auto rental, independent grocery store, funeral, trucking and fast
food franchise industries, respectively. The Company manages its credit risk
through credit standards, limits on exposure, and by monitoring the financial
condition of its lessees. The Company uses a credit scoring system as a guide in
evaluating the credit risk of applicants. The Company generally requires the
leased assets to serve as collateral for the leases and requires all lessees to
provide adequate collateral protection and liability insurance throughout the
base contract term. Additionally, the Company controls its' credit exposure to
any one client or industry by monitoring and limiting such exposure through
additional credit enhancements. Inherent to leasing is the residual value risk
associated with lease contracts. The Company manages this residual risk through
adherence to a residual valuation procedure at lease inception besides having
residual value guarantees. Cash is held primarily in bank accounts and money
market funds with high quality financial institutions and at times deposits
exceed federally insured limits. Cash equivalents are invested in short-term
debt instruments and the limits of credit exposure to any one issuer are
monitored by management.
Impairment of long-lived assets -- The Company evaluates its long-lived
assets for financial impairment, and continues to evaluate them as events or
changes in circumstances indicate that the carrying amount of such assets may
not be fully recoverable. The Company evaluates the recoverability of long-lived
assets by measuring the carrying amount of the assets against the estimated
undiscounted future cash flows associated with them. At the time such
evaluations indicate that the future undiscounted cash flows of certain
long-lived assets are not sufficient to recover the carrying value of such
assets, the assets are adjusted to their fair values.
Geographic Information -- During 1998, the Company established Onset Capital
Corporation ("Onset"), a Canadian joint venture. This joint venture, which is
included in the consolidated financial statements, had assets of $30.0 million
as of December 31, 1998 and revenues of $2.1 million for the year then ended.
F-7
<PAGE> 31
Stock-Based Compensation -- SFAS No. 123, "Accounting for Stock-Based
Compensation," encourages, but does not require companies to record compensation
cost for stock-based employee compensation. The Company has chosen to continue
to account for stock-based compensation utilizing the intrinsic value method
prescribed in Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees". Accordingly, compensation cost for stock options is
measured as the excess, if any, of the fair market price of the Company's stock
at the date of grant over the amount an employee must pay to acquire the stock.
Net Income Per Share -- SFAS No. 128, issued in February 1997, requires
presentation of basic and diluted earnings per share for periods ending after
December 15, 1997. Basic earnings per share are computed by dividing net income
by the weighted average number of common shares outstanding. The computation of
diluted earnings per share is similar to the computation of basic earnings per
share except that the number of shares utilized as the denominator is increased
to include the number of additional common shares that would have been
outstanding if dilutive potential common shares had been issued. The Company's
outstanding options have been considered utilizing the treasury stock method in
calculating diluted earnings per share and would have increased the denominator
by 0, 413 and 17,367 for December 31, 1996, 1997 and 1998, respectively.
Effect of Recently Issued Accounting Standards -- In June 1998, the FASB
issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities". SFAS No. 133 requires companies to recognize all derivative
contracts as either assets or liabilities in the balance sheet and to measure
them at fair value. If certain conditions are met, a derivative may be
specifically designated as a hedge, the objective of which is to match the
timing of gain or loss recognition on the hedging derivative with the
recognition of (i) the changes in the fair value of the hedged asset or
liability that are attributable to the hedged risk or (ii) the earnings effect
of the hedged forecasted transaction. For a derivative not designated as a
hedging instrument, the gain or loss is recognized as income in the period of
change. SFAS No. 133 is effective for all quarters of fiscal years beginning
after June 15, 1999. Based on its' current and future activities relative to
derivative instruments, the Company believes the adoption of SFAS No. 133 on
January 1, 2000 will not have a significant effect on its financial statements.
In October 1998, the FASB issued SFAS No. 134, "Accounting for
Mortgage-Backed Securities Retained After the Securitization of Mortgage Loans
Held for Sale by a Mortgage Banking Enterprise", which effectively changes the
way mortgage banking firms account for certain securities and other interests
they retain after securitizing mortgage loans that were held for sale. The
adoption of SFAS No. 134 is not expected to have a material impact on the
Company's financial statements.
In February 1999, the FASB issued SFAS No. 135, Rescission of FASB No. 75
and Technical Corrections. SFAS No. 135 rescinds SFAS 75 and amends FASB No. 35.
SFAS No. 135 also amends other existing authoritative literature to make various
technical corrections, clarify meanings, or describe applicability under changed
conditions. SFAS No. 135 is effective for financial statements issued for fiscal
years ending after February 15, 1999. The Company believes that the adoption of
SFAS No. 135 will not have a significant effect on its' financial statements.
Reclassifications -- Certain amounts have been reclassified in prior year
financial statements to conform with current year presentations.
NOTE 2. BUSINESS ACQUISITIONS
Effective December 1, 1997, the Company purchased certain assets from
Transamerica Commercial Finance Corporation ("Transamerica") for a purchase
price of $58.6 million. The purchased assets represent the Specialty Vehicle
Finance Division (the "Division") of Transamerica and primarily include lease
receivables, dealer floorplan receivables and dealer and manufacturer contracts.
This transaction has been accounted for utilizing the purchase method of
accounting and accordingly, the purchase price has been allocated to the assets
acquired and liabilities assumed based upon estimates of their fair values. The
results of operations of the Division are included in the Company's financial
statements from the date of acquisition.
F-8
<PAGE> 32
The following table reflects the unaudited pro forma combined operations of
the Company and the acquired Transamerica Division for the years ended December
31, 1996 and 1997 as if the acquisitions had taken place at the beginning of
1996 and 1997, respectively. Appropriate adjustments have been made to reflect
the cost basis used in recording these acquisitions. These unaudited pro forma
results have been prepared for comparative purposes only and do not purport to
be indicative of the results of operations that would have resulted had the
combinations been in effect on the dates referred to above, that have resulted
since the dates of the acquisitions or that may result in the future (in
thousands, except per share amounts):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1996 1997
------- -------
<S> <C> <C>
Revenues $23,515 $33,629
Net income $ 6,028 $ 7,142
Net income per share $ 1.04 $ 1.17
</TABLE>
On June 2, 1997, the Company acquired for approximately $5.5 million, the
operations of Commercial Capital Corporation, including substantially all the
assets and liabilities related to this equipment leasing business located near
Kansas City. The purchase price was comprised of 10% cash and a promissory note
payable for the remainder. This transaction has been accounted for as a business
combination utilizing the purchase method of accounting and accordingly, the
purchase price has been allocated to the assets acquired and liabilities assumed
based upon estimates of fair values. The estimated fair value of assets acquired
in the acquisition approximated $7.1 million, including intangible assets of
approximately $2.2 million, and liabilities assumed approximated $1.6 million.
Intangible assets recorded in purchase accounting are amortized over their
respective estimated lives, which range from 5 to 10 years. The Company's
operating results for 1996 and 1997, determined on a pro forma basis as if the
business combination had occurred as of the beginning of these years, would not
have differed materially from actual operating results.
NOTE 3. NET INVESTMENT IN LEASES
The Company's investments in leases have been pledged as collateral for
certain notes payable. The investment in leases which are in SPEs and pledged as
collateral for related debt are referred to herein as "Securitized". The net
investment in leases presented on a basis by type of borrowing for which the
investment is pledged as collateral is summarized as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
--------- ---------
1997 1998
--------- ---------
<S> <C> <C>
SECURITIZED:
Minimum lease payments receivable $ 70,811 $ 36,349
Estimated residual value of leased
equipment, net ................. 8,620 5,481
Unearned lease revenue ........... (11,619) (5,473)
--------- ---------
67,812 36,357
--------- ---------
NOT SECURITIZED:
Minimum lease payments receivable 78,428 131,859
Estimated residual value of leased
equipment, net ................. 14,651 16,370
Unearned lease revenue ........... (13,186) (20,021)
--------- ---------
79,893 128,208
--------- ---------
Allowance for credit losses ...... (1,235) (2,106)
Initial direct costs, net ........ 2,484 5,057
--------- ---------
Net Investment in Leases .... $ 148,954 $ 167,516
========= =========
</TABLE>
F-9
<PAGE> 33
Accumulated amortization of initial direct costs approximated $4.0 million
and $4.7 million at December 31, 1997 and 1998, respectively. As of December 31,
1998, future minimum annual lease payments receivable, excluding guaranteed
residual values, are as follows (in thousands):
<TABLE>
<S> <C>
1999....................... $ 70,452
2000....................... 48,007
2001....................... 25,735
2002....................... 10,678
2003....................... 10,737
thereafter................. 2,599
----------
$ 168,208
==========
</TABLE>
A summary of activity in the allowance for credit losses account is as
follows (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------
1996 1997 1998
------- ------- -------
<S> <C> <C> <C>
BALANCE, beginning of year .. $ 889 $ 1,323 $ 1,235
Provision for credit losses . 1,137 1,581 5,249
Charge-offs ................. (1,691) (405) (2,875)
Recoveries .................. 988 50 454
Allowance allocated to leases
sold .................... -- (1,314) (1,957)
------- ------- -------
BALANCE, end of year ........ $ 1,323 $ 1,235 $ 2,106
======= ======= =======
</TABLE>
NOTE 4. SECURITIZATION FACILITIES AND GAIN ON SALE OF LEASES
Under its' securitization facilities, the Company sells and transfers pools
of leases (including related guaranteed residuals) to wholly-owned,
bankruptcy-remote SPEs established for the purpose of purchasing the Company's
leases. These SPEs simultaneously sell and transfer the rights and title to the
leased equipment to unaffiliated SPEs which issue lease-backed certificates.
During 1998 and 1997, the transfers and sales of lease receivables and related
guaranteed residuals qualified as a sale for financial reporting purposes under
SFAS No. 125, which became effective in 1997. Accordingly, the related leases,
guaranteed residuals and debt are not reported on the Company's balance sheet.
Borrowings of $55.5 and $373.0 million were outstanding under these
securitization facilities at December 31, 1997 and 1998, respectively.
Leases and related guaranteed residuals sold under various securitization
facilities had a net investment of approximately $162.4 and $277.2 million prior
to their sale and produced a $12.1 and $36.4 million gain in 1997 and 1998,
respectively. The gain on sale represents the difference between the sales
proceeds received plus the present value of the estimated future excess cash
flows of the SPEs and the Company's net carrying value of the leases and related
guaranteed residuals sold. The portion of the sales proceeds which are held as
collateral by the SPEs are to be paid to the Company from the excess cash flows
of the SPEs and are recorded as securitization receivables on the Company's
balance sheet. The excess cash flows of the SPEs are the difference between the
cash collected from the lessee and the (i) sum of principal and interest paid to
investors in the asset-backed securities; (ii) contractual servicing fees; (iii)
defaults net of recoveries; (iv) trustee fees; and (v) other trust expenses. At
December 31, 1997 and 1998, net securitized receivables totaled $25.3 and $49.0
million, respectively. Future cash flows to ultimately be received and the
timing of the cash flows are dependent upon the actual default and delinquency
rates and recoveries experienced on the leases held by the SPEs. The Company
retains servicing rights for which it receives monthly servicing fee income.
Prepayments are not anticipated in computing the present value of expected
future cash flows as the lease contracts are non-cancellable and non-terminable
and the Company has not historically experienced significant prepayments. The
securitization receivables and gain on sale are reduced by an allowance, which
is estimated by the Company at the time of
F-10
<PAGE> 34
sale to be adequate to cover future credit losses. To the extent that events
occur which cause expected future cash flows to be materially below those
estimated, the Company would reduce the net carrying amount of the
securitization receivables and record a charge to earnings. Such charge would be
recorded in the period in which the event occurred or became known to
management.
NOTE 5. NOTES PAYABLE -- RECOURSE
Notes payable for which the lender has recourse against the Company are
secured by guarantees of certain shareholders of the Company and for lines of
credit borrowings, underlying pledged leases and dealer floor plans, and are
summarized as follows (in thousands):
<TABLE>
<CAPTION>
December 31,
------------------------
1997 1998
-------- --------
<S> <C> <C>
US DOLLAR OBLIGATIONS
Payable to bank drawn on a $75 million credit facility, interest payable
monthly at prime (7.75% at December 31, 1998), due November 1999 $ 69,212 $ 60,000
Payable to bank drawn on a $15 million credit line, interest payable
monthly at 1.5% above 30 day LIBOR (7.05% at December 31, 1998), due as
payments are made on underlying leases (last lease payment due
October 2001) 1,201 240
Payable to bank drawn on a $5 million credit line, interest payable
monthly at 2.0% above LIBOR, repaid July 1998 912 --
Payable to bank drawn on a $3 million credit line, interest payable
monthly at 1% over prime (8.75% at December 31, 1998), due August, 1999 -- 1,750
Payable to bank drawn on a $7.5 million credit line, interest payable
Monthly at 2.0% above 30 day LIBOR (7.56% at December 31, 1998), due upon
demand -- 6,645
Payable to financial institution, drawn on a $75 million credit line, interest
Payable monthly at 0.8% above 30 day LIBOR (6.36% at December 31, 1998),
due July, 1999 -- 1,523
Acquisition notes payable, interest at 8%, $1 million paid January, 1999,
with remaining principal and interest due quarterly to 2007, net of
imputed interest discount of $237,000 and $225,000 at December 31, 1997
and 1998, respectively 4,740 4,487
-------- --------
76,065 74,645
-------- --------
CANADIAN DOLLAR OBLIGATIONS
Payable to bank drawn on a Cdn$30 million credit line (temporarily increased
to Cdn$40 million at December 31, 1998) interest payable monthly at
0.75% above prime (7.66% at December 31, 1998), due September, 1999 -- 25,155
Loan payable to affiliate with interest imputed at 8%, due 2003 -- 3,958
-------- --------
-- 29,113
-------- --------
$ 76,065 $103,758
======== ========
</TABLE>
In addition to the above, the Company has a line of credit with a related
party, PLM Consulting Group, L.L.C. ("PLM"), of up to $5.5 million, depending on
the unused bank lines of credit that PLM has available from time to time.
F-11
<PAGE> 35
At December 31, 1998, the Company had approximately $89.7 million of unused
line-of-credit availability. The Company's lease receivables, except for leases
pledged as SPE collateral, are pledged as collateral for the line-of-credit
borrowings. Terms of certain credit agreements require, among other things, that
the Company maintain certain financial ratios and net worth, as defined. The
Company is in compliance with these restrictive covenants at December 31, 1998.
The borrowings provide for principal repayments that are generally payable as
lease receivable payments are received.
Information regarding recourse borrowings is summarized as follows (dollars in
thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------
1996 1997 1998
-------- -------- --------
<S> <C> <C> <C>
Average balance $ 14,847 $ 28,699 $ 72,520
Average interest rate 8.4% 8.4% 7.7%
Maximum month-end balance $ 32,272 $ 81,835 $101,660
</TABLE>
NOTE 6. NOTES PAYABLE -- NON-RECOURSE
During 1995, the Company entered into a $70 million revolving asset purchase
facility and issued debt as part of an asset-backed financing conduit program.
This facility was increased to $90 million during 1996. The facility was
purchased by an entity that issues commercial paper (the "Purchaser"). The
interest rate on the $53.3 million initial tranche of borrowings, which is due
in 2002, is approximately 6.6%. The interest rate on additional borrowings is
based upon the 30-day LIBOR . At December 31, 1997 and 1998, approximately $60.3
million ($1.2 million variable rate) and $29.6 million (none at variable rate),
respectively, of borrowings were outstanding on this facility and the average
interest rate approximated 6.6% and 6.6%, respectively. Borrowings are generally
payable as lease receivable payments are received.
Private placement fees, legal, printing and other expenses associated with
the issuance of lease-backed notes are being amortized over the life of the
notes to produce a constant periodic rate of interest. Amortization expense,
which is included in interest expense, approximated $215,000, $472,000 and
$741,000 for the years ended December 31, 1996, 1997 and 1998, respectively.
At December 31, 1998, future annual maturities of notes payable non-recourse are
estimated as follows (in thousands):
<TABLE>
<S> <C>
1999....................... $ 13,902
2000....................... 8,554
2001....................... 4,750
2002....................... 2,418
2003....................... --
thereafter................. --
----------
$ 29,624
==========
</TABLE>
F-12
<PAGE> 36
Information regarding non-recourse borrowings is summarized as follows (dollars
in thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------
1996 1997 1998
------- ------- -------
<S> <C> <C> <C>
Average balance $80,080 $77,173 $42,030
Average interest rate 6.5% 6.5% 6.9%
Maximum month-end balance $89,989 $89,496 $56,378
</TABLE>
NOTE 7. INCOME TAXES
In November 1997, simultaneous to the Company's initial public offering of
common stock (the "IPO") the Company completed a corporate restructuring which
involved the combination of several pass-through entities for tax purposes.
These pass-through entities were controlled by a common ownership group who
contributed their interests to TWFSC, owned 85% by the Company, in return for
common shares of the Company, some of which were registered in the Company's
IPO. The former controlling group of the contributed pass-through entities
maintained a controlling interest through majority ownership of the Company's
common stock. Upon change in ownership structure and consolidation of the former
pass-through entities, $7.5 million of deferred tax liabilities related to
approximately $22.2 million of tax benefits previously passed through the
combined entities to their owners. As these tax benefits are expected to reverse
in future periods, they will result in future tax liabilities. By agreement,
these future tax liabilities will be allocated directly to the former
pass-through entities' owners and will not become an obligation of the Company.
Accordingly, these deferred tax liabilities have been recorded by the Company
upon consolidation of TWFSC and are offset by a reduction of paid-in capital.
Upon the reversal of these temporary differences the deferred tax liabilities
will be reduced and paid-in capital will be restored.
The provision for income taxes consists of the following for the years
ended December 31,
<TABLE>
<CAPTION>
1997 1998
------ ------
<S> <C> <C>
Current Provision:
Federal $ -- $ --
State -- --
------ ------
Total Current Provision -- --
------ ------
Deferred Provision:
Federal 3,030 8,917
State 670 525
------ ------
Total Deferred Provision 3,700 9,442
====== ======
Provision for income taxes $3,700 $9,442
====== ======
</TABLE>
The provision for income taxes for the years ended December 31, differed from
amounts computed by applying the U.S. federal income tax rate to pretax income
as a result of the following:
<TABLE>
<CAPTION>
1997 1998
--------------------- ---------------------
Amount Rate Amount Rate
-------- ---- -------- ----
<S> <C> <C> <C> <C>
Tax at U.S. federal tax rate $ 3,795 34.0% $ 10,399 34.0%
Tax effect of pass-through entities (537) (4.8) (1,482) (4.8)
Effect of state taxes, net 442 4.0 525 1.7
======== ==== ======== ====
Provision for income taxes $ 3,700 33.2% $ 9,442 30.9%
======== ==== ======== ====
</TABLE>
F-13
<PAGE> 37
The temporary differences which give rise to net deferred tax assets and
liabilities are as follows at December 31, (in thousands):
<TABLE>
<CAPTION>
1997 1998
--------- ---------
<S> <C> <C>
Depreciation and amortization $ 86,760 $ 183,668
Lease revenue (98,655) (222,056)
Accruals and reserves 495 498
Tax carryforwards 3,200 20,248
--------- ---------
Net deferred income tax liabilities $ (8,200) $ (17,642)
========= =========
</TABLE>
For income tax purposes, the Company has net operating loss carryforwards at
December 31, 1998 of approximately $56 million, which begin to expire in 2012.
NOTE 8. CAPITAL STOCK, STOCK OPTIONS AND EMPLOYEE BENEFIT PLAN
The Company's authorized capital stock consists of 40,000,000 shares of
Common Stock, par value $0.01 per share, and 10,000,000 shares of Preferred
Stock, par value $0.01 per share (the "Preferred Stock").
Common Stock -- Holders of Common Stock are entitled to one vote per share
on all matters to be voted on by shareholders. There are no cumulative voting
rights. Holders of Common Stock are entitled to receive ratably dividends
declared from time to time by the Board of Directors out of funds legally
available therefore. In the event of liquidation, dissolution or winding up of
the Company, holders of Common Stock are entitled to share ratably in all assets
remaining after payment of the Company's liabilities. Holders of Common Stock
have no preemptive-rights and the Common Stock is neither redeemable nor
convertible into any other securities.
Preferred Stock -- The Company is authorized to issue "blank check"
Preferred Stock, which may be issued from time to time in one or more series
upon authorization by the Company's Board of Directors. The Board of Directors,
without further approval of the shareholders, is authorized to fix the dividend
rights and terms, conversion rights, voting rights, redemption rights and terms,
liquidation preferences, and any other rights, preferences, privileges and
restrictions applicable to each series of the Preferred Stock. The Company has
no current plans to issue shares of Preferred Stock.
In July 1996, the Company's predecessor granted fully vested, ten-year
option rights to certain key employees for the purchase of approximately 295,800
shares of the Company's common stock at an exercise price of $3.93, which was
determined by the Company's Board of Directors to be not less than the fair
value of such ownership interest at the date of grant. Inasmuch as all option
rights issued to employees have an exercise price not less than the fair market
value of the Company's underlying securities on the date of grant, in accordance
with accounting for such options utilizing the intrinsic value method there is
no related compensation expense recorded in the Company's financial statements.
Had compensation cost for stock-based compensation been determined based on the
fair value of the options at the grant dates consistent with the method
prescribed by SFAS No. 123, the Company's net income would not have differed
materially. The fair value of option grants is estimated on the date of grant
utilizing the Black-Scholes option pricing model with the following weighted
average assumptions for the July 1996 grant: expected life of options of 2
years, risk-free interest rate of approximately 6.1%, a 0% dividend yield and
expected volatility of 0%. The weighted average fair value at date of grant for
options granted during 1996 approximated $.44 per option.
In July 1997, certain members of Company senior management exercised in full
all outstanding and fully vested stock options in exchange for demand promissory
notes with interest at 8%, payable annually, having a combined total amount of
approximately $1.2 million. Pursuant to terms of the stock options, the Company
issued 295,800 shares at an exercise price of $3.93 per share. The exercising
option holders repaid these promissory notes plus accrued interest with proceeds
from the sale of some of those shares in the Company's initial public offering
in November 1997.
The Company has an incentive stock option plan (the "ISO Plan"), a
Director's Stock Grant Plan (the "Director's Plan") and an employee stock
purchase plan (the "ESP Plan") pursuant to which options to purchase shares of
the Company's common stock may be granted to employees. The ISO Plan provides
that one million shares of the
F-14
<PAGE> 38
Company's common stock may be awarded to employees at an option price not less
than the fair market value of the shares on the date of grant. The ISO Plan
options vest ratably over five years and generally expire ten years from the
date of grant. The Director's Plan provides a total of 10,000 shares to be
issued to directors of the Company, who have not been officers of the Company
during the preceding 12 months. Eligible directors are granted 50 shares of
common stock for attendance at each annual, quarterly or special meeting of the
Board of Directors. The ESP Plan provides that eligible employees may purchase
up to 100,000 shares of the Company's common stock by electing on a quarterly
basis to have 85% of the fair market value of the stock withheld from their
compensation. As of December 31, 1998, 11,737 and 800 shares had been issued
under the ESP Plan and Director's Plan, respectively.
The following table summarizes the activity under the ISO Plan.
<TABLE>
<CAPTION>
Weighted Average
Options Exercise Price Exercise Price
Outstanding per Share Per Share
----------- --------- ---------
<S> <C> <C> <C> <C>
Outstanding December 31, 1996 --
Granted 76,500 $ 16.00 -- $ 16.00 $ 16.00
-------
Outstanding December 31, 1997 76,500 $ 16.00 -- $ 16.00 $ 16.00
Granted 36,055 $ 9.50 -- $ 27.68 $ 13.51
Cancelled (5,195) $ 10.50 $ 27.68 $ 16.21
-------
Outstanding December 31, 1998 107,360 $ 9.50 -- $ 27.68 $ 15.19
=======
</TABLE>
The following table summarizes information about stock options outstanding
under the ISO Plan at December 31, 1998.
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
---------------------------------------------- -----------------------------
Weighted Weighted Weighted
Average Average Average
Remaining Exercise Exercise
Exercise Price Per Number Contractual Price Number Price
Share Outstanding Life Per Share Exercisable Per Share
- ---------------------- -------------- ------------- ----------- ------------- ------------
<S> <C> <C> <C> <C> <C> <C>
$ 9.50 - $10.50 29,100 9.9 $10.28 -- --
$16.00 - $16.00 71,500 8.9 $16.00 14,300 $16.00
$27.68 - $27.68 6,760 9.5 $27.68 -- --
------------ ------------
$ 9.50 - $27.68 107,360 9.2 $15.19 14,300 $16.00
============ ============
</TABLE>
If compensation cost for the Company's ISO Plan had been determined based on
fair value at the date of awards consistent with the fair value method described
in SFAS No. 123, the Company's net income, basic earnings per share and diluted
earnings per share would be reduced to pro forma amounts at December 31, 1998 of
$16.7 million, $1.99 and $1.99 and would have been unchanged at December 31,
1997. Significant assumptions used to calculate the fair value of the awards for
December 31, 1997 and 1998 respectively, are as follows: weighted average risk
free rate of return 5.9% and 5.6%; expected option life 120 months; expected
volatility of 24% and 24%; and, no expected dividends in either year.
The Company maintains a qualified retirement plan pursuant to Section 401(k)
of the Internal Revenue Code with a salary deferral feature and matching
component covering all eligible employees. Company contributions are
discretionary, as determined annually by the Board of Directors, and
approximated $67,000, $76,000 and $180,000 for the years ended December 31,
1996, 1997 and 1998, respectively.
F-15
<PAGE> 39
NOTE 9. RELATED PARTY TRANSACTIONS
The Company receives lease sourcing and management services from PLM, a
company owned by four members of T&W's senior management. Amounts paid to PLM
totaled $2.6 million and $3.4 for lease sourcing and origination and management
fees in 1997 and 1998, respectively. As described in Note 5, the Company has a
line of credit borrowing arrangement with PLM. At December 31, 1998, the Company
had advanced PLM $250,000.
The Company has lease receivables from companies in which its principal
shareholders hold an ownership. The Company's net investment in these lease
receivables approximates $1.4 million and $2.0 million at December 31, 1997 and
1998, respectively.
During 1998, the Company utilized the services of a marketing company owned
by a director for total fees of $154,000. From time to time throughout the year,
the Company leased an aircraft from a company which is owned by an officer and
director for total lease fees of $78,000.
The Company currently leases its corporate headquarters in Tacoma,
Washington from its chairman and principal shareholder. This operating lease
required monthly payments of $8,500 through December 31, 1997. The Company
entered into a new lease agreement in January 1999 for these same facilities
plus new attached facilities which are currently under construction. The new
lease agreement requires monthly payments of $28,868 beginning in January 1999
through 2003. Rent expense relating to these lease agreements totaled $60,000,
$102,000 and $102,000 for the years ended December 31, 1996, 1997 and 1998.
NOTE 10. CONTINGENCIES
The Company is from time to time involved in various claims and legal
proceedings of a nature considered normal to its business. Although the ultimate
disposition of legal proceedings cannot be predicted with certainty, it is the
present opinion of the Company's management that the outcome of current
litigation and other pending legal proceedings will not have a material adverse
effect on the Company's financial position, results of operations or liquidity.
At December 31, 1998, the Company was obligated under operating leases that
have initial or remaining non-cancellable lease terms in excess of one year to
make the following minimum lease payments, including payments on leases
disclosed in Note 9 above, as follows (in thousands):
<TABLE>
<S> <C>
1999.............. $ 817
2000.............. 697
2001.............. 559
2002.............. 460
2003 and thereafter 393
----------
$ 2,927
==========
</TABLE>
NOTE 11. QUARTERLY FINANCIAL DATA (UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended
(in thousands except per share amounts)
-------------------------------------------------------------
March 31, June 30, September 30, December 31,
----------- ---------- ------------- ----------
<S> <C> <C> <C> <C>
1998
Total Revenues $ 12,005 $ 14,644 $ 17,441 $ 21,176
Income Before Minority Interest and Taxes $ 7,146 $ 7,423 $ 8,357 $ 7,660
Net Income $ 3,887 $ 4,038 $ 4,547 $ 4,314
Basic and Diluted Earnings per Share $ .46 $ .48 $ .54 $ .52
1997
Total Revenues $ 5,270 $ 6,348 $ 8,462 $ 9,262
Income Before Minority Interest and Taxes $ 1,269 $ 1,940 $ 3,601 $ 4,352
Net Income $ 1,269 $ 1,940 $ 3,601 $ 67
Basic and Diluted Earnings per Share $ .22 $ .33 $ .58 $ .01
</TABLE>
F-16
<PAGE> 40
NOTE 12. SUBSEQUENT EVENTS
In March 1999, Onset entered into a Cdn$135 million (approximately US$90
million) securitization facility with a special purpose entity structured by
CIBC Wood Gundy and transferred Cdn$40 million (approximately US$30 million) in
lease originations to that entity.
In October 1997, the Company entered into a letter of intent to acquire
Accel Financial Group, a Canadian financial services company and joint venture
partner in Onset for Cdn$2.50 per share, approximately US$17.4 million. In March
1999, the Company removed the last contingency related to the acquisition and
anticipates that the acquisition will be completed by April 1999.
In February 1999, the Company entered into a $20 million residual financing
commitment agreement with a financial institution. The pending loan will be
primarily secured by the securitization receivable. Interest will be due monthly
at LIBOR plus 6.0% and the loan is due in March 2000.
F-17
<PAGE> 41
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit Description
<S> <C>
10. Employment and Noncompetition Agreement of
Steve R. Warren dated as of January 1, 1998
21. Subsidiaries of Registrant
24. Power of Attorney (included on signature page)
27. Financial Data Schedule
</TABLE>
<PAGE> 1
EXHIBIT 10
EMPLOYMENT AND NONCOMPETITION AGREEMENT
THIS AGREEMENT is entered into effective as of January 1, 1998 between
STEVE R. WARREN ("Employee") and T & W FINANCIAL SERVICES COMPANY L.L.C., a
Washington limited liability company ("T&W").
In consideration of the mutual convenants herein contained, the parties
agree as follows:
1. Employment
Subject to the terms and conditions of this Agreement, T&W agrees to
appoint and employ Employee as its Senior Vice-President of Operations.
Employee accepts employment effective as of the effective date of this
Agreement upon the following terms and conditions.
2. Term of Employment
Employment under this Agreement shall be for a period of five (5) years
commencing on the effective date of this Agreement and terminating on the
earlier to occur of the following:
(a) January 1, 2003;
(b) Employee's death;
(c) at the option of T&W upon thirty (30) days prior written notice to
Employee in the event of the inability of Employee to perform his
duties hereunder by reason of injury or illness incapacitating
Employee for a continuous period exceeding one hundred twenty (120)
days; or
(d) upon the termination of Employee's employment by T&W for cause in
accordance with Section 9.1.
(e) upon the termination of Employee's employment by Employee for cause
in accordance with Section 9.2.
At the expiration of the initial term of this Agreement, this Agreement
shall be automatically renewed for two (2) succeeding terms of three (3) years
and two (2) years each, respectively, unless either party shall, at least sixty
(60) days prior to the expiration of the initial term, or any extended term,
give written notice of that party's intention not to renew this Agreement.
2.2 T&W's Personnel Policies. T&W has implemented and adopted a Policy
and Procedure Manual which contains general policies regarding dress and
grooming, attendance and
Employment
Noncompetition Agreement Page 1
<PAGE> 2
work rules and regulations. Employee acknowledges that he has received a
copy of T&W's Policy and Procedure Manual and agrees to follow all rules therein
pertaining to Employees' employment at T&W. However, the Policy and Procedure
Manual may be modified by T&W at any time without notice and anything contained
in the manual, or any modification to the manual, shall not constitute a
modification of this agreement. In the event of a conflict between this
Agreement and the Policy and Procedure Manual, this Agreement controls.
3. DUTIES AND EXTENT OF SERVICES
3.1 Employee's principal duties on behalf of T&W at the effective date of
this Agreement shall be to perform such services on behalf of T&W as the Board
of Directors shall reasonably determine.
3.2 Employee will devote substantially his entire time and attention to the
business of T&W, and shall not, during such employment, engage in any other
business activity which interferes with Employee's duties and responsibilities
under this Agreement. Employee shall not directly or indirectly engage or
participate in any activities at any time during the term of this Agreement in
conflict with the best interest of T&W.
4. COMPENSATION
In addition to other benefits referred to herein, T&W shall pay Employee
for all services rendered by Employee under this Agreement an annual salary of
$200,000 per year. Employee's salary shall be paid in semi-monthly installments
on the 15th and last day of each month, commencing in January of 1998 and shall
be subject to normal payroll withholding. Unless changed by agreement of the
parties, the annual salary to Employee shall remain the same as provided
herein. Employee's annual salary shall be subject to annual review.
5. ADDITIONAL BENEFITS.
Corporation agrees at all times during Employee's employment to provide
and maintain for Employee, and Employee shall be entitled to participate in
all fringe benefits in effect which are available for salaried employees of the
Corporation or as introduced by Corporation during Employee's employment. To
the extent that it has the right to so with its other salaried employees,
Corporation reserves the right to modify, suspend or discontinue any or all of
such benefits at any time. In addition to the compensation provided in Section
4, Employee shall have the following additional benefits during the term herein:
5.1 QUARTERLY BONUS. Employee shall receive a Return on Equity (ROE)
incentive bonus on a targeted after tax ROE of twenty percent (20%). The bonus
will be 20 basis points (i.e., .20%) for each on percent Return on Equity above
twenty percent (20%). The operation of the ROE Program is illustrated on the
attached Exhibit "A." The annual bonus as provided herein
Page 2
<PAGE> 3
shall be paid in quarterly installments on May 30, August 30, November 30, and
February 30 of each year during the term of this agreement; provided, however,
any adjustment due to the annual audit that has an impact on the above
calculation which was the basis of the quarterly installment payment on the
bonus will be made in the first quarter of the following year.
5.2 EXPENSES. T&W will reimburse Employee for or pay for Employee all
reasonable and necessary business related expenses incurred by him in carrying
out his duties and responsibilities under this Agreement. The Employee shall
present to T&W from time to time an itemized account of such expenses in such
form as may be required by T&W.
5.3 VACATION. Beginning January 1, 1998, Employee shall be entitled to
two (2) weeks paid vacation during each calendar year throughout the term of
this Agreement. Such vacation time shall be non-cumulative; that is, any unused
vacation time shall not carryover to the following calendar year. (See Policy
and Procedures Manual for additional vacation after five (5) years).
6. NONCOMPETITION/NONDISCLOSURE.
As a condition of employment with T&W, and in consideration of continuing
employment, the compensation of Employee by T&W during the term of this
Agreement, the use and enjoyment by Employee of T&W's facilities and equipment,
the opportunity for Employee to serve T&W's customers, and the mutual covenants
contained herein, T&W and Employee recognize and agree as follows:
(a) CONFIDENTIAL INFORMATION. Employee recognizes and acknowledges
that during course of his employment hereunder, he will have access to certain
information not generally known to the public, relating to products, sales,
services or business of T&W, which may include without limitation data,
programs, customer or contact lists, contact with T&W's customers, acquisition
of information as to the nature and character of the business and the names and
requirements of the customers, prospects or projections, techniques, processes,
research, work in process, intellectual property, including but not limited to
any patents, trademarks. service marks, copyrights, ideas, creations, and
properties invented, created, written, developed, furnished, produced, or
disclosed by Employee, in the course of rendering services to T&W except for
items in the public domain or items obtained by Employee from third parties not
affiliated with T&W (collectively the "Confidential Information").
(b) POSSESSION. Employee agrees that upon request by T&W, and in any
event upon termination of employment, except for items in the public domain or
items obtained by Employee from third parties not affiliated with T&W, Employee
shall turn over to T&W all documents, notes, papers, data, files, customer
lists, office supplies or other materials or work product in Employee's
possession or under his control which were created pursuant to, or
<PAGE> 4
connected with or derived from Employee's services to T&W, or which are related
in any manner to T&W's business activities, whether or not such materials are at
the date of this Agreement in Employee's possession.
(c) Non-Disclosure of Confidential Information. Employee agrees that for
and during the entire time he is employed by T&W, any Confidential Information
shall be considered and kept as private and privileged records of T&W and will
not be divulged to any person or entity. Further, upon termination of this
Agreement for any reason, Employee agrees that he will continue to treat as
private and privileged any Confidential Information and will not release any
such Confidential Information to any person or entity, either by statement,
deposition, or as a witness, except upon the issuance of a proper subpoena from
a court of competent jurisdiction, and T&W shall be entitled to an injunction by
any competent court to enjoin and restrain the unauthorized disclosure of such
information. Employee hereby agrees to notify T&W of any request for such
information, whether by subpoena or otherwise.
(d) Covenant Not to Divulge Confidential Information. Employee further
recognizes and acknowledges that because the goodwill of T&W's business is a
valuable asset, and because the solicitation of T&W's customers by Employee
after Employee has ceased to be employed by or associated with T&W will cause
irreparable harm to the goodwill of T&W, T&W would not offer employment to
Employee unless Employee assures that such solicitation would not occur.
Employee therefore agrees and covenants that during Employee's employment by
T&W and for a period of thirty-six (36) months after termination of such
employment for any reason, Employee shall not disclose any Confidential
Information about the business of T&W as presently conducted, or as it may
evolve in the ordinary course of business between the date of this Agreement
and the expiration of this covenant.
(e) Non-Competition Agreement. Employee hereby agrees that, during the
term of employment with T&W and at all times thereafter, Employee shall not,
directly or indirectly, provide any competitor or potential competitor of T&W
doing or planning to do business in the same business as T&W with any
information relating in any way to T&W's Confidential Information. During the
term of this Agreement, Employee agrees that he shall not, whether as an
employee, agent, proprietor, partner, officer, director, member, shareholder,
independent contractor, or in any other capacity whatsoever, and in any fashion
in which he is beneficially interested, render any services or engage in any
activities in the United States and Canada in the business of equipment leasing
and related financial services that are in direct competition with T&W, or any
of its affiliated companies. For a period of thirty six (36) months after
Employee leaves T&W's employment, Employee agrees that he shall not, whether as
an employee, agent, proprietor, partner, officer, director, member, shareholder,
independent contractor, or in any other capacity whatsoever, and in any fashion
in which he is beneficially interested, engage in the business of equipment
leasing and related financial services that are in direct competition with T&W,
or any of its affiliated companies. The period of time during which Employee is
prohibited from engaging in certain activities pursuant to the terms of this
Employment and
Noncompetition Agreement Page 4
<PAGE> 5
section shall be extended by the length of time during which Employee is in
breach of the terms of this section. However, the noncompetition provisions of
this agreement shall not be applicable if this agreement is terminated by
Employee for cause in accordance with section 9.2 or if T&W elects not to renew
the agreement prior to any automatic renewal period as provided in section 2.
(f) Because of the difficulty in determining the magnitude of damages or
potential damages to T&W in the event of solicitation of an existing customer of
T&W, or competition in violation of this Agreement, Employee will pay to T&W
liquidated damages equal to the net income Employee derives in noncompliance
with this noncompetition provision. Such liquidated damages shall be due
immediately upon the rendering of the prohibited activity or services and shall
bear interest at the rate of twelve percent (12%) per annum thereafter.
7. REASONABLENESS OF RESTRICTIONS.
7.1 T&W and Employee agree and stipulate that the agreements and covenants
contained in this Agreement, including the covenant not to divulge Confidential
Information, is fair and reasonable for the protection of T&W's Confidential
Information, goodwill and other protectable interest, in light of all the facts
and circumstances of the relationship between Employee and T&W. In the event a
court of competent jurisdiction should decline to enforce any provision of this
Agreement, such provision shall be deemed to be modified or eliminated as
required by the court's order, but all remaining provisions shall remain in full
force and effect.
7.2 Employee further acknowledges, agrees and stipulates that, in the
event of the termination of employment with T&W, Employee's experience and
capabilities are such that Employee can obtain employment in business activities
which are of a different and non-competing nature with his activities as an
employee of T&W, and that the enforcement of a remedy hereunder by way of
injunction shall not prevent Employee from earning a reasonable livelihood.
8. INJUNCTIVE RELIEF.
Employee acknowledges that disclosure of any Confidential Information or
breach or threatened breach of any of the covenants or other agreements
contained herein would give rise to irreparable injury to T&W or customers of
T&W, which injury would be inadequately compensable in monetary damages.
Accordingly, T&W may seek and obtain injunctive relief from the breach or
threatened breach of any provision, requirement, or covenant of this Agreement,
in addition to and not in limitation of any other legal remedies which may be
available. Employee further acknowledges, agrees and stipulates that the
covenants and agreements contained herein are necessary for the protection of
T&W's legitimate business interests and are reasonable in scope and content. Any
breach by Employee of this Agreement (specifically including the covenant not to
compete) may cause irreparable injury to T&W.
Page 5
<PAGE> 6
Upon breach or threatened breach, T&W may obtain temporary restraining orders,
injunctions, or other equitable relief from a court in addition to, and not in
lieu of, damages and any other available remedy.
9. TERMINATION.
9.1 Termination by T&W for Cause. Without limiting in any way other
provisions of this Agreement, Employee may be terminated for cause upon ten
(10) days' prior written notice. In such event, Employee shall be entitled to
compensation only to the date of such termination. For purposes of this
Agreement, cause is defined as:
(a) Conviction of Employee for any crime involving moral turpitude,
or the charging of Employee with any felony involving moral turpitude which
results in a suspended sentence or deferred prosecution;
(b) Fraud, embezzlement or conversion of T&W's property;
(c) Employee's sexual harassment of T&W's employees;
(d) Engaging in competition with T&W during the period of Employee's
employment with T&W;
(e) Material breach of this Agreement by Employee; or
(f) Divulging T&W's trade secrets or other breach of confidentiality.
In the event T&W terminates Employee's employment for cause as provided
for in this Section 9, and Employee disagrees with the T&W's determination that
just cause for termination exists, then the Employee and T&W agree to seek a
fair and prompt negotiated resolution. However, if this is not successful, the
dispute shall be resolved by binding arbitration in accordance with arbitration
procedures agreed to by Employee and T&W or, if they are unable to agree, by a
court of competent jurisdiction.
9.2 Termination by Employee With Cause. In the event the T&W defaults in
any of its obligations to Employee under this Employment and Noncompetition
Agreement, and T&W fails to cure such default within ten (10) days after
receiving written notice thereof, Employee may terminate his employment and
seek any relief which may be available to Employee at law or in equity,
including damages and/or injunctive relief as a result of such breach with it
being specifically understood and agreed the Employee shall be relieved from
the non-competition provisions hereof.
Employment and
Noncompetition Agreement Page 6
<PAGE> 7
9.3 Termination Without Cause. If T&W discharges Employee for any
reason other than as set forth in 9.1, T&W shall pay Employee a sum equal to
Employee's salary and bonus for the calendar year in which such employment
terminates based on results for the entire year, but prorated for the partial
year prior to the date of termination.
10. Indemnification. T&W shall indemnify Employee, hold Employee
harmless, and defend Employee to the fullest extent permitted by applicable law
from and against all claims, threats, suits (whether instituted by T&W or any
other person or entity), damages, penalties, liabilities, costs and expenses
including, without limitation, legal fees, costs and disbursements (all
collectively referred to as "liabilities") incurred, suffered, or expended by or
threatened against Employee with respect to any action or inaction in the course
or performance of Employee's duties under this Agreement except for liabilities
arising out of the gross negligence or willful misconduct of Employee. This
indemnification shall continue in effect after the expiration or termination of
this Agreement and shall not be deemed exclusive of any other indemnification
right to which Employee may be entitled under applicable law, agreement or the
vote of T&W's Board of Directors.
11. Miscellaneous.
11.1 Assignment. This Agreement shall not be assignable by Employee.
11.2 Amendment and/or Modification. Neither this Agreement nor any
term or provision hereof, may be changed, waived, discharged, amended, modified
or terminated orally, or in any manner other than by an instrument in writing
signed by the parties hereto.
11.3 Binding Effect. Subject to the restrictions on assignment
described above, this Agreement shall be binding upon and inure to the benefit
of the respective parties, their successors and assigns and Employee's heirs and
personal representative.
11.4 Section Headings. The section headings are for convenience only
and in no way define, limit, extend or interpret the scope of this Agreement or
of any particular paragraph hereof.
11.5 Interpretation and Fair Construction of Contract. This Agreement
has been reviewed and approved by each of the parties. Both T&W and Employee
have received independent legal advice in connection with the negotiation,
execution and performance of their respective obligations under this Agreement.
In the event a court of competent jurisdiction determines that any provision of
this Agreement is ambiguous, the language in all parts of this Agreement shall
be construed as a whole according to its fair meaning and not strictly construed
for nor against either party.
<PAGE> 8
11.6 Validity. If any term of this Agreement shall be determined by a
court of competent jurisdiction to be invalid, illegal, or unenforceable, in
whole or in part, the validity of any of the other terms of this Agreement
shall not, in any way, be affected thereby.
11.7 Variations in Pronouns. All pronouns include the masculine, feminine,
neuter, singular and plural as the identification of persons, places or
entities and the context may require.
11.8 Waiver or Breach. Either party's failure to insist upon strict
performance of any of the covenants and agreements herein contained, or to
exercise any option or right herein conferred, in any one or more instances,
shall not be construed to be a waiver or relinquishment of any such option or
right, or of any other covenants or agreements, but the same shall be and
remain in full force and effect.
11.9 Notices. To be effective, any notice hereunder shall be in writing,
delivered in person or mailed by certified or registered mail, postage prepaid,
to the appropriate party or parties at such other address as the parties may
hereinafter designate from time to time.
11.10 Entire Agreement. This Agreement contains the entire agreement and
understanding of the parties with respect to the entire subject matter hereof,
and there are no representations, inducements, promises or agreements, oral or
otherwise, not embodied herein. Any and all prior discussions, negotiations,
commitments and understandings relating to the subject matter hereof are merged
herein. There are no conditions precedent to the effectiveness of this
Agreement other than as stated herein, and there are no related collateral
agreement existing between the parties that are not referenced herein.
11.11 Governing Law. This Agreement shall be governed by, construed and
enforced in accordance with the laws of the State of Washington, regardless of
the fact that Employee is now a resident of a different state. Venue of any
dispute involving the interpretation or enforcement of this Agreement shall be
in Pierce County, Washington.
EMPLOYEE: T & W:
/s/ STEVE R. WARREN T & W Financial Services Company L.L.C.
- ------------------------
Steve R. Warren By T & W Financial Corporation, its manager,
/s/ THOMAS W. PRICE
-------------------------------
Thomas W. Price, President
Employment and
Noncompetition Agreement Page 8
<PAGE> 1
EXHIBIT 21
LIST OF SUBSIDIARIES OF THE REGISTRANT
The following entities are owned directly, or indirectly, by T&W
Financial Corporation:
Polyjohn Financial, L.L.C., a Washington limited liability company
Member Services Company, L.L.C., a Washington limited liability company
T&W/Commercial Financial Services L.L.C., a Delaware limited liability company
First Financial Leasing Company, L.L.C., a Washington limited liability company
Dodd Pacific Capital Resources, L.L.C., a Washington limited liability company
Prime One Capital Company, L.L.C., a Washington limited liability company
Onset Capital Corporation, an Alberta corporation
806285 Alberta Ltd., an Alberta corporation
T & W Funding Company I, L.L.C., a Delaware limited liability company*
T & W Funding Company II, L.L.C., a Delaware limited liability company*
T & W Funding Company IV, L.L.C., a Delaware limited liability company*
T & W Funding Company V, L.L.C., a Delaware limited liability company*
T & W Funding Company VII, L.L.C., a Delaware limited liability company*
T & W Funding Company VIII, L.L.C., a Delaware limited liability company*
T & W Funding Company IX, L.L.C., a Delaware limited liability company*
T & W Funding Company X, L.L.C., a Delaware limited liability company*
T & W Funding Company XI, L.L.C., a Delaware limited liability company*
T & W Funding Company XII, L.L.C., a Delaware limited liability company*
- -------------------------------------------------------------------------------
*Special purpose entities formed in connection with lease securitizations.
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 11,394
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 251,036
<CURRENT-LIABILITIES> 48,707
<BONDS> 133,382
0
0
<COMMON> 28,306
<OTHER-SE> 29,370
<TOTAL-LIABILITY-AND-EQUITY> 251,036
<SALES> 0
<TOTAL-REVENUES> 65,266
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 19,679
<LOSS-PROVISION> 5,249
<INTEREST-EXPENSE> 9,752
<INCOME-PRETAX> 26,228
<INCOME-TAX> 9,442
<INCOME-CONTINUING> 16,786
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 16,786
<EPS-PRIMARY> 2.00
<EPS-DILUTED> 2.00
</TABLE>
